Datasets:

ccdv

/

govreport-summarization

like 29

This report provides an overview of the process by which the Department of Defense (DOD) acquires weapon systems and briefly discusses recent major efforts by Congress and DOD to improve the performance of the acquisition system. For a discussion on the process for dealing with significant cost growth in weapon systems, see CRS Report R41293, The Nunn-McCurdy Act: Background, Analysis, and Issues for Congress , by [author name scrubbed]. The Department of Defense acquires goods and services from contractors, federal arsenals, and shipyards to support military operations. Acq uisition is a broad term that applies to more than just the purchase of an item or service; the acquisition process encompasses the design, engineering, construction, testing, deployment, sustainment, and disposal of weapons or related items purchased from a contractor. From a policy perspective, federal regulations and federal law generally use the terms acquisition and procurement interchangeably. The term procurement, when used within the context of acquisitions, is different from the budget definition of procurement that generally references the Procurement budget appropriations account—a funding stream that is distinct from Research and Development, Operations and Maintenance, and other budget categories. DOD's acquisition process is highly complex and does not always produce systems that meet estimated cost or performance expectations. Congress has been concerned with the structure and performance of the defense acquisition system for many years. For example, the House Armed Services Committee's report of the FY2007 defense authorization bill stated Simply put, the Department of Defense (DOD) acquisition process is broken. The ability of the Department to conduct the large scale acquisitions required to ensure our future national security is a concern of the committee. The rising costs and lengthening schedules of major defense acquisition programs lead to more expensive platforms fielded in fewer numbers. The committee's concerns extend to all three key components of the Acquisition process including requirements generation, acquisition and contracting, and financial management. Over the decades, congressional oversight has focused on many aspects of the acquisition process, from "micro-level" practices, such as characteristics of a particular contract, to "macro-level" practices, such as management and execution of the Joint Strike Fighter and other Major Defense Acquisition Programs (MDAPs). Congress has held oversight hearings and enacted legislation in an effort to improve the defense acquisition structure and its practices. Title 10 of the United States Code governs the organization, structure, and operation of the Armed Forces of the United States. Several sections within the title charge the secretaries of the military departments (Army, Navy, and Air Force) with responsibility to "equip" the armed forces. General procurement provisions, many of which apply to MDAPs and MAISs (Major Automated Information Systems), are spread throughout the title, including assignment of responsibilities, establishment of acquisition procedures, and requirements for reporting to Congress. The annual National Defense Authorization Acts are one of the principal mechanisms by which Congress modifies the defense acquisition structure, also set forth in Title 10. DOD procurement activities are generally governed by three sets of federal government regulations: The first set of regulations applies to the entire federal government (including DOD unless stated otherwise) and is found in the Federal Acquisition Regulation (FAR). The second set of regulations applies only to DOD and is found in the Defense Federal Acquisition Regulation Supplement. The third set of regulations applies only to individual DOD components and is found in component-unique FAR Supplements. Procurement actions in DOD must adhere to the various regulations, and program managers must take the regulations into account during the planning and execution of their programs. Every weapon system in the U.S. arsenal is intended to satisfy a specific military need (often referred to as a requirement ) , must be paid for by the federal budget , and is designed and built within an acquisition system . From concept to deployment, a weapon system must go through the three-step process of identifying the required weapon system, establishing a budget, and acquiring the system. These three steps are organized as follows: 1. The Joint Capabilities Integration and Development System—for identifying requirements. 2. The Planning, Programming, Budgeting, and Execution System—for allocating resources and budgeting. 3. The Defense Acquisition System—for developing and/or buying the item. These three steps (each of which is a system onto itself), taken together, are often referred to as "Big 'A'" acquisition, in contrast to the Defense Acquisition System, which is referred to as "little 'a'" acquisition (see Figure 1 ). The Joint Capabilities Integration and Development System is the process by which DOD identifies, assesses, and prioritizes what capabilities the military requires to fulfill its mission. As such, JCIDS is often referred to as the requirements generation process. Requirements identified through JCIDS can be addressed in a number of ways, including changes in doctrine, training, and organization, or the acquisition of a new item, such as a weapon system. The JCIDS process was created in 2003 in an effort to fundamentally change the way DOD developed requirements. Prior to 2003, DOD used a threat-based approach to identifying warfighter requirements. With the advent of JCIDS, DOD shifted to a capabilities-based approach to identifying warfighter needs. In other words, instead of developing, producing, and fielding systems based on specific perceived threats to the nation, DOD adopted a policy of identifying what capabilities it needs to meet the strategic direction and priorities set forth in high-level strategy and guidance documents such as the National Military Strategy, National Defense Strategy, and Quadrennial Defense Review. Many analysts suggest that under the threat-based approach, each military service identified a threat, and in response to the threat developed its own independent weapons. The shift to a capabilities-based approach served to promote a more collaborative method of identifying capability gaps across services instead of each service developing its own response. As a result, weapon systems are expected to be developed jointly among services. JCIDS is governed by the Chairman of the Joint Chiefs of Staff Instruction (CJCSI) 3170.01 H and utilizes the procedures described in the Manual f or t he Operation o f t he Joint Capabilities Integration and Development System . According to DOD policy, the first step in the process is to conduct a Capabilities Based Assessment (CBA), which analyzes the military's capability needs and gaps, and recommends both materiel and non-materiel ways to address the gaps. If, as a result of a CBA or a comparable study a materiel solution (such as a weapon system) is considered, an Initial Capabilities Document (ICD) is prepared. The ICD justifies the need for a materiel solution to satisfy the identified capability gap. The Joint Requirements Oversight Council (JROC), the organization responsible for identifying and prioritizing warfighter requirements, must approve the ICD. To approve the ICD, the JROC reviews and validates the capabilities required to perform the defined mission, the gap in capabilities required to perform the mission, and how the identified capability gap will be addressed (in whole or in part). The JROC may approve an ICD and recommend a non-materiel solution to meeting the military need, such as a change to strategy or tactics. If the JROC approves a materiel solution, the program enters the Defense Acquisition System ("little 'a'"). The documentation developed during the JCIDS process serves as the basis for decisions throughout the acquisition process. Despite its important role, the JROC does not have binding authority; it serves in an advisory role to the Chairman of the Joint Chiefs of Staff. The Chairman is responsible for advising the Secretary of Defense on "the priorities of the requirements identified by the commanders of the unified and specified combatant commands" and on the "extent to which the program recommendations and budget proposals of the military departments and other components of the Department of Defense" conform to the priorities established in strategic plans. Ultimately, the Secretary of Defense, as head of DOD, has authority, direction, and control over requirements and acquisitions (subject to the President and Congress). The Planning, Programming, Budgeting, and Execution system develops DOD's proposed budget for all acquisitions, including MDAPs. The PPBE is intended to provide DOD with the best mix of forces, equipment, manpower, and support within fiscal constraints. The PPBE is an annual process consisting of four stages: planning, programming, budgeting, and execution. Planning: During this stage, a national defense strategy is defined and a plan is developed for executing the strategy. The plan sets forth priorities for developing programs (including military force modernization, readiness, and business processes and infrastructure support) and is published in the Joint Programming Guidance. This document helps guide the DOD components' efforts to propose or modify acquisition programs. Programming: During this stage, proposed programs are fleshed out and a Program Objective Memorandum (a document that outlines the anticipated missions and objectives of the proposed weapon system and anticipated budget requirements) is submitted. These memoranda are reviewed and, as deemed appropriate, integrated into an overall defense program. Budgeting: Budgeting occurs concurrently with the programming stage. Proposed budgets are reviewed in a different manner than proposed programs. Upon completion of a program decision or as a result of a budget review, Program Budget Decisions are issued. Execution: During execution, programs are evaluated and measured against preestablished performance metrics, including rates of funding obligations and expenditures. The Defense Acquisition System is the management process by which DOD develops and buys weapons and other systems. It is governed by Directive 5000.01, The Defense Acquisition System , and Instruction 5000.02, Operation of the Defense Acquisition System , and utilizes the procedures described in the Defense Acquisition Guidebook. The Defense Acquisition System is not intended to be a rigid, one-size-fits-all process. Acquiring information technology systems is different than acquiring missiles, which is different than acquiring a nuclear attack submarine. As Instruction 5000.02 states: the structure of a DOD acquisition program and the procedures used should be tailored as much as possible to the characteristics of the product being acquired, and to the totality of circumstances associated with the program including operational urgency and risk factors. Despite these differences, and the variations of the process contained in the 5000.02 instruction, the general framework of the acquisition system remains the same. This section of the report outlines that framework (based on the hardware-intensive model), pointing out selected instances where deviations may occur. Generally, the defense acquisition system uses "milestones" to oversee and manage acquisition programs (see Figure 2 ). The milestones serve as gates that must be passed through before the program can proceed to the next phase of the acquisition process. To pass a milestone, a program must meet specific statutory and regulatory requirements and be deemed ready to proceed to the next phase of the acquisition process. There are three milestones: Milestone A—initiates technology maturation and risk reduction. Milestone B—initiates engineering and manufacturing development. Milestone C—initiates production and deployment. Each acquisition program, such as the F-35, Littoral Combat Ship, or Joint Light Tactical Vehicle, is managed by an acquisition program office. The program office is headed by a Program Manager. Program managers can be military officers or federal civil servants. They are supported by a staff that can include engineers, logisticians, contracting officers and specialists, budget and financial managers, and test and evaluation personnel. Program managers usually report to a Program Executive Officer. Program executive officers can have many program managers who report to them. Like program managers, program executive officers can be military officers or federal civil servants. They, in turn, report to a Component Acquisition Executive. Most component acquisition executives report to the Under Secretary of Defense for Acquisition, Technology, and Logistics, who also serves as the Defense Acquisition Executive. The official responsible for deciding whether a program meets the milestone criteria and proceeds to the next phase of the acquisition process is referred to as the Milestone Decision Authority (MDA). Depending on the program, the MDA can be the Under Secretary of Defense (Acquisition, Technology, & Logistics), the head of the relevant DOD component, or the component acquisition executive. For a program to enter the Defense Acquisition System, it must pass a Materiel Development Decision review, which determines whether a new weapon system is required to fill the identified gap (or whether a non-materiel solution, such as a change in training or strategy, is sufficient). The Material Development Decision is based on the requirements validated by the JROC and set forth in the Initial Capabilities Document (or equivalent document). To pass the Material Development Decision, the MDA must determine that a material solution is necessary, approve the plan for developing an Analysis of Alternatives (described in the next section), designate the DOD component that will lead the program, and identify at which phase of the acquisition system the program should begin. MDA decisions made at the Material Development Decision review are documented in an Acquisition Decision Memorandum. The Materiel Solution Analysis Phase is where competing systems are analyzed to determine which one is best suited to meet the validated requirements. This phase occurs prior to any of the milestones (see Figure 3 ). During this phase, the Analysis of Alternatives is conducted. The Analysis of Alternatives explores the competing methods of meeting the identified requirement. This analysis should include the comparative effectiveness, cost, schedule, concepts of operations, overall risks, and critical technologies associated with each proposed alternative, including the sensitivity of each alternative to possible changes in key assumptions or variables. The Analysis of Alternatives also addresses total life-cycle costs. During this phase, a program manager is selected and a program office is established. The materiel solution phase ends when the Analysis of Alternatives is completed, a specific solution is chosen to continue through the acquisition process, and the program meets the criteria for the milestone where the program will enter the acquisition system. A program must pass through Milestone A to proceed to the Technology Maturation and Risk Reduction phase (see Figure 4 ). To pass Milestone A, the Milestone Decision Authority must approve the proposed materiel solution (based on the Analysis of Alternatives) and the Acquisition Strategy, the lead component must submit a cost estimate for the proposed solution (including life-cycle costs), the program must have full funding for the length of the Future Years Defense Program, and if technology maturation is to be contracted out, the program must have a Request for Proposal (RFP) that is approved by the MDA and ready for release. MDA decisions made at this milestone are documented in an Acquisition Decision Memorandum. The Technology Maturation and Risk Reduction phase is when nascent technologies and the system design are matured to the point that a decision can be made with reasonable confidence that a system can be developed to meet military requirements and fit within affordability caps. To meet these twin objectives, requirements are refined and cost caps are finalized. During this phase, a Capability Development Document and Reliability, Availability, and Maintainability strategy must be developed and approved. These documents will inform the Preliminary Design Review, which is held during this phase to ensure that the preliminary design and basic system architecture are complete, and that there is technical confidence the capability need can be satisfied within cost and schedule goals. This phase is also where competitive prototyping occurs, which is when industry teams develop competing prototypes of a required system. The Development RFP Release Decision Point is held during this phase. This is one of the critical decision points in the acquisition process because this is when the acquisition strategy is initiated and industry is asked to bid for the development contract. As the DODI 5000.02 emphasizes, [P]rior to the release of the final RFP(s), there needs to be confidence that the program requirements to be bid against are firm and clearly stated; the risk of committing to development and presumably production has been or will be adequately reduced prior to contract award and/or option exercise; the program structure, content, schedule, and funding are executable; and the business approach and incentives are structured to both provide maximum value to the government and treat industry fairly and reasonably. Most programs begin at Milestone B, the point at which a program becomes a program of record. A program must pass through Milestone B to proceed to the Engineering and Manufacturing Development Phase (see Figure 5 ). To pass Milestone B, a program must have passed the Development RFP Release Decision Point; requirements must be validated and approved; the program must have full funding for the length of the Future Years Defense Program; an independent cost estimate must be submitted to the MDA; all sources of risk (including cost, technology development, integration, and sustainment) must be sufficiently mitigated to justify fully committing to the development of the program; and the Milestone Decision Authority must approve an updated Acquisition Strategy. Upon passing Milestone B, the MDA approves the Acquisition Program Baseline (APB), which details the performance, schedule, and cost goals of the program. The APB is signed by the MDA and the program manager, and serves as the basis against which execution of the program will be measured. MDA decisions made at this milestone are documented in an Acquisition Decision Memorandum. The Engineering and Manufacturing Development Phase is where a system is designed and developed, all technologies and capabilities are fully integrated into a single system (full system integration), and preparations are made for manufacturing (including developing manufacturing processes, designing for mass production, and managing cost). During the detail design effort, the office of Developmental Test and Evaluation tests the maturity and adequacy of the design and provides the results of its analyses to the Program Manager. During system integration, the various subsystems are integrated into one system and a development model or prototype is produced. For example, on an aircraft carrier, system integration would be when the aircraft launching system, radar, nuclear reactor, and other subsystems are all integrated onto the ship. Operational testing and evaluation also takes place during this phase, both at the subsystem and integrated-system level. Operational testing and evaluation is intended to determine whether a system is operationally effective, suitable, and survivable. A program must pass through Milestone C to proceed to the Production and Deployment phase (see Figure 6 ). To pass Milestone C, the production design must be stable, the system must pass developmental testing and operational assessment, software must meet the predetermined maturity, the system must demonstrate that it is interoperable with other relevant systems and can be supported operationally, estimated costs must be within the cost caps, the program must have full funding for the length of the Future Years Defense Program, the Capability Production Document must be approved, and the Milestone Decision Authority must approve the updated Acquisition Strategy. MDA decisions made at this milestone are documented in an Acquisition Decision Memorandum. During the Production and Deployment phase, the MDA authorizes the beginning of low-rate initial production, which is intended to both prepare manufacturing and quality control processes for a higher rate of production and provide test models for operational test and evaluation. A program can enter full-rate production when it has completed sufficient operational testing and evaluation, demonstrated adequate control over manufacturing processes, and received approval of the MDA to proceed with production. When enough systems are delivered and other predefined criteria are met, an Initial Operating Capability can be attained, allowing for some degree of operations. Full Operational Capability is achieved when the system is ready to operate as required. Operations and Support is the final phase of a weapon system's life (see Figure 7 ). In this phase, the system is fully deployed, operated, supported, and ultimately retired. Up to 70% of the total life cycle costs of a system can occur in the operations and support phase. Programs are divided into acquisition categories (ACATs) based primarily on program cost. The level of management oversight of an acquisition program increases as the cost of the program increases. The most significant DOD and congressional oversight activities apply to MDAPs, which are categorized as ACAT I programs. Table 1 illustrates the thresholds and decision authorities for all ACATs. Concerns over defense acquisitions generally center around significant cost overruns, schedule delays, and an inability to provide troops in the field with the equipment they need when they need it. Many analysts believe that cost overruns and schedule delays have a debilitating effect on the nation's military and threaten America's technological advantage and military capabilities. For more than 50 years, both Congress and DOD have initiated numerous attempts to improve defense acquisitions. Despite the numerous initiatives, studies and reports (many of which echo the same themes and highlight the same weaknesses in the acquisition process), congressional hearings, and legislative fixes, DOD acquisition reform efforts have failed to rein in cost and schedule growth. In recent years, DOD and Congress have taken another look at defense acquisitions and embarked on an effort to improve the process. Some analysts believe that the efforts currently underway are the most comprehensive in more than 20 years. In recent years, DOD has embarked on a number of initiatives aimed at improving the process for buying weapon systems. For example: On January 10, 2012, DOD issued updated versions of the instructions Charter of the Joint Requirements Oversight Council and Joint Capabilities Integration and Development System. On January 19, 2012, DOD issued an updated version of the Manual for the Operation of the Joint Capabilities Integration and Development System . On November 26, 2013, DOD issued an updated "interim" instruction Operation of the Defense Acquisition System (5000.02). DOD has also undertaken a comprehensive effort to improve the overall operation of the defense acquisition system. On September 14, 2010, then-Under Secretary of Defense for Acquisition, Technology and Logistics Ashton Carter issued the memorandum Better Buying Power: Guidance for Obtaining Greater Efficiency and Productivity in Defense Spending . The memorandum outlined 23 principal actions to improve efficiency, including making affordability a requirement, increasing competition, and decreasing the time it takes to acquire a system. In November 2012, Secretary Carter's successor, Frank Kendall, launched the Better Buying Power 2.0 initiative, an update to the original Better Buying Power effort, aimed at "implementing practices and policies designed to improve the productivity of the Department of Defense and of the industrial base that provides the products and services" to the warfighters. Better Buying Power 2.0 contained 34 separate initiatives, including reducing the frequency of senior-level reviews and improving requirements and market research. According to officials, Better Buying Power 3.0 is in development. These and other related DOD initiatives generally focus on rewriting the rules and regulations to create a more efficient and effective acquisition process, improving the culture and professionalism of the acquisition workforce, and improving the overall performance of the acquisition system. Although these efforts are not aimed solely at weapon system acquisition, if such efforts succeed in improving acquisitions writ large , weapon system acquisitions should similarly improve. In recent years, the primary mechanism through which Congress has exercised its legislative powers to reform the defense acquisition structure has been the annual National Defense Authorization Act (NDAA). Sections of the acts have prescribed requirements applicable to both specific acquisition programs and acquisition structure overall, the latter of which has typically been addressed in Section VIII, usually titled "Acquisition Policy, Acquisition Management, and Related Matters." Generally, the requirements prescribed in this section have focused on specific issues rather than a comprehensive overhaul of the entire defense acquisition structure. In the National Defense Authorization Acts for FY2008-2012, the titles dealing with acquisitions included more than 240 sections. The most recent legislation that had a significant impact on weapon system acquisitions was enacted in May 2009, when Congress passed and the President signed into law the Weapon Systems Acquisition Reform Act of 2009 ( S. 454 / P.L. 111-23 ). Key provisions in the act included the appointment of a Director of Cost Assessment and Program Evaluation within DOD who communicates directly with the Secretary of Defense and Deputy Secretary of Defense and who issues policies and establishes guidance on cost estimating and developing confidence levels for such cost estimates; the appointment of a Director of Developmental Test and Evaluation who serves as principal advisor to the Secretary of Defense on developmental test and evaluation and develops polices and guidance for conducting developmental testing and evaluation in DOD, as well as reviewing, approving, and monitoring such testing for each Major Defense Acquisition Program; the appointment of a Director of Systems Engineering who serves as principal advisor to the Secretary of Defense on systems engineering and who will develop policies and guidance for the use of systems engineering, as well as review, approve, and monitor such testing for each MDAP; a requirement that the Director of Defense Research and Engineering periodically assess technological maturity of MDAPs and annually report findings to Congress, requiring the use of prototyping, when practical; a requirement that combatant commanders have more influence in the requirements-generation process; changes to the Nunn-McCurdy Act, including rescinding the most recent milestone approval for any program experiencing critical cost growth; a requirement that DOD revise guidelines and tighten regulations governing conflicts of interest by contractors working on MDAPs; and a requirement that a principal official in the Office of the Secretary of Defense be responsible for conducting performance assessments and analyses of major defense acquisition programs that experience certain levels of cost growth.

The Department of Defense (DOD) acquires goods and services from contractors, federal arsenals, and shipyards to support military operations. Acquisition is a broad term that applies to more than just the purchase of an item or service; the acquisition process encompasses the design, engineering, construction, testing, deployment, sustainment, and disposal of weapons or related items purchased from a contractor. As set forth by statute and regulation, from concept to deployment, a weapon system must go through a three-step process of identifying a required (needed) weapon system, establishing a budget, and acquiring the system. These three steps are organized as follows: 1. The Joint Capabilities Integration and Development System (JCIDS)—for identifying requirements. 2. The Planning, Programming, Budgeting, and Execution System (PPBE)—for allocating resources and budgeting. 3. The Defense Acquisition System (DAS)—for developing and/or buying the item. The Defense Acquisition System uses "milestones" to oversee and manage acquisition programs. At each milestone, a program must meet specific statutory and regulatory requirements before the program can proceed to the next phase of the acquisition process. There are three milestones: Milestone A—initiates technology maturation and risk reduction. Milestone B—initiates engineering and manufacturing development. Milestone C—initiates production and deployment. Both Congress and DOD have been active in trying to improve defense acquisitions. A comprehensive legislative effort to improve weapon system acquisition occurred in May 2009, when Congress passed and the President signed into law the Weapon Systems Acquisition Reform Act of 2009 (S. 454/P.L. 111-23). Key provisions in the act include appointment of a Director of Cost Assessment and Program Evaluation within DOD to establish guidance on cost estimating; appointment of a Director of Developmental Test and Evaluation; appointment of a Director of Systems Engineering; and a requirement that the Director of Defense Research and Engineering periodically assess technological maturity of Major Defense Acquisition Programs. DOD has undertaken a comprehensive effort to improve defense acquisitions, including rewriting elements of the regulatory structure that govern defense acquisitions and launching the Better Buying Power and Better Buying Power II initiatives aimed at "implementing practices and policies designed to improve the productivity of the Department of Defense and of the industrial base." An oversight issue for Congress is the extent to which the Weapon Systems Acquisition Reform Act and the various DOD initiatives are having a positive effect on acquisitions, and what additional steps, if any, Congress can take to further the effort to improve defense acquisitions.

The enactment of various conservation and environmental protection statutes in the 1960s and 1970s created a new awareness of environmental harms. At the same time, the civil rights initiatives also secured nondiscrimination in a number of legal rights, including education, employment, housing, voting, etc. Over the following decades, the development of these movements eventually converged, raising concerns that minority groups face disproportionate exposure to environmental risks and harms. Although Congress has not enacted generally applicable legislation on the issue, concerns regarding disproportionate adverse environmental impacts that result from how an agency implements environmental regulations have been litigated under a number of legal theories and have been addressed administratively for several decades. This report will examine the relevant legal authorities that may be asserted to address disproportionate environmental impacts that result from how an agency implements environmental regulations, including the Equal Protection Clause of the U.S. Constitution, Title VI of the Civil Rights Act of 1964, and selected environmental and conservation statutes. It also will analyze the use of these authorities to prevent such impacts and the likelihood of success for future challenges under each legal theory. The report also will discuss administrative efforts to address "environmental justice," a term used by some advocates to refer to the distribution of environmental quality across various demographic groups, including the Environmental Protection Agency's (EPA's) Plan EJ 2014. Many commentators have used the term environmental justice to describe concerns that racial, ethnic, or low-income minority groups are affected disproportionately by environmental harm. EPA has defined environmental justice as "the fair treatment and meaningful involvement of all people regardless of race, color, national origin, or income with respect to the development, implementation, and enforcement of environmental laws, regulations, and policies." In environmental protection debates, the question of siting potential environmental hazards often leads to disputes over whose proverbial backyard will be affected. Many communities often resist the placement of various industrial facilities and waste disposal sites within their boundaries. Several studies that first drew awareness to the potential correlation between environmental hazards and minority communities are cited regularly in debates about environmental justice. A number of factors may explain why these communities might be affected more often than others. Aside from the possibility that the harms are directed purposely at certain communities, factors such as costs, community involvement, political clout, economic status, and education—which may or may not be related to racial or ethnic status—may contribute to any correlation. For example, because property values may be lower in minority communities, siting authorities may choose inexpensive land near these communities. These communities also may lack the educational background or civic involvement that other communities may use to counteract proposals that would result in disproportionate environmental harm. If a siting decision that caused environmental hazards to the community depended solely on economic benefits and cost-efficiency, it may be difficult to justify an environmental justice claim. On the other hand, if the decision factored in the unlikely opposition of a minority community, the decision might be alleged to be discriminatory against that community. Individuals and communities seeking legal protection against perceived or alleged disproportionate environmental harms have relied on a number of legal theories. Although basing such claims on equal protection provisions in the U.S. Constitution appears reasonable, litigants have had little success with this approach, which requires proof that the government intended to discriminate. For the same reason, Title VI of the Civil Rights Act of 1964, which prohibits discrimination in federally funded programs, has proven troublesome for litigants to enforce in courts. Those who wish to challenge the effect of environmental harms also may seek relief under the National Environmental Policy Act (NEPA) or the discretionary authority of agencies under their statutory mandates. Alleged disproportionate impacts resulting from environmental regulation by government agencies inevitably raise questions regarding whether constitutional protections may apply to protect affected communities. Legal claims of discrimination by government agencies generally are governed by principles of equal protection. The Equal Protection Clause of the Fourteenth Amendment prevents states from denying any person under their jurisdiction "the equal protection of the laws." This constitutional requirement is made applicable to the federal government through the Due Process Clause of the Fifth Amendment. When a government entity treats similarly situated individuals or communities differently, those people may have been denied equal protection. However, to succeed in a legal challenge, litigants must show that the government intended to discriminate, not merely that litigants experienced discriminatory impacts. A court's review of equal protection claims depends on the nature of the discriminatory treatment. As a general rule, statutory classifications—those which distinguish between groups of people or between types of conduct—are permissible under the U.S. Constitution if there is a rational basis for the government establishing that distinction. If, however, the classification targets a "suspect class," courts will apply a heightened review known as strict scrutiny that requires the government to have a compelling reason to justify such treatment. Suspect classifications generally may arise with laws targeting race, religion, or national origin, as well as laws affecting fundamental rights like speech, or voting. If a governmental action explicitly identifies a suspect classification, the requirement of discriminatory intent is satisfied. However, it is more likely that environmental justice claims result from laws or actions that appear to be neutral but disproportionately affect a particular community that qualifies for heightened constitutional protection. The Supreme Court has explained that a disproportionate effect on such a community does not mean that the community's constitutional right to equal protection has been denied. When reviewing whether there was an intent to discriminate, courts may consider a variety of factors, including whether there is a significant disparate impact; evidence of departure from normal procedures; legislative history; or administrative history (e.g., actions or statements during the decision-making process). Such intent also may be evidenced through discriminatory enforcement. The following examples illustrate that, as a general rule, litigants asserting disproportionate environmental harms have not been successful when claiming denial of equal protection. In one of the first cases to consider such claims, a federal district court recognized that a state health agency's permit allowing placement of a solid waste facility in a community "will affect the entire nature of the community [sic] its land values, its tax base, its aesthetics, the health and safety of its inhabitants ..." Foreshadowing the difficulties of future environmental justice claims, the court held that there was insufficient evidence of an intent to discriminate based on race, despite extensive statistical data. The court noted that the site being challenged was located in a community with roughly 60% minority population, but that about half of all of the sites in the area were located in communities with less than 25% minority population. It also rejected assertions based on the concentration of solid waste sites in particular areas, explaining that it was reasonable to "expect solid waste sites to be placed near each other and away from concentrated population areas." The court also recognized that the sites were concentrated in areas where industry was located, not necessarily because minority populations were located nearby. Noting that it did not find the siting decision wise, the court explained that though the permit was "unfortunate and insensitive," there was insufficient proof to demonstrate "purposeful racial discrimination." Other courts have treated the issue similarly, finding that a history of disproportionate impacts does not translate to discriminatory intent. One court noted that although there may be an alleged history of "locating undesirable land uses in black neighborhoods," the challenged siting must be compared to other decisions by the agency, which had placed the only other site in a mostly white neighborhood. The court recognized that the siting agency did not "actively solicit" any landfill applications and showed no improper discriminatory motivations. Although equal protection claims in these cases generally have not been successful, some litigants may pursue constitutional claims. In one example, a court denied summary judgment for the city in a case brought by residents of a neighborhood with a 99% minority population. After reviewing evidence of discriminatory treatment related to flood protection, zoning, nuisances, landfills, and funding, the court recognized that there were questions as to whether the city had discriminated against the residents based on their race in some instances and permitted the case to go to trial, though it was settled before a final decision was rendered. Title VI of the Civil Rights Act of 1964 generally prohibits discrimination in federally funded programs or activities. Section 601 states that "[n]o person in the United States shall, on the ground of race, color, or national origin, be excluded from participation in, be denied the benefits of, or be subjected to discrimination under any program or activity receiving Federal financial assistance." Section 602 directs federal agencies that administer federally funded programs to implement the nondiscrimination provision through the promulgation of regulations and related enforcement proceedings. Agencies have issued regulations under Section 602 that prohibit actions with a discriminatory intent as well as actions with a discriminatory effect (also referred to as disparate impact). Individuals who believe they are victims of discrimination under Title VI may file a complaint with the federal agency that provides the funding, or, in some cases, they may file a lawsuit in federal court. State and local environmental agencies generally receive funding from EPA, which subjects those agencies to Title VI, and some individuals and communities have relied on that basis when claiming they have been disproportionately affected by environmental regulation. However, following several Supreme Court decisions, litigants have had limited success when challenging certain types of discrimination under Title VI in federal courts. On one hand, the Court has recognized a private right of action under Section 601, meaning that individuals or communities may file a lawsuit claiming discrimination in violation of Title VI. To have a private right of action, however, the claimants must show that there was a discriminatory intent behind the challenged action. As discussed in the previous section, discriminatory intent is required in equal protection claims as well, and has proven to be a challenge for many litigants seeking relief for disproportionate environmental harms. On the other hand, despite recognizing agencies' authority to issue Section 602 regulations to prevent disparate impact discrimination, the Court held that there was no private right of action under these regulations. Thus, since 2001, legal claims of discriminatory effect have been limited to the administrative complaint process. With the difficult standards required under Section 601 and without a private right of action under Section 602, it is generally the agency's responsibility to enforce its regulations in response to administrative complaints. Consequently, if an agency does not pursue or resolve complaints, there is little recourse for those claiming disproportionate harm. Commentators have noted that there has been a significant backlog of complaints at EPA, tracing the issue to an early study which found that EPA had concerns that enforcing antidiscrimination provisions would conflict with its primary goal of environmental improvement. Because of these delays, groups with administrative complaints have sought court orders compelling agency action. For example, a community organization claiming that city officials were not addressing environmental problems in vulnerable communities filed multiple complaints with EPA under its Title VI regulations. EPA's Office of Civil Rights (OCR) did not accept or reject the complaints within the regulatory deadlines and still had not made any response two years later, leading the organization to file a lawsuit in federal court. Within weeks, the agency accepted the complaints, and the lawsuit was dismissed. After an additional two years passed without any additional response, the organization filed a second lawsuit. The U.S. Court of Appeals for the Ninth Circuit noted that the group's "experience before the EPA appears, sadly and unfortunately, typical of those who appeal to OCR to remedy civil rights violations." Citing "a consistent pattern of delay" by EPA, which responded to complaints only after lawsuits were filed, the court held the organization could seek a court order forcing EPA to process the organization's complaints. The Court's 2001 decision prohibiting a private right of action under Title VI for disparate impact claims raised questions regarding whether affected individuals or communities may assert similar claims under a different civil rights provision, commonly referred to as Section 1983. Section 1983 allows individuals to sue government officials—or others acting pursuant to law—for "deprivation of any rights, privileges, or immunities" provided under U.S. law. Thus, individuals who are precluded from enforcing Section 602 regulations arguably could claim that the rights afforded under those regulations have been infringed in violation of Section 1983. However, courts have appeared to limit the applicability of Section 1983 in later decisions. In one example, residents of a largely minority neighborhood sought to enforce disparate impact regulations after a state environmental agency approved the construction of an industrial facility in the neighborhood which already included a number of the city's other contaminated sites. Initially, the federal district court held in favor of the residents and ordered the state to review their Title VI complaint, but the court's reasoning was no longer valid after the Supreme Court's decision finding no private right of action under Section 602. The residents amended their lawsuit, seeking enforcement of their Section 602 claim under Section 1983, and the court again held in their favor. Ultimately, however, the U.S. Court of Appeals for the Third Circuit overturned the decision, holding that "an administrative regulation cannot create an interest enforceable under section 1983 unless the interest already is implicit in the statute authorizing the regulation." Because Title VI does not create a right of action for disparate impact claims, the court held that the residents could not pursue such a claim under Section 1983 either. It is notable that other federal appellate courts have disagreed on the scope of Section 1983, leaving open the possibility that litigants in other courts may pursue such claims. The National Environmental Policy Act of 1969 (NEPA) establishes national environmental policies, including encouraging "harmony between man and his environment" and promoting efforts to "prevent or eliminate damage to the environment and biosphere and stimulate the health and welfare of man." Congress enacted NEPA in recognition "that each person should enjoy a healthful environment and that each person has a responsibility to contribute to the preservation and enhancement of the environment." To achieve these policies, NEPA established a federal responsibility "to use all practicable means ... to improve and coordinate Federal plans, functions, programs, and resources" in order to reach a number of goals. Many of these goals reflect principles of preventing disproportionate environmental harm, including assuring "for all Americans safe, healthful, productive, and esthetically and culturally pleasing surroundings" and attaining "the widest range of beneficial uses of the environment without degradation, risk to health or safety, or other undesirable or unintended consequences." NEPA requires federal agencies to follow a particular process to ensure that the statutory goals inform their decisions, but it does not dictate the outcome of the agencies' considerations of a particular action. The process requires federal agencies to provide detailed statements of the environmental impacts of agency actions (e.g., permitting, operations, etc.) that "significantly [affect] the quality of the human environment." The statements must identify any adverse environmental effects and available alternatives. NEPA reviews serve both to inform the agency in its deliberative process and to inform the public of the agency's actions and considerations. Individuals affected by an agency's action may challenge the agency's NEPA review under the Administrative Procedure Act, which provides a private right of action for judicial review of agency actions or inaction. Claims of insufficient review of environmental impacts have been asserted in both administrative and judicial courts, and indeed is one of the most prolific genres of environmental litigation. Both forums have emphasized that NEPA does not require agencies to eliminate or minimize the environmental effects of a particular action. Instead, the agency is required to adequately identify and evaluate the adverse effects before making its decision. In one example, an administrative board of appeals ruled that the U.S. Bureau of Land Management (BLM) had failed to meet its obligations under NEPA regarding the effects of constructing a new visitor center on federal lands. American Indian communities had raised concerns about the increased visitation to the area that would result and potentially harm cultural resources. Noting that BLM "expressly decided not to address [this] possibility," the board explained that it could affirm the agency's finding of no significant impact only if the agency could show that it "took a 'hard look' at the environmental impacts." Although litigants cannot use NEPA to achieve a desired outcome in light of their concerns about the disparate impact of an agency's decision, requiring agencies to consider various options and alternatives, including the cumulative effect that a proposed action may have on vulnerable communities, may be helpful to those communities nonetheless. The outcome of such a lawsuit may delay the implementation of a decision with an adverse environmental effect on a particular community, or it may cause the agency to reconsider its decision in light of any additional findings after further review. In addition to these constitutional and statutory provisions that may be invoked to prevent disproportionate exposure to environmental harms, agencies may act under general discretionary authority. Congress often authorizes agencies to undertake actions related to their missions, but allows the agencies discretion in choosing how to implement those authorities. If Congress has not given the agency explicit instruction, courts generally defer to the agency's interpretation, assuming it is reasonable. Under Executive Order 12898 (discussed in detail below), federal agencies are required to identify and address "disproportionately high and adverse human health or environmental effects of [their] programs, policies, and activities on minority populations and low-income populations." To do so, they must act under these existing discretionary authorities because Congress has not enacted general legislation toward this purpose. Many agencies have broad authority to promulgate regulations that they consider necessary to exercise the functions authorized by Congress. Congress also may direct the agency to exercise its authority "to protect human health and the environment." The agency may do so through setting pollution standards, issuing permits, or implementing enforcement mechanisms. For example, the Clean Water Act authorizes EPA to establish guidelines specifying factors that the agency considers when deciding pollution control limitations. EPA may consider such "factors as the Administrator deems appropriate" and "any more stringent limitation ... established pursuant to ... any other Federal law or regulation." Additionally, EPA may have discretion under the enforcement authority provided by an array of environmental laws to consider the environmental impact of a particular action. The penalty provisions of these statutes often permit the agency or courts to consider "such other matters as justice may require" in addition to factors such as the nature of the violation, the history of similar violations, etc. These broadly worded provisions allow agencies flexibility in their exercise of delegated authority, such that they may be able to incorporate nondiscrimination principles or considerations in decision making and other agency actions. Although these environmental statutes allow agencies to consider the impacts of environmental harms, the discretionary nature of these authorities generally means that individuals and communities alleging disproportionate impacts likely cannot succeed in a legal claim based solely on these authorities. Communities claiming to be affected by a particular environmental harm may seek to avail themselves of the citizen suit provisions included in various environmental statutes, which essentially allow individuals to file lawsuits to enforce the respective laws. However, statutory authorizations for citizen suits do not apply to claims related to an agency's discretionary duties, and enforcement decisions generally are regarded as discretionary. Following the heightened study of the effects of environmental hazards on minority communities in the 1980s, EPA assembled a working group to study the issue in 1990, under the direction of President George H. W. Bush. The focus on environmental justice expanded under President Bill Clinton, who directed federal agencies to incorporate environmental justice into their mission and operations. This directive has been reiterated by various federal agencies in recent years under President Barack Obama. These actions have not provided an independent legal basis for enforcing nondiscrimination principles related to environmental harms. However, they remain pertinent because they require agencies to apply relevant existing authorities that may achieve the same goal. In 1994, President Clinton issued Executive Order 12898 (E.O. 12898) to expand the goals of environmental justice beyond EPA. E.O. 12898 required each federal agency to "make achieving environmental justice part of its mission by identifying and addressing, as appropriate, disproportionately high and adverse human health or environmental effects of its programs, policies, and activities on minority populations and low-income populations ..." Individually, agencies were directed to develop an agency-wide strategy that would identify programs, policies, processes, and enforcement in need of revision to ensure equitable enforcement of health and environmental statutes; to improve public participation; and to improve access to information identifying environmental effects among minority and low-income populations. E.O. 12898 also called for a coordinated approach to addressing the goal of environmental justice and established an interagency working group. The group was directed to provide guidance to and coordinate consistency among the individual agencies and offices as they developed their respective environmental justice strategies. Under E.O. 12898, federal agencies are responsible to undertake a number of measures to promote environmental justice. For example, agencies must conduct [their] programs, policies, and activities that substantially affect human health or the environment, in a manner that ensures that such programs, policies, and activities do not have the effect of excluding persons (including populations) from participation in, denying persons (including populations) the benefits of, or subjecting persons (including populations) to discrimination under, such programs, policies, and activities, because of their race, color, or national origin. It also directs agencies "whenever practicable and appropriate" to gather and analyze data on environmental and health impacts across a range of demographic groups in order to identify potential disparities among populations. E.O. 12898 directs agencies to encourage public participation and awareness on issues considered by the agencies and the interagency working group. However, it creates no specific obligations for disclosure or other action by the agency. As such, E.O. 12898 may be thought of as an internal guidance document for the executive branch. It is binding on executive agencies and offices, but does not create or implement generally applicable rules or obligations that could be enforced against the government, its officials, or other individuals. In other words, E.O. 12898 may not be used as an enforcement mechanism for environmental justice claims. In 2011, the agencies originally included in the interagency working group established by E.O. 12898 agreed to a Memorandum of Understanding on Environmental Justice and Executive Order 12898 (EJ MOU) that reiterated the agencies' commitment to the goals of E.O. 12898. EJ MOU also expanded the opportunity for participation by other federal agencies, noting that E.O. 12898 "applies to covered agencies, [but] does not preclude other agencies from agreeing to undertake the commitments in the Order." It also imposed requirements on public reporting by participating agencies of their environmental justice strategies and progress. In 2011, EPA introduced a strategic plan known as Plan EJ 2014 to help integrate environmental justice into its programs, policies, and activities. The plan marks 20 years since the issuance of E.O. 12898 and manifests EPA's intent to set a standard for other agencies to address environmental justice. Plan EJ 2014 outlines several methods through which EPA can promote environmental justice, including rulemaking, permitting, compliance and enforcement, community-based action programs, and interagency support programs. EPA intends to report its progress toward achieving goals set in the plan in 2014. EPA has issued guidance with specific instructions on recommended procedures to incorporate environmental justice into its rule-writing process, providing suggestions on when to consider environmental justice and questions to ask in order to successfully address the relevant issues that arise. Under the guidance, EPA analysts are instructed to "[incorporate] environmental justice into the development of risk assessment, economic analysis, and other scientific input and policy choices during the development of a rule." With respect to its initiative to incorporate environmental justice into the permitting process, EPA has endeavored "to develop and implement tools to better enable overburdened communities to have full and meaningful access to the permitting process." To advance environmental justice through its compliance and enforcement actions, EJ Plan 2014 provides for the enhanced use of enforcement and compliance tools "to address the needs of overburdened communities." In other words, as EPA determines where to pursue enforcement actions, it will give priority to cases that affect communities which may be particularly vulnerable. EPA also intends to improve its communications with communities that may be at risk of environmental harms. Similarly, EJ Plan 2014 continues EPA's community programs to "support community empowerment and provide community benefits at all levels." It provides for improvement of these programs, with particular emphasis on minority and low-income communities (including tribal and indigenous communities) that have been identified as lacking "capacity to affect environmental conditions." In particular, the agency's efforts focus on expanding partnerships with communities, building capacity within communities to organize community-based efforts, and coordinating with other agencies and entities that affect the community.

The enactment of various conservation and environmental protection statutes in the 1960s and 1970s created a new awareness of environmental harms. At the same time, the civil rights initiatives also secured nondiscrimination in a number of legal rights, including education, employment, housing, voting, etc. Over the following decades, the development of these movements eventually converged, raising concerns that minority groups face disproportionate exposure to environmental risks and harms. Individuals and communities claiming to be disproportionately and adversely affected by how an agency implements environmental regulations may seek legal relief under a variety of federal laws, including equal protection under the U.S. Constitution and nondiscrimination requirements under Title VI of the Civil Rights Act of 1964. However, in many cases, these laws require proof of discriminatory intent, which can make success under these claims difficult because individuals and communities generally allege that they are subject to disproportionate adverse environmental effects as a consequence of how an agency implements environmental regulations, but not that the regulation itself is discriminatory. Alternatively, relief may be available in some circumstances under the National Environmental Policy Act (NEPA) or statutory authorities for specific agencies' actions related to the environment. Congress has never enacted generally applicable legislation on the subject, but concerns regarding disproportionate impacts arising from environmental regulation have been addressed administratively over the past two decades. Federal agencies are required by Executive Order 12898 to incorporate environmental justice into their mission and operations, and a number of agencies have reiterated their commitment to these goals in recent years. This report will examine the relevant legal authorities that may be asserted to address disproportionate impacts that result from how an agency implements environmental regulations, including the Equal Protection Clause of the U.S. Constitution, Title VI of the Civil Rights Act of 1964, and various environmental and conservation statutes. It will discuss administrative efforts to address "environmental justice," a term used by some advocates to refer to the distribution of environmental quality across various demographic groups, including the Environmental Protection Agency's (EPA's) Plan EJ 2014. It will also analyze the use of these authorities to prevent such impacts and the likelihood of success for future challenges under each legal theory.

This report is intended to provide a brief overview of the various potential restrictions or regulations within federal law on the lobbying activities of non-profit organizations. Public charities, social welfare organizations, religious groups, and other non-profit, tax-exempt organizations are not generally prohibited from engaging in all lobbying or public policy advocacy merely because of their federal tax-exempt status. There may, however, be some limitations and restrictions on lobbying by certain non-profit organizations, as well as general public disclosure and reporting requirements relative to lobbying activities of most organizations. There are, in fact, several overlapping laws, rules and regulations which may apply to various non-profits which engage in lobbying activities. In some instances, the rules and restrictions that apply may be determined by the section of the Internal Revenue Code under which an organization holds its tax-exempt status. In other instances, certain rules and regulations may apply depending on the type of non-profit organization and whether it receives federal grants, loans or awards. Finally, organizations, depending on the amount and type of lobbying in which they engage, may be required to file public registration and disclosure reports under the federal Lobbying Disclosure Act of 1995, as amended. It should be emphasized that the definitions of the terms "lobbying" or "advocacy," and which particular activities may be encompassed in or excluded from those terms, may vary among the different regulations, rules, and statutes. Organizations which are exempt from federal income taxation under section 501(c)(3) of the Internal Revenue Code (26 U.S.C. § 501(c)(3)) are community chests, funds, corporations or foundations "organized and operated exclusively for religious, charitable, scientific, testing for public safety, literary, or educational purposes." These charitable organizations, which have the advantage of receiving contributions from private parties which are tax-deductible for the contributor under 26 U.S.C. § 170(a), are limited in the amount of lobbying in which they may engage if they wish to preserve this preferred federal tax-exempt status. The general rule for a charitable organization exempt from federal taxation under § 501(c)(3) is that such organization may not engage in lobbying activities which constitute a "substantial part" of its activities. In 1976, a so-called "safe harbor" was offered to 501(c)(3) organizations where they could elect to come within specific percentage limitations on expenditures to assure that no violations of the "substantial part" rule would occur, or they could remain under the old, unspecified "substantial part test." The specific statutory limitations upon organizational expenditures for covered lobbying activities (the "expenditure test" limitations) for electing 501(c)(3) organizations are as follows: 20% of the first $500,000 of total exempt-purpose expenditures of the organization, then 15% of the next $500,000 in exempt-purposes expenditures, then 10% of the next $500,000 in exempt-purpose expenditures, and then 5% of the organization's exempt-purpose expenditures over $1,500,000; up to a total expenditure limit of $1,000,000 on lobbying activities. There is currently a separate "grass roots" expenditure limit of 25% of the "direct" lobbying limits. The activities covered under the tax code limitations on "lobbying" by charitable organizations generally encompass both "direct" lobbying as well as "grass roots" lobbying (for which there is a separate included expense limitation). "Direct" lobbying entails direct communications to legislators, and to other government officials involved in formulating legislation (as well as direct communications to an organization's own members encouraging them to communicate directly with legislators), which refer to and reflect a particular view on specific legislation. Indirect or "grass roots" lobbying involves advocacy pleas to the general public which refer to and take a position on specific legislation, and which encourage the public to contact legislators to influence them on that legislation. The definitions of and the specific exemptions from the term "lobbying" are important in observing the expenditure limitations on an organization's activities. For example, not all public "advocacy" activities of an organization are considered "grass roots lobbying." As noted expressly by the IRS: "... clear advocacy of specific legislation is not grass roots lobbying at all unless it contains an encouragement to action." Furthermore, not all communications to legislators are considered "direct lobbying." The definition of "lobbying" for purposes of the tax code limitations expressly exempt activities such as: (a) making available nonpartisan analysis, study or research involving independent and objective exposition of a subject matter, even one that takes a position on particular legislation as long as it does not encourage recipients to take action with respect to that legislation; (b) technical advice or assistance given at the request of a governmental body; (c) so-called "self-defense" communications before governmental bodies, that is, communications on those issues that might affect the charity's existence, powers, duties, tax-exempt status, or deductibility of contributions to it; and (d) contacts with officials unrelated to affecting specific legislation, even those that involve general discussions of broad social or economic problems which are the subject of pending legislation. Organizations which are tax exempt under section 501(c)(4) of the Internal Revenue Code are generally described as "[c]ivic leagues or organizations not operated for profit but operated exclusively for the promotion of social welfare ...." If a civic league or social welfare organization is tax exempt under § 501(c)(4) of the Internal Revenue Code, there is generally no tax consequence for lobbying or advocacy activities (as long as such expenditures are in relation to their exempt function). In fact, in upholding the limitations on lobbying by 501(c)(3) charitable organizations against First Amendment challenges, the Supreme Court noted that a 501(c)(3) organization could establish a 501(c)(4) affiliate through which its First Amendment expression could be exercised through unlimited lobbying and advocacy. The 501(c)(4) affiliate should be separately incorporated, keep separate books, and spend and use resources which are not part of or otherwise paid for by the tax-deductible contributions to the 501(c)(3) parent organization. While 501(c)(4) organizations' lobbying activities are generally unrestricted, if a 501(c)(4) organization receives federal funds in the form of a "grant" or loan, then there are express restrictions on its "lobbying activities," discussed below. Labor and agricultural organizations are tax-exempt under section 501(c)(5) of the Internal Revenue Code, and business trade associations and chambers of commerce are exempt from federal income taxation under section 501(c)(6). Neither labor or agricultural organizations, nor business trade associations or chambers of commerce, have any specific limitations upon their lobbying activities as a result of their tax-exempt status. Veterans' organizations are in a unique situation concerning lobbying, as compared to other non-profits, in that veterans' groups may engage in unlimited lobbying activities relevant to their functions, while at the same time are able to benefit from contributions to them that are tax deductible to the donor. This preferred tax position available only to veterans' groups has been justified as a policy choice of Congress to benefit those that have served the nation in its armed forces. Private foundations (as opposed to "public" charities) are generally restricted from lobbying, in a practical sense, by tax provisions which penalize expenditures by the private foundation for most forms of lobbying activities (although the law expressly exempts from the definition of lobbying such activities as issuing "nonpartisan analysis, study or research," and engaging in so-called "self-defense" lobbying). Private foundations differ from public charities generally in the manner in which they are funded, in that private foundations receive a certain percentage of their funds from other than contributions from the general public or from the Government, and instead receive large bequests from those associated with the foundation and/or receive substantial amounts of their revenue from the investment income from the foundation's financial holdings. Restrictions on "lobbying activities" by certain non-profit groups, as a condition to receiving federal grants and loans, were enacted into law in 1995. Section 18 of the Lobbying Disclosure Act of 1995 places statutory restrictions upon the lobbying activities of non-profit civic and social welfare organizations which are tax-exempt under section 501(c)(4) of the Internal Revenue Code. This provision, which is commonly called the "Simpson Amendment," prohibits section 501(c)(4) civic leagues and social welfare organizations from engaging in any "lobbying activities," even with their own private funds, if the organization receives any federal grant, loan, or award. The restrictions of the Simpson Amendment originally covered all 501(c)(4) organizations which received federal monies by way of an "award, grant, contract , loan or any other form." The term "contract," however, was subsequently removed from the provision by P.L. 104-99 , Section 129, leaving the prohibition on lobbying activities with an organization's own funds as a condition to the receipt of federal moneys only upon 501(c)(4) grantees and those seeking an award or loan, but allowing unlimited lobbying activities with organizational funds for 501(c)(4) contractors of the federal government. The Simpson Amendment now reads: "An organization described in section 501(c)(4) of the Internal Revenue Code of 1986 which engages in lobbying activities shall not be eligible for the receipt of Federal funds constituting an award, grant, or loan." The legislative history of the provision clearly indicates that a 501(c)(4) organization may separately incorporate an affiliated 501(c)(4), which would not receive any federal funds, and which could engage in unlimited lobbying. The method of separately incorporating an affiliate to lobby (or to receive and administer federal grants), which was described by the amendment's sponsor as "splitting," was apparently intended to place a degree of separation between federal grant money and private lobbying, while permitting an organization to have a voice through which to exercise its protected First Amendment rights of speech, expression and petition. As stated by Senator Simpson: "If they decided to split into two separate 501(c)(4)'s, they could have one organization which could both receive funds and lobby without limits." It may also be noted that while § 501(c)(4)s which receive certain federal funds may not engage in "lobbying activities," the term "lobbying activities" as used in the "Simpson Amendment" prohibition in Section 18 of the Lobbying Disclosure Act is defined in Section 3 of that legislation to include only direct "lobbying contacts and efforts in support of such contacts" such as preparation, planning, research and other background work intended for use in such direct contacts. A "lobbying contact" under the Lobbying Disclosure Act is an "oral or written communication (including an electronic communication) to a covered executive branch official or a covered legislative branch official" which concerns the formulation, modification or adoption of legislation, rules, regulations, policies or programs of the Federal Government. Organizations which use their own private resources to engage only in "grass roots" lobbying and public advocacy (including specifically any communication that is "made in a speech, article, publication or other material that is distributed and made available to the public, or through radio, television, cable television, or other medium of mass communication") would, therefore, not appear to be engaging in any prohibited "lobbying activities" under this provision. The Lobbying Disclosure Act's definitions of "lobbying activities" and "lobbying contacts" exclude, and do not independently apply to activities which consist only of "grass roots" lobbying and public advocacy. Similarly, since the term "lobbying activities" relates only to the direct lobbying of covered federal officials, the "Simpson Amendment" would not appear to limit in any way an organization's use of its own private resources to lobby state or local legislators or other state or local governmental bodies or units. While direct lobbying of the Congress, or of certain high level executive branch officials, is covered under the Lobbying Disclosure Act as a "lobbying contact," and thus by definition a "lobbying activity," the acts of testifying before a congressional committee, subcommittee, or task force, or of submitting written testimony for inclusion in the public record of any such body, or of responding to notices in the Federal Register or other such publication soliciting communications from the public to an agency, or responding to any oral or written request from a Government official for information, are expressly exempt from the definition of a "lobbying contact," and thus in themselves can not qualify as a "lobbying activity." Broad prohibitions on the use of federal monies for lobbying or political activities have been in force for a number of years. Express restrictions on the use of grant funds by non-profit organizations were adopted in 1984 as part of uniform cost principles for non-profit organizations issued by the Office of Management and Budget (OMB) in OMB Circular A-122, and are now incorporated into the Federal Acquisition Regulations. Under current federal provisions, no contractor or grantee of the federal government, regardless of tax status, may be reimbursed out of federal contract or grant money for their lobbying activities, or for political activities, unless authorized by Congress. These restrictions generally apply to attempts to influence any federal or state legislation through direct or "grass roots" lobbying campaigns, political campaign contributions or expenditures, but exempt any activity authorized by Congress, or when providing technical and/or factual information related to the performance of a grant or contract when in response to a documented request. In addition to these restrictions of general applicability on the use of federal contract or grant money for lobbying activities, there may be specific statutory limitations and prohibitions on particular federal moneys or on particular federal programs. Appropriation riders, for example, may also expressly limit the use of federal monies appropriated in a particular appropriations law for lobbying, or "publicity or propaganda" campaigns directed at Congress by private grant or contract recipients. Under the provisions of federal law commonly referred to as the "Byrd Amendment," federal grantees, contractors, recipients of federal loans or those with cooperative agreements with the federal government, are expressly prohibited by law from using federal monies to "lobby" the Congress, federal agencies, or their employees, with respect to the awarding of federal contracts, the making of any grants or loans, the entering into cooperative agreements, or the extension, modification or renewal of these types of awards. Federal contractors, grantees and those receiving federal loans and cooperative agreements must also report lobbying expenditures from non-federal sources which they used to obtain such federal program monies or contracts. Agencies of the Federal Government which administer loans, grants and cooperative agreements have issued common regulations implementing the "Byrd Amendment." The restrictions of the "Byrd Amendment" apply to the making, with an intent to influence, any communications to or appearances before Congress or an agency on a covered matter. Any "information specifically requested by an agency or Congress is allowable at any time," and certain other contacts are allowable depending on the timing and nature of the communication with respect to a particular solicitation for a federal grant, contract or agreement. In 2002 a federal statute in the criminal code concerning lobbying with appropriated funds was amended to expand its applicability and prohibition beyond merely officers and employees of the Federal Government, while substituting civil fines for the former criminal penalties for violations of the law. That provision of law, at 18 U.S.C. § 1913, prohibits the use of federal appropriations to pay for any "personal services, advertisement, telegram, telephone, letter, printed or written matter ... intended or designed to influence" Members of Congress, or officials of any governmental units, on policies, legislation or appropriations. Originally enacted in 1919, the law had applied only to the use of federal funds by officers and employees of the Federal Government, and had extended its prohibitions only to the use of such funds for certain lobbying campaigns directed at Congress. However, after the 2002 amendments the law now appears to apply to recipients of all federal monies appropriated by Congress, and extends its prohibitions to activities to influence not only the Congress, but also public officials at all levels of Government. Contractors and grantees of the Federal Government may not seek reimbursement from a federal grant or contract for, nor charge off to a federal contract or grant, the costs of lobbying and similar public policy advocacy. Organizations which engage in a particular amount of lobbying activities (which must include more than one direct lobbying contact of a covered federal official) through personnel compensated to lobby on the organization's behalf will be required to register and to file disclosure reports under the Lobbying Disclosure Act of 1995, as amended. Other than for tax-exempt religious orders, churches, and their integrated auxiliaries (which are exempt from registration, reporting, and disclosure under the Lobbying Disclosure Act ), there is no general exclusion or exception from the disclosure and registration requirements for other non-profit organizations which otherwise meet the thresholds on lobbying contacts and overall expenditures for lobbying activities. The Lobbying Disclosure Act of 1995 was intended to reach so-called "professional lobbyists," that is, those who are compensated to engage in lobbying activities on behalf of an employer or on behalf of a client. When registration is required for organizations which engage in covered "lobbying contacts" through their own staff, such registration is done by the organization, rather than by the individual employee/lobbyist. That is, the organization which has employees who qualify as "lobbyists" for the organization (so-called "in-house" lobbyists) must register and identify its employees/lobbyists. All lobbying registrations and reports are to be filed electronically, and may now be filed at a single location for both the Secretary of the Senate's Office and the Office of the Clerk of the House. An organization will be required to register its employee/lobbyists when it meets two general conditions. First, it must have one or more compensated employees who engage in covered "lobbying," that is, who make more than one "lobbying contact," and who spend at least 20% of their total time for that employer on "lobbying activities" over a three-month reporting period. A "lobbying contact" (in reference to the requirement that an employee/lobbyist make more than one "lobbying contact" per quarter) is a direct oral or written communication to a covered official, including a Member of Congress, congressional staff, and certain senior executive branch officials, with respect to the formulation, modification or adoption of a federal law, rule, regulation or policy. The term "lobbying activities" (in reference to the 20% time threshold), however, is broader than "lobbying contacts," and includes "lobbying contacts" as well as background activities and other efforts in support of such lobbying contacts. Secondly, for an organization to register its lobbyists/employees, the organization must have spent, in total expenses for such "lobbying activities," $10,000 or more in a quarterly reporting period. The $10,000 amount will include any money paid to an outside lobbyist to lobby on the organization's behalf during the reporting period. If an organization hires an outside lobbyist, then that outside lobbyist or outside lobbying firm will register on behalf of that client/organization when the lobbyist or lobbying firm meets the required threshold for contacts and income, and will identify that organization as a "client." Under the act, a "lobbyist" needs to be registered within 45 days after first making a lobbying contact or being employed to make such a contact. Registration will be with the Clerk of the House who will forward such registration to the Secretary of the Senate. The information on the registrations will generally include identification of the lobbyist, or organization with employees/lobbyists; the client or employer; an identification of any foreign entity, and disclosure of its contributions of over $5,000, if the foreign entity owns 20% of the client and controls, plans, or supervises the activities of the client, or is an interested affiliate of the client; and a list of the "general issue areas" on which the registrant expects to engage in lobbying, and those on which he or she has already lobbied for the client or employer. In addition to listing the "client" of a lobbyist in the case of, for example, a "coalition" or association which hires a lobbyist, identification must also be made of any organization other than that client-coalition which contributes more than $5,000 for the lobbying activities of the lobbyist in a three-month reporting period and "actively participates" in the planning, supervision, or control of the lobbying activities. In addition to the registration of lobbyists, quarterly and semi-annual reports are required to be filed. The quarterly reports are to cover the periods January 1 - March 31, April 1 - June 30, July 1 - September 30, and October 1 - December 31. These reports are to be filed within 20 days of the end of the applicable period, and will identify the registrant/lobbyist, identify the clients, and provide any needed updates to the information in the registration; identify the specific issues upon which one lobbied, including bill numbers, earmarks, and any specific executive branch actions; employees who lobbied; Houses of Congress and federal agencies contacted; any covered interest of a foreign entity; and provide a good faith estimate of lobbying expenditures (by organizations using their own employees to lobby), or income from clients (estimated by outside lobbying firms/practitioners) in excess of $5,000 (and rounded to the nearest $10,000. The semi-annual reports are to identify the names of all political committees established or controlled by the lobbyist or registered organization; the name of each federal candidate or officeholder, leadership PAC, or political party committee to which contributions of more than $200 were made in the semi-annual period; the date, recipient, and the amount of funds disbursed: (i) to pay the costs of an event to honor or recognize a covered government official; (ii) to an entity that is named for a covered legislative branch official, or to a person or entity "in recognition" of such official; (iii) to an entity established, maintained, or controlled by a covered government official, or an entity designated by such official; and (iv) to pay the costs of a meeting, conference, or other similar event held by or in the name of one or more covered government officials, unless the events, expenses or payments are in a campaign context such that the funds provided are to a person required to report their receipt under the Federal Election Campaign Act (2 U.S.C. § 434). The name of each presidential library foundation and each presidential inaugural committee to whom contributions of $200 or more were made in the semi-annual reporting period must also be reported. Additionally, in the semi-annual reports registrants are required to provide a certification that the person or organization filing (i) "has read and is familiar with" the rules of the House and Senate regarding gifts and travel, and (ii) had not provided, requested, or directed that a gift or travel be offered to a Member or employee of Congress "with knowledge that the receipt of the gift would violate" the respective House or Senate rule on gifts and travel. The Lobbying Disclosure Act, in addition to covering only those who are compensated to lobby, as a prerequisite to coverage applies only to those whose activities may be described as "direct" lobbying, that is, direct communications or contacts with covered officials. The registration and disclosure requirements of the law are not separately triggered by "grass roots" lobbying by persons or organizations. That is, an organization or entity which engages only in grass roots lobbying, regardless of the amount of "grass roots" lobbying activities, will not be required under the Lobbying Disclosure Act provisions to register its members, officers or employees who engage in such activities. The Lobbying Disclosure Act also exempts from the definition of "lobbying contacts" the activities of lobbying state or local legislators or other state or local governmental bodies or units. Furthermore, while direct lobbying of Congress, or of certain high level executive branch officials, is covered under the Lobbying Disclosure Act as a "lobbying contact," the acts of testifying before a congressional committee, subcommittee, or task force, or of submitting written testimony for inclusion in the public record of any such body, or of responding to notices in the Federal Register or other such publication soliciting communications from the public to an agency, are expressly exempt from the definition of a "lobbying contact," and thus in themselves cannot qualify as a "lobbying activity." Certain public charities, that is, those that have "elected" the specific expenditure limit test for lobbying under 26 U.S.C. § 501(h), will have the option, under the Lobbying Disclosure Act, of using the Internal Revenue Code definitions of "influencing legislation," rather than the Lobbying Disclosure Act definitions of "lobbying activities" to determine the organization's reporting obligations. This option was provided so that such groups would need to have only one set of internal record controls and standards dealing with "influencing legislation" under both the tax code and the lobbying disclosure law. Since the definition of "influencing legislation" under the tax code is different than the definition of "lobbying activities" under the lobbying law, an eligible organization may need to decide which definition is more advantageous to use, from both a tax and record-keeping standpoint, as well as in relation to the extent and nature of its planned public policy activities. Most tax-exempt, non-profit organizations (other than churches) having annual gross receipts of over $25,000 must file with the IRS a Form 990 which is open to public inspection. Charitable 501(c)(3) organizations must also file Schedule A with Form 990, providing the reporting of lobbying expenditures, that is, expenses for "influencing legislation" under the Internal Revenue Code definitions. "Electing" organizations (electing the "expenditure test" for lobbying limits under 26 U.S.C. § 501(h)) must also compute and allocate expenses attributable to "grassroots" lobbying, as well as to "direct" lobbying; but non-electing organizations (under the "substantial part" test) must provide to the IRS a "detailed" description of their lobbying activities, information not required from "electing" organizations. Alliance for Justice, Worry-Free Lobbying for Nonprofits: How to Use the 501(h) Election to Maximize Effectiveness , 1999, 2003. http://www.afj.org/ assets/ resources/ resources2/ Worry-Free-Lobbying-for-Nonprofits.pdf Robert A. Boisture, for Independent Sector, "What Charities Need to Know To Comply With the Lobbying Disclosure Act of 1995," in Complying With the Lobbying Disclosure Act of ' 95 and the New Gift Act Restrictions , pp. 185-208 (Glasser Legal Works 1996). Comment, "Guiding Lobbying Charities Into A Safe Harbor: Final Section 501(h) and 4911 Regulations Set Limits for Tax-Exempt Organizations," 61 Miss. L.J. 157 (Spring 1991). John A. Edie, Foundations and Lobbying: Safe Ways to Affect Public Policy (Council on Foundations, 1991). Bruce H. Hopkins, The Law of Tax-Exempt Organizations , Eighth Edition (2003). Bruce R. Hopkins, Charity, Advocacy and the Law (1992). Bob Smucker, The Non-Profit Lobbying Guide , Second Edition, 1999 (Charity Lobbying in the Public Interest, Independent Sector). http://www.clpi.org/ CLPI_Publications.aspx Richard L. Winston, "The Lobbying Disclosure Act of 1995 and the Tax Code Elections," Tax Notes , 1391-1399 (June 3, 1996). U.S. House of Representatives, Office of the Clerk, "Guide to the Lobbying Disclosure Act," December 2007 (amended January 25, 2008). http://lobbyingdisclosure.house.gov/ amended_lda_guide.html CRS Report 96-264, Frequently Asked Questions About Tax-Exempt Organizations , by [author name scrubbed]. CRS Report RL31126, Lobbying Congress: An Overview of Legal Provisions and Congressional Ethics Rules , by [author name scrubbed].

Public charities, religious groups, social welfare organizations and other non-profit organizations which are exempt from federal income taxation are not generally prohibited from engaging in all lobbying or public policy advocacy activities merely because of their tax-exempt status. There may, however, be some lobbying limitations on certain organizations, depending on their tax-exempt status and/or their participation as federal grantees in federal programs. Additionally, organizations (other than churches or their affiliates) which meet specified threshold expenditure requirements on lobbying activities and which engage in direct lobbying of federal officials must register employees who are paid to lobby, and must file reports on lobbying activities, under the Lobbying Disclosure Act of 1995, as amended. As to the different categories of tax-exemption: charitable, religious or educational organizations which are exempt from federal income taxation under Section 501(c)(3) of the Internal Revenue Code, who may receive contributions from private parties that are tax-deductible for the contributor, may not engage in direct or grass roots lobbying activities which constitute a "substantial part" of their activities if they wish to preserve this preferred tax-exempt status. "Civic leagues or organizations not operated for profit but operated exclusively for the promotion of social welfare ....," tax exempt under 26 U.S.C. § 501(c)(4), on the other hand, have no tax consequence expressed in the statute for lobbying or advocacy activities. (But note restrictions on 501(c)(4)'s receiving federal grants or loans). Labor and agricultural organizations, tax-exempt under Section 501(c)(5) of the Internal Revenue Code, and business trade associations and chambers of commerce, exempt from federal income taxation under Section 501(c)(6), also have no specific statutory limitations upon their lobbying activities as a result of their tax-exempt status. Private foundations are generally not allowed to lobby. A provision of the 1995 Lobbying Disclosure Act, commonly called the "Simpson Amendment," prohibits section 501(c)(4) civic leagues and social welfare organizations from engaging in any "lobbying activities," even with their own private funds, if the organization receives any federal grant, loan, or award. Because of the definitions under the Lobbying Disclosure Act, however, the "Simpson Amendment" limitations do not appear to apply to any "grass roots" lobbying or advocacy, nor to lobbying of state or local officials, and the amendment also exempts certain other official communications or testimony. Finally, federal contract or grant money may not be used for any lobbying, unless authorized by Congress. No organization, regardless of tax status, may be reimbursed out of federal contract or grant money for any lobbying activities, or for other advocacy or political activities, unless authorized by Congress. This applies to direct or "grass roots" lobbying campaigns at the state, local or federal level (but exempts providing technical and/or factual information related to the performance of a grant or contract when in response to a documented request). The provision of law at 18 U.S.C. § 1913, as amended, as well as the so-called "Byrd Amendment," would also generally prohibit the reimbursement or payment from federal grants or contracts of the costs for "lobby" activities.

National governments throughout the world have offered prizes to encourage innovation since at least the late 1700s. For example, Napoleon's government offered a 12,000 franc prize for technologies that would enhance the preservation of food to better feed advancing military troops. This lead to the process of preserving food in bottles, which shortly thereafter led to the process of canned foods, and then broad use by consumers. In the United States, Congress authorized most of today's federally-funded innovation inducement prizes beginning with the 108 th Congress (2003). The purpose of this report is to gain a better understanding of these prizes to provide guidance for Members of Congress who are interested in creating new prizes, modifying current prize programs, or increasing oversight of current prizes. This report discusses the status of current federally-funded innovation inducement prizes, addresses the different types of prizes, analyzes when prizes may be appropriate and effective, and summarizes assessments that have been made of their effectiveness. The report also provides the lessons that may be learned from completed competitions, and policy options for those Members of Congress interested in taking action regarding federally-funded innovation inducement prizes. The report concludes with an overview of 111 th congressional activities regarding prizes. This report does not discuss prizes funded by non-federal organizations nor does it discuss recognition prizes that reward past accomplishments other than to distinguish them from innovation inducement prizes (see discussion of this issue in the following section, " What Are the Different Kinds of Prizes? "). Philanthropic organizations, industry, governments, and nongovernmental organizations offer many different kinds of prizes with a variety of objectives to reward accomplishments in science and technology (S&T). Some prizes, such as the Nobel prizes and U.S. National Medal of Science and National Medal of Technology, reward past accomplishments and do not have a specific scientific or technological goal. These have been called "recognition prizes." Other prizes, called "innovation inducement prizes," are designed to attain scientific and technical goals not yet reached, often in response to perceived market failures. Objectives of these prizes include both technological and non-technological goals: Identify new or unorthodox ideas or approaches to particular challenges; Demonstrate the feasibility or potential of particular technologies; Promote development and diffusion of specific technologies; Address intractable or neglected societal challenges; and Educate the public about the excitement and usefulness of research and innovation. This report focuses upon federally-funded "innovation inducement" prizes that have these goals. The scientific and technological goals for prizes include the full spectrum of research, development, testing, demonstration, and deployment. They are an alternative to more traditional ways of achieving societal objectives with science and technology such as grants, contracts, fees, patents, and human or physical infrastructure investments that some think are too costly, risk-averse, and bureaucratic. Some believe that prizes, if designed well, can enhance the ability of science and technology to solve societal problems, by reaching a wider community of problem solvers, encouraging risk-taking, and focusing the attention of policymakers, entrepreneurs, the public, and researchers on the goals of an innovation program. Concerns about prizes are that they may inhibit the exchange of information among researchers and innovators due to the very nature of competitions, be challenging to design and finance, and result in duplicative work which may not be the best use of limited intellectual and financial resources. Prizes differ in their intentions, objectives, sources of funding, competition mechanisms, reward structures, and other variables. There is also a wide spectrum of participants in prize competitions from individual citizens with and without scientific or technical expertise, school districts, governments, universities and other nonprofit organizations, and small and large companies. The prizes themselves may take the form of recognition and publicity, cash, marketing monopolies, or other means. Some experts view the non-compensation portion of prizes as important, and sometimes more important, than the potential financial reward. From a competitor standpoint, key considerations are the degree of flexibility in the competition rules, and the financial and nonfinancial risks and incentives. The following federal agencies have science and technology (S&T) programs that conduct prize competitions: the Department of Energy (DOE), the Department of Defense (DOD) including the Defense Advanced Research Projects Agency (DARPA), the Department of Health and Human Services' (HHS) Biomedical Advanced Research and Development Authority (BARDA), and the National Aeronautics and Space Administration (NASA). Each of these agencies have the statutory authority to offer prizes. Table 1 provides an initial overview, and the text that follows provides more in-depth information. The DOD Wearable prize was authorized by the John Warner National Defense Authorization Act of 2007 ( P.L. 110-36 ), which stated that The Secretary of Defense, acting through the Director of Defense Research and Engineering and the service acquisition executive for each military department, may carry out programs to award cash prizes in recognition of outstanding achievements in basic, advanced, and applied research, technology development, and prototype development that have the potential for application to the performance of the military missions of the Department of Defense. In response to this general authorization, DOD decided its first competition would be development of a long-endurance, lightweight power pack for warfighters in the field. The prize competition sought to inspire the use of ground-breaking and inventive approaches to solve technical problems; reach non-traditional DOD performers by lowering the barriers for participation; inspire students, academia, private inventors, and industry alike to leverage resources and compete using innovative ideas and approaches. The winner of the contest was the lightest weight system weighing 4 kg or less at the weigh-in and meeting the total energy requirement as demonstrated in the competitive demonstration (bench plus field tests). Figure 1 provides an overview of the prize's timeline, and may be illustrative of a typical prize timetable. Of the completed competitions, the DOD Wearable Power Prize (which was managed by DOD with contractor support as needed) appears to have been the most successful in reaching a specific technological target for the federal government as well as enhancing its network of those interested in the topic, both internally within the services, and externally among possible contractors. DOD officials are discussing the next steps to advance the technology, not only with the winners, but the other participants as well. DOD has assessed the benefits of the program for itself and to prize competitors, and found that the competition provided several benefits. It helped validate the status and appropriateness of DOD investments, identify new approaches, create a national awareness of the importance of wearable power, facilitated the Pentagon and military Services working together to identify a joint direction for this technology before and after the competition, and identified seven organizations and groups new to working with DOD. DOD's assessment concluded that there were benefits to competitors, such as those participating in the competition were able to have access to DOD-paid and validated laboratory grade testing in close-to-operational conditions, and to DOD civilian and military professionals who provided direct feedback and real-time technical assessments. Competitors were also able to interact with other teams, which enhanced collaborative discussions and networking opportunities on topics of common interest. In addition, competitors received heightened national and international publicity through news reports and web activities. DOD analyzed its competition to identify lessons learned for future competitions. According to DOD staff, among these lessons are— Choosing a topic or a competition goal that will attract the broadest public interest and ability to participate; Involving stakeholders (e.g., possible customers and competitors) from the beginning; Recognizing that setting competition metrics is critical; Deciding if topic addresses joint-service need (or not) and executing accordingly; Lowering competition entry and participation barriers to enable broadest involvement; Deciding if screening to determine whether concepts not deemed worthy of further consideration is prudent; Dedicating resources for media campaign and competitor communications (from program start to finish); Recognizing that a final public event requires significant resources; and Developing a post-competition plan that addresses expectations after the competition. This competition is concluded, but DOD is currently discussing at least one additional competition on a different technological challenge as part of its overall DOD prize program. The DARPA Grand Challenges were authorized in the Bob Stump National Defense Authorization Act for Fiscal Year 2003 ( H.R. 4546 , Sec. 2374b), which stated The Secretaries of the military departments and the heads of defense agencies may each carry out a program to award cash prizes in recognition of outstanding achievements that are designed to promote science, mathematics, engineering, or technology education in support of the missions of the U.S. Department of Defense. In response to the Floyd D. Spence National Defense Authorization Act for Fiscal Year 2001 ( S. 2549 , Sec. 217), which stated, "It shall be a goal of the Armed Forces to achieve the fielding of unmanned, remotely controlled technology such that by 2015, one-third of the operational ground combat vehicles of the Armed Forces are unmanned," DARPA decided to focus on autonomous robotic ground vehicles. According to DARPA, the Grand Challenges sought to promote innovative technical approaches that would enable the autonomous operation of unmanned ground combat vehicles. These autonomous ground vehicles were to navigate from point to point in an intelligent manner to avoid or accommodate obstacles including nearby vehicles and other impediments. For the contest, DARPA held field tests of autonomous ground vehicles over realistic terrain and set specific performance goals for distance and speed. DOD planned to make three awards, first place for $2 million, second place for $1 million, and $500,000 for third place. The intent of the Grand Challenge program was to encourage participation by nontraditional partners so they might offer new, innovative ways of thinking that can lead to breakthroughs in various scientific or technological challenges. The cost of developing, fielding, and insuring entered vehicles was the sole responsibility of the individual teams. DARPA did not provide funding for the purpose of Grand Challenge entry or participation. Teams underwent a qualification process that included submission of the application, submission of an acceptable vehicle specification sheet and video demonstration, successful performance at the site visit, selection for the National Qualification Event (NQE), submission of an appropriate technical paper and successful performance at the NQE. The NQE was the final qualification featuring a course that measures and tests vehicle capabilities where semifinalists vie for selection for the Grand Challenge Event. In 2004 and 2005, DARPA held Grand Challenges, and in 2007, DARPA hosted the Urban Challenge—an autonomous vehicle race through traffic. In 2004, participants were to develop vehicles that will navigate a course. No team entry successfully completed the designated route, and no award was made. In 2005, the DARPA Grand Challenge was similar to that in 2004. However, the test was in a different location that included 132 miles in desert terrain. Five teams completed the course, and first, second, and third place were awarded. In 2007, the DARPA Urban required teams to build an autonomous vehicle capable of driving in traffic, performing complex maneuvers such as merging, passing, parking and negotiating intersections. Eleven teams qualified and there were three winners. DARPA currently has no plans to hold an additional Grand Challenge event at this time. Should an additional challenge be held, it would likely focus on a different topic. According to DARPA, its Urban Challenge showed "breakthrough advances in autonomous vehicle capability and demonstrated for the first time autonomous vehicle operation in traffic," which is "being absorbed by the community, as expectations have been raised regarding autonomous vehicle capability and performance." Teams that participated in the competition have begun identifying transition targets and partners. For example, Oshkosh Truck, which fielded Team Oshkosh Truck, has planned logistics demonstrations for the U.S. Army and U.S. Navy on vehicle platforms such as the Medium Tactical Vehicle Replacement, Palletized Load System, and Heavy Expanded Mobility Tactical Truck, and will demonstrate their vehicle for U.S. Army's Tank-Automotive Command Life Cycle Management Command. DARPA made the following overall assessment of its program: The Urban Challenge program achieved its program goals and stimulated interest in the programs and projects of interest to the DoD Science and Technology (S&T) community. It was successful in attracting considerable joint investment by the participants and their sponsors, effectively leveraging Government investment in the program. The technical challenge was carefully defined and staged to bring coherence to the community and increase the chance for cross-fertilization among competing groups. The solicitation and qualification process was successful in attracting a large pool of strong teams with participation from the defense industry, automotive industry, academia, as well as a number of smaller organizations. This investment in expanding the community will continue to pay dividends as DoD benefits from a strengthened commercial sector autonomous vehicle technical community. The program has been successful in attracting many young people to work on S&T problems in areas affecting national security, and benefits are expected to accrue for many years as this group enters the work force. The DARPA Grand Challenges in 2004 and 2005 made significant strides toward a day when autonomous robotic vehicles will perform hazardous tasks on the battlefield that today put America's fighting force in harm's way. In addition to saving lives, the technology will reduce stress on manpower requirements by requiring fewer support people. The DARPA Urban Challenge continued the acceleration of autonomous ground vehicle technology, making possible deployment on the battlefield within the timelines established by Congress. The DOE Grand Challenges were authorized by the Energy Policy Act of 2005 ( P.L. 109-58 , Title X, Sec. 1008; EPACT 2005), in a section entitled "Prizes for Achievement in Grand Challenges of Science and Technology." This act states that "The Secretary may carry out a program to award cash prizes in recognition of breakthrough achievements in research, development, demonstration, and commercial application that have the potential for application to the performance of the mission of the Department." The Freedom Prize was created in the same act. The Energy Independence and Security Act (EISA) amended EPACT 2005 to create two additional prizes, the Hydrogen Prize (H-Prize) and the Lighting Prize (L-Prize). These prizes are scheduled to begin their activities in 2009. The purpose of the Freedom Prize, authorized in EPACT 2005, is to encourage and recognize the development and deployment of processes and technologies that will improve America's national security, economic prosperity, and health by reducing the country's dependence on foreign oil. The prize is to reward innovative deployment of existing technologies in five broad categories which include industry, military, schools, government and community. The first Freedom Prize competition, focused on school districts, is scheduled to begin in 2009. The Freedom Prize Foundation plans to give several awards, with total of $1.5 million in prizes. The purpose of the H-Prize, authorized in EISA 2007 (Sec. 654), is to competitively award cash prizes in conformity with this subsection to advance the research, development, demonstration, and commercial application of hydrogen energy technologies…. The Secretary shall establish prizes under this subsection for— (i) advancements in technologies, components, or systems related to— (I) hydrogen production; (II) hydrogen storage; (III) hydrogen distribution; and (IV) hydrogen utilization; (ii) prototypes of hydrogen-powered vehicles or other hydrogen-based products that best meet or exceed objective performance criteria, such as completion of a race over a certain distance or terrain or generation of energy at certain levels of efficiency; and (iii) transformational changes in technologies for the distribution or production of hydrogen that meet or exceed far-reaching objective criteria, which shall include minimal carbon emissions and which may include cost criteria designed to facilitate the eventual market success of a winning technology. The 2009/2010 competition is to focus on storage materials for hydrogen in mobile systems for light-duty vehicles with a $1 million prize to the winner. Private contributions are expected to augment prize funds. The tentative schedule is to give notice of the competition in the Federal Register in Summer 2009, take entries by Fall 2009, and have a judging panel test and evaluate in Summer 2010. The $1 million prize is expected to be awarded in Fall 2010. The Hydrogen Education Foundation administers the prize on behalf of DOE. The goal of the L-prize, authorized in EISA 2007, is to spur development of ultra-efficient solid-state lighting products to replace the most widely used lighting, the 60-watt incandescent lamp and the PAR 38 halogen lamp, and to develop a "21 st Century Lamp" that delivers more than 150 lumens/watt (lm/W). On June 24, 2009, DOE announced the beginning of the competition in a Federal Register notice. Awards include cash prizes, subject to the availability of appropriated funds, of $10 million for the first successful product in the 60-watt incandescent lamp category and $5 million for the first successful product in each of the PAR 38 and 21 st Century Lamp categories. In addition, there are opportunities for federal purchasing agreements, utility programs, and other incentives. In this competition, companies do not enter the competition officially until they have 2,000 samples of the product ready for laboratory testing. The results of the testing will then be judged by a technical review committee, whose members may include utilities, lighting designers, and light-emitting diode (LED) technology experts, to determine the winning entry. As of June 2009, it is expected that 5-10 companies are developing products for submission to the competition. If no submissions are received by June 2010, then DOE has the option of either closing the competition or revising the standards under which it operates. A unique feature of the L-prize is that there are a number of partners. Partners are organizations such as utilities and energy efficiency groups that have agreed through a memorandum of understanding to aid in marketing winning technologies. As of June 2009, there are approximately 23 partners who are active in 29 states. The goal of the Progressive Automotive X PRIZE, managed by the X PRIZE Foundation with financial sponsorship by the Progressive Casualty Insurance Company, is "to inspire a new generation of viable, super-efficient vehicles that help break our addiction to oil and stem the effects of climate change." As noted earlier, when the federal government offers a prize, it frequently does so with the help of another organization who administers the prize either for a fee or at no cost through the provision of in-kind support. In this situation, another organization offers the prize and it is the federal government who provides support. An alternative approach is for the federal government to support a competition managed by a private or philanthropic organization, rather than administering the prize and acting as the primary sponsor itself. A purse of $10 million in prizes would be awarded to the team(s) that develop a clean, production-capable and super fuel efficient vehicles that exceeds 100 MPG equivalent fuel economy (MPGe). This competition is focused on development of cars that would be made available for purchase, rather than concept cars. No technology is specified, but plans are to provide clear technical boundaries (i.e., for fuel-efficiency, emissions, safety, manufacturability, performance, capacity, etc.). In addition, the competition hopes to attract both existing automobile manufacturers and newcomers, and a balanced array of private investment, donors, sponsors, and partners to help competitors succeed (e.g., manufacturing assistance, testing resources, etc.). Beyond technological innovation, the prize sponsors plan to publicize the results, provide a cash award, and educate the public on key issues. Over 100 teams representing 136 vehicles with 14 different fuel sources have passed the first judging stage allowing them to participate in the competition. The next stage is the judging of the vehicle designs to assess the vehicle's features, production capability, safety, and business plans. In the final stage, teams will compete in a long distance stage competition to assess vehicle performance and determine if their vehicles can exceed 100 MPGe. Both the competition events and the announcement of winners, which will take place after the event results have been analyzed, are expected in 2010. DOE's Office of Energy Efficiency and Renewable Energy provided a $3.5 million grant to the Progressive Automotive X PRIZE for educational activities related to the competition. This includes a website, Fuel Our Future, developed with the X PRIZE Foundation and Discovery Education, that serves as an "interactive online portal offering stimulating science, technology, engineering and math (STEM) lessons and resources for students, teachers and families as the unique and engaging Progressive Automotive X PRIZE competition unfolds." Additional plans for the funds include a national high school student contest, and educational events in host cities of the Progressive Automotive X PRIZE race series. The Environmental Protection Agency's (EPA) Office of Transportation and Air Quality, DOE's Argonne National Laboratory, and the Society of Automotive Engineers (SAE) proposed a competition that incorporated "green" principles into auto racing to encourage manufacturers to develop and introduce "green" technologies. As with the Progressive Automotive X PRIZE discussed in the previous section, a non-federal organization sponsors the actual competition while federal agencies and others co-sponsors in-kind support. The Green Challenge Award sponsored by the American Le Mans Series (ALMS) with EPA, DOE, and the SAE as co-sponsors, is for the fastest car with the smallest environmental footprint. It is described further below. The ALMS Green Challenge provides incentives for improved efficiency, use of renewable fuels, and reduced greenhouse gas emissions; allows any technology or fuel; and uses life-cycle analyses to assess both the on-track impacts and the upstream environmental and energy impacts of the fuel. These technologies were tested as part of the 1,000-mile Petit Le Mans race in the 2008 racing season. Once the competition was in place, EPA, DOE, and SAE created the rules, regulations, and technical specifications for the competition as part of a "Green Racing Work Group." The government provided staff support for these activities. The ALMS funded the competition. Auto companies participating in the competition funded the research, development, and deployment of the cars in the competition. Thirty-seven cars competed for a trophy. There was no financial prize. Two winners were announced for prototype and grand touring (GT) classes. According to one analyst, the competition accurately foreshadowed the ability of diesel injection technology to reduce emissions through the use of particle filters while maintaining high performance. The competition, renamed the Michelin Green X Challenge competition and sponsored by ALMS and the Michelin corporation, is taking place again in 2009. The competitions began in the Spring of 2009, and will take place at each ALMS race in the 2009 racing season. At the end of the season, EPA, DOE, and SAE International will present Green Challenge awards to the vehicle manufacturers in each class with the highest scores during the entire racing season. The NASA Centennial Challenges were authorized in Section 104 of the National Aeronautics and Space Administration Authorization Act of 2005 ( P.L. 109-155 ) which stated that The Administration may carry out a program to competitively award cash prizes to stimulate innovation in basic and applied research, technology development, and prototype demonstration that have the potential for application to the performance of the space and aeronautical activities of the Administration. According to NASA, the Centennial Challenges seek to drive progress in aerospace technology of value to NASA's missions; encourage the participation of independent teams, individual inventors, student groups and private companies of all sizes in aerospace research and development; and find the most innovative solutions to technical challenges through competition and cooperation. Individual challenges are either "first-to-demonstrate" competitions, or "repeatable contests" with prizes that range from $300,000 to $2 million. Each challenge is a public/private partnership with co-sponsor organizations that contribute cash towards the prize purse and allied organizations that provide in-kind services to enhance the competition. NASA's current challenges are described below. The goal of the astronaut glove challenge, managed by Spaceflight America, is to improve glove design to reduce effort needed to perform tasks in space and improve the durability of the glove. The 2007 challenge consisted of two competitions. One for a $200,000 prize, won by an unemployed aerospace engineer, reached its technological target of meeting, or exceeding, the specifications of NASA's current Phase VI glove. The winner subsequently started his own company to produce spacesuit gloves, and has a contract to provide gloves to another company that is producing spacesuits for the emerging private suborbital spaceflight industry. The other $50,000 prize for a mechanical counter pressure glove went unclaimed. The 2009 Astronaut Glove Challenge "is designed to promote the development of glove joint technology, resulting in a highly dexterous and flexible glove that can be used by astronauts over long periods of time for space or planetary surface excursions." The general aviation technology competition, managed by the CAFE Foundation, involves a number of competitions with the goal of reducing the impact of aircraft on the environment, including demonstrating the performance of light aircraft that maximize fuel efficiency, reduce noise and improve safety. In 2007, NASA awarded $250,000 in prizes for personal air vehicles (PAV) that had the best performance as measured by a number of criteria including shortest runway, lowest noise, highest top speed, best handling qualities, and highest fuel efficiency, with $100,000 for the best overall performance. The 2008 General Aviation Technology Challenge included the Community Noise Prize ($150,000), Green Prize ($50,000), Aviation Safety Prize ($50,000), CAFE 400 Prize ($25,000)(a 400 mile cross-country air race), and Quietest Light-Sport Aircraft (LSA) Prize. NASA awarded a total of $97,000 in prizes during this competition, with all but the Green Prize competitors receiving some level of financial award. In 2009, draft rules were announced for the 2011 CAFE Aviation Green Prize with a proposed maximum purse of $1.7 million dollars. The goal of the lunar regolith excavation challenge, managed by the California Space Authority, is to design and build robotic machines to excavate simulated lunar soil. The winning team will receive a prize of $750,000. Twenty-five teams have registered for the competition. Sixteen teams competed in 2008, but no team was able to win the prize. The next competition is scheduled to take place on August 15, 2009. Competitors in the Northrop Grumman Lunar Lander Challenge, managed by the X PRIZE Foundation, with a total of $2.0 million in prize money available, must build and fly a rocket-powered vehicle under conditions that simulate the flight of a vehicle on the Moon. From 2006-2008, three competitions were held on fixed dates in fixed locations. In 2008, level one of the competition was won with the winner receiving $350,000. In 2009, competitors will seek to win the remaining $1.65 million in level two of the competition at a date and location of their choosing between July 20, 2009, to October 31, 2009. Nine teams have registered for level two of the competition including five veteran teams, and four new teams. Winners are determined by the X PRIZE Foundation. The Power Beaming and Tether prize, managed by the Spaceward Foundation, includes two competitions, which together are called the Space Elevator Games. In the power beaming competition, the goal is for teams to provide a practical demonstration of wireless power transmission by building mechanical devices that propel themselves up a vertical cable while the power supply remains on the ground. Competitions were held in 2006, 2007, and 2008 with no winners of the prize purse of $2 million awarded. A 2009 competition is planned for July. In the August 2009 tether competition, an additional $2 million prize purse will be given to the team that develops the material for a tether that can exceed the strength of the best available commercial tether by 50% with no increase in mass. The MoonROx Challenge, managed by the California Space Education and Workforce Institute, has a technological goal of developing a process to extract breathable oxygen from lunar regolith. A competition was held in 2008 with no winners of the $1 million purse. The next competition is scheduled for October 2009. The targeted outcomes for the NASA Centennial Challenges are to drive progress in aerospace technology of value to NASA's missions; encourage the participation of independent teams, individual inventors, student groups, and private companies of all sizes in aerospace research and development; and find the most innovative solutions to technical challenges through competition and cooperation. In its FY2009 budget request, NASA stated that the outcome of the program is to be evaluated based on its ability to "demonstrate benefits of prize competitions by awarding at least one prize and communicating the resulting technology advancements." According to NASA, Overall, the amount of team diversity (representing small and large businesses, high school and university students, and enthusiastic hobbyists and garage mechanics) and the variety of technologies implemented exceeded Agency expectations. As the prize purses increase, the amount of participation and level of technical maturity and ingenuity will also increase. In the past competitions where the prize purses were on the order of $300,000 each, it is estimated that the 10-15 participating teams represented an investment of $50,000 -$100,000 each. In the competition with a $2 million prize purse, teams invested on the order of $250,000 - $500,000 each. In addition, NASA states that "Centennial Challenge competitions have spurred the creation of new businesses and products, including innovations in pressure suit gloves and reusable rocket engines." NASA makes the following assessment of the Centennial Challenge competitions: Prize programs encourage diverse participation and multiple solution paths. A measure of diversity is seen in the geographic distribution of participants (from Hawaii to Maine) that reaches far beyond the locales of the NASA Centers and major aerospace industries. The participating teams have included individual inventors, small startup companies, and university students and professors. An example of multiple solution paths was seen in the Regolith Excavation Challenge. NASA can typically afford one or two working prototypes but at this Challenge event, sixteen different working prototypes were demonstrated for the NASA technologists. All of these prototypes were developed at no cost to the government. The return on investment with prizes is high as NASA expends no funds unless the accomplishment is demonstrated. NASA provides only the prize money and the administration of the competitions is done at no cost to NASA by non-profit allied organizations. For the Lunar Lander Challenge, twelve private teams spent nearly 70,000 hours and the equivalent of $12 million trying to win $2 million in prize money. Prizes also focus public attention on NASA programs and generate interest in science and engineering. During the recent Lunar Lander Challenge, a live webcast had over 45,000 viewers and over 100,000 subsequent downloads. Prizes also create new businesses and new partners for NASA. The winner of the 2007 Astronaut Glove Challenge started a new business to manufacture pressure suit gloves. Armadillo Aerospace began a partnership with NASA related to the reusable rocket engine that they developed for the Lunar Lander Challenge, and they also sell the engine commercially. NASA indicates that in selecting topics for future NASA Centennial prize competitions, it will consult widely within and outside of the federal government, and use selection criteria that include addressing common NASA and national technology needs; balancing the challenges across the fields of science, exploration, space operations, and aeronautics; and broadening the geographical distribution of competitor teams and host venues. It is considering future challenges focused on revolutionary energy storage systems, solar and other renewable energy technologies, laser communications, demonstrating near-Earth object survey and deflection strategies, innovative approaches to improving the safety and efficiency of aviation systems, closed-loop life support and other resource recycling techniques, and low-cost access to space. BARDA manages Project BioShield, which is to accelerate the research, development, purchase, and availability of effective medical countermeasures (e.g., diagnostic tests, drugs, vaccines, and other treatments) against chemical, biological, radiological, and nuclear (CBRN) agents. Some view Project BioShield as a prize competition, where the prize is the award of a contract that guarantees the government will purchase the results of the research and development proposed. Project Bioshield was authorized in the Project BioShield Act of 2004, which has three main provisions. One of these creates a government-market guarantee by allowing the HHS Secretary to obligate funds to purchase CBRN countermeasures while they still have several more years of development. However, companies may receive payment when development is complete and the product is delivered. The Pandemic and All-Hazards Preparedness Act (PAHPA; P.L. 109-417 ) modified the Project BioShield Act to allow for milestone-based payments for up to half of the total award before countermeasure delivery. Awards thus far have ranged from less than $1 million to almost $900 million. HHS noted that several awards have resulted in products being added to the Strategic National Stockpile (SNS). However, HHS also noted that one award was cancelled and other opportunities have gone unfilled. In 2007, Project Bioshield used the original Project BioShield 10% advance payment provision as well as milestone payment authorities provided by PAHPA. In 2008, BARDA issued a Request for Proposals (RFP), but had to cancel it in FY2009 due to the immaturity and excessive risk associated with awarding contracts to the organizations that submitted proposals, but later issued a different RFP. Members of Congress interested in federally-funded innovation inducement prizes may wish to create new prizes, or modify or increase oversight of current prize programs. In discussing possible options, policymakers may wish to receive comments from the current or potential administering agency, and stakeholders in that prize including participants in the competition, sponsors of those competitors, organizations that partner with the agencies in the administration of a prize, and the users of the competition results from both a technological and educational perspective. Policymakers interested in exploring the possibility of additional prizes may be interested in the conclusions of several studies examining whether or not prizes are an appropriate policy mechanism to reach a particular societal goal relative to alternative research and development mechanisms; prize design, administration, and financing; and other possible considerations when developing prize legislation. Each of these issues is discussed further below. As discussed earlier, prizes can have a number of goals. Although the primary focus may be achieving a scientific or technological goal including identifying new approaches to a challenge, some believe that the other aspects of competitions for a prize may be even more important. These subsidiary goals generally focus on the publicity surrounding prizes that may encourage the diffusion of specific technologies; bringing attention to intractable or neglected societal challenges; educating the public, particularly students, about the excitement and usefulness of research and innovation; and stimulating effort across the spectrum of research and innovations, including basic research, technology deployment and diffusion, and managerial/organizational innovation. Agencies also discussed the benefits of prizes for reaching goals such as expanding the network of academic and non-academic researchers willing to work with a federal agency, and enhancing communication among researchers who currently work with an agency and within an agency or between multiple agencies. In considering legislation for prizes, policymakers may wish to take actions to identify broader goals such as these and encourage mechanisms for achieving them. For example, if policymakers are interested in using prizes as a mechanism for educating students about science and engineering, they may wish to state this goal specifically and encourage agencies to take actions that would enhance the ability of reaching this goal. Policymakers interested in prizes may wish to consider the results of the following studies on innovation inducement prizes (both private and public sector), which focus on whether or not a prize is appropriate, and how a prize can be designed to best reach the sponsor's goal. These studies reached the following, sometimes contradictory, conclusions: National Academy of Engineering : Prizes, if designed well, can reach a wider community of problem-solvers than grants, and are useful when the desired output is not patentable. They are also useful when typical R&D funding mechanisms are too risk-averse, costly, or bureaucratic; or when there s an inadequate or nonexistent private market. Prizes can be tailored more precisely than other reward systems, though they may be challenging to design, determine awards, and finance. National Research Council : Prizes can focus the attention of policymakers, entrepreneurs, the public, and researchers on the goals of an innovation program and reduce the administrative burden of grants and contracts. However, they may be less suited to attain certain societal goals than grants and contracts. For example, prizes may not be as suitable as grants and contracts in enhancing basic scientific and engineering understanding, and may put less emphasis on educating and training the next generation of researchers. In addition, prize competitions are likely, by their very nature, to inhibit the exchange of information among researchers and innovators at least for the duration of the project. Participation by would-be innovators also may be inhibited due to insufficient funds to participate in the prize competition. Resources for the Future : Appropriate design is critical to prize success based on theoretical and historical evidence, so interested parties from both the public and private sectors should carefully consider how their specific resources and goals relate to the different prize design elements. If prizes are put into place on an experimental basis, it is important to understand the actual effectiveness and efficiency of the prize program, and how their design influences the results they achieve. Examples of design elements include the institutional setting (e.g., public or private sector), technological target relative to the sponsor's overall goals, financial award (e.g., prize should not be so large that it leads to excessive research, but not so small that researchers do not pursue), and victory conditions (e.g., "first past the post," where the first competitor to reach pre-determined award criteria wins the prize, which emphasizes speed and an explicit target; or "best in class," where everyone competes on the same day, which provides more flexibility for maximizing achievement in a given timeframe). McKinsey & Company : When conducted in an open, competitive, and media-friendly way, prizes can be a unique and powerful tool that identifies new levels of excellence, encourages specific innovations, changes wider perceptions, improves the performance of communities of problem-solvers, builds individual skills, and mobilizes new talent and capital. However, designing and delivering successful prizes is hard work. Prizes may be most useful when there is a clear goal, a relatively large number of potential solvers willing to absorb some of the risk, and a range of success criteria that includes a clearly-defined societal benefit that can be translated into prize objectives that are significant, motivational, actionable, results-focused, and time-bound. Brookings Institution : Prizes are especially suitable when the goal can be defined in concrete terms, but the means of achieving the goal are too speculative to be reasonable for a traditional research program or procurement. Prizes also offer the potential for allowing government to establish a goal without being prescriptive as to how that goal should be met; and can stimulate philanthropic and private sector investment that is greater than the cash value of the prize and attract teams with fresh ideas who might not otherwise do business with the federal government. Prizes, however, have significant limitations including the challenges faced by entrants in having or raising funds to compete, or the difficulty of clearly specifying in advance the victory conditions and quantifiable fundamental research outcomes. In addition, competitions lead to multiple research teams working on the same project, which may not be the best use of limited intellectual and financial resources. Centre for Economic Policy Research : Innovation inducement prizes can be a powerful mechanism for encouraging competition, and prestigious non-financial prizes can be particularly effective at encouraging innovation, but may have high administrative costs. Administering a prize includes not only the scope of the prize as discussed above, but such issues as deadlines, prize administrators, prize financing, competitor selection, judging procedures, intellectual property, liability, and public relations. The cost of administering a prize may exceed the financial reward given to winners of the prize. In developing legislation, policymakers may wish to consider whether or not they want a federal agency to administer a prize on its own, to have a separate organization such as a nonprofit organization administer a prize on behalf of the federal agency, or to support the prize competition of another organization. Some experts believe that a growing prize industry, familiar with prize administration, may provide enhanced outcomes as it professionalizes the prize process by bringing more formal knowledge and experience into the design and management process. However, there are also some challenges in taking this approach as an organization may have less control over the quality of the judging. This approach may also make it more difficult for organizations to integrate prize activities with other supporting activities such as related science and technology activities as well as lectures, student activities, and other public events that may be managed by other parts of the sponsoring organization. The financing of a prize includes both the prize purse that may be provided to competitors, and the cost of administering the prizes. In some cases, the cost of administering a prize can exceed the cost of the prize awarded to the competitor. Note that in some cases there is no financial reward, so the only cost is the administration of the prize. Prizes are financed through a variety of mechanisms. Some prizes are totally funded and staffed by the federal agency. Other prizes are funded by a federal agency, but staff support (sometimes for no or limited cost) is provided by outside, nonprofit organizations. In other cases, prizes are funded by a private organization, and the federal agency provides staff support. Competitors, in general, receive no funding from either the federal agency or private organizations involved in the prize competition. They must seek financial sponsorship. In cases where a large company is competing for a prize, this may not be a major issue. In situations where universities, small companies, or nonprofit organizations are competing, the degree of financing available to them may determine whether or not they can compete, or the level at which they compete. Although a prize may be authorized by Congress, unless there is a specific appropriation, the competition may not take place. A related issue is whether holding the prize competition is an option or a requirement. An authorized prize competition may not occur if an agency does not request specific funding for a prize, or Congress does not make a designated appropriation. In some cases, agencies set aside funding from existing programs or solicit it from programs throughout the agency. The higher the financial reward, the more challenging such actions are to take. Difficult economic conditions may raise additional financial policy issues regarding the previously discussed in-kind or financial sponsorship for competitors. Such conditions may limit the availability of non-governmental partners willing to provide low or no cost management for the prizes. Similarly, these conditions may make it more difficult for competitors to find financial sponsors. Another financial consideration for prizes is what occurs to funding set aside for a financial prize when no competitor meets the technological conditions necessary to win the prize within a specified timeframe. Does the prize funding move to a new competition for the following year? Or does a policy decision need to be made as to whether the competition should end, or should the technological conditions be revised so that competitors potential of winning a prize is enhanced? Some competitions provide an option to revise conditions and prize funding each year. In sum, policymakers may want to consider their responses to the following questions when developing legislation for a federally-funded innovation inducement prize: Should the legislation be general, providing federal agencies with an overview of the prize goals, or specific, detailing instructions to the agency regarding the prize competition? Such details may include the goals of the program, timeframe, award, participant eligibility, administration, contest rule determination, competition judges, intellectual property, liability, and program evaluation. How much flexibility should the agency have in determining the prize goals and in the administration of the prize? What should be the prize topic? Who should select it? (See Box 1 . ) What should be the goals of the program? What is the relative importance, for example, of technological advancement, education, and public awareness? Should there be a timeframe associated with the prize? Should there be a monetary award associated with the prize? If so, for how much? If not, is the publicity associated with winning the prize sufficient to encourage quality contestant participation? Should there be intermediary prizes? Who should be eligible to participate in the competition? For example, should employees of federal agencies or Federally Funded Research and Development Centers (FFRDCs) or Government-Owned, Contractor-Operated (GOCO) laboratory employees be allowed to compete? If so, can they use federal funds and facilities? Should foreign entities, such as non-U.S. citizens, corporations, or U.S. subsidiaries of foreign-owned corporations, be allowed to compete? Who should administer the program? For example, should a federal agency administer the program independently, do so in partnership with other federal agency or non-federal organizations, or act as a financial or non-financial partner in a competition administered by a non-federal organization? Should the competition be "first-past-the-post" or "best in class"? What happens to a financial prize if there is no winner? Who should determine the contest rules? Who should judge the competition? Should there be an appeal process? What are the criteria for the program to be considered successful? Should the program be evaluated? If so, by whom? When should that organization become involved? Answering some of these questions may be challenging for policymakers without the guidance of the science and technology community and those experienced in the administration of prize competitions. In addition, the constantly changing nature of science and engineering due to new discoveries and innovation may also influence the need to provide sufficient flexibility in prize legislation. Congress may decide that an existing program needs modification to meet national goals. The legislation authorizing prizes varies. Some legislation is specific in terms of how the prize is managed and how the winner is determined, while in other cases, the legislation is general and leaves such decisions up to the agency administering the prize. In addition, some prizes are authorized for only a specific period of time, and Members of Congress may wish to modify that timeframe. Members of Congress may wish to modify the management and conditions under which a prize is given based on information they receive from stakeholders. Examples of possible stakeholders include organizations and individuals from universities, schools, science and engineering societies, trade associations, business, industry, venture capital groups, early-stage investors, philanthropic organizations, nongovernmental organizations, and foundations. If policymakers are interested in increasing oversight of a federally-funded innovation inducement prize, they may wish to focus on whether or not the goals of the prize were achieved and its objectives clearly communicated, and how well the program was administered. There have been few external studies of prize effectiveness relative to alternatives, particularly federally-funded prizes. The prizes currently in place, therefore, provide an opportunity for policymakers to determine through their oversight mechanisms whether existing prizes should be discontinued or enhanced, and new prizes authorized. Possible prize evaluation criteria, by category, for evaluating the program include whether the contest— Supply of Technology enhanced advanced innovation, or led to related innovations; identified new or unorthodox ideas or approaches to particular challenges; demonstrated the feasibility or potential of particular technologies; solved a challenging, well-defined problem requiring innovation; highlighted a range of best practices, ideas, or opportunities within a field; focused attention on, set standards in and/or influence perception of a particular field or issue; Demand for Technology promoted development and diffusion of specific technologies; emulated market incentives, driving down costs through competition and exposing latent demand; Scientific and Technical Community educated and changed behavior of participants through the prize process; celebrated and strengthened a particular community; registered large numbers of contestants, and those from a more diverse group than the traditional constituency for that agency; Public Awareness educated the public about the excitement and usefulness of research and innovation. enhanced public awareness of and interest in the issue or federal agency Prize Administration addressed intractable or neglected societal challenges; attracted private sources of funds to support the research activities of contestants, augment the prize purses, or provide in-kind services; functioned well with appropriate prize rules and processes. This section describes the activities in the 111 th Congress regarding federally-funded innovation inducement prizes. In the Omnibus Appropriations Act, 2009 ( P.L. 111-8 ), Congress indicated that funds for announced, authorized prizes at NASA shall remain available, without fiscal year limitation, until the prize is claimed or the offer is withdrawn. During the FY2010 appropriations process, NASA, requested $4.0 million for its Centennial Challenges program. No funding was provided in FY2009. In H.Rept. 111-149 , the House recommended not providing this funding due to "affordability considerations." Several Members of Congress have also introduced legislation in the 111 th Congress that would establish prizes on several science and engineering topics. Each of these is described below. H.R. 41 would provide for federal research, development, demonstration, and commercial application activities to enable the development of farms that are net producers of both food and energy, and for other purposes. It would direct the Secretary of Energy to enter into an arrangement with the National Academy of Sciences to evaluate the feasibility of a prize and best practices award programs as tools to promote self-powered farms and, if feasible, make recommendations for carrying out such programs. The Voting Integrity and Verification Act of 2009 ( S. 48 ) would require the Director of the National Institute of Standards and Technology (NIST) to establish a program to award cash prizes competitively to eligible persons that advance the research, development, demonstration, and application of voting systems specifically designed to enhance accessibility and provide independence for persons with disabilities during the voting process. The New Manhattan Project for Energy Independence Act ( H.R. 513 ) would award a prize for the development and manufacturing of energy technologies that meet a number of economic, technical, and societal criteria including a plug-in hybrid vehicle, alternative fuel vehicle, electric vehicle, hydrogen fuel cell vehicle, or other alternative technology vehicle; an energy efficient residential or commercial building; a large scale solar thermal power plant or solar photovoltaic power plant; biofuels; carbon capture and storage system for a large scale coal-burning power plant; validated process for remediation of radioactive waste; or sustainable nuclear fusion reaction. The DOE would administer a prize program with monetary awards to advance the research, development, demonstration, and commercial application necessary to achieve these goals with a prize for each. Other goals include broad participation by researchers, large and small businesses, institutions of higher education, and any other qualified applicants, including veterans. In developing the prize, DOE is to consult with other federal agencies, including NSF; and may consult with other experts such as private organizations, including professional societies, industry associations, and the National Academy of Sciences and the National Academy of Engineering. The Nanotechnology Innovation and Prize Competition Act of 2009 ( S. 596 ) directs the Secretary of Commerce, through the NIST Director to establish a program to award prizes for achievement in the applications of nanotechnology for: (1) improvement of the environment, consistent with Twelve Principles of Green Chemistry of the Environmental Protection Agency (EPA); (2) development of alternative energy that has the potential to lessen the dependence of the United States on fossil fuels; (3) improvement of human health, consistent with regulations promulgated by the Food and Drug Administration (FDA); and (4) development of consumer products. The bill would appoint a board to oversee the program and require it to submit an annual report to Congress. It provides the board with the option of contracting with a private organization to administer the prize. That board could either make a financial award to the first competitor to meet criteria established by the board, or recognize individuals for superlative achievement in one or more of these nanotechnology applications and recommend to the Secretary of Commerce that the President award the National Technology and Innovation Medal (which would not have a financial award). The Cybersecurity Act of 2009 ( S. 773 ) would require the NIST Director to establish cybersecurity competitions and challenges with cash prizes to attract, identify, evaluate, and recruit talented individuals for the Federal information technology workforce, and stimulate innovation in basic and applied cybersecurity research, technology development, and prototype demonstration that have the potential for application to the federal information technology activities of the federal government. The program would target its competitions and challenges to different groups including high school students, undergraduate students, graduate students, and academic and research institutions. Competition topics are to be developed by the NIST Director based on consultations with organizations both within and outside the federal government, and may establish advisory committees to provide additional guidance. To carry out this program, $15 million would be authorized to be appropriated to NIST for each of FY2010 through FY2014. The New Options Petroleum Energy Conservation Act of 2009 ( H.R. 1794 ) would require that the Secretary of Energy establish a program to award a $1 billion prize to the first automobile manufacturer incorporated in the United States to manufacture and sell in the United States 60,000 midsized sedan automobiles that operate on gasoline and can travel 100 miles per gallon.

Since at least the 18th century, philanthropic organizations, industry, governments, and nongovernmental organizations throughout the world have offered many different kinds of prizes with a variety of objectives to reward accomplishments in science and technology. In the United States, Congress authorized most of today's federally-funded innovation inducement prizes beginning with the 108th Congress (2003). This analysis focuses on federally-funded "innovation inducement prizes," which are sponsored by federal organizations and designed to encourage scientists and engineers to pursue scientific and technical societal goals not yet reached. The objectives of such prizes are generally to identify new or unorthodox ideas or approaches to particular challenges; demonstrate the feasibility or potential of particular technologies; promote development and diffusion of specific technologies; address intractable or neglected societal challenges; and educate the public about the excitement and usefulness of research and innovation. They differ from "recognition prizes" such as the National Medal of Science, National Medal of Technology, and the Nobel prizes, which reward past S&T accomplishments. The scientific and technological goals for federally-funded innovation inducement prizes include the full spectrum of research, development, testing, demonstration, and deployment. They are an alternative to more traditional ways of achieving societal objectives with S&T such as grants, contracts, fees, patents, and human or physical infrastructure investments that some think are too costly, risk-averse, and bureaucratic. Some believe that prizes, if designed well, can enhance the ability of science and technology to solve societal problems, by reaching a wider community of problem solvers, encouraging risk-taking, and focusing the attention of policymakers, entrepreneurs, the public, and researchers on the goals of an innovation program. Concerns about prizes are that they may inhibit the exchange of information among researchers and innovators due to the very nature of competitions, be challenging to design and finance, and result in duplicative work which may not be the best use of limited intellectual and financial resources. Prizes differ in their intentions, objectives, sources of funding, competition mechanisms, reward structure, and other variables. The prizes themselves may take the form of recognition and publicity, cash, marketing monopolies, or other means. When a cash award is provided, most range from $250,000 to $2 million, can go up as high as $10 million, and have exceeded $500 million when the winner provides a service such as a vaccine. Some experts view the non-compensation portion of prizes such as recognition and publicity, as important, and sometimes more important, than the potential financial reward. Members of Congress interested in federally-funded innovation inducement prizes may wish to consider several policy options including creating new prizes, and modifying or increasing oversight of current prize programs. In the 111th Congress, policymakers may make decisions that influence whether or not current prize programs will be funded, and existing programs modified. Some policymakers have proposed new prizes on technologies such as self-powered farms, voting systems designed for persons with disabilities, energy technologies, nanotechnology, cybersecurity, and automotive energy efficiency.

Venezuela continues to be in the throes of a deep political crisis under the authoritarian rule of President Nicolás Maduro. Narrowly elected to a six-year term in 2013 following the death of longtime populist President Hugo Chávez (1999-2013), Maduro is unpopular. Despite serious economic challenges and recurring protests, Maduro has various policies, including use of the courts and security forces, to repress and divide the political opposition. The Maduro regime has been accused of committing serious human rights abuses; creating a deepening humanitarian crisis in Venezuela; establishing an illegitimate legislature, the National Constituent Assembly, which has usurped power from the democratically elected National Assembly; engaging in rampant corruption; and persecuting the political opposition. Underpinning the political crisis is an acute and increasingly unstable economic crisis. Venezuela's economy is built on oil, which accounts for more than 90% of the country's exports. The 2014 collapse in oil prices hit Venezuela's economy hard. Venezuela's economy has contracted by 35% since 2013, a larger contraction than the United States experienced during the Great Depression in the 1930s. In addition, the crisis is marked by inflation, shortages of consumer goods, default on the government's debt obligations, and deteriorating living conditions with significant humanitarian consequences. Congress has long-standing interests in both U.S.-Venezuela relations and foreign economic crises that affect U.S. economic interests. This report analyzes the economic crisis in Venezuela, arguably the most acute crisis in the global economy today, including the causes, policy responses by the government, and recent developments. The report also examines how the crisis affects U.S. economic interests, including U.S. investors' holdings of Venezuelan bonds, Venezuelan assets in the United States, U.S.-Venezuelan trade and direct investment, and possible future involvement of the International Monetary Fund (IMF) in the crisis. For decades, Venezuela was one of South America's most prosperous countries, but now lags behind other key economies in the region ( Figure 1 ). Venezuela has the world's largest proven reserves of oil in the world, and its economy is built on oil. Oil accounts for more than 90% of Venezuelan exports and oil sales fund the government budget. Oil exports also provide the country with the foreign exchange it needs to import consumer goods. After years of economic mismanagement under President Hugo Chávez, Venezuela was not well equipped to withstand the sharp fall in oil prices in 2014. Economic conditions have deteriorated rapidly under President Maduro. In November 2017, the government's increasingly dire fiscal situation came to a head, as the government announced it would seek to restructure its debt. Venezuela benefited from the boom in oil prices during the 2000s. When Hugo Chávez took office in 1999, oil was $10 a barrel. Oil prices steadily rose over the following several years, reaching a peak of $133 a barrel in July 2008. Between 1999 and 2015, the Venezuelan government earned nearly $900 billion from petroleum exports, with about half ($450 billion) earned between 2007 and 2012 (Chávez's second term). President Chávez used the oil windfall to spend heavily on social programs and expand subsidies for food and energy. Social spending as a share of GDP rose from 28% to 40% between 2000 and 2013, a much bigger rise than in Latin America's other large economies. Chávez borrowed against future oil exports, running budget deficits in nine of the years when he was in office (1999-2013). Venezuela's public debt more than doubled between 2000 and 2012, from 28% of GDP to 58% of GDP. Additionally, Chávez used oil to expand influence abroad, for example through Petro C aribe , a program that allowed Caribbean countries to purchase oil at below-market prices. The Chávez government also engaged in widespread expropriations and nationalizations, with the number of private companies dropping from 14,000 in 1998 to 9,000 in 2011. It also adopted currency and price controls. Substantial government outlays on social programs helped Chávez gain political favor and drive down poverty rates in Venezuela, from 37% in 2005 to 25% in 2012. However, widespread economic mismanagement had long-term consequences. Government spending was not directed toward investment that could have helped increase economic productivity and reduce its reliance on oil. Expropriations and nationalizations discouraged foreign investment that could have provided the country with increased expertise and capital. Price controls created market distortions and stifled the private sector. Economic growth and poverty reduction in Venezuela lagged behind the rest of South America. When Nicolás Maduro was elected President in April 2013, he inherited economic policies that were broadly viewed as unsustainable and overly reliant on proceeds from oil exports. When oil prices crashed in 2014, the Maduro government was ill-equipped to soften the blow to the Venezuelan economy. While many other major commodity producers used the boom years to build foreign exchange reserves or sovereign wealth funds to mitigate risks from big swings in commodity prices, the Chávez government created no such stabilization fund to guard against a potential future fall in oil prices. Instead, Chávez had borrowed on the expectation that oil prices would remain high. The crash in oil prices led to a sharp decline in government revenue and, combined with the government's policy choices, triggered a broad economic crisis. Venezuela's economy is estimated to have contracted by nearly 35% between 2012 and 2017. The fall in oil prices strained public finances; instead of adjusting fiscal policies through tax increases and spending cuts, the Maduro government tried to address its growing budget deficit by printing money, which led to inflation. Inflation, about 20% in 2012, was projected to exceed 1,100% by the end of 2017. The government has tried to curb inflation through price controls, although these controls have been largely ineffective in restricting prices, as supplies have dried up and transactions have moved to the black market. Unemployment in Venezuela is forecast to reach 26% in 2017, more than triple the level of unemployment in 2012. Table 1 provides a snapshot of changes in key economic indicators for Venezuela since 2013. Until recently, the Maduro government had committed to repaying its debts despite tight resources, fearing the legal challenges from creditors that plagued Argentina for more than a decade after its default in 2001. Such legal challenges against the Venezuelan government could result in the seizure of Venezuela's overseas assets, such as CITGO, a subsidiary of Venezuela's state oil company, Petróleos de Venezuela, S.A. (PdVSA); oil shipments; and cash payments for oil exports. Maduro's commitment to debt service came at a high cost: to meet its international payments, the government tightened restrictions on access to foreign currency, imposed price controls, and cut imports. Venezuela's imports of goods fell from $62.9 billion in 2013 to $21.4 billion in 2016. Venezuela relies heavily on imports for most consumer goods, and cuts to imports led to severe shortages of food and medicine, creating a humanitarian crisis. The Venezuelan government pursued a variety of policies to fill its funding gaps and avoid default. The government approached allies China and Russia for financing, securing loans to be repaid through future oil exports ("oil-for-loan" deals), although it fell behind on these deals. In May 2017, the Venezuelan central bank raised funds through the sale of $2.8 billion in PdVSA bonds to Goldman Sachs Asset Management at a steep discount (Goldman paid $865 million). The deal was controversial, and the government had difficulty finding buyers for a similar transaction in subsequent months. The Venezuelan government was running out of foreign exchange reserves to make debt payments, with official reserves down from $21.5 billion at the end of 2013 to $10 billion in the third quarter of 2017. In August 2017, new U.S. sanctions exacerbated the government's precarious fiscal position. Specifically, the August 2017 sanctions restrict Venezuela's ability to borrow from U.S. investors or access U.S. financial markets. The Maduro government is pursing the creation of a new currency, "petros" backed by oil, gas, gold, and diamonds, as a way to circumvent sanctions. After months of speculation about if and when Venezuela would default, on November 2, 2017, President Maduro announced in a televised address that the country would seek to restructure and refinance its debt. The announcement signaled a significant shift in policy and highlighted the government's dire fiscal situation, but Maduro provided few details about how the restructuring would proceed. While it is difficult to find reliable data on the composition of Venezuelan debt, it is estimated that Venezuela owes about $64 billion to bondholders, $20 billion to China and Russia, $5 billion to multilateral lenders (such as the Inter-American Development Bank), and tens of billions to importers and service companies in the oil industry. Maduro blamed U.S. sanctions for Venezuela's need to restructure, arguing that U.S. sanctions made it impossible for the government to find new financing. Any comprehensive restructuring of Venezuelan debt is expected to be a long and complex process, due to the following factors: the number of parties involved, including hundreds or even thousands of bondholders who are in the early stages of organizing, as well as China and Russia, whose lending to Venezuela may be driven in part by geopolitical considerations; legal challenges likely to be initiated by bondholders, which could take years to resolve and could result in the seizure of Venezuelan assets in the United States, including CITGO (owned by PdVSA), oil shipments, and cash payments for oil; differences in legal provisions in different bonds, including differences between the sovereign and PdVSA bonds; U.S. sanctions, which prohibit U.S. investors from accepting any new debt issued in a debt restructuring or from engaging with Vice President Tareck El Aissami and Economy Minister Simon Zerpa, who are leading the debt negotiations and subject to U.S. sanctions for drug-trafficking and corruption charges; and lack of any economic reform agenda in Venezuela to accompany the restructuring, such as an IMF program. Maduro stressed his promise to continue debt service during negotiations with creditors, likely an effort to evade legal challenges from bondholders. However, the government and PdVSA missed some bond interest payments in mid-November, leading credit rating agencies and a New York-based derivatives group (the International Swaps and Derivatives Association, ISDA) to issue default notices. To advance its goal of debt restructuring, the Venezuelan government organized a bondholders meeting in Caracas on November 13, 2017. The meeting, while touted by the government as a sign of good faith in negotiations with creditors, provided little insight into how negotiations would proceed. Reportedly the bondholder meeting was sparsely attended, no bondholders were allowed to ask any questions publicly, and the meeting concluded after 30 minutes. Critics have also questioned why the government appointed two sanctioned individuals to lead its negotiating team. Some analysts have tried to parse Maduro's strategy, if any exists, for dealing with private bondholders. Maduro's stated goal of restructuring and subsequent default notices drove down the value of Venezuelan debt trading in secondary markets. Some analysts have argued that this was Maduro's intent, and strengthens the government's hand in restructuring negotiations. There is also some speculation that the Venezuela government will strategically default on its government bonds, but not the PdVSA bonds. The reasoning is that it may be harder to seize the government's assets rather than a company's assets, but it is unclear how the strategy would play out in courts given the tight linkages between the government and PdVSA. Although China and Russia have both provided financial support to Venezuela, the two creditor governments are increasingly taking divergent approaches to Venezuela's mounting fiscal problems. In mid-November, Russia agreed to restructure $3.15 billion in debt owed by Venezuela on favorable terms, despite Russia's own fiscal pressures. This eased the fiscal pressures facing the Venezuelan government, and demonstrates the geopolitical significance of Venezuela to Russia. In contrast, China seems to give priority to the economic value of its investments in Venezuela over geopolitical concerns. In late November, a U.S. subsidiary of Sinopec, one of China's biggest state-owned oil companies, sued PdVSA in a U.S. court for late payments. PdVSA settled with the subsidiary in December, perhaps showing the importance to Venezuela of maintaining good relations with the Chinese government. It appears to be the first legal challenge to Venezuela relating to its debt payment obligations. In addition to restructuring debt owed to Russia, the Venezuelan government is seeking sources of cash to keep its finances afloat. In December, the government secured a $400 million credit line from the Latin American Development Bank ( Corporacion Andina de Fomento , CAF), of which the United States is not a member. In October 2017, the IMF projected Venezuela's economy to contract by 6% in 2018 and 2% in 2019. These projections have been substantially revised since the government announced plans to restructure its debt and was declared in default by several credit rating agencies. In December 2017, the Economist Intelligence Unit projected that Venezuela's economy will contract by 11.9% in 2018 and 5.4% in 2019, a more significant contraction in economic growth than it or the IMF envisioned just two months prior. Venezuela is running a relatively large budget deficit, estimated at 18.5% of GDP in 2017. It is unclear how restructuring and/or default will impact Venezuela's finances, in part because it is unclear whether the government intends, or will be able, to continue repaying debts during the negotiations. If the government does suspend debt repayments, it could in the short term redirect funds to domestic objectives such as increasing imports of food and medicine, which could help bolster domestic political support for the Maduro regime. In the longer term, however, suspending payments to creditors could result in a substantial loss of government revenue, if creditors are able to seize oil exports or funds tied to oil exports. While there has been minimal spillover of Venezuela's economic crisis in broader global financial markets, the crisis has a number of policy implications for U.S. economic interests. Venezuela's economic and broader political crisis, combined with low oil prices, has contributed to a contraction in U.S.-Venezuela trade, and some major U.S. firms operating in Venezuela have left or curtailed operations. Many U.S. investors hold Venezuelan government and PdVSA bonds, and U.S. investors could suffer losses and become involved in complicated legal proceedings against the Venezuelan government. There are also concerns that dealings between PdVSA and the Russian state-oil company Rosneft could result in Rosneft taking partial ownership of PdVSA's Texas-based subsidiary, CITGO. The combination of low oil prices, Venezuela's declining oil production, and the overall decline in U.S. oil imports, as well as the country's major political and economic crisis, has contributed to a sharp decrease in U.S. trade with Venezuela. U.S. commodity exports to Venezuela have fallen by 60% since 2013, from $13.2 billion to $5.2 billion in 2016. U.S. commodity imports from Venezuela have fallen by about two-thirds since 2013, from $32.0 billion to $10.9 billion in 2016. The contraction in U.S.-Venezuela trade is more consequential for Venezuela than the United States. From the U.S. perspective, Venezuela is a relatively minor trading partner. U.S. imports to and exports from Venezuela accounted for less than 1% of U.S. global merchandise imports and exports in 2016. From the Venezuelan perspective, however, the United States is a critical partner. In 2016, the United States was Venezuela's largest trading partner, accounting for 22% of Venezuela's exports and 26% of Venezuela's imports. In terms of sectors, U.S.-Venezuela trade is dominated by oil. Oil accounts for more than 95% of U.S. merchandise imports from Venezuela. Most of the oil imported to the United States from Venezuela is crude oil, and Venezuela is the United States' third-largest source of crude oil imports, behind Canada and Saudi Arabia. The value of U.S. oil imports from Venezuela has fallen from $43.3 billion in 2011 to $10.9 billion in 2016. The United States exports a relatively small amount of refined oil to Venezuela ($1.7 billion), as well as light crude oil (used as a diluent for blending with Venezuelan heavy crude oil) to a PdVSA oil refinery and storage facility in Curacao. Beyond oil, top U.S. merchandise exports to Venezuela in 2016 included machinery ($847 million), cereals ($394 million), organic chemicals ($324 million), and electrical machinery ($290 million). For each of these commodities, the value of U.S. exports to Venezuela has dropped between 40% and 75% since 2013. In contrast, U.S. exports of services, estimated at $6.0 billion in 2016, has held relatively steady through the crisis. Major U.S. service exports to Venezuela include transportation, intellectual property (audiovisual-related products), and travel sectors. Although Venezuela accounts for less than 1% of total U.S. direct investment overseas, many U.S. companies have set up subsidiaries or manufacturing facilities in Venezuela. According to the State Department, more than 500 U.S. companies were represented in Venezuela in mid-2016. However, in response to the political and economic instability, several large U.S. companies have left Venezuela, curtailed operations there, or restructured subsidiaries to minimize the exposure of parent companies. Examples include Bridgestone (tire and rubber products), Colgate (household and personal care products), Delta (airline), GM (cars), Kimberly Clark (paper-based products), Mondelez (snacks), Pepsi (soft drinks), and United Airlines. Many analysts view the risk of expropriation in Venezuela as high, given the tight fiscal conditions facing the Maduro government and the past unpredictable nationalizations in various sectors under Presidents Chávez and Maduro. The United States also does not have a bilateral investment treaty or free trade agreement with Venezuela that could provide investors protection. In November 2017, five U.S. citizens were among the CITGO executives detained in Venezuela, heightening U.S. tensions with the government. Such action will likely continue to deter U.S. economic activity in Venezuela. U.S. investors could face substantial losses if Venezuela suspends payment or seeks an aggressive restructuring of its debt. Although it is difficult to find reliable data on the holdings of Venezuela's external debt obligations, Venezuelan bonds are included in the popular JP Morgan Emerging Markets Bond (EMBI) index, and are believed to be widely held among U.S. investors.  However, concerns about the country's outlook have caused some investors to sell their holdings of Venezuelan and PdVSA bonds. According to one survey, nearly 41% of the 81 U.S.-based emerging-market debt funds have zero exposure to Venezuela, down from 34% a year ago. Following the government's announcement that it intends to restructure its debt, bondholders are in the early stages of organizing to enter potential restructuring negotiations with the government and/or pursue legal challenges to the restructuring. A number of U.S.-based firms have been reported as being involved in efforts to organize and advise creditors, including Cleary Gottlieb (a law firm that frequently represents debtor governments in debt restructurings), Greylock Capital (a hedge fund), the Institute of International Finance (a global association of the financial industry based in Washington, DC, which played a critical coordinating role in Greece's 2012 debt restructuring), and Millstein & Co. (a law firm frequently involved in sovereign debt restructurings). Reportedly, some U.S. firms are also exploring advising the Venezuelan government in the restructuring, but these efforts are complicated by U.S. sanctions. Venezuelan government and PdVSA dollar-denominated bonds were largely issued under New York law. If the Venezuelan government or PdVSA defaults, it is expected that bondholders would seek repayment through legal challenges against the Venezuelan government or PdVSA in the U.S. legal system. These legal challenges would presumably be similar to the court cases filed by bondholders against the Argentine government after Argentina's default in 2001. The dispute between the Argentine government and creditors took 15 years to resolve. Venezuela's restructuring and likely legal challenges are widely expected to be more complex, largely due to Venezuela's significant overseas assets that could be seized by creditors. Companies that have been subject to expropriation by the Venezuelan government are also seeking claim to Venezuelan assets in the United States. It is not clear the assets would be large enough to compensate all claimants, meaning that U.S. bondholders could still face substantial losses. In 2016, PdVSA secured a $1.5 billion loan from the Russian state-oil company Rosneft. PdVSA used 49.9% of its shares in CITGO as collateral for the loan. If PdVSA defaults on the loan from Rosneft, Rosneft would likely gain the 49.9% stake in CITGO. CITGO, based in Texas, owns substantial energy assets in the United States, including three oil refineries, 48 terminal facilities, and multiple pipelines. Some policymakers are concerned that Rosneft could gain control of critical U.S. energy infrastructure and pose a serious risk to U.S. energy security. There are also questions about whether the transaction would be compliant with U.S. sanctions on Rosneft. In a hearing before the Senate Banking Committee in May 2017, Treasury Secretary Mnuchin indicated that any such transaction would be reviewed by the Committee on Foreign Investment in the United States (CFIUS). At the end of August, it was reported that the Trump Administration stands ready to block the transaction. Reportedly, Rosneft is negotiating to swap its collateral in CITGO for oilfield stakes and a fuel supply deal. In December, Venezuela awarded licenses to Rosneft to develop two offshore gas fields, but it is unclear if this deal is related to the CITGO collateral. Congress is considering using nongovernmental organizations to provide humanitarian aid to Venezuela, including food and medicine, to address its humanitarian crisis. It appears unlikely that the Venezuelan government would accept U.S. assistance at this time. However, if the Maduro government or a new government in Venezuela engages in a significant reorientation of policy, U.S. policymakers might pursue options to provide broader economic support to rebuild Venezuela's economy. In addition to lifting sanctions that restrict Venezuela's access to the U.S. financial system, policymakers might explore how the international community, particularly the IMF, could provide an international financial assistance package, and whether debt incurred by the National Constituent Assembly, widely viewed as an illegitimate legislature, should be enforced. If there is no significant change in Venezuelan policies, the United States may reconsider its policy stance and potentially pursue harsher sanctions against the government. In multilateral and bilateral aid packages for countries experiencing crises, IMF programs are typically the seal of approval on a government's policies and the linchpin for commitments from other multilateral and bilateral donors. Venezuela has a tenuous relationship with the IMF; in fact, for more than a decade, the Venezuelan government has not permitted the IMF to engage in routine surveillance of its economy. In November 2017, the IMF formally found Venezuela to be in violation of its surveillance commitments, a process that could eventually lead to Venezuela being expelled from the institution. If the international community decided to move ahead with a package for Venezuela, an immediate consideration would be how to normalize relations between the Venezuelan government and the IMF. The United States is the IMF's largest shareholder, and would likely be an influential voice in any negotiations between the IMF and Venezuela. There are also questions about how an IMF or international assistance program would be designed to maximize its effectiveness. In particular, there may be questions about whether it is appropriate for funds in an international assistance package to be used to repay Venezuela's creditors, including private bondholders and/or the Chinese and Russian governments. Some may argue that any IMF funds be contingent upon debt restructuring with private and/or official creditors. There may also be debate about the size of a potential IMF assistance package for Venezuela. Preliminary estimates suggest that Venezuela could require financial assistance of $30 billion annually, possibly for several years. Such funding levels would likely require access to IMF resources above its normal lending limits, even if IMF funds are paired with other multilateral and bilateral funding. The IMF has procedures for extending loans above its normal limits, but exceptional access to IMF resources has come under greater scrutiny following the Eurozone crisis, during which exceptional access was controversially granted to several Eurozone countries. It is not clear whether a large IMF program for Venezuela would cause similar concerns about IMF lending practices, or whether there would be broad support for a substantial program, given the magnitude of Venezuela's crisis and the difficult humanitarian situation. If there is a change in government in Venezuela, another issue that may come to the forefront is "odious debt." Odious debt is a term and concept used by those who argue that debt incurred by a prior "illegitimate" regime that is not used for the benefit of the people should not be enforceable. Although the concept dates back to the 1920s, odious debt is not included in sovereign or international law, nor has it been invoked by any country restructuring its debts following a regime change. Some policy experts, as well as members of the opposition in Venezuela, are arguing that a new Venezuelan government may have standing to declare any debts incurred by the National Constituent Assembly, which came to power through elections widely viewed as flawed and illegitimate, as odious debt. Invoking the concept of odious debt to secure debt relief, if successful, could help ease the fiscal challenges facing Venezuela, but it would be unprecedented and raise a host of legal and public policy questions. There are differing views among policy experts about whether a new Venezuelan government would pursue such a strategy and whether it would be successful. Although the economic crisis in Venezuela has been building for years, in many ways it is still in the early stages, with no clear or quick resolution on the horizon, particularly given the concurrent political crisis. The country is facing a complex set of economic challenges embedded in a volatile political context: collapsed output, inflation, and unsustainable budget deficits and debt all plague the country. The government's policy responses, including price and import controls, vague restructuring plans, and deficit spending financed by expanding the money supply (printing money), have been widely criticized as inadequate and as exacerbating the economic situation facing the country. Over the past several decades, the international community has developed processes for helping countries respond to serious economic crises. These processes usually entail an international financial assistance package, paired with debt restructuring and an IMF reform program. In the case of Venezuela, the Maduro government has no such plan in place, nor has it shown any signs of pursuing such a program. Given the political situation there, it is unlikely that the international community is inclined to do so either. There are serious questions about how long the Maduro regime can persist amid such a severe economic crisis, but in recent months Maduro appears to have increasingly consolidated political power over the opposition. In terms of U.S. policy, the Trump Administration likely increased the fiscal challenges facing Venezuela's government through sanctions restricting Venezuela's access to the U.S. financial system. However, the sanctions are a double-edged sword. The sanctions are opposed by a majority of Venezuelan people, and may have boosted support for the Maduro regime. They also restrict the ability of U.S. investors to participate in any restructuring, and U.S. investors could face substantial losses if the Maduro regime suspends payments. Some analysts have called for stronger sanctions on Venezuela to force a change in government, but others have cautioned against potential harm to both the Venezuelan people and U.S. economic interests.

Venezuela's Economic Crisis: Overview Venezuela is facing a political crisis under the authoritarian rule of President Nicolás Maduro, who appears to have continued to consolidate power over the political opposition in recent months. Underpinning Venezuela's political crisis is an economic crisis. Venezuela is a major oil producer and exporter, and the 2014 crash in oil prices, combined with years of economic mismanagement, hit Venezuela's economy hard. Venezuela's economy has contracted by 35% since 2013, a larger contraction than the United States experienced during the Great Depression. Venezuela is struggling with inflation, shortages of food and medicine, substantial budget deficits, and deteriorating living conditions with significant humanitarian consequences. In response to the Maduro regime's increasingly undemocratic actions, the Trump Administration imposed sanctions restricting Venezuela's access to U.S. financial markets in August 2017, increasing fiscal pressure on the government. In November 2017, the Venezuelan government announced it would seek to restructure its debt. The government and the state-oil company, Petróleos de Venezuela, S.A. (PdVSA), subsequently missed key bond payments, leading credit rating agencies to issue default notices. Debt restructuring is expected to be a long and complex process, and it is unclear whether Venezuela will make coming debt repayments. The outlook for the economy is bleak; the Economist Intelligence Unit forecasts the Venezuelan economy will contract by 11.9% in 2018. Implications for U.S. Economic Interests The political crisis in Venezuela and low oil prices have contributed to a contraction in U.S.-Venezuela trade. Venezuela is a relatively minor trading partner of the United States; the contraction in bilateral trade is more consequential for Venezuela, for which the United States is its largest trading partner. In response to the political and economic instability, several large U.S. companies have left Venezuela or curtailed operations there. U.S. investors holding Venezuelan and PdVSA bonds could face substantial losses if Venezuela suspends payment or seeks an aggressive restructuring of its debt. Bondholders are in the early stages of organizing to enter restructuring negotiations and/or pursue legal challenges against the Venezuelan government. Venezuelan dollar-denominated bonds were issued under New York law, and bondholder lawsuits seeking repayment would take place in U.S. courts. Legal challenges could result in the seizure of Venezuela's assets in the United States, such as CITGO (whose parent company is PdVSA), oil exports, and cash payments for oil exports. Venezuela's precarious fiscal position also raises concerns for U.S. energy security. In 2016, Venezuela's state oil company PdVSA secured a loan from the Russian state-oil company Rosneft. PdVSA used 49.9% of its shares in CITGO as collateral. If PdVSA defaults on its Rosneft loan, it is not clear whether Venezuela's portion of CITGO ownership would be transferred to Rosneft. Reportedly, Rosneft is negotiating to swap its collateral in CITGO for other PdVSA assets. Looking Ahead Congress is considering providing humanitarian aid to Venezuela through nongovernmental organizations. If the Maduro government or a new government in Venezuela engages in a significant reorientation of policy, U.S. policymakers may be interested in providing broader economic support to rebuild Venezuela's economy. Policymakers might explore how the international community, particularly the International Monetary Fund (IMF), could provide an international financial assistance package, and whether debt incurred by the National Constituent Assembly, widely viewed as an illegitimate legislature, should be enforced. If the Maduro regime stays in power and does not reorient its policies, the United States may revisit its policies and potentially pursue harsher sanctions. For additional information on Venezuela from CRS, see CRS Report R44841, Venezuela: Background and U.S. Policy; CRS In Focus IF10230, Venezuela: Political and Economic Crisis and U.S. Policy; and CRS In Focus IF10715, Venezuela: Overview of U.S. Sanctions.

The federal Lifeline program, established in 1985 by the Federal Communications Commission (FCC), assists qualifying low-income consumers to gain access to and remain on the telecommunications network. The program assists eligible individuals in paying the reoccurring monthly service charges associated with telecommunications usage. While initially designed to support traditional landline service, in 2005 the FCC expanded the program to cover either a landline or a wireless/mobile option. On March 31, 2016, the FCC adopted an Order (2016 Order or Order) to once again expand the program to make broadband an eligible service. The Lifeline program is available to eligible low-income consumers in every state, territory, commonwealth, and on tribal lands. The Universal Service Administrative Company (USAC), an independent not-for-profit corporation, established by the FCC in 1997, is the designated administrator of the Universal Service Fund (USF) and the related support programs of which the Lifeline Program is a part. USAC administers the USF programs on behalf of the FCC. As an administrative and oversight entity, USAC does not set or advocate policy, or interpret statutes, policies, or FCC rules. The Lifeline program provides a discount in most cases of up to $9.25 per month, for eligible households to help offset the costs associated with use of the telecommunications network. The program provides a subsidy for network access for one line, either a landline or wireless/mobile option, per eligible household and does not provide a subsidy for devices (i.e., handsets or customer premises equipment). The 2016 Order has expanded the scope of the program to provide subsidies for broadband adoption. The Order provides support for stand-alone mobile or fixed broadband, as well as combined bundles of voice and broadband, and sets minimum broadband and mobile voice standards for service offerings. The Order phases down and eventually eliminates support, in most cases, for stand-alone voice services. The one line per eligible household limitation and the prohibition on support for devices remain. Most providers that offer a prepaid wireless option currently offer a wireless phone to the subscriber at no charge. The cost of this device is not covered under the Lifeline program but is borne by the designated provider. Misinformation connecting the program to payment for a "free phone" has resulted in numerous queries. Yes. There are some differences in the program for those living on tribal lands. Tribal lands are defined as any federally recognized Indian Tribe's reservation, pueblo, or colony, including former reservations in Oklahoma, Alaska, Native regions, Hawaiian Home Lands, or Indian Allotments. For those providing Lifeline service to eligible consumers living on tribal lands the Lifeline program subsidy is $34.25 ($9.25 in general support plus additional support of up to $25 per month). In addition assistance programs unique to those living on tribal lands (e.g., Bureau of Indian Affairs general assistance [BIA general assistance]) may also be used to certify subscriber eligibility. Subscribers living on tribal lands are also eligible for additional assistance under the FCC's Link Up Program. This program, while established by the FCC in 1987 for the general eligible population, was restricted in 2012 solely to those residing on tribal lands. The Link Up program assists eligible subscribers to pay the costs associated with the initiation of service and provides a one-time discount of up to $100 on the initial installation/activation of the service for the primary residence. Under the program, subscribers may pay any remaining amount on a deferred schedule interest free. A subscriber may be eligible for Link Up for a second or subsequent time only when moving to a new primary residence. Link Up support is not available to all providers offering service, but only to those who are building out infrastructure on tribal lands. Therefore, eligible subscribers residing on tribal lands may receive a monthly subsidy of up to $34.25 in Lifeline support plus a one-time initiation of service discount of up to $100 for Link Up support. To participate in the program, a consumer must either have an income that is at or below 135% of the federal poverty guidelines or be enrolled in certain qualifying needs-based programs (e.g., Medicaid). USAC has an eligibility pre-screening tool available which may assist consumers in determining eligibility. Once enrolled in the program, participants are required to verify their eligibility on a yearly basis. If a program recipient becomes ineligible for the program (e.g., due to an increase in income or de-enrollment in a qualifying program) the recipient is required to contact the provider and de-enroll from the program. Failure to de-enroll can lead to penalties and/or permanent disbarment from the program. Consumers can apply for Lifeline by contacting a Lifeline program provider in his or her state or through the state-designated public service commission. To locate a state-designated provider the consumer may call USAC's toll free number (1-888-641-8722) or access USAC's website. The National Association of Regulatory Utility Commissioners (NARUC) provides a listing of contact information for state public utility commissions. The provider, selected by the enrollee, will provide a Lifeline application form, upon request, to complete. Information required includes name, address, date of birth, and the last four digits of the enrollee's social security or tribal identification number. If applying based on household income eligibility the enrollee will be required to show proof of income documentation. If applying based on program eligibility the enrollee will be required to show documentation proving program participation. (Providers are required to keep documentation demonstrating subscriber eligibility.) The provider will process the application form and enrollee information will be entered into a nationwide USAC database to verify enrollee identity and to verify that the household is not currently receiving a Lifeline program discount. The 2016 Order establishes an independent National Lifeline Eligibility Verifier (National Verifier), under the auspices of USAC, that removes the responsibility of determining Lifeline subscriber eligibility from service providers. The National Verifier will launch in six states, Colorado, Mississippi, Montana, New Mexico, Utah, and Wyoming, in December 2017, with use required for all verifications within those states by March 13, 2018. By December 31, 2018, 20 more states will join the National Verifier. By December 31, 2019, the FCC expects that all states and territories will be required to use the National Verifier to determine Lifeline eligibility. Once enrolled, participants must be recertified annually to confirm eligibility. Recertification can be done by the provider or the provider may elect for USAC to undertake the recertification on its behalf. If the provider chooses to recertify their own enrollees they may query databases that confirm that an enrollee meets program-based or income-based eligibility requirements or the provider may send the enrollee a yearly recertification letter. The letter requires the enrollee to certify that he or she is still eligible to receive the discount, and that no other household member is receiving a Lifeline discount. If no longer eligible, participants must de-enroll or will be removed from the program. Lifeline benefits are not transferable, even to other qualifying subscribers. If an enrollee is still eligible but does not meet the recertification deadline, the discount will be lost and the participant must re-enroll to regain the discount. Those enrolled under a pre-paid wireless option where there is no charge may be de-enrolled for nonusage. If the participant either does not initiate or use the service for 30 consecutive days the provider is required to automatically de-enroll the participant 15 days from notification. This gives the participant a total of 45 days in which to demonstrate usage. No. Enrollment is limited to one discount for either a landline or wireless connection, per household. A household is defined for Lifeline program eligibility as any individual, or group of individuals, who live together at the same address, that function as a single economic unit (i.e., share income and household expenses). All adult individuals (e.g., husband, wife, domestic partner, another related or unrelated adult) living at the same address that share expenses (e.g., food, living expenses) and shares income (e.g., salary, public assistance benefits, social security payments) would be considered part of a single household. If any one of these persons is enrolled in the Lifeline program no other member of that household is eligible. However it is possible that more than one household can reside in a single dwelling if they are separate economic units. Any violation of the one-per-household rule will result in de-enrollment from the program and may subject the enrollee to criminal and/or civil penalties. Providers must be certified as "eligible telecommunications carriers" to participate in the Lifeline program. That certification is given by the state or in some cases the FCC. In most cases the state public utility regulator establishes certification criteria and approves providers for participation in the program. However, for those providing service on tribal lands and in those cases where a state utility regulator does not have jurisdiction, certification is done by the FCC. A third alternative certification path for federal Lifeline Broadband Providers (LBPs), a subset of eligible telecommunications carriers, has been established as a result of the 2016 Order. Under this certification path LBP's may receive a designation from FCC staff to solely provide broadband Lifeline services to eligible subscribers and receive subsidies under the Federal Lifeline program. The LBP designation process is an alternative to the ETC process which remains in place. However, this federal designation process is currently not in use. Yes. A recipient may transfer the discount to another provider, but no more than once every 60 days for voice services and 12 months for data services. To transfer to a new provider the recipient must contact a provider that participates in the program and ask them to transfer the benefit to them. The recipient must provide selected information to verify identity (e.g., name, date of birth, address, last four digits of his or her social security number) as well as give consent acknowledging that the benefit with the previous provider will be lost and that the new provider has explained that there may not be more than one benefit per household. In most cases no service disruption should occur. Telecommunications carriers that provide interstate service and certain other providers of telecommunications services are required to contribute to the federal Universal Service Fund (USF) based on a percentage of their end-user interstate and international telecommunications revenues. These companies include wireline telephone companies, wireless telephone companies, paging service providers, and certain Voice over Internet Protocol (VoIP) providers. The USF (and its related programs including Lifeline) receives no federal monies. Some consumers may notice a "Universal Service" line item among their telephone charges. This line item appears when a company choses to recover its USF contributions directly from its subscribers. The FCC permits, but does not require, this charge to be passed on directly to subscribers. Each company makes a business decision about whether and how to assess charges to recover its universal service obligations. The charge, however, cannot exceed the amount owed to the USF by the company. No. The Lifeline program does not have a designated funding cap, or ceiling, but the 2016 Order does establish a budget-type mechanism. Funding for the Lifeline program can increase, decrease, or remain the same depending on program need as determined on a quarterly basis by USAC. According to USAC, authorized support for the Lifeline program peaked in 2012 at $2.18 billion and has continued to decline totaling $1.49 billion in 2015. The 2016 Order has established a nonbinding yearly funding ceiling of $2.25 billion, indexed to inflation. The funding ceiling for the calendar year beginning January 1, 2018, will be $2,279,250,000. The FCC has taken steps, including the following, to combat fraud, waste, and abuse in the Lifeline program: established an annual recertification requirement for participants receiving a Lifeline subsidy. The program requires those enrolled to certify, under penalty, on a yearly basis, that they are still eligible to receive the discount and that no one else in their household is receiving the Lifeline program discount; created a National Lifeline Accountability Database (NLAD) to prevent multiple carriers from receiving support for the same household; established an independent National Eligibility Verifier, under the auspices of USAC, to confirm subscriber eligibility. Prior to this the provider who received the subsidy verified subscriber eligibility; refined the list of federal programs that may be used to validate Lifeline eligibility; revised documentation retention to require providers of Lifeline service to retain documentation demonstrating subscriber eligibility; established minimum service standards for any provider that receives a Lifeline program subsidy; increased the amount and publication of program data; and undertakes enforcement actions against providers and subscribers who have broken program rules, resulting in fines and program disbarment.

The Federal Lifeline Program, established by the Federal Communications Commission (FCC) in 1985, is one of four programs supported under the Universal Service Fund. The Program was originally designed to assist eligible low-income households to subsidize the monthly service charges incurred for voice telephone usage and was limited to one fixed line per household. In 2005 the Program was modified to cover the choice between either a fixed line or a mobile/wireless option. Concern over the division between those who use and have access to broadband versus those who do not, known as the digital divide, prompted the FCC to once again modify the Lifeline program to cover access to broadband. On March 31, 2016, the FCC adopted an Order to expand the Lifeline Program to support mobile and fixed broadband Internet access services on a stand-alone basis, or with a bundled voice service. Households must meet a needs-based criteria for eligibility. The program provides assistance to only one line per household in the form of a monthly subsidy of, in most cases, $9.25. This subsidy solely covers costs associated with network access (minutes of use), not the costs associated with devices, and is given not to the subscriber, but to the household-selected service provider. This subsidy is then in turn passed on to the subscriber. The Lifeline program is available to eligible low-income consumers in every state, territory, commonwealth, and on tribal lands.

In 2010, the Dodd Frank Wall Street Reform and Consumer Protection Act ( P.L. 111-203 , 124 Stat 1394), also known as the Dodd-Frank Act (DFA), established a new regulatory framework to address financial market instability. Included in that framework was the creation of the Financial Stability Oversight Council (FSOC), which is composed of the heads of the agencies that regulate financial institutions and markets. Table 1 lists the member agencies. The FSOC has its own permanent staff in the newly created Office of Financial Research (OFR) that collects data on the financial system and provides information and technical expertise to the FSOC. OFR is housed within the Department of the Treasury, although it is funded separately. The FSOC is expected to facilitate communication among existing financial regulators intending to identify sources of financial instability that cross agency regulatory jurisdiction, or that reside in gaps in the financial regulatory framework. Congressional staff may be interested in the organization, actions, and assessments of the FSOC, especially if a systemic financial event were to occur, a covered non-bank financial institution were to fail, and when the Secretary of the Treasury offers testimony to Congress (which is required at least once per year when the annual report is released). The FSOC was created to address some of the perceived regulatory weaknesses that may have contributed to the magnitude of the financial crisis of 2008. These perceived weaknesses included identification of risks to the financial system as a whole; lack of coordination among financial regulators; inadequate supervision of large, complex financial institutions; and instabilities that might result from the failure or bankruptcy of a non-bank financial institution. The FSOC provides a common forum for financial regulators to evaluate and address risks to the stability of the financial system, including systemic risks that might emanate from less regulated non-bank financial institutions. The FSOC has the ability to classify (or "designate" as used in the law and this report) certain non-banks as systemic, and therefore subject to prudential supervision by the Federal Reserve (the Fed). Systemic firms with more than $50 billion in assets must also provide and maintain resolution plans (so-called living wills), which must be jointly approved by the Fed and the Federal Deposit Insurance Corporation (FDIC). The DFA establishes a regulatory framework of which the FSOC is a consultative council. The new regulatory regime has six basic policy tools with which to pursue its mission. 1. Coordination. The council facilitates communication among the heads of financial regulators. 2. Data collection and evaluation . The FSOC has a permanent staff with the ability to gather confidential financial information and the staff of the OFR are to be experts in the financial field. 3. Prudential regulation of certain non-banks . The FSOC establishes the criteria and designates which firms will be subject to additional prudential regulation by the Fed, including capital requirements, asset tests, and similar safety and soundness regulations. 4. Safety and Soundness Regulation of certain Financial Market Utilities . The FSOC establishes the criteria and designates which financial market utilities be subjected to safety and soundness regulation. An example of a financial market utility would be an organization that provides settlement and clearing services. 5. Resolution of non-banks. Upon a determination of a threat to financial stability, a covered non-bank in danger of failing may under certain conditions be resolved by the FDIC rather than through the bankruptcy process. 6. Evaluation of rules for consumer financial protection. The FSOC may set aside some financial regulations for consumers if the rules might cause systemic risk, under certain circumstances. The distinction between depository banks and non-bank financial firms is important to understanding the FSOC because many of the new powers attempt to create a regulatory and resolution regime for non-banks that is similar to the way depository banks are handled. The term bank , in this context, generally refers to financial institutions with bank, thrift, or credit union charters that offer loans and raise a large proportion of their funds through insured deposits. Insured depository banks have prudential regulators who monitor their assets and liabilities, including the ability to prevent concentrations in particular types of loans or reliance on particular funding sources. Prudential regulators of banks coordinate through the Federal Financial Institutions Examinations Council (FFIEC). Resolution of failing depository banks is done administratively by the FDIC (or NCUA for credit unions), not through the bankruptcy courts. Banks generally have access to liquidity facilities, such as the Federal Reserve discount window. The term non-bank refers to financial institutions that offer loans or other sources of capital, but do not have a bank charter and do not rely on deposits for their own funding. Prior to the financial crisis of 2008, investment banks, such as Bear Stearns and Lehman Brothers, were examples of large, complex, non-bank financial institutions, even though in some cases they may have had relatively small subsidiaries that accepted deposits (technically "thrifts"). The insurance company American International Group (AIG) is another example of a large non-bank financial institution that had a relatively small subsidiary that accepted deposits. Authority to regulate non-bank thrifts and their holding companies had resided in the Office of Thrift Supervision (OTS). Some non-banks accepted prudential regulation by the Securities and Exchange Commission (SEC). Bankruptcy courts were to handle failures among most non-banks, and non-bank subsidiaries of banks. The government-sponsored enterprises (GSEs), Fannie Mae and Freddie Mac, are large, complex financial institutions that did not accept deposits, but had their own prudential regulatory regime under the Office of Federal Housing Enterprise Oversight (now the Federal Housing Finance Agency, or FHFA). As then-Federal Reserve Governor Donald Kohn evaluated lessons from the financial crisis, "We [the Fed] traditionally have provided backup liquidity to sound depository institutions. But in the crisis, to support financial markets, we had to provide liquidity to non-bank financial institutions as well." In common parlance, people have sometimes referred to "too-big-to-fail" firms (TBTF), but what is typically meant are complex and interconnected financial institutions that may not rely on deposits for a large share of their funding, and whose failure may spread and magnify losses throughout the financial system—rather than absolute firm size. Governor Kohn expressed frustration for the perceived inadequacy of existing tools to deal with TBTF non-banks. Dissatisfaction with existing regulation grew with the progression of the mortgage crisis that began in August 2007, especially following extraordinary government support related to the failure of several large non-banks. Some of this support was designed to prevent some creditors of failing non-banks from protracted uncertainty in the bankruptcy courts or other resolution process. Similarly, for some qualified financial contracts, support may have been designed so that some creditors would not suffer losses in the bankruptcy process. For example, in March 2008, losses on mortgage-related securities caused the distress sale of investment bank Bear Stearns. The Fed provided financial support for the purchase of Bear Stearns by JPMorgan, avoiding the bankruptcy courts. In July 2008, the GSEs, Fannie Mae and Freddie Mac, had trouble raising additional capital. Policymakers tried unsuccessfully to enhance investor confidence by pledging financial support for the GSEs. Despite this pledge, in September 2008, Fannie Mae and Freddie Mac were placed in conservatorship with explicit financial support from Treasury. Lehman Brothers failed shortly thereafter, and declared bankruptcy when no firm was willing to purchase the investment bank without additional public support, which was not forthcoming. AIG, one of the world's largest insurers, would have failed the day after Lehman Brothers. However, the Fed subsequently intervened on behalf of AIG, in this case avoiding a bankruptcy process. Following the declaration of bankruptcy by Lehman Brothers, financial panic spread to other non-bank institutions and markets, with runs on money market mutual funds and repurchase agreements (also known as "repos"). Treasury offered a temporary guarantee program for money market mutual funds. In fall of 2008, Congress provided Treasury with up to $700 billion to address troubled assets (such as mortgages) in the financial system. Despite these interventions to recapitalize and restore confidence in financial institutions, damage to the broader economy (as measured by unemployment and lost output) was severe. Congress passed the DFA to reform the financial regulatory system. For banks that accept deposits insured by the FDIC, technically "insured depositories," the general prudential regulatory approach and resolution regimes were relatively unchanged, although two regulators of depositories were combined. For large, complex non-banks, the DFA instructs the FSOC to identify which firms are systemically important, designates the Fed as the prudential regulator of these firms, and authorizes the FDIC to resolve covered non-banks outside the bankruptcy courts under certain circumstances. Under the DFA, policymakers have tried to construct resolution regimes for both banks and non-bank financial firms that will dispel investor expectations that some firms are too big to fail (i.e., that policymakers will be unwilling to let the firms fail because of potential collateral damage caused by resorting to the bankruptcy process). The following sections provide more detail on the mission, members, and recommendations of the FSOC during the 113 th Congress. This report will discuss the FSOC's mission and issues it is intended to address in Section I, and the members and their roles in Section II. Section III will analyze the perceived threats to financial stability as identified in law and by the FSOC in its 2013 annual report. Section 112 of DFA lists three purposes of the FSOC: (1) identify risks to the financial system that may arise from large, complex financial institutions; (2) promote market discipline by reducing expectations of federal financial support for failing institutions; and (3 ) respond to emerging threats to the stability of the U.S. financial system. Items (1) and (2) are arguably directed at minimizing the chances that particular firms will be viewed as too big to fail, or too connected to fail, or otherwise pose risks to the financial system. Item (3) is arguably a more general catch-all for any factors that might destabilize the financial system. In instructing the FSOC to promote financial stability, the DFA uses the terms financial stability and systemic risk in several places. For example, Section 112 directs member agencies of the FSOC to state in writing whether the agency believes that all reasonable steps are being taken "to ensure financial stability and to mitigate systemic risk that would negatively affect the economy." However, the DFA does not define the terms financial stability or systemic risk . Although the DFA does not define financial stability, the first FSOC annual report (2011) described some essential features of stable financial systems. "A stable financial system should not be the source of, nor amplify the impact of, shocks." According to its annual report, the FSOC believes that there are three main risks that a financial system might transmit shocks: (1) failure of a financial institution or a market participant to honor a contractual obligation, (2) deterioration in market functioning, and (3) disruptions in financial infrastructure. Applying the FSOC's interpretation of financial stability as used in Title I of the DFA, the mission of the FSOC is to help avoid financial activities, practices, and regulations that might spread or magnify shocks to the financial system. There is no single, commonly accepted definition of the term systemic risk among financial professionals. The FSOC annual reports address the definition of systemic risk as follows: "Although there is no one way to define systemic risk, all definitions attempt to capture risks to the stability of the financial system as a whole, as opposed to the risk facing individual financial institutions or market participants." Possible features of systemic risks include externalities and the fallacy of composition. With externalities, there are costs or benefits of actions by financial market participants that are not borne by those participants. With fallacies of composition, what is true for each individual firm in isolation may not be true when all firms follow similar strategies—just as while one person standing in a crowded stadium sees better, that strategy will fail if everyone stands at the same time. To better analyze whether the FSOC's approach addresses commonly understood channels of risk proliferation, one might examine central bankers' views of ways that failing firms can damage financial stability. Federal Reserve Governor Daniel Tarullo identified four such ways that in his view are most common. They are as follows: Domino effects occur when the failure of one firm causes its creditors to fail, which causes the creditors' creditors to fail, and so on. Fire sales may become reinforcing when a product serves as the collateral to finance itself or in markets in which participants must post risk-based margin. Fire sales may become self-reinforcing if failure to pay causes lenders to seize the collateral (the good itself), sell it at distressed prices, and thereby cause further losses on other holders of the asset. These holders may then default on their loans or fail to post margin. Contagion can occur if the failure of one firm is a signal to investors that firms in the same industry or with similar assets are likely to be in financial trouble. Contagion can result in the restriction of liquidity to other firms as possible counterparties shy away. The failure of critical functions can cause systemic risk if a firm provides a unique financial service with no close substitutes. For example, if a clearinghouse has a monopoly on settlement services for a market, and the clearinghouse fails, then other market participants may not be able to process their own transactions. Three of the sources of systemic risk identified by Tarullo, domino effects, fire sales, and critical functions, depend upon a firm's connections to other firms. These three forms of interconnectedness will typically be correlated with the size and scope of the firm, at least in relation to its market or service. If potential creditors to large firms judge that governments are likely to intervene to prevent an eventual bankruptcy, then this lower perceived risk of default may result in creditors being willing to offer the firms loans on easier terms than their less interconnected competitors. Big firms may thus gain funding advantages over smaller competitors, reinforcing the tendency of these firms to grow relative to their markets. Systemic risk regulators may attempt to construct and estimate a firm-specific index of systemic risk arising from these three sources of instability. The remaining source of systemic risk identified by Tarullo, contagion, is relatively independent of firm size and complexity. Like the death of a canary in a coal mine, the failure of even the smallest firm may signal that large firms, if they are exposed to similar risks, may be in danger. Contagion is thus based on the information that a firm's failure provides to investors, rather than a specific transactions or interconnections of the failed firm. Tarullo interprets the run on money market mutual funds that occurred in September 2008 as contagion that had little to do with the size, complexity, or transparency of Lehman Brothers. Rather, in Tarullo's view, the failure of Lehman Brothers was a signal to investors that money market mutual funds exposed to holders of mortgage-related assets could be in financial trouble. If correct, it would be difficult to construct or estimate a firm-specific index of systemic risk arising from this type of contagion. The next section discusses the membership of the FSOC, and the special roles that some members have with respect to these six policy tools. The FSOC has 10 voting members and 5 nonvoting members. (See Table 1 above for a complete listing.) The council is chaired by the Secretary of the Treasury. Voting members include prudential bank regulators (e.g., the Office of the Comptroller and the Currency [OCC] and the FDIC), securities market regulators (e.g., the Commodity Futures Trading Commission [CFTC] and the SEC), and an independent insurance expert appointed by the President, with Senate confirmation. The nonvoting members include state level representatives from bank, securities, and insurance regulators, as well as the directors from the OFR and the Federal Insurance Office (FIO). Several agencies have special roles in addressing the kinds of systemic risks that the FSOC was designed to monitor. The DFA grants specific authority under certain circumstances for the Secretary of the Treasury, the Fed, and the FDIC to act without further approval from the FSOC as a whole. However, with regard to actions taken for particular firms, these three agencies will often be relying on shared FSOC resources, such as the information provided by the OFR, or will coordinate actions with the firm's primary regulator, which will typically be another agency represented on the FSOC. The following describes the Treasury Secretary's role as chair of the FSOC, the Fed's role as prudential regulator of firms designated systemic by the FSOC, and the FDIC's role in resolving non-banks if the firm's failure is perceived as a threat to financial instability (not necessarily just firms designated as systemic). Whether the heads of these three agencies would be acting as members of FSOC, or in their agency's independent capacity, is beyond the scope of this report. The Secretary of the Treasury has a number of important functions on the FSOC that differ from the other members of the council. Foremost, the Secretary serves as the chair of the council. The chair has a number of powers and responsibilities related to FSOC meetings, congressional reports and testimony, and certain rulemakings and recommendations of the council. As chair, the Secretary may call a meeting of the FSOC. Otherwise, meetings may be called by a majority of the members, but shall be held at least quarterly. The Secretary must testify before the House Committee on Financial Services and the Senate Committee on Banking, Housing, and Urban Affairs in conjunction with the release of the annual FSOC report. If any member agencies have notified Congress of deficiencies in systemic risk efforts, the Secretary is to address those concerns at the hearing. The Secretary has special powers regarding the designation of systemic non-bank firms. Under Section 113(a)(1), a two-thirds vote of the FSOC is required to designate a non-bank as posing systemic risk and therefore subject to supervision by the Federal Reserve. However, one of the affirmative votes must be that of the Secretary of the Treasury. In other words, the chair of the FSOC has an effective veto over the designation of individual firms as systemically important; this applies to domestic and foreign firms, and for anti-evasion. Similarly, the chair's vote is required to rescind or reevaluate the systemic designation of a firm. In emergencies, the chair's affirmative vote is required as part of the determination that a non-bank will not be granted the usual hearing before its designation as systemic. As part of those anti-evasion provisions, if certain large recipients of Troubled Asset Relief Program (TARP) funds (specifically, if they hold over $50 billion and were part of the Capital Purchase Program) cease to be bank holding companies, then they are automatically considered a systemically significant firm as if they had been designated as such by the FSOC and are placed under Fed supervision. As chair of the FSOC, the Secretary also has the responsibility to conduct or coordinate and report on periodic studies of the economic impact of systemic risk regulations. These reports must be completed at least every five years. The Secretary of the Treasury has a consultative role with the OFR, which is responsible for certain research functions related to those reports and in other areas. The Secretary, along with the Fed, negotiates with foreign regulators and multilateral organizations to coordinate prudential supervision and regulation for all highly leveraged and interconnected financial companies. The Secretary plays a role in recommending receivership procedures for failing firms that have been designated as systemic. Although the Fed and the FDIC can make their own request for a receivership of a systemic firm based on evaluations described in Section 203a(2)(A-H), the Secretary may request a determination that a financial firm will default or is likely to default, with a systemic impact, and then appoint the FDIC as receiver. Note that the determination requires two-thirds vote of both the Fed and the FDIC board. In cases in which the firm is a broker-dealer, or its largest subsidiary is a broker-dealer, it is the Fed and the SEC by two-thirds vote that make the determination, in consultation with the FDIC. The Fed and the director of the Federal Insurance Office make the recommendation for insurance companies. The Secretary petitions the courts if the covered firm objects to the determination. The FDIC must consult with the Secretary to obtain a second extension of the time limit for the receivership. Once a recommendation for receivership has been made, the Secretary is to make the determination and findings that trigger the resolution regime under the FDIC. The Secretary's determination must address (1) the likelihood that the firm will default or is in default; (2) the likely effect of the firm's failure on financial stability; (3) the viability of private sector alternatives available to prevent the default; (4) the impact on the firm's creditors and other counterparties; (5) the likelihood of FSOC resolution avoiding or mitigating systemic risks, its likely cost to the general fund of the Treasury, and the potential of receivership resulting in excessive risk taking by the firm or its creditors and other counterparties (i.e., moral hazard); (6) a federal regulatory agency has ordered the firm to convert all of its convertible debt instruments that are subject to the regulatory order; and (7) the company satisfies the definition of a financial company. The Secretary has a number of duties pertaining to the determination and procedures for the FDIC to act as receiver. First, the Secretary must notify certain majority and ranking members of Congress within 24 hours of the appointment of the FDIC as receiver. In addition, the rules and regulations that the FDIC issues for the use of funds pursuant to receivership must be acceptable to the Secretary. The FDIC is to provide to the Secretary and the comptroller general an annual accounting report of receiverships. The Secretary's approval is required for the FDIC to provide additional payments under some circumstances. The Secretary has a number of roles regarding orderly liquidation plans of covered institutions. Amounts from the resolution fund to support orderly liquidation under a liquidation plan must be acceptable to the Secretary. Amendments to an orderly liquidation plan must be acceptable to the Secretary. Furthermore, the FDIC is to assure the Secretary of a repayment plan for the orderly liquidation plan, and the Secretary and the FDIC must report to Congress on the terms of the repayment plan. To date, no firms have been subject to an orderly liquidation. Since its creation in 1913, the Federal Reserve (the Fed) has had the authority to address financial market instability. Congress created the Fed as a lender of last resort following the recommendations of a commission established to investigate the causes of a financial panic that had occurred in 1907. Relative financial stability after WWII, and congressional directives to focus on price stability and maximum employment, may have redirected the Fed's focus to macroeconomic variables, but addressing financial market instability has always been a core mission of the Fed. Under the FSOC, the Fed will not only be a lender of last resort, and conduct monetary policy, but the Fed will also have additional supervision and examination authority for individual non-banks designated by the FSOC. The Dodd-Frank Act directs the Fed to supervise certain large non-bank financial companies, but the FSOC recommends the standards. Section 115 of Dodd-Frank states that the regulatory standards for non-bank financial firms under Fed supervision must be more stringent than the standard for non-bank financial firms which are not under Fed supervision and do not present systemic risks. Section 115(b)(3) lists characteristics of non-bank firms that the Fed may supervise, including (1) risk-based capital requirements, (2) leverage limits, (3) liquidity requirements, (4) resolution plan and credit exposure report requirements; (5) concentration limits; (6) a contingent capital requirement, (7) enhanced public disclosures, (8) short-term debt limits, and (9) overall risk management requirements. Standards for foreign firms are to acknowledge equality of competitive opportunity and take into account the extent to which the foreign non-bank is subject to comparable standards in its home country. The Fed has several powers and duties over covered bank holding companies and non-banks, upon a two-thirds vote of the FSOC. For example, the Fed can limit the ability of the company to merge with other companies. It can restrict the products the firm offers, or impose conditions on the manner that the firm conducts activities. Under some circumstances, the Fed can require the company to sell or otherwise transfer assets or off-balance-sheet items to unaffiliated entities. The Fed also has information collection authority, including through examinations, for covered firms, although the Fed is to rely on existing data sources to the extent possible. In cases in which the covered firm has another primary regulator (such as the OCC), the Fed is to give the primary regulator reasonable notice of the proposed examination. The DFA permits the Fed to establish standards for systemic firms in a number of additional areas. These areas include a contingent capital requirement, enhanced public disclosures, short-term debt limits, and such other prudential standards as the Board of Governors, on its own or pursuant to a recommendation made by the FSOC, determines are appropriate. Since its inception, the FDIC has had the authority to administratively resolve insured depositories (banks and thrifts) that fail, rather than proceed through the bankruptcy courts. The DFA extends this authority to certain large and complex non-bank financial companies, under some circumstances. In addition to the Treasury Secretary's authority, the FDIC, with the concurrence of the Fed, may also recommend a determination of systemic risk from failing non-banks. The FDIC's determination must include the votes of two-thirds of the FDIC's Board. Among the eight factors that the determination must address are the likelihood that the non-bank will default; a description of likely financial instability that could result from default; the recommended actions under liquidation authority; and an explanation of perceived deficiency of the bankruptcy process for this firm. Furthermore, Section 206 states that FDIC actions must be for the purpose of addressing systemic risk, and not be for the purpose of preserving the non-bank. The powers and duties of the FDIC with respect to resolving systemic firms are set out in Section 210 of DFA. Essentially, the FDIC is the successor to the failing firm. The FDIC has the firms' rights, titles, and privileges. The FDIC takes over its assets, with rights of collection. The FDIC takes over the functions of the firm's officers, directors, and shareholders. The FDIC has powers over any of the firms' subsidiaries that pose systemic risk. The FDIC can form bridge companies for the purpose of orderly liquidation. The FDIC is to pay valid obligations, subject to its systemic risk determinations. The FDIC's resolution is intended to ensure that shareholders and unsecured creditors bear losses. The FDIC may pay resolution costs as described in Section 204(d) of the DFA. Once a resolution has been undertaken, the FDIC has reporting requirements to the FSOC and to Congress. After 60 days, the FDIC must deliver a written report to the appropriate congressional committees, providing additional details of the receivership. These additional details include but are not limited to (1) describing the financial condition of the failing firm at the time of receivership, (2) describing the FDIC's plan to resolve the failing firm, (3) describing the reasons for the provision of any funding to the receivership out of the Fund, and (4) explaining the expected costs of resolving the firm. The FSOC's annual report to Congress is to include an analysis of perceived threats to the financial system. The following sections analyze specific threats mentioned in the 2013 FSOC annual report. For each topic, the reader is provided a brief description of the issue, how it might contribute to a systemic event, and an analysis of the FSOC's report. Issue Area Although commercial banks raise significant funds through insured deposits, banks and other financial institutions also use a variety of other funding sources. Many of these alternative funding sources, often blending securities contracts and traditional loans, are categorized as wholesale funding . Examples of wholesale funding sources include money market mutual funds and repurchase agreements (repos). Wholesale funding sources are not eligible for certain government initiatives that assist financial stability, such as deposit insurance. Non-banks that use wholesale sources to fund capital market activity may be subject to runs similar to a depository bank, but would not typically have access to certain emergency lending facilities such as the Fed's discount window. How it Might Go Wrong Some wholesale funding markets can be subject to runs and fire sales. Banks and other financial intermediaries typically raise money in one market (such as deposits, repurchase agreements, and commercial paper) to fund activity in another (offer bank loans, capitalize securities investments, etc.). During periods of uncertainty and financial instability, financial intermediaries may lose trust in each other, and refuse to extend or roll over their loans to each other. The resulting reduction in wholesale funding can have many of the characteristics of a bank run by depositors if providers of wholesale funding fear that wholesale borrowers will not repay their obligations; but unlike deposits, sources of wholesale funding typically do not have any government guarantee. A fire sale occurs when someone holding an asset must sell it in a distressed market even though a better price could likely be had if the seller had more time. Some wholesale sources of funding, such as repos and asset-backed commercial paper may be subject to fire sales. Collateralized lending can be subject to fire sales because borrower defaults are likely to occur at the same time that the market for the collateral is also distressed. As a result, when the lender seizes the collateral, the value of the collateral may be falling—the addition of the distress sales by lenders can magnify a downward spiral in prices. Both asset-backed commercial paper and repos use forms of collateral and may be subject to fire sales. FSOC's Perspective The 2013 annual report notes some positive and negative developments (from the FSOC perspective) in wholesale funding. On the positive side, the annual report notes that intra-day credit exposure of the two clearing banks (JPMorgan and BNY Mellon) in the tri-party repo market has declined significantly. Similarly, the reliance of broker-dealers on overnight repos as a source of funding has also declined. However, the potential for runs on broker-dealers, or fire sales should there be a default by a major market participant, has not been completely eliminated. Furthermore, efforts to address potential instability in money market mutual funds have not as yet been finalized by the SEC (as regulator of MMFs as issuers of securities). Issue Area Reliance on government assisted sources of funding increased markedly as a share of all mortgage funding in 2008. At the origination level, the mortgage market share of Federal Housing Administration (FHA) loans increased even for borrowers who could offer significant down payments with their house purchase. At the wholesale level, private mortgage securitization almost completely evaporated, making the government sponsored enterprises (GSEs) the dominant providers of wholesale mortgage funding. GSE funding has a variety of government support, including preferred stock purchases by the U.S. Treasury (through a conservatorship announced in September 2008), Federal Reserve purchases of corporate debt issued by the GSEs, and Federal Reserve purchases of mortgage-backed securities issued by the GSEs. How it Might Go Wrong The lack of significant private capital in mortgage funding is a sign that financial instability in mortgage markets has not yet completely healed (things already went wrong). It has been an announced goal of the FSOC to restore private capital as the primary source of long-term mortgage funding, along with improvements in consumer protection and financial stability. However, there are a number of signs that mortgage markets are improving. House prices have begun rising in a number of areas, default rates and foreclosures are no longer rising sharply, and the flow business (current mortgage revenues and guarantee fees compared with current payments) of the GSEs has been positive in recent quarters. One possible contributing factor for a delay in the return of private capital to mortgage markets (in addition to general pessimism about the speed of economic recovery in general and housing in particular) may be regulatory uncertainty as federal agencies implement changes to regulations related to the mortgage market. FSOC's Perspective The 2013 annual report says that there has been significant improvement in mortgage markets, but additional progress is needed. On the positive side (from the FSOC's perspective), the conservatorship agreements (Treasury Preferred Stock Purchase Agreements, PSPAs) have been modified to expedite the wind-down of the retained portfolios of Fannie Mae and Freddie Mac. Regulatory uncertainty in mortgage markets may be reduced by the publication of final rules for the Real Estate Settlement Procedures Act (RESPA), the Truth in Lending Act (TILA), and the Dodd-Frank Act's ability-to-pay standard. Additional work may need to be done to raise GSE guarantee fees to make room for private competitors to the GSEs. Issue Area The financial infrastructure can also be a source of systemic risk. This is essentially the "plumbing" of the financial system. It includes the environment in which financial trading occurs, communications of the interbank payment system, clearing and settlement of retail payments (including mobile payments), the security of confidential financial information, and the resilience of information storage systems. The "plumbing" of the financial system evolves with changes in communication technology and the organization of firms—historically, telegraphs, stock tickers, telephones, and computers have allowed for improved financial communications across long distances—but the stability of such systems can be threatened by the potential disruptions to the operational network. How it Might Go Wrong The financial infrastructure is vulnerable to natural disasters and human activity. For example, Hurricane Sandy temporarily halted trading on the New York Stock Exchange in October 2012. Malfunctions have disrupted the issuance of securities (such as the initial public offering of Facebook). Reportedly, major financial institutions have been subjected to attempts to access confidential information or disrupt their telecommunications (cyberattacks). FSOC's Perspective The 2013 annual report noted several initiatives to address operational issues. For example as discussed in the wholesale funding section above, the tri-party repo task force has recommended improvements to the settlement and clearing processes in among the two central clearing banks to reduce their intra-day credit exposure. In the section of the 2013 report devoted to operational issues, the FSOC notes that the SEC recently proposed Regulation Systems Compliance and Integrity (Regulation SCI) to try to address malfunctions in capital markets. Issue Area Future interest rate changes may be a source of financial instability. A combination of a global savings glut, deficient aggregate demand, and central bank interest-rate policies have contributed to an extended period of low interest rates (by historical standards). At some point, interest rates are likely to rise, either because the demand for loanable funds rises as the economy improves driving up the rates or because a negative shock causes a spike in interest rates. Financial intermediaries, including but not limited to banks, can be damaged by rising interest rates if they have not adequately addressed the mismatch between the interest rates on their cost of funds and their revenues from longer-term lending. Furthermore, revelations of manipulation of the London Interbank Offer Rate (LIBOR) has cast doubt on the accuracy of key reference rates used to benchmark interest rates in many private contracts. How it Might Go Wrong There are several examples of rising interest rates contributing to stress in the financial system. Rising rates in the 1970s and 1980s created a great deal of stress for banks (especially savings and loans) that had funded long-term mortgages with short-term deposits. Rising rates in 1994 caused a significant sell-off in the bond market. Rising rates during 2004-2006 contributed to the end of the housing bubble (which would have ended eventually, but perhaps not at that time). Under-reporting of LIBOR rates in 2008 may have given financial regulators an overoptimistic view of the lending ability of major financial institutions during the liquidity crunch at that time. There are several ways in which the current interest rate environment could contribute to financial instability. Low interest rates make it difficult for savers to earn significant returns with relative safety. For example, money market mutual funds are at greater risk because their income stream (from relatively safe bonds) is close to zero, which means that they are more likely to "break the buck" (return less than a dollar for each dollar invested) if any of their investments experience losses. Certain pension systems may find it difficult to earn adequate returns safely, especially if they have committed to defined benefits (a preset fixed payment) and have limited eligible investments. Other investors may have a greater temptation to "reach for yield" by investing in more risky categories of investments, increasing the likelihood of asset bubbles in other markets. FSOC's Perspective In its 2013 report, the FSOC attributes current interest rates (low yields) to three factors. First, capital market participants forecast continued low interest rate policies by major central banks globally. The second is the pricing of short-term risk, which is partially caused by the increase in Treasury market purchases by institutions with low-risk sensitivity (including but not limited to central banks). The third factor cited by the FSOC is the willingness of bond market buyers to accept credit risk (i.e., the risk that borrowers will not pay back fully and on time). Provisions for credit losses and loan losses have declined recently. The FSOC notes a number of initiatives to mitigate the risks when interest rates do rise. First, investigations and prosecutions related to LIBOR (and similar reference rates) may reduce the incentive to misreport, and combined with regulatory reform of reporting banks, may lead to more accurate interest rate benchmarks. The FSOC did express concern at potential reaches for yield, noting that the issuance of high yield bonds (riskier classes of bonds) had increased markedly, and that underwriting standards for collateralized loan obligations (CLOs) had reportedly loosened. Furthermore, threats to financial stability posed by rising rates are mitigated in part by one of the potential causes of rising rates—improved financial conditions. Even if rates rise for the "wrong" reason, a second credit crunch, the FSOC notes that the measurable financial resilience of major banks (such as capital levels and measures of liquidity) have improved. Issue Area Fiscal policy refers to the relationship of government revenues and spending. Typically, recessions cause government revenues to decline and government spending to rise (fiscal policy expands). Economic booms can cause fiscal policy to contract if government revenues expand faster than government spending. Although recessions and booms cause fluctuations in short-term fiscal policy, long-term fiscal policy refers to the balance between expected government spending and revenues over an extended time horizon. CBO and other projections of long-term fiscal policy project an imbalance between expected federal revenues and expected federal spending for an extended period of time (spending commitments are greater than expected revenue streams). Thus far, the United States has not experienced any backlash in bond markets for running extended fiscal deficits. Not only has the yield on U.S. Treasury bonds remained low, but obligations of the United States have been viewed as a safe haven for some foreign investors and central banks. How it Might Go Wrong Fiscal imbalances can cause short-term problems and long-term problems. In the short run, governments with large fiscal imbalances run the risk that investors may suddenly demand higher yields to roll-over existing debt. Unlike Cyprus or Greece, short-term fiscal problems of the United States could be cushioned by purchases of Treasury securities by the Fed (which would be likely because a short-run fiscal crisis is often accompanied by the same kinds of poor economic conditions that cause the Fed to expand its monetary policies—although the early 1980s are a counter-example). In the longer term, the combination of higher interest rates and higher outstanding debt can cause interest payments to crowd out other government programs (depending on the relative growth of interest payments to GDP). FSOC's Perspective The FSOC does not see a gradual normalization of long-term Treasury yields and volatilities as a significant threat to fiscal imbalances or the wider economy. However, the long-run imbalances could threaten financial instability if there is a sudden spike in yields. The FSOC notes that the financial impact of potentially disruptive short-run fiscal events has had "minimal impact" thus far. For example, U.S. debt is still seen as a safe harbor despite the automatic tax increases and spending cuts at the start of 2013 (the fiscal cliff) and the February 2013 debt ceiling debates. Similarly, the downgrade of U.S. Treasury securities by Standard & Poor's did not cause a significant spike in Treasury yields. Issue Area Financial markets are global; therefore, financial instability overseas can threaten financial stability in the United States. There are many channels through which financial instability can cross borders. For example, the failure of a global bank could cause cross-border resolution issues, monetary policies of other countries can lead to competitive currency devaluations, capital flights away from some countries can cause global investment money (i.e., hot money) to flood other countries—and in some cases cause asset bubbles in the recipient country, and sovereign debt problems or banking policies in one country can cast doubt on the reliability of government debts or guarantees in other countries. In introductory finance classes, sovereign debt of the governments of developed economies is often characterized as a risk-free asset. Recent events in Europe have cast serious doubt on this simplifying assumption. Changes in the perceived risk of the debt of sovereigns, such as Greece, Cyprus, Italy, Portugal, Ireland, are potential threats to financial stability in part because many financial regulators and financial institutions treat those debts as if they were risk-free. As a result, financial institutions and financial systems do not typically retain capital buffers against the possibility of sovereign debt restructuring, or in the extreme a sovereign default. The mere change in the perceived risk of sovereign debt can cause people to try to avoid institutions and markets with large exposure to that country's debt. At a minimum, exposed institutions may find it difficult to find counterparties for new transactions and may suffer withdrawals, or refusals to renew loans, from existing counterparties. The resulting financial instability can cause credit to dry up, interest rates to rise, and may magnify the financial difficulties of the sovereign experiencing the financial stress. How it Might Go Wrong Although financial regulators and Treasury officials in many countries have generally tried to coordinate their responses to the global financial crisis, there are a number of channels through which financial instability could be spread. First, there is no formal way to address a sovereign default (no international bankruptcy law applies to sovereigns), and thus European sovereign debt crises have been a series of evolving government funding and banking crises. Second, even if central banks target their domestic economies rather than their exchange rate, expansionary monetary policies can cause exchange rates to depreciate, and thus exports to rise and imports to fall. But one country's declining imports is another country's declining exports; therefore, expansionary monetary policies run the risk of competitive devaluation if policymakers fail to coordinate across countries. FSOC's Perspective The 2013 FSOC report addressed several issues related to global financial stability. The FSOC noted a number of positive developments in Europe, including the potential for the European Central Bank (ECB) to purchase sovereign debt of member states under some circumstances. However, the report also noted that banking disruptions and policy responses in Cyprus (which briefly cast doubt on the status of insured bank deposits) create downside risk. The FSOC report also noted that austerity programs in Europe have "contributed to a contraction in euro-area economies," although euro area deficits may also have declined. The report also discussed expansionary monetary policies in Japan, which have contributed to a depreciation of the Yen. The FSOC took the view that "the U.S. has a strong financial stability interest in Japan finally escaping from deflation and securing more robust growth." Appendix A. Glossary of Terms This glossary has been compiled from several earlier CRS reports, the FCIC report, the CFTC and SIFMA websites, and from other sources. Affiliate —A corporate relationship of control. Two companies are affiliated when one owns all or a large part of another, or when both are controlled by a third (holding) company (see "Subsidiary"). All subsidiaries are affiliates, but affiliates that are less than 50% controlled are usually not treated as subsidiaries. Asset-backed security— A bond that represents a share in a pool of debt obligations or other assets. The holder is entitled to some part of the repayment flows from the underlying debt. (See "Securitization.") Bank holding company —A business incorporated under state law, which controls through equity ownership ("holds") one or more banks and, often, other affiliates in financial services as allowed by its regulator, the Fed. On the federal level, these businesses are regulated through the Bank Holding Company Act. Bank Holding Company Act —The federal statute under which the Fed regulates bank holding companies and financial holding companies (FHC). Besides the permissible financial activities enumerated in the Gramm-Leach-Bliley Act ( P.L. 106-102 ), the law provides a mechanism between the Federal Reserve and the Department of the Treasury to decide what is an appropriate new financial activity for FHCs. Blue sky laws —State statutes that govern the offering and selling of securities. Broker/dealer —An individual or firm that buys and sells securities for itself as well as for customers. Broker/dealers are registered with the Securities and Exchange Commission. Bubble —Self-reinforcing process in which the price of an asset exceeds its fundamental value for a sustained period, often followed by a rapid price decline. Speculative bubbles are usually associated with a "bandwagon" effect in which speculators rush to buy the commodity (in the case of futures, "to take positions") before the price trend ends, and an even greater rush to sell the commodity (unwind positions) when prices reverse. Capital —Assets minus liabilities; what a firm owns minus what it owes. Regulators often require financial firms to hold minimum levels of capital. Capital requirements —Capital is the owners' stake in an enterprise. It is a critical line of defense when losses occur, both in banking and nonbanking enterprises. Capital requirements help assure that losses that might occur will accrue to the institution incurring them. In the case of banking institutions experiencing problems, capital also serves as a buffer against losses to the federal deposit insurance funds. Capital Purchase Program —Initiative under the Troubled Asset Relief Program providing financial assistance to U.S. financial institutions through the purchase of senior preferred shares in the corporations on standardized terms. Charter conversion —Banking institutions may, with the approval of their regulators, switch their corporate form between: commercial bank or savings institution, National or State charter, and to stockholder ownership from depositor ownership. Various regulatory conditions may encourage switching. Clearing Organization —An entity through which futures and other derivative transactions are cleared and settled. A clearing organization may be a division or affiliate of a particular exchange, or a freestanding entity. Also called a clearing house, multilateral clearing organization, or clearing association. Collateralized debt obligation (CDO)—A bond created by the securitization of a pool of asset backed securities. (See CLO and CMO.) Collateralized loan obligation (CLO)—A bond created by the securitization of a pool of loans, bonds, or asset backed securities. (See CDO and CMO.) Collateralized mortgage obligation (CMO)—A multiclass bond backed by a pool of mortgage pass-through securities or mortgage loans. Commercial bank —A deposit-taking institution that can make commercial loans, accept checking accounts, and whose deposits are insured by the Federal Deposit Insurance Corporation. National banks are chartered by the Office of the Comptroller of the Currency; state banks, by the individual states. Commercial Paper Funding Facility Emergency Program —Created by the Fed in 2008, this program purchased three-month unsecured and asset-backed commercial paper from eligible companies. Commodity Futures Modernization Act of 2000 (CFMA, P.L. 106-554, 114 Stat. 2763)—Overhauled the Commodity Exchange Act to create a flexible structure for the regulation of futures and options trading, and established a broad statutory exemption from regulation for OTC derivatives. Largely repealed by the Dodd-Frank Act. Community Reinvestment Act 1977 —A federal law which encouraged depository institutions to make loans and provide services in the local communities in which they take deposits. Consolidated Supervised Entities program —A Securities and Exchange Commission program created in 2004 and terminated in 2008 that provided voluntary supervision for the five largest investment bank conglomerates. Conservatorship —When an insolvent financial institution is reorganized by a regulator with the intent to restoring it to an ongoing business. Counterparty —The opposite party in a bilateral agreement, contract, or transaction, such as a swap. Credit Default Swap (CDS)—A tradeable contract in which one party agrees to pay another if a third party experiences a credit event, such as default on a debt obligation, bankruptcy, or credit rating downgrade. Credit Rating Agency —Private company that evaluates the credit quality of securities and provides ratings on those securities; the largest are Fitch Ratings, Moody's Investors Service, and Standard & Poor's. Credit Risk —The risk that a borrower will fail to repay a loan in full, or that a derivatives counterparty will default. Credit union —A nonprofit financial cooperative of individuals with one or more common bonds (such as employment, labor union membership, or residence in the same neighborhood). May be state or nationally chartered. Credit unions accept deposits of members' savings and transaction balances in the form of share accounts, pay dividends (interest) on them out of earnings, and primarily provide consumer credit to members. The federal regulator for credit unions is the National Credit Union Administration. Dealer —An individual or financial firm engaged in the purchase and sale of securities and commodities such as metals, foreign exchange, etc., for its own account and at its own risk as principal (see "Broker/dealer"). Commercial banks are typically limited to acting as dealers in specified high-quality debt obligations, such as those of the federal government. Depository institution —Customarily refers to commercial banks, savings institutions, and credit unions, since traditionally the greater part of their funding has been in the form of deposits. Deposits are a customer's funds placed with an institution according to agreed on terms and conditions and represent a credit to the depositor. Derivatives— Financial contracts whose value is linked to the price of an underlying commodity or financial variable (such as an interest rate, currency price, or stock index). Ownership of a derivative does not require the holder to actually buy or sell the underlying interest. Derivatives are used by hedgers, who seek to shift risk to others, and speculators, who can profit if they can successfully forecast price trends. Examples include futures contracts, options, and swaps. Discount window —Figurative term for the Federal Reserve facility for extending credit directly to eligible depository institutions. It may be used to relieve temporary cash shortages at banks and other depository institutions. Borrowers are expected to have tried to borrow elsewhere first and must provide collateral as security for loans. The term derives from the practice whereby bankers would come to a Reserve Bank teller window to obtain credit in the early days of the Federal Reserve System. Dual banking system —The phrase refers to the fact that banks may be either federally or state chartered. In the case of state-chartered banks, the state is the primary regulator; for national banks, the Office of the Comptroller of the Currency is the primary regulator. Exchange —A central marketplace with established rules and regulations where buyers and sellers meet to trade futures and options contracts or securities. Federal safety net —A broad term referring to protection of banking institutions through deposit insurance, discount window credit, other lender of last resort support, and certain forms of regulations to reduce risk. Commercial and industrial companies generally lack any of these cushions against loss. Federal Open Market Committee —Its members are the Board of Governors of the Federal Reserve System and certain of the presidents of the Federal Reserve Banks; oversees market conditions and implements monetary policy through such means as setting interest rates. Financial holding company —A holding company form authorized by the Gramm-Leach-Bliley Act ( P.L. 106-102 ) that goes beyond the limits a of bank holding company. It can control one or more banks, securities firms, and insurance companies as permitted by law and/or regulation. Financial institution —An enterprise that uses its funds chiefly to purchase financial assets such as loans and debt securities, as opposed to tangible property. Financial institutions are differentiated by the manner in which they invest their funds: in loans, bonds, stocks, or some combination; as well as by their sources of funds. Depository financial institutions are differentiated in that they may accept deposits which are federally insured against loss to the depositor. Non-depository financial institutions such as life and property/casualty insurance companies, pension funds, and mutual funds obtain funds through other types of receipts, whose values may fluctuate with market conditions. Financial subsidiary —Under the Gramm-Leach-Bliley Act ( P.L. 106-102 ), both national and state-chartered banks are authorized to form financial subsidiaries to engage in activities that would not otherwise be permitted within the bank itself, subject to certain limits. Besides the permissible financial activities enumerated in P.L. 106-102, the law provides a mechanism between the U.S. Department of the Treasury and the Federal Reserve to decide what is an appropriate new financial activity for a financial subsidiary. Financial Stability Oversight Council —A council created by the Dodd-Frank Act ( P.L. 111-203 ) with identifying and monitoring systemic risks to the U.S. financial system, reducing expectations of extraordinary government intervention, and to respond to emerging threats to U.S. financial stability. Firewalls —Barriers to the flow of capital, information, management, and other resources among business units owned by a common entity. In case of financial distress of one operation ("fire"), the "walls" are intended to prevent the spread of loss to the other units—especially to banking units. Example: losses in a securities subsidiary of a holding company could not be covered by any of the holding company's bank subsidiaries. Foreign bank —Banks and their holding companies headquartered in other countries may have a variety of financial operations in the United States: U.S.-chartered subsidiary banks, agencies, branches, and representative offices. Their primary federal regulator is the Federal Reserve, under the International Banking Act of 1978 as amended. States and the Office of the Comptroller of the Currency may also regulate them. Functional regulation —Regulatory arrangements based on activity ("function") rather than organizational structure. The Gramm-Leach-Bliley Act ( P.L. 106-102 ) called for more functional regulation than in the past. Government-sponsored enterprise (GSE) —GSEs are private companies with government charters. Government sponsorship typically gives them a funding advantage over purely private competitors, while their charters restrict the kinds of businesses they may conduct. Haircut —In computing the value of assets for purposes of capital, segregation, or margin requirements, a percentage reduction from the stated value (e.g., book value or market value) to account for possible declines in value that may occur before assets can be liquidated. Hedge funds —Hedge funds are essentially unregulated mutual funds. They are pools of invested money that buy and sell stocks and bonds and many other assets, including precious metals, commodities, foreign currencies, and derivatives (contracts whose prices are derived from those of other financial instruments). Hedge funds are limited to qualified investors with high net worth. Hedging —Investing with the intention of reducing the impact of adverse movements in interest rates, commodities, or securities prices. Typically, the hedging instrument gains value as the hedged item loses value, and vice versa. Illiquid Assets —Assets that cannot be easily or quickly sold. Insolvent —A firm whose liabilities exceed its assets. Institutional regulation —Regulation that is institution-specific as contrasted with activity specific (see "Functional regulation"). Investment bank —A financial intermediary, active in the securities business. Investment banking functions include underwriting (marketing newly registered securities to individual or institutional investors), counseling regarding merger and acquisition proposals, brokerage services, advice on corporate financing, and proprietary trading. Investment bank holding company —A holding company for securities firms authorized under the Gramm-Leach-Bliley Act. Such holding companies are subject to regulation by the Securities and Exchange Commission. Issuer —A person or entity (including a company or bank) that offers securities for sale. The issuing of securities, where the proceeds accrue to the issuer, is distinct from the secondary, or resale, market, where securities are traded among investors. Lender of last resort —Governmental lender that acts as the ultimate source of credit in the financial system. In the United States, the Fed has this role. Leverage —The ability to control large dollar amounts of a commodity or security with a comparatively small amount of capital. Leverage can be obtained through borrowing or the use of derivatives. Liquidity —The ability to trade an asset quickly without significantly affecting its price, or the condition of a market with many buyers and sellers present. Also, the ability of a person or firm to access credit markets. Liquidity risk —The possibility that the market for normally-liquid assets will suddenly dry up, leaving firms unable to convert assets into cash. Also, the risk that other firms will refuse to extend credit on any terms to a firm that is perceived as distressed. Mark-to-Market — The process by which the reported amount of an asset is adjusted to reflect true the market value instead of the purchase price, or expected future sale price. Market risk— The risk that the price of a tradeable security or asset will decline, resulting in a loss to the holder. Money market mutual fund (MMF)—A form of mutual fund that pools funds of individuals and other investors for investment in high-grade, short-term debt and bank deposits paying market rates of return. Examples of these money market instruments include U.S. Treasury bills, certificates of deposit, and commercial paper. In addition to the investment features, most MMFs offer check-writing redemption features. Moral hazard —The tendency of people to take more risks once another party has agreed to provide protection. Regulatory interventions to bail out failing firms are often said to create moral hazard, on the assumption that others will expect to be saved from their mistakes, too. Mortgage-backed security (MBS)—A bond backed by a pool of mortgage loans. The bondholders receive a share of the interest and principal payments on the underlying mortgages. The cash flows may be divided among different classes of bonds, called tranches. Mutual fund —An investing company that pools the funds of individuals and other investors, and uses them to purchase large amounts of debt or equity obligations of businesses and sometimes debt obligations of governments. The owners of the mutual fund hold proportional shares in the entire pool of securities in which a fund invests. Owners pay taxes on their distributions from a fund; the mutual fund itself is not normally subject to federal or state income taxation. Naked option —The sale of a call or put option without holding an equal and opposite position in the underlying instrument. Net Asset Value (or NAV)—Value of an asset minus any associated costs; for financial assets, typically changes each trading day. Office of Financial Research (OFR)—An office created by the Dodd-Frank Act ( P.L. 111-203 ) to support the Financial Stability Oversight Council and member agencies by collecting and standardizing financial data, performing applied and long-term research, developing tools for risk measurement and monitoring. Operational risk —The possibility that a financial institution will suffer losses from a failure to process transactions properly, from accounting mistakes, from rogue traders or other forms of insider fraud, or from other causes arising inside the institution. Over-the-counter (OTC)—Trading that does not occur on a centralized exchange or trading facility. OTC transactions can occur electronically or over the telephone. Receivership —When an insolvent financial institution is taken over with the intent to liquidate its assets. Repurchase Agreement (Repos) —A method of secured lending where the borrower sells securities to the lender as collateral and agrees to repurchase them at a higher price within a short period, often within one day. Savings association —A savings and loan association, mutual savings bank, or federal savings bank, whose primary function has traditionally been to encourage personal saving (thrift) and home buying through mortgage lending. In recent years, such institutions' charters have been expanded to allow them to provide commercial loans and a broader range of consumer financial services. The federal regulator for most savings associations is the Office of Thrift Supervision. Also known as savings and loans, thrifts, and mutual savings banks. Securities Investor Protection Corporation (SIPC)—A private nonprofit membership corporation set up under federal law to provide financial protection for the customers of failed brokers and/or dealers. SIPC is a liquidator; it has no supervisory or regulatory responsibilities for its members, nor is it authorized to bail out or in other ways assist a failing firm. Securitization —The process of transforming a cash flow, typically from debt repayments, into a new marketable security. Holders of the securitized instrument receive interest and principal payments as the underlying loans are repaid. Types of loans that are frequently securitized are home mortgages, credit card receivables, student loans, small business loans, and car loans. Shadow Banking —Financial institutions and activities that in some respects parallel banking activities but are subject to less regulation than commercial banks. Institutions include mutual funds, investment banks, and hedge funds. Special-purpose entities (SPEs)—Also referred to as off–balance-sheet arrangements, SPEs are legal entities created to perform a specific financial function or transaction. They isolate financial risk from the sponsoring institution and provide less-expensive financing. The assets, liabilities, and cash flows of an SPE do not appear on the sponsoring institution's books. Speculation —A venture or undertaking of an enterprising nature, especially one involving considerable financial risk on the chance of unusual profit. State regulation —Under the dual system of bank regulation, states as well as the federal government may charter, regulate, and supervise depository institutions. States are the primary regulators in the insurance field. States also have authority over securities companies, mortgage lending companies, personal finance companies, and other types of companies offering financial services. Structured debt —Debt that has been customized for the buyer, often by incorporating complex derivatives. Subordinated debt— Debt over which senior debt takes priority. In the event of bankruptcy, subordinated debt holders receive payment only after senior debt claims are paid in full. Subsidiary —A company whose controlling shares are owned 50% or more by another ("parent") corporation. Like companies with less than 50% ownership, it is an affiliate of the controlling company. A subsidiary is usually consolidated for regulatory and reporting purposes with its parent. Systemic Risk —The term "systemic risk" does not have a single, agreed-upon definition. Some define systemic risk as the risk an institution faces that it cannot diversify against. In other circumstances, systemic risk is defined as the risk that the linkages between institutions may affect the financial system as a whole, through a dynamic sometimes referred to as contagion. Thrift holding company —Also known as a savings and loan holding company, a business that controls one or more savings associations. These holding companies are regulated under the Home Owners' Loan Act by the Office of Thrift Supervision. Too-big-to-fail doctrine —An implicit regulatory policy holding that very large financial institutions must be rescued by the government, because their failure would destabilize the entire financial system. (See "Moral hazard.") Tri-Party Repo Market —A repurchase agreement in which a third party agrees to clear and settle the transaction and to monitor and assure the treatment of collateral. Umbrella supervision —The term applied to comprehensive regulation of a holding company and its parts by one or more holding company regulator(s). Undercapitalized —A condition in which a business does not have enough capital to meet its needs, or to meet its capital requirements if it is a regulated entity. Variable Rate Demand Obligation —A security which pays a variable interest rate, and can be redeemed upon the demand of the holder. Write-Downs —Reducing the value of an asset as it is carried on a firm's balance sheet because the market value has fallen. Appendix B. Acronyms

The Financial Stability Oversight Council (FSOC) was created by the Dodd-Frank Wall Street Reform and Consumer Protection Act (DFA; P.L. 111-203) in 2010 as part of a comprehensive reform of banking and securities market regulators. The council is charged with monitoring systemic risk in the financial system and coordinating several federal financial regulators. The 113th Congress may wish to monitor the performance, rulemaking, and policy recommendations of the council. This report describes the mission, membership, and scope of the FSOC. It provides an analysis of several major policy issues related to the FSOC that may come before the 113th Congress. The DFA establishes a regulatory framework of which the FSOC is a consultative council. The new regulatory regime incorporates several policy tools to address systemic risk. The FSOC facilitates communication among financial regulators, collects and evaluates financial data to monitor systemic risk, and designates which financial institutions and financial market utilities will be subject to prudential regulation by the Federal Reserve Board (the Fed). Upon a determination of a threat to financial stability, a covered non-bank financial institution in danger of failing may under certain conditions be resolved by the Federal Deposit Insurance Corporation (FDIC), rather than through the bankruptcy process. The FSOC may under certain circumstances set aside some financial regulations for consumers if the rules create systemic risk. The Office of Financial Research (OFR), a permanent staff of financial experts, supports the members of the FSOC. The OFR processes, monitors, and analyzes financial data gathered from member agencies and collected from reporting firms. The OFR contributes to the annual report issued by the FSOC. In the 2013 annual report, the OFR noted a number of positive trends, including increased capital levels and liquidity among financial intermediaries. However, the 2013 report includes several areas of continuing concern. For example, several sources of wholesale funding (such as money market mutual funds and repurchase agreements) remain vulnerable to the risk of runs or fire sales. The housing finance system still relies on government support, although financial trends for the government-sponsored enterprises (GSEs) have improved. A number of operational issues, such as information technology and resilience against cyber-attacks, are ongoing concerns. Interest rates create additional concerns, including the reliability of benchmarks such as LIBOR, and the exposure of financial intermediaries to significant losses should market interest rates rise (sometimes referred to as yield spikes). Long-term budget issues, so-called fiscal imbalances, remain a concern although revenues have recently been rising as general economic conditions improve in the United States. Finally, the 2013 annual report discusses several factors in other countries that could negatively affect financial stability in the United States if conditions overseas deteriorate, including the resolution of European financial turmoil and Japanese macroeconomic policies. This report is intended to be used as a reference by congressional staff working on financial issues. The macroeconomic policy rationales for various financial crisis-related issues are summarized, and a glossary is provided to assist in understanding technical terms. This report is not intended to be read from cover to cover, but instead may be more useful as issues related to the FSOC arise.

Energy tax policy involves the use of the government's main fiscal instruments -- primarilytax subsidies (tax credits, deductions, exemptions, and lower tax rates) as financial incentives, andincreased taxes as financial disincentives -- to alter the allocation or configuration of energyresources and thereby achieve policy objectives. The idea of applying tax policy instruments to theenergy markets is not new, but until the 1970s energy tax policy had been little used, except topromote oil and gas development. (1) Recurrent energy-related problems since the 1970s -- oil embargoes, oil price and supplyshocks, wide petroleum price variations and price spikes, large geographical price disparities, tightenergy supplies, rising oil import dependence, as well as increased concern for the environment --have caused policymakers to look toward energy taxes and subsidies with greater frequency. In atypical Congress hundreds of bills are introduced that propose to amend energy tax policy directly,and hundreds of others have indirect effects that either reduce costs (energy tax incentives) orincrease costs (energy taxes) in the energy industry. In the 108th Congress, over200 such bills wereintroduced. More recently, energy tax incentives and subsidies (and also some reductions in energy taxes)have been the dominant part of comprehensive energy policy legislation -- dominant in the sense thatthe changes in taxes resulting from the incentives produce the greatest economic effects in terms ofcost reductions or increases. In the 107th and 108th Congresses, an emerging "energy crisis" -- fluctuating oil prices, spiking petroleum product prices, the California energy crisis, spiking naturalgas prices, the collapse of Enron in 2001, the northeast electricity blackout on August 14, 2003 --led to several comprehensive energy policy reform bills. These bills proposed to, among otherthings, stimulate additional production of oil and gas and reduce petroleum import dependence,expand electricity supply and infrastructure, promote energy conservation and efficiency, and expandthe supply of alternative (renewable and unconventional) fuels. (2) Sizeable energy tax subsidies(tilted more toward fossil fuel supply) were part of H.R. 6 , the comprehensive energypolicy bill of the 108th Congress. The conference version of that bill proposed a $23.5 billion tenyear energy tax cut. (3) Failure of the comprehensive energy legislation caused several energy tax incentives to expirein 2003, so the 108th Congress enacted retroactive extension of several of the provisions as part ofthe Working Families Tax Relief Act of 2004 ( P.L. 108-311 ). Those provisions, which reducedrevenues by about $1.3 billion over ten years, were enacted on enacted on October 4, 2004. About$5 billion in energy tax incentives -- mostly from the expansion and liberalization of the renewableelectricity tax credit -- were part of the American Jobs Creation Act of 2004 ( P.L. 108-357 ) enactedon October 22, 2004. That leaves roughly $17 billion in tax breaks embodied in the failedcomprehensive legislation H.R. 6 (108th Congress) that have not been enacted. Many of the energy tax incentives that have not been enacted over the past four or five yearshave been repackaged as H.R. 6 (109th Congress), which the House approved with itstax title on April 13, 2005. The tax provisions provide about $8.1 billion of energy tax cuts over tenyears as compared with $23.5 billion in H.R. 6 in the 108th Congress, and $33.5 billionin House version of H.R. 4 in the 107th. The Senate is expected to vote on an SenateFinance Committee approved bill that provides about $17 billion in energy tax subsidies. This billis tilted less toward fossil fuel production and more toward energy conservation and alternative fuelsthan the $8 billion tax incentives package in the House-passed energy bill. President Bush's FY2006budget request proposed a $6.7 billion, ten-year energy tax incentives package. Finally, not all of the recent actions in the area of energy tax policy have involved taxsubsidies or incentives -- some have involved taxation. For example, during the spike in gasolineand diesel prices of spring 2000, there were several proposals (e.g., S. 2285 , 106thCongress) to suspend the motor fuels excise taxes to relieve consumers the burden of high andspiking prices. (4) Morerecently, there are bills to reinstate the crude oil windfall profit tax of the 1980 to reduce the windfallprofits allegedly being earned by oil companies from high crude oil and petroleum product prices. Proposals to amend the current federal tax treatment of the energy industry, and to eitherimpose energy taxes or provide tax subsidies, raise several important economic and other publicpolicy issues: The nature and seriousness of the nation's energy problems, and the appropriatepolicy instruments to deal with them. What exactly are the problems in U.S. energy markets? Is theproblem one of excessive demand for, and consumption of, energy? Is it insufficient supply? Or isit both? Moreover, are the problems an inherent part of the market system -- that need a governmentsolution? Or does government interference worsen the situation? Are there market failures, or justsimply barriers that could be overcome by the market itself if the economic variables were alignedjust right? More specifically, what are the various problems in each of the energy markets,the petroleum, natural gas, and electricity markets? How serious is growing petroleum importdependence and what are the tax policy instruments that may be effectively used to address thisproblem? Assuming that energy tax policy instruments are the recommended policychoice, how should the specific change in tax burdens be achieved? Should energy tax burdens bechanged by a tax credit, tax deduction or exemption, or by reducing some energy tax rate? What isthe relative effectiveness of each of these tax subsidy instruments in achieving policy effectiveness(the most "bang-for-the-buck")? What is, and what should be the federal tax treatment of the energy industry,including the tax treatment of investments in oil and gas wells and coal mines, and the tax treatmentof other expenses such as exploration and development costs? Does the oil and gas industry receivefederal tax subsidies and if so how much? Do these subsidies adversely affect the production,consumption, and importation of energy? Do they also inhibit the development of renewable energy(such as solar, wind, and biomass) and investments in energy efficiency? Should federal taxsubsidies for oil and gas and other fossil fuels be increased to stimulate exploration and supply toaddress our energy problems or would budgetary resources be better used to reduce energy demandby providing tax incentives for energy efficiency and renewable energy? How should the tax code allow for depletion of mineral reserves and othermineral production expenses. For example, should it use cost depletion, adjusted cost depletion,percentage depletion, or complete expensing? How would the various tax reform proposals (forexample, a cash-flow tax or a consumption tax) affect the treatment of the oil and gas and otherenergy sectors? Is there an economic or policy rationale for energy taxes to raise revenue orenergy tax subsidies to encourage greater energy conservation or increased supply of alternativefuels? Further, assuming the policy objective is to promote fossil fuel conservation, would the moreeffective incentives target energy efficiency or the supply of alternative (including renewable) formsof energy? What are the economic effects -- the effects on allocational efficiency,distribution of income, macroeconomic effects, effects on energy supply, demand, and imports -- oftaxing or subsidizing energy? This report provides background on the theory and application of tax policy as it relates tothe energy sector, particularly with respect to the theory of market failure in the energy sector andthe possible policy remedies. More specifically, it provides an overview for policymakers on thetypes of energy tax policy interventions that are likely to improve the functioning of energy markets,and the efficiency with which the general economic system allocates resources (i.e., the generalwelfare). Table 1 summarizes the market failures discussion in the report. It lists the types of energymarket failures likely to cause economic inefficiencies and the tax policy remedy suggested byeconomists. It also cites examples in current law that are consistent with this theory -- energy taxprovisions that enhance economic efficiency. The text following the table discusses each of thesefailures in detail. (5) At the outset, it is important to address the notion that there is something inherently differentabout energy, or fuels from various energy resources, that requires government intervention throughthe tax code. Often energy tax proposals are premised on such arguments, that energy is tooimportant to be left to the unfettered private market system. Table 1. Energy Market Failures and Energy Tax Policy Remedies Source: Adaptation based on Fisher, Anthony and Michael H. Rothkopf. Market Failure and Energy Policy: The Rationale for Selective Conservation. Energy Policy, v.17, August, 1989. According to economists, energy is a commodity that is produced to provideutility to consumers or end users, and, in general, is no different than any othereconomic good. Three features of energy as an economic good, however, differentiateit from other commodities. First, most energy is derived from depletable mineralresources: Petroleum products are derived from crude oil, natural gas resides indepletable reservoirs or deposits (such as coal mines), and electricity is (currently)mostly derived from coal. While this does not necessarily impede the smoothfunctioning of the competitive market system, it does mean that production decisionshave to be made functioning of the competitive market system, it does mean thatproduction decisions have to be made in an inter-temporal framework. That raises theimportant inter-generational question: Do markets optimally deplete resources overtime, or do they exploit them for short run gain at the expense of the long-termbenefits of the future generation of consumers? The second distinguishing feature of energy is that the activities required toproduce it generate adverse environmental effects, and the process of transformingit to do work involves combustion, which also generates pollution from emissions. In the presence of such pollution -- or externalities as discussed below -- marketsgenerally fail to produce and use the optimal quantities of energy -- they produce anduse too much energy, i.e., more than the optimal amounts that maximize socialwell-being. Finally, energy is different from other commodities (say, e.g., food, clothingor housing) in that both at the micro and macroeconomic level it enters theproduction process of many firms and industries in an important extent -- it is a majorfactor of production, just as are labor, capital, and managerial ability. This hasimportant implications for the macro-economy: It means that changes in energyprices, particularly crude oil prices which are benchmarks for all energy prices, havethe potential to move the markets, and the macro-economy, in a major way. Fluctuations in energy prices could have major effects on the business cycle,affecting aggregate output (GDP), employment, interest rates, and prices (i.e.,inflation). Two examples of this are the recession of 1974-75, which was caused bythe 1973 oil embargo, and the stagflation of the late 1970s, which was caused by thesharp run-up of crude oil prices of the 1970s. Under generally accepted economic and accounting principles, producers ofdepletable resources (such as oil, gas, or coal), who attempt to maximize profits overa finite stock of a resource, should be taxed in the same manner as non-energyproducers not subject to the finite resource constraint. Under a pure income tax,depreciation deductions would be based on economic depreciation; exploration anddevelopment drilling expenditures would be subject to cost depletion (capitalized)instead of expensed (entirely deducted from current-year taxable income) as iscurrently done; and depletion allowances would be based on the actual decline ineconomic value of the mineral deposit (or approximated by indexed cost depletioninstead of percentage depletion). (6) A neutral tax system would also generally capitalizedry hole costs, the intangible costs of drilling unsuccessful wells, as such expensesmay be viewed as part of the cost of developing successful wells -- essentially thecosts of creating an asset of value. In the event that there are no successful wells, thena deduction for such costs in the year incurred is appropriate under a neutral incometax system. Such an income tax would be neutral; i.e., it would not distort resourceallocation, the optimal allocation that would otherwise result in a competitivemarket. (7) The current tax treatment of mineral producers -- which permits expensingof intangible drilling costs and dry hole costs, percentage rather than cost depletionfor smaller companies and for some royalty owners, exemption from passive losslimitation rules that apply to other industries, and special tax credits and othersubsidies (such as the tax credit for oil and gas produced from marginal wells) -- differs from this neutral tax treatment in that it provides several tax subsidies for oiland gas. (8) While the magnitude and value of the subsidies in the aggregate are not large relativeto the size of the oil and gas industry, this can still lead to increased investments inlocating reserves (increased exploration), more profitable production, and someacceleration of oil and gas production (increased rate of extraction) and excessivelyrapid depletion of the resource (i.e., they provide an unambiguous incentive todeplete sooner rather than later). It also would lead to a channeling of resources intothese activities that otherwise would be used for oil and gas activities abroad or forother economic activities in the United States. While a change from the present tax system of tax subsidies to a neutral taxsystem would have a heavy adverse effect on many smaller oil and gas companies,particularly those that concentrate on onshore exploration, if the theory is correct, itwould be more than offset by the positive welfare effect on the country generally asmarket distortions are reduced, and resources would be allocated more efficiently. Perhaps more than other markets, the energy markets have characteristicswhich can lead to market failure and thus a misallocation of resources. Production,importation, and use of energy frequently generate non-market costs or benefits notaccounted for by the producers, importers, or consumers (and therefore not measuredin the marketplace) that spill over to people who are not a party to the transaction. These spillovers -- or externalities -- are an energy market shortcoming because theyare uncompensated, not reflected in the equilibrium market prices for the fuel(because without government intervention there are no economic incentives to do so). With externalities operating, markets can fail to establish energy prices equalto marginal costs of supply. With inaccurate cost/price signals, a competitivefree-market system may fail to achieve the socially optimal mix -- the allocationallyefficient mix -- of output. The presence of externalities does not alter the economicargument that competitive mineral producers should be taxed under the same incometax rules as the competitive non-mineral producers, but it does suggest either aseparate energy tax (in the case of a negative production externality, whereproduction and use of energy generates costs) or an energy tax subsidy (in the caseof a positive production externality, where the firm's competitive free market outputgenerates benefits to third parties). Environmental damage is perhaps the major negative externality created asa result of energy production and consumption activities. This consists mostly of airpollution resulting from mining, transportation and transmission, and refining andindustrial use of oil, gas, and coal, but also includes discharges of effluents into thewater, runoff from streets, and damages to the land from mining. For example, coalmining can be the source of external costs such as black lung disease (fromunderground mining), destruction of landscape, and water pollution from aciddrainage. Combustion of coal in coal-fired powerplants produces large emissions ofharmful gases, fine particulate matter, and urban smog linked to a wide range ofhealth and environmental damages. (9) The use (or combustion) of fossil fuels at the finalconsumer level by households, motorists, and businesses is also a significant sourceof air pollution and other environmental damages that impose uncompensated costson society (those not paying for the use of the fuel directly). While much of the airpollution is from the combustion of fossil fuels (gasoline and diesel) intransportation, it also includes industrial and residential fuels such as natural gas,heating oil, and coal. The Emissions Tax. Most publicfinance and environmental economists argue that a market-based instrument such asa tax, e.g., an emissions tax in the case of air pollution from the combustion of fossilfuels, would be an economically preferred instrument to correct for the marketdistortions caused by the pollution externality. (10) The taxwould be equal to the monetary value, per unit of emissions, of the damages to thirdparties, and structures, and other damages resulting from the harmful emission. Whilecurrent federal tax law does not provide an example of a theoretically pure pollutiontax, the tax on ozone-depleting chemicals resembles such a tax. (11) This tax,which is part of Internal Revenue Code (IRC) §4681 and §4682, assesses a per-poundtax on the sale or use of a variety of chlorofluorocarbons (CFCs) and other chemicalsthat have been proven to be harmful to the Earth's ozone layer. The tax varies basedon the degree of harm of each of the taxed chemicals, being lowest for methylchloroform and highest for Halon-1301. (12) Another example might be the black-lung excisetax on domestically mined coal. (13) Energy Taxes Aa Pollution Taxes. Some have proposed energy taxes based on the assumption that there is roughly adirect proportional relationship between emissions and the quantity of the fuel used.This tax would be imposed on the quantity of polluting fuel used, with rates varyingdirectly with the amount of external cost generated by each fuel based on estimatesof the monetary value of the harm to third parties. Thus, it would be highest on coal,then oil, then gas, and any non-polluting renewable energy resources such ashydropower would be either taxed at very low rates or tax exempt, depending on thedegree of environmental damage. (14) Two example of such a tax are the carbon tax andthe British Thermal Unit or Btu tax. While a carbon tax in theory should be a chargeon the emissions of CO 2 , in practice this tax is conceived of as an energy tax on thequantity of three fossil fuels burned -- coal, petroleum, and natural gas -- with the taxrate based on the carbon content, in the ratio of 1.0 to 0.8 to 0.6 respectively. Anexample of an energy tax that approximates the effects of a theoretically pureenvironmental tax might be a tax on vehicle fuel as proxy for the pure tailpipeemissions tax. This could be implemented as an addition to the existing motor fuelsexcise tax (the taxes on gasoline and diesel fuel). This externality tax would be inaddition to the current excise taxes on these fuels that are mainly user charges for thebenefits received from federal highway infrastructure. (15) Clinton's Btu Tax. The Btu(British thermal unit) tax is a broadly-based energy tax based on the heat content orheating potential of a fuel, or energy content in the form of heat. The standard Btu tax-- the type considered by the Congress in the 1980s and again in 1990 and the ClintonAdministration in 1993 -- is a flat or unit excise tax on all forms of energy based onthe Btu. For example, one barrel of oil has, on average, about 5.8 million Btu's,meaning that it has 5.8 million units of heat capable of raising one pound of water atmaximum density by one degree Fahrenheit. One short ton of coal (2,000 lbs.)contains about 22 million Btu's, about four times the Btu's in one barrel of oil; onethousand cubic feet (mcf) of natural gas contains about 1 million Btu's, about 1/6ththat of oil. (16) One gallon of gasoline contains about 125,000Btu's. Thus, for example, a fixed rate Btu tax of $1.00 per million of Btu's wouldimpose the following taxes: $5.80 per barrel on oil (about 15% of the 2003 oilprice), $0.97 per mcf of natural gas (about 20% of natural gas prices paid bypipelines); $20 per ton of coal (about 114% of coal prices), and 12.5¢ per gallon ofgasoline (about 11% of recent average gasoline prices). (17) On the eve of the 1973 oil embargo, petroleum imports supplied 33.4% ofU.S. consumption. Import dependence increased to 44.9% of consumption in 1978,and remained relatively flat through 1992. Since then, however, petroleum importshave increased to over 60% of consumption. For example, during the four weekperiod ending on June 3, 2005, petroleum imports were 60.7% of total supplies. Table 2. A $1 Million BTU Tax on SelectedFuels as % of 2003 Fuel Price Source: All data from Monthly Energy Review, May 2005. Coal price data are fromthe Energy Information Administration's website. A variety of external costs may be associated with petroleum importation.These may result when petroleum importers fail to take into account the non-marketcosts of ("excessive") dependence on imported petroleum from countries that arepolitically unstable or perhaps unfriendly to the United States. These costs are: the weakened defense posture and greater military vulnerabilityin the event of an embargo or supply disruption; the cost of allocating greater resources to national defense inorder to maintain the level of national security preferred (compared with the quantitythat would be allocated with much lower oil imports); and the economic and social costs in terms of unemployment,inflation, and shortages that would result from an effective oil embargo, or oil pricespikes. (18) One economically efficient policy to correct for these distortions wouldimpose a tax (or tariff) on imported petroleum based on the per-barrel estimate ofthese costs (the so-called oil import "premium"). Such a tax, however, would likelyviolate trade agreements, and thus policymakers focus on alternative policies suchas tax incentives for domestic petroleum production, which also reduce the demandfor imported petroleum. The problem of vulnerability to embargoes and price shocks, which relatesto dependence on imported oil from the Organization of Petroleum ExportingCountries (OPEC) and other unstable foreign countries, is distinct from the problemof import dependence, and might be better addressed in a policy of stockpiling oil asis being done with the Strategic Petroleum Reserve. Some have argued that oil price volatility might be a possible source ofmarket failure because it raises the risks associated with investing in oil and gas andmay result in under-investment in domestic oil and gas extraction. For much of the first part of the 20th Century, crude oil prices declined in realterms and the energy markets were relatively stable. The price of oil varied duringthis period, but new discoveries kept the trend of prices downward; gasoline, naturalgas, and electricity prices were also essentially declining in nominal terms duringmuch of this period. (19) The 1973-74 Arab oil embargo against the UnitedStates reduced oil supplies by 10-15% and oil prices more than doubled in just twoyears. The 1978-79 political turmoil in Iran (and the resulting abdication of theShah) and the Iranian oil workers strike virtually shut off this source of oil suppliesfrom the world market. Iranian oil output dropped from 6 million bpd to 1.2 millionbpd in December 1978, although other OPEC producers made up Iran's shortfalls.This was followed by a war between Iran and Iraq, which also threatened world oilsupplies and supplies to the United States. Although the loss of imports to the United States was not that large (about500,000 bpd), the threat of another supply disruption, combined with oil pricecontrols, caused panic buying on the part of consumers and strategic behavior on thepart of oil producers, which resulted in substantial oil price hikes. Crude oil pricesmore than doubled during this period from about $10/barrel to over $24/barrel. By1980, the official OPEC price was $36/barrel, but spot market prices reached nearly$40/barrel. Thus, between 1970 and 1980 crude oil prices had increased from around$1.50/barrel to around $35/barrel, an increase of over 2,200%. In 1985-86 there wasa sharp decline in oil prices, which were welcomed by consumers and beneficial tothe general economy, but which hurt the domestic oil industry (particularly upstreamoperations), and oil producing regions of the United States (Texas, Louisiana,Oklahoma, and Alaska) From 1986-1999 oil prices averaged about $17.00 per barrel, but they fluctuated from between $12 and $20 per barrel. Domestic crude oil prices reacheda low of about $8/barrel in December 1998, among the lowest crude oil prices inhistory after correcting for inflation. By the summer of 1999, crude oil prices hadrecovered to about $20 per barrel; and by the summer of 2000 prices peaked at wellover $30 per barrel, due largely to output reductions by OPEC, but also due to theincreased energy demand accompanying increasing growth in the world (particularlythe Asian) economies. Crude prices were still high by November 2000 ($30.30/barrel), but they fellin December after OPEC, which in 2004 produced 42% of the world's oil, increasedproduction. OPEC's prodigious oil reserves, sizeable production capacity, and cartel-type behavior make it the swing producer, capable of affecting short-run prices ineither direction, thus making both world and domestic crude oil prices more volatilethan they otherwise would be. During the winter of 2002-2003, there was anothercrude oil price increase, this time due to the anticipated war with Iraq and politicalupheaval in Venezuela and Nigeria, which are major oil producers and suppliers tothe United States. Most recently, prices have reached $60/barrel and have remainedabove $50 for several months. Wide fluctuations in the market price of oil increase investor risk in theenergy industry (particularly for oil and gas investments), but it can also inhibitinvestments in the development of alternative energy resources, both unconventionaland renewable, and in energy efficiency. However, all prices fluctuate in a freemarket, although some more than others. And such fluctuations or risks are part ofbeing in business -- they are not necessarily market failures. Further, if oil and gasprices fluctuate "excessively" so that they generate unusual risks that may affectenergy, economic, or national security, the preferred approach from an economist'spoint of view would be to attempt to stabilize the price of oil -- this might be doneby a variable oil import tax -- rather than to provide tax subsidies. (20) Sometimes energy taxes may act as a quasi user fee, a charge for the benefitsreceived by taxpayers from the provision of a public good or quasi-public goodfinanced from the user fee revenues. This is the economic rationale for the gasolinetax, which charges motorists generally in proportion to their use of the interstatehighways and highway infrastructure and uses the revenues to build and maintain thatinfrastructure. To the extent that charges approximate individual benefits received,the tax would be efficient and equitable. (21) Such taxes, however, are less precise instrumentsthan tolls and other benefit charges because 1) they do not actually charge users forthe marginal cost of using the infrastructure (including pavement costs, congestioncosts, and environmental costs), and 2) some of the highway trust fund revenues --currently the revenues from 2.86¢ of the tax -- are allocated for mass transit, whichmeans that motorists are paying to subsidize users of mass transit. It is true that allmotorists benefit from reduced congestion, but the most efficient way of addressingthis problem is to price the use of the roads to account specifically for the congestionexternality. When the externalities or spillover effects are positive, i.e., when a markettransaction or activity confers unpriced benefits on third parties, the market systemwould Under supply the commodity or activity. The classic case of positiveexternalities is research and development (R&D) that leads to technologicalinnovations. An individual firm that undertakes R&D activities obviously incurs thecost of these efforts and activities, but it typically does not obtain the entire return,some of which accrues to other firms (free riders) that do not undertake theseexpenditures. Energy R&D engenders similar spillover effects, whether it is fromresearch in clean-coal technologies, photovoltaic solar systems, electric cars, fuelcells, or energy efficiency technologies. The manufacturer of building equipment andenergy-using technologies may not have adequate incentives to support sufficientlevels of research to improve building or equipment efficiency because some of thegains may accrue to firms not undertaking the expenditures. In cases of positive externalities, the social return exceeds the purely privatereturns to individual companies, and from an economic perspective a subsidy iswarranted to bring the marginal costs of production in balance with the marginalsocial benefit (private benefits + external benefits, at the margin). Such support hasproduced major innovations in the energy efficiency of various energyusing-equipment such as heat pumps and resulted in significant reductions in theprice of generating alternative energy such as photovoltaic solar energy. Such is therationale for the present tax subsidies for such technologies (the tax credit, andexpensing treatment of R&D expenditures) as well as government expenditures forenergy R&D. The amount of the subsidy on the product or activity would be the value ofthe benefits per unit of the commodity traded -- proportional to the spillover --conferred on the source of the external benefits. Energy R&D is unlikely, however,to require a differential subsidy -- above and beyond that provided for non-energyR&D -- since there is no a priori reason to believe that the external benefits fromenergy R&D are higher or lower than for non-energy R&D. Many of the incentives or subsidies that are proposed for oil and gas as wellas for alternative fuels appear to be based on the supposition that government oughtto support business, particularly when times are bad. Such, for example, was therationale for numerous proposals to help the domestic oil industry, particularly smallproducers, that were harmed by the downward trend in crude oil prices since the mid-1980s, and the sharp drop in those prices during 1998-99. The low prices of 1998-99 fostered proposals for economic relief through thetax code for the particularly small independent drillers and producers, which were theharbingers of current comprehensive energy bills. The 1998-99 proposals mainlyfocused on production tax credits for marginal or stripper oil, which were laterincluded in the American Jobs Creation Act of 2004, P.L. 108-357 , enacted onOctober 22, 2004 (also referred to as the "jobs bill"). A $500 million package of loanguarantees for small independent oil and gas producers, which became law ( P.L.106-51 ) in August 1999, was enacted in lieu of the tax incentives. The Economic Justification for Tax Subsidies asan Industrial Policy. There is no purely economic justification,either on efficiency or stabilization grounds, for using tax subsidies as an industrialor employment policy to help a distressed industry -- including the conventionalfossil fuels industry and the alternative fuels industry. An industrial policy is usuallythe context for government subsidies to businesses whenever those businessesexperience sustained or sharp economic hardships, due generally to any cause buttargeted toward industries experiencing declining prices, suffering cost/pricesqueezes, or competition from foreign firms. Economic theory does recognize that market failures such as barriers to entryinto markets, and other failures that inhibit market competition, may be used tojustify government intervention. Intervention may also be justified by "externalities"or spillovers, previously discussed. The U.S. and world crude oil markets arecertainly not perfectly competitive, as there are elements of market power particularlyin the world oil market, which is significantly affected by the OPEC. But thesemarkets are certainly more competitive today then they have ever been. It does notappear that the imperfections may be exhibited by either the U.S. or world crude oilmarkets, that they would justify tax subsidies to oil and gas producers on grounds ofeconomic efficiency. Depressed or volatile oil prices (or any other price) are notmarket failures. An industrial policy is an inefficient way to stimulate aggregateemployment. Some have argued that the competitive free-market system may establishinterest rates (or private discount rates) that are too high, which may lead producersto discount the future excessively and therefore deplete energy and other minerals toorapidly. Rapid depletion increases environmental damages for the current generationand reduces economic living standards (real income) for future generations whowould have a lower capital stock. In general, economic theory and empirical evidence refute the proposition thatcompetitive markets lead to excessive exploitation of mineral resources. Capitalmarkets are also believed to function fairly close to competition, and there is nomarket failure that results in interest rates higher than the competitive rates. Even ifthe argument were true, however, it would at the very least suggest policies to lowerinterest rates, elimination of all federal tax subsidies for nonrenewable resources, andthe imposition of a federal severance tax to reduce production of these resources. Energy taxes on producers and consumers that factor in the external costs ofenergy use, such as air pollution, would contribute significantly to energyconservation by raising energy prices and reducing the demand for energy. Thedemand for energy would decline both through a direct demand response, i.e.,curbing energy use through reductions in output, service, or utility levels (e.g., byreducing the number of miles driven, indoor temperatures during winter by turningdown the thermostat, etc.) and through substitution of more energy-efficient for lessenergy-efficient technologies. This would be true for all energy that generatesexternal costs, but is particularly true for fossil fuels, whose external costs aregenerally greater than for other energy types. However, energy taxes to encourage conservation should be unnecessary oneconomic grounds because over the longer term, as depletion gradually diminishesthe stock of exhaustible energy resources (such as petroleum), conventional energyprices would be expected to increase in real terms, all else (such as technologicaladvancements and innovations, and the degree of recycling) remaining thesame. (22) As a result, more of the energy efficient technologies would become profitable andinvestment in energy-efficient technologies would increase (for example, moreenergy efficient housing, automobiles with higher miles per gallon, and more energyefficient industrial equipment such as boilers). (23) Thus, aside from energy taxes or subsidies to correct for energy productionand consumption externalities, and aside from possible user charges, economists generally argue there is no economic justification for additional taxes or tax subsidiesto encourage greater energy conservation, or energy efficiency. This is because thereis generally no market failure in energy use (notwithstanding the environmentalexternalities discussed above, or the exceptions discussed below) or in investmentin energy-using technologies -- at either the household or business level -- thatrequires such tax subsidies. Just as the competitive market system, corrected forexternalities, automatically and efficiently leads to the optimal production and useof energy resources, it also leads to the optimal amount of investment in energyefficiency technologies. All this is done without the effect of subsidies, in terms ofrevenue losses and allocational distortions, which reduce aggregate output and thegeneral welfare. There are four market failures in energy use, however, that may be aneconomic justification for government intervention, but only one is a rationale forcertain types of conservation tax subsidies. In rental housing, the tenant and thelandlord lack strong financial incentives to invest in energy conservation equipmentand materials, even when the benefits clearly outweigh the costs, because thebenefits from such conservation may not entirely accrue to the party undertaking theenergy-saving expenditure and effort. Builders and buyers may also lack sufficientinformation, a problem which is also discussed below. As a general rule, tenants are not going to improve the energy efficiency ofa residence that does not belong to them, even if the unit is metered. They might ifthe rate of return (or payback) is sufficiently large, but most tenants do not occupyrental housing long enough to reap the full benefits of the energy conservationinvestments. Part of the problem is also that it is not always easy to calculate theenergy savings potential (hence, rates of return) from various retrofitting investments. Landlords may not be able to control the energy consumption habits of renters tosufficiently recover the full cost of the energy conservation expenditures, regardlessof whether the units are individually metered or not. If the units are individuallymetered, then the landlord would not undertake such investments since all thebenefits therefrom would accrue to the renters, unless a landlord could charge higherrents on apartments with lower utility costs. If the units are not individually metered,but under centralized control, the benefits of conservation measures may accruelargely to the landlord, but even here the tenants may have sufficient control overenergy use to subvert the accrual of any gains to the landlord. In such cases, from thelandlord's perspective, it may be easier and cheaper to forego the conservationinvestments and simply pass on energy costs as part of the rents. Individual meteringcan be quite costly and while it may reduce some of the distortions, it is not likely tocompletely eliminate these, because even if the landlord can charge higher rents, hemay not be able to recover the costs of energy conservation efforts or investments. These market failures may lead to Under investment in conservation measuresin rental housing and provide the economic rationale for Internal Revenue Code(IRC) §136, which allows the value of any energy conservation subsidy provided byelectric utilities to households to be excluded from gross income. Without suchexplicit exclusion, such subsidies would be treated as gross income and subject totax. This exclusion, however, applies to both owner-occupied and rental housing,and to a limited extent to business conservation subsidies. There are other types of market failures in energy use that may suggest eitherminimum efficiency standards or government-provided information such as energyefficiency labels. As suggested above, many homeowners may not know the precisepayback or rate of return of a particular energy-efficiency enhancing investment, ormay not know how to calculate it. This may be a particularly serious problem forolder homes, which are less energy efficient then newer models -- those built sincethe energy crisis of the 1970s. This market failure problem suggestsgovernment-provided information as a solution, however, rather than tax subsidies. A third energy market failure arises out of asymmetric information betweenenergy consumers and manufacturers of energy efficient equipment. The energyconsumer may have little incentive to become fully informed about the energyefficiency of a particular energy-using or -saving item, while the producer, who hascomplete and accurate information, doesn't have the incentive to produce a higherpriced and more energy efficient product, since it is might be more difficult to marketand sell such a product. Thus, while a particular energy-saving device may have ahigh rate of return, the market may not provide it. This problem suggests eithergovernment mandated efficiency standards or labeling as is currently being done withappliance energy labels and fuel economy labels. Finally, although capital markets are generally competitive and efficient, low-income consumers may have difficulty acquiring loans for conservation investments,even when such investments are profitable (the present value of the energyexpenditure savings is greater than the capital costs). This suggests that low or zerointerest rate loans for low income consumers or even weatherization grants couldaddress the problem. The higher energy prices that would result from taxes imposed onconventional energy to address external costs would also lead to more investment toincrease the supply of alternative fuels, which would, in time, lead to even moreconservation of (reduced demand for) conventional fuels. Over the longer term, thesupply of these alternatives would tend to increase as depletion of conventionalenergy raises its real price. Even without increases in conventional fuel prices,alternative energy could gain a price advantage through future technologicaladvances. As in the case of energy conservation, there are no externalities or marketfailures that cause under-investment in alternative energy technologies andunder-supply of alternative fuels. The private market system works effectively andefficiently in developing any form of energy and its technologies if there aresufficient profit incentives, i.e., if the rate of return on such investments is above theopportunity cost of capital. Moreover, the market ensures that the least-cost, mostefficient alternatives become commercialized first, and the market adjusts quicklyand efficiently to the changing dynamics of the marketplace. In general, in cases where alternative fuels have difficulty penetrating themarket, it is because they cannot be competitively priced, relative to conventionalfuels, generally because either oil prices are too low, capital costs of alternative fuelstechnologies are too high, or both. To illustrate, compare the estimated 30-yearlevelized costs, per unit of electrical output, and the capital costs of varioustechnologies for producing electricity using conventional fuels (primarily coal, butalso natural gas) and alternative fuels such as biomass and wind energy systems. (24) Electricutilities can upgrade existing coal-fired units at a cost of 2.0¢/kWh, or they can investin the latest efficient and cleaner technology (the advanced combined-cycle naturalgas unit) at a cost of about 3.5¢/KWh. These are substantially lower than someestimates of the cost/KWh of the following energy alternatives: 15.0¢ forphotovoltaics; 5-10¢ for small hydroelectric; 6-8¢ for solar thermal power; 4-7¢ forwind power; and 4-6¢ for biomass. Much of these cost differences are due to thesignificantly higher capital costs of generating electricity with alternative energyresources ($7,000/KW for photovoltaics, $1,500/KW for biomass, $1,000/KW forwind) as compared with conventional fuels ($400/KW for the combined cycle naturalgas and $200/KW for retrofitting existing coal-fired units). (25) Volatile oil prices can increase investor risk and inhibit the development ofalternative, renewable (solar, wind, etc.), and unconventional resources. This isbecause oil is the benchmark energy resource that sets the long-term price (andtherefore influences the profitability) of all other fuels. Hypothetically, if alternativefuels would be profitable at oil prices of $40 per barrel, but prices fluctuate between$20 per barrel and $60 per barrel, there will generally be less investment inrenewable and unconventional resources than if the price were stable at $40 everyyear. However, as discussed before, tax subsidies for alternative fuels are a costlyand inefficient policy to correct for such risks. It is sometimes argued that alternative fuels such as solar and wind energyand other 'renewables' are at a competitive disadvantage, vis-a-vis fossil fuels,because of the production tax subsidies -- expensing, percentage depletion, andothers -- bestowed on the oil and gas industry over decades, and that this justifiescountervailing subsidies to alternative fuels to "level the playing field." Historicallythe large tax subsidies for oil and gas -- which totaled tens of billions of dollars todate -- helped keep domestic and world oil prices low, encouraged consumption, anddiscouraged the development of alternatives fuels. Past subsidies, however, do notdetermine the economic viability of alternative fuels at the present time -- pastsubsidies do not significantly affect the current competitive structure of the energymarket. As to the current oil and gas tax subsidies, there are two reasons that thesesubsidies are unlikely to reduce the competitiveness of alternative fuels. First, currentoil and gas tax subsidies are smaller than they have been historically. Indeed, someevidence suggests that current oil and gas tax subsidies are smaller, in relationshipto industry size, than the tax subsidies for alternative fuels. (26) Second,and more importantly, the structure of the world crude oil market since the 1970s haschanged in a fundamental but critical way: Crude oil prices have since the 1970s beendetermined in a world oil market, a market which has become more competitive andin which U.S. domestic producers are price takers. In such a market, the subsidiesfor oil and gas have little if any effect on the market price of crude oil, hence little,if any, effect on the competitiveness of alternative fuels. Energy taxes have also been proposed for primarily fiscal reasons -- togenerate revenues for deficit reduction. The first federal gasoline tax was enacted in1932 (at 1¢/gal. for gasoline and 2¢ for diesel fuel) as a way of cushioning federaldeficits, which were mounting with the Great Depression. Energy tax proposals fordeficit reduction were commonplace during the 1982-1993 period as budget deficitsmounted due to huge tax cuts under the Economic Recovery Tax Act of 1981 ( P.L.97-34 ) and the nation experienced reduced inflation, economic recession, defensebuildups, and the federal inability to control spending. Several energy taxes wereproposed at that time: an increase in the excise taxes on gasoline, diesel, and othermotor fuels; a sizeable tax on imported oil (in addition to the customs dutiesthat are already imposed on imported petroleum); a tax on both imported and domestically produced crude oil;and a broadly-based or general energy tax on all or most types ofenergy consumption, either based on the heat content of the fuel (Btu tax), the carboncontent of the fuel (the carbon tax), or on the sales price (the ad valorem energy tax). Eventually, only the tax on gasoline and other motor fuels was increased (by 5¢ in1982, 5¢ in 1990, and by 4.3¢ in 1993). As a general economic principle there is no distinct fiscal rationale for afederal energy tax as a source of general fund financing of federal activities or fordeficit reduction. Economic principles suggest federal programs ought to be financedby general income or general consumption taxes. Such taxes, however, while lessdistortive and more equitable than energy taxes and other selective excise taxes (ordifferential commodity taxes) are also distortional. Income taxes, for instance, distortthe choice between work and leisure by raising the price of work relative to the priceof leisure, which tends to increase leisure and reduce work. Income taxes also distortthe choice between consuming and saving for the future by raising the price ofconsuming in the future (i.e., saving). If an efficiency enhancing tax, such as an externality correcting energy tax,could be substituted for a distortional tax in a revenue neutral way, not only wouldthere be no budgetary effect, but there would be a gain in efficiency (e.g., a reductionin pollution to the environment). (27) In some cases, the revenue gain -- hence thepossible efficiency gain -- could be substantial. For example, a $30/ton tax on carbonemissions, which would roughly stabilize carbon emissions at their 2000 levels,would generate about $40 billion annually; a $100 per ton tax could generate as muchas $100 billion annually. (28) Another example is the gasoline tax. Currently, the burden of the gasoline taxis largely offset or counterbalanced by the benefits received from highways andinfrastructure financed from the tax. This means that under current law, and indeedsince the inception of the gasoline tax, there has never been a tax on gasoline thataccounts for the external costs of driving: the environmental costs of oil productionand refining, the environmental costs from tailpipe emissions, the costs of oil importdependence, and the road congestion. A policy to impose a tax on gasoline as asubstitute for a distorting income tax would not only make drivers pay for theexternal costs of driving, it would reduce income tax distortions, and enhanceeconomic efficiency. Moreover, higher gasoline prices would promote petroleumconservation, reduce air pollution, and carbon emissions substantially, and wouldpromote the development of alternative fuels without a large cost, in terms of reducedrevenues from subsidization, to the federal budgetary. However, gasoline taxes ofthis magnitude could be, unless phased-in gradually, a significant shock to theeconomy. Energy taxes and subsidies, when used to correct for externalities and othermarket failures, offer an efficient alternative or supplement to regulations as aninstrument of environmental policy. Regulations prescribe the type of technology orequipment for environmental protection, the maximum permitted rate of emission fora particular pollutant, or a minimum energy-efficiency standard, and are part of the"command-and-control" approach to environmental protection. Regulations, suchas standards, give policymakers more assurance that environmental policy goals willbe achieved regardless of cost, but are often more costly and less economicallyefficient than taxes or tradeable emissions permits. To illustrate the fundamental reason why a standard would be economicallyless efficient than the tax, consider a regulation that prescribes that electric utilitygenerators must be at least 45% energy-efficient as a way of conserving energy andreducing power plant emissions. That is, every fossil-fuel-fired generator in usewould have to have an efficiency rate of 45%. In response to the standard, and givencurrent economics of alternative generation strategies, most utilities would invest inthe advanced combined-cycle natural gas system (ACCNG), which is the cheapestand most energy efficient technology, with an efficiency rate close to 50%. Subjecting all firms to the same regulatory standard essentially ensures the samebehavioral response regardless of differences in the marginal costs of reducing airemissions. But, while the ACCNG system is the least-costly technology among thosefeasible technologies that meet the 45% energy efficiency standard, it may not be theleast-cost energy conservation or air pollution control strategy for every single utility,in every single plant, every single generating unit, and for each of the various typesof emissions. Intuition suggests, and many studies have confirmed, that the marginal costsof pollution control (marginal abatement costs) vary for each type of pollutant andwith the type of technology that utilities use. With the regulation as described, noaccount would be taken of the differences among utilities, plants, and generatingunits in their capacity to reduce emissions. Yet, because of differences in sitecharacteristics, design, and utilization rate, current generating units differsignificantly with respect to the difficulty (or ease) and the cost of reducingemissions. As a result, those firms with the greater pollution abatement costs wouldhave to undertake the same level of abatement as those with lower marginalabatement costs. Because of these cost differences, there are many different strategies andoptions that utilities might use to reduce exhaust emissions from power plants. Forexample, some utilities might just reduce output, others might invest in pollutioncontrol equipment, and still others might replace their coal-fired units with advancedtechnologies. If there are enough differences among utilities and their marginalabatement costs, then the total costs of reducing emissions with the regulatorystandard would be greater (less efficient) than any of the market-based approaches. In contrast, a tax would provide the incentive for each polluter to reducepollution in the least costly way -- up to the point at which the tax just equals themarginal abatement costs. In the above illustration, the utility with the lowermarginal abatement costs of reducing pollution would undertake more pollutionabatement than the utility with higher marginal abatement costs. In that way the totalcost of abatement would be minimized. Tax revenues could be used to compensatethe parties that are harmed by the emissions. The total costs of emissions controlfrom utilities would be much lower if utilities were permitted to use varioustechnologies and control options that are the least cost for that particular utility, thatparticular plant, and that particular generating unit, to address different emissions,which is how a tax would work. By using a tax instead of a standard, all thoseanti-pollution activities that cost less than the tax will, in theory, be undertaken. An alternative market-based approach for environmental protection -- anefficient alternative to emissions taxes or their practical equivalent, energy taxes -- is the tradeable emission permit or allowance, also known as "pollution rights," "cap-and-trade," or marketable pollution permits. Under this approach, thegovernment (the Congress and the environmental authorities) requires each emitterof a particular pollutant to have a legal permit to emit a fixed amount of thatpollutant. The authorities establish a target level for aggregate emissions of aparticular pollutant (say so many hundreds of thousand of tons per year), and thepollution equivalence of the tradeable permits (one permit equals one ton of Xpollutant). It also allows these permits to be traded in the marketplace among sourceemitters (or among anyone), who can either buy and use them (if the costs of a permitare less than the marginal abatement costs), save them for future use (if they expectmarginal abatement costs to rise above the cost of each permit) or sell them (if theirmarginal abatement costs per ton are less than the price of a permit). The ideaunderlying this approach is that it achieves any given level of pollution at lowercosts, and is thus economically efficient. Those firms with relatively low marginalabatement costs will choose abatement over permits; those with relatively highabatement costs will choose to purchase permits rather than control pollution. Theaggregate level of pollution is fixed, however. While in theory allowances are equivalent to an emissions tax -- and thus alsomore efficient than standards -- in practice there are differences that may maketradeable permits generally more appealing to the policymaker in certain situationswhile the emissions tax approach is more appealing in others. (29) First,tradeable permits fix the level of aggregate pollution and let the price adjust, whereasthe tax fixes the price (the statutory tax rate per unit) and lets the quantity of pollutant(or its equivalent amount of energy) adjust. Thus, tradeable permits appear to givethe authorities greater certainty of control over the level of pollution, and thereforecontrol over air and water quality. Tradable permits are considered by many asuperior instrument when pollution is reaching some critical level and thegovernment needs to control the quantity of the emissions. Another advantage oftradeable permits is that they avoid the information problem associated withemissions taxes, which would require authorities to know both the marginal externalcosts (the monetary value of the damages) and the marginal abatement costs per unitof pollution. This information, none of which is required with tradeable permits, isdifficult and costly to estimate and in some cases not available at all. None of thisis required with tradeable permits. Finally, taxes may be eroded by inflation andaffected by the entry and exit of firms. This is not a problem for tradeable permits. Under a tradeable permit system the authorities must establish a system formonitoring the emissions of the polluter. This is relatively simple when the numberof polluters is relatively small in relationship to the magnitude of the emissions,which is the case with SO 2 emitted by electric utilities. As the number of pollutersincreases, the complexity of emissions monitoring and program administrationincreases exponentially, which raises the transactions costs of the permit system tosuch levels that it would no longer make tradeable permits efficient. Such is the casewith CO 2 emissions which have millions of sources. In such a case an emissions taxis more appealing. The economic efficiency advantages of market-based approaches toenvironmental protection are suggested by the documented evidence on the successof the tradeable permit system -- mandated by title IV of the Clean Air Act -- incontrolling emissions of sulfur dioxide (SO 2 ) by electric utilities while loweringcompliance costs as compared to initial or regulatory costs. (30) Accordingto the Environmental Protection Agency: "Both the Acid Rain Program's rate-basedapproach to NO x reduction and cap-and-trade approach to SO 2 reduction have beenvery successful." (31) Tradable permits are also being discussed as aninstrument of controlling greenhouse gases worldwide, part of an internationalframework to control emissions of CO 2 and other greenhouse gases. The level of, and changes to, energy taxes and subsidies can affect energyprices and output, economic growth rates, income distribution, and internationaltrade. Thus, they can be a very powerful energy and economic policy instrument. As was discussed above, energy taxes and subsidies can be a usefulinstrument to correct for pre-existing distortions in the allocation of resources andsimultaneously generate tax revenues, if they are imposed on activities orcommodities such as energy resources whose production and use generate externalcosts, or if they are imposed as user fees for the services of a public good. Otherwise,selective energy excise taxes for either greater production, improved technical energyefficiency, or increased supply of alternative fuels reduce the efficiency of theeconomy. Reduced efficiency implies reduced output and lower standards of living. With respect to energy taxes on supply, there is generally no separate equitycase that can be made for taxing energy at a higher rate than other commodities. Dueto nonrenewable resources' finite stock, economic rents (also called scarcity rents) arecreated when these resources are produced. Under competitive conditions such rentswould be expected to rise at the rate of interest so as to achieve asset or capital market equilibrium. Such rents are not excessive under competitive supply and neednot be taxed away on equity grounds. (32) Energy taxes on consumers (e.g., gasoline taxes,oil taxes, or general energy taxes) also frequently have negative distributionalconsequences because the incidence of such taxes often falls disproportionately onlower incomes. Finally, energy tax subsidies frequently also have adversedistributional effects. One example -- there are others -- is the income tax credit (the§29 tax credit) for non-conventional energy resources, which in addition to distortingresource allocation, losing tax revenues, and not reducing oil import dependence(since it has basically increased the supply of methane gas rather than alternatives topetroleum) is also questionable on tax equity grounds. Supporters of the creditcontend that it encourages domestic energy production, however, and could becomemore important in the future. They also note that domestic methane resulting fromthe credits helps offset the growing U.S. need for natural gas imports. Increases in energy taxes are basically a contractionary fiscal policy thatwould tend to reduce aggregate output and employment, and produce a temporaryincrease in the rate of inflation above the baseline. Increases in taxes on final energydemand, such as a hike in the gasoline tax, tend to be (dollar for dollar) lesscontractionary than energy taxes on industry (such as an oil tax) although these, too,reduce household income, consumer spending, and to some extent business costs andprofits. Sizeable taxes on oil increase the price of all energy and can trigger relativelylarge cutbacks in industrial energy use and energy used as inputs into production. Such taxes, including an oil import tax, can produce macroeconomic effects akin toan oil price shock, resulting in a temporary but sharp slowdown in the economy'sgrowth.

This report provides background on the theory and application of tax policy as it relates tothe energy sector, particularly with respect to the theory of market failure in the energy sector andsuggested policy remedies. Economic theory suggests that producers of energy-related minerals be taxed no differentlythan non-mineral producers: Exploration and development costs and other investments in a deposit(including geological and geophysical costs and delay rentals) should be capitalized. In general,competitive mineral producers subject to a pure income tax would not exploit resources as fast(compared with the rate of exploitation under the present system of subsidies). Over the longer term,depletion of fossil fuels and mineral resources leads to higher real energy prices, which wouldeventually promote the optimal amount of investment in energy efficiency and alternative fuelssupply. Under principles of neutrality of tax policy, there is no purely economic rationale for energytaxes or tax subsidies to (1) raise revenues; (2) conserve energy (with one exception); (3) promotealternative fuels; (4) compensate for any extra market risk; or (5) promote, as an industrial policy,specific industries such as the fossil fuels industry. However, even under a pure income tax,economic efficiency suggests a system of energy taxes (in addition to the income taxes) to correctfor any environmental externalities caused by the production, importation, and use of each fuel, andenergy taxes in the form of user charges for benefits received, such as the highway trust fund. In thecase of energy conservation, market failures in the use of energy in rental housing provide anefficiency rationale for the current gross income exclusion for conservation subsidies provided byelectric utilities. There are other market failures in energy use that suggest efficiency standards,energy labeling, or government-provided information, but not necessarily tax subsidies. Tax subsidies for domestic oil production tend to stimulate domestic supply of petroleum andreduce demand for petroleum imports. This may enhance national and economic security in the shortrun, but it might damage national and economic security in the long run as domestic energy resourcesare depleted faster than they otherwise would be. The economically efficient policy to reduce importdependence would impose a tax (or tariff) on imported petroleum based on the per-barrel estimateof these costs (the so-called oil import "premium"). The problem of vulnerability to embargoes andprice shocks, which relates to dependence on imported oil from the Organization of PetroleumExporting Countries (OPEC) and other potentially unstable or unfriendly foreign countries, is moreeffectively addressed in a policy of stockpiling oil, as is being done with the Strategic PetroleumReserve. In terms of environmental protection and management, energy taxes can be a cost-effectiveand efficient market-based instrument, and they are economically superior to the command andcontrol approach. In sum, energy taxes are generally distortional (except to correct for externalities,or when imposed as user fees for benefits received) and regressive, and may have adversemacroeconomic consequences, particularly sizeable taxes on energy production or oil imports.

The Army Corps of Engineers is responsible for building and maintaining much of the federal water resources infrastructure in the United States. The Corps is faced with more demands for building and maintaining its projects than available federal funding allows. This situation raises a number of basic questions about how the Corps functions, including the efficacy, efficiency, and equity of Corps planning and implementation. Recently the National Research Council identified a number of challenges facing the Corps (see box below). This report discusses selected frequently asked questions (FAQs) related to Corps fiscal challenges which are commonly raised by congressional staff. Where available, it also includes related recommendations from expert and government reports, as well as current legislation that may be considered in regard to these challenges (see Table 8 for examples of legislation in the 112 th Congress). The FAQs are organized into four categories: Appropriations; Backlog and Project Delivery; Authorizations and Missions; and Navigation Trust Funds. For more detailed background on Corps processes, see CRS Report R41243, Army Corps of Engineers Water Resource Projects: Authorization and Appropriations , by [author name scrubbed] and [author name scrubbed]. The frequently asked questions on Corps appropriations address the Corps' annual appropriations and supplemental funding, trends and categories of funding, and earmarks and emergency operations. After the appropriations FAQs, Table 3 provides some of the recommendations made in government and expert reports for addressing issues raised in the appropriations FAQs. The Corps budget funds a wide variety of activities. The Corps owns and operates 650 dams and maintains 926 coastal and inland harbors, and 12,000 miles of inland waterways; it also has constructed over 11,750 miles of levees to manage flooding. The agency also undertakes environmental or ecosystem restoration activities. Some are required for compliance with federal law; others are authorized by Congress for environmental mitigation, protection, and restoration purposes, including in the Florida Everglades, Columbia River, and the Missouri River. These environmental projects are often closely associated with Corps navigation, flood control, and hydroelectric investments. Annual Corps appropriations are part of the Energy and Water Development (E&W) appropriations bill. Congressional action on Corps appropriations is organized by budget account. The Administration's budget request is presented to Congress by account. However, starting with FY2006, the Administration has developed the Corps budget along business lines (e.g., navigation, flood, ecosystem/environment) and increasingly has relied on performance-based metrics to prioritize funding within a business line. Prior to that, requests had been developed more on a geographic basis. Figure 1 shows the FY2010 enacted Corps appropriation first by business line and second by account. As shown in the first part of this figure, the FY2010 appropriation can be divided into three broad categories of Corps business lines—flood and coastal storm damage prevention (FSDR), navigation, and all other business lines, which includes Corps ecosystem restoration and environmental work. Looking at the Corps budget by account, the bottom half of Figure 1 shows that one of the primary Corps accounts, Construction, was dominated by flood-related investments in FY2010. Funding for flood-related investments also made up a significant share of the Corps Operations and Maintenance (O&M) account, although the majority of this account's budget was devoted to navigation. Although other business lines may be smaller, cumulatively they represent a significant share of the agency's appropriations. Figure 2 compares budget requests and enacted appropriations from FY1986 to FY2011. Congressional appropriations regularly exceeded the executive branch requests over this period. Because of inflation in the cost of civil works activities, the purchasing power of the Corps annual appropriations has been relatively flat for two decades. That is, while Figure 2 shows that the nominal value of the Corps budget has increased since 1986, the real value increase has been less dramatic. A comparison of the real values of the 1990 and 2010 appropriations, using a general GDP deflator, shows a 10% increase in Corps appropriations. These real values likely overestimate the Corps' ability to use appropriations to accomplish activities since they do not reflect inflation for the types of construction (e.g., steel and concrete material costs) and services associated with a Corps project. Figure 3 uses a construction cost index that reflects that these construction and service costs increased faster than the general GDP deflator; the graph shows that the real value of Corps construction appropriations has been flat over the last 20 years. Generally, supplemental funds are directed to flood fighting and repair of flood control infrastructure and navigation channels after floods. At times, such as in response to Hurricane Katrina, supplemental funds have also been provided for construction of flood and storm damage reduction infrastructure. In many recent years, supplemental appropriations for the Corps have significantly augmented annual appropriations, especially in FY2006, FY2007, and FY2008; and in FY2009 and FY2010 through the American Recovery and Reinvestment Act (ARRA). Although the Corps received no supplemental appropriations in FY2011, it continued to spend supplemental appropriations previously provided (e.g., contracts for hurricane storm damage protection projects for Louisiana). The figures below do not reflect supplemental appropriations (except where noted in Figure 2 ). If an annual Energy and Water Development appropriations bill has not been enacted at the start of a fiscal year, Congress typically uses a continuing resolution (CR) to fund the operations and activities of the Corps and other agencies. In recent years, the Corps often has operated under short-term CRs, and at times has long-term CRs (e.g., FY2007 and FY2011). Absent explicit congressional guidance on account or project funding levels in a CR, the Administration distributes funds among authorized activities using criteria crafted by the Corps and the Office of Management and Budget (OMB). Among other things, recent criteria have prioritized projects that are ongoing, projects that have high benefit-cost ratios (BCRs), and a few large-scale ecosystem restoration projects associated with Corps projects or legally required environmental actions. For the FY2011 long-term CR, Congress required the Corps to submit, within 60 days of enactment, a plan that provided funding information at a level below the account level (i.e., the project level). This enabled Congress to review final project-level allocations. Corps funding often is a part of the debate on congressionally directed spending, or "earmarks." Because Corps activities are typically geographically specific in their authorizations and appropriations, they have been subject to earmark disclosure rules. In the 112 th Congress, the House Republican Conference, Senate Republican Conference, and the Senate Appropriations Committee have all adopted moratoriums on earmark requests that are significant to how Congress directs the agency's activities. While congressionally directed spending makes up a relatively small percentage of most agencies' activities, a significant number of Corps activities have in the past been fully or partially funded through congressional earmarks (including O&M expenditures). Much of the congressional direction of the Corps budget historically has occurred through funds that Congress provided the agency that were above the President's budget request. From 2000 to 2010, Congress added an average of $533 million annually to the Corps budget. Most of these funds were directed to specific projects. The congressional increase in Corps funding and the projects specified by Congress can be seen as Congress adjusting the President's request to reflect its perception of the nation's water resource needs and its perception of shortcomings in the Administration's budget. Because much of the congressionally directed spending was for geographically specific projects, earmark opponents instead saw funding for these projects as circumventing the Administration's performance and metric-based budgeting process. Earmark moratoriums appear to be altering the makeup of Corps appropriations by reducing the addition of specific projects to the Corps budget and by funding broad categories of activities rather than specific projects. Some projects which have historically benefitted from congressional support have received less funding (or no funding) in FY2011 enacted appropriations and FY2012 markups, respectively. This includes individual projects, which typically receive little or no support in the Administration's budget proposal (e.g., ongoing projects with BCRs below the Administration's cutoff), as well as projects that the Administration typically considers outside of Corps mission areas (e.g., municipal water and wastewater projects). While the current earmark moratoriums have limited congressional ability to direct funding to individual Corps projects not included in the President's budget, funding levels for some projects and activities that were included in the President's budget request have been altered by Congress. Additionally, Congress has funded broad categories of Corps projects and has provided the agency discretion to select specific projects that will receive this funding. In addition to funding impacts, the earmark moratoriums also influence Corps authorizations and may contribute to deauthorization of Corps activities. Water Resources Development Acts (WRDAs), which are the primary vehicle for Corps authorizations, historically have been omnibus bills that include many provisions for site-specific activities. Consideration of a WRDA 2010 ( H.R. 5892 , 111 th Congress) in the House was affected by the House Republican Conference moratorium on members requesting congressional earmarks in 2010. H.Rept. 111-654 , accompanying the House Transportation and Infrastructure Committee-reported version of H.R. 5892 , included a statement of "minority views" that cited numerous reasons, including economic conditions, for not supporting the bill at the time. Additionally, the decline in congressionally directed spending of specific Corps activities may contribute to more authorized projects and studies being deauthorized under established deauthorization procedures; many activities authorized in WRDA 2007 ( P.L. 110-114 ) have yet to receive funding. Overall, the Corps received less funding in FY2011 than in FY2010; funding decreased for most of the agency's business lines. Figure 4 provides a comparison of enacted Corps appropriations by business line for FY2010 and FY2011. Coastal Flood Damage Reduction was the only business line to increase in FY2011. There are many significant differences between how the agency's FY2010 and FY2011 appropriations were enacted and implemented, including the aforementioned issues associated with continuing resolutions and earmark moratoriums. For instance, as a result of the FY2011 CR, Congress did not weigh in on FY2011 appropriations at a level of specificity comparable to FY2010. Furthermore, although the Corps received less appropriations overall in FY2011 than it did in FY2010, the overall trend of the Corps receiving more funding from Congress than was requested in the President's budget continued. This trend is notably counter to larger budgetary trends for most agencies, which for the most part saw reductions compared to the President's budget request. Due to the Administration's lack of support for Corps environmental infrastructure projects, the Administration's FY2011 work plan provided $1 million to complete a project phase begun in FY2010; the congressionally directed spending for environmental infrastructure in FY2010 had totaled $140 million. While Figure 4 shows how the Corps' FY2011 work plan distributed the agency's appropriations across business lines, the agency's actual FY2011 use of funds is likely to differ due to the significant flooding along the Mississippi River, Missouri River, and the Midwest in 2011. As the result of the need to fund emergency operations, the Corps is transferring money away from the activities listed in the FY2011 work plan to emergency operations. Congress first authorized the Corps in the Flood Control Act of 1941 (55 Stat. 638, 33 U.S.C. 701n) to assist in flood fighting and repair efforts. The Corps can assist at the discretion of the Corps Chief of Engineers (Chief) in order to protect life and improved property, principally when state resources are overwhelmed. Congress also has authorized the Corps to operate a program—the Rehabilitation and Inspection Program (RIP, also known as the P.L. 84-99 program)—to fund the repair of participating flood control works (e.g., levees, dams) damaged by natural events. Corps funding for flood fighting and repair of flood control works generally has come through supplemental appropriations deposited into the agency's Flood Control and Coastal Emergencies (FCCE) account (see Table 1 for level of funding). Funding could be provided through annual appropriations, but the FCCE account generally receives minimal or no annual appropriations. As shown in the bottom of Table 1 , recent budget requests have proposed that some flood fighting preparedness activities be funded through annual appropriations, but Congress has not appropriated these funds as part of its Energy and Water Development appropriations acts. Congress has given the Secretary of the Army (generally the Assistant Secretary of the Army (Civil Works)) discretion to transfer from existing appropriations the monies necessary for emergency work, until funds become available in the FCCE account. With the significant flooding of FY2011, the Corps is transferring from ongoing projects to pay for its emergency actions. The effect these transfers may have on ongoing, non-emergency Corps projects may depend on how long and at what level funds are used for emergency operations and repair efforts. As indicated above, the Corps has received significant supplemental appropriations since 2001 as shown in Table 2 . The vast majority of the supplemental funding has been for its flood fighting and recovery efforts, with the exception of the ARRA funding. Roughly $15 billion in supplemental funding was provided in response to Hurricanes Katrina and Rita for not only repair of damaged hurricane protection infrastructure but also improved hurricane storm damage protection for New Orleans and other coastal areas of Louisiana and Mississippi. Most of the recommendations shown in Table 3 were made in a report by a panel of the National Academy of Public Administration (NAPA). NAPA is chartered by Congress to assist public sector leaders with management challenges; it is a non-profit, independent coalition of public management and organization leaders. Congress asked the Corps to engage NAPA to evaluate the criteria used by the Corps to prioritize projects and to recommend improvements. The FAQs on the Corps backlog and project delivery discuss the size and elements of the agency's construction backlog and operations and maintenance backlog, as well as the factors contributing to the expansion of the construction backlog. After the backlog FAQs, Table 4 provides recommendations made in an expert report for addressing the backlog. There is no authoritative list of the projects in the backlog that is publically available. Estimates of the Corps backlog vary widely, depending on which project categories are included (e.g., no funding, partially funded but not complete, only active projects). Congress requested in Section 2027 of Water Resources Development Act 2007 a fiscal transparency report, which would have expanded the publically available information. The study was never funded in the President's budget or by congressional appropriations, and no significant work has been performed on it. Recent Corps estimates put the total construction backlog for projects at more than $62 billion; Figure 5 provides a breakdown of this amount. The "active" backlog of $60 billion includes approximately $22 billion in activities that have been included in the President's budget but have yet to be completed, as well as more than $38 billion for other "active" projects which have yet to be included in the budget. Additionally, there is $2 billion in authorized construction projects which are no longer active or have been deferred by nonfederal sponsors. The Corps construction backlog includes not only activities authorized by Congress but also dam safety and other rehabilitation and repair projects that may not require congressional authorization. Aging infrastructure investments are included in the $60 billion estimate if they have been the subject of a Corps study, but at many Corps facilities these needs have not been studied. This is why the total construction backlog estimate is more than $62 billion. The significance of the Corps backlog depends on whether it is viewed as a "needs" or a "wants" backlog, and whether it represents unmet nonfederal expectations and unaddressed water resources problems. Although backlogs are not new to the Corps, some of the current concern is that since 1986 nonfederal project sponsors significantly share in the costs of most Corps projects, and many sponsors are frustrated by the lack of certainty about when their cost-shared projects will be completed and the benefits forthcoming. Another concern is that the backlog results in inefficient funding levels for many projects and in added pressure for congressionally directed spending. The composition of the projects in the construction backlog also provides insight into Corps fiscal challenges. Flood damage reduction and ecosystem restoration/environmental projects dominate the portion of the construction backlog that is part of the President's budget request. Efforts to manage the construction backlog may result particularly in a reevaluation of the role and priorities of the Corps in flood damage reduction projects and attention to how Corps ecosystem restoration projects are developed and prioritized. The desired responses to the Corps backlog supported by different Corps stakeholders vary widely. Some see the backlog as a justification for directing more funds to Corps activities, while others see it as a clarion for reducing the level and types of Corps activities authorized. Others view the backlog as a reason for efforts to reduce the expense and time needed to complete a Corps project. Some also view the Corps backlog as a reason for pursuing private sector involvement in and alternative federal financing (e.g., infrastructure banks) for water resources infrastructure. In addition to the construction backlog, the Corps has a maintenance backlog. No current estimate of the entire operations and maintenance (O&M) backlog is available. Although ARRA funding reduced the O&M backlog, additional work needed for Corps facilities is reportedly significant. For instance, the funding provided in the FY2012 budget request for the Corps coastal navigation O&M was $2.2 billion below the potential work identified during the Corps budgeting process. There are multiple factors contributing to backlog growth. First, authorizations have outpaced appropriations in recent years. Between 1986 and 2010, Congress authorized new Corps projects at a rate that significantly exceeded appropriations; in 2010 dollars, the annual rate of authorizations was roughly $3.0 billion and the rate of appropriations for new construction was roughly $1.8 billion. Figure 6 is an illustration of how the backlog grew since 1986 as the result of the rate of authorizations outpacing appropriations. Second, aging infrastructure also is requiring more financial investments. A growing percentage of the Corps' annual appropriations is going toward operation and maintenance or major rehabilitation of existing infrastructure activities as the agency's infrastructure ages, which means fewer funds are available for construction of new projects. For example, 32% of the FY2010 budget request was for dam safety investments. Third, the cost to construct water infrastructure projects increased rapidly in the mid-2000s, in part because of the rises in cost of construction materials and fuels. A project authorized in the Water Resources Development Act of 2000 for $100 million dollars cost $145 million by 2010. The Corps also has had costs for some projects increase even more rapidly than the rate of construction costs. For example, dam safety and levee construction projects have reportedly had cost overrun issues in recent years, but in-depth analysis has yet to provide detailed data on the extent and causes of the cost overruns for these projects. Since 2007, the Corps of its own initiative developed and implemented guidelines for identifying and estimating the cost and schedule risks when developing Corps feasibility studies. As a result, studies of Corps projects partially assess cost and schedule risk. Notably, in most cases only the preferred alternative identified by the study is analyzed for cost and schedule risk. In a few cases, cost and schedule risk analysis is being performed for multiple alternatives. Analysis of Corps cost and schedule growth remains primarily at the individual project level. To date, no program-wide study evaluating the causes and potential means of addressing cost and schedule growth has been conducted. However, in some cases, the Corps has conducted case studies to review project cost growth during construction and has extrapolated these conclusions to other projects. For instance, a 2008 study that reviewed selected inland waterway projects concluded that the causes of the cost growth beyond typical construction cost increases were related to several factors, including changes in the project during construction (e.g., changes from original design due to conditions found on construction site), inaccurate cost estimates, and federal funding being below capability (thereby prolonging the construction schedule). The data are not available to answer this question. For some types of Corps projects there would be few analogous non-Corps projects (e.g., harbor deepening). Also Corps projects have requirements that may not apply to other entities. For example, the Corps has some additional responsibilities because it is a federal agency performing and funding the work (e.g., documentation and process compliance for the National Environmental Policy Act, Davis-Bacon prevailing wage rates for construction contracts). Whether these types of requirements significantly affect Corps project costs is the subject of debate. Table 4 provides the recommendations provided in the 2007 National Academy of Public Administration report on the Corps budgeting process. The report's recommendations addressed both the agency's backlog and the schedule growth of its projects. The FAQs on the Corps authorization and missions address the processes in place for authorization and deauthorization of Corps activities, perspectives on the Corps mission and role, and past efforts to refocus the agency. After the authorization and mission FAQs, Table 5 provides recommendations made in an expert report for addressing the backlog. Congressional authorization is required for the Corps to proceed with most studies and construction projects. Typically Congress authorizes Corps activities in a Water Resources Development Act (WRDA); some studies can be authorized through resolution of the authorizing committee in the House or Senate. While the authorization and appropriations for Corps activities are managed largely as separate processes, the authorization process functions as the gateway for federal appropriations eligibility. In addition to congressional authorization, most Corps studies and projects require a nonfederal cost-share partner. Congress generally authorizes studies of water resource problems as a result of concerns raised by nonfederal interests (e.g., local or state government; community, nonprofit, or private sector interests) or by the Corps. Congress weighs many factors when choosing to authorize Corps construction projects; a Corps feasibility study is a central document in the information available to Congress. In 1954, Congress established a policy to generally base Corps construction authorization on completed feasibility reports that are favorably recommended by the Chief of Engineers (33 U.S.C. §701b-8). Some projects are turned over to nonfederal sponsors for operations after construction (e.g., flood damage reduction projects constructed after 1970), while others are operated and maintained by the Corps (e.g., coastal harbors and inland navigation channels). For the projects operated by the Corps, operations are authorized as part of the congressional construction authorization. The authorization process for Corps studies and projects is driven by congressional discretion; that is, Congress chooses which authorizations are included or not included in a WRDA or other legislative vehicle. Whether, and if so how, the authorization process is used as a means to limit or define which projects are eligible for appropriations is up to Congress. With the rate of construction authorization outpacing available appropriations in recent decades, the appropriations process has selected from an increasing pool of authorized activities. Congress declared in 1936 that the benefits of Corps projects should exceed their costs (33 U.S.C. 701a). For economic development projects such as navigation and flood control, this has meant that a benefit-cost analysis is performed to identify whether the national benefits exceed the cost; that is, a benefit-cost ratio greater than one generally is required for the project to be recommended for construction authorization. The project alternative that produces the greatest national economic development benefits is generally the recommended alternative. The general project development guidance that the Corps follows in planning its projects is the 1983 "Economic and Environmental Principles and Guidelines for Water and Related Land Resources Implementation Studies" (known as the Principles & Guidelines or P&G). For environmental projects, the benefit-cost requirement has been interpreted to mean that the preferred alternative should be the most cost-effective means of producing environmental benefits. Corps plans are developed using a discount rate to place a present value on benefit and costs; whether the discount rate used for Corps planning is too high or low remains the subject of debate. The Corps planning process does not rank potential projects; it merely determines whether minimum financial eligibility criteria (e.g., BCR>1.0) are met for pursuing construction authorization. In contrast, the Administration's budgeting process in recent years has used BCRs as one metric for selecting projects for funding. For example, for its FY2010 budget request, the Administration required ongoing navigation and flood control projects generally to have a BCR>2.5, and for new projects to have a BCR>3.2. The BCR cutoffs and other criteria used by the Administration vary annually. For example, instead of using a BCR metric for the FY2007 budget request for ongoing projects, the Administration used a remaining benefit to remaining cost metric. The annual changes in budget criteria have resulted in some projects qualifying for one year's budget request, but not qualifying in subsequent years. Projects, particularly ongoing projects, that were above the authorization BCR criterion of 1.0 but below the Administration's BCR cutoff for budgeting often are the projects receiving congressionally directed spending. Congress ultimately decides which Corps activities to authorize. Corps projects generally are required to comply with all federal laws, which results in input from other federal agencies (e.g., Fish and Wildlife Service for Endangered Species Act compliance) during the planning process. Congress increased the review requirements for Corps feasibility studies in WRDA 2007; Section 2034 required that many Corps studies receive independent peer review of the analysis and data used to justify proposed projects. The entities informing these Corps studies and recommendations have evolved over time. From 1902 until 1992, a National Board of Engineers for Rivers and Harbors operated within the Corps; it evaluated proposed projects and made recommendations to the Chief of Engineers. From the late 1960s to the early 1980s, another source of information shaping Corps project development and the information available for congressional decision making was the federal Water Resources Council, as well as federally supported river basin commissions. These entities coordinated state, federal, and regional water resources planning processes. Today, Corps studies are reviewed by an internal Civil Works Review Board and the Office of Policy Review prior to a Chief's report being released. Currently Corps studies and projects, for the most part, are undertaken and analyzed as individual projects. The role of projects in larger watersheds or water resource systems is considered, but generally there are few formal requirements in this regard. Once Congress authorizes a study or construction activity it remains authorized unless it falls within established deauthorization processes or Congress deauthorizes it in legislation. Processes exist for deauthorizing incomplete Corps construction activities and studies. No deauthorization process is in place for completed projects that are owned and operated by the agency. In 1986, Congress replaced previous deauthorization processes for Corps projects. Under current law (33 U.S.C. §579a(b)(2)), a deauthorization process is triggered if a construction project has been without funding for five years. Every year the Secretary is directed to transmit to Congress a list of authorized projects and separable elements of projects without funding for the last full five fiscal years. If funds are not obligated during the fiscal year following a list's transmittal, a project or element would be deauthorized. The project deauthorization list also is published in the Federal Register . The Corps published the lists in 1990, 1992, 1994, 1996, 1997, 1999, 2003, and 2009. A study deauthorization process also exists. Under current law (33 U.S.C. §2264), every year the Secretary of the Army is to transmit to Congress a list of incomplete authorized studies that have been without funding for five full fiscal years. Unlike the project list, the study list is not published in the Federal Register . Congress has 90 days after submission to appropriate funds; otherwise the study is deauthorized. In August 2011, the Corps was unable to locate records indicating that a deauthorization study list has been transmitted to Congress since enactment of the requirement in 1986. There is no similar general authority for deauthorization or transfer of existing projects owned and operated by the Corps. In 1980, the authority for the Chief of Engineers to recommend discontinuing appropriations for any work deemed unworthy of further improvement was repealed (33 U.S.C. §549). Transfer of project ownership occurs only when Congress authorizes the transfer of a specific project. While recent legislation has referred to "low-priority construction" projects, there is no exact definition for this term. The term at times has been applied to projects that the Administration considers outside of Corps primary missions and projects that were not competitive using the Administration's annual budget development metrics (e.g., inland waterways and coastal harbors with low commercial traffic). The most easily identified category of what the Administration considers "low priority" construction projects are the Corps' "environmental infrastructure" projects (i.e., municipal water and wastewater projects). Congress has authorized and funded these projects since 1992; all Administrations since 1992 have considered these activities outside the agency's principal missions and cite the availability of assistance for these activities from other federal programs. In FY2010, environmental infrastructure projects received $140 million in annual appropriations, representing more than 6% of the enacted annual construction appropriations. Additionally, ARRA provided an additional $200 million for environmental infrastructure activities in FY2009 and FY2010; that is, more than 4% of the $4.6 billion in ARRA funding for the Corps was for environmental infrastructure. No funding was provided for these projects in the Corps work plan for the FY2011 long-term continuing resolution. Opinions on what the Corps and its federal funding should be focused on vary widely. The range of opinions and approaches can be seen through past attempts to redefine the Corps more narrowly. Most attempts to refocus the agency would require congressional authorization and possibly near-term funding to realize implementation. Some see the Corps' civil works as distracting from its military purpose. In 2002 and 2003, then-Secretary of the Army White included the Corps in his efforts to concentrate Army activities on its "core competencies" and asked that divestiture and privatization of some Corps functions be investigated. Congress curtailed this effort through limitations on appropriations. In the early 1990s, initially as part of the Defense Base Realignment and Closure process, but later as part of a Corps initiative, the Corps' divisions and districts were reorganized (e.g., fewer Corps districts, divisions, and personnel) in an effort to reduce Corps administrative expenses. This reorganization largely occurred, but a related effort in 1995 was never completed. A review of options for civil works missions and activities was underway, which was expected to compare options such as transferring responsibilities to other federal agencies, devolving responsibilities to states, and private sector participation. The report was never publically released. As part of the FY1996 budget request, the Clinton Administration proposed major changes, including turning over 500 small or low-use harbor projects to nonfederal interests and limiting flood control projects to those with a strong interstate nexus. Congress did not adopt these proposals. Prior to the 1990s, there also were discussions about changing the Corps' position in the federal bureaucracy; no enactment of these changes occurred. One approach considered combining the Corps with the other federal owner of large dams and water resources infrastructure—the Department of the Interior's Bureau of Reclamation, which has more of a water delivery mission than the Corps. This approach received particular attention during the Reagan Administration. During the Nixon Administration, there were discussions of a Department of Natural Resources to house the multiple resource-oriented agencies, including the Corps. Table 5 provides the recommendations provided in the 2007 National Academy of Public Administration report on the Corps budgeting process. The report's recommendations addressed the agency's missions, authorization and deauthorization processes, and project development. The below FAQs on navigation expenditures and trust funds address coastal harbor and inland waterway funding, including proposals to alter trust fund collections and their use and funding challenges for operations and maintenance/low use navigation projects. At the end of this section, Table 7 provides recommendations by government and expert reports for addressing navigation funding issues. The Corps has a harbor maintenance backlog; as previously noted, there is roughly $2.2 billion of coastal navigation O&M work that could be budgeted if funds were available. A consequence of the current level of Corps harbor maintenance activities is that full channel dimensions at the nation's busiest 59 ports are available less than 35% of the time. The Harbor Maintenance Trust Fund (HMTF) has a growing balance of roughly $6 billion. The HMTF collections and interest averaged $1,409 million from FY2006 to FY2011. Monies used from the trust fund for the same period have averaged over $832 million annually. A "guarantee," such as that proposed in H.R. 4844 and S. 3213 , would require that the sum of receipts coming in to the HMTF annually be dedicated toward harbor maintenance expenditures. If followed, a guarantee would be expected to make over $500 million more available annually for HMTF eligible expenses. HMTF eligible expenses are primarily operations and maintenance activities, while some construction activities are also eligible (e.g., construction of dredged material disposal facilities). If congressional appropriators were subject to the guarantee or otherwise chose to appropriate HMTF funds at the level of incoming receipts, the backlog of HMTF eligible funds would be anticipated to decrease. While improving the situation for coastal navigation operations, the guarantee may not necessarily change total Corps appropriations. In budgetary terms, HMTF funds are on-budget; that is, they fall within the budget for the Energy and Water (E&W) Development Appropriations acts and are not available without appropriation. A potential guarantee would not alter the size of the budget for the E&W bill; this is negotiated annually as part of the budget process. Therefore, with no changes in the overall size of the E&W bill, the more than $500 million in additional funds for HMTF eligible activities would be offset by decreases for other E&W funded activities; these include the other activities of the Corps of Engineers (e.g., harbor construction, inland waterways, flood damage reduction projects, environmental restoration) and the budgets for the Department of the Interior's Bureau of Reclamation (roughly $1 billion annually) and the Department of Energy (between $25 billion and $30 billion annually). Depending on which accounts Congress would choose to cut, the Corps might or might not see an increase in its total annual appropriations; that is, the HMTF eligible activities might receive a greater portion of the E&W, but it might come at the expense of other Corps activities. The guarantee also would not increase the total amount of money available for funding discretionary spending activities. Therefore, while Congress could increase the amount of funds available for the Energy and Water Appropriations bill as a way to meet the requirements of the HMTF guarantee, a cut in federal discretionary spending in some other area would have to occur. The Corps has been unable to maintain all existing federal navigation projects to depths and widths authorized by Congress. This includes maintenance of harbors (cost-shared with the HMTF, discussed above) and inland waterways (funded 100% out of the General Fund of the Treasury). From FY2007 to FY2011, excluding supplemental appropriations, the Corps spent an average of approximately $758 million per year maintaining projects through dredging and other methods. This included approximately $639 million for dredging coastal harbors and $119 million for inland waterways channels and harbors. The Corps estimates that in order to maintain all channels at their authorized depths, O&M expenditures would need to be about three times the aforementioned average. According to the Corps, initially (i.e., over the first five years), up-front costs to dredge some areas to new depths would require additional funding. After the first five years, expenditures are generally expected to stabilize. The Corps estimates that total costs over the first five years would be $2.23 billion per year, including $1.93 billion in dredging for coastal harbor projects and $370 million for inland waterway dredging. After the first five years, costs would drop to $1.81 billion per year, including $1.5 billion for harbor maintenance and $305 million for dredging expenditures on inland waterways. The Corps estimates are summarized below in Table 6 . Since 2006, Administration budget criteria prioritize harbor funding using multiple performance based metrics; the most significant metric is commercial tonnage at a harbor. The commercial tons metric is used as a rough proxy for evaluating economic return from O&M investments. Under current budgeting guidance, "low-use" coastal projects generally are budgeted only for critical minimum dredging and other critical minimum O&M activities. As a consequence many harbors considered low-use based on these metrics have been budgeted for and received less funding than under previous funding practices. The long-term question arises regarding what the federal role will be in these low-use harbors, which include many shallow harbors and deep harbors with low commercial tonnage (e.g., Gray's Harbor, WA). Some of these harbors, while not supporting significant commercial tonnage, may support significant recreational boating, fisheries industries, and local or tribal economies. The extent to which additional HMTF funding under an HMTF guarantee would be used on low-use projects is unclear. The current budget criteria are focused on tons and "high output," which is calculated based on the risk that current project conditions may affect performance which is largely measured on economic, defense, and public safety. Unless other direction is provided by Congress, these criteria likely would be the basis for prioritizing investments made with additional HMTF funds under a HMTF guarantee. The Inland Waterway Trust Fund (IWTF) partially funds Corps construction and major rehabilitation projects on federal inland waterways, including funding for lock and dam construction. The IWTF is derived from revenues from a fuel tax on commercial barges, and currently has a shortfall: eligible projects far exceed available funding under current revenue and budgetary baselines. In recent years, several proposals have been submitted to amend the IWTF and provide more funding for inland waterway projects, including most recently a proposal by the user industry to make the IWTF solvent and increase funding for inland waterway projects. As a result of the aforementioned shortfall in the IWTF, any proposal to make the trust fund solvent that also proposes to increase expenditures on inland waterway projects must inherently include new revenue, either from increased user fees, increased appropriations from the General Fund of the Treasury, or both. The IWTF user proposal would make the fund solvent and increase expenditures on inland waterways by both increasing user fees and shifting the overall cost-share burden for inland waterway projects toward the federal government. While this would likely make the fund solvent, it would also require more appropriations for the Corps. Other proposals to reform inland waterway financing have argued for increased user fees, either by increasing the existing fuel tax of $0.20 per gallon or by imposing some other new fee (e.g., fees for lockages or high traffic sections) that would recover funding needed for waterway upgrades. Some have also proposed to increase the user share of operations and maintenance costs, which are fully funded by the federal government. While some argue that increased user fees are the only viable option in the current fiscal climate, users argue that the increased fees would increase costs and serve as a disincentive for commercial shippers to use inland waterways over truck or rail transport. Table 7 provides recommendations from multiple reports related to marine transport and the financing of the Corps activities that support coastal and inland navigation. The reports' recommendations addressed the two marine transport trust funds and their fees, oversight of the use of the funds, and assessments of harbor and waterway conditions and needs. There are several legislative proposals related to Corps fiscal challenges before the 112 th Congress. Table 8 provides a list of legislation related directly to Corps fiscal issues. The provisions represent different responses to the Corps' fiscal challenges. Some would deemphasize certain types of Corps activities (e.g., water and wastewater projects), while others would provide greater financing for other types of Corps activities (e.g., harbors). The Corps and its projects are part of the larger discourse about how to proceed with infrastructure investments and their role in the economy, job creation, and provision of public services. In addition to the provisions listed in Table 8 , other Corps authorization and appropriations processes relevant to Corps fiscal challenges also are underway, but are beyond the scope of this report. These include more focused legislative provisions, such as those related to specific Corps projects and activities (e.g., H.R. 433 , H.R. 723 , H.R. 892 , H.R. 922 , H.R. 1078 , H.R. 1421 , H.R. 1652 , H.R. 1865 , H.R. 2476 , S. 793 ). Also not included in the table is information about the various actions related to earmarks and congressionally directed spending, which also affect the Corps congressional fiscal context.

The Army Corps of Engineers is responsible for much of the federal water resources infrastructure in the United States. The Corps is faced with more demands for building and maintaining its projects than available federal funding allows. This situation is raising basic questions about how the Corps functions, including the efficacy, efficiency, and equity of Corps planning and implementation. Corps fiscal challenges have multiple underlying causes. The Corps and its infrastructure is expected to help meet the nation's increasing demands on water resources and the services they provide; however, what the agency can accomplish given the level of federal funding provided is declining. At the same time, Corps asset management costs are increasing as facilities age. Nonfederal project sponsors that pay a portion of the cost for most Corps projects can become frustrated as Corps studies and projects are authorized, but remain unfunded or are slowed by lower levels of appropriated funding than anticipated. The Administration and appropriators make choices about what to fund out of an increasing pool of authorized activities. For example, the agency now faces a construction backlog of more than $62 billion, while receiving roughly $2 billion a year in construction funding. As Corps fiscal challenges become more apparent, frequently asked questions about the Corps fall into four broad categories: appropriations, backlog of project delivery, authorizations and missions, and navigation expenditures and trust funds. At issue for Congress is deciding how to tackle challenges facing the Corps in the context of a tight fiscal climate and other constraints (e.g., earmark moratoriums). In the past, Congress generally has increased the agency's budget above the Administration's request and expanded the list of projects and types of projects funded. At present, fundamental questions about what the agency does and how it operates are being asked by some observers. The perspectives on how to proceed among Members of Congress, project sponsors, fiscal conservatives, environmental interests, and other stakeholders vary widely. These perspectives often diverge based on views of the appropriate federal role in water resources management and infrastructure and the priorities for the limited federal water resources funding. Some stakeholders see the Corps backlog as a justification to direct more funds to Corps activities. Others see a need to reduce the level and types of Corps activities authorized, while still others want to make gains through efficiency improvements to reduce the expense and time needed to complete a Corps project. Some also are interested in pursuing private sector involvement in and alternative federal financing (e.g., infrastructure banks) for water resources infrastructure in order to reduce the demands on the agency. Some of these perspectives are apparent in proposed legislation in the 112th Congress, including H.R. 104, H.R. 235, H.R. 1861, H.R. 2354, S. 475, and S. 573. This report addresses many of the basic questions regarding Corps of Engineers activities under a constrained fiscal climate. It also includes limited discussion of larger trends and proposals that may be of interest to Congress as it considers Corps activities going forward.

Each year, the Senate and House Armed Services Committees report their respective versions of the National Defense Authorization Act (NDAA). These bills contain numerous provisions that affect military personnel, retirees and their family members. Provisions in one version are often not included in another; are treated differently; or, in certain cases, are identical. Following passage of each by the respective legislative body, a Conference Committee is typically convened to resolve the various differences between the House and Senate versions. This year, however, a formal Conference Committee was not appointed. Rather, a final bill was drafted by leaders of the House and Senate Armed Services Committee, who also published a "joint explanatory statement" which was essentially the equivalent of a conference report. The House amended this final version into the Senate-passed version of S. 3001 , and adopted it on September 24, 2008. The Senate then approved the bill on September 27 th , clearing it for Presidential consideration. In the course of a typical authorization cycle, congressional staffs receive many constituent requests for information on provisions contained in the annual NDAA. This report highlights those personnel-related issues that seem to generate the most intense congressional and constituent interest, and tracks their status in the FY2009 House and Senate versions of the NDAA. The Duncan Hunter National Defense Authorization Act for Fiscal Year 2009, H.R. 5658 , was introduced on March 31, 2008, reported by the House Committee on Armed Services on May 16, 2008 ( H.Rept. 110-652 ), and passed by the House on May 22, 2008. The National Defense Authorization Act for Fiscal Year 2009, S. 3001 , was introduced on May 12, 2008, reported by the Senate Committee on Armed Services on that same day ( S.Rept. 110-335 ), and passed the Senate on September 17, 2008. The entries under the headings "Original House-passed version ( H.R. 5658 )" and "Original Senate-passed version ( S. 3001 )" in the following pages are based on language in these bills, unless otherwise indicated. The entries under the heading "Final version ( S. 3001 )" are based on the language of the bill negotiated by leaders of the House and Senate Armed Services Committee and amended into S. 3001 , as discussed above. Where appropriate, other CRS products are identified to provide more detailed background information and analysis of the issue. For each issue, a CRS analyst is identified and contact information is provided. Note: some issues were addressed in the FY2008 National Defense Authorization Act and discussed in CRS Report RL34169 concerning that legislation. Those issues that were previously considered in CRS Report RL34169 are designated with a " * " in the relevant section titles of this report. Background: For several years the Administration has proposed increases in co-payments and enrollment fees for retirees and their dependents who are not Medicare-eligible. The Administration argues that the growing costs of Defense health care, both in absolute terms and as a percentage of the defense budget, require efforts to seek greater contributions by users. It argues that inasmuch as Tricare Prime enrollment fees were set in 1995 and have not been raised since, it is reasonable that they should be increased. Congress has thus far refused to give DOD the requested authority to raise the fees. Discussion: The health care portion of the Defense budget has grown from $19 billion in FY2001 to over $42 billion in FY2008. Since 2006 DOD has been attempting to raise co-payment and enrollment fees for retired military personnel and their dependents who are not eligible for Medicare. (Medicare-eligible retirees can use the Tricare for Life program which would not be affected by the proposed fee increases.) DOD asserts that retirees using Tricare Prime paid approximately 27 percent of their health care costs in 1995 but now pay only 12 percent. Consistent with recommendations of the Department of Defense Task Force on the Future of Military Health Care, the proposed DOD budget for FY2009 would have gradually raised enrollment fees for those using Tricare Prime, the HMO-like option, from the current $460 (self+dependents) to 2011 rates as high as $1,750 for retirees making over $40,000 annually. DOD also proposed creating an enrollment fee for retirees who use Tricare Standard, the fee-for-service option, of $120 per year. In addition, DOD maintains that retail prescription usage and costs have contributed significantly to the growth in health care spending and recommended increases in pharmacy co-payments (along with eliminating co-payments for pharmaceuticals provided by the DOD Mail Order Pharmacy). According to DOD, these fee increases would save some $1.2 billion in FY2009. Opposition from beneficiary organizations has been strong and the Government Accountability Office concluded in May 2007 that DOD's estimates of cost savings were over-estimated. Congress has twice denied DOD authority to increase Tricare fees in FY2007 and FY2008, and has encouraged DOD to find other approaches to restraining the growth of the health care budget. Reference(s): CRS Report RS22402, Increases in Tricare Costs: Background and Options for Congress. Task Force on the Future of Military Health Care, Final Report , December 2007 http://www.dodfuturehealthcare.net/images/103-06-2-Home-Task_Force_FINAL_REPORT_122007.pdf . Government Accountability Office, Military Health Care: TRICARE Cost-Sharing Proposals Would Help Offset Increasing Health Care Spending, but Projected Savings are Likely Overestimated , May 2007 http://www.gao.gov/new.items/d07647.pdf . CRS Point of Contact (POC): Dick Best, x[phone number scrubbed]. Background: The FY2005 Ronald W. Reagan National Defense Authorization Act ( P.L. 108-375 ) established the Tricare Reserve Select program which permitted some drilling reserve personnel to utilize Tricare but required that they pay enrollment fees interpreted to be equivalent to the 28 percent charged to Federal civil servants under the Federal Employees Health Benefits Program (FEHBP). The FY2007 John Warner National Defense Authorization Act ( P.L. 109-364 ) extended the benefit to all drilling reservists. In December 2007 the Government Accountability Office (GAO) found that the premiums DOD established had actually exceeded the costs of providing the Tricare benefit. Discussion: Tricare Reserve Select (TRS) provides a health care benefit to reservists who are in drilling status and not on active duty. (Reservists called to active duty have regular Tricare benefits that have no enrollment fees.) Current monthly premiums are $81/self or $253/self+family. Enrollment in TRS has been lower than estimated, suggesting that premium rates discourage selection or that reservists have access to more affordable civilian health care options. A GAO report published in December 2007 concluded that the premiums DOD established exceeded the reported average cost of providing care through TRS. This situation resulted, according to GAO, from DOD having used FEHBP Blue Cross/Blue Shield rates as benchmarks that in practice proved to be higher than necessary to cover DOD's costs. GAO recommended that DOD base premiums on actual costs and DOD has indicated its support for that approach consistent with available cost data. Reference(s): GAO Report Military Health Care: Cost Data Indicate that TRICARE Reserve Select Premiums Exceeded the Costs of Providing Program Benefits, GAO-08-104, December 2007 http://www.gao.gov/new.items/d08104.pdf . CRS Point of Contact (POC): Dick Best, x[phone number scrubbed]. Background: Continuing combat operations in Iraq and Afghanistan have stressed the nation's armed forces, especially the Army and Marine Corps. The FY2008 NDAA supported increasing the Army end strength by 65,000 to 547,400 by FY2012 and increasing the Marine Corps end strength by 27,000 to 202,000, also by FY2012. While the Army and Marine Corps grow, the Navy remains stable and the Air Force continues manpower reductions that began in 2005 to support the recapitalization of modernized aircraft. The Air Force is projected to reduce from 359,700 in FY2005 to approximately 300,000 in FY2009. Discussion: The Army and Marine Corps have been successful, so far, in growing to meet the congressional goals. The Army plans to meet its ultimate goal of 547,400 by 2010, two years earlier than the congressional benchmark. The Secretary of Defense recently recommended that the Air Force end strength not fall below 330,000, a strength that has not yet been integrated into the FY2009 NDAA. The House version authorized 1,023 more Navy personnel and 450 more Air Force personnel above the budget request to restore military positions in the military medical community. The Senate committee version authorized 171 more Air Force personnel above the budget request to support the operation and maintenance on 76 B-52 aircraft. Reference(s): CRS Report RL31334, Operations Noble Eagle, Enduring Freedom, and Iraqi Freedom: Questions and Answers About U.S. Military Personnel, Compensation, and Force Structure , by [author name scrubbed]. CRS Point of Contact (POC): Charles Henning, x[phone number scrubbed]. Background: Ongoing military operations in Iraq and Afghanistan, combined with end strength increases and recruiting challenges, continue to highlight the military pay issue. Title 37 U.S.C. 1009 provides a permanent formula for annual military pay raises that indexes the raise to the annual increase in the Employment Cost Index (ECI). The FY2009 President's Budget request for a 3.4 percent military pay raise was consistent with this formula. Congress, in FY2004, FY2005, FY2006, and FY2008 approved the raise as the ECI increase plus 0.5 percent. The FY2007 pay raise was equal to the ECI. Discussion: A military pay raise larger than the permanent formula is not uncommon. Mid-year, targeted pay raises (targeted at specific grades and longevity) have also been authorized over the past several years. This year's proposed legislation includes no mention of targeted pay raises. Reference(s): CRS Report RL33446, Military Pay and Benefits: Key Questions and Answers , by [author name scrubbed]. CRS Point of Contact (POC): Charles Henning at x[phone number scrubbed]. Background: Chapter 15 of Title 10, sometimes referred to as the Insurrection Act, provides the President with the authority to call the militia into federal service and to use "the armed forces" to respond to certain domestic disorders, including aiding state governments in suppressing insurrection (10 USC 331), enforcing the laws of the United States and suppressing rebellion (10 USC 332), and preventing domestic violence which interferes with the execution of federal and state laws (10 USC 333). Discussion: The amendments contained in Section 591 of the H.R. 5658 would specify that the President's authority to use the armed forces to respond to these domestic disorders includes the ability to activate members of the federal reserve components (Army Reserve, Navy Reserve, Air Force Reserve, Marine Corps Reserve, and Coast Guard Reserve) and use them as part of the response effort. Activation of the Army National Guard and Air National Guard is already provided for under the original language authorizing the President to order the militia into federal service (the militia includes, but is not limited to, the National Guard). Reference(s): CRS Report RL30802, Reserve Component Personnel Issues: Questions and Answers , by [author name scrubbed]. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: Section 12304 of Title 10 allows the President to activate certain reservists for a period of up to 365 days for specified purposes. This authority is commonly referred to as Presidential Reserve Call-up (PRC) authority. A subparagraph of section 12304 prohibits the President from using this authority for "providing assistance to either the Federal Government or a State in time of a serious natural or manmade disaster, accident, or catastrophe," unless responding to an certain emergencies involving weapons of mass destruction or terrorist attacks. Discussion: Section 594 of H.R. 5658 would allow the President to use PRC authority to activate Selected Reserve units from the purely federal reserve components (but not the National Guard) to respond to disasters or emergencies which met the definitions of the Stafford Act. A somewhat similar provision was passed as part of the John Warner National Defense Authorization Act for FY2007 ( P.L. 109-364 , section 1076); however, among other differences, it applied to the National Guard as well as the federal reserves and was opposed by many state governors. It was later repealed by section 1068 of P.L. 110-181 . Reference(s): CRS Report RL30802, Reserve Component Personnel Issues: Questions and Answers , by [author name scrubbed]. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: Last year Congress authorized $30 million for continuation of assistance to eligible local agencies impacted by enrollment of DOD military and civilian employee dependents, and $10 million for assistance to agencies with significant changes due to base closures, force structure changes, or force relocations. Discussion: The language contained in the final version of S. 3001 is similar to last year's efforts regarding impact aid. Reference(s): CRS Report RL34169, The FY2008 National Defense Authorization Act: Selected Military Personnel Policy Issues, p. 7-8. CRS Point of Contact (POC): [author name scrubbed] at x[phone number scrubbed]. Background: Military families are relocated quite frequently during a military career. Non-military spouses seeking employment at a new duty location are often frustrated because many of the skills they have may not be portable to a new location. Often, work skills must be learned anew. It has been reported that local employers prefer a more stable workforce with less turnover and less training needed. Discussion: Although this language is permissive in nature, if implemented, spouses may be more likely to continue a career following relocation to a new duty station. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed] at x[phone number scrubbed]. Background: Each service supports educational programs that permit selected members to temporarily attend civilian educational institutions and then return to the parent service without interrupting their normal career pattern. However, there is currently no program that allows an extended break in service for personal or professional reasons. Discussion: These programs, called "Career Intermission" in the House report and "Career Flexibility" in the Senate committee version, are aimed at enhancing retention by allowing personnel an opportunity to pursue other personal or professional goals. The House and Senate programs would be capped at 40 service members per year for each armed force and require a service obligation of two months for every month of program participation. Reference(s): None CRS Point of Contact (POC): Charles Henning, x[phone number scrubbed]. Background: In recent years, both Congress and the Department of Defense have shown significant interest in increasing the ability of military personnel to operate in foreign countries by enhancing their cultural knowledge and foreign language proficiency. However, building these language and cultural skills has proven challenging due to the intensive study required for mastery and the competing demands of other training and operational requirements for currently serving personnel. There is currently statutory authority to provide bonuses to those who are already proficient in designated foreign languages (37 USC 316), but not for those who are seeking to become proficient. Discussion: Section 619 of the original House-passed and Senate-passed bills both sought to improve the language skills of new officer accessions by giving them a financial incentive to study foreign languages and cultures before they begin active service. The original House provision would have also required the Secretary of Defense to establish a pilot program for currently serving reserve personnel who undertake such studies, and it permits the Service Secretaries to use such financial incentives for currently serving active and reserve personnel who pursue such studies. The original House-passed language also had a higher maximum payment cap. The final version of S. 3001 combines both of these provisions, resulting in three distinct options (one bonus authority and two incentive pay authorities) for compensating individuals who seek to acquire foreign language proficiency or cultural skills. Existing provisions of law (37 USC 353(b) and 371(b)) would prevent an individual from receiving more than one proficiency bonus or incentive pay at a time for the same period of service and skill. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: Section 411h of Title 37, U.S.C., authorizes the military departments to pay travel and transportation allowances for family members of service members who are seriously injured, seriously ill, or in a situation of imminent death when the appropriate authority (physician, commander of the military medical facility concerned, for example), determines that the family's presence may contribute to the service member's health or welfare. Discussion: This Senate report language makes no change in law but suggests that the Secretary of Defense broaden the current travel and transportation policy for family members of those with serious psychiatric conditions. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: Section 586 of the National Defense Authorization Act for Fiscal Year 2008 ( P.L. 110-181 ) contains the following provision: "The Secretary of Defense shall establish appropriate procedures to ensure that an adequate family care plan is in place for a member of the Armed Forces with minor dependents who is a single parent or whose spouse is also a member of the Armed Forces when the member may be deployed in an area for which imminent danger pay is authorized under section 310 of title 37, United States Code. Such procedures should allow the member to request a deferment of deployment due to unforeseen circumstances, and the request for such a deferment should be considered and responded to promptly." Discussion: Under the change proposed in H.R. 5658 , a military member with minor children who has a spouse already serving in an imminent danger pay area and facing simultaneous deployment may request a deferment to such an area until the spouse returns from such a deployment, regardless of the existence, or lack thereof, of "unforeseen circumstances." Reference(s): None. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: The Department of Defense defines sole survivors as the only remaining son or daughter in a family where the father or mother, or one or more sons or daughters, while serving in the Armed Forces, was killed, died as a result of wounds, is captured or missing, or is permanently 100% disabled. Sole survivors may voluntarily enlist if they waive their right to separation as a sole surviving son or daughter but may apply for a protective assignment which precludes their assignment to an overseas area designated as a hostile-fire or imminent danger area. Enlisted service members who become sole survivors after entering the service may apply for separation. Discussion: The administrative discharge of a sole survivor is considered a voluntary separation. Under current policy, if the separation occurs prior to the completion of the initial enlistment, there are no benefits associated with the discharge. Section 651 of the Senate bill would authorize certain benefits, typically associated with involuntary separations, for sole surviving sons and daughters who elect to separate. Reference(s): CRS Report RL31334, Operations Noble Eagle, Enduring Freedom, and Iraqi Freedom: Questions and Answers About U.S. Military Personnel, Compensation, and Force Structure , by [author name scrubbed]. CRS Point of Contact (POC): Charles Henning, x[phone number scrubbed]. Background: National Guard and Reserve personnel who qualify for disability retirement or placement on the temporary disability retired list (TDRL) have their disability retired pay calculated using a formula that factors in "years of service" or disability rating, whichever is more favorable to the service member. However, unlike regular component personnel – who are on duty every day of the year and receive a year of service for each year of duty—reserve component personnel, who normally serve part-time, have their years of service calculated using a more complex formula based on their level of participation. This method sums up a reservist's participation "points" and divides by 360 to produce the number of equivalent years of active-duty service. Given the less-than-full-time nature of reserve service, this means that an individual who has been serving in the reserves for 20 years may only have four or five years of service for retired pay computation purposes. Discussion: Section 641 of H.R. 5658 would have modified the method of calculating "years of service" for reservists who become eligible for disability retirement or are placed on the TDRL based on a combat-related injury. Rather than using the reservist's participation points to calculate active-duty equivalent years of service, as is currently done, this provision would have awarded a year of service for each year in which a reservist met the minimum participation standard of 50 points. Hence, under this provision, a reservists with 20 qualifying years of reserve service would have been awarded 20 years of service for his disability retired pay computation. It would have benefitted some combat-injured reservists, particularly those with a modest disability rating (30-40%) but many years of reserve service. Reference(s): CRS Report RL30802, Reserve Component Personnel Issues: Questions and Answers , by [author name scrubbed]. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: The House Committee notes that there have been a number of recent incidents in which individuals have fraudulently claimed to have been awarded the Congressional Medal of Honor or other decorations of valor. The committee believes that false claims reduce the prestige of these decorations and that the valor of these decorations could be preserved if the general public had access to a searchable database listing individuals and the decorations for valor they have been awarded. Discussion: The House bill's report language is exploratory in nature. It is expected that this would discourage false claims as such a list would allow for easy verification of their validity. Such a database may raise privacy issues. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: On May 12, 1975, in the aftermath of the Vietnam War (approximately two weeks after the fall of Saigon), a U.S. merchant ship, S.S. Mayaguez, was seized by the Khmer Rouge Navy. Thirty-nine sailors were captured and taken to the island of Koh Tang. A rescue operation was mounted and the battle began on May 15. By most accounts, the result was a failure with four U.S. helicopters shot down or disabled and 41 Marines killed. Ironically, the number killed outnumbered the number of sailors captured by the Khmer Rouge. Shortly thereafter, all 39 sailors were released. Discussion: This language in H.R. 5658 would authorize the Vietnam Service Medal for participants in the Mayaguez rescue. It is not clear what other benefits, if any, would accrue from recognizing these individuals in this manner. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: Chapter 80 of Title 10 United States code is concerned with "Miscellaneous Investigation Requirements and Other Duties." It includes provisions concerning complaints of sexual harassment, civilian orders of protection and domestic violence data. Discussion: The intent of these provisions is to maintain a protective order until it has been officially resolved and to ensure that civilian authorities are aware of such orders when the individual(s) involved do not reside on a military installation. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: Over the years reports of sexual assault involving military personnel have brought about a number of reforms, including changes in the Uniformed Code of Military Justice, training, and creation of the Defense Incident Based Reporting System which tracks criminal acts, especially sex crimes, and reports these data to the Justice Department. Discussion: This language would provide more centralized, more detailed and arguably better reporting of sexual assault incidents in the Armed Forces. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed] at x[phone number scrubbed]. Background: At present, when a member of the armed forces becomes the father of a child and wishes to take time off for paternity purposes, he uses his regular leave. Such leave accumulates at the rate of 2 ½ days per month of active service. Discussion: The language in the final version would provide a new type of leave for paternity purposes, which would be in addition to the service member's regular leave. It would apply only to children born on or after the date of enactment. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed] Background: Under 10 USC 1482(a), when a member of the armed forces dies in service, a burial flag is presented to the person designated to direct disposition of the remains and to the parents of the service member. Discussion: The House and Senate-passed bills both proposed authorizing the provision of a burial flag to a surviving spouse if someone else is authorized to direct the disposition of remains; the Senate-passed bill also allowed for providing a flag to the surviving children of the decedent. The final version of the bill permits a burial flag to be presented to the surviving spouse and each surviving child. Reference(s): CRS Report RL32769, Military Death Benefits: Status and Proposals , by [author name scrubbed] and [author name scrubbed]. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: Current DOD policy requires a minimum of four months following the birth of a child before a military mother can be assigned to a dependent-restricted or unaccompanied tour. The Secretary of the military department has the authority to extend that time. The Army and the Air Force provide a minimum of four months, while the Marine Corps defers for six months and the Navy for up to one year. Discussion: The Senate report directs the Secretary of Defense to describe changes to DOD or service policies as the result of this review. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed] at x[phone number scrubbed]. Background: The Survivor Benefit Plan (SBP) provides annuities to the surviving spouse, children, former spouse, or spouse/former spouse and children. If a spouse or former spouse remarries before age 55, SBP annuities cease. Children remain eligible until age 18 or 22, if a full-time student. An eligible child who marries loses SBP. If a spouse is eligible to receive benefits under the Veterans Affairs Dependency and Indemnity Compensation (DIC), the SBP is offset or reduced on a dollar- for-dollar basis. A surviving spouse of a service member killed in the line of duty is eligible to receive both SBP and DIC. To avoid the offset, Congress allowed survivors in this example to designate their children as SBP beneficiaries, allowing the surviving spouse to receive VA's DIC. Discussion: Essentially, this House language would return eligibility for SBP to a surviving spouse or former spouse, who allowed the dependent child or children to be designated as SBP beneficiaries to avoid the SBP/DIC offset, following the termination of the remarriage and the end of eligibility for the child or children. Reference(s): CRS Report RL31664, The Military Survivor Benefit Plan: A Description of Its Provisions , by [author name scrubbed]. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: A Survivor Benefit Plan (SBP) eligible spouse who is eligible for Dependency and Indemnity Compensation will have his or her SBP reduced or offset on a dollar-for-dollar basis by Dependency and Indemnity Compensation (see previous page). For certain beneficiaries affected by the offset, section 644 of the National Defense Authorization Act for Fiscal Year 2008, created a new survivor indemnity allowance to be paid to survivors of service members who are entitled to retired pay, or would be entitled to reserve component retired pay but for the fact they were not yet 60 years of age. This monthly allowance, effective October 1, 2008, would be $50, and would increase annually by $10 through FY2013. Discussion: This final version of S. 3001 provides additional benefits to offset-affected survivors of active duty service members. Reference(s): CRS Report RL31664, The Military Survivor Benefit Plan: A Description of Its Provisions , by [author name scrubbed]. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: The National Defense Act for Fiscal Year 1997 ( P.L. 104-201 , September 23, 1996, 110 Stat. 2489) contained language that prohibited the sale of sexually explicit material on military installations. An eight-member board (Resale Activities Board of Review) was established to review materials for resale. Once the board determined that an item was 'sexually explicit,' it was removed and not available for resale or rental on military installations. The review board reviewed 473 titles in 1998 and determined 319 to be sexually explicit. In May, 2006, the board reversed its decision with regard to Playgirl and Penthouse. A Christian group (Alliance Defense Fund) wrote a letter to Secretary of Defense Robert Gates protesting the sale of these and other items. Discussion: The House language would re-establish the existing review board and modifies its composition. Its intent grew out of efforts to ban particular items for rental or resale. This provision was included in the final version. Reference(s): None. CRS Point of Contact (POC): [author name scrubbed], x[phone number scrubbed]. Background: JROTC is a federal program sponsored by the Armed Forces in high schools to instill the values of citizenship, service to the nation, personal responsibility and a sense of accomplishment. Current law does not establish a minimum or maximum number of JROTC programs for the Department of Defense or the Services. However, there are approximately 3,300 JROTC units currently operating in high schools and overseas in the Department of Defense School System. Discussion: JROTC was created in 1916 and the program has been expanded several times. While generally viewed as a positive influence on high school youth, some have criticized the program as a military recruiting tool for the Services or a program that tends to militarize schools. Reference(s): None. CRS Point of Contact (POC): Charles Henning at x[phone number scrubbed].

Military personnel issues typically generate significant interest from many Members of Congress and their staffs. Ongoing military operations in Iraq and Afghanistan in support of what the Bush Administration terms the Global War on Terror, along with the emerging operational role of the Reserve Components, further heighten interest and support for a wide range of military personnel policies and issues. The Congressional Research Service (CRS) selected a number of the military personnel issues that Congress considered as it deliberated the National Defense Authorization Act for FY2009. In each case, this report provides a brief synopsis of sections that pertain to personnel policy. It includes background information and a discussion of the issue, along with a table that contains a comparison of the bill (H.R. 5658) passed by the House on May 22, 2008, the bill (S. 3001) passed by the Senate on September 17, 2008, and the final version (S. 3001) passed by the House on September 24, 2008 and by the Senate on September 27, 2008. Where appropriate, other CRS products are identified to provide more detailed background information and analysis of the issue. For each issue, a CRS analyst is identified and contact information is provided. Note: some issues were addressed in the FY2008 National Defense Authorization Act and discussed in CRS Report RL34169 concerning that legislation. Those issues that were previously considered in CRS Report RL34169 are designated with a "*" in the relevant section titles of this report. This report focuses exclusively on the annual defense authorization process. It does not include appropriations, veterans' affairs, tax implications of policy choices or any discussion of separately introduced legislation. This report will be updated as needed.

Congressional office spending has been a regular topic of interest to academics, interest groups, newspapers, and constituents for many years. It is a topic frequently mentioned in newspaper articles that address individual Member spending or generally discuss financial accountability among elected officials, and it has been examined by watchdog organizations and interest groups covering congressional spending on internal operations generally. A few scholars have also examined how Members typically spend their office allowances, analyzing spending within broader theories of representation. Individual office spending may be as varied as the districts Members represent. Factors affecting spending include the tenure or interests of the Member, levels of casework, geography, unexpected events, and even the congressional calendar. While Representatives have a high degree of flexibility to operate their offices in a way that supports their congressional duties and responsibilities, they must operate within a number of restrictions and regulations. The Members' Representational Allowance (MRA), the allowance provided to Members of the House of Representatives to operate their DC and district offices, may only support Members in their official and representational duties. It may not be used for personal or campaign purposes. Additional regulations or restrictions regarding reimbursable expenses may be promulgated by the Committee on House Administration, the Commission on Congressional Mailing Standards, also known as the Franking Commission, and the Committee on Standards of Official Conduct, and may be found in a wide variety of sources, including statute, House rules, committee resolutions, the Members' Handbook , the Franking Manual, the House Ethics Manual, "Dear Colleague" letters, and formal and informal guidance. This report provides a history of the MRA and overview of recent developments. It also demonstrates actual MRA spending patterns in recent years for all voting Members who served for a defined period. Spending and practices across offices and across time vary, and an examination of additional Congresses would be required for a more complete picture of congressional office spending patterns. The MRA, which was first authorized in 1996, was preceded by multiple allowances for each Member covering different categories of spending—including the former clerk hire allowance, official expenses allowances, and official mail allowance. The establishment of the MRA followed efforts by the House, dating back to the late 1970s, to move to a system of increased flexibility and accountability for Member office operations. In September 1995, the Committee on House Administration authorized the consolidation of these allowances. Subsequently, in November 1995, the FY1996 Legislative Branch Appropriations Act combined the separate appropriations for personal office staff, official office expenses, and mail costs into a single new appropriations heading, "Members' Representational Allowances." According to the House Appropriations Committee report on the FY1996 bill, the consolidation was adopted to simplify Members' accounting practices and allowed Members to more easily show savings achieved when they did not spend all of their allowance. Subsequent legislation in 1996 further defined the MRA and made it subject to regulations and adjustments adopted by the Committee on House Administration. Additional provisions included in the FY2000 Legislative Branch Appropriations Act amended language regarding official mail and repealed obsolete language and terms. Since the MRA's establishment, appropriations acts funding the legislative branch have contained—or continued, in the case of a continuing resolution—a provision requiring unused amounts remaining in the MRA be used for deficit reduction or to reduce the federal debt. This provision was included in legislative branch appropriations bills reported by the House Appropriations Committee in FY1999 and since FY2002. In some years prior to consideration of FY2002 funding, it was added by amendment, including H.Amdt. 458 (403-21, Roll no. 415) to H.R. 1854 , 104 th Congress (Legislative Branch Appropriations Act, 1996); H.Amdt. 1245 (voice vote) to H.R. 3754 , 104 th Congress (Legislative Branch Appropriations Act, 1997); H.Amdt. 287 (voice vote) to H.R. 2209 , 105 th Congress (Legislative Branch Appropriations Act, 1998); H.Amdt. 166 (voice vote) to H.R. 1905 , 106 th Congress (Legislative Branch Appropriations Act, 2000); and, H.Amdt. 865 (voice vote) to H.R. 4516 , 106 th Congress (Legislative Branch Appropriations Act, 2001). In addition to the appropriations language, numerous bills and resolutions addressing the MRA have been introduced (for examples, see tables in the Appendix ). This legislation has generally fallen into three major categories: Attempts to change the MRA procedure or regulate, prohibit, authorize, disclose, or encourage the use of funds for a particular purpose. Stand-alone legislation that would govern the use of unexpended balances, including language to require these funds to go toward deficit reduction. Bills or resolutions that would limit or change the g rowth of overall MRA or adjustment among Members. MRA-related amendments have also been offered to the legislative branch appropriations bills. These include H.Amdt. 213 , which was offered to H.R. 3219 , the FY2018 legislative branch appropriations bill, increasing funding for the Government Accountability Office, offset by a reduction in the Members' Representational Allowance, which failed by voice vote. H.Amdt. 214 , which was offered to H.R. 3219 , the FY2018 legislative branch appropriations bill, relating to the use of the Members' Representational Allowance for Member security, was agreed to by voice vote. H.Amdt. 642 , which was offered to H.R. 4487 , the FY2015 Legislative Branch Appropriations Act, on May 1, 2014. This amendment, which would have prohibited the use of the MRA for leased vehicles, excluding mobile district offices and short-term vehicle rentals, was not agreed to by a recorded vote (Roll no. 188). H.Amdt. 1284 , which was offered to H.R. 5882 , the FY2013 Legislative Branch Appropriations Act, on June 8, 2012. This amendment, which would have prohibited paid advertisements on any internet site other than an official site of the Member, leadership office, or committee involved, was not agreed to by a recorded vote (Roll no. 375). H.Amdt. 708 , which was offered to H.R. 2551 , the FY2012 Legislative Branch Appropriations Act, on July 21, 2011. The amendment, which prohibited the use of funds to make any payments from any MRA for the leasing of a vehicle in an amount that exceeds $1,000 in any month, was agreed to by voice vote. This language was included in P.L. 112-74 and subsequent legislative branch appropriations acts. H.Amdt. 709 and H.Amdt. 710 , which also proposed restrictions on the MRA, failed by voice vote. Funding is provided on a fiscal year (beginning October 1) basis and a single total amount for all Members is provided under the appropriations heading, "Members' Representational Allowances," within the House account "Salaries and Expenses" contained in the annual legislative branch appropriations bills. Allowance or authorization levels for individual Members of the House are authorized in statute and are regulated and adjusted by the Committee on House Administration pursuant to 2 U.S.C. 4313 et seq. and House Rule X(1)(j). The individual MRAs for the 441 Members, Delegates, and the Resident Commissioner are authorized for periods that correspond closely to the sessions of Congress—from January 3 of each year through January 2 of the following year. In addition to the complexity involved in different time frames and split responsibilities—with the appropriation on a fiscal year determined by the Committee on Appropriations, and the authorization roughly following the calendar year as allocated by the Committee on House Administration—the House has indicated that the total authorized level for all MRAs may be more than the total appropriation due to projections on spend-out rates. The FY1997 report accompanying the legislative branch appropriations bill, for example, stated Many Members do not expend their full allowance. That is why the Committee bill does not fully fund this account. The frugality of those Members is already projected in the bill presented by the Committee. Since these prospective savings are already taken in the bill, they reduce the need for appropriated funds and, therefore, contribute directly to the reduction in federal spending and consequently lower the projected deficit. If the Committee bill were to fully fund the Members' Representational Allowance, the amount appropriated would have to be increased by $27 million. Thus, the account is underfunded by almost 7%. A similar discussion of the use of prior spending patterns in the determination of MRA appropriations levels was included in numerous other House reports, particularly in the first few years of the MRA. It was also discussed during a hearing on the FY2009 legislative branch appropriations requests. Pursuant to law, late-arriving bills may be paid for up to two years following the end of the MRA year. The permissibility of payment for late-arriving bills does not provide flexibility in the timing of the obligation, a point emphasized in the Members' Congressional Handbook , which states: "all expenses incurred will be charged to the allowance available on the date the services were provided or the expenses were incurred" and the "MRA is not transferable between years." The MRA is funded in the House "Salaries and Expenses" account in the annual legislative branch appropriations bills. One single line-item provides funding for all Members' MRAs. The MRA funding level peaked at $660.0 million in FY2010. It was subsequently reduced to $613.1 million in FY2011 (-7.1%), and then to $573.9 million in FY2012 (-6.4%). The FY2012 funding level was continued in the FY2013 continuing resolution ( P.L. 113-6 ), not including sequestration or an across-the-board rescission (-5.2%). The FY2014 level of $554.3 million was continued in the FY2015 act ( P.L. 113-235 ) and the FY2016 act ( P.L. 114-113 ). At an April 20, 2016, markup of the FY2017 bill, the House Appropriations Committee Legislative Branch Subcommittee recommended a continuation of this level. At the May 17, 2016, full committee markup, an amendment offered by Representative Farr to increase this level by $8.3 million, to $562.6 million (+1.5%), was agreed to. This level was included in the House-passed FY2017 bill ( H.R. 5325 ). H.R. 5325 was not enacted, however, this increase was provided in the Consolidated Appropriations Act, 2017 ( P.L. 115-31 ), which was enacted on May 5, 2017. The FY2017 level was continued for FY2018. The FY2019 level of $573.6 million represents an increase of $10.998 million (+2.0%). This funding is separate from an allowance for interns in Member offices ($8.8 million was provided in the FY2019 legislative branch appropriations act for up to $20,000 per office). Figure 1 shows the appropriation for the overall MRA account for all Members from FY1996 through FY2019 in current and constant dollars. The FY2019 funding level is approximately equivalent to the funding level provided when the account was established in FY1996, when adjusted for inflation; approximately 6% below the $609.0 million provided in FY2009, not adjusted for inflation; and approximately 13% below the peak funding provided in FY2010, not adjusted for inflation. Figure 1 also shows that the MRA is the largest category of appropriations within the House of Representatives, regularly comprising approximately 50% of House appropriations. The MRA for each Member is set by the Committee on House Administration based on three components: personnel, official office expenses, and official (franked) mail. The personnel allowance component is the same for each Member. The office expenses and mail allowances components vary from Member to Member. The office expense component includes a base amount; a mileage allowance, which is calculated based on the distance between a Member's district and Washington, DC; and an office space allowance, which is based on the cost of office space in a Member's district. The official mail component is calculated based on the number of nonbusiness addresses in a Member's district. The three components result in a single MRA authorization for each Representative that can be used to pay for official expenses. Table 1 demonstrates the variation in authorization levels that resulted from this formula since 1996. Figure 2 presents this information graphically. In the 112 th Congress (2011-2012), the House agreed to H.Res. 22 , which reduced the amount authorized for salaries and expenses of Member, committee, and leadership offices in 2011 and 2012. This resolution, agreed to on January 6, 2011, stated that the MRA allowances for these years may not exceed 95% of the amount established for 2010. Individual MRAs, which reflect authorized levels from January 3 of each year through January 2 of the following year, subsequently were reduced, resulting in a total reduction of 11.08% from 2010 to 2012. Individual authorization levels for 2013 (January 3, 2013-January 2, 2014), which were affected by both redistricting and sequestration, were reduced by a total of 8.2% according to the Statement of Disbursements . For legislative year 2014 (January 3, 2014-January 2, 2015), each Member's MRA increased by 1%. The FY2015 MRA appropriations level remained unchanged from FY2014, and Members' individual allowances were continued from legislative year 2014 to 2015. The FY2016 MRA appropriations level remained unchanged from FY2014 and FY2015, although Members' individual allowances for legislative year 2016 were increased by 1.0%. The FY2017 MRA appropriations level increased by +1.5% from FY2016. According to the Statement of Disbursements , each Member's authorization for 2017 was increased "by approximately 3.9% of the average MRA." This resulted in an average increase of approximately $47,000. A shooting on June 14, 2017, at a practice for the Congressional Baseball Game, which wounded one Member of Congress, two U.S. Capitol Police (USCP) officers, and two members of the public in Alexandria, VA, had an impact on consideration of MRA funding for FY2018. The report accompanying the legislative branch appropriations bill ( H.R. 3162 ), in addition to addressing funding for the Capitol Police and the House Sergeant at Arms, indicated that the Appropriations "Committee has provided resources necessary to support the Committee on House Administration's plan to increase Member's Representational Allowance (MRA) by $25,000 per account this year for the purpose of providing Member security when away from the Capitol complex." The House approved the MRA authorization increases when it agreed to H.Res. 411 , by unanimous consent, on June 27, 2017. As stated above, during consideration in the House of the FY2018 legislative branch appropriations bill ( H.R. 3219 ) on July 26, 2017, two amendments related to the MRA were offered: H.Amdt. 214 was agreed to by voice vote, and H.Amdt. 213 failed by voice vote. Subsequently, on July 28, 2017, House Sergeant at Arms Paul D. Irving issued a "Dear Colleague" letter announcing that his office "will assume the cost of and oversee future District Office security upgrades, maintenance, and monthly monitoring fees." These upgrades were previously supported through the MRA. On August 15, 2017, the Committee on House Administration issued a "Dear Colleague" letter announcing updates to the Members' Congressional Handbook incorporating these and other changes. The MRA remains available for security measures necessitated by official duties as discussed in the letter and the Handbook . The FY2018 act continued the FY2017 level of $562.6 million. According to the Statement of Disbursements , the "Members' Representational Allowance for 2018 utilizes each Member's 2017 amount and increases that amount by $25,000." Expenses related to official and representational duties are reimbursable under the MRA in accordance with the regulations contained in the Members' Congressional Handbook . The Handbook , for example, states that a Member is personally responsible for the payment of any official and representational expenses incurred that exceed the provided MRA or that are incurred but are not reimbursable under these regulations. Certain expenses, including personal expenses, greeting cards, alcoholic beverages, and most gifts and donations, are also not reimbursable. The MRA is not transferable between years, and unspent funds from one year cannot be obligated in any subsequent year. Other limitations on the use of official funds are also contained in House Rule XXIV. "Dear Colleague" letters—which are distributed among Members, committees, and officers—frequently mention the MRA. These "Dear Colleague" letters have announced changes in the dissemination of information or the processing of vouchers, elaborated on procedures, reminded Members and staff of guidelines on the use of funds, and asked for support for MRA legislation. The Committee on House Administration, for example, has distributed regular annual "Dear Colleagues" announcing or explaining regulations, such as those pertaining to end-of-year expenses, district office space, and travel. Other letters have been issued regarding allowable franking and MRA expenses for the annual Congressional Art Competition or travel for a Member's funeral service, as well as reminders of prohibited expenses. The letters have explained the implication of new regulations, rulings, or decisions on MRA spending. They also have summarized changes to the Statement of Disbursement s . House spending is categorized by the standard budget object classes used for the federal government. These may include personnel compensation; personnel benefits; travel; rent, communications, and utilities; printing and reproduction; other services; supplies and materials; transportation of things; and equipment. The disbursement volumes also contain a category for franked mail. Certain costs are not included in the MRA and will not be reflected in these totals. The costs include the salaries of Members and certain benefits—including any government contributions toward health and life insurance and retirement—for both Members and staff. Additionally, the range of items that may be covered by an office, as well as staff pay ceilings, have changed over time. The MRA also does not reflect spending by House officers and legislative branch agencies in support of Member offices. The Statements of Disbursements are published as House documents and were historically available in bound volumes. Beginning with the disbursements for the quarter ending September 30, 2009, the Statements have been posted on the House of Representatives website, House.gov. Beginning with disbursements covering January-March 2016, this website provides SOD information in a sortable CSV (comma-separated values) format. This section examines the use of the MRA in practice in recent years. Disbursement information for each authorization year may appear in Statements for 12 quarters, since, as discussed above, late-arriving bills may be paid for up to two years following the end of the MRA year (although unspent funds from one year cannot be obligated in any subsequent year). For example, while Members could only obligate 2011 MRA expenditures from January 3, 2011, until January 2, 2012, late-arriving receipts could be paid through the quarter ending December 31, 2013. While some bills, particularly from outside vendors, may be settled up to eight quarters after the end of the MRA year, the vast majority of billing occurs during the session or in the quarter immediately following the close of the MRA year. Billing for some categories—like personnel compensation—is almost entirely within the disbursements for the calendar year of study. By examining volumes from subsequent quarters, in addition to those from the authorization year, it is possible to provide a more complete picture of spending patterns. Numerous characteristics of individual congressional districts or Member preferences can influence spending priorities, which is reflected in the flexibility provided to Members in establishing and running their offices. Despite some variations, the data, however, show a relative consistency in the overall allocation of MRA resources by category of spending both across Members and over time. Table 2 provides a distributional analysis of office-level data. As with the figures on House-wide total Member office spending in Figure 3 , the office-level data indicate that personnel compensation is by far the largest category of expense for Member offices. Spending on personnel as a percentage of total spending varied (as seen in the differences between the maximum and minimum percentages), but many offices clustered near the mean (i.e., the median and mean were close in all years). Data on other categories of spending also demonstrate that, while variations exist across offices, similar patterns have developed across the House. Table 3 shows spending as a proportion of the total individual authorization. Figure 3 demonstrates aggregate House spending in these years. As with the data on office-level spending in Table 2 , the aggregate data indicate that personnel compensation is the largest category of MRA-related expenses.

Members of the House of Representatives have one consolidated allowance, the Members' Representational Allowance (MRA), with which to operate their offices. The MRA was first authorized in 1996 and was made subject to regulations and adjustments of the Committee on House Administration. Representatives have a high degree of flexibility to use the MRA to operate their offices in a way that supports their congressional duties and responsibilities, and individual office spending may be as varied as the districts Members represent. The appropriation for the MRA decreased from a high in FY2010 of $660.0 million to $554.7 million in FY2014, FY2015, and FY2016. For FY2017, the MRA level was increased by $8.3 million, to $562.6 million (+1.5%). This level was continued for FY2018. The FY2019 level of $573.6 million represents an increase of $10.998 million (+2.0%). The reduction in the overall MRA appropriation from its FY2010 peak has corresponded with a reduction to the individual MRA authorization for each Member, which is available for expenses incurred from January 3 of each year through January 2 of the following year. In the 112th Congress, the House agreed to H.Res. 22, which reduced the amount authorized for salaries and expenses of Member, committee, and leadership offices in 2011 and 2012. This resolution, agreed to on January 6, 2011, stated that the MRA allowances for these years may not exceed 95% of the amount established for 2010. Individual MRAs were further reduced 6.4% in 2012 and 8.2% in 2013, before increasing 1.0% in 2014 and remaining flat in 2015. The 2016 allowances increased by 1.0%. The individual 2017 allowances initially increased by 3.9% from 2016, and then by another $25,000 when the House agreed to H.Res. 411. In 2018, individual allowances were increased by $25,000. Information on individual office spending is published in the quarterly Statements of Disbursements of the House (SOD), which has been made available online since 2009. Beginning with disbursements covering January-March 2016, this website provides SOD information in a sortable CSV (comma-separated values) format. In addition to recurring administrative provisions in the annual appropriations acts requiring unused amounts remaining in the MRA be used for deficit reduction or to reduce the federal debt, numerous bills and resolutions addressing the MRA have been introduced. This legislation has generally fallen into three major categories: (1) attempts to change the MRA procedure or regulate, authorize, or encourage the use of funds for a particular purpose; (2) stand-alone legislation that would govern the use of unexpended balances, including language to require these funds to go toward deficit reduction; and (3) bills that would limit or change the growth of overall MRA or adjustment among Members. This report provides a history and overview of the MRA and examines spending patterns in recent years. The data exclude nonvoting Members, including Delegates and the Resident Commissioner, as well as Members who were not in Congress for the entirety of the session. Information is provided on total spending and spending for various categories, including personnel compensation; travel; rent, utilities, and communications; printing and reproduction; other services; supplies and materials; equipment; and franked mail. The data collected demonstrate that, despite variations when considering all Members, many Members allocate their spending in a similar manner, and spending allocation patterns have remained relatively consistent over time.

Recent fire seasons have been getting more severe, with more acres burned and more damage to property and resources. More acres burned in 2004, 2005, 2006, 2007, 2011, and 2012 than in any other years since record-keeping began in 1960. Many assert that the threat of severe wildfires and the cost of suppressing fires have grown because many forests have unnaturally high amounts of biomass to fuel the fires, as well as because of climate change and the increasing numbers of homes in and near forests (the wildland-urban interface ). Further, many believe that federal efforts to reduce biomass accumulations to historically natural levels have been hindered by public concerns about the impacts; others contend that some proposed activities will lead to commercial timber harvests with little or no fire protection benefits. Congress is considering proposals to authorize and/or fund various activities to reduce biomass fuels and to alter the public review processes for some of those actions (e.g., H.R. 1345 , H.R. 1526 ). This report examines wildfire biomass fuels. It begins with a discussion of fuel characteristics and their relation to wildfire intensity and spread. This is followed with a description of actions proposed to reduce biomass fuel levels, their effectiveness for protecting property and resources from wildfires, and their impacts on other resource values. It concludes with an examination of the federal authorities for fuel reduction activities on federal and nonfederal lands, together with data on the funding provided under each of these authorities. Severe wildfires have been burning more structures and more area. Many believe a significant cause is unnaturally high accumulations of biomass, and have proposed that Congress provide more funding and broader authority for activities that reduce biomass fuels, and thus reduce the extent and severity of wildfires. The principal tools to reduce biomass fuels are prescribed burning—deliberate use of fire primarily to eliminate fine fuels—and thinning—cutting some vegetation to reduce understory growth, the density of the forest canopy, and the fuel ladders that can allow fires to move from the surface into the canopy. The existing authorities for federal agencies to reduce biomass fuel for wildfire protection are broad, though indirect. Congress enacts annual appropriations for hazardous fuels treatments and for other management activities that can encompass fuel reduction efforts. However, the reporting on hazardous fuel treatment funding for the various types of fuel reduction activities and on accomplishments are insufficient for Congress to assess progress in reducing biomass fuels. Also, information on funding (from annual appropriations and mandatory accounts) used for thinning and other activities that are substantially intended for wildfire protection, and reporting on results, are inadequate to compare the benefits and costs of these activities and funds. Distinguishing data on funding and accomplishments via prescribed burning, thinning, and other fuel reduction efforts by ecosystem or fire regime, and separating results from wildland fire use, would likely improve the understanding of the nature, extent, and results of appropriations. Improved reporting on funding and on results, with information disaggregated by ecosystem or fire regime, may help Congress in its deliberations over appropriate funding allocations among activities and agencies. All biomass is potentially fuel for wildfires. In temperate ecosystems, wildfires are inevitable, because dry conditions and ignitions (natural, such as lightning, and anthropogenic, such as matches and campfires) occur. Some wildfires are low-intensity, surface fires that burn the surface fuels (e.g., grasses, needles, leaves). Other fires, under certain conditions, become high-intensity conflagrations (crown fires) that burn through the forest canopy, killing many of the standing trees. Whether a wildfire is a surface fire (which can be controlled readily) or a crown fire (which cannot) depends on the fuel characteristics and the weather (wind, recent precipitation, and recent and current relative humidity). Since weather is uncontrollable, fire protection efforts focus on altering fuel characteristics to try to prevent or minimize the damages caused by crown fires. Four characteristics of biomass fuels significantly affect wildfire behavior and fire effects: the moisture content of the fuels; the size (diameter) of the fuels; the distribution of the fuels (both horizontally and vertically); and the total quantity of the fuels. "Moisture content may be the most important single property controlling flammability of a given fuel." This is because moisture in biomass requires heat to evaporate the moisture so the biomass can burn. The moisture content of green foliage fluctuates widely, depending largely on weather in the preceding days and weeks. Dead biomass also contains water, but at much lower levels than green foliage. Fuel with a moisture content of up to 20%-30% can be ignited (e.g., from a match or a chainsaw, or more commonly from lightning). However, once a fire is started, biomass with a moisture content of 100% can burn, especially if the fire is driven by high winds. Potential wildfire fuels are generally described by the time (in hours) that it takes for the moisture content of the fuels to decline by about two-thirds. The smallest diameter fuels, also called fine fuels or flash fuels, are the 1-hour time lag fuels—needles, leaves, grass, and so forth—both on the surface and in the tree crowns that dry out (lose two-thirds of their moisture content) in about an hour. The next size class is 10-hour time lag fuels—woody twigs and branches, up to a quarter-inch in diameter (about the diameter of a pencil). The larger size classes are the 100-hour time lag fuels (up to 3 inches in diameter) and 1,000-hour time lag fuels (more than 3 inches in diameter). The fine or flash fuels are the most important for spreading fires because they ignite and burn quickly. However, the 1-hour time lag fuels contribute little to fire intensity and damage, because they have little mass to burn and because they burn so quickly (being completely consumed in a matter of minutes). The 10-hour time lag fuels also contribute substantially to the rate of spread, because they also ignite and burn quickly, and because winds can carry the burning fuels (known as firebrands) aloft, to be dropped ahead of the fire (thus starting a new, or spot, fire ahead of the current fire) or on the roofs of surrounding structures. Some 100-hour time-lag fuels can also become firebrands. The larger fuels—particularly the 1,000-hour time lag fuels—burn intensely, and thus generate much of the damage fires cause, but contribute little to the rate of spread, because they are slow to ignite and are too heavy to be carried aloft as firebrands. Fuel distribution refers to its arrangement horizontally and vertically. Two measures are particularly important. One is the compactness (or porosity) of the fuels—how closely packed together the fuels are. Highly compact fuel beds are more resistant to burning, because the compaction reduces ventilation, slowing moisture loss in dry conditions and restricting air flow to the fire (since fire requires oxygen, as well as fuel and a heat source). Less compaction allows more air flow, both drying out the fuels and feeding the fire, at least until the fuel becomes so distributed that it breaks the continuity of the fuels. Continuity is the other key measure of fuel distribution. Fires need relatively continuous fuels to spread; indeed, the entire purpose behind firelines is to control wildfires by breaking the continuity of the fuels. How wide a break is needed depends on several factors, such as fuel size and moisture content (which affect the ease or difficulty for fuels across the break to ignite), but especially slope and wind speed. Steep slopes and high winds bring the fire's convection column closer to the fuel ahead of the fire, reducing fuel moisture content and raising temperatures, and thus making the fuel more flammable. High winds can also carry firebrands, thus spreading the fire across very wide firebreaks. Vertical continuity is also important. "Fuel ladders" are continuous fuels, especially of fine and small fuels, between the surface and the tree crowns. Ladders help spread fires into the canopy, thus turning a surface fire into a crown fire, by providing continuous fuels between the ground and the canopy, and when burning, by pre-heating the green foliage of the canopy (reducing its fuel moisture content and raising temperatures). Wind is often necessary to initiate and sustain a crown fire, since the green foliage typically has a higher moisture content than dead biomass on the surface. However, once started, a crown fire with strong convection can increase the winds, and thus increase its own intensity and spread. The quantity of biomass fuels—the fuel load—varies widely. As measured by foresters, fuel loads typically exclude biomass in the live, commercially valuable trees. Thus, fuel loads include dead biomass (needles or leaves, branches that have fallen, and older dead cellulose), undergrowth (grasses and forbs, shrubs, and small trees), and undesirable trees (including those in stands too dense to produce commercially usable logs). Fuel loads can range from less than 1 ton (oven-dry) of biomass per acre in annual grasslands (e.g., stands of cheatgrass) to more than 200 tons per acre on recently clearcut sites (e.g., old-growth Douglas-fir stands). Despite the general exclusion of live crown biomass in the commercially valuable trees, the total mass, the density, and the continuity of the live crown biomass is a significant factor in sustaining crown fires. Not all fuel is consumed (converted into its mineral components [ash] and smoke [water vapor, carbon dioxide, carbon monoxide, particulates, and more]) in a wildfire. Typically, the fine and small fuels are largely consumed, and the proportion consumed decreases as the size of the fuel increases. One researcher found that high intensity fires consumed 100% of the foliage and 75% of the understory vegetation, but only 10% of tree branches and 5% of large tree stems. Thus, many large-diameter fuels remain on the site in the aftermath of a fire. The nature of these fuel characteristics, and the resulting fire, is substantially affected by the nature of the various ecosystems. Some ecosystems are adapted to relatively frequent low-intensity surface fires. Others are adapted to periodic, high-intensity crown fires that kill much of the vegetation. Still others are adapted to a mixed regime, with some crown fire intermingled with surface fires. And still other ecosystems have evolved with little or no natural wildfire. Many ecosystems in the United States are adapted to relatively frequent wildfires—at least every 30 years or so. These ecosystems are characterized by large amounts of fine fuels (typically grasses and needles), and include grasslands and meadows. Natural forested frequent-fire ecosystems are dominated by relatively large, fire-resistant trees, with open, park-like spaces because the frequent fires kill most of the seedlings and shrubs. The classic examples are ponderosa pine and the southern yellow pine ecosystems. These ecosystems have relatively few small to mid-sized trees to provide fuel ladders (though a few occasionally survive to replace the existing large trees), and thus crown fires are very infrequent. Surface-fire ecosystems account for about 34% of all U.S. wildlands. Historically, the fuels in these ecosystems were composed primarily of grasses, needles, and small, low-growing shrubs. Heavy grazing in the West, beginning in the late 1800s, reduced grass cover, thus removing some of the fine fuels that carried the frequent surface fires and allowing fuel loads of branches and small to mid-size trees to expand. At the same time, logging often emphasized the large pines, leaving the smaller and less fire-resistant trees of the understory (the firs and spruces) to become more dominant. Effective fire suppression further contributed to the fuel loads by eliminating many of the frequent, low-intensity surface fires. Thus, in many places in the West, these ecosystems currently have fuel loads much higher than was historically natural, with fuel ladders where there were traditionally none. Hence, many frequent surface fire ecosystems are at risk of catastrophic crown fires, possibly altering these ecosystems substantially. Activities that reduce fuel loads and remove fuel ladders have been documented to reduce wildfire severity (intensity and damage) in surface-fire ecosystems. At the other end of the spectrum are ecosystems adapted to periodic, high-intensity crown fires. These ecosystems are characterized by large amounts of dense, relatively uniform fuels—plants of the same size and age that regenerated following the previous crown fire. Occasionally, the fires are relatively frequent—less than 50 years between fires—and many plants resprout from rootstocks that were not killed by the fire; the classic example is chaparral: a dense, xeric (arid) ecosystem dominated by large shrubs and small trees (e.g., oaks, Manzanitas, and many other species) common in southern California and parts of the Southwest. More typically, crown fires are infrequent—200 years or more between fires. Most trees are killed, but establish new stands in the burned areas. The classic example is lodgepole pine, a species that grows in dense, even-aged stands and produces serotinous cones that only open and release the seeds after they have been heated sufficiently by a fire. Crown-fire ecosystems account for about 42% of wildlands in the United States. These ecosystems contain relatively large volumes of biomass fuels of relatively uniform size. There is no evidence that human activities of the past century—grazing, logging, fire suppression, and more—have had much impact on fuel loads or on the nature of fires in these ecosystems. Similarly, there is no evidence that activities to reduce fuel loads and remove fuel ladders would affect the likelihood of catastrophic crown fires in these ecosystems. The ineffectiveness of fuel treatment was particularly noted for southern California chaparral: "large fires were not dependent on old age classes of fuels, and it is thus unlikely that age class manipulation of fuels can prevent large fires." It should also be recognized that catastrophic crown fires do not completely destroy all vegetation in their paths. Wildfires respond to minor localized variations in moisture and in fuel size, load, and distribution, and thus typically are patchy. Even catastrophic fires in crown-fire ecosystems leave some areas lightly burned or unburned. The Yellowstone fires (largely in lodgepole pine) that were reported on the nightly news for weeks in the summer of 1988 provide an excellent example: 30% of the reported burned area was actually unburned, and another 15%-20% had only low-intensity surface fires. Thus, only about half the reported acres burned were actually burned severely. In addition to the patchy fires of crown fire ecosystems, some ecosystems consistently burn with crown fires of relatively limited scale, substantially mixed with low-intensity surface fires. These mixed-fire-regime ecosystems typically have an array of fuel sizes, including ladders to allow some crown fires, and often discontinuous crown canopies to halt the spread of crown fires. A classic example is whitebark pine, a slow-growing species commonly limited to high elevation sites. Whitebark pines grow slowly on harsh, windy sites, moderating the micro-climatic to allow true firs and spruces to germinate and grow. The sporadic mixed-intensity fires kill most of the competing firs and spruces and some of the pines, but some pines also survive to produce seed. Clark's nutcrackers are the primary means for spreading the seeds, and these birds prefer to "cache" seeds in burned areas, assuring regeneration of whitebark pines in the severely burned patches. Other species that are commonly surface-fire or crown-fire ecosystems can be mixed-fire-regime types under certain circumstances, typically near the transition to another area dominated by a different species. Ponderosa pine, for example, may be a mixed-fire type on relatively moist sites, where it mixes naturally with Douglas-fir, such as on north-facing slopes in the northern Rockies. Lodgepole pine can be a mixed fire type on relatively dry sites, where the trees naturally grow farther apart, such as on the eastern slopes of the Sierras. Although they account for about 24% of U.S. wildlands, less is known about the possible consequences of fuel reduction activities in mixed-fire-regime ecosystems. It is unclear whether fuels are at unnatural levels, sizes, and distributions, and thus it is unclear whether these ecosystems might experience abnormal levels and intensities of crown fires. It is also unclear whether fuel reduction activities would significantly alter wildfire extent or severity in these ecosystems. Many have proposed reducing fuel loads to increase the ability to suppress wildfires and to reduce the likelihood of crown fires, and thus reducing the extent and damage of wildfires. As noted above, this has been documented as a valid presumption in some ecosystems, and possibly valid in others. It is, however, not appropriate for all ecosystems. Furthermore, reducing fuel loads has little, if any, benefit for protecting structures and communities from wildfires. Reducing the risk of crown fires might seem to provide protection for infrastructure in the wildland-urban interface, but evidence from the Hayman Fire in 2002 (the largest wildfire in Colorado history) shows the potential futility of such efforts. Of the 132 homes burned in the Hayman Fire, 70 (53%) "were destroyed in association with the occurrence of torching or crown fire in the home ignition zone. Sixty-two (47%) were destroyed by surface fire or firebrands." A total of 662 homes (83% of the homes within the Hayman Fire perimeter) survived relatively unscathed, despite more than half the area being in high-severity (35%) and moderate-severity (16%) burns; some of these homes (the number and portion were not documented) likely survived despite crown fire around them. Reducing fuel loads might reduce the extent of wildfires in surface-fire ecosystems, but many observers have suggested the need to expand the area burned in low-intensity surface fires to maintain lower fuel loads and other more historically natural conditions and values. Nonetheless, reducing fuel loads and eliminating fuel ladders may be necessary to the relatively safe existence and use of low-intensity wildfire and prescribed fire in surface-fire ecosystems. A variety of activities have been proposed for reducing fuel loads and otherwise modifying fuel characteristics. The most common proposals are prescribed burning and thinning—alone or in combination—while other activities (e.g., release, pruning, salvage logging) are occasionally suggested. Some observers have cautioned, however, that such activities do not always reduce the risk of crown fires: Thinning and prescribed fires can modify understory microclimate that was previously buffered by overstory vegetation … Thinned stands (open tree canopies) allow solar radiation to penetrate to the forest floor, which then increases surface temperatures, decreases fire fuel moisture, and decreases relative humidity compared to unthinned stands—conditions that can increase surface fire intensity …[and] may increase the likelihood that overstory crowns ignite.… Prescribed burning is the deliberate use of fire in specific areas within prescribed fuel and weather conditions (e.g., fuel moisture content, relative humidity, wind speed). Some call the activity "controlled" burning, but this overstates reality: fire is a self-sustaining chemical reaction, and if conditions change (e.g., wind speed increases), prescribed fires can escape control and cause extensive damage (e.g., the Cerro Grande Fire was a prescribed fire that escaped control and burned 237 homes in Los Alamos, NM, in May 2000). Some observers include as prescribed burning naturally occurring fires that are allowed to burn because they are within acceptable areas and conditions, as prescribed in fire management plans. The agencies use the term wildland fire use for such fires; although they do not include them as prescribed fires, they do include the acres burned in wildland-fire-use fires as acres treated for fuel reduction. Because of the relatively high moisture levels and low wind speeds, prescribed burning primarily eliminates the fine and small fuels. Burning and decomposition are the only means for reducing fine and small fuels. Burning converts the biomass to smoke (carbon dioxide, water vapor, fine particulates, and other pollutants) and ashes (minerals from the organic matter, readily available to feed new plant growth). However, prescribed burning has its limitations. It has little effect on the large diameter fuels. Also, prescribed fire is not a discriminating tool for reducing tree density, crown density, and fuel ladders, since the fire burns whatever biomass is available, depending on a host of site-specific and micro-climatic conditions. Prescribed burning is also risky; several escaped prescribed fires have become notable wildfires, with houses and even lives lost. As a result, fire managers tend to err on the side of caution, with substantial (possibly excessive) personnel and equipment, and thus high implementation costs. Finally, the smoke can be a significant health hazard, especially since fire prescriptions tend toward high relative humidity and low wind speeds, which are often associated with inversions and stagnant air masses. The federal land management agencies—the Forest Service in the Department of Agriculture, and the Bureau of Land Management (BLM), National Park Service, Fish and Wildlife Service, and Bureau of Indian Affairs in the Department of the Interior—have policies in place to allow fire managers to use a naturally-occurring fire to achieve fire management objectives. This practice is, in effect, allowing a wildfire to burn with monitoring, but not aggressive suppression efforts, when the location and conditions are appropriate. Wildland fire use has been called by various terms over the years—"let-burn," prescribed natural fire, wildlife fire use, and appropriate management response. The effects and risks are similar to prescribed burning, and the acres "treated" in this way are now counted as fuel reduction treatments. The principal difference is simply the source of ignition (nature for wildland fire use and humans for prescribed burning). Thinning is the mechanical cutting and removing of some of the trees in a stand. It can be commercial thinning, if the trees are large enough to be used for products (typically 4½ inches in diameter), or precommercial, if the trees are too small to be of commercial use. Exactly how thinning alters biomass fuels depends on the approach used and on what is done with the biomass left on the site. The three basic approaches to thinning are: Low thinning, or thinning from below, which removes the smallest trees and those with the poorest form; Crown thinning, or thinning from above, which removes the larger trees to open the canopy and stimulate growth on the remaining trees; and Selection thinning, which removes the least desirable trees for the future stand, commonly the less desirable species and trees with poorer form. Thinning has several advantages over prescribed burning for reducing fuels. First, it is controlled; which trees are cut and which are left can be selected, and the operation can be halted at any time. Another advantage is that at least low thinning can emphasize eliminating ladder fuels. A third advantage of thinning is that it reduces crown density—most in a crown thinning, least in a low thinning. One report stated: [T]hinning has the ability to more precisely create targeted stand structure than does prescribed fire.… Used alone, … thinning, especially emphasizing the smaller trees and shrubs, can be effective in reducing the vertical fuel continuity that fosters initiation of crown fires. In addition, thinning of small material and pruning of branches are more precise methods than prescribed fire for targeting ladder fuels and specific fuel components.… Thinning also has several disadvantages compared with prescribed burning. It leaves "slash"—tree tops and limbs in a commercial thinning, whole trees in a precommercial thinning—on the ground at the site; this actually increases the fuel load in the short run. The slash must be treated to contribute to fuel reduction. Mechanical treatments (e.g., crushing or chopping) are feasible in some forests, but most common slash treatments—lop-and-scatter (to accelerate decomposition); pile-and-burn, and chipping—are labor-intensive, and thus are costly operations. It should be recognized that not all thinning is intended to reduce biomass fuels. Thinning is also used to increase biomass growth of the desired commercial trees—essentially concentrating the biomass growth on fewer stems to produce larger, more valuable trees. As noted, this can leave slash on the ground, increasing fire hazards at least in the short run. Also, in crown-fire ecosystems, thinning provides little, if any, effective wildfire protection. Nonetheless, in surface-fire and mixed-fire regime ecosystems, and with slash treatment to reduce the fire hazard, thinning can be a tool to reduce the likelihood of catastrophic crown fires. A common proposal is to combine thinning with prescribed burning—thinning first to eliminate ladder fuels and reduce crown density, followed by prescribed burning to eliminate the fine and small fuels in thinning slash. This seems a logical combination, with the benefits of each offsetting the liabilities of the other. However, the empirical evidence of the effectiveness of such combined operations is limited, and has shown variable results. Furthermore, since each operation is costly, the combined treatment is much more expensive than any alternative. Various other activities are sometimes proposed to reduce fuel loads. Logging is sometimes suggested, especially salvage logging of stands with a high proportion of dead trees. Commercial logging emphasizes removal of large standing trees. (Dead trees that have fallen usually have deteriorated too much for wood products.) Logging does reduce crown density (completely in clearcutting), but does little for fuel ladders and leaves substantial volumes of slash. As researchers have noted: The proposal that commercial logging can reduce the incidence of canopy fires was untested in the scientific literature. Commercial logging focuses on large diameter trees and does not address crown base height—the branches, seedlings and saplings which contribute so significantly to the "ladder effect" in wildfire behavior. (emphasis in original) Salvage of standing dead trees might reduce fuels, but some observers have noted that standing dead trees that have shed their needles may contribute less to the intensity and spread of crown fires than live trees, because of their lack of fine fuels. Pruning trees is another activity that can be used to alter fuels for wildfire protection. Pruning focuses on removing lower tree branches, which eliminates many fuel ladders and can reduce crown density. However, as with thinning and logging, pruning leaves slash on the ground, which can contribute to fire intensity and spread unless and until treated. Five federal agencies are responsible for wildfire protection of the federal lands they administer: the Forest Service (FS) in the Department of Agriculture, and the Bureau of Land Management (BLM), National Park Service (NPS), Fish and Wildlife Service (FWS), and Bureau of Indian Affairs (BIA) in the Department of the Interior (DOI). None of the agencies is explicitly authorized or directed to reduce biomass fuels on its lands. Rather, each is implicitly authorized to reduce fuels for wildfire protection within its mandate to preserve and protect the lands and resources under its jurisdiction. Since 1897, for example, the FS (and its predecessor agencies) has been directed to "make provisions for the protection against destruction by fire and depredations upon the public forests and forest reservations" (renamed national forests in 1907). In 1916, when the NPS was created, Congress directed management "to conserve the scenery and the natural and historic objects, and the wild life" of its lands. Implicit BLM authority was provided in the Federal Land Policy and Management Act of 1976 (FLPMA): the public lands shall be managed in a manner that will protect the quality of scientific, scenic, historical, ecological, environmental, air and atmospheric, water resource, and archeological values; that, where appropriate will preserve and protect certain public lands in their natural condition; that will provide food and habitat for fish and wildlife and domestic animals; and that will provide for outdoor recreation and human occupancy and use.… FWS management direction is similarly broad: "for the conservation, management, and where appropriate, restoration of the fish, wildlife, and plant resources and their habitats … for the benefit of present and future generations of Americans." The BIA has the most explicit direction; Indian forest land management activities are defined to include (C) forest land development, including forestation, thinning, tree improvement activities and the use of silvicultural treatments to restore or increase growth and yield to the full productive capacity of the forest environment; [and] (D) protection against losses from wildfire, including … construction of firebreaks, hazard reduction, prescribed burning ... [emphasis added] Despite the general, broad, generic authority for biomass fuel reduction activities (prescribed burning, thinning, and more), the agencies have both specific funding programs and the authority to use general management funds for these types of activities. Below is a description of each agency's relevant programs. The Forest Service has several accounts which fund activities that can reduce biomass fuels. The primary funding for prescribed burning is the Hazardous Fuels sub-account, within the Other Operations account of the Wildland Fire Management line item. Although this sub-account is the primary source of funds for prescribed burning, it can be used for other fuel reduction activities, such as thinning, as well. How much Hazardous Fuels funding is used for prescribed burning or for other activities, and which ecosystems (specifically or by fire regime) the activities occur in, are not reported. As shown in Table 1 , Hazardous Fuels funding rose substantially in FY2001, then continued to rise steadily through FY2008, before jumping again in FY2009 due to the substantial funding in the economic stimulus legislation ( P.L. 111-5 ), and then declining over the last few years to more than half of the FY2009 funding total. Thinning—for fuel reduction as well as for other purposes (e.g., enhancing timber production)—is funded within the Vegetation and Watershed Management account of the National Forest System line item. This account also includes reforestation, rangeland improvements (e.g., grass seeding), watershed protection (e.g., slope stabilization), noxious weed control and eradication, and air quality (e.g., smoke) management efforts. In FY2008, about 20% of appropriations to this account funded thinning and related activities (e.g., pruning); however, the portion used for thinning varies from year to year. In addition, the portion of thinning funded through Vegetation Management that is primarily intended to improve wildfire protection is unknown. The FS has three mandatory spending accounts that also provide funds for activities that can reduce biomass fuels. One is Brush Disposal (BD); this account collects deposits from timber purchasers to be used by the FS to treat the slash from logging operations in the national forests. Slash treatments include mechanical efforts (crushing, bulldozer-piling), manual efforts (e.g., lopping-and-scattering, hand-piling), and prescribed burning (broadcast burning, burning slash piles). Although the funds are to be used on timber sale areas, slash treatment following thinning operations is also sometimes funded through the BD account. These activities are typically not counted as fuel reduction efforts, but the primary purpose of slash treatment is to reduce fire hazards. Another mandatory spending account is the Knutson-Vandenberg (K-V) Fund. This account also collects deposits from timber purchasers, to be used by the FS to reforest and otherwise improve the forest following logging operations (such as through thinning, watershed protection, etc.). Thus, K-V funds can be used in a manner similar to Vegetation and Watershed Management Appropriations. Again, how much funding is used for thinning and the portion of thinning that improves wildfire protection are unknown. The third relevant FS mandatory spending account is stewardship contracting. The FS is authorized to include forest stewardship activities, such as thinning for fuel reduction, as requirements in these timber sale contracts. Deposits to this account occur when the contracts generate net receipts (i.e., the value of the timber harvested exceeds the cost of the stewardship activities). The funds can then be used on a variety of activities, including thinning. The agency does not report how much thinning is funded and the portion that improves wildfire protection. The four agencies within DOI receive appropriations in accounts similar to the FS accounts. The Hazardous Fuels sub-account, within the Other Operations account of the Wildland Fire Management line item, provides the majority of funding for prescribed burning, although the funds can be used for other fuel reduction activities. The portion used for prescribed burning, and the ecosystems treated by each method, are not reported. Wildland Fire Management is now funded as a department-wide program; prior to FY2008, Wildland Fire Management was funded through the BLM, with the BLM allocating funds to each of the other agencies. As shown in Table 1 , DOI fuel reduction funding in the Hazardous Fuels sub-account jumped in FY2001, and has been relatively stable since. Other fuel reduction activities, such as thinning, are funded through general land and resource management accounts for each of the DOI agencies. These funds can be used for various activities that might improve wildfire protection by reducing fuel loads. For the BLM, the principal account is Land Resources, within the Management of Lands and Resources line item; the BLM also receives funds for the Western Oregon Resources Management account within the Oregon and California (O&C) Grant Lands line item. Funds from both accounts could be used for activities that reduce biomass fuels. The NPS has two accounts, Park Protection and Resource Stewardship, both within the Operation of the National Park System line item; both fund activities to protect and restore natural and cultural resources, and thus could fund fuel reduction activities that reduce wildfire threats. For the FWS, several accounts within the Resource Management line item could fund activities that reduce wildfire threats to migratory birds, wildlife habitats, and the National Wildlife Refuge System. The BIA has several sub-accounts within the Trust—Natural Resources Management account of the Operation of Indian Programs line item that could fund activities that reduce wildfire threats on Indian lands. However, the portion of the funds from each of these accounts used for fuel reduction activities is unknown. The BLM has one mandatory spending account that can be used for activities that reduce biomass fuels to improve wildfire protection: the Forest Ecosystem Health and Recovery Fund. These funds can be used for a variety of activities, including reducing wildfire risk for damaged forests (e.g., having high tree mortality due to an insect infestation or disease epidemic). The portion that might be used to improve wildfire protection is unknown. As with fuel reduction authorities for federal lands, federal authorities for assisting fuel reduction on nonfederal lands are indirect, at best. The FS has two wildfire protection assistance programs that can include fuel reduction. None of the other agencies have financial and technical assistance programs for state or local governments or private landowners that can be used for biomass fuel reduction activities. One FS wildfire protection assistance program is State Fire Assistance (also called Rural Fire Protection). Funding is authorized for technical and financial assistance to states for fire prevention, fire control, and prescribed burning for fire protection. Allocation to the states is based on a non-statutory formula (at the agency's discretion), and the portion used for fuel reduction via prescribed burning is at each state's discretion. The other FS wildfire protection assistance program is Volunteer Fire Assistance. The FS is authorized to provide technical and financial assistance for fire prevention, fire control, and prescribed burning for fire protection. Eligibility is limited to rural volunteer fire departments, defined as "any organized, not for profit, fire protection organization that provides service primarily to a community or city" of up to 10,000 people "whose firefighting personnel is 80 percent or more volunteer, and that is recognized as a fire department by the laws of the State …" Allocation is at the agency's discretion, and any funding used for fuel reduction is at the local fire department's discretion. The FS is also authorized to support Community Wildfire Protection. The program was created in the 2002 farm bill ( P.L. 107-171 ) in part to expand homeowner and community outreach and education (including community wildfire protection planning) and to establish defensible space around private homes and property. The FS is authorized to reduce biomass fuels on private lands (among other things) with the landowner's consent. To date, no funds have been appropriated for this program, although State Fire Assistance funding could be used to implement the program. The FS also has other technical and financial assistance programs that might be used to assist in reducing fuels on nonfederal lands. Various programs provide financial and technical assistance for forest stewardship (including thinning), forest health protection (including insect and disease control), and emergency restoration for forests damaged by natural disasters (including clearing downed trees). The portion of funds appropriated to these several programs that might contribute to wildfire protection through biomass fuel reduction is unknown.

Severe wildfires have been burning more acres and more structures in recent years. Some assert that climate change is at least partly to blame; others claim that the increasing number of homes in and near the forest (the wildland-urban interface) is a major cause. However, most observers agree that wildfire suppression and historic land management practices have led to unnaturally high accumulations of biomass in many forests, particularly in the intermountain West. While high-intensity conflagrations (wildfires that burn the forest canopy) occur naturally in some ecosystems (called crown-fire or stand-replacement fire ecosystems), abnormally high biomass levels can lead to conflagrations in ecosystems when such crown fires were rare (called frequent-surface-fire ecosystems). Thus, many propose activities to reduce forest biomass fuels. The characteristics of forest biomass fuels affect the nature, spread, and intensity of the fire. Fuel moisture content is critical, but is generally a function of weather patterns over hours, days, and weeks. Fuel size is also important—fine and small fuels (e.g., needles, grasses, leaves, small twigs) are key to fire spread, while larger fuels (e.g., twigs larger than pencil-diameter, branches, and logs) contribute primarily to fire intensity; both are important to minimizing fire damages. Fuel distribution can also affect damages. Relatively continuous fuels improve burning, and vertically continuous fuels—fuel ladders—can lead a surface fire into the canopy, causing a conflagration. Total fuel accumulations (fuel loads) also contribute to fire intensity and damage. Thus, activities that alter biomass fuels—reducing total loads, reducing small fuels, reducing large fuels, and eliminating fuel ladders—can help reduce wildfire severity and damages. Several tools can be used to reduce forest biomass fuels. Prescribed burning is the deliberate use of fire in specific areas under specified conditions. It is the only tool that can eliminate fine fuels, but is risky because it burns any fuel available. Wildland fire use is the term used for allowing a wildfire to be used like a prescribed burn (i.e., within specified areas and conditions). Thinning is a broader forestry tool useful for eliminating fuel ladders and total fuels in the crown, but it does not eliminate fine fuels, and it concentrates fuels in a more continuous array on the surface. The combination of thinning with prescribed burning is often proposed to combine the benefits, but it also combines the cost of both. Logging does little to reduce fuel loads. The federal land management agencies undertake all of these activities under general authorities for wildfire protection and land and resource management. Fuel reduction, primarily via prescribed burning, is funded with direct annual appropriations for wildfire management. Other activities, particularly thinning, are funded through other annual appropriations accounts, such as vegetation management. Also, several mandatory spending accounts provide funds for related activities, such as treating logging and thinning debris. In addition, wildfire assistance funding allows the Forest Service to provide technical and financial aid for reducing forest biomass fuel loads on nonfederal lands, among other things. The issues for Congress include the appropriate level of funding for prescribed burning and thinning for fuel reduction and the appropriate reporting of accomplishments. Current reporting does not identify ecosystems being treated and the effectiveness of the treatments. Similarly, current appropriations and reporting do not distinguish thinning for fuel reduction from thinning for other purposes, such as enhancing timber productivity. More complete reporting could allow Congress to better target its appropriations for fuel reduction to enhance wildfire protection.

Some Members of Congress have expressed interest in the judicial award of remedies for patent infringement for more than a decade. Several bills introduced in previous sessions of Congress proposed refor ms to damages and injunctions principles in patent law. These bills were not enacted, however, and the changes made by the Leahy-Smith America Invents Act (AIA), P.L. 112-29 , were more limited. Still, concerns over the availability of remedies for patent infringement remain, as evidenced by the introduction of legislation in the 115 th Congress addressing the award of injunctions. Current law calls for the award of monetary damages against adjudicated infringers at an amount adequate to compensate for the infringement, but in no event less than a reasonable royalty. It also allows courts to increase the amount of damages up to three times that amount. Courts are also authorized to grant injunctions in "accordance with the principles of equity." In addition, attorney fees may be awarded in "exceptional cases." Persistent concerns have arisen over whether judicial remedies for patent infringement are predictable and appropriate in view of the patent owner's inventive contribution. For example, determinations of the appropriate level of damages and whether an injunction should be awarded become more complex when the patented invention forms just one feature of a complex, multi-component device, such as a cellular telephone. In addition, many commercialized products implicate hundreds or thousands of patents, in addition to those asserted in a particular litigation, and are owned by numerous unrelated enterprises. Accounting for "royalty stacking" may prove to be a difficult matter in particular cases. Other observers assert that the more routine award of attorney fees to the prevailing party would discourage what they view as abusive assertions of patent rights. This report reviews the current state of the law of patent remedies and surveys reform proposals that have come before Congress. It begins with a brief review of the basic workings of the patent system. The report then considers the award of compensatory damages for patent infringement, attorney fees, and enhanced damages. It then considers the special damages rules for design patents and reviews the law of injunctions. Individuals and firms must prepare and submit applications to the U.S. Patent and Trademark Office (USPTO) if they wish to obtain patent protection. USPTO officials, known as examiners, then assess whether the application merits the award of a patent. Under the Patent Act of 1952, a patent application must include a specification that so completely describes the invention that skilled artisans are able to practice it without undue experimentation. The Patent Act also requires that applicants draft at least one claim that particularly points out and distinctly claims the subject matter that they regard as their invention. While reviewing a submitted application, the examiner will determine whether the claimed invention fulfills certain substantive standards set by the patent statute. Two of the most important patentability criteria are novelty and nonobviousness. To be judged novel, the claimed invention must not be fully anticipated by a prior patent, publication, or other knowledge within the public domain. The sum of these earlier materials, which document state-of-the-art knowledge, is termed the "prior art." To meet the standard of nonobviousness, an invention must not have been readily within the ordinary skills of a competent artisan based upon the teachings of the prior art. If the USPTO allows the application to issue as a granted patent, the owner or owners of the patent obtain the right to exclude others from making, using, selling, offering to sell, or importing into the United States the claimed invention. The term of the patent is ordinarily set at twenty years from the date the patent application was filed. Patent title therefore provides inventors with limited periods of exclusivity in which they may practice their inventions, or license others to do so. The grant of a patent permits inventors to receive a return on the expenditure of resources leading to the discovery, often by charging a higher price than would prevail in a competitive market. A patent proprietor bears responsibility for monitoring its competitors to determine whether they are using the patented invention. Patent owners who wish to compel others to observe their intellectual property rights must usually commence litigation in the federal courts. Although issued patents enjoy a presumption of validity, accused infringers may assert that a patent is invalid or unenforceable on a number of grounds. The U.S. Court of Appeals for the Federal Circuit (Federal Circuit) possesses national jurisdiction over most patent appeals. The U.S. Supreme Court retains discretionary authority to review cases decided by the Federal Circuit. A court may subject adjudicated patent infringers to several remedies that are awarded to the victorious patent proprietor. These remedies include injunctions, monetary damages, and attorney fees. The Patent Act also allows for damages to be increased up to three times for cases of willful infringement. In contrast to copyrights and trademarks, criminal sanctions do not apply to patent infringement. The Patent Act succinctly provides for the award of damages "adequate to compensate for the infringement, but in no event less than a reasonable royalty for the use of the invention made by the infringer." In practice, patent proprietors seek to obtain their lost profits as damages when they are able to provide appropriate evidence. Otherwise a reasonable royalty serves as the default measure of damages. A patent proprietor may obtain damages based upon its lost profits if it can demonstrate that "but for" the infringement, it would have made the infringer's sales. Such an analysis must be supported by "sound economic proof of the nature of the market and likely outcomes with infringement factored out of the economic picture." For example, a patent proprietor may obtain lost profit damages if it can demonstrate that (1) the patented invention was in demand; (2) no acceptable noninfringing substitutes were available; (3) the patent proprietor possessed the manufacturing and marketing ability to exploit the demand; and (4) the amount of profit the patent proprietor would have made. If the patent proprietor cannot demonstrate entitlement to its lost profits, then it may claim damages in the form of a reasonable royalty. To determine this amount, courts typically use one of two approaches. The first, the so-called "analytical approach," provides the patent proprietor with a percentage of the infringer's profits. The second, more common approach is based upon a hypothetical negotiation. Under this technique, the reasonable royalty is set to the rate a willing patent proprietor and willing licensee would have decided upon had they negotiated the license on the date the infringement began. Courts consider many factors when determining the outcome of the hypothetical negotiation. The often cited opinion in Georgia-Pacific Corp. v. United States Plywood Corp. provides a fifteen-factor list. Actual royalty rates charged by the patent proprietor, or paid by the adjudicated infringer on comparable patents, will be considered if such evidence is available. Other factors include the advantages of the patented invention, the availability of noninfringing substitutes, the infringer's expected profits, the commercial relationship between the patent proprietor and the infringer, and industry licensing practices. For many years, reasonable royalty determinations were guided by the so-called "25% Rule." Under this principle, 25% of the infringer's profits serve as the baseline determinant for reasonable royalty damages. However, in its 2011 decision in Uniloc USA, Inc. v. Microsoft Corp ., the Federal Circuit rejected the 25% Rule. The Federal Circuit explained that the 25% Rule failed to tie a reasonable royalty base to the facts of the case at issue, even when used as a starting point. "Beginning from a fundamentally flawed premise and adjusting it based on legitimate considerations specific to the facts of the case nevertheless results in a fundamentally flawed conclusion," the Court of Appeals explained. The Patent Act limits recovery to six years prior to the filing of a complaint or counterclaim for patent infringement. For example, suppose that an inventor obtained a patent on May 1, 2007. A competitor began infringing the patent on June 1, 2008, but the inventor did not bring a suit for patent infringement until July 1, 2017. Under these facts, the period for which the inventor may recover infringement damages commences on July 1, 2011. Note that courts will ordinarily award prejudgment interest on such awards in order to compensate the patent proprietor fully for harms suffered during that six-year period, however. The availability of damages may also be limited under the so-called "marking" statute. The Patent Act encourages patent proprietors and their licensees to affix the word "patent" or the abbreviation "pat.," along with the number of the patent, on patented articles or their packaging. Alternatively, the patent holder may provide an Internet address with a posting that associates the patented article with the number of the patent. If the patent proprietor does not mark its product, then damages are available only after the infringer was specifically notified of the infringement. Filing of an action for infringement qualifies as notice under the marking statute. Ordinarily, patent proprietors may only collect damages for patent infringement that takes place during the term of a patent—that is to say, after the USPTO issues the patent and prior to its expiration date. The Patent Act provides one exception to this rule. Under current law, pending patent applications may be published "promptly after the expiration of a period of 18 months from the ... filing date." If the infringer had "actual notice" of such a published application, then the patent proprietor may obtain a reasonable royalty between the date notice was provided and the date the patent issued. Many observers have criticized patent damages awards as being uncertain and excessive, leading to social harms. For example, the Georgia Pacific factors—a list of fifteen factors to be considered within the context of a hypothetical negotiation—have been "widely criticized as ambiguous, unworkable, inherently contradictory, and circular." Others have expressed concern that patent infringement—a strict liability offense that occurs whether or not the infringer knew of the patent prior to being sued—presumes that technology users are able to discover relevant patents in advance and either design around them or negotiate patent licenses. This account may not hold true today given the number and fragmented ownership of potentially relevant patents. As a result, such preclearance may be both infeasible as a practical matter and undesirable as a matter of economic policy. On the other hand, other stakeholders believe that the possibility of a significant damages award is needed to afford patents respect in the marketplace, particularly in an era where courts are more circumspect in granting injunctions than in previous years. They also believe that limits on patent damages will reduce incentives to innovate and develop new products. Others believe that judges and juries are not well-positioned to engage in more sophisticated damages determinations, such as assessing the incremental economic value of a patented invention over the prior art. Marketplace realities often render the determination of an appropriate damages award a difficult proposition in patent litigation. In some cases, the product or process that is found to infringe may incorporate numerous additional elements beyond the patented invention. For example, the asserted patent may relate to a windshield wiper, while the accused product consists of the entire automobile. In such circumstances, a court may apply "the entire market value rule": if a party can prove that the patented invention drives demand for the accused end product, it can rely on the end product's entire market value as the royalty base. On the other hand, if the court determines that the infringing sales were due to many factors beyond the use of the patented invention, the court may apply principles of "apportionment" to reach a just measure of damages for infringement. In such cases, the "smallest salable patent-practicing unit principle provides that, where a damages model apportions from a royalty base, the model should use the smallest salable patent-practicing unit as the base." Some observers believe that "application of the entire market value rule routinely overcompensates patentees and thereby exacerbates many problems inherent in the current system for awarding patent infringement damages." They reason that the know-how, materials, and marketing efforts of the adjudicated infringer virtually always contribute some, and often substantial, value to the infringing product. Other observers disagree, believing that the courts have reasonably applied the entire market value rule and apportionment principles. In their view, apportionment devalues patents and incentives to invest in research and development. Further, they assert that to the extent problems existed a decade ago, courts have identified them and began to tighten application of the entire market value rule. Bills introduced in a previous Congress proposed statutory modifications to patent damages provisions. For example, in the 111 th Congress, the Patent Reform Act of 2009 ( H.R. 1260 ) would have required courts to conduct "an analysis to ensure that a reasonable royalty is applied only to the portion of the economic value of the infringing product or process properly attributable to the claimed invention's specific contribution over the prior art." This legislation was not enacted. "Royalty stacking" refers to circumstances where a single product, such as a smartphone or automobile, may infringe many patents. For example, one recent study determined that the numerous potential royalty demands on a smartphone could equal or exceed the cost of its components. The manufacturer of such a product must add or "stack" each of the claims for royalties in order to sell it without risk of patent litigation. Some district courts have ruled that, when determining a royalty rate for the infringement of a particular patent, they should also consider the royalty burden associated with other patents potentially covering the infringing product. Otherwise the damages award might overvalue the individual patent asserted in that litigation. This inquiry appears to be a complex endeavor, as identifying and predicting patents that might be asserted against a particular product is an uncertain exercise. The Supreme Court and Federal Circuit have yet to address the issue of royalty stacking, however, and no legislation has been placed before Congress that would address the issue. Patent cases traditionally followed the "American Rule" with respect to attorney fees. Each litigant ordinarily pays its own fees in the United States, win or lose, in contrast to the "English Rule" where the losing party must compensate the lawyers for the prevailing litigant. Current law provides for a relatively limited exception to this principle. In patent cases, 35 U.S.C. §285 provides that the "court in exceptional cases may award reasonable attorney fees to the prevailing party." In its 2014 ruling in Octane Fitness , LLC v. Icon Health & Fitness Inc. , the Supreme Court held that an "exceptional case" is "one that stands out from others with respect to the substantive strength of a party's litigating position (considering both the governing law and the facts of the case) or the unreasonable manner in which the case was litigated." The Court explained that relevant factors included the frivolousness of the litigant's assertions, its motivations, objective unreasonableness, and the need to compensate one litigant or deter another. The Court further explained that district courts should resolve Section 285 determinations by considering the "totality of the circumstances." Further, a prevailing party must demonstrate its entitlement to attorney fees by a "preponderance of the evidence." In a companion case decided the same day as Octane Fitness , Highmark , Inc. v. Allcare Health Management System Inc. , the Supreme Court ruled that the Federal Circuit should review the district court's Section 285 determination under an abuse-of-discretion standard. Octane Fitness and Highmark are widely viewed as overturning more restrictive standards previously employed by the Federal Circuit. As a result, district courts possess greater discretion in deciding whether to award fees and appear to be shifting fees more frequently. Some commentators believe that these decisions may discourage a practice known as "patent trolling"—the purchase and enforcement of patents by "non-practicing" or "assertion entities" against businesses that use or sell the patented inventions. They cite, for example, the decision in Lumen View Technology, LLC v. Findthebest.com, Inc. , where the court awarded attorney fees to the accused infringer due in part to the following reasoning: The "deterrence" prong of the Octane Fitness test also weighs in favor of an exceptional case finding. The boilerplate nature of Lumen's complaint, the absence of any reasonable pre-suit investigation, and the number of substantially similar lawsuits filed within a short time frame, suggests that Lumen's instigation of baseless litigation is not isolated to this instance, but is instead part of a predatory strategy aimed at reaping financial advantage from the inability or unwillingness of defendants to engage in litigation against even frivolous patent lawsuits. The need "to advance considerations of ... deterrence" of this type of litigation behavior is evident. Commentators are quick to note, however, that fee shifting remains the exception, and not the default, following the Octane Fitness ruling. As of the publication of this report, no bill had been introduced in the 115 th Congress that concerned fee shifting in patent cases. However, several bills introduced, but not enacted, in the 114 th Congress addressed this topic. The Innovation Act, H.R. 9 in the 114 th Congress, would have amended Section 285 to require a court to award attorney fees to a prevailing party in any patent case. The bill would have established two exceptions to this general rule: (1) where the position and conduct of the nonprevailing party were reasonably justified in law and fact; or (2) that special circumstances (such as severe economic hardship to a named inventor) make an award unjust. The Protecting American Talent and Entrepreneurship Act (PATENT) Act of 2015, S. 1137 in the 114 th Congress, expressed the "sense of Congress that, in patent cases, reasonable attorney fees should be paid by a nonprevailing party whose litigation position or conduct is not objectively reasonable." The PATENT Act would have also amended Section 285 to allow for fee-shifting. Under this legislation, if the court finds that the position or conduct of the non-prevailing party was not objectively reasonable, then the court shall award reasonable attorney fees to the prevailing party. Fees would not be shifted if special circumstances, such as undue economic hardship to a named inventor or an institution of higher education, would make an award unjust. A key difference between the Innovation Act and the PATENT Act was the burden of proof. Under the Innovation Act, fees would be shifted unless the nonprevailing party could demonstrate that an exception existed. In contrast, under the PATENT Act the prevailing party carried the burden of demonstrating that it was entitled to an award. In addition, unlike the Innovation Act, the PATENT Act would have exempted from the fee-shifting provision any lawsuit that included a cause of action for patent infringement under 35 U.S.C. §271(e)(2). Both the Innovation Act and the PATENT Act would have also required interested parties to join the litigation if the nonprevailing party alleging infringement was unable to pay the fees awarded by a court. These so-called "mandatory joinder" provisions responded to concerns that the entity asserting a patent might be a "shell company" owned by other enterprises with greater financial resources. Finally, the Support Technology and Research for Our Nation's Growth (STRONG) Patents Act of 2015, S. 632 in the 114 th Congress, did not include a fee-shifting provision. However, Section 101 of that bill asserted a congressional finding that the Supreme Court's Octane Fitness and Highmark rulings "significantly reduced the burden on an alleged infringer to recover attorney fees from the patent owner, and increased the incidence of fees shifted to the losing party." Proponents of a less restrictive fee-shifting provision believe that "allowing more liberal shifting of attorney fees against losing parties would reduce the frequency of such nuisance settlements, and would allow more defendants to challenge patents that are invalid or that have been asserted beyond what their claims reasonably allow." On the other hand, those wary of fee-shifting provisions are concerned that they may benefit wealthy corporate parties to the disadvantage of individual inventors. They assert that "[a] 'loser pays' provision will deter patent holders from pursuing meritorious patent infringement claims and protects institutional defendants with enormous resources who can use the risk of fee-shifting to force inventors into accepting unfair settlements or dismissing their legitimate claims." Section 284 of the Patent Act currently provides that the court "may increase the damages up to three times the amount found or assessed." In its 2016 decision in Halo Electronics, Inc. v. Pulse Electronics, Inc. , the Supreme Court clarified that awards of enhanced damages are "designed as a 'punitive' or 'vindictive' sanction for egregious infringement behavior." Such a circumstance is commonly termed "willful infringement." In Halo v . Pulse , the Supreme Court emphasized that the award of enhanced damages lies within the discretion of the district judges in view of all of the circumstances. Although not subject to a "rigid formula," the award of enhanced damages may depend on such factors as whether the infringer intentionally copied the patent proprietor's product; whether the infringer acted in accordance with the standards of commerce for its industry; whether the infringer made a good faith effort to avoid infringing; whether there is a reasonable basis to believe that the infringers had a reasonable defense to infringement; and whether defendants tried to conceal their infringement. The Supreme Court also clarified that the evidentiary threshold for an award of enhanced damages is the "preponderance of the evidence" and that the Federal Circuit should review awards of enhanced damages under the "abuse of discretion" standard. Commentators have widely viewed the Halo v. Pulse ruling as making awards of enhanced damages easier to obtain. Although bills directly addressing the topic of enhanced damages have not been placed before Congress in many years, these earlier proposals were more restrictive than the standards adopted in Halo v. Pulse . Indeed, in support of its ruling in Halo v. Pulse , the Supreme Court noted that Congress had considered bills calling for a higher standard of proof for willful infringement but had not enacted them. For example, in the 111 th Congress, the Patent Reform Act of 2009 ( H.R. 1260 ) would have authorized a court to find willful infringement only where the patent proprietor proved by clear and convincing evidence that (1) the infringer received specific written notice from the patentee and continued to infringe after a reasonable opportunity to investigate; (2) the infringer intentionally copied from the patentee with knowledge of the patent; or (3) the infringer continued to infringe after an adverse court ruling. In addition, under H.R. 1260 , willful infringement could be found where the infringer possessed an informed, good faith belief that its conduct was not infringing. The Leahy-Smith America Invents Act (AIA), P.L. 112-29 , incorporated a single provision relating to the law of willful infringement. Section 17 of the AIA incorporated 35 U.S.C. §298 into the Patent Act. That provision provides: The failure of an infringer to obtain the advice of counsel with respect to any allegedly infringed patent, or the failure of the infringer to present such advice to the court or jury, may not be used to prove that the accused infringer willfully infringed the patent or that the infringer intended to induce infringement of the patent. This provision was intended "to protect attorney-client privilege and to reduce pressure on accused infringers to obtain opinions of counsel for litigation purposes." The AIA did not otherwise address the topic of willful infringement. Patent law's willful infringement doctrine has proven controversial. Some observers believe that this doctrine ensures that patent rights will be respected in the marketplace. Critics of the policy believe that the possibility of trebled damages discourages individuals from reviewing issued patents and challenging patents of dubious validity. Consequently some have argued that the patent system should shift to a "no-fault" regime of strictly compensatory damages, without regard to the state of mind of the adjudicated infringer. In addition to granting so-called "utility patents" directed towards machines, manufactures, compositions of matter and processes, the Patent Act of 1952 also allows for "design patents." An inventor may obtain a design patent by filing an application with the USPTO directed towards a "new, original and ornamental design for an article of manufacture." Most design patent applications consist primarily of drawings that depict the shape or surface decoration of a particular product. They may concern any number of products, including automobile parts, containers, electronics products, home appliances, jewelry, textile designs, and toys. To obtain protection, the design must not have been obvious to a designer of ordinary skill of that type of product. In addition, a design must be "primarily ornamental" to be awarded design patent protection. If the design is instead dictated by the performance of the article, then it is judged to be functional and ineligible for design patent protection. Issued design patents confer the right to exclude others from the "unauthorized manufacture, use, or sale of the article embodying the patented design or any colorable imitation thereof." The scope of protection of a design patent is provided by drawings within the design patent instrument. To establish infringement, the design patent proprietor must prove that "in the eye of an ordinary observer, giving such attention as a purchaser usually gives," the patented and accused designs "are substantially the same, if the resemblance is such as to deceive such an observer, inducing him to purchase one supposing it is the other." The term of a design patent is 15 years from the date the USPTO issues the patent. Design patents are subject to a distinct statutory provision with respect to damages than other sorts of patents. 35 U.S.C. §289 provides that a person who manufactures or sells "any article or manufacture to which a [patented] design or colorable imitation has been applied shall be liable to the extent of his total profit, but not less than $250." Section 289 goes on to state that "[n]othing in this section shall prevent, lessen, or impeach any other remedy which an owner of an infringed patent has under the provisions of this title, but he shall not twice recover the profit made from the infringement." The effect of 35 U.S.C. §289 is to provide a design patent holder with two damages options. Like other sorts of patent proprietors, a design patent holder may obtain its own lost profits or reasonable royalties from the adjudicated infringer. Alternatively, the design patent holder may obtain the profits of the adjudicated infringer due to the infringement, so long as no double recovery occurs. The 2016 Supreme Court decision in Samsung Electronics Co. v. Apple Inc. is widely perceived as interpreting this provision in a narrow fashion. In that case, Apple owned several design patents pertaining to its iPhone, including a patent claiming a black rectangular front face with rounded corners; another patent claiming a rectangular front face with rounded corners and a raised rim; and a third patent claiming a grid of 16 colorful icons on a black screen. The lower courts held that Samsung had infringed the patents and was liable for the entire profit it made selling its infringing smartphones. The Supreme Court reversed and remanded the case for a new determination of damages. The Court began its analysis by concluding that arriving at a damages calculation under §289 involves two steps: (1) "identify the 'article of manufacture' to which the infringed design has been applied," and (2) "calculate the infringer's total profit made on that article of manufacture." The Court then determined the scope of the phrase "article of manufacture" with respect to a multi-component product like an iPhone. Rejecting the view that the "article of manufacture" must always mean the end product sold to the consumer, the Court ultimately held that the term "article of manufacture," as used in §289, could encompasses both (1) a product sold to a consumer and (2) a component of that product, whether that component is sold separately or not. The Supreme Court therefore required that the lower courts identify the relevant article of manufacture that Samsung infringed and adjust the damages total accordingly. Reactions to the ruling in Samsung v . Apple have varied. Some commentators believe that the lower courts had allowed Apple to recover damages that were disproportionate to Samsung's infringement. They observe that smartphones incorporate many features that were unrelated to the design patents asserted by Apple. Others assert the view that designs often sell the products with which they are associated. As a result, assessing the total profits due to the infringement is appropriate. They believe that the Supreme Court's ruling adversely affects the value of design patents and obligates the lower courts to reach difficult decisions when accused infringers assert that the patented "design for an article of manufacture" is in fact less than the entirety of the product they are selling. 35 U.S.C. §283 provides that "[t]he several courts having jurisdiction of cases under this title may grant injunctions in accordance with the principles of equity to prevent the violation of any right secured by patent, on such terms as the court deems reasonable." Prior to the issuance of the Supreme Court decision in eBay , Inc. v. MercExchange, L.L.C ., some commentators had expressed concerns that the Federal Circuit interpreted this provision as requiring courts to issue an injunction upon a finding of patent infringement absent exceptional circumstances. In their view, the threat of an injunction would encourage patent proprietors to demand royalty rates in excess of the economic contribution of the patented technology. In essence, accused infringers might have been pressured to pay a premium to "buy off" the injunction, or risk being sued and enjoined by a court, particularly in circumstances where the patented invention formed just one component of a larger, combination product. Such concerns may have motivated proposals to amend 35 U.S.C. §283. For example, the Patent Reform Act of 2005, H.R. 2795 in the 109 th Congress, proposed to add the following language to that provision: In determining equity, the court shall consider the fairness of the remedy in light of all the facts and the relevant interests of the parties associated with the invention. Unless the injunction is entered pursuant to a nonappealable judgment of infringement, a court shall stay the injunction pending an appeal upon an affirmative showing that the stay would not result in irreparable harm to the owner of the patent and that the balance of hardships from the stay does not favor the owner of the patent. However, shortly after this proposed reform was introduced, the Supreme Court issued the eBay case. In that case the Court concluded that the Federal Circuit had inappropriately concluded that injunctions were strongly favored each time a patent was infringed. Instead, the lower courts were to consider the appropriateness of awarding of an injunction on a case-by-case basis. In particular, the patent proprietor must demonstrate that (1) it has suffered an irreparable injury; (2) remedies available at law, such as monetary damages, are inadequate to compensate for that injury; (3) considering the balance of hardships between the patent proprietor and adjudicated infringer, a remedy in equity is warranted; and (4) the public interest would not be disserved by a permanent injunction. The eBay decision is regarded as having a substantial impact on patent law remedies. One empirical study concluded that since eBay , patent proprietors that practice the patented invention usually obtain permanent injunctions when they prevail. In contrast, courts generally deny injunctive relief to non-practicing entities and firms that do not compete with the adjudicated infringer in the marketplace. Although the issuance of an injunction is subject to principles of equity in most patent cases, Congress has mandated that an injunction issue in certain circumstances. Notably, in patent infringement cases brought under the Drug Price Competition and Patent Term Restoration Act of 1984 (commonly referred to as the Hatch-Waxman Act), P.L. 98-417 , and Biologics Price Competition and Innovation Act of 2009, P.L. 111-148 , the relevant statute dictates that a court "shall" order an injunction in favor of the prevailing patent proprietor. These cases ordinarily involve patented pharmaceuticals and biologics. On June 21, 2017, Senators Coons, Cotton, Durbin, and Hirono introduced S. 1390 , the Support Technology and Research for Our Nation's Growth and Economic Resilience (STRONGER) Patents Act of 2017. Section 106 of the bill, titled "Restoration of patents as property rights," provides in principal part: Upon a finding by a court of infringement of a patent not proven invalid or unenforceable, the court shall presume that— (1) further infringement of the patent would cause irreparable injury; and (2) remedies available at law are inadequate to compensate for that injury. This proposal would therefore establish a presumption that two of the four eBay factors support the grant of an injunction in cases of patent infringement. Under current law, the patentee must demonstrate that the four eBay factors support the award of an injunction against an adjudicated infringer. The STRONGER Patents Act would instead place the burden of proof upon the adjudicated infringer to demonstrate that (1) future infringement would not cause an irreparable injury and (2) legal remedies, such as monetary damages, would compensate for future infringement. Considerable discussion of the appropriateness of patent infringement remedies occurred in connection with the reform legislation that resulted in the America Invents Act. As ultimately enacted, however, the AIA addressed only the law of willful infringement. Since the enactment of the AIA, the Supreme Court and the Federal Circuit have issued a number of additional opinions addressing this topic. Stakeholders have nonetheless expressed concerns about the fairness, predictability, and accuracy of remedies for patent infringement; although some observers believe that the level of judicial compensation to patent proprietors is appropriate. Given the significance of remedies in rewarding invention, promoting competition, encouraging patent acquisition and enforcement, and contributing to an efficient innovation environment, congressional interest in this topic appears unlikely to diminish in coming years.

For more than a decade, some Members of Congress have considered bills that have proposed reforms to the law of patent remedies. Under current law, courts may award damages to compensate patent proprietors for an act of infringement. Damages consist of the patent owner's lost profits due to the infringement, if they can be proven. Otherwise the adjudicated infringer must pay a reasonable royalty. Courts may also award enhanced damages of up to three times the actual damages in exceptional cases. In addition, courts may issue an injunction that prevents the adjudicated infringer from employing the patented invention until the date the patent expires. Finally, although usually each litigant pays its own attorney fees in patent infringement cases, win or lose, the courts are authorized to award attorney fees to the prevailing party in exceptional cases. Some observers believe that the courts are adequately assessing remedies against adjudicated patent infringers. Others have expressed concerns that the current damages system systematically overcompensates patent proprietors. Some suggest that the usual rule regarding attorney fees—under which each side most often pays its own fees—may encourage aggressive enforcement tactics by "patent assertion entities," which are sometimes pejoratively called patent trolls. Damages often occur in the context of a patent that covers a single feature of a multi-component product. In addition, many of these other components are subject to additional patents with a fragmented ownership. The courts have developed such principles as the "entire market value rule" and have also addressed the concept of "royalty stacking," in order to address these issues. Legislation was introduced before Congress relating to these matters, but these bills were not enacted. Current law allows courts to award enhanced damages in exceptional cases, which ordinarily applies to circumstances of willful infringement or litigation misconduct. Recent Supreme Court decisions appear to have increased the likelihood that enhanced damages will be awarded, in contrast to earlier legislative proposals that were more restrictive. Bills in the 114th Congress would have called for the prevailing party to be awarded its attorney fees in patent litigation. Under these proposals, fees would not be awarded if the nonprevailing party's position and conduct were justified or special circumstances made the award unjust. This legislation was not enacted, but it may be reintroduced in the 115th Congress. Design patents are subject to a special damages statute which asserts that anyone who sells an "article of manufacture" containing the patented design may be liable to the patent owner "to the extent of his total profit." In its 2016 decision in Samsung v. Apple, the Supreme Court ruled that an "article of manufacture" need not consist of the entire product sold to consumers, but could also mean a portion of a multi-component product. This ruling appears to have decreased the damages available for the infringement of design patents that apply to products with multiple features. In the 115th Congress, the STRONGER Patents Act of 2017, S. 1390, would modify the principles governing the award of an injunction against an adjudicated patent infringer. S. 1390 would establish a presumption that future infringements would cause irreparable injury and that legal remedies, such as damages, are inadequate to compensate for those infringements. This proposal would increase the likelihood that patentees could obtain an injunction against infringers.

Since November 1986, the Commemorative Works Act (CWA) has provided the legal framework for the placement of commemorative works in the District of Columbia. The CWA was enacted to establish a statutory process for ensuring "that future commemorative works in areas administered by the National Park Service (NPS) and the General Services Administration (GSA) in the District of Columbia and its environs (1) are appropriately designed, constructed, and located and (2) reflect a consensus of the lasting significance of the subjects involved." Since the CWA's enactment, 35 memorials have been authorized for placement in the District of Columbia. This report provides a catalog of the 19 memorials in the District of Columbia that have been authorized, completed, and dedicated since the passage of the CWA. A summary of the work is provided. The report also provides information—located within text boxes for easy reference—on the statute(s) authorizing the work; the authorized organization; legislative extensions, if any; the memorial's location; and the dedication date. A picture of each work is also included. The Appendix includes a map showing each memorial's location. For a further discussion of the placement of memorials in the District of Columbia see CRS Report R41658, Commemorative Works in the District of Columbia: Background and Practice , by Jacob R. Straus and CRS Report R43744, Monuments and Memorials Authorized Under the Commemorative Works Act in the District of Columbia: Current Development of In-Progress and Lapsed Works , by Jacob R. Straus. The CWA divides land under the jurisdiction of the NPS and GSA in the District of Columbia and its environs into three sections for the placement of memorials: the Reserve, Area I, and Area II. For each area, the standards for memorial placement are specified in law, and congressional approval of monument location is required. Property not under the jurisdiction of the NPS or GSA is not subject to the CWA. See Figure A-1 for a map of the commemorative works areas of the District of Columbia. The Reserve was created in November 2003, by P.L. 108-126 , to prohibit the addition of future memorials in an area defined as "the great cross-axis of the Mall, which generally extends from the United States Capitol to the Lincoln Memorial, and from the White House to the Jefferson Memorial ." This area is legally considered "a substantially completed work of civic art. " Within this area, "to preserve the integrity of the Mall … the siting of new commemorative works is prohibited. " Created as part of the original CWA statute in 1986, Area I is reserved for commemorative works of "preeminent historical and lasting significance to the United States. " Area I is roughly bounded by the West Front of the Capitol; Pennsylvania Avenue NW (between 1 st and 15 th Streets NW); Lafayette Square; 17 th Street NW (between H Street and Constitution Avenue); Constitution Avenue NW (between 17 th and 23 rd Streets); the John F. Kennedy Center for the Performing Arts waterfront area; Theodore Roosevelt Island; National Park Service land in Virginia surrounding the George Washington Memorial Parkway; the 14 th Street Bridge area; and Maryland Avenue SW, from Maine Avenue SW, to Independence Avenue SW, at the United States Botanic Garden. Also created as part of the original CWA statute, Area II is reserved for "subjects of lasting historical significance to the American people. " Area II encompasses all sections of the District of Columbia and its environs not part of the Reserve or Area I. Since the passage of the Commemorative Works Act (CWA) in 1986, Congress has authorized 35 commemorative works to be placed in the District of Columbia or its environs, 19 of which have been completed and dedicated—16 under the auspices of the CWA and three outside of the CWA process. The other 16 authorized commemorative works are either in progress or have a lapsed authorization. Table 1 lists the commemorative works authorized and dedicated since 1986. Since 1986, 19 commemorative works have been completed within the District of Columbia and its environs. These memorials honored groups of individuals, such as women who have served in the U.S. military; veterans from World War II as well as the Korean War; and individuals including George Mason, Francis Scott Key, and Mahatma Gandhi. For each memorial, a short background and a picture is included. Additionally, a text box is provided that includes information on the authorizing statute; the sponsor organization; statutory extensions of the sponsor's authorization, if necessary; the memorial's location; and the date of dedication. In October 1986, Congress authorized the Women in Military Service for America Memorial Foundation to construct a commemorative work, on federal land, to honor women who had served in the U.S. Armed Forces. Located at the ceremonial entrance to Arlington National Cemetery, the Women in Military Service for America Memorial is a "30-foot high curved neoclassical retaining wall" and a fountain. While the foundation has raised nonfederal funds to construct the memorial, because the memorial was built to complement the existing main gate and plaza of Arlington National Cemetery, Congress authorized the Secretary of the Army to provide "engineering, design, construction management, and related services on a reimbursable basis." Figure 1 shows the Women in Military Service for America Memorial. In October 1986, the Francis Scott Key Park Foundation was authorized by Congress to construct a commemorative work on public grounds in the District of Columbia to "honor and in commemoration of Francis Scott Key, the author of the words to 'The Star Spangled Banner,' our National Anthem, who lived and practiced law in Washington, District of Columbia at the time he penned those immortal words." The memorial is located in a park close to the site of Francis Scott Key's home, which was demolished in 1947, and is adjacent to the Georgetown entrance to Key Bridge, which is also named for Francis Scott Key. The memorial consists of a round stone base and a bust of Francis Scott Key and is shown in Figure 2 . In October 1986, the American Battle Monuments Commission was authorized by Congress to construct a memorial on federal land in Washington, DC, "to honor members of the Armed Forces of the United States who served in the Korean War, particularly those who were killed in action, are still listed as missing in action, or were held as prisoners of war." Located to the southeast of the Lincoln Memorial, the Korean War Veterans Memorial contains 19 stainless steel statues, a mural wall etched with bas-relief images of photographs of Korean War scenes from the National Archives, a pool of remembrance, an honor roll, a low stone wall listing the 22 nations that participated in the war, and a dedication stone. "The memorial commemorates the sacrifices of the 5.8 million Americans who served in the U.S. armed services during the three-year period of the Korean War.... During its relatively short duration from June 25, 1950 to July 27, 1953, 54,246 Americans died in support of their country. Of these, 8,200 are listed as missing in action or lost or buried at sea. In addition 103,284 were wounded during the conflict." Figure 3 shows the Korean War Veterans Memorial. In November 1986, Congress authorized 25 private armored force committees and associations to create a memorial on federal land to "honor members of the American Armored Force who have served in armored units." The memorial was authorized to "commemorate the exceptional professionalism of the members of the American Armored Force and their efforts to maintain peace worldwide." Located on Memorial Drive at the entrance to Arlington National Cemetery, the American Armored Force Memorial ( Figure 4 ) depicts armored forces engaged in battle surrounded by the logos of the various armored divisions. In November 1988, Congress authorized the Vietnam Women's Memorial Project to establish a memorial on federal land in the District of Columbia to "honor women who served in the Armed Forces of the United States in the Republic of Vietnam during the Vietnam era." Located next to the Vietnam Veterans Memorial, the Vietnam Women's Memorial is designed to honor all women who served during the Vietnam War. The bronze statue of the Vietnam Women's Memorial statue ( Figure 5 ) depicts "a nurse—in a moment of crisis—… supported by sandbags as she serves as the life support for a wounded soldier lying across her lap. The standing woman looks up, in search of a med-i-vac helicopter or, perhaps, in search of help from God." In August 1990, the Board of Regents of Gunston Hall was authorized to build a memorial to George Mason on federal land in the District of Columbia. Located in West Potomac Park, near the Tidal Basin, Jefferson Memorial, and George Mason Memorial Bridge, the George Mason Memorial ( Figure 6 ) was designed in the style of Mason's Gunston Hall plantation and features a statue of the American patriot and statesmen seated on a bench. Following congressional authorization of the site location, the memorial was placed as an addition to an existing commemorative work to George Mason—the south-bound span of the 14 th Street Bridge—that had been authorized in 1959. In October 1992, Congress authorized the government of the District of Columbia to establish a memorial on federal land "to honor African-Americans who served with Union forces during the Civil War." Located at 12 th and U Streets NW the African-American Civil War-Union Soldiers/Sailors Memorial ( Figure 7 ) features a granite plaza surrounded by a wall of honor on three sides. In the center is a statue featuring "uniformed black soldiers and a sailor poised to leave home. Women, children, and elders on the cusp of the concave inner surface seek strength together." In October 1992, Congress authorized the Go for Broke National Veterans Association Foundation to create a memorial on federal land in the District of Columbia "to honor Japanese American patriotism in World War II." Located at the intersection of New Jersey Avenue NW, Louisiana Avenue NW, and D Street NW, the memorial contains a statue of a crane surrounded by the names of the 10 relocation camps used to house Japanese Americans during World War II. The Japanese American Patriotism in World War II Memorial ( Figure 8 ) also contains the names of Japanese Americans killed in uniform during World War II, a bell, a reflecting pond with five granite boulders, and a quotation by Senator Daniel Inouye. In May 1993, Congress authorized the American Battle Monuments Commission to establish a memorial "to honor members of the Armed Forces who served in World War II and to commemorate the participation of the United States in that war." Located on the National Mall between the Washington Monument and the Lincoln Memorial between the eastern edge of the Reflecting Pool and 17 th Street NW, the World War II Memorial ( Figure 9 ) consists of 24 bronze bas-relief panels flanking the ceremonial entrance, 56 granite columns around the Rainbow Pool to "symbolize the unprecedented wartime unity among the forty-eight states, several federal territories, and the District of Columbia." Two 43-foot tall pavilions proclaiming "American victory on the Atlantic and Pacific fronts" are located to the North and South of the pool. In December 1993, Congress authorized the National Captive Nations Committee to "construct, maintain, and operate in the District of Columbia an appropriate international memorial to honor victims of communism." Located on Massachusetts Avenue NW between New Jersey Avenue NW and G Street NW, the Victims of Communism Memorial ( Figure 10 ) features the statue "Goddess of Democracy," a "bronze replica of a statue erected by Chinese students in Tiananmen Square, Beijing, China in the spring of 1989." In October 1998, Congress authorized the government of India to establish and maintain a memorial "to honor Mahatma Gandhi on Federal land in the District of Columbia." Located outside the Embassy of India in a park surrounded by Q Street NW, Massachusetts Avenue NW and 21 st Street NW, "[t]he sculpture of Mahatma Gandhi is cast in bronze as a statue to a height of 8 feet 8 inches. It shows Gandhi in stride, as a leader and man of action evoking memories of his 1930 protest march against salt-tax, and the many padyatras (long marches) he undertook throughout the length and breadth of the Indian sub-continent." The Mahatma Gandhi Memorial ( Figure 11 ) is located in a memorial plaza, which includes "[t]hree inscription panels in ruby red granite, mounted on gray granite bases, [and] are located on the eastern side of the plaza facing the park." In October 2000, Congress authorized the placement at the Lincoln Memorial of a plaque commemorating Dr. Martin Luther King, Jr.'s August 28, 1963, "I Have a Dream" speech. Located on the Lincoln Memorial steps at the spot where Dr. King spoke, the plaque ( Figure 12 ) commemorates the speech and the August 1963 March on Washington for Jobs and Freedom. In November 2001, Congress authorized the government of the Czech Republic to maintain and "establish a memorial to honor Tomas G. Masaryk [Czechoslovakia's first president] on Federal land in the District of Columbia." Located on Massachusetts Avenue NW, Florida Avenue NW, and Q Street NW, the memorial ( Figure 13 ) "honors Tomas Garrigue Masaryk (1850-1937), the founder and first president of Czechoslovakia.… [and] was modeled from life in 1937 shortly before Masaryk died." In November 1996, Congress authorized the Alpha Phi Alpha Fraternity to establish a memorial "to honor Martin Luther King, Jr." Located on the National Mall in the northeast corner of the Tidal Basin, the Dr. Martin Luther King, Jr. Memorial ( Figure 14 ) features a statue of Dr. King "emerging from a mountain ... " referencing "a line from King's 1963 'I Have a Dream' speech. 'With this faith, we will be able to hew out of the mountain of despair a stone of hope.'" In October 2000, Congress authorized the Disabled Veterans' LIFE Memorial Foundation, Inc., to establish a commemorative work, on federal land, in the District of Columbia "to honor veterans who became disabled while serving in the Armed Forces of the United States." The American Veterans Disabled for Life Memorial is located near the Rayburn House Office Building between Washington Avenue SW and 2 nd Street SW across from the United States Botanic Garden's Bartholdi Park. The American Veterans Disabled for Life Memorial features an eternal flame ( Figure 15 ) and images of, and quotations about, disabled veterans. In October 2006, Congress authorized the government of Ukraine "to establish a memorial on Federal land in the District of Columbia to honor the victims of the Ukrainian famine-genocide of 1932-1933." The memorial is located at a site bordered by Massachusetts Avenue, North Capitol Street, and F Street NW. The memorial is termed "Field of Wheat," and "contains a six foot tall bronze wall that transitions from a high bas relief of wheat on the east end to a deep negative relief on the west, symbolizing the loss of wheat and food." ( Figure 16 ) Since 1986, three commemorative works have been authorized by Congress for placement within the District of Columbia, but were either exempted from a portion of the CWA or were ultimately placed outside of the area defined by the act. The Air Force Memorial was located near the Pentagon in Arlington, Virginia, a plaque to honor Vietnam veterans who died as a result of service in the Vietnam War was placed at the Vietnam Memorial, and a plaque to honor Senator Robert J. Dole's contribution to creating the World War II Memorial was placed at the memorial's site. In December 1993, Congress authorized the Air Force Memorial Foundation to establish a memorial to "honor the men and women who have served in the United States Air Force and its predecessors." Pursuant to P.L. 107-107 , the Air Force Memorial is located at the Arlington Naval Annex near the Pentagon in Arlington, Virginia. The United States Air Force Memorial ( Figure 17 ) was constructed on land not covered by the Commemorative Works Act and is not managed by the National Park Service or the General Services Administration. In June 2000, Congress authorized the American Battle Monuments Commission to place a plaque at the Vietnam Veterans Memorial "to honor those Vietnam veterans who died after their service in the Vietnam War, but as a direct result of that service, and whose names are not otherwise eligible for placement on the memorial wall." Located at the northeast corner of the plaza surrounding the Three Serviceman statue at the Vietnam War Memorial, the plaque ( Figure 18 ) is in memory of the soldiers who died as a result of their service in the Vietnam War, after the war's conclusion. In October 2009, in the Department of the Interior, Environment, and Related Agencies Appropriations Act, 2010, Congress authorized the placement of a plaque to honor Senator Robert J. Dole at the World War II Memorial. The plaque was to "commemorate the extraordinary leadership of Senator Robert J. Dole in making the Memorial a reality on the National Mall." Located on the south side of the World War II Memorial, the Dole Plaque ( Figure 19 ) honors the Senator for his contributions to the World War II Memorial on the National Mall. Figure A-1 shows a map with the location of commemorative works authorized and dedicated since 1986.

Since the enactment of the Commemorative Works Act (CWA) in 1986, Congress has authorized 35 commemorative works to be placed in the District of Columbia or its environs. Nineteen of these works have been completed and dedicated. This report contains a catalog of the 19 authorized works that have been completed and dedicated since 1986. For each memorial, the report provides a rationale for each authorized work, as expressed by a Member of Congress, as well as the statutory authority for its creation; and identifies the group or groups which sponsored the commemoration, the memorial's location, and the dedication date. A picture of each work is also included. The Appendix includes a map showing each completed memorial's location. For more information on the Commemorative Works Act, see CRS Report R41658, Commemorative Works in the District of Columbia: Background and Practice, by Jacob R. Straus; CRS Report R43241, Monuments and Memorials in the District of Columbia: Analysis and Options for Proposed Exemptions to the Commemorative Works Act, by Jacob R. Straus; and CRS Report R43744, Monuments and Memorials Authorized Under the Commemorative Works Act in the District of Columbia: Current Development of In-Progress and Lapsed Works, by Jacob R. Straus.

On May 27, 2015, the Army Corps of Engineers (the Corps) and the Environmental Protection Agency (EPA) finalized a rule revising regulations that define the scope of waters protected under the Clean Water Act (CWA). Discharges to waters under CWA jurisdiction, such as the addition of pollutants from factories or sewage treatment plants and the dredging and filling of spoil material through mining or excavation, require a CWA permit. The rule was proposed in 2014 in light of Supreme Court rulings that created uncertainty about the geographic limits of waters that are and are not protected by the CWA. The revised rule became effective on August 28, 2015, 60 days after publication in the Federal Register , to allow time for review under the Congressional Review Act. However, multiple legal challenges to the rule were filed in federal district and appeals courts around the country. On October 9, 2015, a federal appeals court in Cincinnati issued an order granting a request by 18 states to stay the new rule nationwide, pending further developments. On June 14, 2016, this court set the briefing schedule in the litigation; the court's schedule likely would lead to oral arguments in February 2017 or later. As a result of these judicial actions, until legal proceedings are concluded, the new rule is not in effect, and prior regulations and agency guidance will govern determinations of CWA jurisdiction. According to EPA and the Corps, the agencies' intent was to clarify CWA jurisdiction, not expand it. Nevertheless, the rule has been extremely controversial, especially with groups representing property owners, land developers, and the agriculture sector, who contend that it represents a massive federal overreach beyond the agencies' statutory authority. Most state and local officials are supportive of clarifying the extent of CWA-regulated waters, but some are concerned that the rule could impose costs on states and localities as their own actions (e.g., transportation or public infrastructure projects) become subject to new requirements. Most environmental advocacy groups welcomed the intent of the proposal to more clearly define U.S. waters that are subject to CWA protections, but beyond that general support, some favored even a stronger rule. Many critics in Congress and elsewhere urged that the proposed rule be withdrawn, but EPA and the Corps pointed out that doing so would leave in place the status quo—with determinations of CWA jurisdiction being made pursuant to existing regulations, coupled with non-binding agency guidance, and many of these determinations involving time-consuming case-specific evaluation. Still, even though the 2015 rule has been stayed by a federal court, some in Congress favor halting the agencies' approach to defining "waters of the United States" and leaving the status quo in place or giving EPA and the Corps new directions on defining CWA jurisdiction. This report discusses several options that Congress has considered that were reflected in bills in the 114 th Congress. The CWA protects "navigable waters," a term defined in the act to mean "the waters of the United States, including the territorial seas." Waters need not be truly navigable to be subject to CWA jurisdiction. The act's single definition of "navigable waters" applies to the entire law, including the federal prohibition on pollutant discharges except in compliance with the act (§301), permit requirements (§§402 and 404), water quality standards and measures to attain them (§303), oil spill liability and oil spill prevention and control measures (§311), and enforcement (§309). The CWA gave the agencies the authority to define the term "waters of the United States" more fully in regulations, which EPA and the Corps have done several times, most recently in 1986. While EPA is primarily responsible for implementing the CWA, EPA and the Corps share implementation of the dredge and fill permitting program in Section 404. The courts, including the Supreme Court, generally upheld the agencies' implementation until Supreme Court rulings in 2001 and 2006 ( Solid Waste Agency of Northern Cook County v. U.S. Army Corps of Engineers , (SWANCC) 531 U.S. 159 (2001); and Rapanos v. United States , 547 U.S. 716 (2006), respectively). Those rulings interpreted the regulatory scope of the CWA more narrowly than the agencies and lower courts were then doing, and created uncertainty about the appropriate scope of waters protected under the CWA. In 2003 and 2008, the agencies issued guidance intended to lessen confusion over the Court's rulings. The non-binding guidance sought to identify, in light of those rulings, categories of waters that remain jurisdictional, categories not jurisdictional, and categories that require a case-specific analysis to determine if CWA jurisdiction applies. The Obama Administration proposed revised guidance in 2011; it was not finalized, but it was the substantive basis for the 2014 proposed rule. In proposing to amend the regulatory definition of "waters of the United States" rather than issue another guidance document, EPA and the Corps were not only acting to reduce the confusion created by SWANCC and Rapanos . They also appeared to be picking up on the suggestion of several of the justices in Rapanos that an amended rule would be helpful. The 2015 final rule retains much of the structure of the agencies' existing definition of "waters of the United States." It focuses particularly on clarifying the regulatory status of surface waters located in isolated places in a landscape and streams that flow only part of the year, along with nearby wetlands—the types of waters with ambiguous jurisdictional status following the Supreme Court's rulings. Like the 2003 and 2008 guidance documents and the 2014 proposal, it identifies categories of waters that are and are not jurisdictional, as well as categories of waters and wetlands that require a case-specific evaluation. Under the final rule, all tributaries to the nation's traditional navigable waters, interstate waters, the territorial seas, or impoundments of these waters would be jurisdictional per se . All of these waters are jurisdictional under existing rules, but the term "tributary" is newly defined in the rule. Waters—including wetlands, ponds, lakes, oxbows, and similar waters—that are adjacent to traditional navigable waters, interstate waters, the territorial seas, jurisdictional tributaries, or impoundments of these waters would be jurisdictional by rule. The final rule for the first time puts some boundaries on what is considered "adjacent." Some waters—but fewer than under current practice—would remain subject to a case-specific evaluation of whether or not they meet the legal standards for federal jurisdiction established by the Supreme Court. The final rule establishes two defined sets of additional waters that will be a "water of the United States" if they are determined to have a significant nexus to a jurisdictional waters. The final rule identifies a number of types of waters to be excluded from CWA jurisdiction. Some are restatements of exclusions under current rules (e.g., prior converted cropland); some have been excluded by practice and would be expressly excluded by rule for the first time (e.g., groundwater, some ditches). Some exclusions were added to the final rule based on public comments (e.g., stormwater management systems and groundwater recharge basins). The rule makes no change and does not affect existing statutory exclusions: permit exemptions for normal farming, ranching, and silviculture practice and for maintenance of drainage ditches (CWA §404(f)(1)), as well as for agricultural stormwater discharges and irrigation return flows (CWA §402(l)). The agencies' intention was to clarify questions of CWA jurisdiction, in view of the Supreme Court's rulings and consistent with the agencies' scientific and technical expertise. Much of the controversy since the Court's rulings has centered on the many instances that have required applicants for CWA permits to seek a time-consuming case-specific evaluation to determine if CWA jurisdiction applies to their activity, due to uncertainty over the geographic scope of the act. In the rule, the Corps and EPA intended to clarify jurisdictional questions by clearly articulating categories of waters that are and are not protected by the CWA and thus limiting the types of waters that still require case-specific analysis. However, critical response to the proposal from industry, agriculture, many states, and some local governments was that the rule was vague and ambiguous and could be interpreted to enlarge the regulatory jurisdiction of the CWA beyond what the statute and the courts allow. Officials of the Corps and EPA vigorously defended the proposed rule. But they acknowledged that it raised questions that required clarification in the final rule. In an April 2015 blog post, the EPA Administrator and the Assistant Secretary for the Army said that the agencies responded to criticisms of the proposal with changes in the final rule, which was then undergoing interagency review. The blog post said that the final rule would make changes such as: defining tributaries more clearly; better defining how protected waters are significant; limiting protection of ditches to those that function like tributaries and can carry pollution downstream; and preserving CWA exclusions and exemptions for agriculture. The final rule announced on May 27, 2015, does reflect a number of changes from the proposal, especially to provide more bright line boundaries and simplify definitions that identify waters that are protected under the CWA. The agencies' intention has been to clarify the rules and make jurisdictional determinations more predictable, less ambiguous, and more timely. Based on press reports of stakeholders' early reactions to the final rule, it appears that some believe that the agencies largely succeeded in that objective, while others believe that they did not. Congressional interest in the rule has been strong since the proposal was announced in 2014. On February 4, 2015, the Senate Environment and Public Works Committee and the House Transportation and Infrastructure Committee held a joint hearing on impacts of the proposed rule on state and local governments, hearing from public and EPA and Corps witnesses. Other hearings have been held by Senate and House committees in the 114 th Congress. The proposal also was discussed at House committee hearings during the 113 th Congress. As described below, a number of bills were introduced in the 114 th Congress, most of them intended either to prohibit the agencies from finalizing the 2014 proposed rule or to detail procedures for a new rulemaking. As noted earlier, some in Congress have long favored halting EPA and the Corps' current approach to defining "waters of the United States." To do so legislatively, there are at least four options available to change the agencies' course: a resolution of disapproval under the Congressional Review Act, appropriations bill provisions, standalone legislation, and broad amendments to the Clean Water Act. The Congressional Review Act (CRA), enacted in 1996, establishes special congressional procedures for disapproving a broad range of regulatory rules issued by federal agencies. Before any rule covered by the act can take effect, the federal agency that promulgates it must submit it to both houses of Congress and the Government Accountability Office (GAO). If Congress passes a joint resolution disapproving the rule under procedures provided by the act, and the resolution becomes law, the rule cannot take effect or continue in effect. Also, the agency may not reissue either that rule or any substantially similar one, except under authority of a subsequently enacted law. Joint resolutions of disapproval of the final clean water rule have been introduced in the House ( H.J.Res. 59 ) and the Senate ( S.J.Res. 22 ). On November 4, the Senate passed S.J.Res. 22 , by a 53-44 vote, and the House passed S.J.Res. 22 on January 13, 2016, by a 253-166 vote. However, President Obama vetoed the joint resolution on January 19. On January 21, the Senate failed to invoke cloture on a motion to proceed to override the veto (52-40), and the veto message was indefinitely postponed by the Senate by unanimous consent. The CRA applies to major rules, non-major rules, final rules, and interim final rules. The definition of "rule" is sufficiently broad that it may define as "rules" agency actions that are not subject to traditional notice and comment rulemaking under the Administrative Procedure Act, such as guidance documents and policy memoranda. A joint resolution of disapproval must be introduced within a specific time frame: during a 60-days-of-continuous-session period beginning on the day the rule is received by Congress. The path to enactment of a CRA joint resolution is a steep one. In the nearly two decades since the CRA was enacted, only one resolution has ever been enacted. The path is particularly steep if the President opposes the resolution's enactment, as was the case with a resolution disapproving the EPA-Corps rule to define "waters of the United States," which, as noted, the President vetoed on January 19, 2016. Overriding a veto of a joint resolution, like any other bill, requires a two-thirds majority in both the House and Senate. The potential advantage of the CRA lies primarily in the procedures under which a resolution of disapproval can be considered in the Senate. Pursuant to the act, an expedited procedure for Senate consideration of a joint resolution of disapproval may be used at any time within 60 days of Senate session after the rule in question has been submitted to Congress and published in the Federal Register . The expedited procedure provides that, if the committee to which a disapproval resolution has been referred has not reported it by 20 calendar days after the rule has been received by Congress and published in the Federal Register , the committee may be discharged if 30 Senators submit a petition for that purpose. The resolution is then placed on the Senate Calendar. Under the expedited procedure, once a disapproval resolution is on the Senate Calendar, a motion to proceed to consider it is in order. Several provisions of the expedited procedure protect against various potential obstacles to the Senate's ability to take up a disapproval resolution. The Senate has treated a motion to consider a disapproval resolution under the CRA as not debatable, so that this motion cannot be filibustered through extended debate. After the Senate takes up the disapproval resolution itself, the expedited procedure of the CRA limits debate to 10 hours and prohibits amendments. The act sets no deadline for final congressional action on a disapproval resolution, so a resolution could theoretically be brought to the Senate floor even after the expiration of the deadline for the use of the CRA's expedited procedures. To obtain floor consideration, the bill's supporters would then have to follow the Senate's normal procedures, however. There are no expedited procedures for initial House consideration of a joint resolution of disapproval. A resolution could reach the House floor through its ordinary procedures, that is, generally by being reported by the committee of jurisdiction (in the case of CWA rules, the Transportation and Infrastructure Committee). If the committee of jurisdiction does not report a disapproval resolution submitted in the House, a resolution could still reach the floor pursuant to a special rule reported by the Committee on Rules (and adopted by the House), by a motion to suspend the rules and pass it (requiring a two-thirds vote), or by discharge of the committee (requiring a majority of the House [218 Members] to sign a petition). The CRA establishes no expedited procedure for further congressional action if the President vetoes a disapproval resolution. In such a case, Congress would need to attempt an override of a veto using its normal procedures for doing so. As noted above, if a joint resolution of disapproval becomes law, the rule at issue cannot take effect or continue in effect, and neither that rule nor a substantially similar one may be promulgated, except under authority of a subsequently enacted law. While that outcome would please most critics of the "waters of the United States" rule, it also would leave the regulated community in the situation that many of them have faulted—subject to 1986 rules that are being interpreted pursuant to non-binding agency guidance that frequently requires case-specific evaluation to determine if CWA jurisdiction applies. Including a provision in an appropriations bill is a second option for halting or redirecting the "waters of the United States" rule by limiting or preventing agency funds from being used for the rule. Congress has considered legislation to do so in the recent past, but so far, congressional opponents of the rule have not succeeded in using appropriations measures to halt or delay it. In the 114 th Congress, on May 1, 2015, the House approved the FY2016 Energy and Water Appropriations bill ( H.R. 2028 ) with a provision that would bar the Corps from developing, adopting, implementing, or enforcing any change to rules or guidance in effect on October 1, 2012, pertaining to the CWA definition of "waters of the United States." On June 18, 2015, the House Appropriations Committee approved the FY2016 Interior and Environment Appropriations bill ( H.R. 2822 ) with a similar provision to bar EPA from developing, adopting, implementing, or enforcing any change to rules or guidance pertaining to the CWA definition of "waters of the United States." The House began debate on H.R. 2822 in July 2015, but did not take final action. The Administration indicated that the President would veto both of these bills, based in part to objections to this provision. The Senate Appropriations Committee included a similar provision in legislation providing FY2016 appropriations for EPA ( S. 1645 ), which the committee approved in June 2015. The full Senate did not consider this bill. Full-year FY2016 appropriations for EPA and the Corps were provided in the Consolidated Appropriations Act, 2016, signed by the President on December 18 ( P.L. 114-113 ). The legislation did not include any provisions concerning the "waters of the United States" rule. Similar provisions were included in FY2017 appropriations bills, including H.R. 5055 , a bill providing funding for the Army Corps. The House debated this bill in May 2016, but the measure was defeated in the House on May 26 (112-305), due to controversies about other provisions. Provisions to block the rule were included in bills to fund EPA in FY2017 that were reported by the House Appropriations Committee ( H.R. 5538 ) and the Senate Appropriations Committee ( S. 3068 ), but neither bill received floor consideration. Congress did not reach final agreement on legislation to fund the Corps or EPA before the start of FY2017, on October 1, 2016. However, on September 28, the House and Senate passed a 10-week continuing resolution that extended FY2016 funding levels for these and most other federal agencies, minus a 0.496% across-the-board reduction, through December 9, 2016 ( P.L. 114-223 ). A second continuing resolution, passed in December 2016, extended FY2016 funding levels, minus a 0.1901% across-the-board reduction, from December 10, 2016, through April 28, 2017 ( P.L. 114-254 ). Neither of these stopgap funding bills included legislative language that would affect the "waters of the United States" rule. In comparison to a CRA resolution of disapproval, addressing an issue through an amendment to an appropriations bill may be considered easier, since the overall appropriations bill to which it would be included would presumably contain other elements making it "must pass" legislation, or more difficult for the President to veto. EPA and the Corps issued the final rule on May 27, 2015, before enactment of any FY2016 appropriations bills. A funding prohibition included in an FY2016 appropriations bill would not have halted finalizing the rule, but it still could attempt to block funds for implementation. In recent years, controversies over a variety of environmental issues have led to inclusion of provisions in bills reported by the House Appropriations Committee or passed by the House to restrict funds for particular EPA programs, among other agencies. Few of these environmental provisions have been enacted, however, in part due to opposition in the Senate. Some observers predicted a somewhat easier path for congressional consideration of such restrictions in the 114 th Congress, with Republican majorities in both the House and Senate. However, a bill would still have needed the President's signature, or the votes of two-thirds majorities in both chambers to override his veto. A third option is standalone targeted legislation to redirect development of a "waters of the United States" rule, either by amending the CWA or in a free-standing bill. Such a bill could be similar to a limitation in an appropriations bill with provisions to bar or prohibit EPA and/or the Corps from finalizing, adopting, implementing, or enforcing the "waters of the United States" rule, the 2011 proposed revised guidance, or any similar rule. One such bill in the 114 th Congress was H.R. 594 . It also would have directed the Corps and EPA to consult with state and local officials on CWA jurisdiction issues and develop a report on results of such consultation. Another bill in the 114 th Congress was H.R. 2599 . It would have prohibited the obligation of unobligated funds from the office of the EPA Administrator until she withdraws the "waters of the United States" rule. In the 114 th Congress, H.R. 1732 , the Regulatory Integrity Protection Act, was approved by the House on May 12, 2015, 261-155. It would have required EPA and the Corps to develop a new rule, taking into consideration public comments on the 2014 proposal and supporting documents, and, in doing so, to provide for consultation with state and local officials and other stakeholders. Under the bill, when proposing a new rule, the agencies would have to describe the consultations in detail and explain how the new proposal responds to public comments and consultations. During debate on the measure, the House adopted an amendment that would give states two years to come into compliance with a new rule without losing authority over their state permitting programs. The Obama Administration opposed H.R. 1732 and said that the President would veto the bill. In the Senate, the Federal Water Quality Protection Act ( S. 1140 ) was approved by the Senate Environment and Public Works Committee on June 10, 2015. On November 3, 2015, the Senate voted 57-41 to take up S. 1140 , thus falling short of the 60 votes needed to overcome a filibuster on the motion to proceed to the bill's consideration. (On November 4, 2015, the Senate did pass S.J.Res. 22 , a Congressional Review Act resolution disapproving the rule, as discussed above.) Like H.R. 1732 , S. 1140 would have required the agencies to develop a new rule, taking into consideration public comments on the 2014 proposal. The bill would have required the agencies to ensure that procedures established under executive orders and laws such as the Regulatory Flexibility Act, Unfunded Mandates Reform Act, and others are followed during the rulemaking. Unlike the House bill, S. 1140 identified certain principles that must be adhered to in developing a new rule, especially identifying waters that should be included in defining "waters of the United States" (e.g., reaches of streams with surface hydrological connection to traditional navigable waters with flow in a normal year of sufficient volume, duration, and frequency that pollutants in the stream would degrade water quality of the traditional navigable water) and waters that should not be so included (e.g., groundwater, isolated ponds, and prior converted cropland). The principles in the bill reflected an overall narrow interpretation of the extent of CWA jurisdiction—for example, setting the jurisdictional limits of a stream's reach to waters that have a continuous surface hydrologic connection sufficient to deliver pollutants that would degrade the water quality of a traditional navigable water, as proposed in S. 1140 , generally would follow the test of jurisdiction stated by Justice Scalia in the Rapanos case. Under the legislation, a rule not adhering to principles in the bill would have no force or effect. Another approach was reflected in S. 1178 . It would have required EPA and the Army Corps to establish a commission, with membership appointed by the agencies and the Senate and House, to develop criteria for defining whether a waterbody or wetland has a significant nexus to a traditional navigable water. It would have barred the agencies from developing, finalizing, implementing, or enforcing the 2014 proposed rule or a substantially similar rule prior to receiving a report from the commission. This bill responded in part to criticism that the science underlying the rule was not thoroughly peer-reviewed and subject to public comment before the rule was proposed in 2014. (For discussion, see CRS Report R43455, EPA and the Army Corps' Rule to Define "Waters of the United States" .) The obstacles for targeted bills are similar to those for an appropriations bill, but with the additional complication of needing to be included in non-appropriations legislation that is "must pass" or difficult for the President to veto, or that can receive two-thirds votes in both chambers to override a veto. Targeted legislation might seek to address substantive aspects of the proposed rule that were widely criticized. For example, many stakeholder groups contended that key definitions in the 2014 proposed rule—such as "tributary," "floodplain," and "significant nexus" —were ambiguous, and other terms—such as "upland," "gullies," and "rills"—were entirely undefined. Critics said that ambiguities could lead to agency interpretations that greatly expand the regulatory scope of CWA jurisdiction. However, such criticisms of the proposed rule for the most part were general in nature, rather than specific as to precise language that would clarify terms and definitions. For Congress to legislate solutions and codify remedies in the CWA is a challenge requiring technical expertise that legislators generally delegate to agencies and departments, which implement laws, but one that many in Congress believe the agencies failed to meet in this case. A fourth option could be legislation to amend the Clean Water Act more broadly. The statute has not been comprehensively amended since 1987 (the Water Quality Act of 1987, P.L. 100-4 ). Since the 2001 SWANCC and 2006 Rapanos rulings of the Supreme Court, many stakeholders have argued that what is needed is legislative action to affirm Congress's intention regarding CWA jurisdiction, not guidance or new rules. This type of legislation would have broad implications for the CWA, since questions of CWA jurisdiction are fundamental to all of the act's regulatory requirements. Bills to address CWA jurisdictional issues, but taking different approaches, have been introduced in several Congresses since 2001. Versions of one proposal (the Clean Water Authority Restoration Act) were introduced in the 107 th , 108 th , 109 th , 110 th , and 111 th Congresses. It would have provided a broad statutory definition of "waters of the United States"; would have clarified that the CWA is intended to protect U.S. waters from pollution, not just maintain their navigability; and would have included a set of findings to assert constitutional authority over waters and wetlands. In the 111 th Congress, one of these bills was reported in the Senate ( S. 787 ), but no further action occurred. Other legislation intended to restrict regulatory jurisdiction was introduced in the 108 th and 109 th Congresses (the Federal Wetlands Jurisdiction Act, which was H.R. 2658 in the 109 th Congress). Rather than broadening the statutory definition of "navigable waters," which is the key statutory term for determining jurisdiction, it would have narrowed the definition. It would have defined certain isolated wetlands that are not adjacent to navigable waters, or non-navigable tributaries and other areas (such as waters connected to jurisdictional waters by ephemeral waters, ditches or pipelines), as not being subject to federal regulatory jurisdiction. There was no legislative action on these bills. In the 114 th Congress, legislation titled the Defense of Environment and Property Act was introduced ( S. 980 ). This bill would have clarified the term "navigable waters" in the CWA by defining the term so as to be consistent with Justice Scalia's plurality opinion in the 2006 Rapanos decision, which was the narrowest of the three major opinions in the case. Similar bills were introduced in the 112 th and 113 th Congresses; there also was no legislative action on them. Another such bill in the 114 th Congress was H.R. 2705 , which would have repealed the final rule that was announced in May 2015. Similar to S. 980 , this bill would have revised the CWA definition of "navigable waters" narrowly to mean waters that are navigable-in-fact or are permanent or continuously flowing bodies of water that are connected to navigable-in-fact waters. Enacting legislation to either broaden or restrict CWA jurisdiction would likely require EPA and the Corps to issue new regulations, leading to another lengthy rulemaking process and potentially to more legal challenges in the future. So far, congressional consensus on legislation to redefine CWA jurisdiction has been elusive. While President Obama might have signed a bill such as the Clean Water Authority Restoration Act introduced in the past, passage of such legislation by the Senate and House in the 114 th Congress was unlikely. On the other hand, if the House and Senate were to pass legislation to narrowly define CWA jurisdiction, President Obama likely would have vetoed it, as he did with the CRA resolution. As with the other options previously discussed, a bill would need the President's signature, or the votes of two-thirds majorities in both chambers to override his veto. This report has discussed four legislative options that Congress could consider to halt or redirect EPA and the Corps' "waters of the United States" rule and that were reflected in bills in the 114 th Congress: the Congressional Review Act, appropriations bill limitations, standalone legislation, and broad amendments to the Clean Water Act. It is noteworthy that several of the options—a CRA resolution, appropriations bill limitations, and some current forms of standalone legislation—would not only have blocked EPA and the Corps from adopting, implementing or enforcing the 2015 rule, but also would have prohibited them from developing a similar rule. As described previously, blocking both the rule and future action (e.g., H.R. 594 , H.J.Res. 59 , and S.J.Res. 22 ), limiting the agencies through appropriations, or requiring the agencies to restart the rulemaking process (e.g., H.R. 1732 and S. 1140 ) would leave in place the status quo, with determinations of CWA jurisdiction being made pursuant to existing regulations, non-binding agency guidance issued in 2003 and 2008, and jurisdictional determinations done by 38 separate Corps district offices that in many cases require time-consuming, case-specific evaluation by regulatory staff. As described above, on October 9, 2015, a federal appeals court placed a nationwide stay on the clean water rule. The effect of the court's order is to achieve, at least temporarily, the goal of some of the legislation discussed in this report—to leave the status quo in place for determinations of CWA jurisdiction. Many critics of the 2015 rule endorse that result. Other critics favor passage of legislation that would provide direction to EPA and the Corps to develop a different rule, because legal challenges to the 2015 rule may take years to resolve. Stakeholder groups involved in the "waters of the United States" debate find agreement on few aspects of the issue. Some support the 2015 rule, some prefer the status quo rather than a rule that they consider unclear, and some have concerns with the rule but do support clarifying the extent of CWA-regulated waters. The 114 th Congress legislative activity in the Senate on S.J.Res. 22 and S. 1140 and in the House on H.R. 1732 suggests that, even with the final rule on hold nationwide for now and judicial proceedings that could continue for quite some time, there is continuing interest in Congress to change the agencies' course of action. With a change in administration in January 2017, the 115 th Congress and the new administration seem likely to revisit the "waters of the United States" issue and controversies. The new administration's legislative priorities, as well as plans for addressing the ongoing litigation of the 2015 rule or for initiating a new CWA jurisdiction rule are unclear for now. For Congress, although a resolution of disapproval under the CRA is no longer an available option to halt the rule, Congress could pursue the other legislative options to halt or redirect the rule discussed here.

On May 27, 2015, the Army Corps of Engineers (the Corps) and the Environmental Protection Agency (EPA) finalized a rule revising regulations that define the scope of waters protected under the Clean Water Act (CWA). Discharges to waters under CWA jurisdiction, such as the addition of pollutants from factories or sewage treatment plants and the dredging and filling of spoil material through mining or excavation, require a CWA permit. The rule was proposed in 2014 in light of Supreme Court rulings that created uncertainty about the geographic limits of waters that are and are not protected by the CWA. According to EPA and the Corps, their intent in proposing the rule was to clarify CWA jurisdiction, not expand it. Nevertheless, the rule has been extremely controversial, especially with groups representing property owners, land developers, and agriculture, who contend that it represents a massive federal overreach beyond the agencies' statutory authority. Most state and local officials are supportive of clarifying the extent of CWA-regulated waters, but some are concerned that the rule could impose costs on states and localities as their own actions become subject to new requirements. Most environmental advocacy groups welcomed the proposal, which would more clearly define U.S. waters that are subject to CWA protections, but beyond that general support, some in these groups favor an even stronger rule. The final rule contains a number of changes to respond to criticisms of the proposal, but the revisions may not satisfy all critics of the rule. The rule became effective August 28, 2015, replacing EPA-Corps guidance that has governed permitting decisions since the Supreme Court's rulings. However, a federal appeals court issued a nationwide stay of the rule that has been in effect since October 2015. Despite the court's stay of the rule, some in Congress favor halting EPA and the Corps' current approach to defining "waters of the United States." To do so legislatively, at least four options were reflected in bills in the 114th Congress. The Congressional Review Act. If Congress passes a joint resolution disapproving a covered rule under procedures provided by the act, and the resolution becomes law, the rule cannot take effect or continue in effect. The agency may not reissue either that rule or any substantially similar one, except under authority of a subsequently enacted law. The Senate and House passed such a joint resolution (S.J.Res. 22), but President Obama vetoed it on January 19. On January 21, a procedural vote in the Senate to override the veto failed. Appropriations bill limitations. A provision in an appropriations bill can be a mechanism to block or redirect an agency's course of action by limiting or preventing agency funds from being used for the rule. Bills with such limitations were reported in 2015 and 2016, but none of these bills were enacted. Standalone targeted legislation. Other legislation can take several forms, such as a bill similar to limits in an appropriations bill to prohibit EPA and the Corps from finalizing, implementing, or enforcing the proposed rule. Another approach could be legislation to address substantive aspects of the rule that have been criticized. The House passed one such bill (H.R. 1732) in 2015. Similar legislation was reported in the Senate, but failed to advance (S. 1140). Broad amendments to the Clean Water Act. Legislation to affirm or clarify Congress's intention regarding CWA jurisdiction would have broad implications for the CWA, since questions of jurisdiction are fundamental to all of the act's regulatory requirements. These options and related legislative activity in the 114th Congress are discussed in this report. Each option faced a steep path to enactment, because of the Obama Administration's opposition to legislation to halt or weaken a major regulatory initiative such as the "waters of the United States" rule. With a change in administration in January 2017, the 115th Congress and the new administration seem likely to revisit the "waters of the United States" issue and controversies, but how that will occur is unclear for now.

Section 1512 applies to the obstruction of federal proceedings—congressional, judicial, or executive. It consists of four somewhat overlapping crimes: use of force or the threat of the use of force to prevent the production of evidence (18 U.S.C. 1512(a)); use of deception or corruption or intimidation to prevent the production of evidence (18 U.S.C. 1512(b)); destruction or concealment of evidence or attempts to do so (18 U.S.C. 1512(c)); and witness harassment to prevent the production of evidence (18 U.S.C. 1512(d)). Subsection 1512(a) has slightly different elements depending upon whether the offense involves a killing or attempted killing—18 U.S.C. 1512(a)(1), or some other use of physical force or a threat—18 U.S.C. 1512(a)(2). In essence, it condemns the use of violence to prevent a witness from testifying or producing evidence for an investigation and sets its penalties according to whether the obstructive violence was a homicide, an assault or a threat. Subsection 1512(k) makes conspiracy to violate Section 1512 a separate offense subject to the same penalties as the underlying offense. The section serves as an alternative to a prosecution under 18 U.S.C. 371 that outlaws conspiracy to violate any federal criminal statute. Section 371 is punishable by imprisonment for not more than five years and conviction requires the government to prove the commission of an overt act in furtherance of the scheme by one of the conspirators. Subsection 1512(k) has no specific overt act element, and the courts have generally declined to imply one under such circumstances. Regardless of which section is invoked, conspirators are criminally liable under the Pinkerton doctrine for any crime committed in the foreseeable furtherance of the conspiracy. Accomplices to a violation of subsection 1512(a) may incur criminal liability by operation of 18 U.S.C. 2, 3, 4, or 373 as well. Section 2 treats accomplices before the fact as principals, that is, it declares that those who command, procure or aid and abet in the commission of a federal crime by another, are to be sentenced as if they committed the offense themselves. As a general rule, in order to aid and abet another to commit a crime it is necessary that a defendant in some way associate himself with the venture, that he participate in it as in something he wishes to bring about, that he seek by his action to make it succeed. It is also necessary to prove that someone else committed the underlying offense. Section 3 outlaws acting as an accessory after the fact, which occurs when one knowing that an offense has been committed, receives, relieves, comforts or assists the offender in order to hinder his or her apprehension, trial, or punishment. Prosecution requires the commission of an underlying federal crime by someone else. Offenders face sentences set at one half of the sentence attached to the underlying offense, or if the underlying offense is punishable by life imprisonment or death, by imprisonment for not more than 15 years (and a fine of not more than $250,000). The elements of misprision of felony under 18 U.S.C. 4 are (1) the principal committed and completed the felony alleged; (2) the defendant had full knowledge of that fact; (3) the defendant failed to notify the authorities; and (4) defendant took steps to conceal the crime. The offense is punishable by imprisonment for not more than three years and/or a fine of not more than $250,000. Solicitation to commit an offense under subsection 1512(a), or any other crime of violence, is proscribed in 18 U.S.C. 373. To establish solicitation under §373, the Government must demonstrate that the defendant (1) had the intent for another to commit a crime of violence and (2) solicited, commanded, induced or otherwise endeavored to persuade such other person to commit the crime of violence under circumstances that strongly corroborate evidence of that intent. Section 373 provides an affirmative statutory defense if an offender prevents the commission of the solicited offense. Offenders face penalties set at one half of the sanctions for the underlying offense, but imprisonment for not more than 20 years, if the solicited crime of violence is punishable by death or imprisonment for life. A subsection 1512(a) violation opens up the prospect of prosecution for other crimes for which a violation of subsection 1512(a) may serve as an element. The federal money laundering and racketeering statutes are perhaps the most prominent examples of these. The racketeering statutes (RICO) outlaw acquiring or conducting the affairs of an interstate enterprise through a pattern of predicate offenses. Section 1512 offenses are RICO predicate offenses. RICO violations are punishable by imprisonment for not more that 20 years (or imprisonment for life if the predicate offense carries such a penalty), a fine of not more than $250,000 and the confiscation of related property. The money laundering provisions, among other things, prohibit financial transactions involving the proceeds of a predicate offense. RICO predicate offenses are by definition money laundering predicate offenses. Money laundering is punishable by imprisonment for not more than 20 years, a fine, and the confiscation of related property. The second group of offenses within Section 1512 outlaws obstruction of federal congressional, judicial, or administrative activities by intimidation, threat, corrupt persuasion or deception. In more general terms, subsection 1512(b) bans (1) knowingly, (2) using one of the prohibited forms of persuasion (intimidation, threat, misleading or corrupt persuasion), (3) with the intent to prevent a witness's testimony or physical evidence from being truthfully presented at congressional or other official federal proceedings or with the intent to prevent a witness from cooperating with authorities in a matter relating to a federal offense. It also bans any attempt to so intimidate, threaten, or corruptly persuade. The conspiracy, accomplice, RICO and money laundering attributes are equally applicable to subsection 1512(b) offenses. Subsection 1512(c) proscribes obstruction of official proceedings by destruction of evidence and is punishable by imprisonment for not more than 20 years. Subsection 1512(d) outlaws harassing federal witnesses and is a misdemeanor punishable by imprisonment for not more than one year. Both enjoy the conspiracy, accomplice, RICO and money laundering attributes that to apply to all Section 1512 offenses. Section 1513 prohibits witness or informant retaliation in the form of killing, attempting to kill, inflicting or threatening to inflict bodily injury, damaging or threatening to damage property, and conspiracies to do so. It also prohibits economic retaliation against a federal witnesses, but only witnesses in court proceedings and only on criminal cases. Its penalty structure is comparable to that of Section 1503. Section 1513 offenses are RICO predicate offenses and money laundering predicate offenses, and the provisions for conspirators and accomplices apply as well. Section 1505 outlaws obstructing congressional or federal administrative proceedings, a crime punishable by imprisonment not more than five years (not more than eight years if the offense involves domestic or international terrorism). The crime has three essential elements. First, there must be a proceeding pending before a department or agency of the United States. Second, the defendant must be aware of the pending proceeding. Third, the defendant must have intentionally endeavored corruptly to influence, obstruct or impede the pending proceeding. Section 1505 offenses are not RICO or money laundering predicate offenses. Conspiracy to obstruct administrative or congressional proceedings may be prosecuted under 18 U.S.C. 371, and the general aiding and abetting, accessory after the fact, and misprision statutes are likely to apply with equal force in the case of obstruction of an administrative or congressional proceeding. Section 371 contains both a general conspiracy prohibition and a specific obstruction conspiracy prohibition in the form of a conspiracy to defraud proscription. The elements of conspiracy to defraud the United States are: (1) an agreement of two more individuals; (2) to defraud the United States; and (3) an overt act by one of conspirators in furtherance of the scheme. The fraud covered by the statute reaches any conspiracy for the purpose of impairing, obstructing or defeating the lawful functions of any department of Government by deceit, craft or trickery, or at least by means that are dishonest. The scheme may be designed to deprive the United States of money or property, but it need not be so; a plot calculated to frustrate the functions of a governmental entity will suffice. Contempt of Congress is punishable by statute and under the inherent powers of Congress. Congress has not exercised its inherent contempt power for some time. The statutory contempt of Congress provision, 2 U.S.C. 192, outlaws the failure to obey a congressional subpoena or the refusal to answer questioning at a congressional hearing. The offense is punishable by imprisonment for not more than one year and a fine of up to $100,000. Several other federal statutes outlaw use of threats or violence to obstruct federal government activities. One, 18 U.S.C. 115, prohibits acts of violence against Members of Congress, judges, jurors, officials, former officials, and their families in order to impede the performance of their duties or to retaliate for the performance of those duties. It makes assault, kidnapping, murder, and attempts and conspiracies to commit such offenses in violation of the section subject to the penalties imposed for those crimes elsewhere in the Code. It makes threats to commit an assault punishable by imprisonment for not more than six years and threats to commit any of the other offenses under the section punishable by imprisonment for not more than 10 years. Another, 18 U.S.C. 1114, protects federal officers and employees as well as those assisting them, from murder, manslaughter, and attempted murder and manslaughter committed during or on account of the performance of their duties. The section's coverage extends to government witnesses. Other provisions protect federal officers and employees from kidnapping and assault committed during or account of the performance of their duties, but their coverage of those assisting them is less clear. Beyond these general prohibitions, federal law proscribes the murder, kidnapping, or assault of Members of Congress, Supreme Court Justices, or Cabinet Secretaries; and a number of statutes outlaw assaults on federal officers and employees responsible for the enforcement of particular federal statutes and programs. Section 201 outlaws offering or soliciting bribes or illegal gratuities in connection with judicial, congressional and administrative proceedings. Bribery is a quid pro quo offense. It condemns invitations and solicitations to corruption. The penalty structure for bribery is fairly distinctive: imprisonment for not more than 15 years; a fine of the greater of three times the amount of the bribe or $250,000; and disqualification from holding any federal position of honor or trust thereafter. The mail fraud and wire fraud statutes have been written and constructed with such sweep that they cover among other things, obstruction of government activities by corruption. They reach any scheme to obstruct the lawful functioning in the judicial, legislative or executive branch of government that involves (1) the deprivation of money, property or honest services, and (2) the use of the mail or wire communications as an integral part of scheme. Congress expanded the scope of the mail and wire fraud statutes with the passage of 18 U.S.C. 1346 which defines the "scheme to defraud" element in the fraud statutes to include a scheme "to deprive another of the intangible right of honest services." The Supreme Court in Skilling concluded that Congress intended the honest services provision to apply only to bribery or kickback schemes involving use of mails or wire communications. Prosecutors may favor a mail or wire fraud charge over or in addition to a bribery charge if for no the reason other than that under both fraud sections offenders face imprisonment for not more than 20 years rather than the 15-year maximum found in Section 201. Extortion under color of official right occurs when a public official receives a payment to which he is not entitled, knowing it is being provided in exchange for the performance of an official act. Liability may be incurred by public officers and employees, those in the process of becoming public officers or employees, those who hold themselves out to be public officers or employees, their coconspirators, or those who aid and abet public officers or employees in extortion under color or official right. The payment need not have been solicited, nor need the official act for which it is exchanged have been committed. The prosecution must establish that the extortion obstructed, delayed, or affected interstate or foreign commerce, but the impact need not have actually occurred nor been even potentially severe. Violations are punishable by imprisonment for not more than 20 years. Other than subsection 1512(c), there are three federal statutes which expressly outlaw the destruction of evidence in order to obstruct justice: 18 U.S.C. 1519 prohibits destruction of evidence in connection with federal investigation or bankruptcy proceedings, 18 U.S.C. 1520 prohibits destruction of corporate audit records, and 18 U.S.C. 2232(a) prohibits the destruction of property to prevent the government from searching or seizing it. In addition to the obstruction of justice provisions of 18 U.S.C. 1503 and 1512, there are four other general statutes that outlaw obstructing the government's business by deception. Three involve perjury: 18 U.S.C. 1623 that outlaws false swearing before federal courts and grand juries; 18 U.S.C. 1621 the older and more general prohibition that proscribes false swearing in federal official matters (judicial, legislative, or administrative); and 18 U.S.C. 1622 that condemns subornation, that is, inducing another to commit perjury. The fourth, 18 U.S.C. 1001, proscribes material false statements concerning any matter within the jurisdiction of a federal executive branch agency, and to a somewhat more limited extent with the jurisdiction of the federal courts or a congressional entity. Regardless of the offense for which an individual is convicted, his sentence may be enhanced as a consequence of any obstruction of justice for which he is responsible, if committed during the course of the investigation, prosecution, or sentencing for the offense of his conviction. The enhancement may result in an increase in his term of imprisonment by as much as four years. The enhancement is the product of the influence of §3C1.1 of the United States Sentencing Guidelines. Section 3C1.1 instructs sentencing courts to assess an obstruction of justice enhancement: If (A) the defendant willfully obstructed or impeded, or attempted to obstruct or impede, the administration of justice with respect to the investigation, prosecution, or sentencing of the instant offense of conviction, and (B) the obstructive conduct related to (i) the defendant's offense of conviction and any relevant conduct; or (ii) a closely related offense, increase the offense level by 2 levels. U.S.S.G. §3C1.1. Early on, the Supreme Court made it clear that an individual's sentence might be enhanced under U.S.S.G §3C1.1, if he committed perjury during the course of his trial. Moreover, the examples provided elsewhere in the section's commentary and the cases applying the section confirm that it reaches perjurious statements in a number of judicial contexts and to false statements in a number of others. The courts have concluded that an enhancement under the section is appropriate, for instance, when a defendant has (1) given preposterous, perjurious testimony during his own trial; (2) given perjurious testimony at his suppression hearing; (3) given perjurious, exculpatory testimony at the separate trial of his girl friend; (4) made false statements in connection with a probation officer's bail report; (5) made false statements to the court in an attempt to change his guilty plea; (6) made false statements to federal investigators; and (7) made false statements to state investigators relating to conduct for which the defendant was ultimately conviction. When perjury provides the basis for an enhancement under the section, the court must find that the defendant willfully testified falsely with respect to a material matter. When based upon a false statement not under oath, the statement must still be material, that is, it must "tend to influence or affect the issue under determination." The commentary accompanying the section also states that the enhancement may be warranted when the defendant threatens a victim, witness, or juror; submits false documentations; destroys evidence; flees (in some cases); or engages in any other conduct that constitute an obstruction of justice under criminal law provisions of title 18 of the United States Code.

Obstruction of justice is the frustration of governmental purposes by violence, corruption, destruction of evidence, or deceit. It is a federal crime. In fact, it is several crimes. Obstruction prosecutions regularly involve charges under several statutory provisions. Federal obstruction of justice laws are legion; too many for even passing reference to all of them in a single report. The general obstruction of justice provisions are six: 18 U.S.C. 1512 (tampering with federal witnesses), 1513 (retaliating against federal witnesses), 1503 (obstruction of pending federal court proceedings), 1505 (obstruction of pending congressional or federal administrative proceedings), 371 (conspiracy), and contempt. Other than Section 1503, each prohibits obstruction of certain congressional activities. In addition to these, there are a host of other statutes that penalize obstruction by violence, corruption, destruction of evidence, or deceit. Moreover, regardless of the offense for which an individual is convicted, his sentence may be enhanced as a consequence of any obstruction of justice for which he is responsible, if committed during the course of the investigation, prosecution, or sentencing for the offense of his conviction. The enhancement may result in an increase in his term of imprisonment by as much as four years. This is an abridged version of CRS Report RL34304, Obstruction of Congress: a Brief Overview of Federal Law Relating to Interference with Congressional Activities, by [author name scrubbed], without the footnotes, quotations, or citations to authority found in the longer report.

Medicaid is a federal-state entitlement program that pays for health care and related services on behalf of certain low-income individuals. All states participate in Medicaid, but participation is not required. If states participate, then under federal Medicaid law they are required to provide health service benefits to certain individuals—mandatory eligibility groups—but states have the option of covering other groups too. Similarly, states must cover certain services for mandatory eligibility groups, but they have the option to cover fewer services for other eligibility groups. In general, Medicaid health benefits are broad for mandatory eligibility groups, but more restricted for other eligibility groups. Prescription drugs are an optional Medicaid benefit, but all states cover outpatient drugs. States may create formularies, lists of preferred drugs, but federal rules tend to result in comprehensive coverage, even for beneficiaries enrolled in Medicaid managed care plans. Since 1990, pharmaceutical manufacturers who voluntarily agree to participate in Medicaid are required to rebate a portion of drug payments back to states. When a manufacturer participates in Medicaid, states must make most of their drugs available to Medicaid beneficiaries. States share the rebates they receive from drug manufacturers with the federal government. The drug rebates required under federal law help the state and federal Medicaid program receive manufacturers' lowest or best price . Beginning in 2010, drug manufacturers also were required to pay rebates on drugs provided to Medicaid beneficiaries enrolled in managed care. For the purpose of determining rebates, Medicaid distinguishes between two drug types: (1) single source drugs (generally, those still under patent) and innovator multiple source drugs (drugs originally marketed under a patent or original new drug application but for which there now are generic equivalents); and (2) all other, non-innovator, multiple source drugs. Rebates for the first category of drugs—drugs still under patent or those once covered by patents—have two components: a basic rebate and an additional rebate. Medicaid's basic rebate for single source and innovator multiple source drugs is the larger of either the difference between a drug's quarterly average manufacturer price (AMP) and the best price for the same period, or a flat percentage (23.1%) of the drug's quarterly AMP. Drug manufacturers owe an additional rebate when their unit prices for individual products increased faster than inflation. For all other drugs, the rebate is a flat percentage (13%) of a drug's quarterly AMP. States separately negotiate additional, supplemental, rebates with drug manufacturers in exchange for listing manufacturer products on the state's preferred drug list. State Medicaid agencies reimburse retail pharmacies for covered outpatient prescription drugs dispensed to Medicaid beneficiaries. Medicaid FFS payments to pharmacies for outpatient prescription drugs have two components: a payment to cover the cost of the pharmacy buying the drug (the ingredient cost) and a payment for the pharmacist's professional services in filling and dispensing the prescription (the dispensing fee). States, subject to the Centers for Medicare & Medicaid Services (CMS) approval, set reimbursement amounts for both ingredient costs and dispensing fees. Dispensing fees usually are a fixed amount, intended to cover the procuring and storing drugs, consultation, and dispensing drugs. The ingredient cost component of the pharmacy payment is an approximation of a drug's market price which is intended to reimburse the pharmacy for the cost of acquiring the drug. To encourage substitution of lower-cost generic equivalent drugs for more expensive sole source drugs, federal law requires CMS to set a maximum on what it will pay for certain multiple source drug ingredients. The maximum multiple drug ingredient payments are called federal upper limits (FULs). Based on state FY2013 Medicaid financial reports, Medicaid FFS outpatient prescription drug expenditures, net of federal and state rebates, were $16.2 billion, down from $30.7 billion in FY2005 ( Figure 1 ). However, decreases in Medicaid FFS drug expenditures do not represent an overall decrease in Medicaid prescription drug expenditures, because there have been prescription drug industry trends as well as a number of statutory changes that have shifted Medicaid drug expenditures to other spending accounts. For instance, beginning January 1, 2006, prescription drug coverage of disabled and elderly Medicaid beneficiaries—those covered by both Medicare and Medicaid (dual eligibles)—was moved from Medicaid to Medicare Part D. Dual eligibles accounted for a considerable portion of Medicaid drug expenditures, and as a result, when they were moved to Medicare Part D, Medicaid drug expenditures decreased. A maintenance of effort (MOE) provision in federal Medicare law required states to continue to pay the vast majority of dual eligible drug costs. Another factor that contributed to the decline in FFS drug expenditures is the recent escalation in the movement of Medicaid beneficiary drug coverage from FFS to managed care contracts that include drug coverage. One indicator of the movement to managed care coverage of drugs was the growth in managed care rebates, which were required beginning in FY2010. In FY2011, states collected $932 million (national and state supplemental rebates) in managed care rebates, which increased to $4.7 billion in FY2013 ( Table 5 ). Another indicator of the migration to managed care is the change in the number of FFS drug claims, which declined by almost 25% between FY2011-FY2012 ( Table C-1 ). Decreased drug claims for five states accounted for over 90% of the decrease. The statutory changes helped to increase overall rebate collections, which had the effect of reducing net drug expenditures. States reported collecting a total of $11.7 billion in federally required FFS rebates and an additional $726 million in state FFS supplemental drug rebates, and $4.7 billion in managed care rebates for a total of $17.2 billion in FY2013 ( Table 7 and Table 6 ). Other factors that contributed to the decline in FFS drug expenditures were drug industry trends and changes in Medicaid laws applicable to prescription drugs. The drug industry patent cliff, where a number of blockbuster drugs came off patent over a few years, reduced Medicaid FFS drug costs as these drugs became available as cheaper generic products. Selected other Medicaid FFS prescription drug data show that average FY2013 per-person Medicaid prescription drug expenditures were just over $926 ( Table 11 ), down from $1,509 in FY2005. In FY2012, Medicaid on average paid approximately $282 for single source prescription drug claims, $149 for innovator multiple source claims, and $18 for non-innovator multiple source drug claims ( Table 12 ). Medicaid's generic prescribing rate for all states varies; the national average in FY2012 was 76% ( Table D-1 ). The Patient Protection and Affordable Care Act (ACA, P.L. 111-148 ) made a number of modifications to federal Medicaid law. The CMS published a proposed rule that provided guidance on implementation of the ACA changes in February 2012. A final rule that would codify many of the new Medicaid drug requirements is pending as of the date of this report. In December 2013, Sovaldi ® a new brand name drug was approved by the Food and Drug Administration for treatment of hepatitis virus C (HVC) infections. Sovaldi was estimated to cost $1,000 per pill and total treatment cost estimates can range from $84,000 to more than $168,000. Through federal health programs, including Medicaid's prescription drug benefit, federal and state governments may pay the majority of HVC treatment costs. Sovaldi has raised an issue because of its high price and that many individuals with HCV infections are covered by Medicaid. For Medicaid, states and the federal government will receive rebates for Sovaldi that will help reduce the drug's cost, but until other equivalent drugs are available to increase competition, states may have limited leverage to negotiate additional manufacturer price concessions. Medicaid rebates, while buffering the cost of prescription drugs somewhat, might also contribute to drug manufacturers setting increasingly higher launch prices. Medicaid's drug pricing and policy have been effective in helping to control Medicaid FFS drug expenditures. Outpatient drug expenditures have decreased and Medicaid is able to buy drugs for lower prices than Medicare Part D plans, the other major federal outpatient prescription drug purchaser. Congress has been instrumental in establishing state and federal authority to ensure Medicaid receives manufacturers' lowest prescription drug prices. Congress authorized creation of Medicaid program infrastructure to manage, monitor, and enforce prescription drug pricing. However, if the pace in the movement of Medicaid enrollees to managed care that includes prescription drug benefits continues, then prescription drug oversight may be more difficult. The current Medicaid drug pricing and policy infrastructure was designed for FFS, and may not work as well with significant managed care enrollment. States have authority to collect rebates under managed care arrangements, although how state supplemental rebates will align with managed care plan drug discount negotiations is unclear. Under managed care contracts, states generally delegate some or all of drug utilization review and individual drug claim oversight to plans, including program integrity. When managed care and PBMs are responsible for these activities, states have responsibility for ensuring plans uphold their contract obligations. States' prescription drug monitoring is tailored to FFS drug claims, and it is unclear how much oversight of managed care claims states will be able to provide. If states and the federal government currently procure drugs for Medicaid beneficiaries at some of the lowest prices, will it be possible for managed care plans and PBMs to further reduce costs without imposing barriers to Medicaid beneficiaries in obtain covered drugs? Medicaid drug pricing and policy is complex, in part because prescription drug markets are dynamic. Drug manufacturers and wholesalers adapt to policy and statutory changes by creating new products and new marketing approaches that sometimes circumvent Medicaid pricing rules. Drug companies and health insurers operate in private markets in which they are seeking private advantages to earn revenue and profits. Medicaid pricing policies are, in part, based on competitive market transactions. Even though Medicaid buys drugs through the same markets as other payers, federal law requires drug companies, operating through wholesalers and distributors, to sell drugs to Medicaid at discounted prices. Medicaid's drug discounts vary depending on whether drugs are available from one manufacturer—single source—or are available from two or more manufacturers—multiple source. Single source drug discounts are greater than multiple source drug discounts. In 2010, the Congressional Budget Office (CBO) estimated that total single source Medicaid drug rebates averaged approximately 57% of manufacturers' average prices. This report discusses how Medicaid pays for drugs, including statutory requirements on manufacturers and states as well as a number of regulations and policies that help to administer the program. Medicaid beneficiaries are dispensed drugs at retail pharmacies, but states pay most of the cost of those drugs. States then receive discounts from drug manufacturers in the form of rebate payments, which states share with the federal government through a credit against states' future Medicaid payments. Since 2006, the amount states and the federal government have spent on drugs for beneficiaries enrolled in fee-for-service (FFS) Medicaid has decreased whereas the amount states have collected from rebates has increased. The focus of this report is on FFS prescription drug pricing and policy. FFS drug spending accounted for the vast majority of Medicaid drug purchases in 2010, with CBO estimating that prescription drug purchases on behalf of Medicaid beneficiaries enrolled in managed care contracts represented approximately 10% of Medicaid drug expenditures. However, Medicaid managed care contracts including prescription drug coverage have grown very rapidly since FY2010. Data for Medicaid managed care drug expenditures are not as readily available as those for FFS drug spending because those expenditures are not separately reported on Medicaid financial reporting forms. Nonetheless, when possible or appropriate, information on managed care prescription drug spending and utilization is included in the discussion in this report, but in general managed care drug expenditures and utilization are outside its scope. There is considerable Medicaid and related health expenditure data present throughout this report. These data are nominal and have not been inflation adjusted. This report will be revised as new data and information become available. A number of Medicaid drug pricing terms are commonly abbreviated. Table 1 displays many of the Medicaid drug-related acronyms and abbreviations that appear in this report. In addition, Table 2 displays a list of public laws referenced throughout the report, and Table E-1 in Appendix E is a glossary of selected Medicaid drug terms. Medicaid is a federal-state entitlement program that pays for medical services on behalf of certain low-income individuals. The Centers for Medicare & Medicaid Services (CMS) administers the Medicaid program under authority delegated by the Secretary of the Department of Health and Human Services (the Secretary). Estimated FY2013 federal expenditures for Medicaid benefits and administration were approximately $262 billion; state expenditures were estimated to be an additional $192 billion, for a total program cost of approximately $454 billion. State Medicaid programs are administered and designed by the states under broad federal guidelines. All states elect to participate in Medicaid, so they are required to provide benefits to certain low-income individuals and optionally may cover other individuals. Similarly, states must cover certain basic services, but may also cover additional services. States set their provider payment rates for medical and related services, subject to limitations and federal approval. There is considerable variation across states, with some programs being relatively limited and others more generous in terms of eligible populations, covered benefits, and service payments. Medicaid is a means-tested program. Enrollees' income and other resources must be within program financial standards. These standards vary among states and among different population groups within a state. With some exceptions, Medicaid is available only to very low income individuals—most Medicaid enrollees have incomes below the federal poverty level (FPL). Until recently, Medicaid was primarily available only to children, adult members of families with children, pregnant women, and aged, blind, or disabled individuals. People outside those categories—such as single adults and childless couples—generally did not qualify for Medicaid regardless of their income level. ACA permitted states to expand Medicaid coverage to single adults up to age 65 provided their income did not exceed 133% of FPL and required states to cover mandatory eligibility groups up to 133% of FPL. Historically, Medicaid eligibility groups were divided into two basic classes, the categorically needy and the medically needy. These classes differentiated between beneficiaries who were eligible for Medicaid because their income was low (categorically needy) and those who were eligible because they had high medical expenses (medically needy). Categorically needy Medicaid beneficiaries received cash-assistance payments (welfare), so their eligibility was considered welfare-related. Categorically needy beneficiaries represent the majority of Medicaid beneficiaries. Although their income may have exceeded states' Medicaid income eligibility threshold, medically needy beneficiaries were eligible for Medicaid because a high percentage of that income was used to pay medical expenses, which left only a small amount of income for other living expenses. In 2009, 33 states covered medically needy individuals and these individuals accounted for approximately 5% of national Medicaid enrollment, and 11% of Medicaid expenditures (about $37 billion). Over time, more categorically needy eligibility groups were added. As a result, distinctions between categorically and medically needy eligibility became less useful in identifying which groups qualified for mandatory or optional benefits. Nonetheless, the distinctions are useful when considering certain benefits. Most benefits are considered mandatory only for categorically needy individuals; that is, states must cover those benefits for the categorically needy but they are an option for medically needy individuals. Other benefits, including outpatient prescription drugs, are optional for both groups of beneficiaries. Some states provide those optional benefits only to categorically needy individuals whereas other states provide optional benefits to one or more medically needy groups as well. Coverage of outpatient prescription drugs is optional for state Medicaid programs. All states cover outpatient prescription drugs for mandatory (categorically needy) eligibility groups, but they may not cover drugs for optional groups (including medically needy) and drug coverage for expansion populations may be limited to either benchmark plan coverage or a particular set of drugs. , Most states cover outpatient drugs because these drugs are considered a lower-cost alternative to other medical care. Prescription drugs may help keep enrollees healthier and potentially prevent more serious and more costly medical interventions. In general, Medicaid FFS and managed care outpatient drug benefits are broad, encompassing most prescription drugs and many non-prescription, over-the-counter (OTC), drugs. Medicaid prescription drug coverage is broad because Medicaid law requires states to cover most drugs offered by manufacturers that have rebate agreements in effect. In addition, federal law permits states to use formularies to direct beneficiaries to equivalent lower-cost drugs, but there also must be a process by which health care providers may request covered drugs not on the formulary if the provider determines those drugs are medically necessary. When states contract with managed care plans and drug coverage is included, the plans may use their own formularies but also must have a process by which health care providers can prescribe non-formulary drugs that they determine are medically necessary. For Medicaid beneficiaries enrolled in FFS Medicaid, federal statute allows states to establish formularies. Formularies are lists of drugs that payers prefer to have prescribed to beneficiaries, generally because these drugs cost less and are considered by experts to be as safe and effective as other drug choices. When private health care insurers or providers cover only those drugs on the list and deny payment for others, the list is referred to as a closed formulary . Medicaid formularies are seldom as restrictive as the closed formularies found in the private insurance market because of two statutory requirements. The first requirement is that states must cover any non-formulary drug (with the exception of certain drugs) that is specifically requested and approved through a prior authorization process. The second requirement is that states cover all drugs offered by manufacturers that entered into rebate agreements with the Secretary. States may use formularies to exclude drugs for which there are no significant therapeutic advantages over other drugs that are included in the formularies, as long as there is a publicly available explanation for a drug's exclusion. Although federal law ensures Medicaid formularies are not too restrictive, it also allows states to exclude certain drugs, drug classes, or drug uses from Medicaid coverage. States may still cover excluded drugs and receive federal financial participation (FFP) for them. Medicaid-excluded drugs are not subject to the requirement that states must cover all of a manufacturer's products if the manufacturer entered into a Medicaid rebate agreement with the Secretary. Federal Medicaid law also requires states to cover three additional drugs, drug classes, or their medical uses. Many Medicaid managed care arrangements are limited risk-based contracts that rely on primary care case management (PCCM). Under PCCM and similar limited-risk contracts, Medicaid programs pay providers a small fixed fee to manage patients' care. Further, in PCCM and other non-risk bearing managed care arrangements, prescription drug benefits generally are delivered and reimbursed as FFS Medicaid benefits. For Medicaid beneficiaries enrolled in managed care plans, or plans to which states pay a fixed monthly capitation payment in exchange for the provision of all or some subset of covered services, Medicaid statute permits those managed care plans an exception from the FFS drug coverage rules described above. When state Medicaid programs cover drugs or other services, such as mental health or long-term care services and supports, through managed care contracts, the services covered are considered carved in to the managed care contracts. When states do not cover drug benefits or other services, those services are considered carved out of the managed care contracts. Medicaid law allows managed care plans to develop and administer drug formularies. In practice, however, when prescription drugs are covered under capitated managed care contracts, states sometimes require managed care plans to have the same coverage and formulary limits as FFS Medicaid coverage. Only some managed care contracts include prescription drug benefits, although increasingly more include drug coverage. Since 2010, as states have moved to carve-in prescription drug coverage, more states now permit managed care plans to use their own formularies. Even if states delegate formulary decisions to managed care plans, the plans must still provide access to all Medicaid covered drugs, just as required under FFS Medicaid. Medicaid managed care plans may reimburse the retail pharmacy, similar to FFS Medicaid, or they can provide outpatient drugs directly to beneficiaries. As shown in Table 3 , even though the Medicaid managed care enrollment percentage was over 70% in 2011 (for any managed care) these arrangements accounted for only about 25% of Medicaid benefit expenditures, which include drug expenditures. Similarly, 2011 Medicaid benefit expenditures for comprehensive risk-based managed care contracts accounted for about 50% of enrollment but constituted only slightly less than 24% of benefit expenditures, including drug expenditures. Table 3 also displays the Medicaid managed care enrollment increase between FY2008 and FY2011, with rising percentages going to both any managed care and comprehensive risk-based arrangements. Managed care was estimated to account for about 10% of Medicaid prescription drug expenditures in 2010, a figure that was estimated to have increased to approximately 50% in 2013. Many state Medicaid programs also cover OTC drugs, those medications that can be purchased without a prescription. In 2007, all states covered some OTC drugs, although no state covered all OTC drugs and most states limited coverage or imposed coverage restrictions on OTC drugs. All states covered at least some OTC drugs in the following categories: allergy, asthma, and sinus; analgesics; cough and cold; smoking cessation; digestive products; H2 antagonists; feminine products; and topical products. State Medicaid agencies do not purchase drugs directly from manufacturers. Instead, they most commonly reimburse retail pharmacies for covered drugs dispensed to Medicaid beneficiaries. This section discusses FFS Medicaid pharmacy reimbursement issues. Medicaid payments to pharmacies for outpatient prescription drugs have two components: a payment for what it cost pharmacists to purchase a drug ( ingredient cost ) and a payment for pharmacists' professional services in filling and dispensing prescriptions ( dispensing fee ). States, subject to CMS approval, set separate reimbursement amounts for both ingredient costs and dispensing fees. The pharmacy payment for acquiring the drug, the ingredient cost, is either an approximation of a drug's market price or the amount the pharmacy paid to buy the drug. The dispensing fee is usually a fixed amount, intended to cover drug procurement, storage, and other costs. States set their own pharmacy payments but are subject to some federal limitations. To encourage substitution of lower-cost drugs, federal Medicaid law requires the Secretary to establish a maximum payment amount for the federal share of certain multiple source drug ingredient costs—the federal upper limit (FUL). The FUL program limits the federal share of Medicaid reimbursement for certain multiple source drugs and seeks to ensure that the federal government acts as a prudent buyer by taking advantage of lower market prices for these drugs. Under Medicaid, there are two types of multiple source drugs, innovator multiple source and non-innovator multiple source drugs. Innovator multiple source drugs were initially brand-name drugs that have lost patent protection. Non-innovator multiple source drugs are (1) multiple source drugs that were not initially single source products, (2) multiple source drugs that were marketed as generic products, or (3) drugs that entered the market before 1962 that were never marketed as generic drugs. Brand-name drugs can be single source or innovator multiple source drugs. Generally, CMS must set an FUL amount for drugs when generic versions are available, although states must set upper limits for certain other drugs . Federal FUL policy requires the Secretary to establish a per drug maximum for its share of Medicaid outpatient drug payments. FULs are applied in aggregate to each state's spending for drugs subject to FUL limits rather than to individual prescription drug claims. Thus, a state may reimburse pharmacies at amounts above the FUL for certain drugs and not exceed the sum of FULs in aggregate if it also reimburses pharmacies at amounts below the FUL for other drugs. The FUL aggregate is determined by first multiplying the FUL by the number of units dispensed of each drug. Those amounts are summed for all drugs subject to FULs, and that total represents the maximum amount eligible for FFP. Drugs subject to FULs are those the FDA has rated as having three or more therapeutically and pharmaceutically equivalent products. CMS identifies drugs that are subject to FULs and then calculates the maximum payment amount for those products. The methodology for calculating FULs is to apply a percentage adjustment to the average manufacturer price (AMP) of the least costly therapeutic equivalent. Under an ACA provision, the FUL percentage was decreased from the Deficit Reduction Act of 2005 (DRA, P.L. 109-171 ) rate of 250% of AMP to at least 175% of AMP. Drug manufacturers are required under Medicaid law to report AMP. AMP is defined in statute as the average price paid to the manufacturer by wholesalers for drugs distributed to retail community pharmacies (RCPs). CMS has calculated and publically displayed draft FULs using the current law methodology since September 2011 but has not implemented the ACA FUL policy. Thus, current FULs were based on prices in effect in 2009. CMS announced in November 2013 that it would implement the ACA FUL policy July 1, 2014. However, CMS announced in June 2014 that it would delay implementation of the ACA FUL policy, but it did not indicate the length of the delay. Federal Medicaid law also sets upper limits for other drugs a category that includes drugs for which CMS has not established a specific FUL and brand-name drugs that were certified . Drugs that are certified include drugs for which a generic alternative is available, but the beneficiary's physician has specified that a brand name is medically necessary. The FUL for other drugs is determined by the following: Actual acquisition cost (AAC) plus a professional dispensing fee established by the state Medicaid agency; or the pharmacies' usual and customary charges to the general public. States may use any method to set the other drug payment as long as, in the aggregate, state payments for these other drugs are below the levels that would be determined by applying the other drug FUL. The estimated acquisition cost (EAC) is the Medicaid agency's best estimate of the price generally paid by pharmacies and other providers to acquire the drug. CMS allows states flexibility in determining EAC, although many states rely on average wholesale price (AWP) or wholesale acquisition cost (WAC), published prices available from industry compendia. Compendia are reference books or data published by private companies based on data provided by drug manufacturers. Neither AWP nor WAC are necessarily based on actual sales transactions or defined in statute. Thus, both are subject to manufacturers' decisions on what to include or exclude. The AWP is often considered a price for wholesalers to charge retailers. Most states also often develop their own maximum allowable costs (MACs) for drug pricing. States may select the drugs, including multiple source drugs covered by FULs and other drugs, as well as set the reimbursement amount for drugs subject to MACs. MAC programs enable states to achieve additional drug savings by setting lower reimbursement amounts for more multiple source drugs than for those drugs with FUL prices and using a MAC formula that sets prices lower than FUL amounts. In June 2014, CMS identified 45 states with MACs. States are not required to use FULs as the basis for reimbursing pharmacies for outpatient drugs dispensed to Medicaid beneficiaries. States must only ensure that federal matching funds are not used to pay drug prices that exceed FULs; there are no other federal rules on how states set drug reimbursement, although payment methodologies are approved by CMS through the state plan amendment (SPA) process. In determining what to pay pharmacies for ingredient costs, states estimate current market prices by using one or several benchmarks to approximate pharmacies' acquisition costs. Historically, AWP was the primary drug pricing benchmark used by state Medicaid to set ingredient reimbursement. There has been considerable disagreement about the appropriate basis for setting Medicaid multisource drug ingredient reimbursement since statutory changes were passed in DRA. In FY2009, state Medicaid pharmacy directors issued a white paper on AWP alternatives. One of the white paper's suggestions was that CMS develop a single national pricing benchmark based on average drug ingredient acquisition costs. The state pharmacy directors' AWP alternative white paper argued that a single national benchmark would provide better estimates of pharmacy acquisition costs if it were based on actual drug purchases. This approach to drug ingredient price determination, the Medicaid pharmacy directors argued, also would provide greater accuracy and transparency in how drug prices were established. In their AWP alternative white paper, the Medicaid agencies requested that CMS coordinate, develop, and support a national pricing benchmark that could replace AWP. The Department of Health and Human Services Office of Inspector General (OIG) found that AWPs were artificially inflated, which overstated drug EACs and resulted in Medicaid overpayments. To help states determine ingredient cost reimbursement, the Secretary is required to disclose to states and the general public via a website certain pricing data reported by manufacturers on a monthly basis. The Secretary also is required to disclose the weighted average AMP and an average retail survey price for each multiple source drug. DRA permitted the Secretary to conduct a retail price survey and disclose the survey results to states and the public. CMS initiated a National Average Drug Acquisition Cost (NADAC) survey to identify retail community pharmacy (RCP) drug acquisition costs, or the estimated prices RCPs paid to purchase all Medicaid-covered outpatient drugs. CMS began publishing draft drug acquisition cost data on its website in October 2012 and updates NADAC survey data weekly. CMS also initiated a survey of average retail consumer prices but suspended this retail survey due to funding considerations. State Medicaid directors issued an update on the status of state use of AAC, actual acquisition cost, in setting FFS ingredient reimbursement rates. The Medicaid directors indicated that seven states were using an ACC-based rate in 2014, although only one state was using CMS's NADAC survey data. The other states conducted their own AAC surveys. States that used an AAC-based methodology generally had increased dispensing fees to offset the potentially lower ingredient payments to pharmacies. Although many states continue to base their Medicaid drug reimbursement on published retail prices, such as AWPs less some percentage or WACs plus some percentage, more states are beginning to transition to AAC (as discussed in the Medicaid director update). Under Medicaid law, states have discretion to use different formulas or percentages to adjust published prices depending on the drug or drug category (i.e., generic versus brand, physician administered, and blood clotting factors). In addition to a drug ingredient acquisition cost payment, states also pay pharmacies a dispensing fee when they fill a FFS prescription. States determine their dispensing fees, which are limited only insofar as they must be "reasonable." Most dispensing fees generally range from around $1.00 to $3.00 per prescription, but some dispensing fees may reach $10.00 and even more depending on the state methodology and other factors. Dispensing fees may range higher in states that do not use a flat fee. Dispensing fees also often are higher for generics than for single source drugs, and fees can vary by such characteristics as urban or rural location, for profit or non-profit status, and for federally qualified health centers. Some states use tiered dispensing fees, where the rate decreases as a pharmacy's historical annual prescription volume increases. In general, states may set higher dispensing fees to help offset a pharmacy's higher costs for filling certain types of prescriptions or lower profit on reimbursement for ingredients and to encourage generic substitution, where possible. In 1990, Congress amended the Social Security Act (SSA) to add the Medicaid Drug Rebate (MDR) program to Medicaid law. Under the MDR program, drug manufacturers that want to sell their drugs to state Medicaid agencies must enter into rebate agreements with the Secretary on behalf of states. The MDR agreements require drug manufacturers to provide state Medicaid programs with rebates on drugs purchased for Medicaid beneficiaries to ensure that Medicaid receives the lowest or best price for which the manufacturer sold the drug during the previous quarter. In exchange for receiving the best price, Medicaid programs must cover all drugs marketed by those manufacturers with certain exceptions. For instance, drugs provided in hospitals and sometimes in physicians' or dentists' offices, or similar settings are exempt from rebates. Drug manufacturers must pay rebates on prescription drugs provided to Medicaid beneficiaries who receive their care through FFS as well as managed care plans. Drug manufacturers also must pay rebates on some nonprescription, OTC items, such as aspirin, when they are dispensed to a Medicaid beneficiary and covered under the state's Medicaid plan. In 2014, CMS reported there were approximately 610 drug manufacturers participating in the Medicaid drug rebate program. In FY2013, the Medicaid (state and federal) FFS rebates—basic, inflation, and supplemental—were approximately $12.4 billion (see Table 6 ). Medicaid rebates are shared between the states and the federal government according to state federal medical assistance percentage (FMAP). A state's FMAP determines the rate at which the federal government matches states' Medicaid expenditures. Drug manufacturers compute the drug rebate amount owed each quarter based on utilization information supplied by states. States collect manufacturers' rebates and then subtract (offset) the federal share from the federal matching funds they would receive for Medicaid medical benefits. For rebates purposes, federal law distinguishes between two major drug categories, single source drugs and multiple source drugs. Multiple source drugs include innovator multiple source drugs—drugs once covered by patents—and non-innovator multiple source drugs—generic drugs and all other drugs, including drugs developed before FDA approval was required and OTC drugs. In addition to the two major drug types, ACA added several additional single source and innovator multiple source drug types that are treated differently for rebates. These drug types include line extensions, clotting (blood) factors, and drugs approved by the FDA for pediatric indications. The basic and additional rebate formulas for these new ACA drug types as well as single source, innovator multiple source, and non-innovator multiple source are summarized in Table 4 . For single source and innovator multiple source drugs, manufacturers are required to pay state Medicaid programs a basic rebate and, when they raise a drug's price faster than inflation, an additional rebate. As shown in Table 4 , the basic rebate is determined by comparing each drug's per unit AMP to that drug's per unit best price. The basic rebate is the greater of a specified percentage of AMP or the difference between the AMP and the best price. ACA increased the specified percentage of AMP from 15.1% to 23.1%. Manufacturers owe the additional rebate when a single source or innovator multiple source drugs' per unit AMP is raised faster than the inflation rate. The per unit additional rebate is the amount a drug's quarterly reported AMP exceeds the inflation-adjusted base period AMP. If the per unit quarterly AMP does not exceed the inflation-adjusted base period AMP, then no additional rebate is owed. To determine the total rebate, a unit rebate amount for each drug—the sum of the basic and additional rebate—is multiplied by the number of units of the drug that were purchased during the quarter, as determined by the Medicaid agency. For line extension products, any version of the original product's base AMP can be used to determine the additional rebate. As displayed in Table 4 , single source and innovator multiple source pediatric and clotting factor drugs use 17.1% as the percentage to determine the basic rebate amount, but otherwise the rebate calculation, including potential additional rebates, follows the same methodology. Medicaid law limits manufacturers' total rebate obligation for single source and innovator multiple source drugs for each dosage form and strength to no more than the current period AMP. Basic rebates for non-innovator multiple source drugs are equal to 13% of the drug's AMP. Prices offered to other payers are not considered, nor is there an additional rebate for price increases that exceed the inflation rate. In addition to the basic and additional FFS rebates required under federal law, most states negotiate supplemental rebate agreements (SRAs) with prescription drug manufacturers. Although almost all Medicaid SRAs have been for FFS outpatient drugs, in March 2014, three states (Florida, New Hampshire, and Oregon) had submitted SPAs to establish supplemental rebate programs for Medicaid beneficiaries enrolled in managed care plans. States can negotiate SRAs on their own or by joining with other states to form purchasing pools. In March 2014, 45 states participated in Medicaid outpatient drug SRAs through single- or multiple-state purchasing pools. States that participate in multi-state purchasing pools are able to combine their purchasing power with that of other states to negotiate greater supplemental rebates and other price concessions from manufacturers. Some states also have established intra-state pools that negotiate drug prices for Medicaid drugs as well as for drugs dispensed through other state agencies such as employee health and local government programs. Generally, states must submit SPAs to CMS outlining their SRA arrangements. Prior to ACA, drug manufacturers were not required to pay rebates on drugs purchased for Medicaid beneficiaries by managed care plans. To collect rebates for managed care beneficiaries, states excluded or carved out drug benefits from capitation agreements, then provided drug benefits under FFS or contracted with other entities, such as PBM companies, to provide drug benefits. Beginning in January 2010, prescription drug manufacturers were required under ACA to pay the same rebates that were required under FFS on drugs provided to Medicaid beneficiaries enrolled in managed care plans. Since ACA became law, some states have carved in prescription drug benefits to their managed care contracts, so that drugs are covered under these contracts. Managed care rebates are paid to states and shared with the federal government following the same formulas as FFS rebates. As shown in Table 5 , Medicaid managed care rebates increased substantially since 2011. Table 6 displays FY2013 Medicaid FFS outpatient drug expenditures and total rebates for each state and all states. In FY2013, total Medicaid FFS outpatient prescription drug expenditures, before rebates, were about $19.8 billion (federal and state shares, Table 6 ). Also in FY2013, states reported collecting approximately $12.4 billion in FFS drug rebates from drug manufacturers which includes approximately $726 million in supplemental rebates not required under federal Medicaid law ( Table 6 ) and $11.7 billion in required rebates. Net FY2013 Medicaid drug expenditures (after all rebates) were approximately $7.4 billion ( Table 7 ). The Table 6 data may overstate Medicaid FFS rebates. ACA increased the basic rebate percentage and extended manufacturers' additional rebate obligations to line extensions. These ACA changes were retroactive to January 1, 2010. Implementation and accounting for the ACA rebate changes may have lagged behind so that states reported rebates attributable to FY2010-FY2012 utilization in the FY2013 CMS financial reports. In addition, beginning in 2010 with the added authority for states to collect rebates on drugs purchased for full-risk Medicaid managed care beneficiaries, there may have been delays in identifying transactions that were subject to the managed care rebate. Table 7 displays the total amount of SRA rebates collected by states for FY1997-FY2013. In FY2013, 42 states collected a total of $726 million in supplemental FFS rebates ($403 million federal share). In FY2013, California accounted for 23% of the reported supplemental rebates (federal and state shares). Some data seem to suggest that Medicaid FFS drug expenditures have decreased dramatically since FY2006, but net spending changes are attributable at least in part to policy changes that have shifted drug spending from Medicaid to Medicare, increased rebates, and shifted drug coverage from FFS to managed care plans. This section discusses recent Medicaid FFS drug expenditures and patterns. In FY1997, states reported total FFS outpatient prescription drug expenditures, net of all rebates—federal and state shares—of about $10.2 billion, or 6.3% of total program spending. In FY2005, total FFS outpatient prescription drug expenditures, net of all rebates—federal and state shares—were $30.7 billion, accounting for about 10.2% of Medicaid benefit expenditures. By FY2013, net Medicaid FFS outpatient drug expenditures had decreased to about $16.2 billion and accounted for less than 4% of benefit expenditures. Table 8 displays a summary of Medicaid benefit and outpatient prescription drug expenditures for FY1997-FY2013. The variation in prescription drug expenditures and year-to-year percentage changes shown in Table 8 were attributable to a number of factors. Some of these factors are trends affecting the prescription drug industry and health care markets in general, such as the expiration of prescription drug patents sometimes called the patent-cliff and increasing managed care enrollment. Other policy changes attributable to federal law may be more important than industry trends in explaining Medicaid prescription drug expenditure changes. The amendments to Medicaid drug law helped to reduce outpatient Medicaid prescription drug expenditures. Figure 1 displays the recent history of Medicaid FFS outpatient prescription drug expenditures. There are several changes shown in Figure 1 that coincide with implementation of major legislative changes. Prior to MMA, drug expenditures were steadily increasing, rising from approximately $10.2 billion in 1997 to about $30.7 billion in 2005, even though federal and state (but particularly state) rebates also were increasing. In 2006, there was a substantial decrease (of approximately $7.6 billion) in Medicaid drug expenditures to $23.1 billion when dual eligible drug expenditures were moved to Medicare Part D. In 2010, adjusted Medicaid drug expenditures dipped again to $19.7 billion. This change was in part attributable to the fiscal relief provided to states in the form of ARRA's temporary FMAP increase, which reduced state drug expenditures because it was applied to states' phased-down state contribution (PSC) payments. , PSC payments declined from $7.8 billion in FY2009 to $3.8 billion in FY2010. The PSC decrease shifted a portion of prescription drug costs from state and federal Medicaid matching funds to federal economic recovery funding, thus reducing federal and state Medicaid drug expenditures. Although this also increased federal funding, it shifted that funding from Medicaid to another source. Net FFS drug expenditures returned to approximately the FY2009 level in FY2011 after deducting all rebates but adding in the PSC amount that states would have paid for dual eligible drug expenditures to make comparison with earlier periods consistent. In FY2011, the increased rebate percentages and other ACA changes were just beginning to take effect. These changes boosted federal and state rebates, but drug expenditures increased considerably to $23.1 billion from $19.7 billion in FY2010. The FY2011 increase was probably attributable to reporting delays of the ACA's rebate increases. In FY2012 and FY2013, Medicaid outpatient drug expenditures (after rebates and other adjustments) were substantially reduced, falling from about $23.1 billion in FY2011 to about $18.4 billion in FY2012 and $16.2 billion in FY2013. The FY2012 and FY2013 decreases were somewhat due to modest ACA rebate increases and the rapid movement of Medicaid beneficiaries to managed care coverage that included prescription drugs. As previously discussed, these changes did not reduce prescription drug expenditures, but shifted drug expenditures to other reports. However, looking at state Medicaid drug utilization reports, as shown in Table 9 , estimated (unadjusted, before all rebates and PSC) total Medicaid expenditures for FFS and managed care were higher and consistent with historic drug spending patterns. Although Medicaid drug expenditures for both managed care and FFS appear to be close to their historic levels, expenditures did decline between FY2012 and FY2013 in similar ways for both managed care and FFS drug spending. The decrease could be attributable to different data sources as well as the previously mentioned reporting lags and the patent cliff. Additional data from Medicaid financial reports can provide insight into how Medicaid FFS drug expenditures only have changed over time (not managed care). It is possible to estimate a new FFS drug expenditure by aggregating drug expenditures and rebates and by adjusting for the Medicaid drug expenditures that were moved to Medicare Part D. The net FFS drug expenditure data can then be compared with earlier periods (before 2006) to help identify changes. As shown in Table 10 , the net FFS drug spending decrease between FY2012 and FY2013 was primarily due to decreased prescription drug expenditures, rather than increased rebate collections. FY2012 and FY2013 FFS drug expenditures fell by 20% and 12% respectively from the previous year. The FY2012 and FY2013 decreases in Medicaid FFS drug expenditures may have been caused by several factors, including the rapid growth of Medicaid managed care enrollment that included prescription drug coverage. In FY2012 and FY2013, total Medicaid FFS drug rebate collections also decreased. The decrease in FFS drug rebates was due to reduced FFS drug expenditures—fewer drugs purchased translates to lower rebate collections. This section reviews drug expenditure patterns among the major Medicaid eligibility groups in FY2005 and FY2010 (the latest year data were available). Traditionally, the majority of Medicaid expenditures have been concentrated among the elderly and disabled eligibility groups, which account for the fewest beneficiaries. In contrast, the children and family eligibility groups typically account for more individuals and lower expenditures. The drug expenditure data by basis of eligibility (BOE) show how drug utilization patterns have changed since FY2005 with more drug spending for children and adults and less for the aged and disabled eligibility groups. These changes were probably mostly due to the movement of drug coverage for beneficiaries who were dually eligible for both Medicare and Medicaid from Medicaid to Medicare Part D, the outpatient prescription drug benefit that began January 1, 2006. Table 11 displays FFS drug use and average payments by BOE. As shown in Table 11 , in FY2005, about 71% of Medicaid beneficiaries who were eligible because they were elderly had drug expenditures and Medicaid paid on average about $2,943 annually for their drugs. By FY2010, about 45% of Medicaid beneficiaries who were eligible because they were elderly had prescription drug expenditures, but Medicaid paid only about $451 annually for their drugs. This dramatic decrease in the number of elderly using drugs and the amount of expenditures for those drugs is mostly attributable to the MMA change that shifted outpatient drug coverage for dual eligibles, a group that typically has high drug utilization and costs, to Medicare Part D. However, even though drug costs for dual eligibles were shifted to Medicare Part D, states continued to pay the vast majority of these costs through the phased-down state contribution. Thus, the data shown in Table 11 include dual eligibles' outpatient prescription drug costs in FY2005 but do not include these expenditures in FY2010. Table 11 also shows that children had the lowest average spending and that blind or disabled enrollees had the highest. Among blind or disabled enrollees with prescription drug spending, the average amount was about $3,793 in FY2005 but had declined to about $2,692 in FY2010. For children with prescription drug spending, the average annual amount paid for drugs was about $323 in FY2005 and $379 in FY2010. Even though these data exclude expenditures for dual eligible and Medicaid beneficiaries enrolled in Medicaid managed care plans, they provide a glimpse of the FFS spending among different eligibility groups. Among all Medicaid beneficiaries who were dispensed drugs in FY2005, the average annual Medicaid prescription drug spending was about $1,509. By FY2010, average per beneficiary annual expenditures had declined to about $926. Again, this decrease probably was due to the following combination of factors: the movement of dual eligible drug coverage from Medicaid to Medicare Part D, other Medicaid drug pricing changes, the increased availability of a number of commonly prescribed drugs as generic rather than brand-name drugs, and other trends affecting prescription drugs. Table 12 displays a summary of the number of prescriptions filled for different drug types—single source, innovator, and non-innovator multiple source drugs—and the total amount states reported reimbursing providers for these drugs. The mix of drugs prescribed by state Medicaid programs affects FFS drug expenditures, with single source drugs representing a higher cost than both innovator and non-innovator multiple source drugs. As Table 12 shows, Medicaid agencies reported processing more than 323.5 million prescription claims in FY2012 and the national average Medicaid FFS payment was about $72. The national data shown in Table 12 are available for each state in Appendix A and Appendix B , which show that in FY2012 average state per prescription payment for all drug categories, before rebates, ranged from a high of about $131 in Colorado to a low of about $35 in Nevada. Table 12 shows that the FY2012 average payment for single source prescription claims was $282 and about $18 for each generic prescription. Similar to Table 12 , Table 13 displays the number of Medicaid FFS drug claims for FY2011 and FY2012, but also shows the percentage of claims of the total that were attributable to each drug category. From FY2011 to FY2012 the percentage of claims attributable to single source products declined from about 19% to about 16% and the percentage of non-innovator multiple source prescription claims increased from about 72% to 75%. During that period (FY2011-FY2012), the overall total volume of FFS claims declined by approximately 17% from about 389 million to 324 million claims. The decline in the overall volume of FFS prescriptions is probably due to states rapidly shifting beneficiaries into managed care plans that provide prescription drug coverage under their capitated rates, rather than through carved out FFS arrangements. The increase in the percentage of claims for generic versus brand products is probably due to the patent cliff. Also similar to Table 12 , Table 14 displays FY2011 and FY2012 Medicaid FFS drug expenditures by drug category drug expenditures, but also shows the percentage of total annual FFS drug expenditures attributable to the different drug categories. As shown in Table 14 , national total Medicaid FFS drug expenditures, before rebates, decreased by about 18% from $28.4 billion to about $23.2 billion from FY2011 to FY2012. However, expenditures for single source Medicaid FFS drugs declined, but expenditures for multiple source non-innovator drugs increased. Table 13 and Table 14 together show that single source drug expenditures represent the majority of Medicaid FFS drug expenditures, accounting for more than 60% of Medicaid FFS drug spending in both FY2011 and FY2012, even though single source drugs accounted for less than 20% of total drug claims in those years. These data are before rebates. If rebates were deducted, the differences between the percentage of expenditures for single source and multiple source drugs might be closer because single source drug rebates are considerably more than rebates for multiple source drugs. CBO estimated that Medicaid's 2010 basic and additional rebate on single source drugs averaged 57% of manufacturers' average prices. Medicaid law permits states to use other techniques in addition to FULs and formularies to help monitor and control overall drug expenditures and utilization. Some techniques to control drug spending involve encouraging the use of lower cost, but generically or therapeutically equivalent products, and other techniques involve establishing limits that encourage appropriate utilization. The discussion in this section is primarily applicable to the administration of Medicaid FFS drug benefits, but policies to help control drug spending are widely used by all insurers that provide prescription drug coverage, including the private sector and managed care plans under contract to state Medicaid programs. All states use all or most of these policies in some form, although there is considerable variation in the degree to which states use these policies. For instance, all states have prior authorization, but many states only require prior authorization for certain drugs. In addition, some states allow managed care plans to establish their own prior authorization procedures and policies. One common cost and utilization process is prior authorization and the use of preferred drug lists (PDLs). PDLs identify pharmaceutical products that have been approved in advance by a committee because they were determined to be clinically effective, but lower cost than other alternative products. Providers may readily prescribe these products to Medicaid beneficiaries. Other non-PDL drugs also are covered but may only be available when they are specifically requested and approved or authorized by the Medicaid agency. Non-PDL drugs must be prior authorized or approved. When providers want to prescribe non-PDL drugs to beneficiaries, the providers (either the physician or the pharmacist) must request permission from the state Medicaid program or the program's contractor to dispense the drug. States may establish prior authorization programs under Medicaid for all drugs or for certain classes of drugs, as long as these programs meet the following two criteria: 1. they must respond within 24 hours to a request for approval, and 2. they must dispense at least a 72-hour supply of a covered drug in emergency situations without prior authorization. States also may restrict the quantity of prescription drugs available to beneficiaries. Such prescribing and dispensing limits are common. The most prevalent constraint is on the drug quantity that may be dispensed for each prescription. A number of states routinely limit the amount of certain drugs dispensed to a 30-day to 34-day supply. In addition, states also sometimes limit the number of prescriptions a beneficiary can have without special approval, particularly for single source products. In 2010, 14 states limited the total number of prescriptions (single and multiple source) per beneficiary and four states capped the monthly number of prescriptions per beneficiary. The remaining 32 states, which accounted for about 40% of Medicaid's 2010 FFS drug expenditures, did not cap the number of monthly prescriptions. All states use policies to control the use of outpatient prescription drugs, and all have programs in place to assess the quality of their pharmaceutical programs. OBRA1990 required states to establish drug use review (DUR) programs by January 1993 and provided temporary enhanced federal matching payment for DUR program start-up costs. In general, DUR programs are aimed at both improving the quality of pharmaceutical care and assisting in cost containment. Selected major DUR program design features include the following: pharmacists and physicians education in identification of fraud, abuse, gross overuse, or inappropriate or medically unnecessary care; enhanced communication between pharmacists and beneficiaries; educational outreach for pharmacists, physicians, and beneficiaries; and pharmacy counseling. States are required to modify their Medicaid state plans to include both prospective and retrospective drug review. Prospective review is provided to beneficiaries before drugs are dispensed, whereas retrospective review is conducted after the sale on drug claims and other data using information technology. States also are required to establish DUR boards that include appropriate health care professionals with knowledge and expertise in outpatient prescription drug prescribing, dispensing, monitoring, DUR, education, intervention, and medical quality assurance. DUR boards must include physicians and pharmacists. States are required to submit an annual DUR report to the Secretary that includes information on DUR board activity as well as on state outpatient prescription drug utilization. CMS is required to evaluate the effectiveness of each state's DUR program. Most state DUR programs are operated by vendors, and these vendors also often overlap with state fiscal agents. Based on state DUR reports, the national average generic prescribing rate was about 74% in FY2011 and about 76% in FY2012. Table D-1 displays a summary of state generic prescribing rates for FY2011 and FY2012. In addition to prior authorization and utilization review, many state Medicaid programs impose beneficiary cost-sharing to help control drug use and spending. Federal Medicaid law permits states to require beneficiaries to pay out of pocket costs to encourage the most cost-effective prescription drug use. To encourage the use of lower-cost drugs, states may establish different generic versus brand-name copayments for drugs included on a PDL. For people with incomes above 150% of FPL, copayments for non-preferred drugs may be as high as 20% of what Medicaid paid for the drug's ingredients. For people with income at or below 150% of FPL, copayments are limited to nominal amounts. State Medicaid programs must specify which drugs are preferred or non-preferred. States also have the option to establish different copayments for mail-order drugs than for those sold in pharmacies. DRA amended the SSA to permit increased Medicaid prescription drug cost-sharing for Medicaid beneficiaries. Prior to DRA, most FFS cost-sharing was limited to "nominal" copayments. DRA established two additional cost-sharing options for states. The first option allows states to establish cost-sharing that exceeds nominal amounts and to vary the cost-sharing among beneficiary classes and groups or by service types. The second option, which applies specifically to outpatient prescription drugs, allows states to require beneficiaries to pay higher copayments for state-identified non-preferred drugs and no, or reduced, copayments for preferred drugs. Table 15 displays the maximum copayments states may charge for preferred and non-preferred drugs. The two cost-sharing options come with additional limitations. Besides the specifically exempted groups, cost-sharing cannot exceed 10% of the cost of the item or service for individuals with income between 100% of FPL and 150% of FPL and 20% of the cost of the item or service for individuals with an income over 150% of FPL. Annual aggregate cost-sharing for all Medicaid benefits cannot exceed 5% of family income. Medicaid beneficiaries can be denied services for non-payment of alternative cost-sharing. Some states manage drug costs through the use of PBMs. Many private insurers, including those that provide coverage to federal employees under the Federal Employees Health Benefits Program (FEHBP), contract with PBMs for drug benefits management and claims payment. PBMs enable insurers to obtain discounts for pharmaceuticals that would not otherwise be available to single insurers because the PBMs administer multiple insurers' covered populations. In addition, PBMs sometimes provide administrative services intended to improve quality and control costs, such as retail pharmacy network development, mail-order pharmacy operation, formulary development, manufacturer rebate negotiation, and prescription checks for adverse drug interactions. PBMs administer a substantial portion of private health insurance prescription drug benefits and are employed by some states to administer Medicaid drug benefits, often through managed care arrangements. The Medicaid rebate program was authorized by Omnibus Budget Reconciliation Act of 1990 (OBRA90, P.L. 101-508 ), then amended in 1992 by the Veterans Health Care Act of 1992 ( P.L. 102-585 ). After 1992, there were few federal statutory changes to Medicaid prescription drug pricing until 2003, when the Medicare Prescription Drug Improvement and Modernization Act of 2003 (MMA, P.L. 108-173 ) was passed. MMA was the first of five laws that reshaped Medicaid drug pricing policy. These changes had a number of goals, such as increasing the amount of rebates collected by states and the federal government and strengthening the ability of states and federal policy makers to monitor and enforce compliance. A number of recent changes were made to improve or revise earlier amendments that did not achieve the desired results. Prescription drug policies are complicated in part because it is hard to isolate the effects of changes in a dynamic market with many private purchasers and sellers. For Medicaid, prescription drug rebates and pricing changes are further complicated because each state has some discretion in how changes are implemented and enforced. This section provides a discussion of major legislative changes to Medicaid prescription drug pricing and rebates. Table 16 displays a summary of major laws with Medicaid drug pricing provisions. Omnibus Budget Reconciliation Act of 1990 (OBRA90, P.L. 101-508 ) established the Medicaid drug rebate program, which assured Medicaid programs would receive the best price. OBRA90 required drug manufacturers that wanted to sell their drugs to Medicaid enrollees to enter into rebate agreements with the Secretary on behalf of the states. Under the agreements, pharmaceutical manufacturers must provide Medicaid programs with rebates on drugs purchased for Medicaid beneficiaries. Under the terms of the rebate agreements, manufacturers had to give state Medicaid agencies either their best price or a rebate. After OBRA90 was passed, federal law enabled Medicaid agencies and the federal government to purchase prescription drugs at the lowest market price (best price). An unintended consequence was that certain public health programs, the Department of Veteran's Health Affairs (VHA), the Department of Defense (DOD), and the Public Health Service (PHS) faced sharply higher drug prices. Because Medicaid best price requirements, if pharmaceutical companies gave the DOD, VHA, and PHS providers lower prices, then drug companies would be obligated to sell those products to Medicaid at that same lowest price. Although the percentages of drug manufacturer sales to DOD, PHS programs, and VHA were small, Medicaid accounted for about 12% overall drug sales. Thus, after 1990, when the Medicaid best price provision was implemented, drug manufacturers substantially increased prices to DOD, VHA, and PHS providers. Congress corrected the oversight by passing the Veterans Health Care Act of 1992 (VHCA, P.L. 102-585 ). VHCA amended the SSA to exclude certain sales at nominal prices from the Medicaid best price determination and the Medicaid rebate calculation. Medicare Prescription Drug Improvement and Modernization Act of 2003 (MMA, P.L. 108-173 ) implemented many prescription drug and other Medicare program changes, but the most far-reaching was the addition of the voluntary outpatient prescription drug benefit for Medicare beneficiaries, Part D. MMA also had an important Medicaid provision that moved outpatient drug coverage for full benefit dual eligibles from Medicaid to Medicare Part D. Although Medicare Part D assumed coverage and payment for dual eligible beneficiaries, MMA contained a maintenance-of-effort provision that required states to continue to pay the majority of dual eligibles' prescription drug costs. In addition, MMA revised the AMP definition to exclude sales to Medicare Part D drug sponsors (Part D plans) in determining AMP. DRA made a number of changes to Medicaid drug policies. One of these changes was modifying the formula for setting multiple source drug FULs. DRA Section 6001 required the Secretary to use a new formula for multiple source drug FULs beginning January 1, 2007. The new FUL formula was to equal 250% of the AMP of the least costly therapeutic equivalent. AMP was defined under DRA to be the average price paid to the manufacturer by wholesalers for drugs distributed to the retail pharmacy class of trade. Before the new DRA FUL formula could be implemented, two national pharmacy associations filed a complaint challenging the DRA's FUL proposed rule on the ground that the new FULs would generally be below community pharmacies' drug acquisition costs. The court issued a preliminary injunction in December 2007 that prohibited CMS from setting FULs for Medicaid covered generic drugs based on AMP, and from disclosing AMP data except within HHS or to the Department of Justice. The court's 2007 injunction was for an indefinite period and was in place when ACA became law on March 23, 2010, but has since been lifted. CMS lacked authority to use the pre-DRA formula, which expired September 30, 2009, for setting FULs, and CMS also was unable to use the DRA authority because it was prohibited by the Medicare Improvements for Patients and Providers Act of 2010 (MIPPA, P.L. 110-275 ). Just before the MIPPA-authority for using pre-DRA FULs expired on September 30, 2009, CMS issued FULs. The FULs in place now were set in September 2009. In addition, DRA made the following changes: reduced the required number of multiple source products rated by the FDA as therapeutic and pharmaceutically equivalent from three to two; required manufacturers to report AMP to HHS; permitted the Secretary to contract for a retail drug price survey that would allow estimation of a nationwide average consumer drug price, net of all discounts and rebates; disclosed AMP to states and the public; revised the AMP definition; and required states to collect and submit data on physician administered drugs. MIPPA Section 203 required the Secretary to use the pre-DRA FUL formula for setting federal multiple source drug reimbursement through September 30, 2009. The pre-DRA FUL formula was in effect prior to December 31, 2006. Under this formula, FULs were set at 150% of published prices for the least costly therapeutic equivalent. In addition, the Secretary was prohibited from making AMP prices publicly available prior to September 30, 2009. American Recovery and Reinvestment Act of 2009 (ARRA, P.L. 111-5 ) Section 5001 temporarily protected states from FMAP decreases and increased federal matching rates for the recession period. ARRA defined the recession period for the FMAP increase as the period that began with the first quarter of FY2009 (October 1, 2008) and ended with the first quarter of FY2011 (December 31, 2010). During the recession period, states were held harmless from FMAP declines and all states received an across-the-board 6.2 percentage point increase. In addition, certain qualifying states received an additional unemployment-related increase. The Secretary determined that state MOE requirements under MMA for dual eligible drug expenditures were subject to the temporary FMAP increase. The ARRA temporary FMAP increase was extended for an additional two quarters (until June 30, 2011) by the Education, Jobs and Medicaid Assistance Act (EJMAA, P.L. 111-226 ). Beginning January 1, 2010, with certain exceptions, ACA Section 2501 increased the flat rebate percentage used to calculate Medicaid's basic rebate for single source and innovator multiple source outpatient prescription drugs from 15.1% to 23.1% of AMP. The basic rebate percentage for multiple-source, non-innovator, and all other drugs was increased from 11% to 13% of AMP. ACA also required the Secretary to recover the additional funds states received from drug manufacturers from increases in the basic Medicaid rebates. The Secretary is authorized to reduce Medicaid payments to states for the additional prescription drug rebates that resulted from increases in the minimum rebate percentages—the difference between 15.1% of AMP and 23.1% of AMP for single source products and the difference between 11% and 13% for generic products. ACA requires the Secretary to estimate the additional rebate amounts to recover from states based on utilization and other data. In addition, when it is determined that the recovered amount from a state for a previous quarter under-estimated the actual rebate amount (state share) the Secretary is required to make further adjustments to recover the additional rebates from states. These state payment reductions are considered overpayments to the state and offset against states' regular Medicaid draw, similar to other overpayments. They are not subject to reconsideration. Moreover, ACA required drug manufacturers to pay rebates to states on drugs dispensed to Medicaid beneficiaries who received care through Medicaid managed care plans, similar to the way rebates are required under previous law for FFS beneficiaries. Medicaid capitation rates paid by states to managed care plans were to be adjusted to include these rebates. Medicaid managed care plans are subject to additional reporting requirements such as submitting data to states on the total number of units of each dose, strength, and package size by National Drug Code (NDC) for each covered outpatient drug. Medicaid managed care plans can use formularies as long as there are exception processes so that excluded drugs are available through a prior authorization process. With certain exceptions, ACA required that additional rebates for new formulations of single source or innovator multiple source drugs, which are referred to as line extensions . Essentially, the additional (inflation) rebates for line extensions products were to be calculated as if the product was the original product. In this way the additional (inflation) rebates is the greater of the basic rebate for new products or the AMP of the new drug multiplied by highest additional (inflation) rebate for any strength of the original product (calculated for each dose and strength of the product). However, ACA limited the total rebate liability for each dosage form and strength of an individual single source or innovator multiple source drug to no more than 100% of that drug's AMP. Other features of the drug rebate program, such as Medicaid's best price requirement, were unchanged by ACA. ACA was amended before it was enacted to clarify that the calculation of the additional rebate for new formulations of existing drugs (line extensions) applied to single source or innovator multiple source drugs only in oral solid dosage forms. ACA Section 2502 required that smoking cessation drugs, barbiturates, and benzodiazepines be removed from Medicaid's excluded drug list. When this provision took effect beginning January 1, 2014, states that covered prescription drugs were required to cover barbiturates, benzodiazepines, and smoking cessation products for most Medicaid beneficiaries. ACA Section 2503 amended Medicaid law to require the Secretary to establish multiple source drug FULs at 175% or more of the weighted average (determined on the basis of utilization) of the most recently reported monthly AMPs. ACA restored the pre-DRA definition of multiple source drugs as at least three therapeutic and pharmaceutically equivalent products. ACA also included technical changes to the FUL formula, such as a smoothing process to reduce short-term volatility, and clarified that AMP excludes the following: customary prompt pay discounts to wholesalers; bona fide service fees paid by manufacturers to wholesalers and RCPs, such as distribution service fees, inventory management fees, product stocking allowances, and administrative services agreements and patient care programs (medication compliance and patient education programs); reimbursement by manufacturers for recalled, damaged, expired, or unsaleable returned goods; and payments received from, and rebates or discounts to, large purchasers such as PBMs, managed care plans, health maintenance organizations, insurers, hospitals, clinics, mail-order pharmacies, long-term care providers, manufacturers, or any other entity that does not conduct business as a wholesaler or a RCP. ACA Section 2503 modified the AMP definition further by replacing the retail class of trade terminology with RCPs. This change excluded from drug manufacturers' AMP calculation sales to many non-traditional retail outlets, such as mail order, nursing homes, LTC pharmacies, and PBMs. Excluding drug sales through these outlets from the AMP calculation had the effect of raising AMP, thus increasing Medicaid rebates. Moreover, ACA revised the definition of a multiple source drug from one marketed in a state during the rebate period to a product marketed or sold during the rebate period in the United States. ACA expanded drug pricing disclosure requirements to include monthly weighted average AMPs and retail survey prices. Manufacturers are required to report within 30 days of the end of each month of a rebate period the total number of units sold and used by the manufacturer to calculate the AMP for each covered outpatient drug. EJMAA Section 202 amended ACA to include in AMP sales of 5i drugs that generally are not dispensed through retail community pharmacies. This amendment was a technical change to ACA that was made to ensure that AMPs could be calculated and Medicaid rebates could be collected from manufacturers for the 5i drugs even though these products are not typically sold by RCPs. This section discusses the following two Medicaid prescription drug issues: (1) new drug prices and (2) the pending final rule implementing ACA changes. The rising cost of new drugs has been an issue in the past and recently has re-emerged with many groups discussing why drug prices are so high and what can be done to control new drug prices. After a period of relatively few new drugs coming to market, drug manufacturers' pipelines are filling and there could be a surge in new drugs coming to market. Many of the new drugs will be biologic products and some or many of these products will be costly. As a result, concern about rising drugs prices might only be beginning. This section briefly discusses the process for setting new drug prices and then discusses Sovaldi, a new drug launched in 2014, and how Medicaid drug pricing will affect Sovaldi and possibly other new drugs. When drug manufacturers launch new single source drug products, they determine a product's price and generally are not subject to statutory or regulatory limits in setting drug prices. In 2013, FDA approved 27 new molecular entities; in 2012, it approved 39. A number of these newly introduced drugs are expensive, and potentially many more are anticipated. And higher initial prices do not preclude manufacturers from raising prices further after the drugs are launched. Many organizations, patient groups, Members of Congress, insurers, and individuals are concerned about prescription drug costs. Even going back to the 1990s, when costly antiviral drugs were introduced to treat human immunodeficiency virus/acquired immunodeficiency syndrome (HIV/AIDS), there was considerable concern in Medicaid programs about states' ability to pay for these new drugs. In 2009, GAO published a report that found that drug manufacturers substantially increased prices for certain brand-name drugs from 2000 to 2008. GAO attributed the extraordinary price increases to a number of factors, including lack of good therapeutic alternatives, industry consolidation, and unusual events such as key ingredient supply and manufacturing disruptions. Recently, the topic of excessive new drug costs reemerged accompanying the launch of a new, more effective drug for treating hepatitis C virus (HCV), a liver infection. Pharmaceutical manufacturer Gilead Sciences, Inc. (Gilead) received FDA approval to market Sofobuvir under the brand-name Sovaldi in December 2013 for the treatment of chronic HCV infection. Sovaldi's reported list price is approximately $84,000 for a standard 12-week treatment. Patients can require up to 24 weeks of treatment, and it is usually taken in combination with other drugs, pushing the price above $160,000. In October 2014, the FDA approved a second Gilead drug for treating HCV infections, Ledipasvir/Sofosbuvir, marketed under the brand-name Harvoni ® . Gilead set Harvoni's price at approximately $1,125 per pill, which would result in a cost of about $95,000 for a 12-week treatment course. Gilead's new HCV drugs, Sovaldi and Harvoni, are unquestionably expensive, but other. However, the Sovaldi product launch may differ from the launch of other drugs for the following reasons: shortage of good therapeutic alternatives, increased awareness of HCV prevalence, improved screening, and, in anticipation of Sovaldi's launch, a backlog of HCV positive individuals who needed treatment. Because many other new drugs, such as cancer drugs, replace an existing product, new cases are diagnosed gradually and a backlog of cases is unusual. With Sovaldi, many cases were already diagnosed, so there may have been considerable pent-up treatment demand. This surge for HCV treatment put added financial pressure on all payers but proved particularly heavy for Medicaid and Medicare, which cover many HCV positive individuals and differ from the more gradual financial effect of other expensive drugs that recently have come to market. In addition, the timing of Sovaldi's FDA approval and introduction might have contributed to the financial hardship Sovaldi is creating for Medicaid. Sovaldi was approved by the FDA in early December 2013. Because Sovaldi was approved as a breakthrough drug it received fast-track review, which shortened the review time and left less time for payers to become aware of the drug and make contract adjustments or otherwise plan for increased costs. Although December is within the federal fiscal year's first quarter, it is very late in the planning cycle for most health insurance contracts, which follow a calendar year. Medicaid managed care plans, Medicare Part D drug plans, and Medicare Part C plans may have been caught off guard by Sovaldi's early December launch. Moreover, state budgets that would provide state Medicaid matching funds for drugs purchased for Medicaid FFS beneficiaries were well past the budget planning cycle for the current state fiscal year. Medicaid programs cover Sovaldi, and as an entitlement the program would need to find fiscal resources whether or not the state had considered the cost when preparing the state's Medicaid budget estimate. Public health care programs, particularly Medicaid, might be more vulnerable to high prices for new drugs than private payers because cost-sharing generally is nominal and coverage is broad, but all payers experience additional costs. Members of Congress have raised concerns about the effect of these new drug treatments on federal and state budgets and the process drug makers use in setting new drug prices. Medicaid and other private organizations have raised similar concerns about Sovaldi's cost to both federal and state governments. In addition to concerns about Sovaldi, private insurers and professional associations have noted the financial impact of high drug prices in general. Gilead participates in the Medicaid rebate program, so Sovaldi is a covered drug. Similar to established single source drugs, Medicaid agencies that purchase Sovaldi for covered FFS beneficiaries will receive the basic Medicaid rebate for their drug purchases, which is the greater of the drug's best price minus AMP or 23.1% of the product's AMP. The rebate is split between the federal government and states based on the FMAP rate for part of the rebate, and the remainder goes the federal government. As a new product, Gilead will report Sovaldi's base-period AMP on the basis of sales from the first full calendar quarter after the launch date. Also, Gilead will not owe additional Medicaid (inflation) rebates because Sovaldi is new and will not have had price increases greater than inflation until at least after the base-period AMP is established. If, or when, Sovaldi's price increases faster than its base-period AMP adjusted for inflation, then Gilead will owe an additional rebate. The additional rebate also is shared by federal and state governments. When Sovaldi is provided to Medicaid beneficiaries by managed care plans, Gilead would be obligated to pay the basic rebate for those purchases, and the additional Medicaid rebate would be applicable if or when Gilead raised prices faster the inflation adjusted base-period AMP. In the short term, Medicaid rebates will help to offset some of the initial cost of treating HCV-positive Medicaid beneficiaries, but Medicaid programs anticipate substantial budget effects. In the longer-term, Medicaid's cost for Sovaldi may decrease through competition from other new therapeutically equivalent products. Other drug makers have new drugs in late-stage development that have shown promise in treating HCV. If some of these other new drugs are approved, Medicaid programs will be able to negotiate with all drug manufacturers that offer HCV products to get better deals on HCV drugs. In FFS Medicaid, when competing products come to market state programs may be able to negotiate SRAs for therapeutically comparable products by offering to list one company's drug on the state PDL, essentially guaranteeing that company most sales for HVC drugs. Medicaid managed care plans also may be able to negotiate discounts when competing products come to market, either individually or through PBMs. In addition, in some situations, individual and combined multi-state purchasing pools can further increase states' leverage in negotiating additional manufacturer price concessions. Once competition is available, even though other manufacturers may price their drugs comparably to Sovaldi, Medicaid programs will be able to use PDLs and other techniques to help reduce their Sovaldi expenditures. Even before competition from other products is available, states may limit access to Sovaldi by requiring that it be used only in limited situations, such as when a beneficiary is free from drug use or when they have advanced disease. Gilead's process for determining the launch price for Sovaldi is not public information. In setting prices, drug manufacturers may consider the costs their new products would offset. Would a chemotherapy drug extend a patient's life a few months or potentially cure the cancer? Would the drug diminish the likelihood of the need for surgery or, in Sovaldi's case, the need for liver transplants in some cases? If the need for liver transplants were significantly reduced, an expensive, even very expensive, drug might save the health system considerable money. Some drug industry executives attribute high drug prices to how the health care industry pays for services and supplies rather than to drug companies attempting to maximize revenue and profit. Medicaid's drug pricing policies might also contribute to new drug price escalation, particularly for a drug such as Sovaldi that potentially will treat many Medicaid beneficiaries. Medicaid's two-tiered rebate, with a basic rebate and an additional inflation rebate, might indirectly encourage manufacturers to set higher launch prices to offset or recover the cost of Medicaid rebates by reducing the Medicaid inflation rebate. For a drug like Sovaldi, for which there is little therapeutic competition and there may be some or considerable pent up demand, a high launch price that builds in some future period price increases might reduce a manufacturer's additional rebate obligations. At launch, the manufacturer has the market to itself. If it did not raise prices, or raised prices modestly, the manufacturer would avoid most or all of Medicaid's additional inflation rebate. As the backlog of cases decreased and other new drugs came to market, competition would increase and Sovaldi might have to make price concessions to maintain its market position. At that point, Gilead might begin to raise prices much faster, which would provide negotiation room for making price concessions to states through supplemental rebates without reducing profit margins. If the drug manufacturer had not raised Sovaldi's price much while it did not have competition, when new substitute drugs came to market Gilead would have built up some room in its price for Sovaldi for inflation adjustments that it could use before triggering the inflation rebate. Whether or not drug makers are concerned about recovering Medicaid's inflation rebate or some of all Medicaid rebates is unclear, but a high launch price when there are few competing products may carry few risks for drug manufacturers. CMS published an extensive Medicaid drug rebate (MDR) program proposed rule in February 2012 that offered regulatory guidance on the implementation of ACA's Medicaid prescription drug changes. A final rule is pending but anticipated in 2015. Overall, the proposed rule offers substantial guidance to manufacturers and Medicaid programs on how CMS planned to interpret ACA's statutory changes. CMS sought industry comment on a number of issues, so it is unclear how closely a final rule will follow the proposed rule's guidance. The rule proposed modifying the Code of Federal Regulations sections to implement the Medicaid drug changes required in ACA Sections 2501, 2503, 3301, 1101, and 1206. Table 17 identifies regulations that CMS proposed to modify or create in implementing the ACA changes. In the proposed rule, CMS requested comments from industry on a number of issues. CMS proposed to clarify its existing guidance on a number of issues, such as the definitions section. Many of the proposed changes were intended to clarify existing rules to enhance consistency among drug manufacturers and Medicaid programs. Other proposed changes sought to more closely align CMS's policy with existing FDA drug guidance. CMS also proposed substantial changes to AMP and best price that were aimed at assisting manufacturers in computing and reporting these prices consistently. Although the proposed rule changes were extensive, only the following three new sections were added to the CFR subpart: Identification of 5i Drugs (42 CFR §§447.504(d) and 447.507), Medicaid Drug Rebate (42 CFR §447.509), and Requirements for States (42 CFR §447.511). A potential major change would be the inclusion of territories as states, which would require territory Medicaid programs to comply with all the state MDR program requirements. CMS estimated that states and the federal government would save $17.7 billion over five years from implementation of the proposed changes ($13.7 billion to the federal government and $4 billion to the states). CMS also estimated that drug manufacturers, states, and managed care plans would incur about $81.4 million in costs over the period FY2010-FY2012 in implementing the changes. In general, FFS rebates have been effective in helping to control Medicaid FFS drug expenditures. Overall, FFS outpatient drug expenditures have decreased and Medicaid is able to buy drugs for lower prices than Medicare Part D plans and most other federal programs. Congress has been instrumental in establishing Medicaid drug authority to ensure Medicaid pays some of the lowest prescription drug prices. Congress authorized creation of the infrastructure to manage, monitor, and enforce prescription drug pricing. Congress also extended authority for Medicaid to receive rebates on drugs provided to beneficiaries in managed care, and this has resulted in the rapid movement of prescription drug coverage from FFS Medicaid to Medicaid managed care. The percentage of FFS prescription drug claims has fallen from approximately 10% in 2010 to less than 50% in 2013. The movement of prescription drug coverage from FFS to managed care plans could make oversight of the Medicaid prescription drug benefit more difficult. States will be able to collect rebates under managed care contracts, although it is unclear how state supplemental rebates will align with managed care plan (or, more likely, PBM) negotiations with drug wholesalers and manufacturers. Under managed care contracts, states generally delegate some or all DUR and program integrity oversight to managed care plans. Will states be able to conduct DUR and appropriate monitoring comparable to FFS drug benefits? If states and the federal government already procure drugs at some of the best prices, will it be possible for managed care plans and their subcontractor PBMs to reduce costs further? Or will savings come from creating obstacles to beneficiaries receiving covered drugs through utilization controls? Appendix A. FY2012 State FFS Drug Claims Appendix B. FY2012 FFS Drug Paymemt Appendix C. Medicaid FFS Prescription Drug Claims Appendix D. State Generic Prescribing Rates Appendix E. Glossary: Medicaid Drug Terms

Medicaid is a federal-state entitlement program that pays for health care and related services on behalf of certain low-income individuals. Prescription drugs are an optional Medicaid benefit and all states cover outpatient drugs. States can create formularies, or lists of preferred drugs, but federal rules tend to result in comprehensive coverage, even for beneficiaries enrolled in Medicaid managed care plans. Pharmaceutical manufacturers that voluntarily participate in Medicaid are required to pay rebates to states on covered outpatient drugs, which help Medicaid receive manufacturers' lowest or best price. States then share the rebate they receive from pharmaceutical manufacturers with the federal government. In determining the amount of rebate, Medicaid law distinguishes between the following two drug types: (1) single source drugs (brand-name drugs) and innovator multiple source drugs (brand-name drugs that now have generic competition); and (2) all other, non-innovator, multiple source (generic) drugs. Rebates for the first category of drugs—drugs still under patent or those once covered by patents—have two components: a basic rebate and an additional rebate. In addition to basic and additional rebates, most states negotiate supplemental rebates with drug manufacturers, by offering to encourage use of a manufacturer's product in exchange for a price concession (rebate). States, through retail pharmacies, purchase drugs on behalf of Medicaid beneficiaries. Medicaid pharmacy reimbursement has two components: a payment to cover the cost of the pharmacy buying the drug (ingredient cost) and a payment for the pharmacist's services in filling a prescription (dispensing fee). States set reimbursement for both ingredient costs and dispensing fees. In FY2005, Medicaid fee-for-service (FFS) drug expenditures were approximately $43.1 billion, but by FY2013 had decreased to $19.8 billion. Over the same period, Medicaid FFS drug rebate collections were at about the same level ($12.4 billion), but managed care rebate collections increased substantially to about $4.8 billion in FY2013. The decreases in Medicaid FFS drug expenditures and the increases in rebate collections were mostly offset by at least the following other factors or trends: (1) Beginning January 1, 2006, prescription drug coverage of individuals eligible for both Medicare and Medicaid (dual eligibles) was moved from Medicaid to Medicare Part D, which resulted in substantially reduced Medicaid FFS drug spending. Due to maintenance of effort requirements, state Medicaid programs continue to pay the vast majority of dual eligible drug costs, even though those expenditures are not counted as drug spending. (2) Statutory changes helped to increased rebate collections by extending rebates to Medicaid enrollees covered by managed care plans and increasing the amount of rebates owed by drug companies. (3) The loss of patent protection for a number of commonly prescribed drugs further contributed to decreasing Medicaid drug expenditures. And (4) the rapid shift in enrollment of beneficiaries to managed care plans that cover prescription drugs. In December 2013, Sovaldi®, a new brand-name drug, was approved by the Food and Drug Administration for treatment of hepatitis virus C (HVC) infections. Sovaldi is estimated to cost $1,000 per pill, and total treatment cost estimates range from $84,000 to more than $168,000. The rebates states and the federal government receive will help reduce Medicaid's Sovaldi expenditures, but until other equivalent drugs are available to increase competition, states may have limited leverage to negotiate additional manufacturer price concessions. Medicaid rebates, however, while buffering the cost of prescription drugs, might also contribute to drug manufacturers setting increasingly higher launch prices. The current Medicaid drug pricing and policy infrastructure was designed for FFS, and may not work as well with significant managed care enrollment. Under managed care contracts, states generally delegate some or all of drug utilization review and individual drug claim oversight to plans, including program integrity. With managed care and pharmaceutical benefit managers (PBMs) responsible for these activities, states have responsibility for ensuring plans uphold their contract obligations. States' prescription drug monitoring is tailored to FFS drug claims. It is unclear how much oversight of managed care claims states will be able to provide. If states and the federal government currently procure drugs for Medicaid beneficiaries at some of the lowest prices, will it be possible for managed care plans to further reduce costs without imposing barriers to Medicaid beneficiaries in obtaining covered drugs?