[House Hearing, 110 Congress] [From the U.S. Government Publishing Office] OVERSIGHT OF IMPLEMENTATION OF THE EMERGENCY ECONOMIC STABILIZATION ACT OF 2008 AND OF GOVERNMENT LENDING AND INSURANCE FACILITIES: IMPACT ON THE ECONOMY AND CREDIT AVAILABILITY ======================================================================= HEARING BEFORE THE COMMITTEE ON FINANCIAL SERVICES U.S. HOUSE OF REPRESENTATIVES ONE HUNDRED TENTH CONGRESS SECOND SESSION __________ NOVEMBER 18, 2008 __________ Printed for the use of the Committee on Financial Services Serial No. 110-145 ---------- U.S. GOVERNMENT PRINTING OFFICE 46-593 PDF WASHINGTON : 2009 For sale by the Superintendent of Documents, U.S. Government Printing Office Internet: bookstore.gpo.gov Phone: toll free (866) 512-1800; DC area (202) 512-1800 Fax: (202) 512-2104 Mail: Stop IDCC, Washington, DC 20402-0001 HOUSE COMMITTEE ON FINANCIAL SERVICES BARNEY FRANK, Massachusetts, Chairman PAUL E. KANJORSKI, Pennsylvania SPENCER BACHUS, Alabama MAXINE WATERS, California DEBORAH PRYCE, Ohio CAROLYN B. MALONEY, New York MICHAEL N. CASTLE, Delaware LUIS V. GUTIERREZ, Illinois PETER T. KING, New York NYDIA M. VELAZQUEZ, New York EDWARD R. ROYCE, California MELVIN L. WATT, North Carolina FRANK D. LUCAS, Oklahoma GARY L. ACKERMAN, New York RON PAUL, Texas BRAD SHERMAN, California STEVEN C. LaTOURETTE, Ohio GREGORY W. MEEKS, New York DONALD A. MANZULLO, Illinois DENNIS MOORE, Kansas WALTER B. JONES, Jr., North MICHAEL E. CAPUANO, Massachusetts Carolina RUBEN HINOJOSA, Texas JUDY BIGGERT, Illinois WM. LACY CLAY, Missouri CHRISTOPHER SHAYS, Connecticut CAROLYN McCARTHY, New York GARY G. MILLER, California JOE BACA, California SHELLEY MOORE CAPITO, West STEPHEN F. LYNCH, Massachusetts Virginia BRAD MILLER, North Carolina TOM FEENEY, Florida DAVID SCOTT, Georgia JEB HENSARLING, Texas AL GREEN, Texas SCOTT GARRETT, New Jersey EMANUEL CLEAVER, Missouri GINNY BROWN-WAITE, Florida MELISSA L. BEAN, Illinois J. GRESHAM BARRETT, South Carolina GWEN MOORE, Wisconsin, JIM GERLACH, Pennsylvania LINCOLN DAVIS, Tennessee STEVAN PEARCE, New Mexico PAUL W. HODES, New Hampshire RANDY NEUGEBAUER, Texas KEITH ELLISON, Minnesota TOM PRICE, Georgia RON KLEIN, Florida GEOFF DAVIS, Kentucky TIM MAHONEY, Florida PATRICK T. McHENRY, North Carolina CHARLES WILSON, Ohio JOHN CAMPBELL, California ED PERLMUTTER, Colorado ADAM PUTNAM, Florida CHRISTOPHER S. MURPHY, Connecticut MICHELE BACHMANN, Minnesota JOE DONNELLY, Indiana PETER J. ROSKAM, Illinois BILL FOSTER, Illinois KENNY MARCHANT, Texas ANDRE CARSON, Indiana THADDEUS G. McCOTTER, Michigan JACKIE SPEIER, California KEVIN McCARTHY, California DON CAZAYOUX, Louisiana DEAN HELLER, Nevada TRAVIS CHILDERS, Mississippi Jeanne M. Roslanowick, Staff Director and Chief Counsel C O N T E N T S ---------- Page Hearing held on: November 18, 2008............................................ 1 Appendix: November 18, 2008............................................ 85 WITNESSES Tuesday, November 18, 2008 Bair, Hon. Sheila C., Chairman, Federal Deposit Insurance Corporation.................................................... 11 Bartlett, Hon. Steve, President and Chief Executive Officer, Financial Services Roundtable.................................. 46 Bernanke, Hon. Ben S., Chairman, Board of Governors of the Federal Reserve System......................................... 9 Blankenship, Cynthia, Vice Chairman and Chief Operating Officer, Bank of the West, on behalf of the Independent Community Bankers of America (ICBA)...................................... 49 Blinder, Dr. Alan S., Gordon S. Rentschler Memorial Professor of Economics and Public Affairs and Co-Director of the Center for Economic Policy Studies, Princeton University.................. 64 Feldstein, Dr. Martin S., George F. Baker Professor of Economics, Harvard University, and President Emeritus, National Bureau of Economic Research, Inc......................................... 68 Findlay, Hon. D. Cameron, Executive Vice President and General Counsel, Aon Corporation, on behalf of the Council of Insurance Agents and Brokers............................................. 51 Paulson, Hon. Henry M., Jr., Secretary, U.S. Department of the Treasury....................................................... 6 Yingling, Edward L., President and Chief Executive Officer, American Bankers Association................................... 48 APPENDIX Prepared statements: Bachmann, Hon. Michele....................................... 86 Brown-Waite, Hon. Ginny...................................... 88 Kanjorski, Hon. Paul E....................................... 90 LaTourette, Hon. Steven C.................................... 91 Manzullo, Hon. Donald A...................................... 97 Perlmutter, Hon. Ed.......................................... 99 Bair, Hon. Sheila C.......................................... 100 Bartlett, Hon. Steve......................................... 126 Bernanke, Hon. Ben S......................................... 139 Blankenship, Cynthia......................................... 145 Blinder, Dr. Alan S.......................................... 164 Feldstein, Dr. Martin S...................................... 173 Findlay, Hon. D. Cameron..................................... 185 Paulson, Hon. Henry M., Jr................................... 190 Yingling, Edward L........................................... 194 Additional Material Submitted for the Record Frank, Hon. Barney: Memo regarding Treasury's Loan Modification Authority, dated November 17, 2008.......................................... 215 Letter from Michael E. Fryzel, Chairman, National Credit Union Administration, dated November 14, 2008.............. 219 Letter from Hon. Dennis J. Kucinich, Chairman, Domestic Policy Subcommittee, Committee on Oversight and Government Reform, dated November 17, 2008............................ 220 Written statement of the National Association of Realtors.... 225 Kanjorski, Hon. Paul E.: Letter to Federal Reserve Chairman Ben Bernanke, dated October 9, 2008............................................ 229 Letter to Federal Reserve Chairman Ben Bernanke, dated October 20, 2008........................................... 231 Letter from Federal Reserve Chairman Ben Bernanke, dated November 17, 2008.......................................... 233 LaTourette, Hon. Steven: Letter and information pertaining to National City Bank...... 235 Neugebauer, Hon. Randy: Letter from the Credit Union National Association (CUNA), dated November 17, 2008.................................... 241 Letter from the National Association of Federal Credit Unions (NAFCU), dated November 14, 2008........................... 244 Bair, Hon. Sheila: Responses to questions submitted by Hon. Lincoln Davis....... 246 Responses to questions submitted by Hon. Joe Donnelly........ 249 Responses to questions submitted by Hon. Kenny Marchant...... 251 Bartlett, Hon. Steve: Letter to SEC Chairman Christopher Cox from Robert P. Kelly, Chairman and Chief Executive Officer, The Bank of New York Mellon, dated November 6, 2008............................. 253 Letter to Mr. Conrad Hewitt, SEC, from Citigroup, dated November 12, 2008.......................................... 255 Letter to Acting Secretary Florence E. Harmon, SEC, from the Center for Audit Quality, dated November 13, 2008.......... 258 OVERSIGHT OF IMPLEMENTATION OF THE EMERGENCY ECONOMIC STABILIZATION ACT OF 2008 AND OF GOVERNMENT LENDING AND INSURANCE FACILITIES: IMPACT ON THE ECONOMY AND CREDIT AVAILABILITY ---------- Tuesday, November 18, 2008 U.S. House of Representatives, Committee on Financial Services, Washington, D.C. The committee met, pursuant to notice, at 10:33 a.m., in room 2128, Rayburn House Office Building, Hon. Barney Frank [chairman of the committee] presiding. Members present: Representatives Frank, Kanjorski, Waters, Maloney, Velazquez, Watt, Ackerman, Sherman, Meeks, Moore of Kansas, Capuano, Hinojosa, Clay, McCarthy of New York, Baca, Lynch, Miller of North Carolina, Scott, Green, Cleaver, Bean, Moore of Wisconsin, Davis of Tennessee, Hodes, Ellison, Klein, Mahoney, Wilson, Perlmutter, Murphy, Donnelly, Foster, Speier; Bachus, Castle, Royce, Paul, LaTourette, Manzullo, Jones, Biggert, Shays, Hensarling, Garrett, Brown-Waite, Barrett, Gerlach, Pearce, Neugebauer, Price, Davis of Kentucky, Campbell, Putnam, Roskam, McCotter, and McCarthy of California. The Chairman. The hearing will come to order. We will need the photographers to stop obstructing. I have a great belief in the freedom of information, but I think America is fully informed as to what these two gentlemen look like, so I don't feel like I am interfering with First Amendment rights if I ask you to let us get on with the hearing. This hearing is called to do oversight on one of the most important pieces of legislation this current Congress has adopted and one of the most important, in many ways, that I think any Congress has ever adopted. We were asked last September by the Secretary of the Treasury, supported by the Chairman of the Federal Reserve, to pass a very extraordinary piece of legislation, putting potentially at risk, although we hope in the end not, $700 billion of public money for purposes that go beyond what government has ordinarily done and what almost everybody--myself included--believe the two gentlemen at the table think government should do. But it was a necessary response to a crisis. Some questions have arisen about decisions that have been made with regard to the expenditure of those funds. We certainly want to hear from the Secretary and the Chairman their assessment of what has happened so far. And let me say at the outset, we do have a problem with all of us that there tends to be a focus on those areas of disagreement, and so accomplishments, areas of agreement, things which worked well tend to not get a lot of discussion. It is important, so that we can understand what has happened and evaluate what we did, that there be a full discussion today both of the successes of this program, and I believe there have been significant successes, and also of the concerns many of us have. There are two that I hope we can address, and we have talked about these in a variety of ways, both publicly and privately, with these two officials. One, there is concern that the banks which were the recipient of capital infusions under the Capital Purchase Program have not used the funding entirely for re-lending, which many people here understood would be the purpose. There is both unhappiness at what would appear to be on the part of some financial institutions excesses in use of the money, although AIG attracted the most attention there, and that was initially not out of the $700 billion program. But even more substantively, there is concern that, and we hear this anecdotally from people we represent, that credit is still tighter than it ought to be and that the banks which received the money have not yet begun to lend it out. The second major concern is over foreclosure prevention. And here I believe there is a very fundamental disagreement on the part of a lot of Members with the decision recently made. But we understand that decisions are subject to reexamination, etc. When the program was passed, very explicit language was included to provide for mortgage foreclosure and mortgage foreclosure diminution as one of the purposes. There is very specific language in there. And the question was, well, investment versus spending? The bill itself specifically says that we should, as we buy up mortgage assets, reduce the amount that has to be paid to a reasonable level to avoid foreclosure, so no one can argue that it was not contemplated. Indeed, it was a very important part of, frankly, the effort to get votes for this bill that we would do mortgage foreclosure reduction. The Secretary's recent announcement was that none of these funds would go towards mortgage foreclosure reduction, although there are other programs on which we are working to do that. And I welcome recent evidence by several of the largest banks, all of whom were recipients of the capital funds and there is no direct connection, but it is true; several of the largest banks have now begun to get active. We also received an announcement by Fannie Mae and Freddie Mac of movement, although we have some concerns about how far they go and why they lag the programs that the FDIC has put in. But the fundamental policy issue is our disappointment that funds are not being used out of the $700 billion to supplement mortgage foreclosure reduction. It is unfortunately not the case that all of our other efforts have been fully successful. I was a strong proponent of our HOPE for Homeowners bill. I now believe that if we were redoing that, we would do it differently in some ways. We learn from experience. There is, I believe, an overwhelmingly powerful set of reasons why some of the TARP money must be used for mortgage foreclosure. First of all, mortgage foreclosures continue at an excessive pace from the standpoint of the economy. The negative effects of this cascade of foreclosures go far beyond the individuals who lose their homes. It has to do with neighborhood deterioration. It has to do with municipal inability to make their governments work. And it impacts, obviously, the macro economy. Second, there is a matter of public confidence. A number of things need to be done to get us out of this recession, in my judgment: Fiscal stimulus; increased lending, which I talked to first; and foreclosure reduction. It may well be that further action has to be taken. I have to say at this point that public confidence in what we have done so far is lower than anybody would have wanted it to be to the point where it should be an obstacle to further steps. So because I want to keep strictly to the time for everybody, I would just reiterate that it is essential that we do something to use some of the TARP funds for the diminution of the rate of mortgage foreclosures, and the Chair of the FDIC, whom we have invited, has been very much in the lead on this. No one here is endorsing any specific plan, but the need to use TARP funds as the bill contemplates to reduce foreclosures is paramount. The gentleman from Alabama. Mr. Bachus. Thank you, Mr. Chairman, for holding this hearing. I welcome Secretary Paulson, Chairman Bernanke, and Chairman Bair, and I appreciate your service to the country. There have been some reports in the press recently that the use of the TARP funds for direct injection of capital into the financial institutions is somehow contrary to the intent of Congress. I actually think that is not correct. The legislation that we passed specifically authorized direct injection of capital into the financial institutions through the purchase of equity or shares. As I think the panel realizes, there was a debate during the entire legislative process in exactly how the situation would be addressed, and the final legislation it passed authorized both the purchase of distressed assets and capital injections. And I think what happened--I think we would all hopefully agree on this--is we simply found that it was quicker, simpler, and I think safer for the taxpayers to purchase shares of stock. I have always had objections or at least reservations about the government purchasing what has been called troubled or toxic assets and having to manage them. So I for one, Secretary Paulson, applaud you for--and I think most economists applaud you--for actually being flexible and taking an approach which was clearly authorized by the legislation. As the chairman said, confidence is critically important to the financial markets and to the overall economy. And it is in the best interest of not only the economy but also of the public that, as we shift and improvise on occasions, we clearly communicate the objective and the basis for what we are doing. I think we all agree on that. Conditions on the ground change. You must be agile and adjust, and I hope we all understand that. I have a particular concern, which is that we don't appear to have an exit strategy. We continue to purchase assets and bring them onto the books of the government in the neighborhood of $1 trillion. And most of us, I think, on the Republican side have been troubled since day one about government intervention into the private markets. One of our concerns has been that we are taking capital that could be used by more efficient, more successful companies and enterprises with better business models, and we are shifting that money to companies that are less efficient and whose business models need changing. And by putting capital into those companies, we almost enable them or allow them not to confront some of the inefficiencies in their own enterprises. Let me close by saying this: There has been a lot of discussion about the greatest economic challenge since the Great Depression. One thing that I have tried to do is go back and look at the 9 or 10 recessions we have had since World War II. What at least I find--and you may tell me that I am wrong-- is that the GDP in all but the last two of those recessions dipped by as much as 5 percent in at least one quarter. In this quarter, which many people are saying is the worst quarter, we expect maybe a 4 percent dip in GDP. So, at least when you look at the history of the recessions since World War II, you find that this recession may, in fact, not be any greater, at least now. I don't know if something in the future, but at least right now, this recession as far as the loss of GDP is no greater than at least 8 of our 10 recessions since World War II. So the question that I would ask is--and I will close with this--if we are in a recession that is, at least from a GDP standpoint, no greater than 8 of the last 10, why are we, in this recession, having so much government intervention? Thank you, Mr. Chairman. The Chairman. The gentlewoman from New York is recognized for 3 minutes. We are under the rule for Cabinet officials of two 5-minute statements and two 3-minute statements. The gentlewoman from New York. Mrs. Maloney. Thank you, Mr. Chairman. I welcome our distinguished guests and thank you for your leadership. I particularly would like to commend Chairman Bair for her leadership in foreclosure prevention and particularly for developing a new loan modification guarantee program to refinance on a large scale, which would help us to save millions of people and help them to stay in their homes. And I would like to be associated with the comments of both the ranking member and the chairman that our intention was to use some of the TARP money to invest in our economy and to get it moving in the right direction. Certainly stabilizing housing, as Chairman Bernanke has said repeatedly, that we must fix the housing crisis before we can get the economy back on track. So whatever the model, I firmly support using TARP money to stabilize housing and our economy. Secondly, my constituents are telling me that many of them still cannot get access to credit. Given that bank lending is still basically shut down, we need to be asking whether and when we should expect at least some fraction of TARP funds injected into banks to be lent. After all, one of the primary purposes of the TARP program was to get credit moving. I have nonbank lenders who are my constituents who lend money to small businesses and want access to the TARP to increase that activity. Today's Wall Street Journal talks about insurance companies that are buying up banks just to get access to the TARP money. And we then read many articles that banks are using TARP money for buying other banks. So we are basically funding mergers and acquisitions, not lending. My basic question is, why shouldn't we be giving TARP money out based on the activity it funds? Why don't we fund organizations that will lend it, whether it is a bank, an insurance company, so that we will be getting the credit out into the communities which was the purpose of the TARP program? Again, every article talks about how it is being used for capital formation, mergers, acquisitions, other activities, buying up swaps, buying other things instead of getting the credit out into the communities. So there are many questions before us today, but those are two of my prime focuses, that we should be helping people stay in their homes, and we should be working harder to get credit out into the communities. Thank you. The Chairman. The gentleman from Texas is recognized for 3 minutes. Mr. Hensarling. Thank you, Mr. Chairman. Thank you for holding this hearing. It is certainly better late than never. It appears that 80 percent of the funds that are currently available under the TARP program have already been committed. So I am glad we are at least holding the hearing today. The Washington Post reported last week that, ``no formal action has been taken to fill the independent oversight post established by Congress when it approved the bailout to prevent corruption and government waste.'' So I believe there is sufficient work for this committee at this time. As many in this room know, I did not support the original Emergency Economic Stabilization Act. Clearly, as most, I recognize that we do have a legitimate crisis as opposed to those that occasionally get manufactured around here. I embraced an idea I thought I would never embrace, and that was a government-insured model for mortgage-backed securities. I also preferred a secured loan model. My ideas and those of other conservatives did not carry the day. This is the law of the land. We want to make sure that it works. I had many reservations about the toxic asset purchase model, not the least of which was my belief that the Federal Government ultimately was not institutionally competent to purchase the right assets at the right price, much less manage them in a proper fiduciary fashion. But I recall being told at the time that this model had been studied at Treasury for a number of months and that the other alternatives, for a number of reasons, were discounted. On October 3rd when the law was passed, the Dow closed at 10,325; yesterday it closed at 8,273. To the best of my knowledge, any data that has come across my desk shows that consumer confidence remains low. So, clearly, we have a ways to go. I will be curious in this hearing to understand the reasons why the toxic asset purchase model has apparently been abandoned. If that is true, I for one applaud it and always thought the direct equity infusion model would be a preferred model, although I prefer debt as opposed to equity. I fear, though, that some view it as a bait and switch, and I am curious as to what extent regulatory and programmatic uncertainty are leading or exacerbating the economic woes that we face today as people wait to see what portion of the money they may be able to apply for. I hope going forward that, number one, we measure the program by, is it working? Number two, $700 billion is a lot of money. I haven't found anybody who doesn't want a piece of it as of yet. I hope that we look upon the program as something that the recipients will be chosen by how it could impact our macro economy and not a politically-driven process picking winners and losers. And last but not least, taxpayer accountability and transparency must be paramount. Thank you, Mr. Chairman. I yield back. The Chairman. Mr. Secretary, let me explain to the members, we have, I believe, until noon. We will obviously not be able to accommodate all the members. I am going to hold very strictly to time limits for all of us. Mr. Secretary. STATEMENT OF THE HONORABLE HENRY M. PAULSON, JR., SECRETARY, U.S. DEPARTMENT OF THE TREASURY Secretary Paulson. Thank you very much, Mr. Chairman. Mr. Chairman, Congressman Bachus, and members of the committee, thank you for the opportunity to testify this morning. Six weeks ago, Congress took the critically important step of providing important authorities and resources to stabilize our financial system. Until that time, we faced a financial crisis without the proper tools. With these tools in hand, we took decisive action to prevent the collapse of our financial system. We have not in our lifetimes dealt with a financial crisis of this severity and unpredictability. We have seen the failures or the equivalent of failures of Bear Stearns, IndyMac, Lehman Brothers, Washington Mutual, Wachovia, Fannie Mae, Freddie Mac, and AIG, institutions with a collective $4.7 trillion in assets when this year began. By September, the financial system had seized up, presenting a system-wide crisis. Our objectives in asking Congress for a financial rescue package were to, first, stabilize a financial system on the verge of collapse and then to get lending going again to support American consumers and businesses. Over the next few weeks, conditions worsened significantly. Confidence in the banking system continued to diminish. Industrial company access to all aspects of the bond market was dramatically curtailed. Small- and middle-sized companies with no direct connection to the financial sector were losing access to the normal credit needed to meet payrolls, pay suppliers, and buy inventory. During that same period, the FDIC acted to mitigate the failure of Washington Mutual and made clear that it would intervene to prevent Wachovia's failure. Turmoil had developed in the European markets. In a 2-day period at the end of September, the governments of Ireland, the U.K., Germany, Belgium, France, and Iceland intervened to prevent the failure of one or more financial institutions in their countries. By the time legislation had cleared Congress, the global market crisis was so broad and severe that powerful steps were necessary to quickly stabilize our financial system. Our response, in coordination with the Federal Reserve, the FDIC, and other banking regulators was a program to purchase equity in banks across the country. We have committed $250 billion to this effort. This action, in combination with the FDIC's guarantee of certain debt issued by financial institutions and the Fed's commercial paper program helped us to immediately stabilize the financial system. The Capital Purchase Program for banks and thrifts has already dispersed $148 billion, and we are processing many more applications. Yesterday, Treasury announced the terms for participation for nonpublicly traded banks, another important source of credit in our economy. We have designed these terms to help provide community development financial institutions and minority depository institutions with capital for lending to low-income and minority populations. These institutions have committed to use this capital for businesses and projects that serve their communities. In addition, we are developing a matching program for possible future use by banks or nonbank financial institutions. Capital strength enables banks to take losses as they write down or sell troubled assets. Stronger capitalization is also essential to increasing lending, which although difficult to achieve during times like this, is essential to economic recovery. We expect banks to increase their lending over time as a result of these efforts and as confidence is restored. This lending won't materialize as fast as any of us would like. But it will happen much, much faster having used the TARP to stabilize our system. As we continue significant work on our mortgage asset purchase plan, it became clear just how much damage the crisis had done to our economy. Third quarter GDP growth showed negative three-tenths of a percent. The unemployment rate rose to a level not seen in 15 years. Home price status showed that home prices in 10 major cities had fallen 18 percent over the previous year, demonstrating that the housing correction had not abated. The slowing of European economies has been even more dramatic. We assessed the potential use of remaining TARP funding against the backdrop of current economic and market conditions. It is clear that an effective mortgage asset purchase program would require a massive commitment of TARP funds. In September, before economic conditions worsened, $700 billion in troubled asset purchases would have had a significant impact. But half of that sum in a worse economy simply isn't enough firepower. We have therefore determined that the prudent course at this time is to conserve the remaining funds available from the TARP, providing flexibility for this and the next Administration. Other priorities that need to be addressed include actions to restore consumer credit. Treasury has been working on a program with the Federal Reserve to improve securitization in the credit marketplace. While this would involve investing only a relatively modest share of TARP funds in the Federal Reserve liquidity facility, it could have substantial positive benefits for consumer lending. Finally, Mr. Chairman, Treasury remains committed to continuing to work to reduce avoidable foreclosures. Congress and the Administration have made substantial progress on that front through HUD programs, the FDIC's IndyMac approach, our support and leadership of the HOPE NOW Alliance, and our work with the GSEs, including an important announcement they made last week establishing new servicer guidelines that will set a new standard for the entire industry. Our actions to stabilize and strengthen Fannie Mae and Freddie Mac have also helped mitigate the housing correction by increasing access to lower- cost mortgage lending. As some on the committee know, I have reservations about spending TARP resources to directly subsidize foreclosure mitigation because this is different than the original investment intent. We continue to look at good proposals and are dedicated to implementing those that protect the taxpayer and work well. Mr. Chairman, the actions of the Treasury, the Fed, and the FDIC have stabilized our financial system. The authorities in the TARP have been used to strengthen our financial system and to prevent the harm to our economy and financial system from the failure of a systemically important institution. As facts and conditions in the market and economy have changed, we have adjusted our strategy to most effectively address the urgent crisis and to preserve the flexibility of the President-elect and the new Secretary of the Treasury to address future challenges in the economy and capital markets. Thank you again for your efforts and for the opportunity to appear today. I would like to just make one last comment in response to a question that Congressman Bachus asked because it is one I hear a lot, the distinction between the financial markets and the economy. So when we have talked about the crisis and the financial markets and being unprecedented and having to go back to the Great Depression to see anything of this magnitude and be presented with this amount of difficulty, we are talking about the financial markets. Now, when the financial markets have problems, they hurt the economy. So the reason that it was very important to get in quickly and stabilize it was to mitigate damage to the economy. When we were here before you, we saw what was happening to the economy. We talked about it. We took the steps. The economy has continued to get worse. The American people look at the worsening economy. And as your chairman said to me yesterday, in politics, you don't get much credit for what might have happened and didn't happen. What the American people see is what is happening to the economy. But again, our purpose in coming to you was to take-- The Chairman. Mr. Secretary, the gentleman will have his 5 minutes. I appreciate that. [The prepared statement of Secretary Paulson can be found on page 190 of the appendix.] The Chairman. Mr. Chairman. STATEMENT OF THE HONORABLE BEN S. BERNANKE, CHAIRMAN, BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM Mr. Bernanke. Thank you. Chairman Frank, Ranking Member Bachus, and other members of the committee, I appreciate having this opportunity to review some of the activities to date of the Treasury's Troubled Asset Relief Program, or TARP, and to discuss recent steps taken by the Federal Reserve and other agencies to support the normalization of credit markets. The legislation that created the TARP put in place a Financial Stability Oversight Board to review the actions of the Treasury in administering the program. That oversight board includes the Secretary of the Treasury, the Secretary of Housing and Urban Development, the Chairman of the Securities and Exchange Commission, the Director of the Federal Housing Finance Agency, and the Chairman of the Federal Reserve Board. We have met 4 times, reviewing the operational plans and policy initiatives for the TARP and discussing possible additional steps that might be taken. Officers for the oversight board have been appointed, and the Federal Reserve and other agencies are providing staff support for the board. Minutes of each meeting are being posted to a special Web site established by the Treasury. In addition, staff members of the agencies whose heads are participating in the oversight board have met with staff from the Government Accountability Office to explore strategies for coordinating the oversight that the two bodies are required to perform under the enabling legislation. The value of the TARP in promoting financial stability has already been demonstrated. The financial crisis intensified greatly in the latter part of September and spread to many countries that had not yet been touched by it, which led to grave concerns about the stability of the global financial system. Failure to prevent the international financial collapse would almost certainly have had dire implications for both the U.S. and world economies. Fortunately, the existence of the TARP allowed the Treasury to act quickly by announcing a plan to inject $250 billion in capital into U.S. financial institutions. Nine large institutions received the first $125 billion, and the remainder is being made available to other banking organizations through an application process. In addition, the Federal Deposit Insurance Corporation announced that it would guarantee non- interest-bearing transaction accounts at depository institutions and certain other liabilities for depository institutions and their holding companies. And the Federal Reserve expanded its provision of backstop liquidity to the financial system. These actions, together with similar actions in many other countries, appeared to stabilize the situation and to improve investor confidence in financial firms. Notably, spreads on credit default swaps for large U.S. banking organizations, which had widened substantially over the previous 2 weeks, declined sharply on the day of the joint announcement. Going forward, the ability of the Treasury to use the TARP to inject capital into financial institutions and to take other steps to stabilize the financial system, including any actions that might be needed to prevent a disorderly failure of a systemically important financial institution, will be critical for restoring confidence and promoting return of credit markets to more normal functioning. As I noted earlier, the Federal Reserve has taken a range of policy actions to provide liquidity to the financial system and thus promote the extension of credit to households and businesses. Our recent actions have focused on the market for commercial paper, which is an important source of short-term financing for many financial and nonfinancial firms. Normally, money market mutual funds are major lenders in commercial paper markets. However, in mid-September, a large fund suffered losses and heavy redemptions, causing it to suspend further redemptions and then close. In the next few weeks, investors withdrew almost $500 billion from prime money market funds. The funds, concerned with their ability to meet further redemptions, began to reduce their purchases of commercial paper and limit the maturity of such paper to only overnight or other very short maturities. As a result, interest rate spreads paid by issuers on longer maturity commercial paper widened significantly, and the issuers were exposed to the costs and risks of having to roll over increasingly large amounts of paper each day. The Federal Reserve has developed three programs to address these problems. The first allows money market mutual funds to sell asset-backed commercial paper to banking organizations which are then permitted to borrow against the paper on a nonrecourse basis from the Federal Reserve Bank of Boston. Usage of that facility peaked at around $150 billion. The facility contributed importantly to the ability of money funds to meet redemption pressures when they were most intense and remains available as a backstop should such pressures re- emerge. The second program involves the funding of a special purpose vehicle that purchases highly rated commercial paper issued by financial and nonfinancial businesses at a term of 3 months. This facility has purchased about $250 billion of commercial paper, allowing many firms to extend significant amounts of funding into next year. A third facility expected to be operational next week will provide a liquidity backstop directly to money market mutual funds. This facility is intended to give funds confidence to extend significantly the maturities of their investments and reduce over time the reliance of issuers on sales to the Federal Reserve special purpose vehicle. All of these programs, which were created under section 13(3) of the Federal Reserve Act, must be terminated when conditions in the financial markets are determined by the Federal Reserve to no longer be unusual and exigent. The primary objective of these and other actions we have taken is to stabilize credit markets and to improve the access of credit to businesses and households. There are some signs that credit markets, while still strained, are improving. Interbank short-term funding rates have fallen notably since mid-October, and we are seeing greater stability in money market mutual funds and in the commercial paper market. Interest rates and higher rated bonds issued by corporations and municipalities have fallen somewhat, and bond issuance for these entities rose a bit in recent weeks. The ongoing capital injections under the TARP are continuing to bring stability to the banking system and have reduced some of the pressure on banks to deleverage, two critical first steps towards restarting flows of new credit. However, overall, credit conditions are still far from normal with risk spreads remaining very elevated and banks reporting that they continued to tighten lending standards through October. There has been little or no bond issuance by lower rated corporations or securitization of consumer loans in recent weeks. To help address the tightness of credit, on November 12th, the Federal banking agencies issued a joint statement on meeting the needs of creditworthy borrowers. The statement took note of the recent strong policy actions designed to promote financial stability and improve banks' access to capital and funding. In light of those actions, which have increased the capacity of banks to lend, it is imperative that all banking organizations and their regulators work together to ensure that the needs of creditworthy borrowers are met in a manner consistent with safety and soundness. As capital adequacy is critical in determining a banking organization's ability and willingness to lend, the joint statement emphasizes the need for careful capital planning, including setting appropriate dividend policies. The statement also notes the agency's expectation that banking organizations should work with existing borrowers to avoid preventable foreclosures which can be costly to all involved: the borrower; the lender; and the communities in which they are located. Steps that should be taken in this area include ensuring adequate funding and staffing of mortgage servicing operations and adopting systematic, proactive, and streamlined mortgage loan modification protocols aimed at providing long-term sustainability for borrowers. Finally, the agencies expect banking organizations to conduct regular reviews of their management compensation policies to ensure that they encourage prudent lending and discourage excessive risk-taking. Thank you. I would be pleased to take your questions. [The prepared statement of Chairman Bernanke can be found on page 139 of the appendix.] The Chairman. Chairwoman Bair. STATEMENT OF THE HONORABLE SHEILA C. BAIR, CHAIRMAN, FEDERAL DEPOSIT INSURANCE CORPORATION Ms. Bair. Thank you. Chairman Frank, Ranking Member Bachus, and members of the committee, I appreciate the opportunity to testify on recent efforts to stabilize the Nation's financial markets and to reduce foreclosures. Conditions in the financial markets have deeply shaken the confidence of people around the world and their financial systems. The events of the past few months are unprecedented to say the least. The government has taken a number of extraordinary steps to bolster public confidence in the U.S. banking system. The most recent were measures to recapitalize our banks and provide temporary liquidity support to unlock credit markets, especially interbank lending. These moves match similar actions taken in Europe. Working with the Treasury Department and the other bank regulators, the FDIC will do whatever it takes to preserve the public's trust in the financial system. Despite the current challenges, the bulk of the U.S. banking industry remains well capitalized. But what we do have is a liquidity problem. This liquidity squeeze was initially caused by uncertainty about the value of mortgage-related assets. Since then, credit concerns have broadened considerably, making banks reluctant to lend to each other and to lend to consumers and businesses. As you know, in concert with the Treasury and the Federal Reserve, we took a number of actions to bolster confidence in the banking system. These included temporarily increasing deposit insurance coverage and providing guarantees to new senior unsecured debt issued by banks, thrifts, and holding companies. The purpose of these programs is to increase bank lending and minimize the impact of deleveraging on the American economy. As a result of these efforts, the financial system is now more stable and interest rate spreads have narrowed substantially. However, credit remains tight and this is a serious threat to the economic outlook. Regulators will be watching to make sure these emergency resources are mainly used for their intended purpose--responsible lending to consumers and businesses. In the meantime, we must focus on the borrower side of the equation. Everyone agrees that more needs to be done for homeowners. We need to prevent unnecessary foreclosures, and we need to modify loans at a much faster pace. Foreclosure prevention is essential to helping find a bottom for home prices, to stabilizing mortgage credit markets, and to restoring economic growth. We all know there is no single solution or magic bullet. But as foreclosures escalate, we are clearly falling behind the curve. Much more aggressive intervention is needed if we are to curb the damage to our neighborhoods and to the broader economy. Last Friday, we released the details of our plan to help 1.5 million homeowners avoid foreclosure. Our program would require a total of about $24 billion in Federal financing. The plan is based on our practical experience in modifying thousands of mortgages at IndyMac Federal Bank. As we have done at IndyMac, we would convert unaffordable mortgages into loans that are sustainable over the long term. The plan would set loan modification standards. Eligible borrowers would get lower interest rates and, in some cases, longer loan terms and principal forbearance to make their monthly payments affordable. To encourage the lending industry to participate, the program would create a loan guarantee program that would absorb up to half the losses if the borrower defaults on the modified loan. While we applaud recent announcements by the GSEs and major servicers to adopt more streamlined approaches to loan modifications along the lines we have employed at IndyMac, the stakes are too high and time is too short to rely exclusively on voluntary efforts. Moreover, these recent announcements do not reach mortgages held in private label securitizations. We need a national solution for a national problem. We need a fast-track Federal program that has the potential to reach all homeowners regardless of who owns their mortgages. What we are proposing is a major investment program that can yield significant returns by attacking the self-reinforcing cycle of unnecessary foreclosures that is placing downward pressure on home prices. Average U.S. home prices have declined by more than 20 percent from their peak and are still spiraling down. If this program can keep home prices from falling by just 3 percentage points less than would otherwise be the case, over half a trillion dollars would remain in homeowners' pockets. Even a conservative estimate of the wealth effect this could have on consumer spending would exceed $40 billion. That would be a big stimulus for the economy and nearly double our investment. In conclusion, the FDIC is fully engaged in preserving trust and stability in the banking system. The FDIC stands committed to achieving what has been our core mission since we were created 75 years ago in the wake of the Great Depression-- protecting depositors and maintaining public confidence in the financial system. Thank you. [The prepared statement of Chairwoman Bair can be found on page 100 of the appendix.] The Chairman. Thank you. Before I begin my questioning, I want to just put into the record: A very thoughtful letter from our colleague Mr. Kucinich, who was chair of a Subcommittee on Government Reform, strongly arguing for help on foreclosures; a letter that was sent to me and a letter was also sent to the Secretary from Michael Fryzel, the Presidential appointee to head the National Credit Union Administration, objecting strenuously on behalf of the health of the credit union industry to the decision not to buy up any assets; and also, a statement from the National Association of Realtors. I will now begin my 5 minutes, and I am going to hold everybody to the 5 minutes. First, I welcome the two Chairs to the interagency statement on meeting the needs of creditworthy borrowers. It is a very good statement. It will be an even better statement if somebody gets whacked for not following it. There has to be some teeth. And it does talk about compensation, about dividends, and it is a very good statement. I can't imagine that a month from now everybody will have complied, and so, therefore, frankly, evidence that it meant something will be if there were at least some letters issued or some penalties. Secondly, I just want to report on the oversight board, and the gentleman from Texas referred to it. My understanding is that the Senate Majority Leader and the Speaker have appointed their members. The minority leaders have not appointed their members yet, so the board is not yet functional. Earlier this week, or last week, three members were appointed, as called for under the statute, by the Majority Leader of the Senate and the Speaker. Now I want to get to the issue of mortgage foreclosure. First, Mr. Secretary, I am going to also put into the record a 4-page memo of sections of the law that we passed which mandate that if you buy assets, you do mortgage foreclosure. And make it very clear, when you say spending--first, I have to say this: We obviously all appreciate the concern for the taxpayers' money. But the Chair of the FDIC talks about $24 billion. That is, what, 40 percent of what we just gave to AIG out of this program. And you say this is for an investment and not spending. I don't know what investment counselor, absent macro economics conditions, would have advised you to invest in AIG. I suspect it does not rate highly as an investment these days. I hope it goes well going forward. And there is no question that this will be helpful to it. But $40 billion for AIG, and then we can't find $24 billion on the mortgage foreclosure, is part of the reason we have the real problem with the country. But let me just say, it is 4 pages of specific authorization to buy up mortgages and write them down. Section 109(c): ``Upon any request arising under existing investment contracts, the Secretary shall consent, where appropriate in considering net present value to the taxpayer, to reasonable requests for lost mitigation measures.'' In section 110, homeowner assistance by agencies: ``To the extent that the Federal property manager holds onto, controls mortgages, they shall implement a plan that seeks to maximize assistance for homeowners.'' The bill is replete with authorization to you not simply to buy up mortgages but in effect to do some spending because we are talking about writing them down. So the argument that-- frankly, of all the changes that have come in the program, this wouldn't be a change. This was the program. And my colleague from California, whom you will be hearing from shortly, made a big point of this on the Floor. So the argument that this is not part of the program simply doesn't work. Would you agree, Mr. Secretary, that in fact the bill does authorize aggressive action not simply to buy up mortgages but, in buying them up, take some action to reduce in some ways the amount owed so we diminish foreclosures? Secretary Paulson. Mr. Chairman, two things. First, I need to just say a word about AIG, because the primary purpose of the bill was to protect our system from collapse. AIG was a situation, a company that would have failed had the Fed not stepped in. Had we had the TARP at that time, this is right down the middle of the plate for what we would have used the TARP for. As it turned out--because it should have had preferred and a Fed facility. And as it turned out, we needed to come in, again, to stabilize that situation and maximize the chances that the government would get money back. So I just wanted-- The Chairman. I am not objecting to the AIG. I am just saying, though, that the standards of what we do--and obviously foreclosure is also a serious problem for the economy. Secretary Paulson. I agree with you on the bill. There is no doubt--and so don't misunderstand what I say--that we came to Congress with the intent to get at the capital program that banks were facing and the system was facing through purchasing large amounts of illiquid assets. So the bill--and it was to purchase those assets and then resell them. And our whole discussion--because that is what we were talking about, was how to use them and use this investment position to make a difference and mitigate foreclosures. My only point is, now that we haven't bought those assets, illiquid assets, that the intent, as I had seen it, at least all the discussions we had went to buying assets and reselling them; it didn't go to a direct subsidy. But-- The Chairman. No, Mr. Secretary, I have to interrupt you. You are talking legitimately about your intent. But we had to get the votes for the bill. Our intent was also relevant, and I read you sections of the bill which says, write it down; give them assistance. So the bill couldn't have been clearer that one of the purposes--and by the way, we are talking about, what, $24 billion out of $700 billion; you are talking about 4 percent of the total amount. But the point is that clearly part of this was not just to stabilize but to reduce the number of foreclosures for good macroeconomic reasons. So, again, the intent couldn't be clearer from what I read. Secretary Paulson. Let me then, Mr. Chairman, say what you have heard me say a number of times before, that, going back many, many months, before it was as topical as it is now, we have been working very, very aggressively at the individual-- helping the individual. As recently as last week-- The Chairman. Mr. Chairman, I am sorry--Mr. Secretary. We don't have a lot of time. I don't usually do this, but the question is the language in the TARP. We understand that there are other activities going on. I don't accept them as a substitute for using the authority that we very specifically and carefully wrote into the TARP and that was essential to it getting passed. Secretary Paulson. Well, what you have heard from me and what you heard from me last night and which I will say again, that I am going to keep working on this and looking for ways to use the taxpayer money as they expect me to here with regard to foreclosure mitigation. We have been, you know, as recently as last week, taking a step, which I think will have-- The Chairman. No, I am sorry, Mr. Secretary. Those are not substitutable, because I will tell you, and I apologize for taking the time, it is nobody's view that we have been as successful as we need to be for the sake of the economy in reducing foreclosures. We have a very large pot that was intended to be part of that effort that is going untapped. The gentleman from Alabama. Mr. Bachus. He was responding to you. The Chairman. We are out of time. He can respond to you. Mr. Bachus. Thank you, Mr. Chairman. You have just been told, if you don't give assistance or lend to folks, you will be waxed. It is sort of a continuation of what we have been hearing since the 1970's by Federal policy and the GSEs, is, lend and meet the needs of folks and assist them. I think, as a result of that, the financial system and the economy has been waxed by lending to people who weren't creditworthy. And I hope--and I appreciate that your intergovernment statement stressed creditworthy borrowers. Secretary Paulson, I very much appreciate something that you did in your opening statement. I think you distinguished between the economy and the financial system, because people did question some of the actions by saying, well, the economy is strong. But the financial system, chaos or distress there will affect the economy. It has that effect. I think we have heard good news here. There is stability returning to the financial system. And I think the good news is, just like the instability in the financial system affected the economy, going forward, and it may take a while to do, but the stability that has returned to the system will in the long term strengthen the economy. I think that is good news for all of us. The TARP program, the capital purchase program, all of them had as a design two things. One was restoring the stability to the financial markets. And I think that we are well on our way to achieving that. And as you said, you don't get credit for something that you avoid, and that would be a collapse of the financial system. The second objective was to strengthen the economy by restoring lending to companies and borrowers. And on that score, it hasn't worked as well. Would you comment on, do you think we are on the right track in restoring lending? Secretary Paulson. Yes, Congressman Bachus, I think we are on the right track. Remember, this is early days. In terms of the capital, it has just gone out, and a lot of it still hasn't gone out to the banks. The way I look at where we are today is, I think we have turned the corner in terms of stabilizing the system, preventing a collapse. I think there is a lot of work that still needs to be done in terms of recovery of the financial system, getting it working again, getting credit flowing again. I think this is going to be key to getting the economy going. And it is going to take a lot of work and time. I agree with what the chairman said about bank lending. And I just want to say, one, to get to your point on foreclosure prevention, I understand the chairman's point. And he expects and wants to see something in the TARP, specifically in the TARP to deal with that. We are continuing to work on that. I did want to say, though, that because I was so aware of what the American people expected and what Congress expected and because I cared so much about this, that I believe that the actions we took outside of the TARP with regard to the GSEs and the national standard they set has the potential to touch more and do more than we might have achieved if we had used all $700 billion to buy illiquid assets. So we are working. I understand the point. I know what you would like to see us do, but I just wanted to make that point there. Mr. Bachus. Thank you. Let me say this. There have been quite a lot of things, Chairman Bernanke, over $2 trillion of emergency loans to institutions, and the identity of those assets that you have taken back. You have always advocated--as the Secretary has-- committee transparency. I know you are refusing to disclose the names of those institutions or the composition of those assets. Is that a short-term--I will call it a refusal to disclose? Or when do you anticipate letting the public know? Mr. Bernanke. Congressman, I think there has been some confusion about what this involves. Mr. Bachus. Sure. Mr. Bernanke. The Federal Reserve, like all other central banks, has short-term collateralized lending programs to financial institutions. We have always had that. The main difference is we have extended it to primary dealers as well as depository institutions. It is open to any bank that comes to our window. We take collateral. We haircut it. It is a short- term loan. It is very safe. We have never lost a penny in these lending programs. Now, some have asked us to reveal the names of banks that are borrowing, how much they are borrowing, what collateral they are posting. We think that is counterproductive for two reasons: First, the success of this depends on banks being willing to come and borrow when they need short-term cash. There is a concern that if the name is put in the newspaper that such and such bank came to the Fed to borrow overnight, even for a perfectly good reason, that others might begin to worry, is this bank creditworthy? And that might create a stigma, a problem, and it might cause banks to be unwilling to borrow. That would be counterproductive for the whole-- Mr. Bachus. So these are banks which have good sound CAMELS ratings? Mr. Bernanke. Yes. We only lend to good quality banks. We lend on a recourse basis, that is post, post, post collateral, and if the collateral were to be insufficient, then the bank itself is still responsible. We have never lost a penny doing this. I think it is a totally standard practice for central banks around the world, and it is very constructive to provide liquidity to the financial system. Mr. Bachus. Thank you. The Chairman. The gentleman from Pennsylvania. Mr. Kanjorski. Thank you, Mr. Chairman. Mr. Secretary, I heard you use the comment in a response to a question just a little while ago, ``turning the corner.'' It is a quotable phrase, I think. It reminds me of another famous phrase, ``return to normalcy.'' And it sort of scares me if you look at the context of when ``return to normalcy'' was used. I think there is a crisis of confidence that is in the general public and within this body of the Congress. We are trying to figure out, those of us who extended ourselves on the vote for the bailout and the 180-degree change that you made in policy from buying bad assets to injecting investments of equity in banking institutions. I do not fault you for it. It just was an extreme change and rather shocking. And it wasn't your idea. It was the idea of the drafters of the legislation that you set up in the form of a 3\1/2\ page draft and we converted after several weeks to 400 pages. And part of those 400 pages gave you the authority to make that 180-degree change. Now, my problem is, that has happened once. And now suddenly I see other things occurring where you make 180-degree changes in policy. One example is this thing we are struggling with this week, the potential bankruptcy or collapse of our auto industry in the country. And it seems that there is a dual idea, either at Treasury or at the White House, that if you take the $25 billion out of certain qualified funds, then it is necessary and should be used and obviously would avoid systemic risk. The underlying principle: We shouldn't do it unless there is systemic risk. But if you were to use money from the TARP fund, that is unacceptable to the White House and Treasury and should not be done. Now it seems to me, when you are treating the disease, you don't decide where the disease came from. You decide, what is the prognosis, the likely prognosis, and then you take action. So there is a lack of confidence it seems to me, both in this body and in the general population. They want to get some idea, do we have a plan? Where are we going? To say ``turning the corner'' really is not terribly significant. It is no different than what Herbert Hoover said, ``return to normalcy.'' And it is causing fright to the people. Why can this Treasury and this White House not lay out a plan that takes into consideration all the contingencies that will happen or may happen and what our potential response will be, knowing full well mistakes will be made, money will be unreasonably or foolishly expended, but we all tend to agree that if, in fact, we are on the precipice of a disaster or a meltdown, we are willing to take those opportunities. But we do not want to walk into a room of darkness. We really want you to shed as much light in that room before we take the leap over the threshold. So I am sort of calling upon you, can you now give us some indication, do you consider the loss of the American auto industry a significant and systemic risk? Or do you not? If we lose 3 million jobs, what would it cost to make it up? What would be the loss of revenue? And would it be worth spending $25 billion initially to stop that from occurring? And if we do not do that, what is our backup plan, and what do we tend to do? It seems to me that if we are going to build confidence among our constituents, the American people, and confidence within this institution to respond to your requests and the White House's requests just over the next 60 days and then the next Administration, it seems to me we have to be a little more forthcoming. Secretary Paulson. Well, then let me be very, very forthcoming to you. Because the intent of the TARP, when we came here, was to stabilize the system to prevent a collapse. That is what we talked about; we talked about the financial system. And what I have said today here, I was very careful when I said what turning the corner meant. I said I believe that meant that we have stabilized the financial system and prevented a collapse. I was also very clear in saying we have a lot of work ahead of us, and the recovery of the financial system is a lot of work to get the markets going again. So now let's look at the TARP. When we came here, the purpose was that: getting capital in the financial system. We came forward with--the strategy was buying illiquid assets. That was the strategy. The purpose was clear. We worked with Congress, and we wanted those additional authorities. Don't forever believe that we did not want--we were working to maximize the authorities we have and the tools we have. And when the facts changed and the circumstances changed, we changed the strategy. We didn't implement a flawed strategy; we implemented a strategy that worked. Now, to get to your question--and I think what the American people need, in terms of confidence, is a realistic assessment of where we are, sticking with what our objective was to begin with. Now, look at the autos. Again, you haven't seen any lack of consistency on my part with regard to the autos. The TARP was aimed at the financial system. That is what the purpose is. That is what we talked about with the TARP. Okay, now, in terms of autos, I have said repeatedly I think it would be not a good thing, it would be something to be avoided, having one of the auto companies fail, particularly during this period of time. We have asked Congress--you know, and Congress has worked to deal with this. But I believe that any solution must be a solution that leads to long-term viability, sustainable viability here. And so, again, I don't see this as the purpose of the TARP. Congress passed legislation that dealt with the financial system's stability. And, again, you know, there are other ways. And, you know, you also appropriated money for the auto industry and the Department of Energy bill. Another alternative may be to modify that. The Chairman. The gentleman from--who is next? The gentleman from Texas. Mr. Hensarling. Thank you, Mr. Chairman. Mr. Secretary, I think I would like to follow up on that line of questioning. I think what I hear you saying today and what I think I have heard you say is that, as a matter of policy, you do not believe that the TARP funds should be allocated to the big three automakers. But, to be specific, do you believe, under the definition of ``financial institution'' in the underlying legislation, that you are authorized to expend these sums, if you so choose? Secretary Paulson. Congressman, I think I will just leave it where I left it. I don't think this is the purpose of the legislation. Mr. Hensarling. Well, I understand that, Mr. Secretary. Then let me follow up by asking, what is your understanding of what qualifies for a financial institution under the legislation? For example, I read press reports recently that a group of plumbing contractors were applying for portions of the TARP funds in order to refurbish some foreclosed properties, making their case that doing so qualifies them as a financial institution. So, in your mind, since you are essentially in charge of disbursing the funds, can you give me a clearer, black-and- white definition of what a financial institution is? Secretary Paulson. Congressman, I cannot. We have a broad definition. We got very broad authorities and powers. And I think that is appropriate. But we certainly are not going to give money to plumbing contractors, and we are not going to give money to a lot of other people and institutions that are applying. We have had a very clear focus here right now. And, again, I feel a great responsibility, even though the powers may be very broad, and appropriately so, I feel a great possibility to stick with what the purpose is. The purpose is stabilizing and strengthening our financial system. And I have said to you very clearly that I believe that the auto companies fall outside of that purpose. Mr. Hensarling. Chairman Bernanke, the Federal Reserve has been very aggressive in developing new credit facilities, expanded facilities, reducing collateral standards for troubled financial services companies. But, by some estimates, we now have an exposure somewhere in the neighborhood of $2 trillion of commitments by the Federal Reserve. Can you tell us exactly how much exposure is out there, how much money has been lent? Mr. Bernanke. Well, our balance sheet is about $2 trillion, of which--I am guessing now--$600 billion is Treasury's and agencies'. The rest is some kind of credit extension of some type. The overwhelming amount, however, is of two classes. It is either collateralized lending to financial institutions. I described earlier, those are loans made with recourse and on haircut collateral. They are short-term loans, and they are quite safe. We have never lost a penny on one of those. The other type of lending we have been doing is we have been doing currency swaps with some major central banks in order to try to address dollar funding problems in other jurisdictions. There the credit risk is of the Foreign Central Bank, like the European Central Bank, and we consider that to be zero risk, essentially. So the overwhelming majority of our lending is at very low credit risk. Mr. Hensarling. Well, you appear to be going where perhaps no Federal Reserve Chairman has gone before. And this may be a very good thing, given the crisis at hand. But just how much more are you prepared to commit and expose present and future taxpayers' liability to? Mr. Bernanke. Well, I think we need to do what we need to do to keep the U.S. credit system working and to try to create a recovery in the financial system. By law, our lending has to be against fully collateralized, secure backing. We are actually making money in some of our programs. I don't see us as having a substantial exposure. It is a liquidity provisioning process, not a credit or a fiscal process. Mr. Hensarling. At what point do you believe that these activities could undermine your ability to actually, on a prospective basis, impact monetary policies? And at what point might it adversely affect the credit rating of the United States? Mr. Bernanke. Well, the size of the balance sheet has affected, to some extent, the amount of reserves in the banking system, which makes it more difficult to control the Federal funds rate. It was a productive and useful feature of this same bill that we are discussing that included the right for the Federal Reserve to pay interest on reserves to banks, which has been helpful in keeping the Federal funds rate, you know, closer to the target that it otherwise would be. But that is still an issue that we are working on. Again, I see no significant credit risk in what we are doing, and I don't think it will have any benefit or any effect, one way or the other, on U.S. credit rating. That is my assessment. I haven't heard anyone give me a view to the contrary. The Chairman. I thank the gentleman. I do have to note, Mr. Secretary, there was a general response which I heard from several of the members after your last comment that the 15 minutes of fame for the plumbing industry appears to have ended. The gentlewoman from California. Mr. Bachus. Joe has had a rough month, I will tell you that. Ms. Waters. Thank you very much, Mr. Chairman, for this hearing. It is very much needed. And I welcome the representatives from the three agencies who are here today. I come here very troubled about the direction that Secretary Paulson has taken, as it relates to the $700 billion that we made available to him to help stabilize our economy. It is very clear, no matter how the Secretary describes it, that we gave him the authority that you identified when you talked with him, Mr. Chairman, to deal with foreclosure mitigation efforts. As a matter of fact, the purchase of toxic assets was at the centerpiece of this program, because everybody agreed, at that time, that the subprime meltdown was at the epicenter of the dislocation that we were experiencing in our economy. So the fact that you, Mr. Paulson, took it upon yourself to absolutely ignore the authority and the direction that this Congress had given you just amazes me. I just could not believe it when I heard that somehow you had abandoned the whole foreclosure mitigation effort. Now, in addition to that, I want you to know that I and some others worked very, very hard to pass this. As a matter of fact, I was looked at with great suspicion by members of my caucus and the Congressional Black Caucus, in particular, as I sold them this program and told them about my faith in your ability to carry out this program. I was asked over and over again, will the homeowners be helped? What are we going to do about Main Street, not just Wall Street? We spent, and I spent, considerable time selling this program to those who were suspicious and did not want to do it. Now, having said that, again, I am disappointed that you have not utilized the authority and you have just divorced yourself from dealing with that. On the other hand, in your testimony today, you say, ``And we need to continue our efforts to use a variety of authorities to reduce avoidable foreclosures. The government has made substantial progress on that front through HUD programs, through the FDIC's program with IndyMac, through our support and leadership of the HOPE NOW Alliance, and through the new GSE servicing guidelines announced last week that will set a new standard for the industry.'' Let me just relate to this statement. First of all, the HUD programs working under HOPE NOW have not been successful. It is a terrible failure. I convened in my office all of the HUD- backed counseling programs when we went on break, and I sat down and I talked with them to find out what kind of success were they having working with the HOPE NOW program. And, to a person, they have not been able to get in touch with the servicers, in many cases. When they get in touch with them, many of the servicers are inexperienced. They don't have the ability to make good decisions. Nobody knows what formulas they are using in order to make decisions about a homeowner's ability to get a loan modification. And so, they all work under HOPE NOW. So HOPE NOW has been a failure. And even though you identify it as a success, I am not going to challenge you, but I would dare say that you could not cite for this committee the number of modifications that have come through HOPE NOW because you don't know. You probably are not tracking them. And, secondly, if you were, you would know that it is not working. Secondly, the GSE proposal that was recently released you referred to, but it really hasn't gotten underway yet, and it only deals with a small portion of the market. You do refer to FDIC, and you are right, you are right about FDIC's program and what has happened with IndyMac and Chairman Sheila Bair. She has been able to come up with a way by which we could do credible loan modifications, and it has been ignored. Barney Frank and I sent a letter to you and everybody else asking that you just give her the program and let her run with it, because she has discovered how you can do these loan modifications. You can't do them one by one, Mr. Secretary, and get it done. I spent time--I have 26 of them that I am working on in my office right now--and I spend time, and I get a release from the homeowner, and I get on the line with the servicer, and it is absolutely ridiculous. I have had to go all the way to the chairman, for example, of one of the banks, Mr. Stump over at Wells Fargo, to tell him about what his servicing company is and is not doing. They own America's servicing company. I stayed on the line for 1 hour just trying to get to a servicer. They are understaffed; they don't take this seriously. And then when you talk to the servicers, they don't even know enough to be able to evaluate the income of those persons who are trying to get some help. With that, I would like, Mr. Chairman, to go to Sheila Bair and ask her to please unveil for this committee what she is doing and what she has shown can be done with IndyMac modifications that have been so successful. The Chairman. I thank the gentlewoman, but that is going to have to wait until the next round, if someone will ask for it. Briefly, Mr. Secretary. Secretary Paulson. I will be brief, because there is no one whose disappointment-- The Chairman. Mr. Chairman, briefly and substantively. Secretary Paulson. I will just simply say that I know how hard the Congresswoman worked on this legislation and was critical to getting it done, and this has been critical to saving the system. Let me just say specifically to you, Congresswoman, that I have not said no to doing something here in the TARP aimed at foreclosure mitigation. We did not buy illiquid assets for a very good reason. We are going to continue to evaluate and look for programs that protect the taxpayer and are effective. And I just would make one last point here. In designing programs, in broad-based programs, there is a balance to getting money to those who need it as opposed to those who don't need it. And there is also a balance to, you know, not providing a windfall to the banks, and we are working hard on that. The Chairman. Thank you, Mr. Secretary. The gentleman from Alabama has proposed that, if we have unanimous consent, we will ask the Chair of the FDIC if she would respond in a couple of minutes. Is there any objection? Hearing none, I will recognize the Chair of the FDIC to respond. Ms. Bair. Thank you very much. At IndyMac, we became conservator in mid-July, and they had a fairly sizable servicing portfolio with a number of delinquent loans. So we developed a systematic protocol for modifying them. Basically, we use a debt-to-income ratio in the 31 to 38 percent range. We verify income, and if the borrower's income can support a modified loan that includes their principal, interest, taxes, and insurance at 31 to 38 percent of pretaxed income, they get that loan modification. And we lower their mortgage payment through, first, interest rate reductions, then extended amortization and, in some cases, we do principal forbearance as well. We do it on a systematic basis. We run all these loan modifications through a net present value analysis, so we must demonstrate that the net present value of the modified loan exceeds the foreclosure value. And, generally, where there is reasonable income to support a modified loan, these loans will pass the test. These modifications are within the authorities we have under the pooling and servicing agreements that govern IndyMac's servicing obligations. We have been able to do modifications both for IndyMac-owned loans, as well as for IndyMac-serviced loans, including private label securitization. After some strenuous talking and advocacy, we were able to get the investors on board. Even though the modifications were permissible under the pooling or servicing, we briefed the investors and they support the program. I would note that this loan modification protocol was designed to work within the framework of securitization trusts. Our modification plan has been heavily relied upon. The GSEs and some of the other larger originators are also announcing they will conduct systematic loan modifications now as opposed to a loan by loan approach. We have suggested making this program national by providing a financial incentive for servicers and investors to adopt it, along with some loss-sharing. We found, in engaging in dialogue with the investors, that the biggest pushback or the biggest uncertainty for getting these loans modified is uncertainty about the redefault risk. Specifically, what happens if you modify the loan and the borrower still, down the road, redefaults, and then you have to go to foreclosure later as the home prices are going down and the losses are exacerbated? This is a big concern and uncertainty. To address this, some loss-sharing by the government is appropriate. We have suggested that if servicers would agree and investors would agree to support servicers in modifying these loans to the IndyMac protocol, that, if there was a subsequent redefault, up to 50 percent of the losses would be shared by the government. We would exclude early payment defaults, so the loan would have to perform for 6 months before it would be eligible for this loss-sharing program. And very high loan-to-value loans also would have a declining loss-sharing. We also would provide for administrative expenses of $1,000 per modification for servicers. This addresses another impediment to systematic loan modifications. The pooling and servicing agreements generally do not provide for compensation for administrative expenses associated with loan mods, while they do provide it for foreclosures. And even with the systematic approach, you need to go through and verify incomes, so there is some administrative expense involved. An additional incentive of $1,000 per loan mod would be appropriate. The combination of these steps could reduce foreclosures for loans that would be going delinquent through 2009 by about 1.5 million, which is significant. We think it is about a 30 percent reduction in foreclosure rates that we would otherwise see. It is not a silver bullet, but it would be a huge reduction in the foreclosures we are seeing, which are creating significant downward pressure on home prices and adding to broader economic problems. And these measures together promote homeownership. The modifications are available only for owner-occupied properties, and where borrowers have documented income. For that category, there should be a concerted effort to preserve homeownership, which will help our broader economy. The Chairman. Thank you, Madam Chairwoman. I would note that, in the TARP, there is explicit authorization to provide funding for servicers in appropriate context. So we think it is embraced. The gentleman from California, Mr. McCarthy. Mr. McCarthy of California. Thank you, Mr. Chairman. If I could just follow up one moment with the chairwoman. How many loans did you provide in the IndyMac situation, and what was the value overall? Ms. Bair. We had about 40,000 delinquent loans that were eligible. There were 60,000 delinquent loans total, but about 20,000 of those either were investor-owned or had been abandoned or were just too far gone. They were in bankruptcy or the homeowners had given up. So about 40,000 eligible. As I indicated in my written testimony, we will do loan modification proposals for about 30,000 of those 40,000. The letters are still going out. We have completed modifications of about 5,000, with several thousand more in process. We do verify income-- Mr. McCarthy of California. And how long does that take you? What is the timeframe from start to finish? Ms. Bair. We started in late August with the first mailing of 7,000 and have made mailings throughout the months since. When the loan modification proposal goes out, it specifically says, ``This is your current mortgage payment. We are going to reduce your mortgage payment by `X' amount.'' The average is about $380 a month. The proposal will go on to say, ``If you want this loan modification, send us a check for your first month's payment, and sign this form that allows us to document income through looking at your tax return.'' It is a very simple, streamlined procedure. It is easy for borrowers to understand. It is not a general, you know, ``Call us, we are here to help you.'' Instead, it says, this is the loan modification that you will get. We have had a very strong response rate. Of the first mailing we did in late August, over 70 percent of the borrowers have responded. But it still takes time. You still have to document income. You still have to go and look at the tax return, and you have to establish that borrower contact. The income verification takes the most time. Mr. McCarthy of California. Mr. Secretary, I understand you have to modify, things change, and the latest is: no longer planning to purchase troubled assets. Have you taken a look since the last 6 weeks about part of the plan in there, the insurance program? Have you pursued that in any further way? Secretary Paulson. Yes. We have a responsibility to develop an insurance program for implementation. We have gone out for public comment, got a number of proposals and comments, and we are in the process of developing a program there. Mr. McCarthy of California. When do you think that will come back? Secretary Paulson. I can't tell you when it will be completed, but we are working to complete it. And then when it is completed, it will be evaluated. Mr. McCarthy of California. In listening to your statement, you said toward the end part that you found at the beginning $700 billion you thought would be a sufficient amount. Now, within the troubled assets, you don't think that is a sufficient amount of what you have left to pursue going further. And then also, listening to your speech, I think it was November 12th, where you talked about maybe bringing in, attracting private capital, which would create some synergy, which I thought would be very positive, maybe if you could expand on that, if that would be helpful, using the private capital--how it would work, who would receive it, how could you do the matching funding. Secretary Paulson. Well, what I said in my remarks on November 12th was that we needed to evaluate this capital program once it is completed and look at the markets and then be prepared to use another capital program if it is appropriate, and that we were working to develop other programs. A matching program would work along the lines of, if an institution, whatever the scope of the program is, whichever institutions might be eligible for this program, to the extent they can raise a dollar of equity, let's say common stock, then it might be matched by a dollar of preferred. And so this would have the advantages of making the capital of the TARP go further. And it also has the advantages of being a filter, so those healthy institutions that are able to raise money get a match. Now, the disadvantage of a program like that is it doesn't work in a market where capital is not generally available. So that is why we didn't start that way. So there are some advantages and some disadvantages. Another advantage might be that, if we chose to go beyond institutions where there are Federal regulators, and we don't have regulatory capability here at the Federal level or capability of Treasury to make the sorts of judgments that the regulators are making for us now with the banks, that the private market could be a filter. In other words, those institutions that are able to raise capital in the private market would have an ability to get matching funds. But no decision has been made. It is just a matter of programs that we are working to develop. Mr. McCarthy of California. Has anyone approached you about coming forward, outside of the financial industry, being able to do the matching money? I mean, is there capital out there willing to make this investment? Secretary Paulson. Well, there is definitely capital available now for certain institutions and certain industries, no doubt about it. And so we stay close to the market. But, again, you should take away, the biggest part of what I was saying is, given where we are now, capital is more powerful. And you can get more bang for a dollar of capital investment than you could buying a dollar of illiquid assets. And so that is where the focus is. But I think it is premature to be starting another capital program while the current one is not even yet complete. Mr. McCarthy of California. But there would be more capital out there-- The Chairman. I am sorry. We are out of time. The gentlewoman from New York. Mrs. Maloney. Thank you, Mr. Chairman. First, I would like to thank all the panelists for your leadership in stabilizing our financial markets. And I congratulate Chairman Bair on an innovative program to help people stay in their homes, if it was expanded. She testified that 1.5 million people could be kept in their homes without a financial loss to this Nation, therefore helping to stabilize our economy, which is now our major concern. Chairman Bernanke, would you favor her program? Would you use TARP funds to expand FDIC's loan modification program to help stabilize our economy and help people stay in their homes? Mr. Bernanke. Well, first let me say that I agree that we need to do a lot more on foreclosure prevention. It is very important for communities, and it is important for our economy and for our financial system. So I very much commend Chairman Bair and the FDIC for the work they have done, and I think we need to build on these ideas. There are a few points I would like to make. First, I think a very strong point of the FDIC program is that it is simple. And it is run by the servicers rather than by the government, and that is a plus, certainly. There are a couple of design issues that we would need to talk about, I think, in the context of the Congress. Let me mention two. The first is that the FDIC program is focused on affordability, which is understandable, getting the payment down to 31 percent of income. The Congress recently passed HOPE for Homeowners, which takes a different philosophy, which is about principal write-down and getting mortgages out from underwater. Those are two different philosophies, and they depend on different views of what it is that keeps people in their homes. So an alternative approach would be to strengthen the HOPE for Homeowners approach, just to give one option there. The second comment I would make is that--and we have discussed this extensively with the FDIC--addressing the issue of what is the best way to induce servicers to actually undertake these modifications. The suggestion by the FDIC is that the government would ensure some portion of the loss if the mortgage redefaults after it has been modified. And a concern that we have had about that is that, in some cases, that would be a very high cost. If a borrower had a large capital loss in their home, and they paid for 6 months but then moved or left for whatever reason, the government might be liable for $100,000, depending on how much the loss had been. So an alternative would be to consider other ways of subsidizing. But, just in general, I want to say this is a very promising approach, and I think there is lots of interesting things to talk about here. Mrs. Maloney. Thank you. Secretary Paulson and Chairman Bernanke, a large portion of the TARP money has been used to pay off the AIG counterparties in the new AIG deal. And since the government is now running AIG, we should have full disclosure of what they are doing with the TARP money so Congress can appropriately manage our oversight. Will you make public who those counterparties are and how much they received? Mr. Bernanke. Well, I think that information can be made available. AIG had many, many counterparties, banks and other institutions, which they essentially wrote insurance on-- Mrs. Maloney. Thank you. And if we can make it available, if you could get that to the committee, we would appreciate it. Mr. Bernanke. We will see what we have. Mrs. Maloney. That would be wonderful. Thank you. And on the credit default swaps, it is my understanding, following up on your statement, that they were originally like a form of insurance taken out by an investor to insure against loss on securities owned by that investor, sort of like insuring one's home against a fire; the homeowner deserves to get paid by the insurer, should his house burn down. It is also my understanding that a great number of investors in hedge funds bought swaps from AIG when they did not own the securities and were just betting on a default, like taking out an insurance policy on your neighbor's house and hoping that it will burn down so you can get paid. My question with respect to AIG is whether we are using taxpayers' funds to cover AIG's obligations to investors who have suffered real losses, or are we using some of the taxpayer funds to pay the investors who are basically gamblers the billions of winnings that they earned at AIG's expense. I personally do not think that taxpayers' money should be used to help investors who are gamblers to collect their profits rather than taxpayers' funds. They should be used to help those who stand to suffer real economic losses. And, Mr. Bernanke, Chairman Bernanke, can we differentiate now between those two classes of swap purchases? Can we see where they are? Are we paying the gambling type or only those that are real losses? Mr. Bernanke. Congresswoman, I don't think you can really differentiate. People use credit default swaps to hedge all kinds of positions. Even if you don't own the underlying credit, you might be hedging against the stock or some other thing that you own, or maybe you have taken a position in that particular industry. And, moreover, these are legal contracts. If they are not paid, then the company is in default, and there is a bankruptcy process. And the entire purpose here is not to pay off the creditors per se, it is not to save AIG per se. It is to avoid the contagion of losses and crisis that would occur if this huge financial institution with large exposures across the world were to fail and not to make good on its financial contracts. The Chairman. The gentleman from Texas. Dr. Paul. Thank you, Mr. Chairman. My question is directed to Chairman Bernanke. You know, for many years, the Austrian free market economists have predicted all these problems would come, and they were certainly correct in everything that they said. Of course, they are not very satisfied, including myself, with the so-called solutions, because it looks like we are spending a lot of energy and a lot of money trying to patch a system together that is unworkable. So we have Congress spending a lot of money; we have Treasury very much involved in trying to pick and choose which worthless asset that we are going to buy. And, of course, the Federal Reserve is involved in injecting trillions of dollars that nobody seems to be keeping track of. But what we are failing to do, I think, is to recognize that the system no longer works. But I can understand why we do this. Because, you know, if Congress couldn't do this and if the Fed couldn't do this and the Treasury couldn't do this, it would make us all irrelevant. And instead of looking at the causes of this and then realizing that the solutions aren't going to be found here, we have to make ourselves feel pretty important. But I think there is another reason why we think we are pretty important. It is because, in a way, our interference in the market corrections that tried to come about since 1971 seemed to work. I mean, the failure started in 1971 with a system that had no way of automatically correcting the balance of payment in the current account deficits. And that is where the problem has been. The economists, whether they were left, right, or middle over the last several decades, have always said this current account deficit is a big problem. Now it is totally out of hand. So here we are, struggling with all these rules and shifting back and forth and really getting nowhere. But my question is: When we come to the full realization that the system is unworkable, what are we going to do? What have you thought about doing? Already we see talk in the newspapers, we see articles about a new international world reserve currency. And, to me, that is pretty important, because the fiat dollar reserve system is not going to work anymore. And that is the information that we have to accept and decide what we are going to do with in the future. This is not new in history. Currencies have failed, financial systems have failed. And, generally, to restore the confidence that everybody is talking about, they usually have to go back to a currency with integrity to it rather than just fiat money. And, you know, the stage is there; it is not impossible. Already the central banks of the world still own 15 percent of all the gold that was ever mined in all of history. So they hold on to this gold for some reason. And, therefore, something has to give, or are we going to keep trying to waste more money and time patching this system together? Just last week, there was a report that Iran purchased $75 billion worth of gold, took their reserves out of Europe, bought gold, and put it in Asia. So is that a sign of the times, and is that moving on? Now, my question is, in your meetings, and you had a meeting just recently with other central bankers, does this thought come up, about a new international world reserve currency? And, if so, does the subject of gold ever come up? How do you restore the confidence? Have you recently had conversation with any central banker? And is there a move on to replace the dollar system? Because the dollar system is essentially declared dead because it is not working. But this, indeed, was predictable because of these tremendous imbalances that were never allowed to be corrected, and they were always patched up. We always came in. We would spend, we would inflate, we would run up deficits. And, since 1971, we have been able to correct these problems. Could you tell me what kind of conversations you have had regarding a new reserve currency? Mr. Bernanke. Yes, Congressman. I don't think the dollar system is dead. I think the dollar remains the premier international currency. We have seen a good bit of appreciation in the dollar recently during the crisis precisely because there has been a lot of interest in the safe haven and the liquidity of dollar markets. And the Federal Reserve has been engaged in swap agreements to make sure there is enough dollar liquidity in other countries because the need for dollars is so strong. So I think the dollar system remains quite strong. I do agree with you very much on one point, which is about the current accounts. The current account imbalances have proven to be a very serious problem. It was, in fact, the large capital inflows from those current accounts which created a lot of the financial imbalances we saw and have led to some of the problems we are seeing. And one of the silver linings in this huge great cloud is that we are seeing some improvement in greater balance in our current account deficits. Dr. Paul. But does the subject of a new regime ever come up? Mr. Bernanke. No, it doesn't. Dr. Paul. And does the subject of gold ever come up in any of your conversations? Mr. Bernanke. Only in terms of the sales that the central banks are planning. The Chairman. The gentlewoman from New York, Ms. Velazquez. Ms. Velazquez. Thank you, Mr. Chairman. Gentlemen and gentlewoman, while we now spend more than $1 trillion on the bailout, a recent report shows that foreclosures increased 5 percent last month. We also know that 3 million more are likely to face foreclosure in the very near future. In light of the Fed's extensive options on taxpayers' expense, can you tell us why foreclosures are still increasing? Secretary Paulson. Okay, I will--the question is, why are foreclosures still increasing? Ms. Velazquez. Yes, sir. Secretary Paulson. I will say to you that it is hard to imagine, no matter what program we have, that we are not going to have a good number of foreclosures when you look at what we have gone through here and look at the excesses and look at the shoddy lending practices. Foreclosures take place for a number of reasons. Some of them take place because speculators no longer want to stay in their home. But I think the question to really ask, which is one that we are all asking, is, why are foreclosures taking place when people, homeowners want to stay in their home and they are willing to make an effort to stay in their home and they can afford to stay in their home? And this is, I will tell you, a-- Ms. Velazquez. Sir, I am the one asking the questions here. Secretary Paulson. Well, I thought you asked me a question. I was trying to answer it. Ms. Velazquez. So let me ask you, to what extent are foreclosures causing our continuing economic instability? What is the relationship, Mr. Bernanke? Mr. Bernanke. Well, they are both a symptom and a cause. Now that the house prices are falling and that the economy is weakening, people don't have the income to make their payments, the house foreclosures are going up. So that is a symptom of the downturn. But it is also a cause, because it is weakening house prices, it is hurting the value of mortgages, which hurts financial institutions. So it is part of the mechanism which is causing the economy to weaken. Ms. Velazquez. So can you tell me how much of the more than $1 trillion spent by the Treasury and Fed in the bailout has gone to prevent individual foreclosures? Mr. Bernanke. Where do you get the $1 trillion from? There has been $250 billion by the Treasury, and the Fed hasn't spent any money. We only lend money. Ms. Velazquez. Okay. So, of the money that has been lent, how many foreclosures have been prevented, individuals? Mr. Bernanke. Well, as the Secretary has described, there has been a whole number of programs, including HOPE for Homeowners and so on. But I also agreed with an earlier questioner that I think we need to do more. Ms. Velazquez. You know, the trouble here, sir, is I supported the bailout package. I agonized with that vote. Still, Main Street America, the people who are watching this debate here or this discussion, they are still waiting to hear an answer as to how this is benefitting them, how this is benefitting Main Street America. You have the silver bullet, it seems to me, that just by giving a blank check to financial institutions--this is a partnership, this is taxpayers' money that is providing capital infusion to financial institutions. But we expect from the banks to do more to help families keep their homes. And so we are giving this money or lending this money without any strings attached to it. Secretary Paulson. Let me just say three things here. First of all, the key to turning around the housing situation and avoiding foreclosures is going to be to keep lending going. If the financial system collapsed, we would have many more foreclosures, number one. Number two, you are seeing a number of big banks take extraordinary actions, and they have announced them, and you could just tick them off, announcing actions they are taking. So they are doing things, number one. And number two, I would say that I believe that our actions to stabilize Fannie Mae and Freddie Mac, who are the biggest source of home financing in America today, have been critical. So there have been real steps that have been taken that make a difference. More needs to be done. I hear your frustration; more needs to be done. And we are going to keep working on it. Ms. Velazquez. Yes, you hear my frustration. And I hope that you understand the pain and the suffering of so many homeowners in this country who are losing their homes. So it is just not enough to say to the banks, ``Here is the money. And, by the way, I trust you.'' Because they are not lending; they are not lending to small businesses. They are not working on a loan modification strategy. You just told Mr. Frank here that you are examining strategy to mitigate foreclosures. You don't have the strategy to mitigate foreclosures; you are examining. Chairwoman Bair does. Are you willing to support her plan? Secretary Paulson. What I have said very clearly is that the IndyMac protocol is an excellent protocol. We, as a matter of fact, with the GSEs, if GSEs, with their whole guidelines, endorsed the plan, what they have done, which I think will become the national model, is based upon that plan. And I said that I am looking very hard to find programs to put into the TARP that I think strike the right balance between protecting the taxpayer and are effective. The Chairman. Without objection, I would ask for unanimous consent for 1 minute. Mr. Bernanke, you said HOPE for Homeowners, which this Congress passed, has some problems, and we were taking a first cut at it. I just want to advocate what the chairwoman has done and IndyMac has been superb. And the leadership elsewhere is important. They were different models. As interest rate reduction, as pension reduction--let 100 flowers bloom, there are different motivations and different impacts. And there were some things about HOPE for Homeowners which you have told us and we agree need to be modified, some of which can only be done statutorily. But the TARP lets you do that. So I would recommend, Mr. Secretary, work together on another model, not in competition with, but give the modifications in HOPE for Homeowners through the TARP that help work that out. Because these are not competitive; they are additive. I thank the members. The gentleman from Ohio. Mr. LaTourette. Thank you, Mr. Chairman. Mr. Secretary, I am going to let my colleagues be global and I am going to be very parochial and talk about one bank in particular. And that is that my frustration and, I guess, anger that the TARP money has been used to--about to be used to purchase National City Bank in Cleveland, Ohio, by PNC in Pittsburgh, Pennsylvania. It was never my understanding that the TARP program was designed to pick winners and losers. I was struck by Chairman Bernanke's observation that his window is open to everyone. I am going to detail for you in hopefully 4 minutes and leave a minute to respond. While the Treasury window was never open to National City Bank, I wrote to you on the 30th of October; you were kind enough to send me a letter back yesterday. The last graph basically says--the letter says you haven't received an application from National City Bank. The last graph says, and, by the way, the documents that you want are in the possession of OCC, so please talk to OCC. We talked to the OCC staff. They said, since you sent a letter to the Secretary, we really don't have time to respond to your request for documents. But it is funny because, on October the 28th, I did get a letter from the Comptroller of the Currency, Mr. Dugan, who expressed umbrage that I would dare suggest that he was a lawyer for PNC in private life before he became the Comptroller of the Currency. But he says that you make the decision on these applications, not him. And, by the way, he wished he could tell me about these communications in this transaction, but it is a secret. National City Bank is one of the only--I think the only top-25 bank in the country that is not permitted now to participate in the TARP program. It is my understanding that it is the only bank in the country that is being purchased with TARP money. And if you look at PNC's potential merger and acquisition agreement, they are not only going to get their share, which is about $4 billion, but they have been told by the regulator they are also going to get National City's share, about $4 billion. If you combine that with the tax changes that were made on September the 30th as to how losses are treated by acquiring banks, they are going to get an additional $5 billion. And so, basically, they are going to be able to purchase the 7th-largest bank in the country for free, a bank that has existed since the American Civil War, survived the Great Depression, can't survive 8 weeks of the TARP. I just want to go through with you the timeline that was in the Wall Street Journal. I ask unanimous consent that it be included in the record. The Chairman. Without objection, it is so ordered. Mr. LaTourette. Peter Raskind, the CEO of National City Bank, talked to Mr. Dugan, and said he wanted to apply for TARP. He said, ``Well, I am happy to do that, but first I want you to explore all M&A avenues.'' He says, ``Well, we have been doing that, but I want to apply for TARP.'' He said, ``Just keep doing it. Trust me.'' Minutes later, as Mr. Raskind was to go into a meeting with his board of directors, he gets a telephone call from Richard Davis, who is the CEO of U.S. Bancorp. Mr. Davis says, ``After talking with the OCC and other Federal regulators, we have a new interest in buying your bank. And the regulators have indicated to us, have assured us that the government would provide U.S. Bancorp with capital to finance a takeover. And we will buy you for $1.10 a share,'' which was less than half of what it was trading for on that particular day. Mr. Dugan remained a constant presence, and his tone became increasingly assertive with National City Bank. ``An M&A deal is your only alternative,'' he told Mr. Raskind on more than one occasion. Mr. Dugan warned National City Bank not to expect to take advantage of any new government programs. When Mr. Raskind said, ``Wait, I thought this was open to everybody,'' he said, ``That is all discretionary, and right now you shouldn't be comfortable that it is available to you.'' He said, ``I thought it was available to all banks.'' ``No, it is discretionary.'' That evening, the board met. They felt that they were being bullied. Talks continued with U.S. Bank under Mr. Dugan's supervision. And then, all of a sudden, PNC comes in at this moment in time when they are aware that they can get free money from the TARP to buy another bank. And just a couple of analysts, I ask that these be submitted for the record, as well. A guy named Mike Mayo, who is a pretty renowned analyst of banks and their values, writes for Deutsche Bank that, ``National City Bank maintained a peer- leading Tier 1 ratio of 11 percent. PNC was substantially less than that.'' Another fellow, writing for Citibank, indicates under the section, ``Why Sell?'' on October 24th, he says, ``So on face value there was no immediate catalyst that would force them to sell, since National City had sufficient capital and liquidity. In our view, it is possible that there was a change in management's outlook or a push from the government.'' Well, the change in management's outlook is also in an October the 25th article in the Cleveland Plain Dealer that said that Peter Raskind went to his board, and he laid out a scenario that, when he wasn't even able to apply, not even able to apply for TARP, the board was presented with a downside scenario of deteriorating viability so horrifying that the bank was almost forced to act now; and not only to act, but to sell its very solid, well-capitalized business at a significant discount. Mr. Chairman, I would ask for just 1 additional minute. The Chairman. We would ask for 2 additional minutes. The committee has been accommodating. This is very important to the gentleman. So if the gentleman can wrap up the question, and we will have time for an answer. Mr. LaTourette. I am going to wrap up the question. And so the question is--there are two questions that I want to ask you and give you time to answer. This isn't WaMu, and this isn't Wachovia. As I indicated, National City's Tier 1 capital ratio of 11 percent was amongst the highest of any bank in the United States. They had $18 billion of cash, more than their cash requirements. PNC was at 8.2 percent. My question is, why did you deny assistance to National City Bank, affecting 29,000 employees in 9 States? But first, I would like to ask and make a request of you that the legislation--there is only one place that the OCC is in that 300 pages, and it said that you are going to act in consultation with the OCC. In my mind, you don't have an application because the OCC wouldn't send you one, wouldn't take one from National City Bank. And so I am asking you, Mr. Secretary, on behalf of those 29,000 people and the City of Cleveland and 9 other States, will you look at this under the authority that you have, not Mr. Dugan, and reconsider that decision? And, if not, why did you do it? Secretary Paulson. Okay. Let me--you took a long time for the question; it is important. I would like a little bit of time-- The Chairman. This is of sufficient importance that we will not be constrained here. I will announce to all the members, this panel has to leave at noon. At noon, we will take the next panel, and we will begin the questioning on our side where we left off. So we won't go back to the beginning. Mr. Secretary? Secretary Paulson. Now, let me, before getting into the specifics, let me just say that, in my experience, that I have seen institutions that have capital, that it meets certain ratios, but where the market loses confidence in them and they fail or are about to fail because there are questions about the quality of the assets and the quality of the mortgages they hold. And so now I am going to get to the program and the way it is designed and get to your question. We do have a program--and you saw it with AIG--we have a program to make investments if there is a systemic issue. If there is an impending failure, we can step in. But this program, which we designed under our authority, this program was designed for healthy banks. And what we did is we set out criteria, but the first criteria was that banks needed to apply to their regulator and applications needed to come from the regulator with a recommendation. We don't have regulatory capabilities at Treasury, but we have outstanding Federal regulators. Mr. LaTourette. Mr. Secretary, I know you are answering my question, but here is the problem. If the OCC tells the CEO not to file an application, you never get to that point. And let me just say one other thing. I mean, I get the fact that there can be other factors. But the fact of the matter is the regulator told National City Bank to raise $3.5 billion of private capital. They raised $7 billion. They are one of the best-capitalized banks in the country, and you guys wouldn't even take an application. Secretary Paulson. Let me then make two other points here, because you are dealing with consolidations. I have heard a lot about using capital from the TARP for mergers. And, again--and I am just not going to deal with this--I will make the general point that, if there is a bank that is in distress and it is acquired by a well-capitalized bank, there is more capital in the system, more available for lending, better for communities, better for everyone. No doubt about that in my mind. And so, when we get--and the applications which come to Treasury, when it will come to Treasury--we have not received an application for capital from either of the banks you have mentioned--when it comes to Treasury, we will look at it and act on it. But, again, I just can't emphasize enough that this program, to me, it was very, very important on this program that--this is general; I am not speaking--that it not be used to prop up failing banks or banks that might fail, that this be used for healthy banks. And I looked to the regulators. As a matter of fact, we designed a process with the regulators. They would look at the applications as they would come in. And there is even a peer- review board with the regulators. And they submit them to us, and we make a decision. Mr. LaTourette. Mr. Secretary--and thank you, Mr. Chairman--the analyst that I referred to from Citicorp indicates that TARP changed the landscape. Because National City Bank was able to survive, but because it was not on the list, it was leaving itself open to possible unfavorable outcome, to market perception that it was not a survivor. And my question was--I appreciate your general answer--will you personally look at the National City Bank situation and discuss it with Mr. Dugan? Secretary Paulson. Well, I will tell you I have great confidence in John Dugan, and I am very happy to discuss it with him. I have regular conversations with him. I have great confidence in his judgment. And I believe, based upon generally what I know, that he made the right decision. But I am perfectly happy to talk about it with him some more. Mr. LaTourette. Thank you. The Chairman. The gentleman from North Carolina. Mr. Watt. Thank you, Mr. Chairman. I am not going to go down the same path, but I would just express to the Secretary that there is a strong feeling out in the public that a number of the decisions that have been made have had the effect of not only picking winners and losers, but influencing who is a winner and is a loser. And that is something that we have to deal with every day. I am dealing with it in my own community, not in the sequential fashion that Mr. LaTourette is, but there are a number of people in my community who believe that, had a different set of decisions been made regarding Wachovia, Wachovia would still be a viable institution today. But I am going to leave that alone. It is a perception problem that, unless we are provided the kind of information and assurance that people are looking at it and looking at it with integrity, we can't reassure the public about. That is not a question, Mr. Paulson. Secretary Paulson. I would just say with that-- Mr. Watt. That is not a question, Mr. Paulson, because I don't even know how to frame a question that will get to--but I think you all need to deal with the reality that the perception is out there and that we are having to defend these decisions. So I hope you will make the decisions. $24 billion is the figure that I have heard used to do the FDIC foreclosure prevention program. How is that figure calculated? What does that figure consist of, Ms. Bair? Ms. Bair. That is based on a no-greater-than-50-percent loss share for loans that are modified to a specific affordability metric and then end up redefaulting later on. We are assuming a 33 percent redefault rate, which we think is a fairly conservative assumption. The government would take 50 percent of the loss between the net present value of the modified mortgage versus whatever the recoveries were at resolution. The mortgage might end up going into foreclosure as a short sale, or it might be that it would be remodified or refinanced. Mr. Watt. Okay, who would get--I mean, where is that money? Ms. Bair. That money would go to the-- Mr. Watt. Is it an expenditure? Ms. Bair. It is. Mr. Watt. Does it go to somebody? I guess what I am trying to figure out is Mr. Paulson, Secretary Paulson, apparently doesn't think that is part of stabilizing the financial system, as he reads the language. And I have the bill right here in front of me. That is what it says, ``stabilizing the financial system.'' How does that stabilize the financial system if we put up $24 billion? Ms. Bair. It provides financial incentives to get loans modified that are not being modified now that are going into unnecessary foreclosures. That is the bottom line. Mr. Watt. Okay. And how is that less important, Secretary Paulson, than basically telling some banks, you will take an equity investment, some of whom, really, didn't even have any interest in doing that and certainly didn't have the need for it, according to their own public statements? You have $24 billion, as I see this list here, almost coming into banks in North Carolina, at least some of whom said, I don't need this money. How is that more important than what we have described here about helping stop the cascade of foreclosures? Secretary Paulson. I think I have been pretty clear. I believe it is important to stop the cascade of foreclosures, and I think the key-- Mr. Watt. Let me rephrase the question. How does that stabilize the financial system more than stopping the cascading of foreclosures under a program that is projected to cost $24 billion? Secretary Paulson. I would say that these are--you are dealing with apples and oranges here, and the apple is a very, very big apple. Because the step that was taken to stabilize the system-- Mr. Watt. The question I am asking is, is the apple more important than the orange, or is the orange more important than the apple? Secretary Paulson. I would say that the forest through the trees here was--the important step was the step that was taken to stabilize the banking system, and the combined step taken by-- Mr. Watt. And how does putting money in a bank that didn't ask for it help to stabilize the banking system? Secretary Paulson. Well, okay, to answer that question, there are no banks, when the system is under pressure, unless they are ready to fail, that are going to raise their hand and say, please, I need capital; give me some capital. What happens when an economy turns down and when there is a crisis, they pull in their horns. They say, I don't need help. They don't deal with other banks. They don't lend, and the system gets ready to collapse. So the step that we took was very, very critical, and to be able to go out and go out to the healthy banks and go out before they became unhealthy and to increase confidence in the banks and of the banks so that they lend and that they do business with each other, that was absolutely what we were about. And when we came here to-- The Chairman. Mr. Secretary, we need to wrap it up. I won't say we got a little metaphorically confused there, but I think the summary is that our accusation is that you can't see the orange grove for the apple trees. The gentlewoman from Illinois. Mrs. Biggert. Thank you, Mr. Chairman. First of all, I would like to associate myself with the remarks of Ms. Waters as to the problems of the loan modifications. But I would really like to turn to another subject that the gentleman from California, Mr. McCarthy, addressed briefly and that is that section 102 of the TARP authorized the Treasury to set up an insurance program, and this is similar to the program that I think that many members of this committee and Members of the Congress really felt that the self-funded insurance program would be a better alternative to the purchase of the assets and the recoupment, because I think that this alternative minimizes the risk to taxpayers, and it charges premiums to the financial institutions and begins to determine a value for those toxic assets that are on the books of the financial institutions. So, Secretary Paulson, you said that you have had the comment period. I would like to know, how many staff do you have dedicated to setting up an insurance program and evaluating the public comments that you recently received? Secretary Paulson. I will have to get back to you on that, because I don't have, offhand, how many staff. We have, not a large staff, an overworked, hard-working staff, and I can tell you that we will develop a plan, because the legislation asked us to develop a plan, and we will develop a plan. Mrs. Biggert. Okay. Then, have you received the Aon proposal? We have someone testifying for the Council of Insurance Agents and Brokers in the second panel, Mr. Findlay. Have you reviewed that proposal, which was submitted, I think, in the comment period? Secretary Paulson. Yes. I would say my staff currently is, as I am sure we have either reviewed or are reviewing the proposal. I have not personally reviewed the proposal. Mrs. Biggert. How, then, do you propose that we determine the value of these toxic assets or the mortgage-backed securities or their potential future mortgage foreclosures? Do you think that this insurance program would help to do that? Secretary Paulson. Well, an insurance program--there are a number of programs that have the potential to help determine value. And the insurance program would be, a properly designed insurance program has the potential to do that. Clearly, the illiquid asset purchase program has the potential to do that. We have a--I might also add, that as banks are well capitalized and they are able to write down and sell assets, and the marketplace, market forces can also help determine the value. Mrs. Biggert. Well, it seems like we haven't gotten anywhere. And yesterday, Chairman Frank, who talked to you, said yesterday that the insurance program is unlikely to be implemented because it would do little to restore the liquidity to cash-starved banks. But have you considered, then, the actuarial valuation markets, models, proposed for the insurance program? Isn't that one way to do it? Secretary Paulson. This is going to be a big part of what we are going to need to do the develop the program, and we are doing a lot of work developing a number of programs, and this will be one that deserves careful consideration, and we need to develop the best program possible. Mrs. Biggert. Do you agree with Chairman Frank that it is unlikely that this program will be implemented? Secretary Paulson. I am not going to speculate about what is likely to be implemented in the future until we understand the program. And if we can develop a program that is a good, workable program, then we will comment on it at that time. Mrs. Biggert. Have you considered any of the proposals by the credit bureaus to drill down into those toxic assets to determine likely mortgage loan default rates? Secretary Paulson. I have not personally done that, no. But, again, we have a group of people who have been working very hard analyzing many of these issues. Mrs. Biggert. All right. Then, Chairman Bair, do you think that if there is a compulsory loan modification provision in an insurance program, that this would help to make sure that the loan modifications are effective and are made? Ms. Bair. That is something I would want to take a look at. We have based our program on the section 109 authority, outside the section 102 insurance program. But I would happy to talk with the Secretary about what they may be contemplating. There may be some synergy between the two. Mrs. Biggert. Thank you. I yield back. The Chairman. The gentleman from New York. Mr. Ackerman. Thank you, Mr. Chairman. During times of a national crisis, and we seem to be deeply in the midst of one, people look for leadership in which they can place confidence. Unfortunately, I think, our President is not in the position to provide that right now. And people are looking more strongly in the direction of yourself, Mr. Chairman, Mr. Secretary, Madam Chairman, and to the Congress. It seems to me that with what has been going on very recently, we seem to have a crisis in confidence. You came to us with a plan and made a strong case for over $700 billion based on a particular premise, and we, in turn, listened and asked some questions and, in turn, were asked questions by our constituents. And we answered those questions and basically sold them the plan. Not everybody agreed that we were doing the right thing. Some of us here voted for it not sure if it was the right thing but confident that it was the direction we had to go, and then suddenly woke up one day to find out that $700 billion was going to be used for a different plan. It appears that you seem to be flying a $700 billion plane by the seat of your pants. It seems to be that this is, at least to me, and maybe it is the right direction to go, but it seems to be the second largest bait-and-switch scheme that history has ever seen, second only to the reasons given us to vote for the invasion of Iraq. I would like to know what the considerations are that you might have had in other ways to spend the $700 billion. Is there a plan ``C'' or ``D'' that you considered and set aside because now plan ``B'' is better than plan ``A,'' and what those plans might be so that we might have some input into them? And what is your impression of the authority you have with regard to those other plans? Also, I would like to know, because choices are being made, what would be the impact on the economy if the automobile industry was allowed to fail? Certainly choices were made back a month or so ago when a decision was made to allow Lehman Brothers to fail, and perhaps there is some regret that that decision was made. I am sure, if we allow General Motors and the auto industry to fail, that there will be a lot of concern afterwards as to why we allowed that to happen. And if the airline industry, for example, would be teetering on the verge of failure, would we allow that to fail as well? Secretary Paulson. Okay. Let me, first of all, take your questions or comments one at a time. First of all, when we came to Congress, we came to Congress saying the financial system was on the verge of collapse, and there was clearly a need to recapitalize the system. The strategy we laid out to do that was a strategy to buy illiquid assets. During the 2 weeks--and I commend Congress, this is not a complaint on my part, giving us the authority as quickly as they did. But during the 2 weeks, the situation changed materially during that 2-week period. And I went through that in my-- Mr. Ackerman. What was it that changed again? Secretary Paulson. I went through that in my testimony. We had the situation worsen in the United States, and we had a couple of banks fail or approximately fail. We had a whole series of banks in Europe go down. We had the credit spreads widen further and further. The situation froze up to the point that there was a market, serious change. Mr. Ackerman. And did we not anticipate that might happen? Secretary Paulson. We certainly did not anticipate everything that was going to happen. But, what we did anticipate, we got legislation that was broad enough in the authority, so that what we came out--I think the way you should be looking at it is we gave, we came and we said there is a real crisis; there was a real crisis. We got the authorities we needed, and we went to the heart of the problem. And the heart of the problem was the financial system and capital, and we used a strategy that would work more effectively, and it has worked, number one, in stabilizing the system. Now, you have asked, what were the other things that we were considering or have considered, plan ``B'' or ``C'' or ``D?'' And there are only--to deal with something in the magnitude we are dealing with, there has only been one trade- off we have made. And the trade-off we have made is between capital, which goes farther per dollar of TARP investment, and purchasing illiquid assets, which we would have to do in big size. We are also looking at a variety of other programs but don't involve that big trade-off. I have talked about a program to use a small amount of TARP assets to make it possible for the Fed to provide liquidity to consumer credit. We have talked about the future capital programs. Now, with regard to the automotive industry-- The Chairman. Quickly, Mr. Secretary, please. Secretary Paulson. Okay. Let me also say, for the record, strongly, there was no authority, there was no law that would have let us save Lehman Brothers. We did not have the TARP then. The Fed did not have any authority to lend if it was not properly secured. So, now, with regard to the automotive industry, this Administration has made it clear that, through modifications to the Department of Energy bill, 136, we believe that there is a path that leads towards a viability in the auto industry. And we think these funds should be tapped only if they lead to a long-term viable solution. And, no, we do not believe that it is desirable to have an auto company fail with the economy in its current situation. The Chairman. The gentleman from Texas. Mr. Neugebauer. Thank you, Mr. Chairman. Secretary Paulson, under the TARP plan, would captive finance companies be eligible for TARP funds, particularly for the automobile industry? Secretary Paulson. Well, there are broad powers under the TARP to make captive finance companies eligible under the TARP. Under the current plan we have outlined, the only capital plan we have in place, they are not eligible. If we were to implement the program we are working on with the Fed, where we put a small amount of money into a Fed liquidity facility, that facility could provide support for triple-A auto paper, and so that is one option that is being looked at. Mr. Neugebauer. Chairman Bernanke, you have allowed nontraditional entities to come to the Fed window currently, is that correct? You said that in your testimony? Mr. Bernanke. We have opened the window to primary dealers as well as banks. Mr. Neugebauer. So, captive finance companies currently, do you have the authority to allow captive finance companies to come to-- Mr. Bernanke. If we invoked our ability to lend under unusual and exigent circumstances, and if we were fully collateralized, we would have that power. We have not made a decision to do that. Mr. Neugebauer. But you could do it? Mr. Bernanke. Yes. Mr. Neugebauer. Now, then, to the three of you, I wrote you a letter, I think, on Friday, and one of the concerns that I have is that we keep focusing on $700 billion. I think in your testimony, just a while ago, or you answered a question, Chairman Bernanke, that your total assets now are about $2 billion--I mean, $2 trillion, BETs. A year ago, you were about a trillion, is that correct? Mr. Bernanke. Eight hundred billion, something like that. Mr. Neugebauer. So you have doubled, more than doubled the size of the Federal Reserve, really, in the last 6 months, is that correct? Mr. Bernanke. In order to extend credit to currency swaps to allow dollar liquidity to be provided around the world, to allow access to banks and primary dealers, to provide that security, that liquidity backstop, and to strengthen our financial system, yes, we have done that. Mr. Neugebauer. If the OCC had a bank outside the Fed growing that fast, I think there would be some concern. But the question I have, is anybody internally, Secretary Paulson with the TARP programs and some of the other things that you have done; Chairman Bernanke, with the things that you are doing; Chairman Bair, you know, what is our contingent liability, because this isn't a--we are not $700 billion into this. You know, when I just start doing a little bit of rough accounting, it is over $2 trillion. Maybe it is a bigger number than that when we look at what the potential liabilities in Fannie and Freddie and what you are doing on commercial paper, what are some of the things that Chairman Bair has done to facilitate the taking over the banks--I think the American people, I think this Congress, I think this committee needs, we need a better accounting of where we are in this, and not just be coming in here and saying, well, we need $24 billion more for this and $50 billion for this and $100 billion for this. I mean, we really have to have--and I am hoping that I can get a fairly quick response to my letter from each one of you as to where you think we are. Because, certainly, hopefully, you are sitting in, as you are making these decisions and looking at, you know, what is a potential downside here? Obviously, we know, we hope, what the upside is in the economy, and these markets start responding, but I wondered if any of you had an opportunity to put some numbers together before your testimony today. Mr. Neugebauer. Well, let me make a general comment, which is, I know what the downside was, and the downside was the collapse of the financial system, which would have wreaked huge havoc on this economy for many years. Now, part of the issue that we have in answering the question precisely is because these programs are very different. For instance, let's just take a $250 billion bank capital plan. That is not an expenditure; it is an investment. I think it would be extraordinarily unusual if we, the government, did not get that money back and more. And so that gets accounted for as an expenditure against the deficit. That will be coming back in, for instance. The Fannie and Freddie, that is a, you know, there is, the government is standing up there for the credit of those entities and making good on what I believe our responsibilities were and what investors in this country and around the world understood our responsibilities to be, in that situation. The liquidity programs by the Fed are not expenditures, but they are impacting the markets, and right now, for instance, this year, we will issue roughly $1.5 trillion of treasuries, roughly 3 times than we ever have before. Now, right now, there is huge demand for those securities, huge demand all over the world. But that is to fund liquidity programs that are shorter in duration. Ben, I don't know, what about you? Mr. Bernanke. Only that our programs are mostly short-term lending and well collateralized. The Chairman. We are over time. Mr. Neugebauer. Well, I think--my intention is, I want to follow up as you submit this response to me. Any time, and we all know this, any time you are making an investment, whether you call it an expenditure or investment, now, we also have to ascertain, what is the risk, and what is the potential downside loss of that? So I understand what the economic downside was, but I think we need some numbers of kind of where we are in this process. The Chairman. The gentleman from California. Mr. Sherman. Thank you, Mr. Chairman. I would like to associate myself with your statements, particularly those dealing with the mortgage foreclosure prevention and the use of TARP funds to achieve that goal. Earlier in our discussion, there was discussion of the intent of the Secretary of the Treasury and the intent of Members of Congress being balanced in interpreting this law. I want to point out that, under the Constitution, Congress writes the law, and legislative intent is the only intent that should govern the construction of a statute. I have a question for the record that I hope all three of you would respond to, and that is whether you will use your influence over banks to remind them of how important it is to lend to creditworthy projects being done by charitable organizations? The work of charities is very important during this recession, and all too often, banks refuse to lend or refuse to provide letters of credit to charitable projects because they are concerned about the bad public relations that they would have if they ever had to foreclose. I think it is important that they get some bad public relations for refusing to lend and some pressure from you folks in achieving that objective. Secretary Paulson, I want to commend you for buying preferred stock rather than toxic assets. First, your approach ensures that we are only bailing out U.S. institutions and not buying toxic assets that were in safes in Beijing on September 20th. Second, you are buying a much more valuable asset. Any 9th grader would tell you, any 9 year-old would tell you that a toxic asset is less valuable than preferred stock. But I can't commend you on accepting half the rate of return and one-sixth the number of warrants that Warren Buffet was able to get on similar transactions. Our children will have a larger national debt because we have been so generous in the terms on the preferred stock. I would also point out that, as Mr. Secretary, this would bother me a lot except I wasn't in favor of buying toxic assets, but you have basically testified here that October 3rd, you had already decided to change your mind and not buy toxic assets and instead buy preferred stock, and you didn't tell Congress immediately before our vote that you would be going in a different direction. Perhaps I have misinterpreted your comments, and, if I have, I am sure the record will reflect that if you hadn't made that decision until after our vote on October 3rd. I gather from your facial expression that is what you are meaning to say. Secretary Paulson. Absolutely. Mr. Sherman. Then thank you, let me move on. Secretary Paulson. This was a world changing-- Mr. Sherman. Then thank you, let me move on. Secretary Paulson. And very seriously different situation-- The Chairman. Mr. Paulson, the members control the time. Mr. Sherman. That I did misinterpret your comments and if you made the decision after October 3rd, I fully understand. Now under section 111 of the bill, you are supposed to put forward regulations limiting executive compensation to that which is appropriate. You have been remarkably liberal in that you have only imposed by regulations the minimum standards set forth in the statute and that you therefore allow unlimited regular salaries and unlimited bonuses to be declared by boards of directors. But while you have been so liberal in that, defining that part of the bill, another part of the bill requires you to define financial institutions eligible for participation under TARP. In fact, the statute explicitly says that insurance companies are eligible, and yet the CPP has issued regulations saying that only depository institutions are eligible; the insurance companies have to go out and buy depository institutions, as noted on the first page of today's Wall Street Journal. But the issue that I would like you to address orally is bailing out or providing some sustenance to the automobile companies. We know how important that is to the economy. If you got rid of your CPP regulations and looked at the statute, you would see that auto companies do qualify, since they are incorporated under the United States, and they are regulated by the United States and its State governments. But, instead, your definitions in the CPP regulations limit you to just depository institutions. So the question I have for you, Mr. Secretary, is, if the bill, as properly interpreted, allows you to buy preferred stock from the three major auto companies, would you at least buy enough preferred stock to tide them over until the new Administration could make a policy decision? Or do you think-- The Chairman. If the gentleman wants an answer, you are going to have to wrap that up now Mr. Sherman. Or to have the Obama Administration just look at three companies in Chapter 7. Secretary Paulson. Again, I have answered this a couple of times. I will answer it again. I think it is very, very important to stay within the purpose of the TARP, because this is all about protecting the financial system, avoiding collapse and recovery. There is a good deal more that needs to be done before this system is recovered, the market is functioning as normal, credit is flowing, and that will make a big difference. Now, with regard to the auto companies, what we have said, and I think you have heard me say it, you, the Congress has acted. You have a bill that was passed, a $25 billion bill, the Department of Energy--and, again, I urge you to modify that, to have a path for making an investment in a viable company. The Chairman. The gentleman from Georgia is recognized for 5 minutes. Mr. Price. Thank you, Mr. Chairman. I want to thank the panelists for their attendance here this morning and their, oftentimes, responsiveness. Now, I want to follow up a bit on the insurance companies purchasing banks issue. We have learned over the past couple of days that is, indeed, occurring. I would ask you, Mr. Secretary, whether you believe that is appropriate or consistent with the mission of the program? Secretary Paulson. The mission of the program is focused on banks and bank holding companies and getting capital into the system. We don't have capability at the Federal level looking at insurance. So what we are going to do is applications. If applications-- Mr. Price. I understand what the process is. But my question is, is it appropriate for insurance companies to be forced through the machinations of this program to go out and purchase banks to gain access to this money? Secretary Paulson. I am not sure that is going to be a successful strategy. We are going to look only at applications that we think make sense after they are forwarded to us by the regulator. Now, there are a number of insurance companies that already and have been bank holding companies for some time, have been regulated at the Federal level for some time. And in my judgment, it may make sense to put capital into those institutions who are playing a vital role lending and keeping our economy going. Mr. Price. Let me ask the question and move on to some smaller entities. I have many constituents who are members of credit unions and small community banks, and they have many concerns about them not being eligible for participation in the TARP. How are you working to address the concerns of these smaller financial institutions which are oftentimes the keys to their local communities? Secretary Paulson. I think they are keys, and I think they will do a lot of lending. And I had said in my opening testimony that we have published regulations yesterday which have now extended the term sheet for private banks, C corps, there are thousands of them. We expect to get applications from a number of community banks and banks that are going to be very vital to this economy, and we are expecting regulators to forward many of those applications to us, and we are expecting to put capital into many of them. Mr. Price. Let me--I think the general concern that many of us have voiced on both sides, and that is the Federal Government picking winners and losers in this process, and there is a general angst up here, as there is across the Nation, about a relative lack of confidence in the Federal Government to be able to get this right. There are some fundamental principles that many of us believe have resulted in the remarkable success of the United States over hundreds of years. I might have broadened this to the Chairman as well. What fundamental principles do you believe are consistent with the TARP program? Secretary Paulson. Okay. I will answer it briefly and then go to Ben. The purpose of the TARP program is, as I said, fundamentally about preserving our system here, keeping it from collapsing and then helping it recover. Now, once you have the government intervene, that is by definition going against many of principles that we believed in for a long time in terms of markets. We are doing this to preserve our markets. So we have--there are two programs we have outlined to date. One program, if there is a failing institution, and the failure would be big enough to be systemic, we need to come into that. With regard to the healthy bank program, my concern was the exact opposite of yours, just to be candid. My concern was, I thought, if we were looking back in history, the biggest concern I might have would be government intervenes and puts money into institutions that weren't viable and weren't going to be competitive long term. Now, we at Treasury-- Mr. Price. I am running out of time on that-- Secretary Paulson. I don't have the capability to handle that-- The Chairman. The gentleman from Georgia is recognized. Mr. Price. Mr. Chairman, if you would comment as to what fundamental principles you believe are consistent with TARP. Mr. Bernanke. Certainly, this situation has sometimes been represented as a failure of capitalism. I don't think that is right. The problem is that our financial system, there have been problems of regulation and problems of execution that have created a crisis in the financial system. We have seen, in many cases, historically and in other countries, that a collapse in the financial system can bring down an otherwise very strong economy. So our efforts have been very focused on stabilizing the financial system. And as that situation is rectified, going forward, we need to really think hard about our supervision and regulation and make sure we get it right. But I don't think that this is an indictment of the broad market system. Mr. Price. I would just very briefly echo some of the comments from the other side that said that we need to also specifically identify an exit strategy so that we can return to those fundamental principles. The Chairman. The hearing is--briefly, Mr. Secretary. I am getting you out of here, so if you want to talk. I thank the three witnesses. There will be--does the gentleman from California have a unanimous consent request? Mr. Baca. Yes, thank you very much, Mr. Chairman, for holding this hearing. I would like to submit my questions for the record and thank you. I know that I wanted to-- The Chairman. The questions will be submitted without objection. Mr. Baca --ask about-- The Chairman. The gentleman from Texas has a request. Mr. Neugebauer. Mr. Chairman, I would ask unanimous consent to submit two letters: One from the National Association of Federal Credit Unions; and the other one from the Credit Union National Association. The Chairman. Without objection, it is so ordered. Any other information, material, or questions that members want to submit, without objection, will be submitted. This panel is excused. We will now call up the next panel, and let's move quickly here. We will begin on our side, the questioning where we left off. The first question will be with Mr. Meek. Please don't impede people's ability to leave. People can socialize out in the hall. Will the panel please be seated. The gentleman from Pennsylvania will preside as we begin this next panel. Mr. Kanjorski. [presiding] If we will reconvene the second panel now. We will start our testimony with the honorable Steve Bartlett, president and chief executive officer, Financial Services Roundtable. STATEMENT OF THE HONORABLE STEVE BARTLETT, PRESIDENT AND CHIEF EXECUTIVE OFFICER, FINANCIAL SERVICES ROUNDTABLE Mr. Bartlett. Thank you, Mr. Chairman, and Mr. Neugebauer from Texas. Mr. Chairman, I have submitted testimony for the record. In addition, Mr. Chairman, I submitted two additional letters for the record that I would like to have entered into the record. Mr. Kanjorski. Without objection, it is so ordered. Mr. Bartlett. Mr. Chairman, to summarize my written testimony, first, we believe that the TARP has had a positive effect so far. It has only been 6 weeks, however, and so there is a long ways to go. We think that the implementation of the TARP has added to liquidity, particularly in the LIBOR market, which was at critical levels and upon which most of the other financing globally is based. Secondly, we think it has stabilized and provided a good deal of stability with depository institutions and with deposits, and we think it has strengthened the commercial paper market. We also believe that the TARP has, by being used for the sale, there is a support the sale of weaker institutions to stronger institutions, we think that has generally helped the economy. Secondly, we believe, and I have submitted in the testimony, some evidence that commercial lending has increased, actually rather substantially. We did a survey of eight of the major lenders out from their 10Qs, from the third quarter, showing an increase of lending from 12 percent. We have done some verbal interviews for September, October, and November and concluded that lending during those months and going forward will also increase. I would note, however, that the economy is generally down, so loan demand is down, but the banks have not changed or raised their underwriting standards. Third, with regard to the difference between asset purchases and capital infusion, we think that the capital infusion method was right. We think it has had some positive effect. However, we do think that the Treasury will and should look at both asset purchases and asset guarantees going forward. We think all of those are authorized by the legislation. Fourth, Mr. Chairman, I provided some information on mortgage rates. Financial Services Roundtable believes that home mortgage rates are artificially high, and it is urging the Treasury, the Federal Reserve, and others take some action to reduce those home mortgage rates, because until home mortgage rates come down, the economy cannot recover. Our evidence indicates that mortgage rates are 165--for conforming mortgage-backed securities of GSEs, are 165 basis points above comparable treasuries, even though the GSEs are now in conservatorship and should be traded like treasuries. What that means is that rates should be about 5.5 percent, but in fact, they are 6.2 percent. That prices out of the market large numbers of homeowners. We think, at 5.5 percent, that would allow about 30 percent of current mortgages to refinance. Fifth, we think that the fair value accounting continues to be an overwhelming problem. I have submitted for the record a letter from the Center for Audit Quality, which historically has been defending fair value accounting, but which makes some very specific recommendations on ways to improve fair value accounting. We think that this committee, this Congress, and all the players of the Executive Branch should take that letter and those suggestions seriously. Sixth, Mr. Chairman, we are totally committed to foreclosure prevention. Foreclosures are too high. Our organization through HOPE NOW and our specific lenders are producing about 200,000 loan modifications and repayment plans a month. We expect our new streamlined plan, which is not dissimilar to the plan that FDIC Chairwoman Bair has proposed, we think that plan will increase it to another 100,000 a month. There is still a long ways to go. We have a total commitment that we are going to review the FDIC plan to determine ways to make that work. And last, Mr. Chairman, we believe that the Federal Reserve, and we have communicated this to the Federal Reserve, should take specific and proactive and aggressive steps to expedite the application of bank holding companies. We think that if a company is seeking to be a bank holding company, if it is applicable, that would strengthen the system, not weaken it. We think the Federal Reserve has taken those steps in three specific cases of very large institutions; that is good. But we think other institutions that are large- and medium-sized would also strength the economy. We think that the Federal Reserve should take specific steps to be the quarterback to cause the bank holding company applications to be expedited. And with that, Mr. Chairman, I yield back my remaining 52 seconds. [The prepared statement of Mr. Bartlett can be found on page 126 of the appendix.] Mr. Kanjorski. Thank you very much, Mr. Bartlett. Now we will here from our second witness, Mr. Edward L. Yingling, president and chief executive officer, American Bankers Association. STATEMENT OF EDWARD L. YINGLING, PRESIDENT AND CHIEF EXECUTIVE OFFICER, AMERICAN BANKERS ASSOCIATION Mr. Yingling. Thank you, sir. I appreciate the opportunity to testify on the current status of the Troubled Asset Relief Program. The TARP program has served to calm financial markets and does have promise to promote renewed economic growth. However, it is also a source of great frustration and uncertainty to banks. Much of the frustration and uncertainty is because of the numerous significant changes to the program and the misperceptions that have resulted on the part of the press and the public. Hopefully, this hearing will help clarify the situation. ABA greatly appreciates the consistent statements by members of this committee, and particularly its leadership, that regulated banks were not the cause of the problem and have generally performed well. Not only did regulated banks not cause the problem, they are the primary solution to the problem, as both regulation and markets move toward the bank model. Thousands of banks across the country did not make toxic subprime loans, are strongly capitalized, and are lending. As you know, TARP started out focused on asset purchases. But then after European countries announced they were putting capital in undercapitalized banks, everything changed. Overnight, nine banks were called to Washington and requested to take capital injections. As this program was extended beyond the first nine to other banks, it was not initially clear that the program was to focus on healthy banks and its purpose was to promote lending. ABA was extremely frustrated with the lack of clarity, and we wrote to Secretary Paulson asking for clarification. The press, the public, Members of Congress, and banks themselves were initially confused. Many people understandably did not differentiate between this voluntary program for a solid institution and bailouts. Bankers, for a few days, were not sure of the purpose, although they were sure their regulators were making it clear it was a good idea to take the capital. Put yourself in the place of a community banker. You are strongly capitalized and profitable. Your regulator is calling you to suggest taking TARP capital is a good idea. You, the banker, can see that it might be put to good purposes in terms of increasing lending, but you have many questions about what will be a decision that will dramatically affect the future of your bank, questions like, what will my customers think? What will the markets think? What restrictions might be added ? Despite the uncertainty, banks are signing up. In my written testimony, I have provided examples of how different banks can use the capital in ways to promote lending. One aspect of the program that needs to be addressed further is the fact that it is still unavailable to many banks. Last night, the Treasury did offer a term sheet for private corporations, and we greatly appreciated that. However, term sheets for many banks, including S corporations and mutual institutions, have not been issued. This is unfair to these banks, and it undermines the effectiveness of the program. In my written testimony, I have discussed the fact that while TARP is designed to increase bank capital and lending, other programs are actually in conflict and are actually reducing capital and lending. In that regard, I once again call to the attention of the committee the dramatic effect of current accounting policies which continue unnecessarily to eat up billions of dollars in capital by not understanding the impact of mark-to-market and dysfunctional markets. Finally, in our written testimony, ABA also supports efforts to address foreclosures and housing. We have proposed a four-point plan: First, greater efforts to address foreclosures; second, efforts to address the problems caused by securitization of mortgages that you have championed, Mr. Kanjorski; third, the need to lower mortgage interest rates, which are not following normal patterns; and fourth, tax incentives for purchasing homes. Thank you. [The prepared statement of Mr. Yingling can be found on page 194 of the appendix.] Mr. Kanjorski. Thank you very much, Mr. Yingling. Now, we will hear from the third panelist, Ms. Cynthia Blankenship, vice chairman and chief operating officer, Bank of the West, on behalf of the Independent Community Bankers of America. STATEMENT OF CYNTHIA BLANKENSHIP, VICE CHAIRMAN AND CHIEF OPERATING OFFICER, BANK OF THE WEST, ON BEHALF OF THE INDEPENDENT COMMUNITY BANKERS OF AMERICA (ICBA) Ms. Blankenship. Thank you, Acting Chairman Kanjorski, and members of the committee. Thank you for allowing the Independent Community Bankers of America to testify today. I am Cynthia Blankenship. I am chief operating officer and vice chairman of Bank of the West in Grapevine, Texas, and chairman of the Independent Community Bankers of America. We want to express our appreciation to Chairman Frank, Representative Kanjorski, Representative Bachus, and many others on the committee for their support of important community bank provisions in the Emergency Economic Stabilization Act. ICBA commends the extraordinary efforts of Congress, Treasury, the Federal Reserve, and the FDIC to address the current economic crisis. Given the speed and the enormity of the undertaking, it is understandable that significant issues have come up regarding the Troubled Asset Relief Program's Capital Purchase Program. The terms released by Treasury several weeks ago were unworkable for privately-held banks, Subchapter S banks and mutual institutions because of legal constraints and organizational structures peculiar to each of the types of these institutions. ICBA and others have provided Treasury concrete suggestions to overcome the obstacles. We have had a constructive dialogue with Treasury on these issues, and last night, Treasury released a term sheet for a privately held C corporation bank. But a term sheet is still urgently needed for the more than 3,000 Subchapter S and mutual banks. This represents one-third of most of the community banks, privately-held banks, in the United States that still have no access to the TARP. While Treasury is working in good faith to produce term sheets, ICBA members are growing increasingly concerned about the rate the funds are flowing out of the program. At this point, only $60 billion is left uncommitted from the $250 billion Capital Purchase Program. And, yet, more than 6,000 privately-held Subchapter S and mutual institutions have not had the opportunity to apply. There are more than 8,000 community banks nationwide, and they are well-positioned to extend lending in their communities should they choose to use the Capital Purchase Program. Including them will stimulate lending in those communities. ICBA applauds FDIC's actions to unlock the market through the Temporary Liquidity Guarantee Program. The guarantee provides deposit insurance in transaction accounts and will enhance depositor confidence in community banks and free up capital to large deposits. The guaranteed program for our senior unsecured debt, however, provides few benefits for community banks, as they do not issue much in the way of senior unsecured debt, other than Federal funds purchased. The current processing for the program makes it unattractive for Federal funds to purchase transactions. Overnight Federal funds pose little risk of default. And at current prices for Federal funds, the 75 basis point fee exceeds the interest rate. We have suggested that the FDIC adopt risk-based pricing for the guarantee so that it will be more attractive for overnight transactions and consider allowing banks to separately opt out of the guarantee for overnight Federal funds. If the guarantee fee does not cover the cost of the program, only banks and thrifts will be subject to a special assessment fee to make up that deficit; yet holding companies with significant nonbank subsidiaries can participate in the program. Some mechanism is needed to ensure these holding companies pay their fair share. Community banks played no role in causing the current economic crisis, the foreclosure crisis, and by and large they did not engage in subprime lending practices. And they did not become entangled with toxic investment products. As a result, community banks are not experiencing unusual levels of mortgage defaults. When defaults do arise, community banks understand that foreclosure is the least attractive alternative and do everything they can to avoid it. Our involvement in servicing loans and finding solutions for consumers extends beyond our own customers, and we offer refinancing to many troubled borrowers and loans from other institutions. Mr. Chairman and members of the committee, ICBA stands ready to work with you to maximize participation in the programs authorized under the EESA and to promote the free flow of capital so essential to our economy. I appreciate the opportunity to testify today. [The prepared statement of Ms. Blankenship can be found on page 145 of the appendix.] Mr. Kanjorski. Thank you very much. Now, a fourth member of our panel, the honorable D. Cameron Findlay, executive vice president and general counsel, Aon Corporation, on behalf of the Council of Insurance Agents and Brokers. STATEMENT OF THE HONORABLE D. CAMERON FINDLAY, EXECUTIVE VICE PRESIDENT AND GENERAL COUNSEL, AON CORPORATION, ON BEHALF OF THE COUNCIL OF INSURANCE AGENTS AND BROKERS Mr. Findlay. Thank you, Congressman Kanjorski. I am Cameron Findlay, the executive vice president and general counsel of Aon, and I appreciate the opportunity to testify today on behalf of the Council of Insurance Agents and Brokers. My written testimony provides the details of an innovative proposal for the Department of the Treasury to exercise the authority you have granted under Section 102 of TARP, so please permit me here just to summarize the high points. We start with the premise that the insurance industry has a lot to offer in the efforts to stabilize the economy, because insurance is a critical but sometimes overlooked part of the financial services industry. Put simply, we believe that the Department of the Treasury should use its statutory authority, the authority you have granted it, to establish a program to insure a portion of the expected payment of principal and interest from troubled and illiquid financial instruments. While Treasury's efforts to inject capital in financial institutions is important--and has succeeded in some respects-- this effort doesn't address a primary cause of the liquidity problem, the hundreds of billions of dollars of illiquid assets that are on the books of America's financial institutions. Our proposed approach is an insurance program that would combine risk pooling, risk retention by the financial institutions themselves, and potential government backstop liquidity. In our view, such an approach would benefit all the stakeholders here, taxpayers, financial institutions, and homeowners. The plan involves, first, the sharing of risk by participants in an asset stabilization pool. Participants in the pool would pay risk-based premiums, and the pool would insure a portion of the principal and the interest from illiquid assets on their books. Thus, the program would insulate an asset holder from having to immediately recognize the decline in value resulting from the nonpayment or expected nonpayment of principal and interest. Second, our plan requires financial institutions to retain some risk. Just as holders of insurance policies retain risk through deductibles, asset holders would be required to retain a percentage of the shortfall of principal and interest. Asset holders would be reimbursed from the pool for a shortfall, only when the shortfall exceeds their retained amount in a single year. It is just like a deductible in your home insurance policy. Third, our plan involves the potential of government loans as a backstop. That is, in the event that in the early years, payments from the pool exceeded premium collections, the government could loan the pool funds needed to make good on the guarantees. The government would then be reimbursed by premium collections in subsequent years. Let me illustrate the proposal by using a very simple example. Suppose an institution holds $1 million in mortgage- backed assets. Assume that the current lack of confidence in the liquidity of these assets has dropped the market value to, say, $600,000. Now, this $400,000 drop is not necessarily the result of a true decrease in the asset's intrinsic value. It may simply be the result, at best, of a lack of information about the value of the asset or, at worst, in the current environment, to sheer panic. Let's assume in our example that the actual intrinsic value of the asset is $800,000. Without our proposed insurance program, the institution might have to mark the asset to market, resulting in an immediate loss of $400,000 in value or, even worse, the institution might have to sell the asset into a panicked market. But an insurance pool that guarantees the repayment of the principal and interest from these assets would, under proper accounting treatment, result in the institution holding assets worth $800,000, not $600,000. The insurance industry knows how to do this. Actuaries can set initial premiums based on the law of large numbers, and then after experience working with the proposed pool, actuaries could use the accumulated data about the performance of the assets to develop ever-more-accurate premium pricing models, reflecting the actual value of the underlying securities. In our view, this program will have significant benefits for all stakeholders: Taxpayers; financial institutions; and homeowners. For taxpayers, an insurance program would have significantly less short-term cash requirements and capital infusions. Also, because it would be funded by its direct beneficiaries, it would restore liquidity without requiring massive immediate outlays of government funds. The insurance solution would also assist financial institutions. As an insurance program, it would provide asset holders the option to hold assets until maturity or until economic conditions permit the recognition of the assets' real value. It wouldn't flood the market with distressed assets, which could have the effect of further depressing asset values. An insurance program would also prevent opportunistic purchases of depressed assets by predatory investors. Finally, our plan helps homeowners as well, homeowners facing foreclosure, by proposing that participating companies have to agree to a plan to restructure individual mortgages as a condition of participation. On behalf of Aon and the CIAB, I want to thank you again for the opportunity to testify today. We stand ready to work with you on our proposal, and we would be pleased to take any questions that you may have. [The prepared statement of Mr. Findlay can be found on page 185 of the appendix.] Mr. Kanjorski. Thank you very much. Now, without objection, I ask unanimous consent that an exchange of letters between Federal Reserve Chairman Ben Bernanke and myself dated October 9th, October 20th, and November 17th, be submitted into the record. Without objection, it is so ordered. I now recognize the gentleman from New York, Mr. Meeks. Mr. Meeks. Thank you, Mr. Chairman. It is good to see you. Let me start off by asking this question. There were some questions earlier to the first panel, initially by my colleague, Ms. Waters, where I think we are suffering from the same problem, and that is, when you look at the number of constituents who are being foreclosed upon and trying to help them, it has been very difficult. It is very difficult working with servicers in getting the final information, etc., so that we can make sure we are preserving them and giving them every opportunity to stay in their home. To that end, in my district, I joined hands with a local community organization, CWE, who, every week, they come in with lawyers and financial consultants. They speak to my constituents, and the numbers have just gone up astronomically. And then they call the banks and work things out, and I have called them, my community banks, etc., to let them now, when they hear from this group, to make sure that--see if something can be worked out. As a result, I can tell you, when we put this program in place as a pilot program about 3 weeks ago, there were about 8 homes that I know were about to go into auction the next day. We were able to save those people from foreclosure. They stayed in their homes. So my first question is, as opposed to just relying on the whole program, has there ever been any consideration, especially with community banks, who have been, to a great deal responsive, to partnering with some community-based organizations who are on the ground, because we find oftentimes with the number, when the financial institutions, when they get something from them, it just goes right into the garbage can, and they need someone, they are trying to figure someone to trust; we found there is a trust factor that has been missing. And they trust someone else; they trust coming into my office. So my first question is, has there been any consideration about trying to partner with community-based organizations in communities to help people stay in their homes? Ms. Blankenship. I don't know of any formal effort that we have at this time, but I will tell you that most community banks have a personal relationship with the borrower. As I stated in my testimony, we do everything we can to avoid foreclosure. I think if you look at the statistics, you would find that in the community banks, there is going to be a lower percentage of foreclosures, simply because we do have that relationship if the customer will come in. I think it would be beneficial to have an organization to which you speak that could encourage those borrowers, who are sometimes intimidated, when they go into default, to communicate with the bank, because once we get communication, then it would be rare that we couldn't find the solution. Mr. Yingling. I would just, one, commend you for your efforts, and, two, say that you hit on one of several very important factors here. That is trust. We know that many people give up, and they shouldn't give up, and having a group that they trust as an intermediary could be very valuable. I think it is something we should do more with. I think it is an excellent idea. Mr. Bartlett. Congressman, in fact, we do partner with many organizations, a lot of organizations. Our principal partner on a national level is NeighborWorks. They have an affiliate in virtually every community of the country. We find that working with those nonprofit groups is the most effective way that we have of providing counseling that leads to the results of loan modification. Now our goal here is, counseling is nice, but counseling has to have the result of a loan modification. That is what we set out to do. And frankly, we pay the costs to those nonprofit counseling organizations and find it to be the most effective way to negotiate. I will say that it seems, perhaps, on the outside, to be opaque. It is not. If someone is not able to pay their mortgage, then we have to figure out a way with that person to take their income and convert it into mortgage payments and then see if--it is not a gift; it has to be a mortgage to make sure that a mortgage is comparable to or better than-- Mr. Meeks. Let me ask this question really quick, because I wanted to ask this of Secretary Paulson, but then let me ask you, maybe it will have an effect with you. Given that Secretary Paulson has unilaterally decided not to purchase the toxic assets, are you concerned at all with the position that may reverse--you know, not buying this--LIBOR rates? You know, this is an international market right now. By not buying this, it could change. We had some stability. And now, things have changed. Does that give you any concern? Mr. Bartlett. As it turns out, LIBOR rates have come down rather significantly and are back to a stable level. We think that the Treasury did the right thing with their capital infusion, but we also think they ought to review the other opportunities. The Chairman. The gentleman from California. Mr. Campbell. Thank you, Mr. Chairman. A question for Mr. Bartlett, Mr. Yingling, or Ms. Blankenship, whichever one of you. Most of the TARP money thus far has been spent, as Mr. Bartlett just pointed out, for capital infusions into banks and financial institutions, or will be by the time they finish the first tranche of money. In all of your views, is the banking system now adequately capitalized such that it can get further capital privately, or do you think that more capital injections are necessary? Mr. Bartlett. More capital is always better than less capital. So I would never say adequate. Mr. Campbell. I understand that. Mr. Bartlett. I think the capital has to come from private sources. So the Treasury's infusions was, in essence, to kind of put a foundation and a floor. I think we will see more capital than we have seen and we will see more capital as a result. But it is an ongoing process. Mr. Campbell. The Treasury Secretary today talked a little about the fact that they are studying an idea to leverage private capital so that when there is a private capital, new private capital investment, stock issuance that the Treasury would then have some kind of matching program. Comments on that idea from any of you? Ms. Blankenship. Well, I would just like to comment that until they get the initial program fixed where all banks have access to capital, because still there is--with the Subchapter S and the mutual banks and they did issue the privately held term sheet last night, which is helpful, but you have 8,000 community banks out there that would like access to this capital so they could expand lending in their communities. Because, frankly, that is the only way capital is going to pay off as an investment in a community bank. It is not cheap capital, but it is access to capital; and, you know, that is very much necessary in today's market. Mr. Yingling. I would just add that, I must say, I think the reaction of most of the banking industry in that 24-hour period where nine banks just overnight were called in a room and requested to take capital was one of shock and concern. It is not something we had asked for. Having said that, as the program has rolled out and become clearer, we can see an advantage to it. I agree with what Ms. Blankenship just said, that at this point there is an equity question and a competitive issue, and all banks ought to be treated equally. But, beyond that, to the degree we can rely on private equity, we ought to; and to the degree that there are other excellent uses for money, such as foreclosure prevention, they ought to be considered. Mr. Campbell. Thank you. Let's talk about what the TARP did not do for the three of you again; and then I have one more final question for you, Mr. Findlay. I won't ignore you there. What it did not do is buy troubled assets, which was obviously what we originally thought we were going to do. Are you seeing any liquidity in that market whatsoever? Are those trading at all? Has there been any thawing in that as there has been a little thawing in commercial paper, a little thawing in interbank lending, a little thawing in a few of these other things? Is there any liquidity in that market right now? Mr. Bartlett. No. We think bringing down mortgage rates will help with that. We think, actually, that the capital infusion of the banks will help with that. LIBOR being reduced has helped with that. But in 6 weeks' time, we haven't seen a thawing at this point of the mortgage-backed security market. That has to happen. Nothing can recover until that does happen, and we think that the steps have been taken to cause it to happen. But it hasn't happened yet. Mr. Campbell. So those are still not tradable assets basically to the extent they sit on anyone's books? Mr. Bartlett. I would hate to say not tradable but pretty close to not tradable. I also suggested in my testimony that dealing with--curing fair value accounting is a big part to that. So fair value accounting continues to be kind of the heavy hand of government that is causing a large part of the problem at this point. Mr. Campbell. Let me get to Mr. Findlay, if I may, with one final question. How is the program that you describe, this insurance program, how is that different from what is actually in the bill that we passed in the rescue bill in October, which the Treasury is studying, insurance? In listening to you, I wasn't able to see a distinction between the two proposals. Mr. Findlay. In fact, the proposal we have is one that we believe Treasury has authorized under section 102 of the EESA; and our proposal is one that Secretary Paulson said is being studied right now. When we were talking about how much capital outlay is the right amount, I mean, one of the advantages of our program is it doesn't require immediate infusions of capital. Mr. Campbell. So you are simply expressing your support, I guess, for the idea that was put in in the bill as an option for Treasury? Mr. Findlay. That is exactly right, Congressman. Mr. Campbell. Thank you, Mr. Chairman. The Chairman. The gentleman from Massachusetts. Mr. Lynch. Thank you, Mr. Chairman, and I want to thank you and the ranking member for continuing to hold these hearings, and I want to thank the panelists for helping the committee with our work. Mr. Yingling, I really appreciate the candor of your testimony this morning; and I want to just--I am just going to quote you a little bit, if you don't mind. You talked about the great frustration and uncertainty to banks caused by the significant and numerous changes to the top program and misperceptions by the public and the press. I just think you might want to add Congress to that list as well. As you know, and you have been a frequent flyer to this committee in recent weeks, Mr. Paulson had come here and in great detail described a toxic mortgage repurchase program that he put forward to Congress; and much of our time here and your time and those who are trying to protect taxpayers time were spent in examining that specific proposal which was to clear these toxic mortgages off the bankers' balance sheets. And we probed that question in great detail, and the benefit to both the banks and to these distressed homeowners and to the communities that they are located in was quite apparent. And then it seemed like just a matter of days after Secretary Paulson got the $700 billion, he went to plan ``B.'' He basically abandoned that original plan that was the basis of his request and went to plan ``B,'' which was, as you have described, getting those bankers in a room and then proceeding to--at least in the words of some of those bankers--give them-- force money that they didn't need and didn't want, and the process nationalized a considerable percentage of those banks. And then, after the fact, he has gone to plan ``C,'' which is now to recapitalize some of these credit card issuers. And I just want to know--I mean, I think he had an obligation here to come to Congress and say, okay, here is plan ``A;'' and I am going to try this. Here is plan ``B.'' The problem with the banks wasn't unforeseen. He could have explained that to us. He never mentioned it. As a matter of fact, the only time it ever came up, he rejected the proposal of direct capitalization in the banks. But I just want to know, what is the response of your constituents, your banking committee as well as--Ms. Blankenship as well, the community banks. What is happening here? What has this done for confidence within the banking community, all the changes that the Secretary has instituted? Mr. Yingling. Well, it has been very confusing and very difficult. I would differentiate the question of what is the right policy, because it may be we have arrived at the right policy in terms of the best use of the money at this time. Although, again, I think foreclosures is another important use of money. We didn't ask for capital infusions. And I can remember when this was announced sitting in my office, and I have to watch the news all the time to see what has been going on and what the effect may be, the immediate response in the hours after this program was announced was a series of stories about how the banking industry had thousands of banks that were going to fail. It was completely misinterpreted, and it took several days for this to calm down. It also took several days for banks to figure out what was going on, and that is why you saw some statements from bankers, I think, about the use of the funds. It was just because they didn't understand. I think now people are beginning to understand. But I would think it is confusing for bankers. We have done--are starting to do--some polling on do your customers think you are weaker or stronger if you take the money? Mr. Lynch. Right. Mr. Yingling. Customers don't know how to react to it. All of these things have ripple effects that are unforeseen. And as several of you have commented about your constituents' point of view, we could understand the anger and the concern and the confusion; and, of course, that affects us. We hear from the customers as well, and it can lead to policy confusion. Mr. Lynch. I understand. I am running out of time. I just want to ask, what about the fact that Secretary Paulson basically--and this is reflected widely in the press--that the Secretary basically forced people to take the money, when they didn't want the money, they didn't need the money, and now it looks like there won't be enough assistance to help some other banks that may indeed need a little bit of help? Ms. Blankenship. Well, that is the total frustration of the community banks. Because, you know, the perception is that the big banks did take it, the nines. And that has been well over a month ago, and still the deadline came and went. And the community banks, the 8,000 that represent over 90 percent of the banks nationwide, they represent Main Street. They couldn't get access to the capital. And still even today we can't get total access to it. Mr. Lynch. I appreciate that. That is very helpful to hear. Thank you, Mr. Chairman. I yield back. The Chairman. The gentleman from Illinois. And let me just say, if people are watching this on television and aren't members of the committee, don't come. We have about 16 minutes. We have three members who will be able to ask questions. We are going to then break at 1:00. We will come back at 2:30, because our academic witnesses had asked that they be allowed to testify in the afternoon. So we will come back for Professors Feldstein and Blinder. The gentleman from Illinois is recognized. Mr. Manzullo. Thank you, Mr. Chairman. I represent the 16th District of Illinois, which is right on top of the State; and we have a lot of agriculture, a lot of manufacturing, a lot of small independent community banks. And the community bankers are extraordinary people because they have not caused this problem. Their conservative principles, the fact that when you get a loan you sit across a desk and you can judge a person's integrity by looking into their eyes--they represent institutions in this country which really serve to me as models. And, Ms. Blankenship, I have a question for you. We are told that there is a need to use part of the $700 billion financial services package by the auto industry in large part because the financial arms of the big three are unable to issue any more car loans except to customers with a FICO score of greater than 720. In many cases, they said that they just don't have any money at all. I have been informed by several community banks in the district I represent, including my own banker, that they have plenty of money to lend for automobiles. They are very frustrated with the fact that people are saying-- and I am going to be very up front. The last panel has done more to instill fear into America and, by some of the outrageous statements, are making it more and more difficult to recover. In fact, they are extending the recovery, starting with my good friend Mr. Paulson from Illinois, the statements that he made in September about how the world would collapse unless he was given $700 billion to buy bad assets. People are not buying automobiles, and they are not going and doing their regular Christmas shopping because of fear. And, all along, the community banks have all kinds of money. My question to you is, are community banks--and I don't want to use the words ``able to fill the gap,'' but are there enough community banks in this country that can work with dealerships and make sure that people receive appropriate and fair and reasonable financing for their automobiles and trucks? Ms. Blankenship. Well, I would-- Mr. Manzullo. Do you like that question? Ms. Blankenship. I will take that question. Of the 8,000 community banks, the banks that are on Main Street and in the agricultural and rural communities that represent 22,000 communities across the Nation, by and large they are well capitalized and they do have money to lend. Our own bank actually has increased in lending--our net lending since this time last year. The market confidence was a huge factor. When there were comments that thousands of banks would fail, you know, we had--that is where you saw your customers pulling in. It wasn't the fact that the banks didn't have money to lend. The consumer confidence just went to the tank. And so we had to restore that. And coupled with that was the deposit insurance question and, you know, does your bank save? And the confusion over money market guarantees where the mutual funds got unlimited and our banks had $100,000 still. So it is hard to compete. And yet those customers know us. They know us by name, as you said. And the confidence--we were able to rebuild that confidence. But it was a campaign. We do have money to lend, and we would be glad to lend it. Mr. Manzullo. Thank you. Mr. Yingling. Mr. Yingling. Just a few numbers that I think would surprise most people. Consumer and industrial loans for banks are up 15 percent this year. Home equity loans, admittedly from a low base, are up 21 percent. Asset-backed securities lending--not mortgage but other asset backs--down 79 percent. We have a chart on page 10 of our testimony that shows consumer and industrial business lending, and consumer lending is actually up for banks. Mr. Manzullo. And this is all banks? Mr. Yingling. Right. The world is coming back somewhat to the bank model, and we are ready to go. Mr. Manzullo. The question I asked of you, Ms. Blankenship, I just want to make sure that we have a lot of larger banks in our district with local branches and real-life people there. They are also telling me the same things that many of the community banks are saying. Thank you. The Chairman. The gentleman from Texas. Mr. Green. Thank you, Mr. Chairman, and I thank the witnesses for appearing today. I have two quick questions. The first is, having heard the plan that Chairwoman Bair has, is there anyone who is in disagreement with the plan? Anyone? And the Chair has taught me that I am to build a record by indicating that the absence of hands--ah, we do have hands. Okay. All right. Let's hear from you please, Mr. Bartlett. Mr. Bartlett. Well, we are in agreement with the direction of the plan and with the goals and the broad parameters. But the plan wasn't--the details weren't laid out today. There are some details in the plan that we would like to work with either the FDIC or Treasury to make sure-- Mr. Green. Let me be a little bit more specific. Do you agree with the notion of an incentive for the servicers? Mr. Bartlett. We agree with the notion. Mr. Green. A monetary emolument? Mr. Bartlett. Yes, although we are not asking for it. We can do it without that incentive. But we agree with the plan. Mr. Green. Now I have to ask you, why haven't you done it without it? Mr. Bartlett. Well, legally, we are. Mr. Green. The empirical evidence doesn't seem to indicate that you are. It may very well be, but I just haven't found anything to substantiate what I think is a fair position for you to make. Let me go on to the next. Mr. Yingling. Mr. Yingling. We generally agree with the approach. I spoke with Sheila Bair about it 5 weeks ago. We like the idea of using the institutions that know the customer, that are there to work with them, rather than sending it to Washington and that type of delay. I just raise two caveats. One is--and it is all a matter of calibration--we do have a concern that if it becomes a government program--say you are in a neighborhood in Texas and there are two or three foreclosures, potential foreclosures in your neighborhood--are others going to see this program and see that Bill or Mary got this and say, okay, I will stop paying so I can qualify? That is all a matter of the details and the communication. And the other is, I think we need to sit down with real, live lenders, community banks and others, and design a program, make sure it works. Mr. Green. Thank you very much. I take it that there were only two hands, persons who were in disagreement; and they have spoken. Is there a third? Ms. Blankenship. I would just like to qualify that the community banks didn't face the same problems as IndyMac because, typically, they make their mortgages just individually; and they are working through those. Mr. Green. Ms. Blankenship, if I may interrupt, because my time is short. Let me just ask, the plan itself, however, are you in agreement or disagreement with it? The concept that you heard. Ms. Blankenship. I think the concept is good to work with the consumer. Mr. Green. And to have an emolument, a payment of money for foreclosure avoidance. Ms. Blankenship. I don't think it should be a government- mandated plan for the banks. But I think that a tool for the banks to work with would be-- Mr. Green. It is not mandated; it is if you buy into the program. Then you will receive the emolument if you participate in foreclosure avoidance. That is the way it is established, as I understand it. Ms. Blankenship. Yes. Mr. Green. Would you support that? Ms. Blankenship. Yes. Mr. Green. Let's go on to the last person, and I will be done. Mr. Findlay. Everyone keeps forgetting about me here from the insurance industry. We don't have a position on behalf of the CIAB on it. But I support the concept. We believe that there ought to be relief for individual homeowners, and we built something like that into our proposal. Mr. Green. Well, just in response to your question, there were many people who thought that this would not impact them. I say you are involved in it simply because life is an inescapable network of mutuality tied to a single garment of destiny. Whatever impacts one directly impacts all indirectly. That is Dr. Martin Luther King. So we are all in this together. Thank you very much, Mr. Chairman. The Chairman. If I may in the gentleman's remaining time ask--because I appreciate him asking that question. Let me ask each of you to indicate, if we can work out the specifics--and I agree; those are important--would you think it is appropriate to use TARP money for the costs of this? Beginning with Mr. Bartlett. Mr. Bartlett. Mr. Chairman, yes, I do, if we can work out the details. The Chairman. Mr. Yingling. Mr. Yingling. I think it is important that foreclosures and housing be dealt with. Yes, I would. The Chairman. Ms. Blankenship. Ms. Blankenship. Yes, I would agree. The Chairman. And Mr. Findlay. Mr. Findlay. I can't disagree. The Chairman. That is very important. We will note that to the Secretary. The gentlewoman from Illinois. Mrs. Biggert. Thank you, Mr. Chairman. Mr. Findlay, you have talked about the theory of the current crisis is not a liquidity crisis but instead a transparency crisis as it relates to the pricing of illiquid assets and your belief that the insurance program could help. How will the insurance program affect the financial statements of the participating entities? Mr. Findlay. I think the way we view this, Congresswoman, is that the fundamental problem in the marketplace right now is a lack of reliable information on the value of assets and indeed a sort of panic that sets in when you don't have reliable information. You don't want to be the last person holding a troubled asset. And all these financial institutions have on their books assets that they had valued a certain way in August, and it is a fraction of that value today. We are fairly confident that the fire sale price at which assets are being held today is not the intrinsic value of the asset, and it wouldn't be a good thing to require institutions to mark assets down to that value. So what we have tried to do is come up with an innovative way to take the panic out of the marketplace, and allow information to get into the marketplace, so we can determine what these assets' values are and essentially give a little breathing space to the market over the next year or two to bring these assets back to their intrinsic values, which we know they are not at today. Mrs. Biggert. Thank you. Mr. Yingling, do you think that this insurance program would really help the banks and financial institutions and be able to--you know, we have the mark to market, which has lowered that. But is the insurance program something that would be to your benefit, to be able to have what these mortgage- backed securities really are worth? Mr. Yingling. Well, I think it is very valuable to explore. I think we do have an issue of just how many programs we can have working at one time. But certainly it is a program in terms of its design that makes sense. Mrs. Biggert. But this really was a program that was one of three that was the Secretary's proposal and the alternative-- Mr. Yingling. Yes. Mrs. Biggert. --and it seems like--I am not sure that the Secretary really wants it to be implemented. And it seems to me that the only way that we are really going to know what the value of these mortgage-based securities is by this program. I haven't heard of any other basis that they are really going to be able to find that out. Mr. Bartlett, is that important? Do we really have to know what all of these mortgage-based assets are worth? Mr. Bartlett. We support the program as outlined by Mr. Findlay; and I put it, actually, in my written testimony. So we think that now that the capital infusion has been put in place, then the Treasury should be looking at other alternatives of additional ways to provide liquidity back in the market of which the asset guaranteed program, the asset purchase perhaps and perhaps the asset guarantee and the insurance program is a better, more leveraged way of providing the same thing. It is important to note that all the money that is needed for liquidity in the market cannot come from the government, not even a small fraction of it. So the government money has to be used to cause the private money to come to the table; and I think that is the basis of this insurance program, which is the right approach. Mrs. Biggert. Thank you. Ms. Blankenship, do you look at this program as being helpful or does it apply to the community banker? Ms. Blankenship. I do think I would agree, because anything that would help us alleviate the decline in those mortgage- backed securities values, because it affects the industry on all levels, so it would be helpful. Thank you. Mrs. Biggert. Thank you. I yield back. The Chairman. The gentleman from Texas. Mr. Hensarling. Thank you, Mr. Chairman. After reading about the supposed demise of my State's influence in the Nation's Capital in the Hill newspaper today, I am very happy to see two fellow Texans on this panel, representing 50 percent of the panel. Obviously, there has been a big discussion about foreclosure prevention in mitigation efforts. The gentleman from Texas is no longer in the room, my friend, and spoken that he had seen no--I believe--I hope I had the proper context--had seen no empirical evidence that there was voluntary reworkings, refinancings of these mortgages. I haven't looked at numbers recently, but my thought is, as of a few weeks ago, there had been something around the neighborhood of 2.5 million voluntary refinancings. Mr. Bartlett, do you know what the latest number may be? Mr. Bartlett. Congressman, actually, it is 2.5 million since July of 2007. Those are real numbers. There is a combination. A little over half of them are modifications; the other is a repayment plan. They get people back in their houses and the mortgage reinstated so that they can afford it. We believe that the streamlined mortgage, which we announced last week, which is similar but not identical to what Chairwoman Bair proposed, we think that should increase it by another 100,000 a month. So it is running about 200,000 a month. We think we can increase it to about 300,000 a month. It is a long ways to go, but those are big numbers, and they are real, and those are real people that are being able to reinstate their mortgages and keep their homes. Mr. Hensarling. Well, there seems to be a belief by some on the committee that these refinancings are not taking place or that you apparently have no incentive to do it. Is it not true that the average foreclosure cost to financial institutions is somewhere in the neighborhood of $60,000 to $80,000? Does anyone feel qualified to answer that? Mr. Bartlett. We did a survey a year ago. It was an average of $57,000. So I suspect it is more like $80,000 by now. Foreclosures are financially as well as emotionally devastating for all involved. But, having said that, it is a mortgage. It is not a grant, and we all know that. So we set out to reinstate the mortgage and modify the mortgage if we can get it back to a basis of a mortgage with a homeowner able to pay that mortgage and stay in the house. We do that 200,000 a month, and we are doing it faster every month. Mr. Hensarling. Mr. Yingling, in an answer to a previous question, I think you kind of brought up the moral hazard dilemma about incenting some people with Federal funds to renegotiate their mortgages. I think it begs the question, how many people can't pay their mortgages and how many people choose not to pay their mortgages? And can you speak to the moral hazard of a program that, if not properly structured, is going to incent people to purposefully default? Mr. Yingling. We do believe that we need very strong programs to address foreclosure, and one of the issues I believe that came up in a recent hearing at this committee was the securitization issue and how that has been a roadblock to be able to do foreclosures in many cases. What bankers have expressed is a concern. It is all a matter of communication and calibration of the program. But it is one thing, for example, in IndyMac, where the FDIC goes out with letters to IndyMac borrowers and says, you are an IndyMac borrower; here is what we can do for you. And a more general situation, okay, is where there is a government program that if you miss three payments you qualify for and you will get your monthly payment cut by a third, and that goes around the neighborhood. What you don't want is for people to say, okay, it is a government program. I should be able to participate. I won't pay my mortgage for the next 3 months. Because then the cost to the taxpayers will just balloon. Now this can be dealt with, but it is something that we really need to think through. Mr. Hensarling. Ms. Blankenship, in your testimony--and let me thank you for coming here and making the committee aware of the lack of access to many of our community financial institutions, their inability to access much of the TARP money. You brought the lack of access to our attention and you also stated that community bankers were not the cause of the financial crisis. And perhaps it is the cynic in me pointing out, maybe that is your problem. There tends to be a habit in the Nation's Capital of rewarding failure and punishing success. You might want to think about that for the next round. Mr. Findlay, I don't know where your voice was 6 weeks ago. I wish we could have heard it more loudly than we have today. I know that at least our chairman has been quoted in The Washington Post at the time the original legislation passed--I believe I have this right, Mr. Chairman--that you did not expect the insurance program to materialize. And I hope that is ``expect'' as opposed to ``hope.'' But I think it holds a lot of promise, and I am glad the chairman had an opportunity to hear your testimony. I see my time is out, and I yield back. I would be happy to yield to the Chair. The Chairman. I did express that view after talking to the Secretary of the Treasury. I thank the panel. We will reconvene at 2:30. [Recess] The Chairman. The hearing of this morning will reconvene. I apologize. A Democratic caucus was scheduled at the same time. I regret that more of our colleagues won't hear our witnesses, but it will be on C-SPAN. There is nothing competing with it on the Floor of the House. And, obviously, the testimony will be available. It is a subject of continuing importance, I think, as a result of this morning's hearing and the conversations we had, particularly with the Secretary of the Treasury, that this question of what more to do with regard to mortgage foreclosure is very much an open question. And so this testimony will be especially relevant in helping us shape what I think is going to be the next step. And, with that, we will begin in alphabetical order with Dr. Alan Blinder, who is a professor of economics and co- director of the Center for Economic Policy Studies at Princeton and a former Vice Chair of the Federal Reserve Board of Governors. Mr. Blinder? STATEMENT OF ALAN S. BLINDER, GORDON S. RENTSCHLER MEMORIAL PROFESSOR OF ECONOMICS AND CO-DIRECTOR OF THE CENTER FOR ECONOMIC POLICY STUDIES, PRINCETON UNIVERSITY Mr. Blinder. Thank you, Mr. Chairman, and members of the committee. Thank you for the opportunity to testify here this afternoon. I have come here neither to praise the TARP nor to bury it, but rather to urge Congress to exercise its oversight authority to ensure that the Secretary of the Treasury pursues the stated goals of the legislation. Failing that, I think Congress should take the Secretary's checkbook away and wait for a new Secretary of the Treasury. I note that the Secretary just said he is probably not going to ask for the second $350 billion anyway. So that last point might be moot. Mr. Chairman, I think you will remember that I was among the earliest voices calling for something akin to, though not exactly the same as, the TARP. Specifically, I recommended the establishment of two new institutions, one of which would purchase and refinance imperiled mortgages and the other of which would buy up some of what we now call troubled assets, that is, mortgage-backed securities and the like. The TARP was, in fact, established to serve both of those purposes. That is in the legislation. So it is with great dismay that I look at what has been done as of today and conclude that the TARP is not, in fact, performing its legislatively-mandated duties. I object to the decisions Secretary Paulson has made on at least three different levels: First, the choices he has made regarding how to deploy the money; second, the execution of those choices; and, third, what seems to me, although you ladies and gentlemen can judge this better than I, to be a pretty sharp deviation from congressional intent. Let me take each up in turn, starting with the last. Because the financial crisis has grown to be so complicated and multifaceted, it is worth remembering that it all began with falling house prices and defaults on mortgages or, to be more precise, fears that defaults on mortgages would become rampant. Foreclosures are personally painful and economically costly. They undermine property values, and they lead to fire sales of homes, which further depress house prices, thereby contributing to the vicious circle. It is difficult for me to see a way out of this mess without reducing foreclosures sharply. Understanding that, Congress wrote legislation that at numerous points exhorts, encourages, and even, I think, directs the Secretary of the Treasury to use TARP funds, at least some of them, to acquire mortgages and get them refinanced. But, as you all know, he has not done so. Nor has he purchased any of the so-called troubled assets; and he has recently said he does not intend to do so. The law that you passed in early October authorizes establishment of the TARP to purchase troubled assets, which are defined in Section 3.9. If you have my testimony, the exact words are reproduced on page 3. But they basically say, ``A, residential or commercial mortgages and any securities, obligations or other instruments based on mortgages.'' And then there is clause B, which basically says, ``any other instrument that the Secretary deems to be essential to promoting financial market stability.'' And it adds to that clause, ``but only upon transmittal of such determination in writing to the appropriate committees of Congress.'' I presume this is the appropriate, or at least one of the appropriate, committees. So I think of that language as defining three eligible classes of assets for the TARP to purchase: Mortgages; mortgage-related securities; and then the catch-all, anything else that the Secretary deems important to financial stability. Well, I guess I am an old-fashioned believer in constitutional democracy. I followed from a distance--you ladies and gentlemen were right in the middle of it--a pretty rancorous congressional debate over the TARP. And I am pretty sure that Congress believed it was authorizing $700 billion mainly for the first two of those purposes: buying and refinancing mortgages and purchasing mortgage-related securities. Instead, as you know, almost all the money committed to date is for capital injections into banks, justified under that catch-all phrase, ``any other financial instrument.'' Were I a Member of Congress, I would be pretty unhappy about this turn of events. And, in fact, as a taxpayer shouldering his share of the $700 billion burden, I am unhappy about this turn of events. To be sure, I am not suggesting that Secretary Paulson overstepped his legal authority by making capital injections. They are, in fact, justified by Section 3.9(B). Nor do I question the wisdom of allocating some of the TARP money to recapitalizing banks. But I think we need to pay attention to the scoreboard, which so far, at almost half-time, reads, ``mortgages: zero; mortgage-related assets: zero; other: 100 percent.'' I don't believe that such a lopsided allocation of funds is the optimal use of the public's money. And to see why, I would like to review very briefly the arguments that support each of these three alternative uses of the funds, starting with mortgages. As I mentioned a moment ago, the financial crisis began with mortgages and fears of foreclosures. So, naturally, the legislation directs the Secretary to use TARP funds to get mortgages refinanced. Unfortunately for the country, he has chosen not to do so, and the mortgage problem has festered and worsened. Second, mortgage-related securities. Three main arguments were used to support the idea of buying these kinds of assets-- an idea, as you will remember, that was very controversial. First, panic had virtually shut down mortgage-backed securities (MBS) markets, which had to be put back in working order to restore our mortgage finance system. Second, one of the reasons for the panic, though not the only one, was that nobody knew what these mortgage-related securities were actually worth. A functioning market would at least establish objective values. Third, and most importantly, many mortgages are tied up in complicated securitizations, so buying some of those securities would enable the government to get control of these mortgages and refinance them. In fact, that third objective was written explicitly into the law in several places, prominently in Section 109. The third purpose is recapitalizing banks or, more precisely, the catch-all, ``any other financial instrument.'' That was a wise addition to the Act because it gave the Secretary much-needed flexibility to respond to unforeseen circumstances. And I believe Secretary Paulson was right to decide that bolstering weak bank balance sheets was, and this is the phrase in the law, ``necessary to promote financial market stability.'' But this circumstance was hardly unforeseen. It makes one wonder why it wasn't written into the legislation. I would also question whether capital injections are the most appropriate, let alone the only appropriate, use of the TARP money. And I have serious questions about the details of the program, which I will come to in a moment. So was this a case of bait and switch? Secretary Paulson has appealed to the well-known Keynesian dictum that reasonable people can change their minds when the facts change. And there is no doubt that lots of facts have changed since October 3rd. But he has not, to my knowledge, explained what new facts invalidate the three arguments that I just gave and that were given in the congressional debate. Foreclosures are still coming en masse, and they still destroy value. The MBS markets are still in ruins. Furthermore, there is a natural symbiosis between buying up mortgages and buying up troubled assets. Purchasing the MBS helps the government acquire the mortgages to finance, mortgages that were otherwise buried in securitizations. And refinancing mortgages to avert foreclosures should enhance the values of mortgage-backed securities. And, by the way, each of those should also bolster the financial positions of the banks, which, of course, is the purpose of capital injections. So I conclude that the arguments for buying both mortgages and mortgage-related securities still stand, as they did on the day Congress passed the legislation. And I think it is a shame that neither of these are being done. But even given the decision to devote virtually all of the first $350 billion tranche of TARP money to capital injections, taxpayers might reasonably have expected a better designed program. I would fault the Treasury's execution on at least six dimensions: First, the program is enshrouded in too much secrecy. Second, Secretary Paulson decided to purchase preferred stock with no voting or other control rights. So the government winds up providing money while acquiring virtually no influence over the recipient banks' behavior. Third, taxpayers will receive only a 5 percent dividend rate on their preferred stock investments. Warren Buffet got 10 percent on a similar investment with Goldman Sachs. Fourth, participating banks are allowed to continue to pay dividends to their shareholders, which I found amazing. It raises the spectacle of banks borrowing money--cheaply, by the way--from the taxpayers in order to maintain dividends to the common stockholders. Fifth, contrary to many suggestions, Secretary Paulson did not require participating banks to raise private capital pari passu with the government's capital injections, which I, among many, thought would have been a good idea because it at least would have provided a valuable market test of the viability of the institutions. Sixth, the capital injections are being made with no--I repeat, no--public purpose quid pro quo at all, such as, for example, some minimal lending requirements or maybe a pledge to refinance more mortgages. So the question is, why make the terms so favorable to banks and, by inference, so unfavorable to taxpayers? Based on what Secretary Paulson has said, I can only presume that he wanted to ensure the widest possible bank participation by avoiding stigma. Indeed, to this end, as you know, he even forced the money on several unwilling banks at that famous October 13th meeting at the Treasury. The Chairman. You have 1 more minute. Mr. Blinder. One more minute? Okay. So, to put it mildly, the anti-stigma strategy didn't work. Within minutes, the big banks that didn't want or need the Treasury's capital made that fact known to the markets, and more banks continue to do so daily. And, of course, that is exactly what we should have expected. It is in the interest of the healthy banks to demonstrate their health by saying, ``We don't need this money.'' But by forcing it on recipients who don't need it, the TARP is wasting what, to me, is a precious resource: taxpayer money. So where do we go from here? First, I think there has not been sufficient oversight over the TARP's choices and operations. That is probably nobody's fault; it is hard to get organized that fast. And I am glad to see that the congressional oversight panel is at least in sight, although not yet operating. Second, as I said, I question whether zero allocations of funds to buying and financing mortgages and to buying MBS is really consistent with either the spirit or the letter of the law. I don't think it is. Thirdly, despite that, one might ask whether Secretary-- The Chairman. You have to wrap it up. Mr. Blinder. Okay--Paulson--finish the sentence? One might ask whether Secretary Paulson's decisions to date have actually advanced the objectives of the law better than what the law itself called for. I don't think they have. Thank you. [The prepared statement of Dr. Blinder can be found on page 164 of the appendix.] The Chairman. And next, Professor Martin Feldstein, former chairman, I believe, of the Council of Economic Advisors and my classmate. So, Dr. Feldstein? STATEMENT OF MARTIN S. FELDSTEIN, GEORGE F. BAKER PROFESSOR OF ECONOMICS, HARVARD UNIVERSITY, AND PRESIDENT EMERITUS, NATIONAL BUREAU OF ECONOMIC RESEARCH, INC. Mr. Feldstein. Thank you, Mr. Chairman, fellow classmate. I am very worried about the U.S. economy. I think this financial crisis and the economic downturn are mutually reinforcing and that, without further action from the Congress, this recession is likely to be longer and more damaging than any that we have seen since the 1930's. The fundamental cause was the underpricing of risk and the creation of excess leverage. But the primary condition that now threatens the economy is the expectation that house prices will continue to decline, leading to more defaults and foreclosures. And those foreclosures put more houses on the market, driving house prices down further. This potential downward spiral reflects the fact that in the United States, unlike every other country in the world, home mortgages are no-recourse loans. If someone stops paying his mortgage, the creditor can take the home but cannot take other assets or look to the individual's income to make up any unpaid balance. This no-recourse feature gives individuals whose mortgages exceed the value of their homes an incentive to default and to rent until house prices stop falling. Because the number of defaults is now rising rapidly and expected to go on increasing, financial institutions cannot value mortgage-backed securities with any confidence. That is what stops interbank lending and lending by financial institutions that cannot judge the value of their own capital. The actions, I think, of the Federal Reserve and the FDIC have done a lot to prevent a runoff of funds from the banks and from the money market mutual funds and to maintain the commercial paper market. In contrast, I believe that the TARP, itself, has not done anything to resolve the basic problem of the financial sector. The Treasury's original plan to buy impaired loans as a way of cleaning the bank's balance sheet simply couldn't work. Even $700 billion is not enough to deal with more than $2 trillion of negative-equity mortgages. The plan to buy impaired assets by reverse auction couldn't work because of the enormous diversity of those securities. And even if the Treasury had succeeded in removing all of the toxic assets from the banks' portfolios, that would have done nothing to stop the flow of new impaired mortgages and the fear of more such toxic assets in the future. It was good that the Treasury abandoned this asset purchase plan. Injecting capital into selected banks is also not a way to resolve the problem and get lending going again. A bank like Citigroup has a balance sheet of $2 trillion. Injecting $25 billion of government capital does not provide a significant amount of loanable funds, nor does it give anyone confidence that Citi would have enough capital to cover any potential losses on its mortgage-backed assets. Although it does raise Citi's Tier 1 capital, that was not a binding constraint. So it was good that the Treasury abandoned the equity-infusion plan, as well. Last week, Secretary Paulson announced that he will now concentrate on propping up credit for student loans, auto loans, and credit cards. He didn't say how that would be done. But doing so will not stop the lack of confidence caused by the expected continuing meltdown of mortgage-backed securities that is driven by the process of defaults and foreclosures. In light of this poor record, the Treasury's announcement yesterday that it will not seek any of the remaining $350 billion of the original $700 billion TARP funding seems to me to be quite appropriate. What needs to be done? Stopping the financial crisis and getting credit flowing again requires ending the spiral of mortgage foreclosures and the expectation of very deep further house price declines. To do that, I think, requires two separate new programs, one for homeowners with positive equity and another for homeowners with negative equity. Here, briefly, is a possible way of dealing with each of these two groups. Consider first the problem of stopping homeowners who have positive equity from falling into negative equity as house prices decline to the pre-bubble level. Earlier this year, I suggested that the government offer all homeowners the opportunity to substitute a loan with a very attractive low interest rate but with full recourse for 20 percent of the homeowner's existing mortgage. This mortgage-replacement loan from the government would establish a firewall so that house prices would have to fall more than 20 percent before someone who now has positive equity would decline into negative equity. The key to preventing further defaults in foreclosures among the current negative-equity homeowners is to shift those mortgages into loans with full recourse, allowing the creditor to take other assets or a fraction of wages if the homeowner defaults, as banks and other creditors do in Canada, in Britain, and, indeed, in every other country in the world. But the offer of a low-interest-rate loan is not enough to induce a homeowner with a substantial negative equity to forego the opportunity to default and, thus, escape his existing debt. Substituting a full-recourse loan requires the inducement of a substantial write-down in the outstanding loan balance. Creditors now do have an incentive to accept some write-down in exchange for the much greater security of a full-recourse loan. The government could bridge the gap between the maximum write-down that the creditor would accept and the minimum write-down that the homeowner requires to give up his current right to walk away from his debt. And I described this plan in some more detail in an op-ed piece in today's Wall Street Journal that is attached to the written testimony. If these two programs are enacted, the financial sector would be stable, and credit would again begin to flow. But while that is a necessary condition for getting the overall economy expanding again, I am afraid it is not sufficient. To achieve economic recovery, the Nation also needs a program of government spending for at least the next 2 years to offset the very large decline in consumer spending and in business investment. To be successful, it must be big, quick, and targeted at increasing production and employment. I am, as you know, a fiscal conservative. I generally oppose increased government spending and increased fiscal deficit. But I am afraid that is now the only way to increase overall national spending and to reverse the country's economic downturn. If these two things are done--that is, stopping the incentive to default on home mortgages and increasing government spending--I will be much more optimistic about the ability of the economy to begin expanding before the end of next year. Thank you, Mr. Chairman. [The prepared statement of Dr. Feldstein can be found on page 173 of the appendix.] The Chairman. I thank you both. Let me ask Mr. Feldstein, the 20 percent swap, did you say that everybody now has the right to prepay? Are we clear that there are no restrictions on prepayment in anybody's mind? Mr. Feldstein. No, what I would suggest is that, if you go that route, the legislation provide that individuals have the right to prepay. The Chairman. In abrogation of existing contracts? Mr. Feldstein. To that extent. But I can't believe that there are going to be many creditors who would find that unattractive. The Chairman. Well, that had been a problem, but, just what you say, since individuals now have the right to prepay, and they don't. I mean, that is-- Mr. Feldstein. I don't think--did I say that? The Chairman. Did somebody else say that? Mr. Feldstein. I don't think so. The Chairman. Yes, it is in your testimony. Well, it is not important. I am sorry; it was in the March 7th piece. Mr. Feldstein. Oh, yes. Well, I have learned some things. The Chairman. Well, no, but it was true, in fairness, it was true that, under the HOPE NOW program, they did get a waiver of prepayment; it wasn't legally binding. Mr. Feldstein. I would say that they would have--they should be given the right to prepay. The Chairman. What about with recourse? What does this do with second mortgages? Which has turned out to be one of our problems in trying to resolve things, is that--and I say this in the spirit of cooperation. I welcome these cooperative things. What about the second mortgage issue? Mr. Feldstein. I think that has to be done in proportion. In other words-- The Chairman. That get their share-- Mr. Feldstein. --that they would share in this same thing. I would want to see-- The Chairman. And I appreciate that. I think we undercompensated them in HOPE for Homeowners. And that is one of the things that I hope will get resolved. Mr. Feldstein. Well, it is clear you are not getting the take-up in the HOPE for Homeowners-- The Chairman. Yes. In fact, one of the things I hope they would do with the TARP would be to--if we were redoing HOPE for Homeowners, we have learned some things we would do differently. Some things could be done administratively; some would require a statutory change. But if they did it out of the TARP, they could, in fact, make those changes. But let me just get to the problem we have, which was the $156 billion figure. That is for the people underwater. That would have to be regular spending? Mr. Feldstein. Real money. The Chairman. Yes. And one of the things we are trying to deal with, and it is helpful to have two economists who don't obviously share the same ideological position make the point, because we run into a lot of resistance with people saying, none of my tax dollars go to help people elsewhere. Now, you do, to some extent, respond to that with offering the 20 percent repurchase to everybody, so all homeowners with this package could get some advantage. But the $156 billion at this point appears to be a large chunk. And let me ask--and I welcome, obviously, your testimony about the need for a stimulus, and I think you talked about $300 billion. Is that in addition to the $156 billion, or would that be part of the $300 billion? Mr. Feldstein. The $300 billion, I think, is a number that, in fact, is a kind of minimal number, and it would be required not just for the coming 12 months but probably for the 12 months after that. The Chairman. So that doesn't include the $156 billion? Mr. Feldstein. It doesn't include the $156 billion. The $156 billion is not going to have a significant stimulus impact. The Chairman. It is prevents it from getting worse, is the issue. Mr. Feldstein. Right. And to that extent, it helps every homeowner, because it stops other home prices from being-- The Chairman. Yes, we have made that argument. It is a hard sell. One of the things I said to Chairman Bernanke yesterday, and I will say it with all respect as a, you know, former colleague, counterfactuals buy you more in more academic discussions than they do politically. Harm avoided is rarely something on which you can run for reelection. And that affects, I am afraid, some of my colleagues. Dr. Blinder, since you have been following this very closely, too, I know, the FDIC plan, would you modify it some? Let me put it this way. The Secretary of the Treasury has said, in partial criticism of it, that he thinks the way it is, with us guaranteeing half of the loss if there is a redefault, that you could wind up with a fairly small benefit for some homeowner and after 6 months a disproportionately large one for the lender. A, do you think that is reasonable? And B, is it reparable, if it is? Mr. Blinder. It is reasonable; it is definitely reparable. One sentence, and then let me address the question you asked more specifically. I think, at this stage, we have gone so far down the ``let the foreclosures rip'' road that I, for one, would be ready to board any train that is ready to leave the station. So I would certainly board the Sheila Bair train. I think her plan could be improved. One thing I don't like about it--though this is in the context of being very favorable toward it compared to what is going on with the TARP--is that eligibility requires delinquency. Any plan that has that feature sort of incents people to stop paying their mortgages. So I would like the eligibility to depend on-- The Chairman. No, I agree with that. And let me say this. Fortunately, you know, sometimes we get into the legal habit of we have to accept it or not accept it. The TARP is so written as to give, as we are now aware, a great deal of flexibility to the Secretary. The argument that there are this or that aspect of Sheila Bair's very creative planning--she has been a very positive force here--needs modification is simply an argument to modify it. Under the TARP, they could do that. So I take that as encouragement. And, in fact, it would be good to have two models. The HOPE for Homeowners is a principal-reduction model; the other is an interest-reduction model. And they could both be made available depending on what is appropriate, with elements of Professor Feldstein. I mean, the nice thing about the TARP, its weakness could be its strength, in that it does allow for several approaches. The gentleman from California. Mr. Royce. Thank you. Let me ask a question of our two economists here. Because one of the occurrences that we listen to over and over again in this committee is the Federal Reserve coming up here and also Treasury Secretaries saying that there was a systemic risk to the economy because of the leveraging that was occurring in the system. And, specifically, they were identifying the leveraging, which I guess got up to about 100 to 1 at a point, with the GSEs, with Fannie Mae and Freddie Mac doing what somebody described as arbitraging, but borrowing at one rate and then--I guess they borrowed about $1 billion and then went out into the market and had $1.5 billion in these mortgage- backed securities in the portfolios. And, as they described it, one of the consequences of this was that the financial system worldwide was relying heavily on the mortgage-backed securities and, I guess, also, the debt a lot of the banks were holding as part of their collateral, these instruments from Fannie and Freddie. So maybe one of the things we weren't thinking about at the time was that there was also all of this leveraging going on not just in the institutions themselves--maybe that got up to 100 to 1--but also, because it was collateral for loans, there was this additional leveraging that was leveraged into the system. And then, along the way, there was a little bit of nudging from Congress to Fannie and Freddie, in terms of the type of loans that they should be purchasing, the goals that they should have. And so, as a consequence, Alt-A loans, you know, and subprime loans, I mean, this was a place then that those who were writing those loans could get Fannie and Freddie to purchase them, as they got near the end of the year especially and needed to make that target. And so, as they ended up buying those back into their portfolio, and that being 10 percent of the portfolio, the argument that I have seen is that 50 percent of their losses at one point were these Alt-A loans and subprime loans that they had repurchased. And so one of the questions was: We have tried creating a charter, we have tried giving direction to a quasi-governmental entity or a private entity, however we want to define Fannie and Freddie, but might it be wiser, going forward, for us to just let market principles play out, rather than take a scheme like securitization through Fannie and Freddie and then disallow or prevent the regulator--in this case, OFHEO, because OFHEO testified here maybe a month ago or so, the Director of OFHEO. He said, if they had gotten the legislation that they wanted, which would have allowed them to regulate for systemic risk, they could have deleveraged the situation, forced more capital. And they felt that even as, you know, 16 months from today, if they could have gotten that authority, they could have deleveraged this problem and made it a lot less of a crisis for at least the GSEs. And that might have staved off-- they said it would have staved off the GSE problem. Be that as it may--that is their opinion--I had carried legislation in 2005 that the Federal Reserve had asked for to try to give them the ability to regulate for systemic risk in this way. But that is the question I wanted to ask you gentlemen. Do you think, going forward, that perhaps we should back off of the portfolio arrangement there that we have, or the leveraging arrangement, and look at simply market principles maybe, in terms of the way that Fannie and Freddie would conduct itself in the future? Because I can see, going out 4 years, 5 years from now as we get this thing resolved, that same dynamic occurring again as long as we have that-- Mr. Feldstein. I think there is a built-in flaw in a system that provides a government guarantee, even if it is with a wink, a government guarantee for a for-profit corporation. And I think we have seen the adverse consequence of doing that. So I would hope that gradually over time that gets wound down. The economic studies of the effects of Fannie and Freddie, in terms of helping the home mortgage market, is that it lowers the cost of mortgages by a very small amount. And so, for most individuals, the gain that comes from that is very small relative to what we now see was a major risk for the system as a whole. So my own view is the challenge going forward is to find a way to gradually reduce the role of Fannie and Freddie. Mr. Royce. Thank you, Dr. Feldstein. Mr. Blinder. I don't entirely agree with what Dr. Feldstein just said. So if I could just suggest something: Fannie and Freddie had their origins in the perceived need--and I don't think the perception was wrong--to create some securitizations, mortgage-backed securities and so on. In our wisdom, we the United States gave them this rather odd duck character once they got privatized. They were sort of private companies but not quite private companies. They are now operating as nationalized industries, basically. I think that at the end of the day, once we can get out from doing that, this is a case where we need to go to one extreme or the other. One extreme is to make them public enterprises analogous to Ginnie Mae, so nobody questions that this is the government. And, by the way, that is where public purpose, low-income housing, affordable housing would naturally go. Or you go to the other extreme, which is what I think you were suggesting, sir, which is to make them just private companies. Mr. Royce. They do the securitization, but they aren't leveraged 100 to 1. Mr. Blinder. They have no line to the Treasury, and, therefore, they could never operate with the kind of leverage that Fannie and Freddie did. They would have leverage, but not as much. Indeed, I can well imagine that, at the end of the day, we do both. Those are two very large institutions, so that out of the ruins of those institutions comes a new government enterprise--with no ambiguity. It doesn't have shareholders to cater to. It is just a government enterprise. On the other hand, maybe more than one purely private company can also arise. A company or companies that are in the securitization business, with no line to the Treasury, no special privileges at all. The Chairman. I think time has expired. The gentleman from Pennsylvania. Mr. Kanjorski. Thank you, Mr. Chairman. Dr. Feldstein, just one point that I wanted to get from you. You have talked about no recourse in home mortgages. But in Pennsylvania we have a dual system; you sign a mortgage, and you also sign a judgment note. And the judgment note stands for any money not covered by the mortgage. So we have a very low default rate or foreclosure rate in Pennsylvania. Is that not common in a lot of States, that there is a judgment? Mr. Feldstein. In general, it is not. In most States it is pure no-recourse. In some States, like California, the creditor has the choice between taking the property or going after other ways of collecting, but then the property is taken out of the potential sources of funds. So I think it is something like 75 percent of mortgages are strictly no-recourse. But the de facto practice in many other places is not to pursue the individuals. Mr. Kanjorski. Right. And in Pennsylvania, very seldom do I see any pursuit on the judgment-- Mr. Feldstein. Well, that is also true in Europe, in Canada, and elsewhere. The fact that they can pursue it is enough to discipline individuals to not default, and that avoids the foreclosure. Mr. Kanjorski. Right. Now, I am rather enamored with your proposals, to tell you the truth. What I do not understand is, this is something that will take weeks or several months to finally put in language, statutory language, and to persuade the American people and the Congress to pass something like this. Why is it not advantageous--or is it advantageous--for us to remain in session, have these types of proposals, reduce them into legislation, so that at least with the new Presidency we are prepared from day one to be able to act, as opposed to waiting around for a blind piece of legislation to appear and then we are all forced to make an either/or selection, knowing full well there are many things we could add to the bill that would make it much more applicable to the situation? Mr. Feldstein. I think that would be a good thing. I am very worried because of the state of the economy of saying, well, let's just wait until the new President is sworn in, until he builds his team, until everybody discovers where their office is and starts working. That gets you to March, and a lot of damage gets done between now and March. Mr. Kanjorski. So if you had your druthers-- Mr. Feldstein. I would keep you all working. Mr. Kanjorski. --you would recommend to the leadership that we stay in, or at least establish a committee, whether it is a special committee or whether it is this committee, to start drafting the legislation that would be in total by the time the new President takes his oath of office? Mr. Feldstein. Of course the President would want to have his input--the President-elect would want to have his input into that. But, again, I assume he is going to name his economic team within a matter of days, and so there is no reason why they couldn't start working with the Congress on this well in advance of late January. Mr. Kanjorski. In a way, I am sympathetic, particularly to you because I think I know your philosophical bent, and for you coming with a proposal like this and taking an argumentative position to hold that proposal, I have great admiration for that. But it does set you up with a conflict with my friend from California, who believes that the market itself should be allowed to go forward. Why, being as free a marketeer as you are, why have you cancelled out the market really being able to resolve this problem? Mr. Feldstein. Because of the no-recourse nature of loans, the market is not working as well as it should. Because of the mistakes that were made in extending excess credit during this past decade, allowing for very high loan-to-value ratios, I think we need to have some intervention to correct these problems. Mr. Kanjorski. Would this require a nationalization of real estate law, basically? Mr. Feldstein. Certain features of it Congress would have to override the existing contracts and existing State rules. Again, I am not a lawyer, I don't know how broad that would have to be. Somehow I don't think these are major changes in real estate law. But, for example, if an individual now pays down a piece of his mortgage, the typical practice is that reduces the principal but not the monthly payment, so they end up paying off their mortgage sooner. Well, my 20 percent mortgage replacement loan is intended to reduce their mortgage payments by 20 percent. So the legislation would have to provide for that. Mr. Kanjorski. All right. Thank you. The Chairman. I would just say, legally, if it was a voluntary decision by a homeowner to accept the 20 percent in return for recourse, there is no problem. I do think you would have a problem, though, abrogating existing contracts unless you had mutual consent. I mean, that would be the legal thing. But substituting a recourse for nonrecourse in return for the 20 percent swap could easily be done. Mr. Feldstein. And similarly for the negative-equity group, substituting full recourse on the entire thing, again, for the reduction. That is okay for them. The question is-- The Chairman. I think you would have a hard time legally forcing it on others. The gentlewoman from Illinois. Mrs. Biggert. Thank you, Mr. Chairman. Mr. Blinder, you talked about, in your statement, that there had been zero purchases of the two asset classes, and it has just been capital injections into the banks. And you say, ``Were I a Member of Congress, I would be pretty unhappy about this turn of events. In fact, as a taxpayer shouldering his share of the $700 billion burden, I am unhappy.'' But there is still--and I don't know if you were here for the prior panels--well, one of them was a plan for the insurance, which was actually in the bill. What do you think of the insurance plan? Is this something that we should look at? Which would then--you know, the actual financial institutions would carry the burden for paying for the premiums. Mr. Blinder. I don't rule it out. But I thought at the time and I still think that, being a different direction and given the complexities of starting from scratch, I would rather jump on the train that is leaving the station. However, I don't rule it out. The problem with the insurance plan that was being debated back in September--and, by the way, some insurance aspects come into a lot of these plans--was that it was too much like insuring the house after it had burned down. It is very hard to design an insurance plan for catastrophes that have already happened. But insurance is quite relevant to the ones that haven't happened yet, and probably has merit in that regard. Indeed, a lot of these plans, such as the essence of HOPE for Homeowners, which passed this committee first and then passed the Congress back in July, was to bring in FHA insurance to close the deal. So it was, at its essence, an insurance plan. The government was becoming an insurer. So it really was a first cousin to that idea. Insurance is already in the law. If I was able to wave a magic wand here, which, of course, I cannot, I would make some amendments to HOPE for Homeowners to broaden it and enhance the eligibility. You need money for that. And I would take that away from the TARP. And further to your question, insurance is the essence of that. Mrs. Biggert. But we did pass the FHA reform, and we did put a lot of money into the housing bill, the $300 billion. Wasn't that to help with FHA being able to raise the loan limits so that they would be able to participate in the market? Mr. Blinder. Yes, but Congress didn't actually put much money in it. That $300 billion was someone's estimate, it might have been the staff of this committee, of the value of the mortgages that were hoped to be refinanced. The bill was carefully crafted, as I understand--I see the chairman has left the room, but other members of the committee are here--to get the CBO scoring down to basically zero. So the official budgetary expenditure was nil. Mrs. Biggert. Well, with the insurance that was talked about today and was in the bill, was really to let us know what the value of these mortgage-backed securities, what the intrinsic value is, what the true value of them is. Is this important or not? I mean, we have not really addressed that issue. And that was really--the purchase was supposed to be the start of that, that we would know what these mortgage-backed securities were about. Mr. Feldstein. It is very important and impossible to do as long as there remains this risk of continued defaults driving foreclosures, driving house prices down further. So if you looked at an individual mortgage-backed security or even an individual mortgage, it is hard to know what that is worth if there is a risk that, at some point in the future, that is going to default. And that is what makes it so important. Mrs. Biggert. But it seems like we can't solve the problem until we know what they are worth. Mr. Feldstein. No, you have to stop the bleeding first, and then the market will put prices on it. Mr. Blinder. But if I may interrupt, I do agree that it is important to find out what these things are worth. I may be one of three people left in America who thought the purchase of troubled assets made sense. And one of the reasons is exactly the point you are making: Get some semblance of a market going, and we might actually be able to put prices on these assets. Mr. Feldstein. I don't think so. I think--of course, the Treasury can put a price on it. It can say, I am prepared to pay ``X'' for mortgages, adjustable-rate mortgages in California issued in 2007, and that will be a price. But is it a price that private individuals would be prepared to trade at if they couldn't then hand it on to the government? I doubt it, I think, because they don't know whether the foreclosure rate is going double again in the next year and make those assets worth a lot less. So I think that is the underlying problem here. We don't know what the future foreclosures are going to be. The Chairman. The gentleman from North Carolina. Mr. Watt. Thank you, Mr. Chairman. Dr. Blinder was clear that he would, as an interim proposition, endorse the FDIC proposal. I am not sure we got on the record what Dr. Feldstein's attitude would--I am assuming it would take a while to get the political will or whatever to move to your proposal. Would the FDIC proposal be at least a reasonable step to pursue in the interim? Mr. Feldstein. Well, I tell you what I worry about with respect to the current version of the FDIC proposal. It would be very tempting for creditors to accept the terms, write down for people who are thinking about defaulting, write down the monthly mortgage payments so that they qualified, but knowing that at the end of 6 months, the individual would default and the government would pick up the-- Mr. Watt. I understand you have reservations about the way it is drafted. I am asking, as an interim proposition between what we have now, which is nothing in this area, and the proposal that you have made, would some variation of that, addressing some of the concerns that everybody has addressed, be a step in the right direction? Mr. Feldstein. Well, I guess the question is, would it be, as you said, something to do now as we move on to do other things? I think there is room for multiple things. Or would it block the political process? Mr. Watt. And, Dr. Blinder, I am not sure you are on the record yet as whether you support the approach that Dr. Feldstein has laid out. Is that something that you would endorse? Mr. Blinder. I could in principle. But I come back to what I said before about trains that are leaving the station. I think it would take a long time to get from here to there. Mr. Watt. I understand that. But you think it would be a good place to get to if we could get there? Mr. Blinder. Yes, certainly. If you compare it to the status quo, it is a good place to go. Mr. Watt. Now, could either one of you distinguished gentlemen explain to me what in the world Secretary Paulson is saying when he says that dealing with this mortgage situation is not important to stabilizing the financial system? Do you all have a clue what he is--I mean, he says this is not the purpose of what we passed. Can somebody--he couldn't explain it to me this morning. I am trying to find somebody who can explain to me what in the world he is saying. Mr. Blinder. I am baffled by that, frankly. Mr. Watt. Okay. So you can't explain it. What about you? Mr. Blinder. If I may, just one more sentence? Mr. Watt. All right. Mr. Blinder. In preparing to come to this testimony, I scanned through the Act. And there must be 15 places or something like that in the Act-- Mr. Watt. The chairman was good at pointing those out to him, which makes it even more baffling. Explain it to me, Dr. Feldstein. Mr. Feldstein. I am afraid I cannot. Mr. Watt. Okay. I don't have any further questions, and I yield back. The Chairman. Having stumped the experts, the gentleman from North Carolina retires in triumph, and the gentleman from Alabama is recognized for 5 minutes. Let me just say to my colleagues, they are about to start the votes. I think we will be able to get all three questions in, and then we can go over and vote in the caucus. I appreciate it. The gentleman from Alabama. Mr. Bachus. Dr. Feldstein, you are opposed to taxpayer money being used to bailout or to loan to GM and Chrysler, is that correct? Mr. Feldstein. My first choice would be that they go through Chapter 11. My second choice would be that any money that is given to them be given under the kind of conditions that would make them long-term viable, which, to me, means a rewriting of the labor contracts, the fringe benefits, the retiree benefits. Mr. Bachus. All right. And I think if some concessions by the union, management, and maybe the pension funds, would those be the three parties that would have to-- Mr. Feldstein. Exactly. And I think those--if the alternative to getting money and making those concessions was not getting money and going to a bankruptcy court, they might well be willing to make the kind of concessions that would make those companies viable. Mr. Bachus. And without any assurance that they would become competitively viable, any loan would actually be very risky. So I agree with you totally. Mortgage foreclosures--let me ask you three or four things. The basic thing that I am struggling with is, mixed up with this issue of mortgage foreclosure mitigation is this idea of, ``stabilizing housing prices.'' And I am very skeptical that the government, number one, can stabilize housing prices and, even if they could, that it would be beneficial. Now, I understand that preventing a foreclosure--you know, a house in a neighborhood diminishes housing values. But, you know, the reason we are coming down and housing prices are coming down is, for decades, you loaned money to people about 3 times their income. And then 10 or 15 years ago, we lost our way and we started loaning 4 and 5 and 6 times as much. And then the closing costs went from 2 percent to 5 percent to sometimes 15 percent. And these were loans that they simply--I mean, they couldn't afford these properties on their income. So is supporting housing prices even--is it realistic that-- Mr. Feldstein. Housing prices have to fall further. So I don't think that government should be trying to stabilize house prices at the current level. They overshot on the way up. They have come partly down. They have to come down further. The danger is that they can way overshoot on the way down. And that would be a bad thing. That would destroy financial institutions that are holding mortgage-backed securities. It would destroy household wealth, which, in turn, would make people cut back on their spending. That, in turn, would drag the economy down. So the ideal thing would be to see house prices come down to a sustainable level but not overshoot on the way down. And that is why I talk about this firewall as a way of stopping house prices from falling beyond the amount that is necessary to get back to pre-bubble levels. Mr. Bachus. Dr. Blinder? Mr. Blinder. I agree with that. But one of the main arguments, to my mind almost the main argument, for pushing foreclosure mitigation is that you can avoid, or minimize anyway, fire sales of houses, which do, almost by definition, overshoot on the way down. Mr. Bachus. And I would agree with that. You know, I think many of us conservatives, our dilemma is that we don't believe that government ought to intervene into some of these natural processes. But at the same time, we do care about the communities, we care about the families, and we care about the fire sale and the implications for all involved. And it is a dilemma. One thing I would like to say--and I am very glad that, Dr. Feldstein, you said, and, Dr. Blinder, I think you agreed--and I have said for the last 2 or 3 months putting a delinquency requirement in these different mortgage mitigation plans is the absolute wrong thing to do. I mean, people get delinquent. And I want to fully endorse and I applaud you for taking that stand. Let me ask you this: What about the homeowner who is underwater? You know, the house is worth $400,000, and he has a $600,000 mortgage. Now, you know, in that case, it is best for him to walk away, is it not? I mean, isn't that why a lot of these people are walking away? Mr. Feldstein. It is certainly in his interest now to walk away. But the proposal I described in today's Wall Street Journal op-ed piece tries to address what we could do for that person. And, basically, the idea would be to take that shortfall between what the house is worth and what he currently owes and divide that, some of it being accepted by the creditor as a write-down and some of it paid by the government to bridge the gap, but then requiring the individual to carry on with that mortgage as a full-recourse mortgage, so that they wouldn't be able to walk away from it. The Chairman. The gentleman from Massachusetts. Mr. Bachus. Could he respond? The Chairman. Quickly. Mr. Blinder. I was only going to say that you took an example of something that was really deeply underwater. And in cases like that, the best solution for everybody may just to be to walk away. Most of the houses in America, thank goodness, are not that deeply underwater. The Chairman. Thank you. Mr. Lynch? Mr. Lynch. Thank you, Mr. Chairman and the ranking member. I want to thank both of the witnesses here for your thoughtful testimony. Dr. Blinder, I do want to say that I think it is a double- edged sword, the fact that Secretary Paulson has said he is not going to ask for the other tranche of $350 billion. Instead, he has really, to use a football term, he has punted basically, or fumbled is another football term. He is basically telling us he is not going to ask for any more money. However, given our recent experience, I don't think we should take him at his word. Not because he doesn't mean it, but because we are having a crisis a week, and it may very well need to happen that he reaches out for more assistance. One aspect of the problem that we are dealing with here is the fact that we have somewhere in the area of $1.5-, $2 trillion in securitization pools. These mortgages are securitized, they are bundled. We have some very complex CDOs. There is an opacity, a lack of transparency that is really causing problems with even ascertaining what the value of some of these instruments are. To make matters worse, no one--the banks don't want to lend to each other, because nobody knows what the value of these CDOs are on each other's bank books. Because the--actually, the CDOs, because they are not liquidating more, no one wants to buy them. It is causing the assets within them and themselves within these banks to being written down, and it is causing a capitalization problem for the banks that are holding these. The problem for us is that we have seen some efforts so far to pluck, say, the lowest traunch, the equity traunch mortgages out of some of these CDOs. Because the way they are structured and the agreements that govern them, we have had senior traunches, or people with interest in the senior traunches, basically, stop that practice. How do we deal with this $1- to $2 trillion of securitized mortgages? How do we get at those in order to deal with homeowners who happen to be in that unhappy position? Mr. Blinder. Yes, well, first let me say it is a very difficult problem, and we are not going to solve it fully. Having said that, one of the ideas of the original conception of the TARP, as I mentioned in my testimony was to buy some of these assets, MBS, CBOs, whatever, to get control of them inside the TARP. The government then would be the controlling investor, and the government could then go in and pluck out mortgages and refinance them. I thought that was a good idea, actually. It is not being done. Mr. Lynch. I don't know if you saw it this week, Gretchen Morgenson had a column about two gentleman, Thomas Patrick and Max Taylor, who have a pretty good plan to go in there. Do you have familiarity with that plan? Mr. Blinder. I read the article. I am not a good enough lawyer to know exactly what is the right point of attack. But the basic principle is clear, that if the government becomes the beneficial investor, it then can restructure the mortgages and wipe out the others. Now, you won't be able to do this for every single one of them, but you can do it for some. Mr. Lynch. Okay. Thank you both, gentlemen. I yield back the balance of my time. The Chairman. The gentleman from Missouri. Mr. Cleaver. This is for both of you. We have to go. I wanted to talk about situational conservatism, but we don't have time, Dr. Feldstein. I mean, it is always amusing that people are opposed to government involvement until they want government involvement, but that is just not what I am going to talk about now, because I don't have time. But the question I want to ask is, do either of you find that there is something wrong with the fact that the banks are able to borrow cheap money from the government? The loan rate, the lending rate between banks is still unstable; and, at the same time, the consumers' borrowing costs seem to be rising. I mean, is there something--does that bother you, trouble you at all, particularly when you consider the fact that we are putting money into these lending institutions? Mr. Blinder. It does. I think that is part of the essence of the problem. The risk-free or virtually risk-free short-term interest rates are extremely low. The target Federal funds rate, as you know, is 1 percent and, in fact, the actual rate is trading at a quarter of a percent. The LIBOR has come way down, although it is not very low by historic standards. The essence of getting out of this broader financial problem is to get the risk spreads, that intervene between the risk-free rates and the rates that real borrowers have to pay, down. That is, in some sense, the overall uber goal of the whole thing, the whole effort. The specific issue that does bother me--you started to allude to it in your question, Congressman--is the low rate that the taxpayers are receiving on the preferred stock that it is injecting into banks. It is a bargain rate. Mr. Cleaver. Dr. Feldstein. Mr. Feldstein. I think what Alan said is essentially correct. The fact that mortgage rates have not come down at all, even though the Federal funds rate has come down to 1 percent, tells you how dysfunctional the credit markets are and how wide these risk spreads are. Until we get the financial institutions to a point where they are willing to buy long-term assets and take those kinds of risks, we are going to see the situation in which interest rates facing consumers are very high, despite the action by the Federal Reserve in bringing down the short-term rates. Mr. Cleaver. Thank you. I wish we had more time. Thank you very much. I appreciate it. The Chairman. Witnesses, I very much appreciate this. This has been very useful. As I said, this is ongoing; and we will be doing more. We are now, the Democrats, going to have to go vote in caucus. In closing the hearing, the ranking member had a statement he wanted to make, and he will close out the hearing. Mr. Bachus. [presiding] Thank you, Mr. Chairman. In fact, going forward--and you two gentlemen may be aware of this--as we address the foreclosure delinquencies and our foreclosures and mortgage delinquencies, that next year we will face somewhere between 250,000 and 300,000 resets of mortgage interest rates, that is, people that can pay the mortgages now but can't next year. And sometimes people hadn't factored that in, as if that was not a problem. In the year 2010, we face approximately 700,000 of these, as I call them exploding mortgages. Of all the planning we need to do, that is something that we need to factor into our plans going forward. I don't know if you have a comment on that as we close. Mr. Blinder. I think you are 100 percent right. From the get-go, when I first started writing about this problem in January, that was one of the problems on my mind and on many other people's minds. It is a prime argument for getting more of these mortgages refinanced so that the ticking time bomb doesn't actually blow up when the time comes. Yes, absolutely. Mr. Bachus. Dr. Feldstein? Mr. Feldstein. Yes, I agree with that. Mr. Bachus. It is one of the most disturbing challenges we face in going forward. Thank you very much for your attendance. The committee is recessed--or adjourned, actually. [Whereupon, at 3:58 p.m., the hearing was adjourned.] A P P E N D I X November 18, 2008 [GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]