Congressional Testimony

S. HRG. 111-53 FEDERAL RESERVE'S FIRST MONETARY POLICY REPORT FOR 2009 HEARING BEFORE THE COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS UNITED STATES SENATE ONE HUNDRED ELEVENTH CONGRESS FIRST SESSION ON OVERSIGHT ON THE MONETARY POLICY REPORT TO CONGRESS PURSU- ANT TO THE FULL EMPLOYMENT AND BALANCED GROWTH ACT OF 1978 FEBRUARY 24, 2009 Printed for the use of the Committee on Banking, Housing, and Urban Affairs Available at: http://www.access.gpo.gov/congress/senate/senate05sh.html U.S. GOVERNMENT PRINTING OFFICE 50-814 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 COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS CHRISTOPHER J. DODD, Connecticut, Chairman TIM JOHNSON, South Dakota RICHARD C. SHELBY, Alabama JACK REED, Rhode Island ROBERT F. BENNETT, Utah CHARLES E. SCHUMER, New York JIM BUNNING, Kentucky EVAN BAYH, Indiana MIKE CRAPO, Idaho ROBERT MENENDEZ, New Jersey MEL MARTINEZ, Florida DANIEL K. AKAKA, Hawaii BOB CORKER, Tennessee SHERROD BROWN, Ohio JIM DEMINT, South Carolina JON TESTER, Montana DAVID VITTER, Louisiana HERB KOHL, Wisconsin MIKE JOHANNS, Nebraska MARK R. WARNER, Virginia KAY BAILEY HUTCHISON, Texas JEFF MERKLEY, Oregon MICHAEL F. BENNET, Colorado COLIN McGlNNIS, Acting Staff Director WILLIAM D. DUHNKE, Republican Staff Director AMY FRIEND, Chief Counsel AARON KLEIN, Chief Economist JONATHAN MILLER, Professional Staff Member DREW COLBERT, Legislative Assistant LISA FRUMIN, Legislative Assistant PEGGY KUHN, Republican Chief Economist ANDREW OLMEM, Republican Counsel HESTER PEIRCE, Republican Counsel JlM JOHNSON, Republican Counsel MARK CALABRIA, Republican Professional Staff Member DAWN RATLIFF, Chief Clerk DEVIN HARTLEY, Hearing Clerk SHELVIN SIMMONS, IT Director JIM CROWELL, Editor (ID C O N T E N TS TUESDAY, FEBRUARY 24, 2009 Page Opening statement of Chairman Dodd 1 Opening statements, comments, or prepared statements of: Senator Shelby 4 Senator Johnson Prepared statement 62 WITNESS Ben S. Bernanke, Chairman, Board of Governors of the Federal Reserve System 5 Prepared statement 62 Response to written questions of: Senator Shelby 66 Senator Johnson 72 Senator Bennett 78 Senator Tester 80 Senator Crapo 81 ADDITIONAL MATERIAL SUPPLIED FOR THE RECORD Monetary Policy Report to the Congress dated February 24, 2009 88 (III) FEDERAL RESERVE'S FIRST MONETARY POLICY REPORT FOR 2009 TUESDAY, FEBRUARY 24, 2009 U.S. SENATE, COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, Washington, DC. The Committee met at 10:11 a.m., in room SH-216, Hart Senate Office Building, Senator Christopher J. Dodd (Chairman of the Committee) presiding. OPENING STATEMENT OF CHAIRMAN CHRISTOPHER J. DODD Chairman DODD. Mr. Chairman, welcome. I hope that was in- structive for you, Mr. Chairman. [Laughter.] Chairman DODD. I am sure the Federal Reserve operates in a similar pattern as we do here on the Banking Committee. Do you get as much luck as the Chairman as I just did on that? Well, let me tell you how we will proceed here this morning, and we welcome you, Mr. Chairman, to the Committee. We have got a good turnout of our Members here for all the obvious reasons. When the Chairman of the Federal Reserve comes before our Com- mittee, it is obviously of deep interest to the country, and we wel- come you here this morning. I will take a few minutes for some opening comments, turn to Senator Shelby for any opening com- ments he may have, and then we will go right to you, Mr. Chair- man, for your statement this morning, and we will try and follow the 5-minute rule so that everybody gets a chance to raise ques- tions with you. And if we need a second round, we will do so. The record will stay open for a few days to submit questions, and any and all statements, documents, and other materials that my col- leagues and others feel would be important to include in the record will be considered included at this moment, without objection. Well, Chairman Bernanke, we welcome you to the Committee to present the Fed's semiannual monetary policy report to the U.S. Congress. We meet obviously at a very important moment for our country, with our Nation in the midst of the worst economic crisis in generations. Since the end of World War II, America's business cycles have oscillated between periods of growth and rising infla- tion, with the Fed raising interest rates to slow the economy, cre- ating a recession, which then caused inflation to slow. The Fed then typically lowered interest rates, restarting the Nation's econ- omy again. And while the Fed manages our recessions, our eco- nomic recoveries have typically been led by the housing and auto- mobile sectors, which are highly sensitive to interest rates. (l) In the past, the typical American worker saved during the good times for rainy days, and when recession hit, they may have been laid off. But once the recession receded, they not only had some savings hopefully stored up, but also a reasonably good chance of getting their jobs back or finding new employment. This time, however, Mr. Chairman, our housing and auto sectors are leading us not out of recession but into it in many ways. This time our recession is being caused not by rising interest rates but, rather, a massive credit crunch, resulting from years of reckless spending and, as the Banking Committee has uncovered during the 80 hearings and meetings in the last Congress, regulatory neglect as well. Such neglect allowed for and even encouraged a problem that began in the subprime mortgage market to spread throughout our Nation and the entire global financial system like a cancer. This time, nearly half the jobs we have lost are not likely to come back, we are told, and that is why the American Recovery and Re- investment Act is so essential. This time, the American people en- tered this recession with a negative personal savings rate and a false sense of confidence that we can count on the value of our homes and stocks to go up forever. In fact, Mr. Chairman, I read with great interest that your own boyhood home recently went into foreclosure. I am saddened by that, as I am sure you are. Most recently, that home was owned by a soldier in the South Carolina Army National Guard, who re- portedly volunteered to go on active duty during wartime in order to try and save his home and your former home. Mr. Chairman, I do not suggest that you are to blame for any of this. Quite the contrary. I happen to commend your conduct of monetary policy during your tenure. Last year, you began to cut in- terest rates in the face of opposition from some regional bank presi- dencies at the Fed. You followed through on your commitment that you made, a meeting which I will never, ever forget in August of 2007, when you were in my office with Hank Paulson. And I will never forget the words you spoke to me that day when asked what we could about the problems, and you said at that time you would use all the tools at your disposal to attack the problems in the glob- al financial market. And I commended you for those comments then, and your efforts, through aggressive and often innovative monetary policy. You have worked creatively to adapt the Fed to handle the great- est financial market crisis in any of our lifetimes. If, as it is said, those who do not study history are doomed to repeat its mistakes, I am relieved we have one of the foremost scholars of the Great De- pression at the helm of the Fed at this moment. But for all the successes the Fed has had in carrying out its core mission—monetary policy—its regulation and consumer protection missions have been abject failures, in my view. And while many of these failures predate your arrival, they cannot be ignored. When I am approached by a constituent in New London, Con- necticut, for instance, who was outraged that some of these banks were allowed to grow into behemoths and given a clean bill of health, only to turn around months later on the verge of bank- ruptcy, asking for billions of dollars in taxpayer funding, I am re- minded of the shortcomings in the Fed's regulation of bank holding companies. When a family in Bridgeport, Connecticut, with their 5,000 fore- closures in that one city in my home State pending, who have lost everything ask me where the cops were on the beat, where were they to stop the abusive predatory mortgages from being written, I am reminded of the Fed's failure to implement the law Congress passed in 1994 to protect consumers and regulate mortgage lending practices. When I learn a direct marketing business in greater Hartford has to close its doors, not because they missed a payment to their bank but because the bank is having capital problems, I cannot help but remember your predecessor's fondness for "regulatory competition," as he called it, for actually encouraging bank regu- lators to compete with one another to see who could provide the most effective regulation of our banks, but apparently at the least. As a result, today countless banks are left with dangerously low cash reserves and a massive buildup of leverage, which have cre- ated a veritable boomerang of debt that has now snapped back, en- snaring countless honest small businesses in the process. Finally, when I am asked how our Government could have al- lowed these toxic financial products to proliferate, products that served to dilute the appearance of risk rather than the risk itself, I remember the Federal Reserve's mantra of financial innovation and its leaders' repeated warnings against any additional Govern- ment regulation of any kind. I remember very, very clearly the mood in January of 2007 when I became Chairman of this Com- mittee and the mantra—the mantra in those months was, "Deregu- late, fast, before everyone runs to London." Mr. Chairman, you have an extraordinarily difficult task ahead of you, not only to fulfill the Fed's primary mandate to conduct monetary policy to create maximum economic growth, full employ- ment, and price stability, you do so in the face of an economy in deep recession, closing credit markets and unemployment rising at its fastest pace in a generation, having already cut interest rates to almost zero. You do so managing a balance sheet that has spiked to $2 trillion and now includes the remnants of an investment bank and the control of the world's largest insurance company. You do so having to conduct monetary policy in ways never tried before to unlock frozen credit markets, and you do so with an agency whose structure is virtually unchanged since its creation in 1913, when nearly a third of the Americans worked on farms, even as your mission has expanded exponentially from regulating the smallest banks in the country to the largest bank holding companies, from protecting consumers to being the lender of last resort for any com- pany in the Nation. Mr. Chairman, I would say your plate is full, to put it mildly. As this Committee works to modernize our Nation's financial regu- latory structure, the question is whether we should be giving you a bigger plate or whether we should be putting the Fed on a diet. I do not question your track record on monetary policy, as I have said—the Fed's primary goal. But when you keep asking an agency to take on more and more and more, it becomes less and less and less likely that the agency will succeed at any of it. And at the same moment, in my view, nothing will be more important for the Federal Reserve than getting monetary policy right. It is absolutely paramount, and I know you know that as well. So we welcome you to this Committee, and let me turn to Sen- ator Shelby for any opening comments he may have. STATEMENT OF SENATOR RICHARD C. SHELBY Senator SHELBY. Thank you, Chairman Dodd. Chairman Bernanke, we welcome you back to the Committee. You have spent a lot of time with us. The economic and financial climate has deteriorated significantly since our last monetary policy hearing in July of 2008. In response to the Congress, the administration and the Federal Reserve have taken dramatic steps to navigate our way through this crisis. Since last summer, the Federal Reserve's balance sheet has more than doubled in size and presently stands at about $2 trillion. This ex- pansion is a result of extraordinary actions taken by you and the members of the Board of Governors. Some of these actions were in- stitution specific while others involved establishing new programs aimed at providing liquidity to the banking system and unfreezing credit markets. Because it would take too much of our time this morning to de- scribe each action and program in detail, I will be brief and only discuss a few of them. I would, however, strongly encourage Chair- man Dodd to conduct hearings on all of these programs. The Fed- eral Reserve has provided assistance to several large financial enti- ties, according to their words, "in order to ensure financial market stability." Acting along with Treasury and the FDIC, the Federal Reserve has intervened to rescue Citigroup and Bank of America by pro- viding a backstop for large pools of their loans. The Federal Re- serve has extended the safety net beyond the banking system by establishing two new lending facilities in connection with the bail- out of AIG. These facilities are winding down AIG's holdings and mortgage-backed securities and credit default swap contracts. The Federal Reserve will continue to run a virtual alphabet soup of li- quidity facilities through April 30, 2009, at the least. In more recent months, the Federal Reserve announced initia- tives aimed specifically at stabilizing our housing and securitization markets. The Fed has announced that it will pur- chase up to $100 billion in debt obligations of Fannie Mae, Freddie Mac, and Federal home loan banks, as well as up to $500 billion of mortgage-backed securities backed by Fannie Mae, Freddie Mac, and Ginnie Mae. Most recently, with securitization markets for all types of con- sumer credit virtually frozen, the Federal Reserve has announced the establishment of the Term Asset-backed Securities Loan Facil- ity, or TALF. Under the TALF, the Federal Reserve Bank of New York will lend up to $200 billion on a non-recourse basis to holders of certain AAA-rated asset-backed securities backed by newly and recently originated consumer and small business loans. The New York Fed will lend an amount equal to the market value of the ABS less a haircut. The U.S. Treasury Department under the TARP will provide $20 billion of credit protection to the New York Fed in connection with the TALF. Given the scope of the Federal Reserve's recent actions, it seems unlikely that any future student will conclude that today's Federal Reserve was too timid in the face of this crisis, Mr. Chairman. Whether the Federal Reserve pursued the most effective actions will be another question, and that will also be the case for the ef- forts of the administration and the Congress, too. I hope that this Committee will use today's hearing to explore the effectiveness of the Federal Reserve's recent actions. One of the questions foremost in my mind, Mr. Chairman, is whether the Fed- eral Reserve has thought about the long-term implications of its programs, its new programs. Chairman Bernanke, you have already begun discuss the need for an exit strategy, some of which will happen as credit conditions return to normal. Some of the new programs, however, have longer maturities. This presents a problem not only to you but for us. How do you decide when and how to remove the Federal Reserve from the market? This uncertainty may require the Fed to provide more clarity on when and how it will terminate these programs. In addi- tion, Mr. Chairman, the Federal Reserve is likely to take more credit risk through the TALF than is customarily the case of its lending operations. This raises additional questions about transparency and what taxpayers should expect, and perhaps demand, from the Federal Reserve. Hopefully, Chairman Bernanke can begin to address these and other questions today. Thank you, Chairman. Chairman DODD. Thank you very much, Senator. Let me just inform my colleagues, by the way, that there will be a vote at 11:15 on the D.C. voting rights bill, and, Senator Menen- dez, we will try and work it so we just continue with the hearing and go in tranches. We use the word "tranche" a lot these days, so we go in tranches to vote and continue the process of the Com- mittee. Mr. Chairman, we thank you again for being before us this morn- ing, and we welcome your statement. STATEMENT OF BEN S. BERNANKE, CHAIRMAN, BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM Mr. BERNANKE. Thank you. Chairman Dodd, Senator Shelby, and Members of the Committee, I appreciate the opportunity to discuss monetary policy and the economic situation and to present the Fed- eral Reserve's monetary policy report to the Congress. As you are aware, the U.S. economy is undergoing a severe con- traction. Employment has fallen steeply since last autumn, and the unemployment rate has moved up to 7.6 percent. The deteriorating job market, considerable losses of equity and housing wealth, and tight lending conditions have weighed down on consumer sentiment and spending. In addition, businesses have cut back capital outlays in response to the softening outlook for sales, as well as the dif- ficulty of obtaining credit. In contrast to the first half of last year, when robust foreign de- mand for U.S. goods and services provided some offset to weakness 6 in domestic spending, exports slumped in the second half as our major trading partners fell into recession and some measures of global growth turned negative the first time in more than 25 years. In all, U.S. real gross domestic product declined slightly in the third quarter of 2008, and that decline steepened considerably in the fourth quarter. The sharp contraction in economic activity ap- pears to have continued into the first quarter of 2009. The substantial declines in the prices of energy and other com- modities last year and the growing margin of economic slack have contributed to a substantial lessening of inflation pressures. In- deed, overall consumer price inflation measured on a 12-month basis was close to zero last month. Core inflation, which excludes the direct effects of food and energy prices, also has declined sig- nificantly. The principal cause of the economic slowdown was the collapse of the global credit boom and the ensuing financial crisis, which has affected asset values, credit conditions, and consumer and busi- ness confidence around the world. The immediate trigger of the cri- sis was the end of the housing booms in the United States and other countries and the associated problems in mortgage markets, notably the collapse of the U.S. subprime mortgage market. Conditions in housing and mortgage markets have proved a seri- ous drag on the broader economy, both directly through their im- pact on residential construction and related industries and on household wealth, and indirectly through the effects of rising mort- gage delinquencies on the health of financial institutions. Recent data show that residential construction and sales continue to be very weak, house prices continue to fall, and foreclosure starts re- main at very high levels. The financial crisis intensified significantly in September and Oc- tober. In September, the Treasury and the Federal Housing Fi- nance Agency placed the Government-sponsored enterprises Fannie Mae and Freddie Mac into conservatorship, and Lehman Brothers Holdings filed for bankruptcy. In the following weeks, several other large financial institutions failed, came to the brink of failure, or were acquired by competitors under distressed circumstances. Losses at a prominent money market mutual fund prompted in- vestors, who had traditionally considered money market mutual funds to be virtually risk free, to withdraw large amounts from such funds. The resulting outflows threatened the stability of short- term funding markets, particularly the commercial paper market, upon which corporations rely heavily for their short-term borrowing needs. Concerns about potential losses also undermined confidence in wholesale bank funding markets, leading to further increases in bank borrowing costs and a tightening of credit availability from banks. Recognizing the critical importance of the provision of credit to businesses and households from financial institutions, the Congress passed the Emergency Economic Stabilization Act last fall. Under the authority granted by this act, the Treasury purchased preferred shares in a broad range of depository institutions to shore up their capital basis. During this period, the FDIC introduced its Tem- porary Liquidity Guarantee Program, which expanded its guaran- tees of bank liabilities to include selected senior unsecured obliga- tions and all non-interest-bearing transactions deposits. The Treas- ury, in concert with the Federal Reserve and the FDIC, provided packages of loans and guarantees to ensure the continued stability of Citigroup and Bank of America, two of the world's largest banks. Over this period, governments in many foreign countries also an- nounced plans to stabilize their financial institutions, including through large-scale capital injections, expansions of deposit insur- ance, and guarantees of some forms of bank debt. Faced with the significant deterioration of financial market con- ditions and the substantial worsening of the economic outlook, the Federal Open Market Committee continued to ease monetary policy aggressively in the final months of 2008, including a rate cut co- ordinated with five other major central banks. In December, the FOMC brought its target for the Federal funds rate to a histori- cally low range of zero to one-quarter percent, where it remains today. The FOMC anticipates that economic conditions are likely to warrant exceptionally low levels of the Federal funds rate for some time. With the Federal funds rate near its floor, the Federal Reserve has taken additional steps to ease credit conditions. To support housing markets and economic activity more broadly and to im- prove mortgage market functioning, the Federal Reserve has begun to purchase large amounts of agency debt and agency mortgage- backed securities. Since the announcement of this program last No- vember, the conforming fixed mortgage rate has fallen nearly 1 percentage point. The Federal Reserve also established new lending facilities and expanded existing facilities to enhance the flow of credit to businesses and households. In response to the heightened stress in bank funding markets, we increased the size of the Term Auction Facility to help ensure that banks could obtain the funds they need to provide credit to their customers, and we expanded our network of swap lines with foreign central banks to ease conditions in interconnected dollar funding markets at home and abroad. We also established new lending facilities to support the functioning of the commercial paper market and to ease pressures on money market mutual funds. In an effort to restart securitization markets to support the ex- tension of credit to consumers and small businesses, we joined with the Treasury to announce the Term Asset-backed Securities Loan Facility, or TALF. The TALF is expected to begin extending loans soon. The measures taken by the Federal Reserve, other U.S. Govern- ment entities, and foreign governments since September have helped to restore a degree of stability to some financial markets. In particular, strains in short-term funding markets have eased no- tably since last fall, and London Interbank Offered Rates, or LIBOR, upon which borrowing costs for many households and busi- nesses are based, have decreased sharply. Conditions in the commercial paper market also have improved, even for lower-rated borrowers, and the sharp outflows from money market mutual funds seen in September have been replaced by modest inflows. Corporate risk spreads have declined somewhat from extraordinarily high levels, although these spreads remain elevated by historical standards. Likely spurred by the improvements in pricing and liquidity, issuance of investment-grade corporate bonds has been strong, and speculative-grade issuance, which was near zero in the fourth quar- ter, has picked up somewhat. As I mentioned earlier, conforming fixed mortgage rates for households have declined. Nevertheless, despite these favorable developments, significant stresses persist in many markets. Notably, most securitization markets remain shut other than that for conforming mortgages, and some financial insti- tutions remain under pressure. In light of ongoing concerns over the health of financial institu- tions, the Secretary of the Treasury recently announced a plan for further actions. This plan includes four principal elements. First, a new Capital Assistance Program will be established to ensure that banks have adequate buffers of high-quality capital based on results of comprehensive stress tests to be conducted by the financial regulators, including the Federal Reserve. Second is a Private-Public Investment Fund in which private capital will be leveraged with public funds to purchase legacy as- sets from financial institutions. Third, the Federal Reserve, using capital provided by the Treas- ury, plans to expand the size and scope of the TALF to include se- curities backed by commercial real estate loans and potentially other types of asset-based securities as well. And, fourth, the plan includes a range of measures to help pre- vent unnecessary foreclosures. Together, over time, these initiatives should further stabilize our financial institutions and markets, improving confidence and help- ing to restore the flow of credit needed to promote economic recov- ery. The Federal Reserve is committed to keeping the Congress and the public informed about its lending programs and balance sheet. For example, we continue to add to the information shown in the Fed's H41 statistical release, which provides weekly detail on the balance sheet and the amounts outstanding for each of the Federal Reserve's lending facilities. Extensive additional information about each of the Federal Reserve's lending programs is available online. The Fed also provides bimonthly reports to the Congress on each of its programs that rely on the Section 13(3) authorities. Gen- erally, our disclosure policies reflect the current best practices of major central banks around the world. In addition, the Federal Reserve's internal controls and manage- ment practices are closely monitored by an independent Inspector General, outside private sector auditors, and internal management and operations divisions, and through periodic reviews by the Gov- ernment Accountability Office. All that said, we recognize that recent developments have led to a substantial increase in the public's interest in the Fed's programs and balance sheet. For this reason, we at the Fed have begun a thorough review of our disclosure policies and the effectiveness of our communication. Today, I would like to highlight two initiatives. First, to improve public access to information concerning Fed policies and programs, we recently unveiled a new section of our 9 Web site that brings together in a systematic and comprehensive way the full range of information that the Federal Reserve already makes available, supplemented by explanations, discussions, and analyses. We will use that Web site as one means of keeping the public and the Congress fully informed about Fed programs. Second, at my request, Board Vice Chairman Donald Kohn is leading a committee that will review our current publications and disclosure policies relating to the Fed's balance sheet and lending policies. The presumption of the committee will be that the public has the right to know and that the non-disclosure of information must be affirmatively justified by clearly articulated criteria for confidentiality based on factors such as reasonable claims to pri- vacy, the confidentiality of supervisory information, and the need to ensure the effectiveness of policy. In their economic projections for the January FOMC meeting, monetary policymakers substantially marked down their forecasts for real GDP this year relative to the forecast they had prepared in October. The central tendency of their most recent projections for real GDP implies a decline of one-and-one-half percent to one- and-one-quarter percent over the four quarters of 2009. These pro- jections reflect an expected significant contraction in the first half of this year, combined with an anticipated gradual resumption of growth in the second half. The central tendency for the unemployment rate in the fourth quarter of 2009 was marked up to a range of eight-and-a-half per- cent to eight-and-three-quarters percent. Federal Reserve policy- makers continue to expect moderate expansion next year, with a central tendency of two-and-a-half percent to three-and-a-quarter percent growth in real GDP and a decline in the unemployment rate by the end of 2010 to a central tendency of 8 percent to eight- and-a-quarter percent. FOMC participants marked down their projections for overall in- flation in 2009 to a central tendency of one-quarter percent to 1 percent, reflecting expected weakness in commodity prices and the disinflationary effects of significant economic slack. The projections for core inflation also were marked down to a central tendency bracketing 1 percent. Both overall and core inflation are expected to remain low over the next 2 years. This outlook for economic activity is subject to considerable un- certainty, and I believe that, overall, the downside risks probably outweigh those on the upside. One risk arises from the global na- ture of the slowdown, which could adversely affect U.S. exports and financial conditions to an even greater degree than currently ex- pected. Another risk arises from the destructive power of the so-called adverse feedback loop in which weakening economic and financial conditions become mutually reinforcing. To break the adverse feed- back loop, it is essential that we continue to complement fiscal stimulus with strong government action to stabilize financial insti- tutions and financial markets. If actions taken by the administration, the Congress, and the Federal Reserve are successful in restoring some measure of finan- cial stability, and only if that is the case, in my view, there is a reasonable prospect that the current recession will end in 2009 and 10 that 2010 will be a year of recovery. If financial conditions improve, the economy will be increasingly supported by fiscal and monetary stimulus, the salutary effects of the steep decline in energy prices since last summer, and the better alignment of business inven- tories and final sales, as well as the increased availability of credit. To further increase the information conveyed by the quarterly projections, FOMC participants agreed in January to begin pub- lishing their estimates of the values to which they expect key eco- nomic variables to converge over the longer run, say at a horizon of 5 to 6 years, under the assumption of appropriate monetary pol- icy and in the absence of new shocks to the economy. The central tendency for the participants' estimates of a longer run growth rate of real GDP is two-and-a-half percent to two-and-three-quarters percent. As to the longer rate of unemployment, it is four-and- three-quarter percent to 5 percent. And as to the longer rate of in- flation, it is one-and-three-quarter percent to 2 percent, with the majority of participants looking for 2 percent inflation in the long run. These values are all notably different from the central tendencies of the projections for 2010 and 2011, reflecting the view of policy- makers that a full recovery of the economy from the current reces- sion is likely to take more than 2 or 3 years. The longer-run projections for output growth and unemployment may be interpreted as the Committee's estimates of the rate of growth of output and the unemployment rate that are sustainable in the long run in the United States, taking into account important influences such as the trend in growth rates of productivity in the labor force, improvements in worker education and skills, the effi- ciency of the labor market at matching workers and jobs, govern- ment policies affecting technological development, or the labor mar- ket and other factors. The longer-run projections of inflation may be interpreted, in turn, as the rate of inflation that FOMC participants see as most consistent with the dual mandate given to it by the Congress, that is the rate of inflation that promotes maximum sustainable employ- ment while also delivering reasonable price stability. This further extension of the quarterly projection should provide the public a clearer picture of the FOMC's policy strategy for pro- moting maximum employment and price stability over time. Also, increased clarity about the FOMC's views regarding longer-run in- flation should help to better stabilize the public's inflation expecta- tions, thus contributing to keeping actual inflation from rising too high or falling too low. At the time of our last monetary policy report, the Federal Re- serve was confronted with both high inflation and rising unemploy- ment. Since that report, however, inflation pressures have receded dramatically while the rise in the unemployment rate has acceler- ated and financial conditions have deteriorated. In light of these developments, the Federal Reserve is committed to using all avail- able tools to stimulate economic activity and to improve financial market functioning. Toward that end, we have reduced the target for the Federal Funds Rate close to zero and we have established a number of pro- grams to increase the flow of credit to key sectors of the economy. 11 We believe that these actions, combined with the broad range of other fiscal and financial measures being put into place, will con- tribute to a gradual resumption of economic growth and improve- ment in labor market conditions in a context of low inflation. We will continue to work closely with the Congress and the administra- tion to explore means of fulfilling our mission of promoting max- imum employment and price stability. Thank you, Mr. Chairman. Chairman DODD. Thank you very much, Mr. Chairman. I am going to try to follow this 5-minute rule pretty carefully today with a lot of Members here so we get around the table as quickly as we can. I am not a Pollyanna, nor are you, and so I don't want to over- state the case, but I found the paragraph, the second paragraph on page four, in reading your statement last evening, and the words on page seven, where you talk about the possibility of coming out of this recession in 2010, to be encouraging. I wanted, in the con- text of your responses today—because obviously, the risk is on the downside. Your statement is pretty stark and certainly a bleak pic- ture, but there is some hope that I think it is important for us to transmit to the American people, as well, that we can and we will get out of this along the way. I think confidence and building that confidence, not false confidence but confidence based on tough deci- sions that we can make and should make, I think are important to communicate, as well. Let me, if I can, raise two quick questions with you. I had a town hall meeting on Sunday in Manchester, Connecticut, at Manchester Community College, on higher education, how to navigate student loans. A couple raised a question after we had a presentation of what steps could be taken and the kind of information available for people and they got up and they said, look, we have put aside. We bought stock. We did things to prepare for our children's education and all of a sudden it is gone. Here we are with children age 15, 16, or 17 getting ready now to go on and the very nest egg we were building for them is no longer there. In a sense, what I would like to ask you, given the fact that we have seen an 18 percent decline in the housing values, a 40 percent decline in the stock market over the last several years, can people who are in an age group—put aside education for a minute, the student loans—can people on the brink of retirement, in your view, can they retire? Are people going to be prohibited from retiring be- cause of what they have lost in the value of their homes and in the stock market, 401(k), for instance? Mr. BERNANKE. Well, Mr. Chairman, it is going to depend on in- dividual circumstances. I am afraid it is the case that some people will find that their assets are not, at this point, adequate to allow them to retire as they had planned. Many people have suffered from losses in asset values. It is in part related to a correction rel- ative to perhaps inflated asset values, particularly in the housing market, prior to this time. But we are also seeing very heavy risk aversion and liquidity premiums, that is, people are just very, very averse to risk at this point and that is also driving down asset prices. 12 So I understand that this is a very difficult situation for savers as it is for workers and homeowners, and all I can say is the Fed- eral Reserve is committed to doing everything we can to restore economic stability. I do believe that once the economy begins to re- cover, we will see improvements in financial markets. In fact, I think those two things go very closely together. Chairman DODD. So your statement or your response would be that, one, it would depend on individual cases, but that you believe that people will be able to retire with some security. Mr. BERNANKE. Well, I certainly hope so. Certainly, Social Secu- rity and other programs, defined benefit plans, still remain. But I know from my own case and my friends and relatives that losses in defined contribution retirement funds have been significant, par- ticularly in stock portfolios, and that is certainly going to affect people's plans in the short term. I am hopeful that we will see some improvement as the economy improves over the next year or two. Chairman DODD. Did I sense a sigh of relief that we didn't pri- vatize Social Security? Mr. BERNANKE. Well, we never got that far on that proposal, Mr. Chairman. Chairman DODD. Gratefully, would you agree? Mr. BERNANKE. Well, it depends on the details. There were so many different plans being proposed. Chairman DODD. Can you imagine if your Social Security were tied into the stock market today, what it would be like? Mr. BERNANKE. Well, if they were all tied to the stock market, that would certainly be a problem, right. Chairman DODD. Yes. Let me, if I can in the minute or so left here, I noted in my opening comments that housing and autos have historically led us out of recessions in many ways. I don't know if you agree or not, but it is ironic that housing, and to a lesser de- gree autos, have led us into this recession. Who is going to lead us out of this recession? What sector of the economy? Mr. BERNANKE. Well, we have seen a very broad-based weakness. Housing is very central. At this point, the housing market has re- versed the boom that we saw earlier in the decade. In fact, we are now at levels of construction and price declines that we have not seen for a very long time, if ever, and so I would anticipate some stabilization in the housing market going forward and eventually demographic trends, household formation, economic growth will begin to create recovery in the housing market. Likewise, people are very reluctant right now to make commit- ments to consumer durables like automobiles. I think the current rates of auto sales are below what we will see once the economy begins to normalize. So I think those sectors will be part of the re- covery. But in general, as we see confidence coming back, particu- larly consumer spending on discretionary items, those areas will begin to strengthen and we will see a broad-based recovery. Chairman DODD. I should have mentioned in prefacing my ques- tion, I am, at least for my part, anyway, grateful to the administra- tion for stepping up on the housing issue, the $75 billion that has been committed in the mitigation on foreclosures. I wish we had 13 done that a year ago. It might have made the situation less dra- matic than it is today, but I welcome that move, as well. With that, let me turn to Senator Shelby, and look at that, right on the money here, so 5 minutes. Senator SHELBY. I will try to do the same, Mr. Chairman. Thank you. Adequacy of bank capital, I would like to get into that. Mr. Chairman, regulators from each part of the banking industry, in- cluding the Federal Reserve, have testified multiple times before the Banking Committee in the past few years that the banking in- dustry was healthy and strong, yet we are now discussing taking very drastic measures to recapitalize the very same system. A lot of people wonder, where were the regulators in the past 5 or 6 years, including the Federal Reserve. For example, in 2004, before the Banking Committee, FDIC Chairman Powell said, and I quote, "I am pleased to report"—that is to the Banking Committee—"that the FDIC insured institutions are as healthy and sound as they have ever been." Additionally, in 2004, OTS Director James Gilleran stated before the Banking Committee, and I quote, "It is my pleasure to report on a thrift industry that is strong and growing in asset size. While we continue to maintain a watchful eye on interest rate risk in the thrift industry, profitability, asset quality, and other key measures of financial health are at or near record levels." Also before this committee in 2004, Comptroller of the Currency John Hawke testified, "National banks continue to display strong earnings, improving credit quality following the recent recession and sound capital positions." He even said that banks have adopted better risk management techniques. In 2005, your predecessor of the Fed, Chairman Alan Greenspan, said before the Banking Committee here, "Nationwide banking and widespread securitization of mortgages make financial intermedi- ation less likely to be impaired than it was in some previous epi- sodes of lethal house price correction." In fact, as recently as 2008, Chairman of the FDIC Bair testified and said, and I quote, "The vast majority of institutions remain well capitalized, which will help them withstand the difficult chal- lenges in 2008 while broader economic conditions improve." Comptroller Dugan, Comptroller of the Currency, said here be- fore the Banking Committee in 2008, and I will quote, "Despite these strains, the banking system remains fundamentally sound, in part because it entered this period of stress in a much stronger condition." Finally, in 2008, Federal Reserve Vice Chairman Kohn testified before this Committee, and I quote, "The U.S. banking system is facing some challenges, but it remains in sound overall condition, having entered the period of recent financial turmoil with solid cap- ital and strong earnings. The problems in the mortgage and hous- ing markets have been highly unusual and clearly some banking organizations have failed to manage their exposures well and have suffered losses as a result. But in general, these losses should not threaten their viability." Chairman Bernanke, are your capital measures and amounts of capital adequate? You are regulator of the largest banks. What 14 does the present state of the banking industry tell us about our capital regime, and what does it mean if banks are adequately cap- italized, yet somehow we need to spend billions, if not trillions, of dollars to stabilize the system? Mr. BERNANKE. Well, that is a very long question, Senator Shelby. Chairman DODD. You have a minute and 30 seconds to answer the question. Mr. BERNANKE. The banks did have extensive capital coming into this crisis, but, of course, the crisis itself was extraordinary in its size. We could talk at some length about the failures of regulators, including the Federal Reserve, to prevent the credit crisis and pre- vent the losses that have been affected. Going forward, we need to think about the Basel II regime, on which capital rules are now set. The general principles of the Basel II regime are that capital should be related to the risks of the as- sets which are being held. But I think we have learned several things. First, that we need to be more aggressive in figuring out what the risks are and make sure that we are stress testing, making sure that we are being con- servative in terms of assigning capital to individual kinds of assets. There certainly were some assets that were underweighted in terms of their risk characteristics when the capital was assigned. We need to look at a variety of other things, like off-balance sheet exposures and other things that were not adequately represented in the Basel II framework. And there are other elements which the Basel Committee is look- ing at. Just to mention two, there probably were improvements in risk management and risk measurement over the period discussed, but they weren't adequate, obviously, and we need to do a lot more work for making sure that bank companies have enterprise-wide comprehensive risk management techniques. In addition, and this is something that the Basel Committee has been focused on, we need to make sure they have adequate liquidity, as well as capital. So there is a lot to be done. You are absolutely right in pointing out the deficiencies and there is a lot of work that we regulators, the international community, has to do to strengthen that capital standard. Senator SHELBY. Thank you. My time is up. Chairman DODD. Thank you, Senator. Senator Reed. Senator REED. Thank you very much, Mr. Chairman, and thank you, Chairman Bernanke. Let me associate myself with Chairman Dodd's remarks about in a crisis, you have been providing very helpful and thoughtful lead- ership. I also would associate myself with consumer protections and other supervisory activities which we will correct going for- ward, but thank you for your leadership in this crisis. You point out repeatedly in your comments and the Open Market Committee statement that unemployment is a significant problem in the country. In fact, the Open Market Committee indicates that it could reach 9.2 percent in 2009 and 2010, even with an improv- ing financial market and the credit markets. Is that the conclusion, for the record? 15 Mr. BERNANKE. The actual forecast was a little under—was under 9 percent. Senator REED. Under 9 percent? Mr. BERNANKE. But certainly within the range of error is 9 per- cent would be included. Senator REED. One of the things that has been done in the stim- ulus package is extended unemployment benefits. Many economists indicate that that is a very wise investment, since for every dollar of benefits, you get roughly $1.60 in GDP growth. Is that your pre- sumption or your conclusion also? Mr. BERNANKE. I don't have a precise number. From a spending perspective, though, it is certainly true that unemployment benefits are much more likely to be spent than the average dollar because people don't have the income. They need those benefits. Senator REED. Also, in the Open Market Committee report, they indicate that the labor market is very weak but the declines might be tempered a bit because of the availability of extended unemploy- ment benefits, that, in fact, people are still in the market looking for jobs because they have the benefits to sustain them in that search. Again, I assume you share that conclusion? Mr. BERNANKE. Well, unemployment benefits can have the effect of slightly raising the unemployment rate because people have a little bit more time to look. That is a negative in one sense—that the unemployment rate is a bit higher. On the other hand, it gives people more time and more resources so they can find a better job and not take the first thing necessarily that they see. But unemployment benefits are obviously a very useful policy tool and have been used in every recession. In a situation like the present, where unemployment is very high, it is certainly under- standable that Congress would want to provide some relief for the unemployed. Senator REED. There has been some discussion that certain States would decline to participate fully. If that was not a few indi- vidual States but a significant number, that would effectively con- tradict the stimulus effect of the unemployment benefits, let alone not help people who need help, is that a Mr. BERNANKE. Which effect? I am sorry. Senator REED. It would contradict the stimulus effects, that if a widespread declining of extended unemployment benefits by States refusing to participate in programs, if that was done on a Mr. BERNANKE. If unemployment benefits are not distributed to the unemployed, then obviously they won't spend them and it won't have that particular element of stimulus. Senator REED. SO if this was done on a wide basis, it would be counterproductive, not productive? Mr. BERNANKE. It would reduce the stimulus effect of the pack- age, yes. Senator REED. Let me follow up briefly, because my time is short, on Senator Shelby's comments about capital standards. Yesterday, the regulators said, currently, the major U.S. banking institutions have capital in excess of the amount required to be considered well capitalized, which begs the question, what is the measure, Tier I capital, or tangible common equity, or any other measure? Can you help us understand? 16 Mr. BERNANKE. Well, the major banks all meet current regu- latory capital standards, and well capitalized is a well defined reg- ulatory term. The purpose of these assessments we are going to do going forward is to make sure that banks have enough capital not only to be well capitalized in what we expect to be the weak condi- tions that we will see in the next year, but even under conditions that are weaker than expected. And moreover, we want to make sure that they have good quality capital, that is that a sufficient portion of their capital is in common stock and not in other forms of capital. So the purpose of these tests is to try to assess how much addi- tional capital and what kind of capital they need so they will be able to lend and support the economy even in a situation worse than we currently expect. Senator REED. Listening to your response to Senator Shelby, though, you seem to be skeptical about the adequacy of the current test, the current capital test, capital definitions. So even if we move through this very difficult moment, someone passes the stress test or gets help if they can't pass the stress test, there is real question in your mind about how regulators measures capital, what should be included, is that a fair assessment? Mr. BERNANKE. We need to do work on that, certainly. For the moment now, we are trying to be conservative and trying to make sure that the banks will be able to fulfill their functions going for- ward. Senator REED. Thank you very much. Thank you, Mr. Chairman. Chairman DODD. Thank you, Senator, very much. Senator Bunning. Senator BUNNING. Thank you, Mr. Chairman. Welcome, Chairman Bernanke. Outstanding Fed lending hit about $2.3 trillion in December. It has fallen to about $1.9 trillion, but you have pledged another $1 trillion in new lending. The total volume of loans made over the last months may be many times higher than that, but those of us outside the Fed do not have ac- cess to that information. Your testimony before this Committee on TARP was that we needed transparency so the American people could understand. One of the causes of the recession is the American people don't be- lieve you or anybody sitting here is telling them the truth. That is one of the problems. But you have not been open about the Fed's balance sheet. I think the American people have a right to know where that money is going. When are you going to tell the public who is borrowing from the Fed and what they have pledged as col- lateral? When are we going to get the transparency from the Fed? Mr. BERNANKE. Well, Senator, as I mentioned in my testimony, we are going to go beyond what is best practice among the world's central banks and go a step further and make sure we provide all the information we can. We have just unveiled the new Web site, which has extensive information, including information about col- lateral, including descriptions and discussions of each of the pro- grams, and Senator BUNNING. TO whom the money is going? Mr. BERNANKE. We are looking at all aspects. By the way, it is not all lending. Half-a-trillion is just Treasury securities we hold, 17 so you could count that as lending to the Treasury, I guess. But about half the money we hold is short-term collateralized recourse loans to financial institutions which assures them of sufficient li- quidity so that they will be stable and able to make loans and know that there is liquidity there when it is available. Now, hundreds of years of central banking experience shows that if you publish the names of the banks that receive those loans, there is a risk that the market will say that there is something wrong with them, that there is a stigma of some kind, and they will refuse to come to the window in the first place and that causes the whole purpose of the program to break down. So we can provide a great deal of information about the number of institutions. There are hundreds of them. They are well collateralized, short-term loans. They provide an important public purpose. But to provide the names of each borrower, and it would include most of the, or many of the banks in the United States, would defeat the important purpose of the policy. Senator BUNNING. OK. I have been trying to get to the bottom of who signed off on the original TARP loans to Citigroup and the Bank of America for several months. Those loans were only sup- posed to go to healthy—that is in the legislation—healthy banks. Did you approve those initial loans, or who did if you didn't? Mr. BERNANKE. Well, Senator, that would be the Treasury's ap- proval, but as I recall, the programs had several components. There was a broad-based CPP, Capital Purchase Program, that was aimed at so-called healthy or viable banks, and that was widely available to any bank that wanted to apply for it. But there was also a special targeted program that was for banks that were in significant trouble and needed support to remain viable and healthy, and that particular program included, among other things, tougher conditions and tougher restrictions on executive compensa- tion, for example. So that was a different component of the TARP. Senator BUNNING. Well, we know all those things, but we don't know who approved the amount of money that went Mr. BERNANKE. The Treasury. The Treasury. Senator BUNNING. The Treasury. You are telling me the Treas- ury? Mr. BERNANKE. Yes. Senator BUNNING. DO you believe the chaos that followed Leh- man Brothers' bankruptcy was a result of the bankruptcy itself or the market realization that not everyone would be bailed out? Mr. BERNANKE. Well, Senator, as I discussed in my testimony, the whole period from mid-September to early October was an in- tense financial crisis that was, in turn, triggered to some extent by a weakening economic condition both in the United States and around the world. To some extent, Lehman was a result of the broad financial crisis that was hitting a number of firms. You know, quite a number of large firms came under pressure during that period. And so in some sense, Lehman was a symptom as well as a cause. But I do think that the failure of Lehman was a major Senator BUNNING. But there was picking and choosing between winner and loser here. You picked Bear Stearns to save and you let Lehman Brothers go down the tubes. 18 Mr. BERNANKE. TWO points, Senator. First, we did not choose to let Lehman fail. We had no option because we had no authority to stop it. But second, I do believe that the failure of Lehman Brothers and its impact on the world financial market confirms that we made the right judgment with Bear Stearns, that the failure of a large international financial institution has enormously destructive ef- fects on the financial system and consequently on Senator BUNNING. In other words, there are too many—there are some banks that are too big to fail? Mr. BERNANKE. Absolutely. Senator BUNNING. Thank you. Chairman DODD. Thank you, Senator. Senator Schumer. Senator SCHUMER. Thank you, Mr. Chairman. Thank you, Mr. Chairman. First question, it is clear one of the key problems over the past few years has been excessive risk taken by financial institutions. Some of that was by big depository institutions. Some was by smaller hedge funds, private equity funds. Do you agree with me we need to more greatly supervise smaller players, such as hedge funds and private equity funds, particularly in terms of transparency and systemic risk which we find smaller and smaller places can cause? And do you agree more broadly we need to put in place stronger curbs on risk taking in particular on the amount of leverage that financial institutions, whether large or small, use in their investing strategies? Mr. BERNANKE. Well, Senator, I think we need a more macroprudential oversight approach, which means that we need to be looking at the whole market, the whole financial system, not just each individual institution thought of as an individual entity. And that would require, I think, at least gathering information about a range of financial institutions and markets to understand what is developing in those markets. Senator SCHUMER. Isn't it true that smaller institutions can cause systemic risk because there are counterparties, it is almost like a ping-pong ball bouncing from one place to another? Mr. BERNANKE. Well, they can, but it is more likely if either there is a large number of them in the same boat Senator SCHUMER. In the same Mr. BERNANKE. For example, mortgage companies a couple years ago. Or, on the other hand, I think for a given institution, a much larger, more complex institution is more likely to Senator SCHUMER. But you do not rule out some regulation of the smaller Mr. BERNANKE. Well, we already have regulation. I think we should have an oversight of the whole system. But, Senator, I guess I would say that given the "too big to fail" problem, and agreeing with Senator Bunning that that exists, I was not saying that I in any way approved of it. I think it is a major issue, a major problem. One approach to dealing with "too big to fail" is to strengthen the oversight of those firms which may be considered too big to fail. 19 Senator SCHUMER. Well, that does not answer my question. I asked you about the small ones, and you are giving me an answer about the big ones. Mr. BERNANKE. Well, you know, I think if you are going to prioritize resources, you have to look where the biggest risks are. And I think big risks are in the big firms. But you also have to look at the system as a whole, and that would involve looking perhaps not so much at the individual bank on the corner, but maybe at an industry group. It is like mortgage brokers, for example. Senator SCHUMER. Yes. You know, one of them might not have caused the problem, but a whole bunch did. Mr. BERNANKE. That is what I was trying to convey, yes. Senator SCHUMER. The same thing with smaller institutions as well, and you do have to look at them—for instance, registration? Mr. BERNANKE. NO, I think that clearly one of the lessons is that uneven oversight and regulation of mortgage extension was a big issue. Senator SCHUMER. And would you address the leverage question I asked? Mr. BERNANKE. Well, leverage is the inverse of the capital ratio, and that boils down to making sure that our capital standards are strong and appropriately adjust for risk and the like. And as I said to Senator Shelby, we need to make sure going forward that our capital standard is Senator SCHUMER. There are a lot of institutions with no capital standards, but they were not banks and regulated by you, who used huge leverage, 30:1, 40:1, 50:1. So even the lowly mortgage became very risky at that level. Mr. BERNANKE. Whose leverage are you referring to? Senator SCHUMER. YOU know, when somebody would put $1 of capital and borrow $30 and invest $31, and yet they lose that $1 and they are kaput. Mr. BERNANKE. I think you do need to make sure there is ade- quate capital in financial institutions, and when they extend loans—for example, mortgages—they need to do a good job of un- derwriting. And that would involve adequate downpayments and verification of income, for example. Senator SCHUMER. But, again, I am saying there are institutions that use this leverage that you did not have any capital standards for because you were not statutorily required to do it. Mr. BERNANKE. If I may Senator SCHUMER. HOW do we deal with the leverage issue for non-depository institutions is what I am asking. Mr. BERNANKE. Well, I think more broadly Senator SCHUMER. If at all. Mr. BERNANKE. More broadly, the Congress needs to think about how to create a more uniform regulatory oversight over the entire system and avoid existing gaps or uneven coverage. And that is a problem not just for leverage, but for all other aspects. Senator SCHUMER. Right. Another question, a broader question. You, of course, studied the Great Depression. Many people say that we are in a different type of an economy because it is more inter- connected; knowledge is more interconnected; financial relation- ships are more interconnected. It means in a certain sense things 20 go down quicker because it does not take time to spread from one place to the other, whether it be countries, industries, or whatever. But then when things change, the psychology changes, you hit bot- tom, it goes up quicker. Do you buy that? I am asking you, were you more a student of the V theory or the L theory in terms of where we are? We know we are going down now, and we have not hit bottom yet. But will we bounce up quickly, in all likelihood, or just stay flat? Mr. BERNANKE. Senator, if there is one message I would like to leave you, it is that if we are going to have a strong recovery, it has to be on the back of a stabilization of the financial system, and it is basically black and white. If we stabilize the financial system adequately, we will get a reasonable recovery. It might take some time. If we do not stabilize the financial system, we are going to founder for some time. Senator SCHUMER. Just one final comment. Saying that we will be back moving forward in 2010 is pretty much a V theory, not an L theory, if we stabilize the system. Mr. BERNANKE. Well, the projections we gave are for the labor market still to be weak through 2010. We have seen in the last few recessions that the labor market has been slow to recover after the real economy, in terms of total output, has begun to recover. Senator SCHUMER. Thank you, Mr. Chairman. Chairman DODD. Thank you very much, Senator. Senator Corker. Senator CORKER. Thank you, Mr. Chairman, and, Chairman Bernanke, thank you for your service, and certainly that last com- ment, which I think many people have been saying. The cure is stabilizing the financial system, and I know we have done a lot of different things over the last 5 or 6 weeks. But that, in essence, is the cure. I wonder if there is a vision or some kind of integrated discussion that is taking place between what you are doing and Treasury. I get the sense that we continue to sort of create programs, which I appreciate some of, but is there a vision or some kind of inte- grated sense of purpose that is being discussed and an outcome, I guess, that the two of you and others are arriving at? Mr. BERNANKE. Yes, sir. The Treasury plan that Secretary Geithner proposed recently is a Treasury product. They are the lead on that. But it was developed in close consultation with the Federal Reserve and with the other regulatory agencies, like the OCC and the FDIC. And we are all going to work together on it, and we see it as having the major components. If you look at historical examples of recoveries of financial sys- tems, you have supervisory review to make sure that you under- stand what is on the balance sheets. You have capital being in- jected. You have taking bad assets off the balance sheet, the asset purchases. In our case, we are doing also the asset-backed securi- ties program, foreclosure mitigation—all those things. So it is a multiple-component plan, and we are all working together on it to try to make it as effective as possible. Senator CORKER. YOU have talked about the stress test, and I guess I am—you know, the markets roil because they do not know really know what that means exactly. Can you expand a little bit 21 so maybe for the first time we would be educated as to what that stress test is going to be comprised of? Mr. BERNANKE. Yes. There will be more information, I believe, very soon, but let me give you my view of that. The assessment will look at the balance sheets and the capital needs of each of our 19 largest, $100 billion plus banks over the next 2-year horizon, under both a consensus forecast of where we think the economy is likely to be, based on private sector forecasts, and an alternative which is worse, that is, a more stressed situa- tion. I should emphasize that the outcome of this test is not going to be, say, you pass, you fail. That is not the outcome. The outcome is going to be: Here is how much capital this institution needs to guarantee that it will have high-quality capital and to be well cap- italized sufficient to be able to lend and to support the economy, even if the stress scenario arises. So the purpose of the test is to try to ensure that even in a bad scenario, banks will have enough capital, including enough common equity, to meet their obligations to lend. Senator CORKER. SO what I would take from that is, in earlier comments about—I guess our concern still is about systemic risk and that there are organizations and institutions that are too large to fail. That is what you said earlier. And so, if I am to understand this right, the stress test would simultaneously in many cases, my assumption would be, show there is a need for additional large amounts of capital; and what you are saying is you are going to solve that problem—I think what you are saying is you have a plan to solve that problem simultaneously. Mr. BERNANKE. That is correct. Senator CORKER. And we know that the private markets right now are not funding that, so I think this is pretty educational. Could you lay out how exactly that is going to occur? And then what is the term that we use to describe that? You know, there has been a lot of words that have been thrown around in the last week or so, again, that have concerned the markets. So when you find there is stress and when we simultaneously agree that we are going to put public dollars into these institutions, what is it that we call that? Mr. BERNANKE. Providing sufficient capital to make sure that the banks in private hands can continue to provide the lending and li- quidity needed for the economy to recover. If I might, Senator, if I may, the way this will be provided Senator CORKER. Well, let me ask you this: What is the role of the common shareholders at that point? Mr. BERNANKE. The common shareholders will still have owner- ship shares and still be co-investors in the bank. Senator CORKER. And they would be, I guess, hugely diluted under that scenario? Mr. BERNANKE. Well, to the extent that there is more common put in, then depending on existing expectations and pricing, it may or may not affect the prices of the common. It depends on expecta- tions where the price is today Senator CORKER. But I guess—and I know my time is up, and I think you know I have a great deal of respect and I appreciate the way the interaction has been. So, in essence, we have decided 22 that there are a number of institutions in our country that are too large to fail. We are going to stress test them—and really, to me, it is not so much about capital. It is our ability to calculate risk in the past, and I think we are going to look at that risk in a much different way. And then simultaneous to that, as a Government en- tity, we are going to be providing capital to these institutions on a go-forward basis. And so the signal to us and to the markets— and I am just clarifying—is that there are institutions in this coun- try that absolutely will not fail, and we will go to whatever lengths necessary with public sector dollars to ensure that that does not occur. Mr. BERNANKE. Well, we are committed to ensuring the viability of all the major financial institutions. Fortunately, it does not come up in the sense that none of the major institutions are subject at this point to any kind of FIDICIA or prompt corrective action rules, Senator CORKER. But they will be when these stress tests take place. Mr. BERNANKE. NO, I do not think so. Remember, we are looking not just at the main-line scenario; we are asking how much addi- tional capital would be needed if you get this worse case, a stressed case. And it is important to add—Mr. Chairman, if I could have just a moment. Chairman DODD. Please. Mr. BERNANKE. That the way the capital we provided will be in the form of a convertible preferred stock, so this capital is available to the bank, but it does not have an ownership implication until such time as those losses which are forecast in the bad scenario ac- tually occur. At that time, then the bank could convert the pre- ferred to common to make sure it has sufficient common equity, and only at that time going forward, if those losses do occur, would the ownership implications become relevant. Senator CORKER. Thank you, Mr. Chairman. Chairman DODD. Thank you, Senator. Very important set of questions. Thank you, Mr. Chairman, for your responses. Senator Menendez. Senator MENENDEZ. Thank you, Mr. Chairman. Thank you, Chairman Bernanke. Let me ask you, on page 7 of your testimony, you were talking about the economic outlook, and you said, "Another risk derives from the destructive power of the so-called adverse feedback loop in which weakening economic and financial conditions become mutually reinforcing." And to break that loop, it is—these are your words—"essential that we continue to complement fiscal stimulus with strong Government action to stabilize financial institutions and financial markets." My question is: Is what is already being done sufficient? Are those the strong actions that you are talking about, or is there more to be done? And do those actions require greater capital infu- sions? And if so, there are some who suggest that some of the major banks in the country already are somewhat in a frozen state because they may continue to lose significant amounts, and they are frozen. And what we ultimately want to see them do, which is lend into the marketplace. And if that is going to take even greater 23 infusions of capital from the Government, at what point are we not ultimately being the entity that is running those banks? So give me a sense of what strong Government actions you are talking about here, because it is not about—I read your comments about it is not just simply about the financial institutions, it is about our economy as a whole that will depend upon whether or not these financial institutions are strengthened. Mr. BERNANKE. Well, I think if the basic elements in the Treas- ury plan, supported by Federal Reserve actions of the type we dis- cussed, our lending programs and so on, are effectively executed, patiently executed, that it will lead to stabilization of the financial system. We do not know exactly what the costs will be. It will be up to Treasury to make the determination. We will have to see how the economy evolves. We will have to see how the assessments evolve. But I think we need to follow through and understand that it is going to take a bit of time and certainly some resources to make sure that these institutions and markets are functioning again, be- cause we all know—and we can see this in many, many other his- torical examples—that if the financial system is dysfunctional, the economy cannot recover. Senator MENENDEZ. But isn't it true that, largely speaking, at least at this point in time, these banks cannot raise the type of pri- vate capital that they need? And if they cannot raise the private capital that they need and all we are doing is a flow and infusion of capital, wouldn't we be better off in getting to where we are going to have to get anyhow, to do it sooner rather than later? I think it will be less costly. We will begin to see the recovery a lot sooner. But it seems to me that we have a reticence to come forth to the American people and say, look, this is the true picture of the nature of what we face, and here is what it is going to cost. And at the end of the day, let's quantify that and then let's deal with it so that if we are going to have to get there by dribs and drabs at the end in a torturous process that will be increasingly more dif- ficult politically, increasingly more difficult for the economy, and increasingly less likely to produce the turnaround as quickly as we would like to see, even understanding it is going to take time, isn't that really what we should be doing right now? Mr. BERNANKE. Well, Senator, I think it is very important that we do our very best to assess the costs and the need for capital as accurately as we can, recognizing that since we do not know exactly how the economy is going to evolve and how the housing market is going to evolve, you cannot put an exact number on the value of a mortgage asset, for example, but we can do the best we can. I would like to address, I think, a perception that we are putting capital into the banks and we are letting them do whatever they want. That is absolutely not the case. First of all, the regulators are now very actively engaged, particularly with the more troubled institutions, working with them to restructure, to sell assets, to take whatever steps they need to be viable again and profitable again. We are not going to let them do what they want. We are going to be very, very vigilant and make sure that they are taking the tough decisions they need to get back to viability. 24 Beyond that, we have the TARP, which also has its own set of rules and oversight, and beyond that, if the Government has some ownership rights, that also has an effect. Senator MENENDEZ. SO are you telling the Committee that what you have already—you collectively, the Federal Reserve, the admin- istration, Treasury—what you have announced, if implemented well, will be sufficient to meet our challenge? Or are there other chapters yet to be had? Mr. BERNANKE. Well, nobody's record in forecasting this thing has been particularly good, but I think that this Senator MENENDEZ. We are agreed on that. Mr. BERNANKE. We are agreed on that. I think, as I said earlier to Senator Corker, that this program has all the major components, including tough supervisory and Government oversight, of previous successful financial stabilization plans. If it is well executed and forcefully executed, it is our best hope of stabilizing the system. Senator MENENDEZ. Thank you, Mr. Chairman. Chairman DODD. Thank you very much, Senator. Senator Johanns. Senator JOHANNS. Thank you, Mr. Chairman. Chairman Bernanke, yesterday I had the privilege actually of reading the farewell address from George Washington on the Sen- ate floor. And it is hard to read; it is kind of a tough read, so I spent some time with it. And one of the things President Wash- ington warned the very young Nation about was debt and the ca- lamity that that can create for a nation. I want to turn to page 23 of the document that we got today to talk to you a little bit about maybe a big-picture issue, and that is the national savings rate. According to this document, in the third quarter of 2008, net na- tional savings stood at a negative 1.75 percent of the GDP. But this is what I found most alarming by this report. It goes on to say, "National savings will likely remain low this year"—that is not very surprising—"in light of the weak economy and the recently en- acted fiscal stimulus package. Nonetheless, if not boosted over the longer run, persistent low levels of national saving will be associ- ated with low rates of capital formation, which is the engine that drives our economy, certainly in part, and heavy borrowing from abroad, which would limit the rise in the standard of living of U.S. residents over time and hamper the ability of the Nation to meet the retirement needs of an aging population." I find those statements enormously concerning because what we are saying here is, with all that we are doing—and I agree with others. I think you are doing everything you can to try to get out in front of this problem. But all we are doing is borrowing money, borrowing money, TARP was financed with borrowed money, stim- ulus financed with borrowed money, national deficit will be $1 tril- lion or more this year, borrowed money, and it goes on and on and on. Tell me how we deal with that, because if we don't, I think what this report says is our children will suffer, and this aging popu- lation—baby boomers I think is what you are referring to—we may not be able to deal with their retirement. So give me the big pic- ture here. 25 Mr. BERNANKE. Well, Senator, you are absolutely right. Your point is very well taken. The short story is that for the last decade or so, Americans have been made wealthy by either their stock- holdings if they had a 401(k) or by the value of their house. And if the value of your home goes up, you feel richer, but you do not save more because you feel richer. Your house is saving for you in some sense. And as a result, over that period, as asset prices were rising, Americans saved less and borrowed more from abroad. Now, earlier Senator Dodd asked me about asset values. As those asset values have come down, that means there has been a very painful adjustment. People, in order to rebuild their balance sheets, are going to have to save again. And in a way, that is good because we will turn over the next few years to a higher rate of national saving, less foreign borrowing, lower current account deficits, and that is a desirable place to go. The transition, though, is very difficult because as people switch from being high-spending to trying to save, the decline in consumer spending has contributed to this great weakness in the economy, and we have a situation where instead of saving more, we are just getting a deeper and deeper recession. So we have currently an emergency situation that includes both a very severe recession and a significant financial crisis, which must be addressed or else we will not have the kind of growth we need to support saving and investment going forward. So we need to address that in the short term, but as we do that, we also have to keep a very close eye on the need to reestablish fiscal discipline, to increase Americans' savings, to reduce our cur- rent account deficit. And in doing all those things, over time we will be able better to address those issues that you referred to. But we are in the middle of a transition where, frankly, if we were to try to balance the Federal budget this year, it would be very contractionary and probably counterproductive. Chairman DODD. Thank you, Senator, very much. Senator Bayh, you get a chance here. You were at the end of the line. Senator BAYH. Sneaking in under the wire. Chairman DODD. Sneaking in under the wire. Have you voted yet, Senator? Senator BAYH. I have not. Chairman DODD. I will let you decide whether or not you Senator BAYH. I will, quickly. Mr. Chairman, my first question involves the importance of con- fidence in resolving the crisis that we face. It seems to me that an understanding of human psychology on both the individual and the group level is at least as important as quantitative analysis in get- ting this resolved. We have taken extraordinary action—you at the Fed, the Treasury, the Congress. We have tried to stabilize our fi- nancial institutions. We have moved to prop up consumer demand. We are trying to mitigate the adverse effects of home foreclosure. And yet confidence has not improved. As a matter of fact, very often the markets sell off the day that these programs are an- nounced, suggesting that the public either does not have confidence in the solution or in our ability to implement the solution correctly. 26 What will it take, in your opinion, to improve confidence and to improve the psychology that will be necessary to ultimately head- ing in a better direction? Mr. BERNANKE. Well, I think ultimately the words are not enough to inspire confidence. You have to start to show results. So I think we have to have a bit of patience to see fiscal stimulus, to see the financial program. Senator BAYH. It is a bit of a dilemma, isn't it? The results are somewhat dependent on confidence, which, of course, is affected by results. Mr. BERNANKE. That is right. But, nevertheless, I think as, say, the Federal Reserve's programs begin to open up some of our key credit markets—and we have—to give you an example, we have seen significant improvement in the commercial paper market, money market mutual funds, and some other areas where we have intervened. And those improvements have been sustained despite the general deterioration in the stock market and some other finan- cial markets. So I think enough concerted effort and finding our way forward, history will perhaps put this whole episode into some context. It has been a very, very difficult episode. Obviously, many people have failed to anticipate all the twists and turns of this crisis. But it is an extraordinarily complex crisis, and being able to solve it im- mediately is really beyond human capacity. As we move forward, as we show commitment to solving the problem, as we take credible steps in that direction and we begin to see progress, I think the confidence will come back. And I agree with you 100 percent that a lot of this is confidence. Senator BAYH. SO perhaps there is a lag between material im- provement, albeit modest and gradual, and the popular apprecia- tion of that improvement. There is some lag there before people have comprehended and, therefore, confidence Mr. BERNANKE. There well could be, yes. Senator BAYH. My second question involves the popular anger at the crisis that we face and some of the steps that have been pro- posed to deal with it, and it really gets to the dilemma between balancing the risk of contagion versus the risk of moral hazard. It has been said by some that some of the steps that we have taken to contain the damage in the aggregate have had the unintended consequence of absolving some individuals of mistakes that they have made in their individual capacity. This has been expressed by commentators on the financial shows and that sort of thing, and one this last week asked a question or basically made the state- ment: "Our policies are rewarding bad behavior." A lot of people feel that way who behaved in prudent fashion, who did not extend themselves. They were not working on Wall Street taking these enormous risks. What would you say to them when we seem to absolve the people who created the crisis from bearing its full effects? Mr. BERNANKE. First of all, Senator, I hear that all the time, and I fully understand the sentiment. A lot of this goes against Amer- ican values of self-reliance and responsibility. And I am very, very aware of that. 27 I think I would give the following example: If your neighbor smokes in bed and sets his house afire, and you live in a neighbor- hood of closely packed wooden houses, you could punish him very severely by refusing to send the fire department, and then he would probably learn his lesson about smoking in bed. But, unfor- tunately, in the process you would have the entire neighborhood burning down. I think the smart way to deal with a situation like that is to put out the fire, save him from the consequences of his own action, but then going forward, enact penalties and set tougher rules about smoking in bed or the fire code or whatever it may be. So as we talk about these financial actions to the public, we have to say this is really a two-legged program. On the one hand, we are doing what we have to do now to prevent the economy from going into a deeper, protracted downturn associated with the financial crisis; but we have to commit, as part of this going forward, that we will do a substantial reform of financial regulation, that we will take all the steps necessary to make sure that this does not happen again and that the same situations do not arise in the future. Senator BAYH. Thank you, Chairman. I am going to need to run to vote. I have got 15 seconds left. The question I was going to ask, which I think Chairman Shelby raised in the course of his com- ments, it is going to take the wisdom of a Solomon to know when to change course on our current policies dealing with the crisis that we face, dealing with the longer-run risk of inflation and so forth. I would be interested at some point in knowing what sort of metrics you will be looking at to assess when a recovery has achieved enough momentum to begin to then shift the policy. But a question for another day, and that would be a happy state of af- fairs to face. Mr. BERNANKE. We have put extensive work into that, Senator. Senator BAYH. Thank you, Mr. Chairman. Senator REED [presiding]. Senator Tester. Senator TESTER. Thank you, Senator Reed. Thank you, Mr. Chairman, for being here. You have mentioned several times in your testimony and through some of the questions that you have answered about the global nature of this economic downturn. Could you give me any insight into what the European banks' status are? Is it similar, worse shape, and are all the skele- tons out of their closets? Mr. BERNANKE. Well, the stories that relate this purely to the United States have to account for the fact that the entire industrial world has suffered from this credit crisis and many banks in Eu- rope and in the U.K. have taken very significant losses. The U.K., Irish, and Germans have been involved in some interventions. So I think it depends really country by country. I don't want to gener- alize and create any misperceptions. But it is obvious that there have been very significant problems in the European banking system, and they face some issues which we may not face to the same degree. For example, there has been recent concern about Eastern Europe and the exposure they may have in that direction. So they are contending with the same set of issues that we are here. 28 Senator TESTER. OK. And you made the statement several times that the only way we are going to get out of this is if our financial markets are healthy, to pull us out of this. What impact does Eu- rope, and as far as that goes, the Pacific Rim have if they don't do anything or do far less than they need to do on our economy? Mr. BERNANKE. Well, it will have impacts because of the inter- connected nature of our global financial system and the inter- connected nature of our global economy, as we depend on each other for trade and other terms. Senator TESTER. Right. Mr. BERNANKE. The Europeans have been somewhat more reluc- tant to engage in fiscal expansion than we have, although they have taken steps in that direction. The Germans, for example, after initially being disinclined, actually took a fairly significant step. But they are working also along similar lines as the United States to deal with bad assets, to deal with capitalization, and they are addressing many of the same situations. Senator TESTER. DO we have the ability to get out of this finan- cial situation if they don't make proper investments financially if they are in, regardless of what we do at this end? Mr. BERNANKE. I think we can improve our situation. I will give you an example Senator TESTER. But can we get out of the situation? Mr. BERNANKE. I think a complete recovery would require a glob- al recovery and that would require Senator TESTER. Have you gotten any assurances from the bank- ing markets that they are inclined to do that? Mr. BERNANKE. Senator, they are very aware of the situation. I talk frequently with Europeans. We were just at the G-7, the Sec- retary and I, in Rome and we discussed all these issues Senator TESTER. Right. Mr. BERNANKE. and they are quite interested in addressing them. Senator TESTER. Injection of capital is something that we have been talking about now for 6 months or so. Can you give me any sort of prediction, under the assumption that Europe does what they need to do and the Asian markets do what they need to do, can you give me any sort of prediction on how much money it will cost, how much capital do we need to inject into the marketplace? Mr. BERNANKE. Well, we have already done quite a bit. Senator TESTER. Yes. Mr. BERNANKE. We have done quite a bit. Honestly, Senator, I think it is not up to me to make that judgment. That is going to depend on the economy, on the scenarios, and on the amount of margin of safety that the decision is made to address. Ultimately the Treasury and the administration have to make that proposal. Senator TESTER. OK. I would sure like your input on that, if that is possible. I mean, we are going to be talking about some—I mean, we have already directed some serious dollars and it is, from every- thing I am hearing, it is going to require some more. The worst thing that could happen is if we don't get cooperation from Europe, from Asia, we end up pumping a bunch of money in and then all it does is increase the debt. We don't get out of the situation we are in. 29 Mr. BERNANKE. I hear what you are saying. Senator TESTER. OK. The other issue revolves around, just very quickly, the dollars that came from TARP, and Senator Bunning talked about for a little bit, you know, who is getting the money and where is it going to. Somebody pointed out to me in the bank- ing industry that the banks aren't loaning this money out because they are using it to buy Treasury notes with, which is an inter- esting concept. Could you give me any insight into that? Is that what is occurring? Is that what they are doing with the TARP dol- lars? Mr. BERNANKE. Senator, the direct impact of the TARP dollars is to expand the capital bases of these companies which allows them to do all the activities they do, including lending Senator TESTER. But the lending hasn't freed up, from everybody I have talked to. Mr. BERNANKE. Well, a big part of that is the non-bank compo- nent, is the securitized markets, for example, which is what the Fed is working on right now. Let me just say that the Treasury's new proposal does involve more concentrated attempts to get banks to document how much they are lending, how much they would have lent without the TARP, and so on. It is a difficult problem, though, because you don't know what they would have done in the absence of the TARP money. Senator TESTER. OK. Thank you very much, Mr. Chairman. Senator REED. Senator Martinez. Senator MARTINEZ. Thank you very much, Senator. Mr. Chairman, thank you for being with us and thank you for the terrific work that you are doing in very difficult stress cir- cumstances. I wanted to ask about the housing market. You indicated that one of the things, and I agree with you, that we need in order to stabilize the entire situation in our economy is to stabilize the housing market and that it will help—I am not trying to para- phrase what you said, I may have said it wrong, but in any way, that it may help in the recovery. What additional steps can we undertake, in your estimation, that would help stabilize the housing market? I continue to be con- cerned by the rate of foreclosures. I welcome some of the ideas that the administration put forth last week. I continue to be concerned in places like Florida about a tremendous inventory of unsold homes that obviously needs to be drawn down before there will be vitality in the marketplace again. And obviously the same issues of credit continue to creep into the problem, particularly if we look at nonconforming loans and things of that nature. Any additional steps you think could or should be taken? Mr. BERNANKE. Well, the two principal steps that are being taken, first, is the set of measures to try to reduce preventable foreclosures, which will reduce the supply of homes in the market and would be helpful to prices and construction. The other step has been the Federal Reserve's concerted efforts to lower mortgage rates by the purchase of GSE securities. We have had some success in that direction. So house prices are down quite a bit, obviously, and interest rates are pretty low. So afford- ability is not the issue it was a few years ago. 30 So at this point, I would recommend focusing broadly on the economy and the financial system as a whole. People are not likely to buy houses when they are feeling very unsure about their jobs, for example. So the more we can do to strengthen the overall econ- omy and stabilize the financial system, and along Senator Bayh's line, restore confidence, I think that will be the best thing to get the housing market going again. Senator MARTINEZ. In December, the Federal Reserve reduced the fund rates further, and then obviously you noted on February 18 that widening credit spreads, more restrictive lending stand- ards, and credit market dysfunction have all worked against the monetary easing and have led to tighter financial conditions over- all. What other tools is the Fed employing to ease credit conditions and to support the broader economy? Mr. BERNANKE. Senator, we have gone beyond interest rate pol- icy to try to find new ways to ease credit markets, and I have talked about in some recent speeches and testimonies three general types of things we have done. The first is to make sure that there is plenty of liquidity avail- able for banks and other financial institutions, not only in the United States, but around the world in dollars. So we have been lending to banks to make sure they have enough cash liquidity so they won't be afraid of loss of liquidity as they plan to make com- mitments on the credit side. Second, as I already indicated, we have been involved in pur- chasing GSE securities, which has brought down mortgage rates. The third group of activities encompasses a number of different programs which have been focused primarily on getting non-bank credit markets functioning again. We were involved, for example, in doing some backstop lending to try to stabilize the money mar- ket mutual funds and also to stabilize the commercial paper mar- ket, and we have had some success in bringing down commercial paper rates and commercial paper spreads and giving firms access to longer-term money than they were getting in September and Oc- tober. Likewise, one of our biggest programs is just commencing now, which is an attempt to provide backstop support to the asset- backed securities market. That market is one where the financing for many of our most popular types of credit—auto loans, student loans, small business loans, credit card loans, all those things— have historically been financed through the asset-backed securities market. Those markets are largely shut down at this point. Through our TALF facility which is about to open, we, working with the Treasury, expect to get those markets going again and help provide new credit availability in those areas. So it is not just the banks. If we are going to get the credit sys- tem going again, we need to address the non-bank credit sources and we are aggressively looking at all the possible ways we can to do that. Senator MARTINEZ. Speaking about the TALF and the credit fa- cilities that have been opened, at some point, the concern shifts to what happens after a recovery begins to unfold in anticipation of perhaps in the latter part of this year, with some good fortune, and perhaps in the beginning of the next if not, that we will be in the 31 recovery mode. At that point, how long will it take to phaseout those types of facilities like the TALF and what factors will deter- mine the timing and the process by which you will do that? Mr. BERNANKE. Senator, that is a very important question, the exit strategy. We have been spending a lot of time working on that. In order to be able to start raising interest rates again and going back to more normal monetary policy, we are going to have to bring down the size of our balance sheet. Fortunately, a very large part of our balance sheet, well over half of our lending, is in very short- term types of loans, 3 months or even in some cases just a few days, so as the need for that credit weakens, is reduced by the strengthening economy, those programs will naturally tend to con- tract and the balance sheet will naturally tend to decline. So a lot of it will just happen as the economy strengthens, as the need for that credit dissipates, and in particular, since for many of the program we have created, the terms are somewhat more puni- tive than would be normal under normal circumstances, as the markets begin to normalize, then borrowers will tend to move away from the Fed facilities and into the private sector facilities. So we think that those markets, those programs will tend to contract on their own to some extent and we can always, of course, contract them ourselves as we determine that we need to reduce the size of the balance sheet. We have a number of other tools, and I don't want to take all your time, Senator, but just to give one example. In the EESA bill last October, the Congress gave the Fed the ability to pay interest on excess reserves, and our ability to do that will help us raise in- terest rates at the time it is needed even if the balance sheet is not all the way back down to where it was when we started this process. So we are very, very focused on making sure that we are able to normalize monetary conditions at the appropriate time. At the same time, we also don't want to give up opportunities where we think we can help the markets function better and provide some support for this economy. Senator MARTINEZ. Thank you very much, Mr. Chairman. Senator REED. Senator Kohl. Senator KOHL. Thank you very much. Chairman Bernanke, I am sure you have given this some thought and perhaps discussed it with many people down at the Federal Reserve. How much money do you think we will have to invest in our banks in order to make them stable and to resume their normal functions? Mr. BERNANKE. Well, Senator, as I said to Senator Tester, we have already put in quite a bit. How much more we will have to do depends on the state of the banks. It depends on how the econ- omy evolves. And it depends on the margin of safety we want to have. So I am afraid I can't give you a number. I am going to have to leave that to the Treasury and administration. They are going to have to come up with a view on what is needed. But obviously, I think we have already done quite a bit and it has been helpful. It has stabilized the system to some extent. Senator KOHL. One of the assessments that you make with re- spect to our recovery is based on the stimulus. How would you as- sess the stimulus in terms of its size, its priorities, the amount of 32 money we are spending quickly? If you would have written it your- self, what are some of the things you might have done differently? Mr. BERNANKE. Well, Senator, last October, in front of the House Budget Committee, I did indicate that given the weakness of the economy, given that the Federal Reserve was running out of space to lower interest rates, it was appropriate for Congress to consider a significant fiscal program. But I have deferred to Congress's pre- rogatives and not involved myself in adjudicating these elements which are obviously contentious. There is a tradeoff between the size of the program, the amount of debt that is incurred in the program, the efficiency of the spend- ing. So it really depends a lot on Congress's judgments about how effective the spending will be, how quickly it can be put out. So I would prefer not to involve myself in that other than to say that I did agree and acknowledge that some substantial fiscal action was appropriate in helping get the economy moving again in the current environment. Senator KOHL. So you, in a general way, might have supported the stimulus plan that we finally passed? Mr. BERNANKE. I supported a substantial fiscal program, but I recognize the legitimate disputes and controversies about the size and the composition and the like and I, frankly, don't feel that it is my place in my particular role to try to intervene on that. Senator KOHL. Sure. Chairman Bernanke, one of the biggest rea- sons that we got into such a difficult situation obviously is the home buyers, the mortgage mess, and the loans that they were re- ceiving that they could not afford from unsupervised lenders, and most of these lenders were overseen at the State level. In 2008, the Federal Reserve finalized rules to better protect home buyers from unfair and deceptive practices in the mortgage market which will take effect in October of this year. While these new rules will apply to all mortgage lenders, those who are not routinely subject to Federal oversight might not ad- here to the new rules closely enough to make them, in effect, work. So what steps is the Federal Reserve taking to ensure full under- standing and compliance with the new regulations by mortgage lenders which are not routinely examined by Federal regulators? Mr. BERNANKE. Well, Senator, we have a mismatch of the regu- latory authority and the enforcement authority, as you point out, and we have worked hard to try to address that. The Federal Re- serve has a very good relationship, for example, with the Con- ference of State Bank Supervisors, which brings together bank su- pervisors from around the country. We have engaged in a number of outreach efforts to work with them, and we have also conducted joint examinations with the State bank supervisors and other State authorities to provide each other information on how we go about our own assessments and try and establish some degree of consist- ency across State and Federal oversight. So we are doing as much as we can to try to increase the co- operation and communication between the Federal Reserve and the various State regulators. Having said that, it is certainly inevitable that some States will put more resources and effort and personnel into these oversight functions than others and so there is inevitably going to be a certain amount of unevenness in oversight. But we 33 are doing what we can to work with the State authorities as best we can. Senator KOHL. But you would agree that, going forward, it is critical that we have this kind of oversight, and regulatory over- sight, it was the lack of it that created the mess that we are in right now? Mr. BERNANKE. Well, it is by no means the only factor. There are plenty of things that went wrong. But it was certainly one factor, and as we look at regulatory reform, we need to ask the question, are all the sectors of the economy that need oversight, are they being watched by somebody or are there major gaps where there is no effective oversight where there needs to be, and that is, I think, a very basic aspect of the reform that Congress needs to ad- dress. Senator KOHL. Thank you. Thank you, Mr. Chairman. Chairman DODD [presiding]. Thank you very much, Senator. Senator Hutchison. Senator HUTCHISON. Thank you, Mr. Chairman and Mr. Chair- man. I want to go back to the inflation threat, which I think today and also previously you have said that it is not a worry, that half of your obligations are short-term. But I am looking at the overall pic- ture, where some economists are beginning to look at the $10.6 tril- lion debt that we have plus last week's stimulus, or 2 weeks' ago stimulus with interest is another trillion, and starting to look at the tipping point. Twenty-five percent of our debt is held by foreign entities. What if they start saying, hey, this risk is too high and they want a higher interest rate? That, on top of half of your obli- gations being somewhat long-term. Are you concerned in looking at the overall picture about the pos- sibility of inflation and what could you do to keep that from hap- pening through any kind of policy, because obviously that would be a devastating turn for our country. Mr. BERNANKE. Well, inflation is primarily the responsibility of the Federal Reserve and we consider that to be a critical element of our mandate. Our view is that over the next couple of years, in- flation, if anything, is going to be lower than normal, given how much commodity prices have come down, given how much slack there is in the economy. When the economy begins to recover, it is important that we raise interest rates and do what is necessary to prevent an overheating that would lead to inflation down the road, and as I have mentioned, we are confident that we can do that. Every time we use our balance sheet to try to support the economy, we are thinking about how can we unwind that in a way that will be kindly and allow us to take the actions we need to take. That is a somewhat separate issue from the debt issue. It seems to be, at least for now, that the dollar and U.S. debt are still very attractive around the world and there is a lot of demand for hold- ing our Treasuries. That said, it is self-evident that we can't run trillion-dollar deficits indefinitely. It is going to be very important, as we emerge from the crisis and begin to go into a recovery stage, that we get control of the fiscal situation and begin to bring down the deficit to a sustainable level. 34 So I agree with you that we do need to address that issue. For the moment, foreign demand for U.S. securities is strong, but you are absolutely right. If we don't get control of it, eventually, they are going to lose confidence. Senator HUTCHISON. Let me shift to the issue that many of us have talked about and that is getting credit into the marketplace. Because the balance sheet of the banks has gone up so much now, holding their reserves in the Fed, and you are still paying interest to the banks, do you think that is having an impact on banks leav- ing their money in the Fed to get interest and having the reverse effect on what we all want, which is getting credit out into the marketplace? Mr. BERNANKE. NO, Senator. I don't think it works that way. If you like, one way of thinking about what is happening is that the banks are nervous about lending given their concerns about their own capital positions and about risk aversion and credit issues in the marketplace. So in a way, what the Fed is doing is borrowing by paying interest on reserves to the banks, and that is where we get the money, and then we are standing in between the banks and the marketplace, using that money, recycling it into commercial paper, asset-backed securities, and other forms of credit. So in a way, we are becoming the counterparty between the markets and the banks. Right now, we are paying one-fourth of 1 percent interest on re- serves. When banks feel they have any kind of good opportunity to invest at better than one-fourth of 1 percent, they will. That will begin to create expansion in credit and money supply and will be the signal for the Fed to begin to pull back. But right now, it is clear that the banks are more willing to hold reserves at one-quar- ter of 1 percent than they are to make loans, so therefore we are stepping in to try to stimulate credit markets. Senator HUTCHISON. Let me just ask you, then, what practical advice would you give us to try to help get that credit out into the marketplace, because no matter what we say in Washington, go visit any person in a small business or medium-sized business that is trying to get credit for their business and they say it is impos- sible. Mr. BERNANKE. That is why the economy is under such pressure. Absolutely. There is—it is useful to think about credit as coming from two places, the banks and then the non-bank sources like asset-backed securities and commercial paper. On the banking side, our objectives, for example, working with the Treasury, are to try to stabilize the banking system, make sure they have enough capital to lend, and make sure they have enough liquidity. In addition, as part of our supervisory oversight, we want to make sure there is an appropriate balance between caution, which is critical—banks need to be cautious in their loans—but on the other hand, we want to make sure that they make loans to credit-worthy borrowers and are not turning down good borrowers because their regulator told them they can't make a loan. We don't want that to happen. We know sometimes it does happen, so we are trying hard to tell our examiners if the bank has a good loan to make and it is a good customer, let them make that loan. We want that to happen. So that is the banking side. 35 On the non-bank side, again, it is a difficult problem, but the Fed is doing its best to work through some of these markets together with the Treasury to try to get credit flowing again through asset- backed securities markets and other types of non-bank markets. Senator HUTCHISON. My time is up. Thank you, Mr. Chairman. Chairman DODD. Thank you very much, Senator. Senator Warner. Senator WARNER. Thank you, Mr. Chairman, and thank you, Chairman Bernanke, for your comments this morning. I have got two areas I would like to press on. One is that we talk about the stress test process, and I was happy to hear this morning a little more clarity on that. I understand you are talking about now 19 banks. I have heard 14 banks, 20 banks, 19 banks. I think the sooner we lay out to us and the markets which banks are actu- ally going to go through this stress test so that we can make clear that there are hosts of many community-based banks and local banks recognizing it is not your regulatory oversight for these smaller banks, that these banks are still healthy and in good shape, I think we take an important step forward, at least to the markets, because in my State and I know so many of my col- leagues' States, our local-based banks are getting drubbed down by this overall tower that is hanging over the industry at large. But as we go through this stress test, I guess you in some of the press reports yesterday gave us a little more clarity, but it seems like you are going to do a stress test that is going to say, if condi- tions get worse, will these banks have adequate capital. But that presumes, I suppose, that you are going to accept the banks' cur- rent recognition of what bad assets they may have and how they are marking them on their current balance sheets. You are not going to go in—I tried to press Secretary Geithner a little bit on this—you are not going to go in in the stress test and try to evalu- ate the so-called toxic assets or put a pricing on them. Mr. BERNANKE. We are going to evaluate them but according to the accepted accounting principles. So there are two classes of as- sets, broadly speaking, the mark-to-market assets, and we try to evaluate whether they are using appropriate models or information to do that. There is also banking broker accrual assets, which banks don't have to mark to market because they are holding them to maturity. They do have to recognize credit losses and the like. We want to make sure that they are applying the right GAAP pro- cedures there, and we are going to be looking not just at 1 year ahead, but 2 years ahead. The usual practices focus on the first year, but we want to make sure that even 2 years ahead, they are looking at projected losses and taking that into account. So we are going to be doing, as we always do, examinations based on Generally Accepted Accounting Principles, and we are not allowing the banks to hide anything or not provide adequate infor- mation. Indeed, we are going to make a special effort to coordinate among the supervisory agencies to make sure as much as possible that we have consistency across banks so there won't be any view that some banks are laggards and others are leaders in terms of writing down appropriate assets. We want to get a clear estimate of the capital needs. 36 And the way we want to address the stress scenario is, again, by providing this convertible capital which starts off as preferred. It is in the bank, but only if the losses actually materialize that we are projecting and that capital gets eaten into will they need to make the conversion from preferred to common so to ensure that even in this bad scenario they have both enough capital to meet well-capitalized standards, but also enough common equity to meet high-quality standards that enough of their Tier I capital is in com- mon. Senator WARNER. If I understand you correctly, you are saying these banks that through the potential of falling below their min- imum capital requirements will require some additional infusion. This additional infusion, you are assuming, would be entirely pub- lic funds that would be in this preferred position, correct? Is that correct? Mr. BERNANKE. Preferred, but convertible to common. Senator WARNER. Convertible. But the other piece of the program that Secretary Geithner outlined, which was the effort to try to get a public-private partnership of some level of private capital in here to help us, in effect, price some of these bad assets and buy them out, you don't think the stress test will divide the line between those banks that are going to get public capital and those banks that are going to end up falling into this public-private purchase program? Mr. BERNANKE. SO if the public-private program, which will take a bit of time to get up and running, works well, it will improve the situations of some banks by removing bad assets from their balance sheets. We are not taking that into account at this stage because we don't know exactly what effect that will have. Senator WARNER. SO the bank will be Mr. BERNANKE. SO we are going to look at the current balance sheets as we do that evaluation. Senator WARNER. And the bank will then have, in effect, two op- tions. It can either unload some of its assets to this public-private purchasing entity or Mr. BERNANKE. We will start with the capital. If it turns out that the bank, because of good economic outcomes or because they are able to sell assets, doesn't need all the capital we gave them, then they can pay it back eventually. Senator WARNER. I know my time is up. Can I ask one more quick question, though? I was happy to see yesterday your Web site and some of your comments this morning about more transparency, but one of the things, Dr. Elmendorf was in recently and did a pretty good outline of all of the various initiatives that have been started, and we realize you are fighting multiple fires on multiple fronts, but my count was there are eight new initiatives that the Fed has started since last fall. You have made investments or potential investments in four sep- arate institutions, as some of my colleagues mentioned, increased the balance sheet by about a trillion dollars with the potential of going up to $4 trillion. Some of these are clearly purchasing of nor- mal Treasury securities, but there is a whole series of new areas where you are taking on assets, AIG in particular and others, where the role of the Fed seems to be evolving into not only mone- 37 tary policy and regulatory oversight, but more and more a holder of debt or equities in a series of institutions. Do you have the capabilities inside the institution to play this role, and looking back on the Bear Stearns when it looked like we had to bring in what at that point, now in retrospect $29 billion looks like a fairly minor challenge, but now with this potential of a trillion dollars added to your balance sheet, the potential of going to $4 trillion, how do you have the capabilities to manage all these assets inside the Fed? Mr. BERNANKE. Senator, I want to make a very clear distinction between our programs that address broad credit markets—like asset-backed securities and commercial paper—and the rescue ef- forts we were involved for a couple of large firms. Those rescue ef- forts make up about 5 percent of our balance sheet. We got in- volved in them, frankly, because there is no clear resolution au- thority, in the United States for dealing with systemically critical failing institutions except for banks. But in the case of an invest- ment bank or an insurance company, for example, there is no such regime, and we and the Treasury believe that if we allowed those institutions to fail, it would have done enormous damage to the world financial system and to the world economy. So we did what we had to do. We were very unhappy about doing it. We do not want to do it anymore. We would be delighted if the Congress would pass a substantial resolution regime that would create a set of rules and expectations for how you deal with a firm of this type that is failing and leave the central bank out of it en- tirely. So I hope very much that it will happen as you Senator WARNER. And I do not think I am—at least my intent is not to be critical, and I know the Chairman has the intention to pass legislation about it. But you still have these assets that you have got to manage in this ensuing time. Mr. BERNANKE. Yes. Senator WARNER. DO you have the capabilities to Mr. BERNANKE. We do. We do, and we have hired private sector firms as needed to manage Senator WARNER. I would like to see some more information on that. Thank you, Mr. Chairman. Chairman DODD. Before I turn to Senator Merkley, I was just going over the—this is a form that has forms of Federal Reserve lending to financial institutions. I count 15 of them, 12 of which have been started since August of—the earliest was August of 2007, most of them in 2008. So it is a rather elaborate chart and sort of daunting as well, from my point of view. Senator Merkley. Senator MERKLEY. Thank you, Mr. Chair, and thank you, Mr. Bernanke, for your testimony. A year ago, March 4 a year ago, you were giving a speech to bankers primarily about the challenges we face in the mortgage world, and you called for very vigorous response. You called for lenders to pursue aggressively renegotiation of loans. You also in that speech pointed out some of the challenges that exist to renego- tiation. Those challenges included the fractured ownership of mort- gages and the potential for lawsuits from those who owned dif- 38 ferent cash-flows, the fact that ownership trusts vary in the type and scope of modifications they are legally permitted to make. And in addition to your points that you made, there has been a lot of discussion of the fact that in general, when we start looking at the number of borrowers all seeking renegotiation at the same time, that lenders are ill equipped with the kind of trained workforce to be able to pursue those negotiations. In fact, I held a foreclosure mitigation workshop out in Oregon last week, and the single message that came through was the enor- mous frustration of homeowners trying to get in contact with any- one who could actually have the authority to talk to them about re- negotiating their loan. My concern has been that these obstacles are worse now than a year ago and that they remain a significant obstacle to date of the type of strategy that we are pursuing that is embedded in the plan that the Treasury Secretary put out last week. Could you just comment on how you see the evolution of these obstacles, whether we can overcome them? Mr. BERNANKE. Well, securitization remains a severe problem. The one element of the administration proposal which could ad- dress potentially both of the issues is the fact that they propose bounties or payments to the servicers who renegotiate loans. That aligns better their incentives with the incentives of the borrower in the sense that, without that, they do not necessarily have the in- centive to try to get a better arrangement for the borrower. And, second, it gives them the funding to provide the manpower to go out and get in touch with the borrowers, work with them, and so on. So that is one element that may help on that side. There has been some progress in terms of accounting verifications and the like about getting loans out of MBS, and to the extent that MBS are being acquired more and more by Govern- ment agencies, we are working now toward a uniform renegotiation and protocol for all mortgages held by Fannie and Freddie and by the Fed or any other Treasury or any other Government-related body. But that still remains a problem, the existence of the securitization trust and the restrictions they place on when you can renegotiate a loan. Senator MERKLEY. Thank you. And I do hope those incentives and perhaps also the club that was laid out in the President's plan could be helpful, that club being the possibility of bankruptcy judges to be able to renegotiate the terms. In your speech, you also laid out the refinancing option as an- other strategy, and I keep wondering if indeed we are not able to— if we do not make progress, significant progress on the loan-by-loan modification, the different type of class actions, if you will—not lawsuits in this sense, but addressing the problem systematically. And you laid out one such idea, which was the Hope Now Alliance's potential freeze on subprime loans at the introductory rate, keeping that frozen for 5 years. Yesterday, I was up on Wall Street, and a banker was saying an- other strategy would be—a very bold strategy would be for the U.S. Government to guarantee essentially every home loan in America, and the basic math was $10 trillion, 10-percent failure, it is $1 tril- 39 lion, you lose 50 percent on each transaction, so it is half a trillion dollars. But it is not only helping the homeowners, it is rein- forcing—it is setting—kind of restoring a foundation, if you will, for the derivatives related to those loans and, therefore, also com- pensation not just for the mortgage strategy, but also the strategy to reinforce our financial institutions. Any thoughts about that kind of action? Mr. BERNANKE. Well, obviously, as your calculations suggest, it could be extremely costly, particularly if—and I hate to say it, but there might be some people who would say, well, if I am guaran- teed anyway I will not lose my house, why don't I stop paying my mortgage? Unfortunately, that might be in some cases the re- sponse. That seems to me to be a very costly way to go about doing it. I think you are better off, for example, by the administration plan and other plans, like Sheila Bair's FDIC plan, which is closely re- lated, which focuses not on every mortgage but looks at people ac- cording to their characteristics. So, for example, in the administra- tion plan, you start with people who have very high ratios of pay- ments to incomes, and then you try to get those down to, say, 31 percent, which is a more sustainable level. So you are better off focusing on subpopulations where there is obviously a lot of stress, and that would probably be a more cost- effective way to get improvements in the foreclosure rate. Senator MERKLEY. Well, other strategies—I believe my time has expired. I will just leave you with a thought, which is that we need to continue to think about if the loan-by-loan modification approach simply cannot handle the volume of change that we need, what group strategies are worthy of consideration? Thank you. Chairman DODD. Senator Bennet. Senator BENNET. Thank you, Mr. Chairman. Chairman Bernanke, thank you for your testimony and endurance here today. It is getting to me. I appreciate your comments about the commercial paper market because I think that was a place where the intervention seemed to be pretty effective, and I wanted to use my time to do a couple things today. One was to mention the crisis at our local govern- ments and our public-oriented nonprofits like schools and hospitals are facing. As you know, that is an enormous segment of our econ- omy, $2 trillion of shovel-ready projects, and with real capacity to help spur this recovery, I think. Those markets also are locked down. They are frozen, just as many of the other credit markets area. The markets for short-term auction rate and variable rate bonds have been particularly hard hit, and a lack of liquidity, which, as I said, is a problem plaguing all segments of the market, has stymied the local bond market, too. And banks receiving TARP money, nevertheless, have remained on the sidelines, unwilling to venture back into the local bond market. The variable-rate market is frozen. To borrow from the statute that empowers the Fed, the lack of liquidity results from the unusual and exigent cir- cumstances facing financial institutions. It seems to me that the Fed could make an enormous difference by providing temporary support for liquidity in these markets just 40 as it did in the commercial paper market that you mentioned ear- lier. In those case, those issuers happen to be taxpayers of States and localities, and the corporations happen to be public, not pri- vate. I do not know why we should restrict ourselves to cases of private investors but not also help local schools and hospitals in Colorado and across the Nation. This is not a matter of making loans to State and local govern- ments. I am asking your consideration to supporting regulated fi- nancial institutions in cases where their letters of credit or other obligations provide liquidity to our financial markets, markets in this case which happen to involve State and local governments. So I wonder if you have got any thoughts about that piece of our economy. Mr. BERNANKE. Well, the auction rate securities market is pretty much defunct. It was a class of markets that were essentially try- ing to finance long-term credit with short-term borrowing, and the appetite of investors for those kinds of markets has greatly dimin- ished. So that particularly attractive, relatively cheap form of cred- it for States and localities has largely dried up, as you correctly point out. The State and local bond market in general still remains strained. It has improved somewhat, and we are watching that very carefully. I am not quite sure I follow the issue on banks. Going back to my earlier comment to Senator Hutchison, we certainly want to en- courage banks to make loans to creditworthy borrowers wherever that is consistent with safety and soundness. That would include, of course, States and localities. From the Fed's perspective, there are a couple of reasons why we have not prioritized those markets with commercial paper. For ex- ample, we do, in fact, have a capacity constraint, which, as I dis- cussed with Senator Hutchison and Senator Bunning and others, is the need for us to unwind our portfolio at an appropriate time. And so we cannot expand, particularly for longer-term liabilities, indefinitely. And in looking at various areas where we thought we could be helpful, for technical reasons first we thought we could do more, say, in the commercial paper market but, in addition, two other reasons. One is that the Congress obviously has been very involved in ad- dressing State and local fiscal issues, including in the recent fiscal package, and it seems more appropriate, given the close relation- ship between the Federal and State governments, for that to be the locus of addressing those issues. And the other point I would make is that our extraordinary au- thority which we have invoked to make these loans, say, in the commercial paper market, does not include States and localities. So it would take some stretch beyond, I think, congressional intent to include them in some of these programs. But we understand the issue, and we are obviously paying very close attention to it, because, as you correctly point out, the inabil- ity of States and localities to finance themselves is having a direct impact on the services they provide and on the economy. Senator BENNET. Then if I could just say on that—and I want to see if the Chairman will let me ask my other question as well— it just seems like such a tough case, because there is no issue with 41 the underlying credit here, unlike in some of the other things that we are talking about. It is purely the consequence of the loss of li- quidity in the market. And at a time when we are spending, you know, $800 billion from here to do these shovel-ready projects, it would seem that if there were a way to create an environment, some sort of backstop of some kind to be able to get these govern- ments in a position to be able to do the work they are intending to do anyway, with balance sheets and credit ratings that we know are good, that seems to me to be a really lost opportunity to lever- age what we are doing here, which is the only reason I raise it. The second question I had, Mr. Chairman, if—I have got a couple seconds left. Chairman DODD. As quick as you can, Senator. Senator BENNET. Very quick. You talked about how critical it was to stabilize the financial institutions as a way of getting our market going, and which everybody here agrees with. Can you give us some thoughts about how to ensure that the right level of rigor is applied to make sure that we really are valuing these assets and liabilities in a way that does not create a stasis where we are stuck in this for many years because we have not done an honest assess- ment of where things really are? Mr. BERNANKE. That is very, very important. We learned from other examples that you need to figure out what these assets are worth. The supervisory efforts are using all our tools to get good valuations, but in this respect, I think the idea of using a public- private partnership in an asset purchase facility is potentially ap- pealing. If you set up a program where both private sector inves- tors and the public purse contribute capital to a facility, and then the purchases and pricing are done by private sector investors who are interested in making a profit, then there is a much better rea- son to think that the prices that come out will reflect true market realities rather than accounting fictions. So that is one reason to try to involve the private sector in this asset purchase program. But it is a very hard problem, and as I said earlier, it is not just a question of going in and saying this is the truth. Because the fact is that a mortgage could be worth X today, and then tomorrow you get news about the housing sector then maybe it is only worth 0.9X. So it is more difficult than just coming clean. It is really try- ing to make judgments about the whole future of the economy and the housing market as you try to assess the value of a given piece of paper. Senator BENNET. Thank you. Chairman DODD. Thank you, Senator. Mr. Chairman, before I just turn to Senator Brown, on the major question—the first question raised by Senator Bennet, Senator Warner has done a lot of work on this as well, on this whole issue involving municipal bonds and AAA-rated where you are talking about investors, and the purchasing of those by the TALF, we are doing floor plans for cars, we are doing student loans. It seems to me AAA-rated bonds out of municipalities for schools and hospitals has got to be at least as creditworthy as a student loan, with all due respect to students and the car plan, the floor plan for cars. I would like to recommend, if we could, that Senator Bennet and Senator Warner—there are others who are interested—maybe 42 could spend some time with you or your staff to talk about this, be- cause I think we did give the congressional authority to that. As the Chairman of the Committee—and I joined them in their letter they sent down, and I believe the authority exists under the Con- gress for you to be able to do that under TALF with municipal issues. Now, that is my opinion. That is not a deciding opinion, but that is my conclusion, and I would be appreciative if some people could maybe sit from the Federal Reserve and talk to these Senators about this idea and explore it further if we could. Mr. BERNANKE. Senator, if I may, of course, the TALF is a joint Federal Reserve Treasury program. Chairman DODD. We will involve the Treasury. Mr. BERNANKE. They would need to be involved in any kind of discussion. Chairman DODD. We will involve the Treasury as well. I think it is just worthy—they came to me with the idea, and it made all the sense in the world to me, and I would like to see us possibly pursue that. Senator Brown. Senator BROWN. Thank you, and, Chairman Bernanke, thank you. Let me share what I think is one of the most dramatic measures of our economy. Twenty years ago, in 1987—these numbers are 1987 and 2007. In 1987, manufacturing made up 17.1 percent of our GDP; financial services made up 5.6 percent. In 2007, manufac- turing made up 11.7 percent, and financial services, 8 percent, be- fore all the meltdown. So manufacturing, the percent of GDP— granted that GDP grew hugely in those 20 years, but the percent of GDP, manufacturing dropped by about a third, and financial services went up about 40 percent, roughly. We spend a lot of time talking about the financial services indus- try, as we should. Manufacturing seems to be relatively ignored— not so much certainly in these discussions, not as important, but generally in Government policy. Talk to me, if you would, as we talk about reviving the credit markets, how much focus we should bring to credit markets to help the auto industry, whether it is in- dividual car buyers, whether it is for the dealers, and then perhaps more broadly, your comments on manufacturing generally as our economy shifts in the years ahead. Mr. BERNANKE. Well, the auto companies have obviously a num- ber of issues, long-term structural issues and the like, but part of the Senator BROWN. I am talking more on the demand side here, on the demand side for buyers. Mr. BERNANKE. Right. I was just going to say that part of the problems recently have to do with the credit markets and demand, and we have tried to address that. First, you know, our program in the commercial paper market has tried to improve financing for companies. Even though we lend only to the highest-rated compa- nies, even the lower-rated companies have seen their rates come down quite considerably, and that also relates to our interest rate policy. 43 In our Asset-Backed Securities program, as Chairman Dodd was just noting, among the things that we are allowing in the ABS pro- gram are auto loans, which has been an issue, and floor plans and RVs, things related to the demand for automobile production. So to the extent that credit markets are the problem, we are doing our best to try to address those and to lower interest rates. As Senator Dodd also mentioned, traditionally autos respond well to low interest rates. Obviously, there are a lot of other issues right now affecting the demand for autos. I think on the issue of manufacturing, in general, you do not want to set specific percentage targets for different industries. Ob- viously, there is an international division of labor which takes place over time, and different industries migrate to different parts of the world, depending on the relative complements of labor and capital in each area. But I think it may be that part of the impact on our manufacturing has been the trade deficit, which has been associated with a reduction in manufacturing because trade is very much conducted in manufacturing. So the movement in the trade deficit has been associated with greater imports of manufacturing, and that to some extent has been a competitive issue. And I realize that I am going to contradict myself here, but on the other hand, we should not put U.S. manufacturing down. It has actually had a pretty good performance overall. Productivity gains in U.S. man- ufacturing have been quite extraordinary over the last 10 years. And, in fact, that is part of the reason why manufacturing employ- ment has been so weak. It is that even as output stays more or less stable, the number of workers needed to produce that output has gone down. So in the short term, we are doing what we can to improve credit markets to help support autos and other industries. In the longer term, relating back to Senator Hutchison and others, if we have a better saving rate and more balanced trade flows, that may re- dound to some extent to the benefit of U.S. manufacturing. But in many States—Senator Tester was here. I have been to Montana and seen some of their manufacturing innovations. U.S. manufac- turing has in many cases filled high-level niches, very sophisticated niches, and very high-value production. So I would not write U.S. manufacturing off. There is a lot of value there. But clearly there are a lot of challenges as well. Senator BROWN. I would make the case—and then one real quick question after that—that manufacturing, while productivity has gone up immensely in the last many years in manufacturing, wages have not kept pace with that productivity, which is the first time we have seen that disconnect, at least since your writing on the Great Depression—which, speaking of that, all—and I will not ask you a question about—this is just—well, listen to a quick com- ment about this. All my life I have sort of—when I have read about Roosevelt and the New Deal, there is almost unanimity, almost consensus from darn near everybody, that most of what Roosevelt did worked, the regulatory structure, the Government spending, and all that. Only in the last few months has it become so politi- cized and we have seen some revisionism in our history that Roo- sevelt and the New Deal were failures. I mean, it has come from some newspaper columnists, some pundits, some ideologues. 44 Specifically what worked that Roosevelt did? What did we learn from that? What worked that applies to now? Mr. BERNANKE. Well, there were two things that he did within months of taking office that were extremely important. One was the bank holiday and subsequent measures like the deposit insur- ance program that stabilized the banking system. This is a point I have been making all morning, that we need to stabilize the banks. The second thing he did was to take the U.S. off the gold standard, which allowed the Federal Reserve to ease monetary pol- icy, allowed for a rise in prices, which, after 3 years of horrible de- flation, allowed for recovery. So those were the two perhaps most important measures that he took. He did some counterproductive things, like the National Recov- ery Act, which put the floors under prices and wages and prevented necessary adjustment. The most controversial issue recently, of course, has been fiscal policy, and I think there are two sides to that. The classic work on this by an old teacher of mine from MIT, E. Cary Brown, said that fiscal policy under Roosevelt was not suc- cessful but only because it was not tried, and he argued that it was not big enough relative to the size of the problem. Other writers have argued that this was not the right medicine. So that one is more controversial, but if you asked me what I think the most im- portant things were, I think they had to do with stabilizing mone- tary policy and stabilizing the financial system. Chairman DODD. Maybe what we ought to do with the Com- mittee sometime is maybe have just an informal dinner one night with interested Members and have a discussion about those days. I think it would be an interesting conversation. Senator Akaka. Senator AKAKA. Thank you very much, Mr. Chairman. Welcome, Chairman Bernanke. It is good to see you. I can recall back on September 23, 2008, when we had a Banking meeting with four of you: Treasury Secretary Paulson, Cox, and you, and also with Jim Lockhart. At that time we were trying to learn what the crisis was all about and what we were going to do about it. And as I recall, we came out—really, what came out of it was the $700 billion was to bring confidence to Wall Street. But since then, many things have happened, and well before the current economic crisis, the financial regulatory system was failing to adequately protect working families from predatory practices and exploitation. Families were being pushed into mortgage products with associ- ated risks and costs that they could not afford. Instead of utilizing affordable, low-cost financial services found at regulated banks and credit unions, too many working families have been exploited by high-cost, fringe financial service providers such as payday lenders and check cashers. Additionally, too many Americans lack the financial literacy, knowledge, and skills to make informed financial decisions, and I have two questions for you. What I am asking is what must be done. What must be done as we work toward reforming the regu- latory structure for financial services to better protect and educate consumers? Mr. BERNANKE. Well, I think this is absolutely critical because, as you point out, it was bad products that created a lot of the prob- 45 lem that consumers took, either knowingly or unknowingly. One di- rection which the Federal Reserve has taken is just to try to outlaw certain practices. We found, for example, in the context of credit cards, that people just do not understand double-cycle billing. I am not sure I fully understand it myself, to tell you the truth. And it is probably not worth the effort of trying to teach people what that means. It is probably better just to get rid of that practice because it is decep- tive and people do not know how to understand it or work with it. There are other issues, though, relating to just the simple arith- metic of interest rates and so on that people really need to under- stand. It is not just a school issue. It is very much an issue for life. You know, people's hopes and dreams are tied into buying a house or sending a child to college and so on. And if they want to do that, they have to become reasonably acquainted with financial products and how to make choices and how to make good decisions. And it is good for the economy, too, because you get more competition, you get better products from that. So you and I, Senator, we have discussed this many times in the past. I think we strongly agree with each other that financial lit- eracy is crucially important, and it is something that should get more attention than it already does in the schools. The Federal Reserve is very involved in this. We have done a lot of programs. We have worked with a lot of community organiza- tions and others to try to create programs, to try to support efforts to spread financial literacy. I have to concede, though, that we have not got the magic bullet yet. It is difficult. People—kids, particu- larly—do not tend to be that involved or that interested in the topic until the actual time comes when they have to make some kind of financial decision. And so the most effective time is typically around the time at which the person is making their mortgage de- cision or their car-buying decision. So there is some case, I think, to do it in schools, but I think there is also a case to have better counseling so that people who are making financial decisions have access to some help and assist- ance so they can make better choices. But I absolutely agree with you that, just as in any other market, if you do not have informed consumers, you are not going to have an effective market. And that is very important. Senator AKAKA. And what must be done to improve access to mainstream financial institutions in economically unserved commu- nities? Mr. BERNANKE. This is the issue of the unbanked, or the under- banked, again, an important issue. You have many people who, for whatever reason, haven't bothered or don't know how to open up a checking account and they end up paying money to cash their checks or to get a very short-term loan. We encourage banks and other financial institutions to do out- reach, to try to provide services in underserved neighborhoods, to have multilingual tellers and so on, and I think that is not only good public policy, it is good business for them to reach out to broader groups in the population. So I think that is another impor- tant issue in which we bring people into the banking system. 46 One way to do that, as I talked about in the past, in many cases, you have immigrants who want to make remittances back to their home country and some of the vehicles for making remittances are costly. Bringing them into the regular financial system, they can find cheaper, more effective, safer ways to send money home, and in doing so, they become acquainted with their local financial insti- tution and become able to partake of the other services, like a checking account and a savings account. So that is very closely related to the financial literacy issue, about bringing people into the financial mainstream. Once again, that is one of the best things we can do for people, to allow them to make better use of their incomes and they get to have a better life. Senator AKAKA. Thank you for your response. Thank you, Mr. Chairman. Chairman DODD. Thank you very much, Senator. That completes the round. I know my colleagues—I have a couple of questions for you, Mr. Chairman, as well. I think Senator Shelby, and I see Senator Corker here, as well, and I don't know if Senator Bennet may want to follow up, and I apologize to you, but you have seen the interest obviously in the membership showing up. I want to raise a couple of questions, one about bank holding companies, one about the potential of the Fed to buy Treasury bonds, and maybe one or two others. I mentioned in my opening comments some of the largest institu- tions that are experiencing significant problems were regulated by the Fed at the bank holding company level. Now, in addition to the bank holding companies that you historically regulated, we have many new companies that are applying for and been granted the bank holding company status by the Fed, including Goldman Sachs, Morgan Stanley, American Express, GMAC. Let me ask you a couple of questions. One is a basic question. I think I know the answer you want to give me, but I want to give you the chance to do so. As Chairman of the Federal Reserve, are you still committed to maintaining the separation between banking and commerce? And then second, given the problems that we have just seen with the more traditional bank holding companies, what assurances can you give the Committee that these new companies, the new applications that are coming through, which in many ways are different than the traditional bank holding companies, are going to be adequately regulated? Mr. BERNANKE. Well, I do support the separation of banking and commerce, and in recent examples like GMAC, for example, we im- posed very tough conditions about disentangling themselves from General Motors and from other commerce activities to become a fi- nance company, essentially. So in that respect, we have been con- sistent. On bank holding companies, on the general principle, I think that consolidated supervision of large, complicated organizations is still very important, even more so important than we thought it was before because of the potential for a consumer finance com- pany there or broker-dealer there to create a risk for the entire or- ganization. So consolidated supervision, I think, is very important. 47 We at the Fed are committed to doing that. I think, if anything, what we need to do is be even more aggressive at looking not only at the holding company level, but going down into the underlying companies beneath the holding company to make sure that they are observing consumer protections, safety and soundness, and the like. There was some tendency, I think, to defer entirely to the functional regulators who are responsible for the companies under- neath the holding company. Indeed, we want to respect those prior- ities in the way that the Congress set up the rules, but the holding company supervisor, I think, does have a responsibility to make sure that not just at the holding company level, not just at the level of the policies that are being set by the top management, but down in the various organizations below that level that the policies are being followed and that companies are safe and sound. Chairman DODD. Well, I welcome that and I would hope there is no additional authority that you need at the Fed in order to be able to exercise that authority. Mr. BERNANKE. There has been some ambiguity. An example I would give would be consumer protection. What authority does the Fed have to look into a consumer finance company which is a sub- sidiary of a bank holding company when technically the primary regulator might be the FTC, for example. Chairman DODD. Well, if it goes to the systemic safety and soundness and systemic risk of that institution, it would seem to me you have all the authority in the world. Mr. BERNANKE. Well, before now, there were legal issues about what the appropriate priority was, who was primarily responsible, and so on, and what I am saying is that I think that what we have learned from this episode is that the holding company supervisor must have some ability, in conjunction with the functional regu- lator, to look at the condition and behavior of the firms below the holding company level, and that is something I have started doing and we intend to do. In terms of the new holding companies that have come in, we have been very assiduous in making sure they have adequate cap- ital, that they have restricted themselves to the activities which are appropriate for holding companies, so they are not involving in all kinds of other commercial activities, and we believe we are able to deal with those companies. But more generally, we are revisiting and rethinking our whole holding company supervision approach to make sure that we have a really comprehensive enterprise-wide ap- proach that looks at all the risk factors, not just at the holding company level but also throughout the organization. Chairman DODD. Well, we need to stay closely in touch with you on that because that will be part of it. The second question I have has to do with, over the years, the Fed has not been active as a public trader in Treasury notes. In fact, it has been decades, I guess you could say, going back maybe to the very time that you are talking about historically, preferring instead to use the short-term Fed funds rate to manage interest rates. With the Fed's target interest rate basically at zero, you have been forced to consider other means of conducting monetary policy. 48 In December, the FOMC said it was, and I quote, "evaluating the benefits of purchasing long-term Treasury securities." In January, FOMC said it is now prepared to do this if, quote, "evolving cir- cumstances indicate that such transactions would be particularly effective in improving conditions in private sector markets." Can you be more specific about those conditions that would lead the Federal Reserve to purchase long-term Treasury securities? Mr. BERNANKE. Well, Senator, our objective is to improve the functioning of private credit markets so that people can borrow for all kinds of purposes. We are prepared, and we want to keep the option open to buy Treasury securities if we think that is the best way to improve the functioning or reduce interest rates in private markets. So we are certainly going to keep that option open. I should say, though, that we do obviously have a couple of other things going on right now. One is the purchases of the agency MBS and securities. The other is the proposed expansion of the TALF. So those are two directions that are certainly going to be taking up a lot of our attention in the short run. So we will keep that option open, but we are looking at some other ways of addressing the pri- vate markets, as well. Chairman DODD. And just in that regard, raising the question, is it your view that an unacceptable rise in longer-term Treasury rates slow economic growth, resulting in the Fed actually buying longer-term Treasury securities? Mr. BERNANKE. Well, we want to look at the overall state of the economy, and I would just note that one possible scenario would be the Japanese, where there was a more general quantitative easing approach, and the focus was not on specific credit markets but broadening the monetary base in general. In that case, the Japa- nese have and currently are buying long-term government bonds. That would be one possible scenario. But again, the basic goal here is to improve the functioning of private credit markets. We are not trying to affect the cost of gov- ernment finance, per se, rather the private sector. Chairman DODD. I have gone over a little bit. Let me turn to Senator Shelby and then Senator Corker. Senator SHELBY. Mr. Chairman, Secretary Geithner stated that the Treasury will direct bank regulators, including the Federal Re- serve, to begin a form of stress testing. Now, I believe it was a writer with the New York Times, Gretchen Morgenson, she wrote a week or so ago something that said, you know, before you can do a stress test on somebody, you have got to find the pulse, indicating that some of these banks were walking dead. I believe that was a term that Senator Corker used one time. If you are propping them up, how long can you prop them up and should you prop them up, because a lot of us don't believe anything is too big to fail. Obviously, you think some institutions are too big to fail. But your predecessor, one of your predecessors, Dr. Volcker, who is a well respected economist, he testified before this same Committee several weeks ago that he thought some institutions, some banks were too big to exist, you know, too big. Now, having said that, I think you can fool the market a little bit every now and then, but not for long. The market basically has looked at a lot of these banks and they know they are in deep trou- 49 ble. They know that some of them, or at least the market thinks some of them are basically gone, or should be gone. So this begs the question of nationalization. You know, this has been brought up. I think you can take over a bank by converting the preferred, as you are talking about CitiCorp or some of them are talking about doing, and if you had 40 percent working control of CitiCorp, you basically would—you wouldn't own it all, but you would own work- ing control, probably, and you would be the big power in the board- room, so to speak. Or you could take over a bank by taking it over, do away with stockholders and it becomes totally owned by the gov- ernment, so to speak. Neither one of those options, to me, is very desirable. I guess, where are you going? Can you say that today? Where are we going? Mr. BERNANKE. Well, what we are doing is trying to assess how much capital these banks need in order to fulfill their function even in the stress scenario. So we are going to do an honest evaluation. We are going to do a tough evaluation, try to figure out how much hole there is, if there is a hole. In many cases, there is not a hole. Senator SHELBY. DO you believe that most of those banks can withstand the stress test, a real stress test? Mr. BERNANKE. The outcome of the stress test is not going to be fail or pass. The outcome of the stress test is, how much capital does this bank need in order to meet the needs of the credit—the credit needs of borrowers in our economy. You mentioned having majority ownership and so on. We don't need majority ownership to work with the banks. We have very strong supervisory oversight. We can work with them now to get them to do whatever is necessary to restructure, take whatever steps are needed to become profitable again, to get rid of bad as- sets. We don't have to take them over to do that. We have always worked with banks to make sure that they are healthy and stable, and we are going to work with them. I don't see any reason to de- stroy the franchise value or to create the huge legal uncertainties of trying to formally nationalize a bank when it just isn't nec- essary. I think what we can do is make sure they have enough capital to fulfill their function and at the same time exert adequate control to make sure that they are doing what is necessary to become healthy and viable in the longer term. With respect to your question about too big to exist, as I have said before, there is a too big to fail problem which is very severe. We need to think hard going forward how we are going to address that problem, but right now, we are in the middle of the crisis. Senator SHELBY. Have you thought about ways to deal with it? We understand that some banks pose, or some institutions like AIG, systemic risk to the whole financial system Mr. BERNANKE. Well, we are working right now on some pro- posals on resolution. One of the big problems is that if we wanted to close down a major institution, we don't have the legal authori- ties and the framework to do it. So the Congress needs, in my opin- ion, to set forward a much more elaborate version of FDICIA, if you like, that would apply to large financial institutions of various 50 types that would give guidance to regulators, under appropriate checks and balances, about under what circumstances the regu- lators could shut down that firm in a safe way that doesn't disrupt the financial markets. But absent those kinds of powers and that kind of framework, we really are having to play it by ear. Senator SHELBY. I know a lot of people have got different pro- posals for the economy and how do you rectify the economy. I was told the other day there are about 155 million people gainfully em- ployed. We would like for it to be six or seven or eight million more. I understand that. But do you believe that the biggest chal- lenge to our economic system today is rectifying and bringing com- petence and capital from the private sector, trust to the banking system? Mr. BERNANKE. Absolutely, Senator. Somebody asked me before, how would we know when things were starting to turn around? When some major banks start going out and raising significant pri- vate capital Senator SHELBY. In the private sector? Mr. BERNANKE. In the private sector, that will be a major indi- cator that we are moving in the right direction. Senator SHELBY. And how do you do that with transparency, with closing some banks, consolidating some banks, letting the market know or believe in the banking system? Mr. BERNANKE. Well, the various steps that I have described, in- cluding making sure they have enough capital to give themselves some breathing space to do restructuring as needed, to have a pro- gram to buy assets off the balance sheets. Some of those steps that I have talked about will, if properly executed and forcefully exe- cuted, lead to a situation where it will be safe to come back in the water and private investors will be more confident about the fu- tures of the banks. Senator SHELBY. YOU are the Chairman of the Federal Reserve, which is the central bank, but you are also the regulator of our largest banks, is that correct? Mr. BERNANKE. Of the holding companies, yes. Senator SHELBY. DO you believe, and I know you haven't been in the Fed that long, but do you believe that the Fed has adequately supervised our banks as a regulator, or do you believe there were problems there that were not known or uncovered? Mr. BERNANKE. Well, I think the Fed was a very active and con- scientious regulator. It did identify a lot of the problems. Along with our other fellow regulators, we identified issues with non-tra- ditional mortgages, with commercial real estate, with leveraged lending and other things. But what nobody did was understand how big and powerful this credit boom and the ensuing credit col- lapse was going to be, and routine supervision was just insufficient to deal with the size of this crisis. So clearly, going forward, we need to think much more broadly, more macroprudentially, about the whole system and think about what we need to do to make sure that the system as a whole doesn't get subjected to this kind of broad-based crisis in the future. Senator SHELBY. Does that include insurance, too, because insur- ance has been regulated under the McCarran-Ferguson Act by the States, but then you had AIG, which caused systemic stress, to say 51 the least, to our banking system, and they were regulated pri- marily by the New York State Insurance Commission. Mr. BERNANKE. AIG had a Financial Products Division which was very lightly regulated and was the source of a great deal of systemic trouble. So I think that we do need to have broader-based coverage, more even coverage, more even playing field, to make sure that there aren't—as our system evolves, that there aren't markets and products and approaches that get out of the line of vi- sion of the regulators, and that was a problem we had in the last few years. Senator SHELBY. Thank you, Mr. Chairman. Chairman DODD. Senator Corker. Senator CORKER. Thank you, Mr. Chairman, and thank you for the second round of questioning. How many major banks, I mean, is the definition 19 or 20, is that what we determine to be major banks in this country? Mr. BERNANKE. There are about 20 banks or so that are $100 bil- lion in assets or bigger. Senator CORKER. OK. Mr. BERNANKE. Those are basically the ones that we are going to be looking at in the next few Senator CORKER. SO I want to spend just a minute on the stress test and then move to a bigger issue. You mentioned that on the accrual loans, we were going to use existing accounting, which is GAAP accounting. My understanding is the banks actually take losses on those loans as they occur. Mr. BERNANKE. Well, there is some provisioning for future losses and we will be looking at a 2-year horizon and asking the question, what are the expected losses over that whole horizon. Senator CORKER. SO what you really will be doing, then, is going in and ensuring that they are actually provisioning properly, and the fact is that I think most—a lot of smart people in the country believe that that is where the huge losses exist that have not been taken, obviously because of GAAP accounting, and what you are going to do is actually get them to increase those reserves substan- tially. At that point, they will be insolvent, and so, therefore, then you would be providing public funding to make up that capital defi- ciency, is that correct? Mr. BERNANKE. I don't agree necessarily that they will be insol- vent, but clearly Senator CORKER. Well, some of them obviously will. Mr. BERNANKE. Clearly, we have to look at their provisioning. The rules are that you can account for those expected losses either through provision or through more capital, but essentially it is the same point. Senator CORKER. And the reason for additional—their capital will be too low, so they might not be insolvent, but the fact is they would need in some cases substantial public investment to get their capital ratios where they need to be so they would be considered solvent, let me put it that way. Mr. BERNANKE. SO they would be considered well capitalized. Senator CORKER. OK. So I guess as I hear that, there seems to be sort of two schools of thought. One is that we need to take our medicine and that there needs to be some failures or maybe we 52 need to have a bad bank scenario under these major banks, be- cause in some cases, they could actually support their own bad bank. And then there is another that says we are just sort of going to meter out losses over time and continue sort of what we have been doing, and I am not criticizing, I am just making the observa- tion that I think what I heard you say is, in essence, we are sort of going to continue doing what we are doing. We are going to go in and create this mechanism, these convertible preferred shares, and as the banks actually take these losses which we know are coming, they will convert that into common equity. But in essence, we are sort of continuing what we have been doing with TARP funding. We are just calling it something a little different to get the tangible common equity up where it needs to be, is that correct? Mr. BERNANKE. And to make the banks well capitalized so there will be some public ownership in terms of the shares of the com- mon equity, but we want them to have enough capital. Senator CORKER. Mr. Chairman, just for what it is worth, I think that is incredibly enlightening, probably the most enlightening thing that has been said in the last 5 weeks as far as where we are going, which again I don't criticize. I think we need to get it right. But it seems to me that this has been creating this sort of dead man walking, this sort of zombie-like banking scenario, and while I have been not using these words out and around, it seems to me that what you have explained is a creeping nationalism of our banks. I mean, in essence, many of them don't have appropriate capital. You are going to stress test them, which means you are going to make them reserve up properly, which they should do and I applaud that. And then you are going to provide the public fund- ing to meet that capital requirement. I don't like saying things like this and squirmed a little bit when I was asked about Chairman Dodd's comments about nationalization, but in essence, this is a form of sort of creeping nationalism, right? Mr. BERNANKE. Senator, there are two sides to this. One side is providing the capital they need to provide credit to the economy, which is essential. But we are not just handing them this capital and saying, go do your thing. We also have on the other side the supervisory oversight, the TARP oversight, to make sure that they are not just sitting around but that they are taking the steps nec- essary to clean themselves up so that they will be profitable in the future. At that point, private capital will come in and public capital can go out. And as I was saying before, the best sign of success will be when the government can start taking its capital out, or the banks can start replacing the public capital with private sector cap- ital. That is what we are aiming for. Senator CORKER. I just took your comment earlier, you know, there are a lot of assumptions about what our public policy is and I think people understand about the condition that Senator Shelby mentioned about too big to fail. But when you stated earlier, we are committed to ensuring the viability of all major U.S. financial institutions, that is a statement that I guess I have never heard said that clearly before and I think that some of us have expected that there is at least a possibility if a financial institution is not performing properly they might be seized, which is certainly a form 53 of nationalization, for a period of time, but it is different. It is under different circumstances. But what I hear you saying today—again, I am not being critical, I might be later, but I am just observing right now—is that we are going to get them to sort of take their medicine. We are going to go in and make them reserve up for these accrual loans that we know is where the next huge hole is, but we are going to give them public dollars. I mean, that, to me, and I certainly haven't been around that long here, but that, to me, is nationalization. I mean, that—I would like for you to give me a term to use as I leave here as to what we would call that. Mr. BERNANKE. Call it public-private partnership. It is not na- tionalization because the banks will not be wholly owned or prob- ably not even majority owned by the government. The government will be a shareholder, along with private shareholders Senator CORKER. But you are putting in a mechanism to where our common equity holdings will be large by virtue of creating this convertible preferred situation and you know that the losses are coming because you are going to do this stress test. I mean, that is why you are putting this vehicle in place. And I do wonder how we ever get to the end game where in essence there are, in fact, people willing to buy common shares. I mean, I can't imagine in these 19 or 20 institutions anybody, after hearing this statement today, which maybe you have said it before and I hadn't heard it, but why would anybody go buy common shares in banks today in those 19 or 20? Why would anybody do it? Mr. BERNANKE. Well, they wouldn't today, but I think eventually they will. It is all the elements of the program working together to take off the bad assets, to recapitalize them, to get them restruc- tured. I think part of this is that, remember, we do have a legal procedure. We do have the FDICIA laws and prompt corrective ac- tion. If a bank does become insolvent, then the FDIC will, of course, intervene. But we are not close to that. All the banks are above their regulatory Senator CORKER. Well, they are only there because we are con- tinuing—I mean, the statement has been made that we are going to keep putting public dollars in to keep that occurring, so they are never going to get to a point, these 19 or 20 banks will never get to a point where the seizure occurs because you are putting in place a mechanism to keep that from happening, and I am just say- ing that is a really bold statement and something that I guess I haven't deciphered until today. Have you heard this, Mr. Chair- man? Chairman DODD. Well, I just say, look, I mean, we are in—as the Senator from Connecticut learned a few days ago, a full statement saying that I thought this was a bad choice to go to. The adminis- tration, in my view, is opposed to it. But when pressed, could some- thing like this happen, I should have been more careful in my se- lection of words. We need to be careful here in the language we are using at this very hearing. And as I hear my colleague, he is raising some very good ques- tions. But I think I heard the Chairman also describing this is not a desirable result we are looking at here. The desirable result is these institutions to be run and managed in private hands. That 54 is the goal we are trying to achieve here. I think we need to be careful to make sure we are not going to contribute to the very out- come we are trying to avoid. Senator CORKER. But I think the mechanism that is being put in place is a mechanism that absolutely means that none of the 20 major—19, 20 major banks in our country ever have the chance of being seized, and, in essence, that we are going to put whatever public capital in place once they do the appropriate amount of re- serving that needs to take place, and I applaud you for doing that, to make sure that that doesn't occur, that they have proper capital ratios. That is what I am hearing Mr. BERNANKE. Senator, it is not a statement of principle or for- ever. Based on our knowledge of those banks and where they are and where we think they are going to come out, we believe this is the best way forward. Senator CORKER. Isn't that tantamount to saying that for a pe- riod of time while all of this is occurring, in essence, the—and again, it is not a criticism, it is an observation—there is no need for private investment in these institutions, that we are going to go through a period of time where, in essence, the public sector, as it has been, but we are making now this sort of a statement now that for a period of time, the only viable avenue for these institu- tions is going to be the public sector, and we are just acknowl- edging that that is the case. Mr. BERNANKE. It has been the case. If we hadn't had the TARP money in October, we would have had a global banking crisis. Many, many banks would have failed and the results would have been extremely bad. Senator CORKER. And it seems to me that what we are throwing out is that notion that some folks have put forth—again, I am just observing—of creating some mechanism for these banks to actually be healthy now that is not going to happen, that in essence this good bank/bad bank scenario where someone actually proposed for the four largest banks they just create their own, where in essence the assets are separated from these institutions and people might actually invest in them. That idea is definitely not one of pursuit today. Mr. BERNANKE. Senator, let me be clear. If there is a private sec- tor solution, including private capital raised, that is great Senator CORKER. NO, no, no, no. Mr. BERNANKE. That is great. Senator CORKER. This will be a public—I mean, the public sector would have to be involved, it seems, in helping create a good bank/ bad bank, where they are separated. But the point is you are mak- ing a statement today that things of that nature, where we are ac- tually going to try to separate these bad assets in that mechanism and actually calls people to invest in the good side of the bank, that thought process is not the pursuit of today. Mr. BERNANKE. Senator, I don't want to speak for the Treasury about what might happen in terms of individual cases, but there is one issue with that bad bank that you are describing, which is that it is very difficult to value the assets that you put into the bad bank. One of the advantages of the private-public partnership asset purchase program is that we would hope to get market-based 55 prices so the taxpayer wouldn't be overpaying for the assets which are, one way or another, made the responsibility of the govern- ment. Senator CORKER. And I will stop. I know you have been very gen- erous with the time, Mr. Chairman Chairman DODD. Let me ask this, if I can Senator CORKER. Let me just follow up with this last—I am stop- ping with this. It seems to me that all of us have talked about the need for the credit markets to function, and you have stated that on the front end and all the way through, and I know Chairman Dodd and Ranking Member Shelby have said the same thing. I see no event, based on what you just said, I see no event that changes the mix in any way to really cause that to occur. I mean, what I see is this sort of continuation of this sort of dead man walking, zombie bank, whatever you want, just sort of this going on for a period of time and there is nothing, no jolt of any kind that offers any kind of different scenario with our major institutions as I lis- ten to what you are saying. Mr. BERNANKE. I must not be very clear. I apologize. First of all, I think "zombie" was not an appropriate description for any of the banks. I think they all have substantial franchise value. They are all lending. They are all active. They have substantial international franchises. So I don't think that is an accurate description. But the point I want to make is that even as we put capital into these banks, we are not standing by and letting them do what they want, to take risks or to continue to operate in an inefficient man- ner. We are going to be very tough on them to make sure, along with the private shareholders who still have an interest, that they take whatever drastic steps are necessary to restore themselves to profitability, and that is what is going to make them eventually in- teresting to private investors. Chairman DODD. You know, I just want to—in picking up on the point, first of all—and this is, I think, a very important exchange because it is a critical question. The announcement of the stress itself has, I think, created stress in a sense in terms of how the private sector looks at the institutions, in terms of their willingness to provide the additional private capital, which is critical—ulti- mately what we are seeking here. So you might address that ques- tion. And the public-private partnership idea is one that I think has some value, because if we are only talking about people coming and investing in entities that have Government guarantees to them one way or the other, whether it is treasuries or commercial paper, whatever the laundry list is of investments you can make and you are making them because there is a Government guarantee. Then it seems to me we are missing what ultimately needs to be done, and that is, getting capital to invest in those riskier investments that do not have the guarantees. Ultimately, that is the answer. And so the question is: How do we get closer to that model that attracts that private investment in the non-Government guaran- teed instruments that are out there? There are some ideas kicking around about creating a fund in a sense in the public-private partnership idea that would take quali- fied investors from hedge funds and money markets and others to 56 begin to use their capital and public capital as a way of creating markets—a buyer and a seller. I mean, what we are missing here is the buyer and the seller. That is what creates a market. You do not create a market by Government action or Government regula- tion. You create a market when you have a buyer and a seller showing up and they decide to engage in a negotiation over the purchase of an instrument. And until that moment begins to hap- pen, obviously we are buying the time to get to that point and try- ing to urge this along. My colleague from Tennessee, who I have great admiration for and have immensely enjoyed my working relationship with, raises a very, very important question. I think we agree on where we are trying to get to, and I think you very cautiously raise the issues of which path are we sort of following here. What I hear you saying is, one, to try and make sure we have institutions around where we can actually perform, and simultaneously then create the oppor- tunities through these public-private partnerships that have been suggested by some as a way of inducing that private capital to come in and that buyer and that seller to show up. And when the buyer and the seller show up, they start creating the markets, and these assets, then we can determine their value, these toxic assets, and credit begins to flow. And that to me is the heart of it all on how we get there. Anyone who suggests that one path or the other guarantees us an outcome, but in the absence of providing the institutional frame- work by which you then can move seems to be a dangerous one if we do not be careful. So I do not know if you want to comment on that at all or not, but I would give you a chance to respond to that. Mr. BERNANKE. NO, I think that is well put. I think we want to get as much certainty about the policy going forward so people un- derstand the rules. There have been complaints about that, and it is well justified. We want to do what we can to both get the banks back on a profitable path, to get the bad assets off their books, and to make them attractive again. And I think you are absolutely right that that is the end game, when private money will start coming back in. And I am sure it will happen. The sooner, the bet- ter. Chairman DODD. Let me ask you just one question I wanted to raise. And I appreciate, by the way, your point on the TARP, and I thank my colleague from Tennessee. He was critically helpful in that critical moment, those 14 days of trying to put something to- gether that made some sense, and your point that had we not acted, we would be having a very different conversation in this room today, I think is what you are telling us. And we would be talking about not whether or not these institutions are going to be around. They would be gone, many of them. Is that correct? Mr. BERNANKE. Yes. Chairman DODD. Yes. The role of the Community Reinvestment Act, this item keeps on popping back up again. We had some lengthy debates in this Committee, as I was a junior Member of it when we went through with it. My good friend Phil Gramm of Texas was the Chair, and Phil and I did a lot of work together on a number of issues. But Phil the other day wrote another piece 57 about the CRA is a fundamental issue, and yet I see in a February 12 study by the boss in the San Francisco Fed cited evidence show- ing that 60 percent of the higher-priced loans in that period of time we are talking about went to middle- and higher-income borrowers or neighborhoods not covered by the Community Reinvestment Act, that loans originated by the CRA-covered lenders were significantly less likely to be in foreclosure than those originated by lenders not covered by the CRA. An October 14 study from the University of North Carolina and the Center for Community Capital showed that home loan bor- rowers with similar risk characteristics defaulted at much higher rates when they borrowed subprime mortgages than when they re- ceived community reinvestment loans. Do you agree with that? Mr. BERNANKE. Yes, that is what the Fed research shows. I think the number is that only 6 percent of the subprime delinquencies were based on mortgages made by CRA-covered institutions into CRA neighborhoods. Chairman DODD. Yes. Mr. BERNANKE. SO, we know that mortgage brokers and others were very much involved in making those loans, and they are not covered by CRA. Chairman DODD. But the underwriting standards in institutions dealing with community reinvestment are very tough. Do you agree with that? Well, not tough Mr. BERNANKE. I would not want to make a complete blanket statement, but certainly the banks which are more directly regu- lated, and Federal regulators, did a better job on average of under- writing mortgages than did the non-federally regulated lenders. Chairman DODD. My colleague Senator Shelby has some com- ments. Senator SHELBY. Mr. Chairman, a lot of people believe—and you have seen a lot of the writings—that the Fed and Treasury and others basically have exacerbated, compounded the problem for the banks by propping them up. In other words, I am going to back to the market. The market obviously believes that some of those banks—not all—maybe are insolvent, you know, have been insol- vent basically by standard accounting stuff. Wouldn't we be better off to close some of those banks rather than continue to prop them up and let the American people con- tinue to believe—no confidence in them? In other words, they are not buying stock. They are not investing in the private banks be- cause they do not trust them, you know, because they do not know what is in those portfolios. And when the Government, which is the Fed and others, get involved in that—I know you are the lender of last resort, and you are also a bank regulator. I understand all that. But aren't you sending a message out, like Senator Corker— that we are going to keep these banks open no matter what? How are you ever going to track private capital? And there is a lot of private capital, as you know, Mr. Chairman, on the sidelines now looking for an investment. But they are not investing in the banks because they do not trust the banks. Mr. BERNANKE. The first step, Senator Shelby, I think is to get the clarity. Get the clarity. 58 Senator SHELBY. Transparency? Mr. BERNANKE. Transparency. And there are two parts of this program that are going to do that. The first is the assessment that we are undertaking, and the second is what happens after the asset purchase program goes into place and takes assets off their balance sheets. But, you know, Senator, we are following the law. The law has a very explicit set of rules under which we can go in and shut down a bank. Senator SHELBY. We know that. Mr. BERNANKE. We cannot just go shut down a bank that is well capitalized or meets capital standards. Senator SHELBY. YOU should not ever do that. But we are talking about the banks that are insolvent or have no pulse, so to speak. Mr. BERNANKE. I think there are a couple of issues, practical issues, that people need to pay attention to. One is just the great technical difficulty of shutting down an enormous holding company with many components, an international presence. Senator SHELBY. We understand that. Mr. BERNANKE. And the implications that would have for market function and market confidence. I think that would be enormous. And we saw some of that with Lehman Brothers, frankly. The other is I think Senator SHELBY. We have seen some of that with AIG, haven't we? Mr. BERNANKE. And with AIG. If I thought the banks were, you know, irrevocably damaged, I would have a different view. But I do believe that our major banks have significant franchise values. And one of the things that we have learned is that when the Govern- ment takes over a company, one of the things that happens imme- diately is that the counterparties start pulling away the franchise value, the brand name starts to erode very quickly. And so I think, if through our regulatory process we can get the banks to perform better and to improve, then the time may come when, if they do not succeed in doing that, it will be appropriate to shut them down and so on. But for the moment, I think the right strategy is transparency, find out what we can about their true sta- tus, and to try to find the minimally disruptive way to get them into an improved condition. And I think those things are feasible right now. Now, we certainly, as I said to Senator Corker, there is no com- mitment by any means to never shut down a big bank. Absolutely not. But I do believe that the major banks we have now can be sta- bilized, and in the near term, it is important to do so. Senator SHELBY. Are we going down the road that Japan went down in a sense? Some people say we are. Some say we are not. In other words, they never confronted their banking problems in the 1990s. Have they Mr. BERNANKE. We have been very Senator SHELBY. Sir? Mr. BERNANKE. I am sorry. Senator SHELBY. Are we going down the same road in a sense? Mr. BERNANKE. NO, Senator. We Senator SHELBY. Propping up banks that are dead, so to speak? 59 Mr. BERNANKE. NO, Senator. As I said, we are going to trans- parency. We want to find out what their true positions really are, and if we, the regulators, the Treasury, were to determine that a bank were really not viable, that would be a different question. But right now the view is that these assessments will determine how much capital they need to continue to lend and support the econ- omy. Senator SHELBY. Last, how do you get the market to believe that what you are doing is the right thing? Obviously, most of them do not. Most of the participants in the market that are keen observers do not believe in what you are doing with the banks, because look at the bank stocks. Mr. BERNANKE. Well, there are a lot of factors affecting bank stocks, including uncertainty about what the Government might do. Senator SHELBY. Sure. Mr. BERNANKE. SO I am not sure you can make that judgment. I think we have to go forward. We have to try to ascertain the state of the banks. We have to see what the situation really is. But my belief is that what we will come out with is capital that will allow these banks to continue and to provide the credit that we need and do so in a way that is not as disruptive to the markets as would be the alternative at this point. Senator SHELBY. Thank you. Chairman DODD. The last point I would make I think is very im- portant. I think obviously the markets are skittish, and obviously there is a lot going on. And clarity is very important, the trans- parency you are talking about. I think the more people—Bob men- tioned this earlier, and I wish I had said it myself at the outset. So much of what is missing is getting that sense of the framework, where are we. I think people understand how we got here. We can talk about that. But where are we? What needs to be done to get us moving in the right direction? And I think to the extent people understand that—they may not like it, but they understand it— then you do not get these kind of high volatility and jerking around that we see so often where one statement from one individual can have a significant impact on a market fluctuation. I think that is in a sense what happens when there is this lack of certainty or clarity, to the extent you can have certainty, obviously, in an envi- ronment like this. I think these closing comments, while they have not involved a lot of people here, I think they have been tremendously valuable and important, and your responses to Senator Shelby I think have been very helpful as well on all of that. And I do think sometimes we—the markets are very important, obviously. We watch them every day. But I think too many times we look at only that every day as an indication of where things are going. And it is an impor- tant indication, but it is not the only indication of what is hap- pening. And I think that is the point you were trying to make, and I welcome that. We thank you very, very much Senator CORKER. Mr. Chairman, could I—this is not getting into an ideology discussion. The statement was made earlier that the Federal Reserve does not have the authority to close down a large 60 institution. I think the Chairman may have been referring to AIG. I am not sure. But I am wondering if it would be good for him to clarify, and then since this Committee, I guess, would have some- thing to do with that, if there is something that he is asking for, because what I would hate to happen is 2 years from now we end up in a situation, if it is AIG—he might have been talking about Citigroup. I do not know who he is talking about. I would love the clarification. But I would hate for us to wake up 2 years from now and the Fed be saying, well, we would have done it, but we did not have the authority to do it. And I am just wondering if he might clarify since that is an important Mr. BERNANKE. Senator, thank you. I have talked about this on a number of occasions. I think what is missing is a comprehensive resolution authority, a set of rules and guidelines which explains how the Government in general would address the potential failure of a systemically critical firm, like AIG, for instance. Senator CORKER. SO it could be Citigroup. It could be any firm. Mr. BERNANKE. Right. The existing rules do not cover a Citigroup because that is a bank holding company with lots of different com- ponents. So we do not have a good framework for dealing with sys- temically critical firms. At the Fed we are working on some pro- posals. We would be happy to share them with you at some point. But I do think that that is the first step. Until it is safe to close down a big firm, you are going to be forced to take actions to avoid it. And as I said, I would be very happy to get rid of the 5 percent of my balance sheet which is tied up in these kinds of extraor- dinary rescue efforts. So it is critical that we have a good resolution regime, and we are working hard on it and would be happy to share with you, Sen- ator Corker Senator CORKER. SO you are not asking—you are not going to come back in a year and say, well, we would have closed down X or AIG, but we do not have that authority, we are working toward that end? Mr. BERNANKE. I am hoping this will be part of the broad reform package that is going forward. Chairman DODD. And I think you made that clear in the past. The Lehman Brothers issue, I know there has been a highly con- troversial question, obviously. But there was a classic, where allow- ing that to default was certainly—that was within the authority. Mr. BERNANKE. Well, we had no way to address it otherwise. Chairman DODD. Yes. So there is, I think—it is a good question, but I think it has been answered by actions already that have oc- curred, as well as the statements you have made today. Well, Mr. Chairman, it has been a long 4 hours, and I know you have got Budget Committee hearings later this week, so we hope this has been helpful in preparation for those hearings. I would like as well at some point—stabilizing the financial sys- tem is obviously the critical question, and I think the Committee might be interested in the Fed's suggestions in terms of prioritizing the kinds of steps that we should be taking in this Committee. I would be very interested in your observations and those of your staff as to what sort of batting order you would like to see this Committee of jurisdiction over the financial institutions of the 61 country to bring up and what are the most important issues we ought to address more quickly, and some will require probably some longer thought. And I privately have chatted with the Chair- man about tapping into the expertise of the Federal Reserve Sys- tem to talk about the modernization issues that many—or I think every Member of this Committee has an interest in, and how we proceed along those lines. So we would like to call on the Federal Reserve's fine staff to get some sense of what you think we ought to be doing in what order as to how we ought to proceed. It would be helpful. This has been very helpful, a good hearing. Thank you for being here. [Whereupon, at 1:20 p.m., the hearing was adjourned.] [Prepared statements, response to written questions, and addi- tional material supplied for the record follow:] 62 PREPARED STATEMENT OF SENATOR TIM JOHNSON Thank you, Chairman Bernanke for being here today. It is no exaggeration to say that our economy is currently undergoing a period of extraordinary stress and vola- tility. Unfortunately, I suspect we are not yet at the end of the road in terms the financial difficulties plaguing Americans. I applaud the Federal Reserve for continuing to use its tools to lessen the impact of the recession, to decrease the volatility in the markets, and to unfreeze credit markets, but I have concerns that as the Federal Reserve expands its balance sheets and interest rates remain near zero, that the Fed will have fewer options and less flexibility than it has had over the past year. I am also concerned that some of these actions may perpetuate the idea that the government is in the business of propping up insolvent ventures when they go bad. I am deeply interested in the Fed's economic forecast for 2009, and I look forward to hearing how the Fed will continue to address the problems plaguing our economy. The crisis in our economy is real, and there is no question that more must be done to address the situation. I am committed to our Nation's economic recovery and to ensuring the safety and soundness of the financial sector without placing unneces- sary burdens on the taxpayer. As this Committee works to address the crisis in our economy, we will continue to look to your expertise. PREPARED STATEMENT OF BEN S. BERNANKE CHAIRMAN, BOARD OF GOVERNORS OF THE FEDERAL RESERVE SYSTEM FEBRUARY 24, 2009 Chairman Dodd, Senator Shelby, and members of the Committee, I appreciate the opportunity to discuss monetary policy and the economic situation and to present the Federal Reserve's Monetary Policy Report to the Congress. Recent Economic and Financial Developments and the Policy Responses As you are aware, the U.S. economy is undergoing a severe contraction. Employ- ment has fallen steeply since last autumn, and the unemployment rate has moved up to 7.6 percent. The deteriorating job market, considerable losses of equity and housing wealth, and tight lending conditions have weighed down consumer senti- ment and spending. In addition, businesses have cut back capital outlays in re- sponse to the softening outlook for sales as well as the difficulty of obtaining credit. In contrast to the first half of last year, when robust foreign demand for U.S. goods and services provided some offset to weakness in domestic spending, exports slumped in the second half as our major trading partners fell into recession and some measures of global growth turned negative for the first time in more than 25 years. In all, U.S. real gross domestic product (GDP) declined slightly in the third quarter of 2008, and that decline steepened considerably in the fourth quarter. The sharp contraction in economic activity appears to have continued into the first quar- ter of 2009. The substantial declines in the prices of energy and other commodities last year and the growing margin of economic slack have contributed to a substantial less- ening of inflation pressures. Indeed, overall consumer price inflation measured on a 12-month basis was close to zero last month. Core inflation, which excludes the direct effects of food and energy prices, also has declined significantly. The principal cause of the economic slowdown was the collapse of the global credit boom and the ensuing financial crisis, which has affected asset values, credit condi- tions, and consumer and business confidence around the world. The immediate trig- ger of the crisis was the end of housing booms in the United States and other coun- tries and the associated problems in mortgage markets, notably the collapse of the U.S. subprime mortgage market. Conditions in housing and mortgage markets have proved a serious drag on the broader economy both directly, through their impact on residential construction and related industries and on household wealth, and in- directly, through the effects of rising mortgage delinquencies on the health of finan- cial institutions. Recent data show that residential construction and sales continue to be very weak, house prices continue to fall, and foreclosure starts remain at very high levels. The financial crisis intensified significantly in September and October. In Sep- tember, the Treasury and the Federal Housing Finance Agency placed the govern- ment-sponsored enterprises, Fannie Mae and Freddie Mac, into conservatorship, and Lehman Brothers Holdings filed for bankruptcy. In the following weeks, several other large financial institutions failed, came to the brink of failure, or were ac- quired by competitors under distressed circumstances. Losses at a prominent money 63 market mutual fund prompted investors, who had traditionally considered money market mutual funds to be virtually risk-free, to withdraw large amounts from such funds. The resulting outflows threatened the stability of short-term funding mar- kets, particularly the commercial paper market, upon which corporations rely heav- ily for their short-term borrowing needs. Concerns about potential losses also under- mined confidence in wholesale bank funding markets, leading to further increases in bank borrowing costs and a tightening of credit availability from banks. Recognizing the critical importance of the provision of credit to businesses and households from financial institutions, the Congress passed the Emergency Eco- nomic Stabilization Act last fall. Under the authority granted by this act, the Treas- ury purchased preferred shares in a broad range of depository institutions to shore up their capital bases. During this period, the Federal Deposit Insurance Corpora- tion (FDIC) introduced its Temporary Liquidity Guarantee Program, which ex- panded its guarantees of bank liabilities to include selected senior unsecured obliga- tions and all non-interest-bearing transactions deposits. The Treasury—in concert with the Federal Reserve and the FDIC—provided packages of loans and guarantees to ensure the continued stability of Citigroup and Bank of America, two of the world's largest banks. Over this period, governments in many foreign countries also announced plans to stabilize their financial institutions, including through large- scale capital injections, expansions of deposit insurance, and guarantees of some forms of bank debt. Faced with the significant deterioration in financial market conditions and a sub- stantial worsening of the economic outlook, the Federal Open Market Committee (FOMC) continued to ease monetary policy aggressively in the final months of 2008, including a rate cut coordinated with five other major central banks. In December the FOMC brought its target for the federal funds rate to a historically low range of 0 to Vi percent, where it remains today. The FOMC anticipates that economic conditions are likely to warrant exceptionally low levels of the Federal funds rate for some time. With the Federal funds rate near its floor, the Federal Reserve has taken addi- tional steps to ease credit conditions. To support housing markets and economic ac- tivity more broadly, and to improve mortgage market functioning, the Federal Re- serve has begun to purchase large amounts of agency debt and agency mortgage- backed securities. Since the announcement of this program last November, the con- forming fixed mortgage rate has fallen nearly 1 percentage point. The Federal Re- serve also established new lending facilities and expanded existing facilities to en- hance the flow of credit to businesses and households. In response to heightened stress in bank funding markets, we increased the size of the Term Auction Facility to help ensure that banks could obtain the funds they need to provide credit to their customers, and we expanded our network of swap lines with foreign central banks to ease conditions in interconnected dollar funding markets at home and abroad. We also established new lending facilities to support the functioning of the commercial paper market and to ease pressures on money market mutual funds. In an effort to restart securitization markets to support the extension of credit to consumers and small businesses, we joined with the Treasury to announce the Term Asset-Backed Securities Loan Facility (TALF). The TALF is expected to begin extending loans soon. The measures taken by the Federal Reserve, other U.S. Government entities, and foreign governments since September have helped to restore a degree of stability to some financial markets. In particular, strains in short-term funding markets have eased notably since the fall, and London interbank offered rates (Libor)—upon which borrowing costs for many households and businesses are based—have de- creased sharply. Conditions in the commercial paper market also have improved, even for lower-rated borrowers, and the sharp outflows from money market mutual funds seen in September have been replaced by modest inflows. Corporate risk spreads have declined somewhat from extraordinarily high levels, although these spreads remain elevated by historical standards. Likely spurred by the improve- ments in pricing and liquidity, issuance of investment-grade corporate bonds has been strong, and speculative-grade issuance, which was near zero in the fourth quarter, has picked up somewhat. As I mentioned earlier, conforming fixed mort- gage rates for households have declined. Nevertheless, despite these favorable devel- opments, significant stresses persist in many markets. Notably, most securitization markets remain shut, other than that for conforming mortgages, and some financial institutions remain under pressure. In light of ongoing concerns over the health of financial institutions, the Secretary of the Treasury recently announced a plan for further actions. This plan includes four principal elements: First, a new capital assistance program will be established to ensure that banks have adequate buffers of high-quality capital, based on the re- 64 suits of comprehensive stress tests to be conducted by the financial regulators, in- cluding the Federal Reserve. Second is a public—private investment fund in which private capital will be leveraged with public funds to purchase legacy assets from financial institutions. Third, the Federal Reserve, using capital provided by the Treasury, plans to expand the size and scope of the TALF to include securities backed by commercial real estate loans and potentially other types of asset-backed securities as well. Fourth, the plan includes a range of measures to help prevent unnecessary foreclosures. Together, over time these initiatives should further sta- bilize our financial institutions and markets, improving confidence and helping to restore the flow of credit needed to promote economic recovery. Federal Reserve Transparency The Federal Reserve is committed to keeping the Congress and the public in- formed about its lending programs and balance sheet. For example, we continue to add to the information shown in the Fed's H.4.1 statistical release, which provides weekly detail on the balance sheet and the amounts outstanding for each of the Fed- eral Reserve's lending facilities. Extensive additional information about each of the Federal Reserve's lending programs is available online. xThe Fed also provides bi- monthly reports to the Congress on each of its programs that rely on the section 13(3) authorities. Generally, our disclosure policies reflect the current best practices of major central banks around the world. In addition, the Federal Reserve's internal controls and management practices are closely monitored by an independent inspec- tor general, outside private-sector auditors, and internal management and oper- ations divisions, and through periodic reviews by the Government Accountability Of- fice. All that said, we recognize that recent developments have led to a substantial in- crease in the public's interest in the Fed's programs and balance sheet. For this rea- son, we at the Fed have begun a thorough review of our disclosure policies and the effectiveness of our communication. Today I would like to highlight two initiatives. First, to improve public access to information concerning Fed policies and pro- grams, we recently unveiled a new section of our Web site that brings together in a systematic and comprehensive way the full range of information that the Federal Reserve already makes available, supplemented by explanations, discussions, and analyses. 2 We will use that Web site as one means of keeping the public and the Congress fully informed about Fed programs. Second, at my request, Board Vice Chairman Donald Kohn is leading a committee that will review our current publications and disclosure policies relating to the Fed's balance sheet and lending policies. The presumption of the committee will be that the public has a right to know, and that the nondisclosure of information must be affirmatively justified by clearly articulated criteria for confidentiality, based on fac- tors such as reasonable claims to privacy, the confidentiality of supervisory informa- tion, and the need to ensure the effectiveness of policy. The Economic Outlook and the FOMC's Quarterly Projections In their economic projections for the January FOMC meeting, monetary policy makers substantially marked down their forecasts for real GDP this year relative to the forecasts they had prepared in October. The central tendency of their most recent projections for real GDP implies a decline of Vz percent to IVi percent over the four quarters of 2009. These projections reflect an expected significant contrac- tion in the first half of this year combined with an anticipated gradual resumption of growth in the second half. The central tendency for the unemployment rate in the fourth quarter of 2009 was marked up to a range of 8V2 percent to 8% percent. Federal Reserve policymakers continued to expect moderate expansion next year, with a central tendency of 2V2 percent to 3Vi percent growth in real GDP and a decline in the unemployment rate by the end of 2010 to a central tendency of 8 per- cent to 8Vt percent. FOMC participants marked down their projections for overall inflation in 2009 to a central tendency of Vi percent to 1 percent, reflecting expected weakness in commodity prices and the disinflationary effects of significant economic slack. The projections for core inflation also were marked down, to a central tend- ency bracketing 1 percent. Both overall and core inflation are expected to remain low over the next 2 years. 1 For links and references, see Ben S. Bernanke (2009), "Federal Reserve Programs to Strengthen Credit Markets and the Economy," testimony before the Committee on Financial Services, U.S. House of Representatives, February 10, http:11 www.federalreserve.gov I newsevents / testimony / bernanke20090210a.htm 2 The Web site is located at http:/ Iwww.federalreserve.gov ImonetarypolicyI bst.htm 65 This outlook for economic activity is subject to considerable uncertainty, and I be- lieve that, overall, the downside risks probably outweigh those on the upside. One risk arises from the global nature of the slowdown, which could adversely affect U.S. exports and financial conditions to an even greater degree than currently expected. Another risk derives from the destructive power of the so-called adverse feedback loop, in which weakening economic and financial conditions become mutually rein- forcing. To break the adverse feedback loop, it is essential that we continue to com- plement fiscal stimulus with strong government action to stabilize financial institu- tions and financial markets. If actions taken by the Administration, the Congress, and the Federal Reserve are successful in restoring some measure of financial sta- bility—and only if that is the case, in my view—there is a reasonable prospect that the current recession will end in 2009 and that 2010 will be a year of recovery. If financial conditions improve, the economy will be increasingly supported by fiscal and monetary stimulus, the salutary effects of the steep decline in energy prices since last summer, and the better alignment of business inventories and final sales, as well as the increased availability of credit. To further increase the information conveyed by the quarterly projections, FOMC participants agreed in January to begin publishing their estimates of the values to which they expect key economic variables to converge over the longer run (say, at a horizon of 5 or 6 years), under the assumption of appropriate monetary policy and in the absence of new shocks to the economy. The central tendency for the partici- pants' estimates of the longer-run growth rate of real GDP is 2V2 percent to 2% per- cent; the central tendency for the longer-run rate of unemployment is 4% percent to 5 percent; and the central tendency for the longer-run rate of inflation is 1% per- cent to 2 percent, with the majority of participants looking for 2 percent inflation in the long run. These values are all notably different from the central tendencies of the projections for 2010 and 2011, reflecting the view of policymakers that a full recovery of the economy from the current recession is likely to take more than 2 or 3 years. The longer-run projections for output growth and unemployment may be inter- preted as the Committee's estimates of the rate of growth of output and the unem- ployment rate that are sustainable in the long run in the United States, taking into account important influences such as the trend growth rates of productivity and the labor force, improvements in worker education and skills, the efficiency of the labor market at matching workers and jobs, government policies affecting technological development or the labor market, and other factors. The longer-run projections of inflation may be interpreted, in turn, as the rate of inflation that FOMC partici- pants see as most consistent with the dual mandate given to it by the Congress— that is, the rate of inflation that promotes maximum sustainable employment while also delivering reasonable price stability. This further extension of the quarterly projections should provide the public a clearer picture of the FOMC's policy strategy for promoting maximum employment and price stability over time. Also, increased clarity about the FOMC's views regarding longer-run inflation should help to better stabilize the public's inflation expectations, thus contributing to keeping actual in- flation from rising too high or falling too low. At the time of our last Monetary Policy Report, the Federal Reserve was con- fronted with both high inflation and rising unemployment. Since that report, how- ever, inflation pressures have receded dramatically while the rise in the unemploy- ment rate has accelerated and financial conditions have deteriorated. In light of these developments, the Federal Reserve is committed to using all available tools to stimulate economic activity and to improve financial market functioning. Toward that end, we have reduced the target for the Federal funds rate close to zero and we have established a number of programs to increase the flow of credit to key sec- tors of the economy. We believe that these actions, combined with the broad range of other fiscal and financial measures being put in place, will contribute to a gradual resumption of economic growth and improvement in labor market conditions in a context of low inflation. We will continue to work closely with the Congress and the Administration to explore means of fulfilling our mission of promoting maximum employment and price stability. 66 RESPONSE TO WRITTEN QUESTIONS OF SENATOR SHELBY FROM BEN S. BERNANKE Q.I. The Federal Reserve announced the creation of a $200 billion Term Asset-Backed Securities Loan Facility in November 2008. Just 2 weeks ago, the Federal Reserve in conjunction with the Treasury Department, announced the expansion of the program to up to $1 trillion and the possible expansion of eligible collateral. Given that we have not yet seen the first part of the program be an operational success, why did the Federal Reserve feel that it was necessary to announce an expansion of both volume and scope? Why should we be convinced that this program is the most effec- tive mechanism to unthaw securitization markets? Do we have a true understanding of why investors have pulled away to the de- gree they have? And if we don't know the reason, then how can we expect to design an appropriate remedy? A.1. The Term Asset-Backed Securities Loan Facility (TALF) was initially announced on November 25, 2008. In its initial stage, eligi- ble collateral for TALF loans included AAA-rated newly issued asset-backed securities (ABS) backed by student loans, auto loans, credit card loans, and Small Business Administration (SBA) guar- anteed loan. The first TALF operation took place on March 17, 2009. The 4 months between announcement and operation reflected in part the time necessary to design the operational infrastructure of the pro- gram, but during that period the Federal Reserve also consulted with investors, issuers, and rating agencies about the asset classes included as eligible collateral as we developed the specific terms and conditions for the program. The initial set of eligible collateral was chosen with a view to- ward increasing the availability of credit to small businesses and households. The initial $200 billion ceiling for the program re- flected our estimate of the likely activity with the approved collat- eral list over the announced period of operation—through Decem- ber 31, 2009. The dysfunction in the asset-backed securities markets has had adverse effects on credit markets other than those for consumer and small business credit. For example, secondary markets for se- curities backed by commercial and nonconforming residential mort- gages have been experiencing severe strain, and the availability of other certain types of business credit that has often been securitized in the past has diminished greatly. The announced ex- pansion of the program is intended to facilitate issuance of securi- ties backed by loans to those other sectors. We recognized that in order to accommodate the potential lending against the broader set of collateral, an increase in the overall size of the facility could be necessary. The announcement of the expansion preceded the first initial op- eration because of the urgency of encouraging lending to these other sectors. Our announcement that consideration was being given to expanding the facility likely provided some additional sup- port, at the margin, for the residential and commercial mortgage- backed securities markets. Also, given the considerable lead time that it takes to develop terms and conditions for each asset class that both encourage ABS issuance and protect the taxpayer, it was 67 important to announce the possible expansions as quickly as pos- sible. The abrupt decline in new issuance of ABS reflected in large part two developments. First, the availability of leverage to ABS inves- tors has contracted significantly because of the balance-sheet con- straints now being faced by many major banking firms. Second, many traditional investors in AAA tranches of ABS have exited the market because of concern about the possibility of a severe reces- sion and a sharp rise in defaults on loans to business and house- holds. The TALF provides leverage to encourage new investors to purchase ABS. In addition, because the loans are provided on a non-recourse basis, the facility limits the potential losses of the in- vestors to the amount by which the value of the ABS financed by the TALF loan exceeded the loan amount (the haircut). Although those haircuts have been chosen to reduce to only negligible levels the odds that the government will incur a loss on the facility over- all, the program provides a degree of downside protection for inves- tors on each asset financed. Q.2. According to information already released, the Term Asset- Backed Securities Lending Facility (TALF) will only accept newly originated assets and would require the credit rating agencies to rate the underlying securities. This system seems to attempt to mirror the general structure of the securitization market. There is concern, however, that the same credit rating agencies who were responsible for placing a "AAA" rating on now toxic structured products will be relied on once again to rate these securities. What steps is the Federal Reserve taking to ensure that under- lying assets are appropriately underwritten? Is the Fed prepared to dictate the terms to ensure that these loans, at minimum, comply with federal underwriting guidelines? A.2. The Federal Reserve has discussed with the rating agencies the methodologies that they follow to rate the ABS accepted as col- lateral at the program. In general, rating agencies have taken steps that have led to tighter underwriting standards and stricter ratings criteria. In addition, the Federal Reserve requires that each ABS issuer hire an external auditor that must provide an opinion, using examination standards, that management's assertions con- cerning key collateral eligibility requirements are fairly stated in all material respect. TALF investors also serve an important ongoing role in price dis- covery and assessing risk through their ability to demand greater credit enhancements or price concessions. In particular, the sale of securities through TALF in an arms-length transaction is an inde- pendent check not only on the underwriting practices of the issuer, but also of the efficacy of rating agency methodologies. There are no Federal underwriting standards for the loans back- ing the collateral accepted at the TALF. The TALF does not cur- rently accept collateral backed by home mortgages. If residential mortgage-backed securities were to become eligible collateral for the TALF, we would require that the loans backing the securities comply with Federal underwriting standards. Q.3. Your testimony notes that the United States has no well-speci- fied set of rules for dealing with the potential failure of a system- 68 ically critical non-depository financial institution. I would agree that we need to address the too-big-to-fail issue, both for banks and other financial institutions. You have suggested the need for a reso- lution regime that allows the government to have a pre-defined process for resolving a non-bank financial firm that is systemically critical. Are you suggesting that non-bank financial firms must be dealt with in a manner other than changes to the bankruptcy process; that is, do we have to go to a receiver-like approach similar to FDIC? If so, how do we deal with the moral hazard implications? If not, what are other tools we could look at to address the cur- rent lack of resolution regime? A.3. Although the Bankruptcy Code works well in the vast majority of situations, it is not designed to mitigate systemic consequences and, in some cases, the bankruptcy process may exacerbate the shocks to the financial system that may result from the failure of a systemically important nonbank financial institution. For exam- ple, the delays in the bankruptcy process that are designed to give the debtor "breathing room" to develop and propose a reorganiza- tion plan can be especially harmful to financial firms because un- certainty with respect to any large financial firm can have negative consequences for financial markets which are compounded as the uncertainty persists. In addition, the bankruptcy process does not currently provide a clear mechanism for the government to ensure that the institution is resolved in a way that achieves financial market stability and limits costs to taxpayers. Congress has in the past established alternative resolution regimes outside of the Bank- ruptcy Code for financial institutions where the public has a strong interest in managing and ensuring an orderly resolution process, such as in the Federal Deposit Insurance Act for insured depository institutions and in the Housing and Economic Recovery Act for gov- ernment-sponsored enterprises. As I have indicated, these frame- works can serve as a useful model for developing a framework for the resolution of systemically important nonbank financial institu- tions. The issue of moral hazard is an extremely important consider- ation in developing any such regime for resolving systemically im- portant nonbank financial institutions. Any proposed regime must carefully balance the need for swift and comprehensive government action to avoid systemic risk against the need to avoid creating moral hazard on the part of the large institutions that would be subject to the regime. A proposed regime could require a very high standard for invoking the resolution authority, because of the po- tential cost and to mitigate moral hazard. The process to invoke the authority could also include appropriate checks and balances, including input from multiple parts of the government, to ensure that it is invoked only when necessary while still maintaining the ability to act swiftly when needed to minimize systemic risk. The systemic risk exception to the least-cost resolution requirements of the Federal Deposit Insurance Act could provide a good example of the embodiment of such a process in existing law. Importantly, the establishment of a new resolution process for systemically impor- tant nonbank financial institutions may help reduce moral hazard 69 by providing the government with the tools needed to resolve even the largest financial institutions in a way that both addresses sys- temic risks and allows the government to impose haircuts on credi- tors in appropriate circumstances. While a new framework for sys- temically important nonbank financial institutions is a critical com- ponent of any agenda to address systemic risk and the too-big-to- fail problem, other steps also need to be taken to address these issues. These include ensuring that all systemically important nonbank financial institutions are subject to a robust framework for consolidated supervision; strengthening the financial infrastruc- ture; and providing the Federal Reserve explicit authority to over- see systemically important payment, clearing and settlement sys- tems for prudential purposes. Q.4. The Obama administration, along with several of my col- leagues here in the Senate, have proposed allowing bankruptcy judges to cramdown the value of mortgages to reflect declines in home prices. The Federal Reserve, primarily through its purchases of GSE MBS, is becoming one of the largest holders of residential MBS. Has the Federal Reserve estimated the size of potential losses to the Fed's MBS holdings, if judges were allowed to cramdown mort- gages? What signal do you believe this sends to potential investors in MBS, were Congress to re-write the contractual environment un- derlying these mortgages? A.4. As noted by your question, the vast majority of mortgage- backed securities (MBS) held by the Federal Reserve are agency MBS. The payment of principal and interest on agency MBS is guaranteed by Fannie Mae, Freddie Mac, or Ginnie Mae. Bank- ruptcy cram downs do not affect investors in MBS guaranteed by Fannie Mae, Freddie Mac, or Ginnie Mae because the agency MBS investors would be made whole by the government-sponsored enter- prises. Thus, the Federal Reserve holdings of agency MBS would not be affected by bankruptcy cramdowns for mortgages, although such legislation might have negative consequences for Fannie Mae, Freddie Mac, and the Federal Housing Administration (FHA). (The FHA insures the mortgages securitized by Ginnie Mae.) Private-label MBS are governed by trust agreements. Some pri- vate-label MBS contain so-called "bankruptcy carve-out" provisions requiring that losses stemming from bankruptcies be shared across the different tranches of the securities. The implication is that the investors holding the AAA-rated tranches would bear some of the losses from these principal write-downs, depending on the nature of the trusts agreements. The Federal Reserve has made loans to support its Maiden Lane Facilities, which were used to offset the systemic risks associated with recent financial market disruptions. Among the collateral for these loans are AAA-rated tranches of pri- vate-label securities, as well as some collateralized debt obligations (CDOs) that are backed by AAA-rated tranches of private-label se- curities. At present, our assessment is that the possible loss associ- ated with these MBS holdings from possible bankruptcy cramdown legislation is relatively small. 70 With respect to current mortgage borrowers, providing bank- ruptcy judges with the ability to adjust mortgage terms and reduce outstanding principal could potentially result in more sustainable mortgage obligations for some borrowers and thus help reduce pre- ventable foreclosures. Such an approach has several advantages. In particular, because of the costs and stigma of filing for bankruptcy, mortgage borrowers who do not need help may be unlikely to turn to the bankruptcy system for relief. In addition, bankruptcy judges may also be able to assess the extent to which a borrower truly needs assistance. Moreover, because the bankruptcy system is al- ready in place, this approach could be implemented with little fi- nancial outlay from the taxpayer. Whether mortgage cramdowns are advantageous in the long-run is less clear. Such cramdowns could potentially restrict access to mortgage credit for some borrowers, and might have implications for investors in other types of loans because of the change in the loan's relative status during the course of bankruptcy. Potential in- vestors, either in private-label MBS investors or in other types of loans, might view these changes in the bankruptcy code as raising the costs associated with servicing defaulted borrowers in the fu- ture if investors perceived such changes as permanent and broad- ranging, or if these changes altered investors' expectations about the government's willingness to make similar changes in the fu- ture. In this case, mortgage cramdowns might have longer-lasting effects on credit availability, and possibly impose higher costs on future borrowers through higher interest rates and more stringent lending standards. Q.5. In a recent speech, you stated that the Fed's new longer-term projections of inflation should be interpreted as the rate of inflation that FOMC participants believe will promote maximum sustainable employment and reasonable price stability. Some commentators have said that central banks using a long-term inflation target should incorporate the adverse consequences of asset-price bubbles in their deliberations. Does the FOMC presently incorporate the possibility of asset price bubbles during deliberations on the inflation target? Did the FOMC include asset price bubbles in past deliberations? A.5. Conditions in financial markets, including the possibility that asset prices exceed fundamental values, are always discussed at FOMC meetings. High asset values tend to put upward pressure on economic activity and the broader price level. In order to achieve its mandated objectives, the FOMC may need to tighten policy when this pressure threatens to push inflation above desired levels. However, it is exceedingly difficult to judge in real time whether asset prices are deviating from their fundamental values. Indeed, if such a judgment were easy, bubbles would never happen. How- ever, regardless of whether a bubble exists or not, the FOMC does factor in the effects of asset prices on the economy when it sets monetary policy. Generally speaking, this means that interest rates tend to rise when asset prices are increasing to offset the infla- tionary impact of high asset prices and that interest rates tend to fall after bubbles burst to offset the contractionary effects of falling asset prices on employment. 71 Q.6. I have some concerns about the pro-cyclicality of our present system of accounting and bank capital regulation. Some commenta- tors have endorsed a concept requiring banks to hold more capital when good conditions prevail, and then allow banks to temporarily hold less capital in order to not restrict access to credit during a downturn. Advocates of this system believe that counter cyclical policies could reduce imbalances within financial markets and smooth the credit cycle itself. What do you see as the costs and benefits of adopting a more counter cyclical system of regulation? Do you see any circumstances under which the Federal Reserve would take a position on the merits of counter cyclical regulatory policy? A.6. The Federal Reserve has long advocated the need for banks to maintain sufficient levels of capital so they can weather unexpected shocks without interrupting the provision of credit and other finan- cial services to customers. Historically, the challenge has been translating this broad principle into regulatory and supervisory standards that are workable, balanced, and compatible with a level, competitive playing field, both domestically and internation- ally. Capital is a relatively costly source of funding for banks, and higher capital requirements for banks will tend to raise their costs relative to those of competitors. Against this cost, there is a need to balance the benefits of higher capital in terms of lower risk to the safety net and enhanced financial and economic stability. How- ever, these benefits are more uncertain and difficult to quantify. Likewise, while most would agree that a bank should maintain capital commensurate with its underlying risk taking, the quan- tification of risk is imprecise and inherently subjective. There is also uncertainty regarding how financial markets would react to changes in the capital framework and, in particular, whether high- er capital buffers accumulated in good times would simply result in higher de facto minimum standards during downturns. In the past, it has been difficult reaching agreement on major changes to the bank capital framework, reflecting different views on how best to deal with these uncertainties (e.g., Pillar 1 versus Pillar 2 versus Pillar 3; hardwired formulas versus discretion; simple rules-of- thumb versus sophisticated risk models). Nevertheless, an international consensus appears to be emerging that the bank regulatory capital framework needs to be made more counter-cyclical, and such an initiative is currently being under- taken by the Basel Committee on Banking Supervision and Regula- tion. The Federal Reserve strongly supports and is actively in- volved in this initiative. While this effort faces many of the same challenges noted above, there is now greater appreciation of both the importance of promoting more counter-cyclical capital policies at banks and, we believe, the need to find a workable way forward on this issue. The Federal Reserve also supports initiatives currently under way at the Financial Accounting Standards Board and the Inter- national Accounting Standards Board (consistent with the rec- ommendations of the Financial Stability Forum, now Financial Sta- bility Board) to consider improvements to loan loss provisioning standards. These improvements would consider a broader range of 72 credit quality information over the economic cycle to recognize losses earlier in the cycle. Similar to the requirements for capital buffers, the requirements for provisions would need to be set at a practical level and calculated in a readily transparent manner. Ideally, the requirement would need to be applied internationally to have the desired effect. In addition, enhancements to the income tax code to allow greater deductibility of provisions in line with the accounting treatment would also aid in this effort. RESPONSE TO WRITTEN QUESTIONS OF SENATOR JOHNSON FROM BEN S. BERNANKE Q.I. I am very concerned that the Fed's tools could become limited and less flexible, and that the Fed's ability to stimulate the econ- omy given an effective zero interest rate is hindered. What role will the Fed play going forward in our economic recovery? A.1. The Federal Reserve does not lose its ability to provide macro- economic stimulus when short-term interest rates are at zero. How- ever, when rates are this low, monetary stimulus takes nontradi- tional forms. The Federal Reserve has announced many new pro- grams over the past year-and-a-half to support the availability of credit and thus help buoy economic activity. These programs are helping to restore the flow of credit to banks, businesses, and con- sumers. They are also helping to keep long-term interest rates and mortgage rates at very low levels. The Federal Reserve will con- tinue to use these tools as needed to help the economy recover and prevent inflation from falling to undesirably low levels. Q.2. As part of the White House's new housing plan, the adminis- tration suggests changes to the bankruptcy law to allow judicial modification of home mortgages. Do you believe "cramdown" could affect the value of mortgage backed securities and how they are rated? Will bank capital be impacted if ratings on securities change? Is it better for consumers to get a modification from their servicer or through bankruptcy? A.2. The Federal Reserve Board and other banking agencies have encouraged federally regulated institutions to work constructively with residential borrowers at risk of default and to consider loan modifications and other prudent workout arrangements that avoid unnecessary foreclosures. Loss mitigation techniques, including loan modifications, that preserve homeownership are generally less costly than foreclosure, particularly when applied before default. Such arrangements that are consistent with safe and sound lending practices are generally in the long-term best interest of both the fi- nancial institution and the borrower. (See Statement on Loss Miti- gation Strategies for Servicers of Residential Mortgages, released by banking agencies on September 5, 2007.) Modifications in these contexts would be voluntary on the part of the servicer or holder of the loan. Although various proposals have circulated regarding so-called "cramdown," the common theme of the proposals would permit judicial modification of the mortgage contract in circumstances where the borrower has filed for bank- ruptcy. These proposals present a number of challenging and po- tentially competing issues that should be carefully weighed. These 73 issues include whether borrower negotiation with the servicer or loan holder is a precondition to judicial modification, the impact on risk assessment of the underlying obligation by holders of mortgage loans, and the appropriateness of permitting modification decisions by parties other than the holders of the loan or their servicers. Whether a borrower would be better off with a modification from a servicer or through bankruptcy would depend on many factors in- cluding the circumstances of the individual borrower, the terms of the modification, and the conditions governing any judicial modi- fication in a bankruptcy proceeding. In general, when a depository institution is a holder of a security, the capital of the institution would likely be affected if the security is downgraded. How bankruptcy would impact the servicer would depend in part on the securitization documents treatment of the mortgage loans affected by bankruptcies under the relevant pooling and servicing agreements and the obligations of the servicer with respect to those loans. In addition, because the terms that might govern judicial modification in a bankruptcy proceeding have not been established, it is not clear how the value of mortgage-backed securities in general would be affected by changes to the bank- ruptcy laws that would permit judicial modification of mortgages. Q.3. There is pressure to move quickly and reform our financial regulatory structure. What areas should we address in the near fu- ture and which areas should we set aside until we realize the full cost of the economic fallout we are currently experiencing? A.3. The experience over the past 2 years highlights the dangers that systemic risks may pose not only to financial institutions and markets, but also for workers, households, and non-financial Busi- nesses. Accordingly, addressing systemic risk and the related prob- lem of financial institutions that are too big to fail should receive priority attention from policymakers. In doing so, policymakers must pursue a multifaceted strategy that involves oversight of the financial system as a whole, and not just its individual components, in order to improve the resiliency of the system to potential sys- temic shocks. This strategy should, among other things, ensure a robust frame- work for consolidated supervision of all systemically important fi- nancial firms organized as holding companies. The current finan- cial crisis has highlighted that risks to the financial system can arise not only in the banking sector, but also from the activities of financial firms, such as insurance firms and investment banks, that traditionally have not been subject to the type of consolidated supervision applied to bank holding companies. Broad-based appli- cation of the principle of consolidated supervision would also serve to eliminate gaps in oversight that would otherwise allow risk-tak- ing to migrate from more-regulated to less-regulated sectors. In addition, a critical component of an agenda to address sys- temic risk and the too-big-to-fail problem is the development of a framework that allows the orderly resolution of a systemically im- portant nonbank financial firm and includes a mechanism to cover the costs of such a resolution. In most cases, the Federal bank- ruptcy laws provide an appropriate framework for the resolution of nonbank financial institutions. However, the bankruptcy laws do 74 not sufficiently protect the public's strong interest in ensuring the orderly resolution of nondepository financial institutions when a failure would pose substantial systemic risks. Besides reducing the potential for systemic spillover effects in case of a failure, improved resolution procedures for systemically important firms would help reduce the too-big-to-fail problem by narrowing the range of cir- cumstances that might be expected to prompt government interven- tion to keep a firm operating. Policymakers and experts also should carefully review whether improvements can be made to the existing bankruptcy framework that would allow for a faster and more orderly resolution of finan- cial firms generally. Such improvements could reduce the likelihood that the new alternative regime would need to be invoked or gov- ernment assistance provided in a particular instance to protect fi- nancial stability and, thereby, could promote market discipline. Another component of an agenda to address systemic risks in- volves improvements in the financial infrastructure that supports key financial markets. The Federal Reserve, working in conjunction with the President's Working Group on Financial Markets, has been pursuing several initiatives designed to improve the func- tioning of the infrastructure supporting credit default swaps, other OTC derivatives, and tri-party repurchase agreements. Even with these initiatives, the Board believes additional statutory authority is needed to address the potential for systemic risk in payment and settlement systems. Currently, the Federal Reserve relies on a patchwork of authorities, largely derived from our role as a bank- ing supervisor, as well as on moral suasion to help ensure that crit- ical payment and settlement systems have the necessary proce- dures and controls in place to manage their risks. By contrast, many major central banks around the world have an explicit statu- tory basis for their oversight of these systems. Given how impor- tant robust payment and settlement systems are to financial sta- bility, and the functional similarities between many such systems, a good case can be made for granting the Federal Reserve explicit oversight authority for systemically important payment and settle- ment systems. The Federal Reserve has significant expertise regarding the risks and appropriate risk-management practices at payment and settle- ment systems, substantial direct experience with the measures nec- essary for the safe and sound operation of such systems, and estab- lished working relationships with other central banks and regu- lators that we have used to promote the development of strong and internationally accepted risk management standards for the full range of these systems. Providing such authority would help ensure that these critical systems are held to consistent and high pruden- tial standards aimed at mitigating systemic risk. Financial stability could be further enhanced by a more explicitly macroprudential approach to financial regulation and supervision in the United States. Macroprudential policies focus on risks to the financial system as a whole. Such risks may be crosscutting, affect- ing a number of firms and markets, or they may be concentrated in a few key areas. A macroprudential approach would complement and build on the current regulatory and supervisory structure, in which the primary focus is the safety and soundness of individual 75 institutions and markets. One way to integrate a more macroprudential element into the U.S. supervisory and regulatory structure would be for the Congress to direct and empower a gov- ernmental authority to monitor, assess, and, if necessary, address potential systemic risks within the financial system. Such a systemic risk authority could, for example, be charged with (1) monitoring large or rapidly increasing exposures—such as to subprime mortgages—across firms and markets; (2) assessing the potential for deficiencies in evolving risk-management prac- tices, broad-based increases in financial leverage, or changes in fi- nancial markets or products to increase systemic risks; (3) ana- lyzing possible spillovers between financial firms or between firms and markets, for example through the mutual exposures of highly interconnected firms; (4) identifying possible regulatory gaps, in- cluding gaps in the protection of consumers and investors, that pose risks for the system as a whole; and (5) issuing periodic re- ports on the stability of the U.S. financial system, in order both to disseminate its own views and to elicit the considered views of oth- ers. A systemic risk authority likely would also need an appro- priately calibrated ability to take measures to address identified systemic risks—in coordination with other supervisors, when pos- sible, or independently, if necessary. The role of a systemic risk au- thority in the setting of standards for capital, liquidity, and risk- management practices for the financial sector also would need to be explored, given that these standards have both microprudential and macroprudential implications. Q.4. How should the government and regulators look to mitigate the systemic risks posed by large interconnected financial compa- nies? Do we risk distorting the market by identifying certain insti- tutions as systemically important? Should the Federal Reserve step into the role as a systemic regulator or should this task be given to a different entity. A.4. As discussed in response to Question 3, I believe there are sev- eral important steps that should be part of any agenda to mitigate systemic risks and address the problem caused by institutions that are viewed as being too big to fail. Some of these actions—such as an improved resolution framework—would be focused on system- ically important financial institutions, that is, institutions the fail- ure of which would pose substantial risks to financial stability and economic conditions. A primary—though not the sole focus—of a systemic risk authority also likely would include such financial in- stitutions. Publicly identifying a small set of financial institutions as "sys- temically important" would pose certain risks and challenges. Ex- plicitly and publicly identifying certain institutions as systemically important likely would weaken market discipline for these firms and could encourage them to take excessive risks—tendencies that would have to be counter-acted by strong supervisory and regu- latory policies. Similarly, absent countervailing policies, public des- ignation of a small set of firms as systemically important could give the designated firms a competitive advantage relative to other firms because some potential customers might prefer to deal with firms that seem more likely to benefit from government support in 76 times of stress. Of course, there also would be technical and policy issues associated with establishing the relevant criteria for identi- fying systemically important financial institutions especially given the broad range of activities, business models and structures of banking organizations, securities firms, insurance companies, and other financial institutions. Some commentators have proposed that the Federal Reserve take on the role of systemic risk authority; others have expressed con- cern that adding this responsibility might overburden the central bank. The extent to which this new responsibility might be a good match for the Federal Reserve depends a great deal on precisely how the Congress defines the role and responsibilities of the au- thority, as well as on how the necessary resources and expertise complement those employed by the Federal Reserve in the pursuit of its long-established core missions. As a practical matter, effec- tively identifying and addressing systemic risks would seem to re- quire the involvement of the Federal Reserve in some capacity, even if not in the lead role. The Federal Reserve traditionally has played a key role in the government's response to financial crises because it serves as liquidity provider of last resort and has the broad expertise derived from its wide range of activities, including its role as umbrella supervisor for bank and financial holding com- panies and its active monitoring of capital markets in support of its monetary policy and financial stability objectives. Q.5. The largest individual corporate bailout to date has not been a commercial bank, but an insurance company. What steps has the Federal Reserve taken to make sure AIG is not perceived as being guaranteed by the Federal government? A.5. In light of the importance of the American International Group, Inc (AIG) to the stability of financial markets in the recent deterioration of financial markets and continued market turbulence generally, the Treasury and the Federal Reserve have stated their commitment to the orderly restructuring of the company and to work with AIG to maintain its ability to meet its obligations as they come due. In periodic reports to Congress submitted under section 129 of the Emergency Economic Stabilization Act of 2008, in public reports providing details on the Federal Reserve financial statements, and in testimony before Congress and other public statements, we have described in detail our relationship to AIG, which is that of a secured lender to the company and to certain special purpose vehicles related to the company. These disclosures include the essential terms of the credit extension, the amount of AIG's repayment obligation, and the fact that the Federal Reserve's exposure to AIG will be repaid through the proceeds of the com- pany's disposition of many of its subsidiaries. Neither the Federal Reserve, nor the Treasury, which has purchased and committed to purchase preferred stock issued by AIG, has guaranteed AIG's obli- gations to its customers and counterparties. Moreover, the Government Accountability Office has inquired into whether Federal financial assistance has allowed AIG to charge prices for property and casualty insurance products that are inadequate to cover the risk assumed. Although the GAO has not drawn any final conclusions about how financial assistance to AIG 77 has impacted the overall competitiveness of the property and cas- ualty insurance market, the GAO reported that the state insurance regulators the GAO spoke with said they had seen no indications of inadequate pricing by AIG's commercial property and casualty insurers. The Pennsylvania Insurance Department separately re- ported that it had not seen any clear evidence of under-pricing of insurance products by AIG to date. Q.6. Given the critical role of insurers in enabling credit trans- actions and insuring against every kind of potential loss, and the size and complexity of many insurance companies, do you believe that we can undertake serious market reform without establishing federal regulation of the insurance industry? A.6. As noted above, ensuring that all systemically important fi- nancial institutions are subject to a robust framework—both in law and practice—for consolidated supervision is an important compo- nent of an agenda to address systemic risks and the too-big-to-fail problem. While the issue of a Federal charter for insurance is a complex one, it could be useful to create a Federal option for insur- ance companies, particularly for large, systemically important in- surance companies. Q.7. What effect do you believe the new Fed rules for credit cards will have on the consumer and on the credit card industry? A.7. The final credit card rules are intended to allow consumers to access credit on terms that are fair and more easily understood. The rules seek to promote responsible use of credit cards through greater transparency in credit card pricing, including the elimi- nation of pricing practices that are deceptive or unfair. Greater transparency will enhance competition in the marketplace and im- prove consumers' ability to find products that meet their needs From the perspective of credit card issuers, reduced reliance on penalty rate increases should spur efforts to improve upfront un- derwriting. While the Board cannot predict how issuers will re- spond, it is possible that some consumers will receive less credit than they do today. However, these rules will benefit consumers overall because they will be able to rely on the rates stated by the issuer and can therefore make informed decisions regarding the use of credit. Q.8. The Fed's new credit card rules are not effective until July 2010. We have heard from some that this is too long and that legis- lation needs to be passed now to shorten this to a few months. Why did the Fed give the industry 18 months put the rules in place? A.8. The final rules represent the most comprehensive and sweep- ing reforms ever adopted by the Board for credit card accounts and will apply to more than 1 billion accounts. Given the breadth of the changes, which affect most aspects of credit card lending, card issuers must be afforded ample time for implementation to allow for an orderly transition that avoids unintended consequences, compliance difficulties, and potential liabilities. • To comply with the final rules, card issuers must adopt dif- ferent business models and pricing strategies and then develop new credit products. Depending on how business models 78 evolve, card issuers may need to restructure their funding mechanisms. • In addition to these operational changes, issuers must revise their marketing materials, application and solicitation disclo- sures, credit agreements, and periodic statements so that the documents reflect the new products and conform to the rules. • Changes to the issuers' business practices and disclosures will involve extensive reprogramming of automated systems which subsequently must be tested for compliance, and personnel must receive appropriate training. Although the Board has encouraged card issuers to make the necessary changes as soon as practicable, an 18-month compliance period is consistent with the nature and scope of the required changes. RESPONSE TO WRITTEN QUESTIONS OF SENATOR BENNETT FROM BEN S. BERNANKE Q.I. Under the $700 billion TARP package and the recent $788 bil- lion stimulus bill, the Federal government is spending hundreds of billions of taxpayer dollars to support the financial institutions at the center of the economic storm. Many of these same companies are now targets of securities class action lawsuits seeking hundreds of billions of dollars. In fact, the companies that, to date, have re- ceived the most governmental assistance have been deluged with a wave of lawsuits—suits that typically duplicate ongoing enforce- ment investigations by Federal prosecutors and the SEC. • I'm told that private securities class action filings in 2008 reached their highest levels in 6 years; the number of filings increased almost 40 percent from the previous year. • Also, financial institutions were named as defendants in half of the new private class actions filed in 2008 (Cornerstone Re- search, Securities Class Action Filings, 2008: A Year in Review 2 (Jan. 6, 2009)) and nearly every single entity that has ob- tained more than $100 million in governmental assistance is already a defendant in one or more securities class actions based on allegations related to the current economic crisis. • Almost 75 percent of the TARP funds expended have gone to financial institutions named as defendants in recent securities class actions. The huge costs associated with these lawsuits mean that billions of dollars in taxpayer funds will not be used to increase lending, but rather will be paid out in legal fees—both plaintiff and de- fense—and lawsuit settlements. And taxpayers will be less likely to recover their investments in companies weakened by large costs imposed by these class actions. I strongly support government enforcement actions against wrongdoers, accompanied by stiff penalties. Federal prosecutors and the SEC today have broad power to initiate such actions; to the extent there are gaps in their authority, those gaps should be filled. 79 But I wonder whether we should be doing something to guard against the risk that taxpayer dollars intended to support in- creased lending will be drained from TARP recipients by the tre- mendous legal expenses—including the high costs of settlement— caused by private securities class action lawsuits? Aren't these law- suits effectively job destroyers by diverting the TARP funds from their job creating purposes—won't taxpayers have to invest still more money to reinvigorate lending to businesses and consumers? And won't the diversion of these funds mean an increased risk that taxpayers may not get their money back from some TARP-assisted institutions, or at least that the time for repayment will be longer? A.1. The financial institutions that receive funds from the Troubled Asset Relief Program (TARP) continue to operate as private enter- prises and continue to be subject to the same laws and regulations that apply to institutions that do not receive funds from the TARP. The institutions that have received TARP funds must bear any costs associated with compliance with applicable laws. Concerns about abusive practices in the filing of private lawsuits arising under the securities laws prompted Congress to enact litigation re- form legislation several years ago. We believe that any additional legislative initiatives to consider securities litigation reform should cover all institutions that are subject to those laws. Q.2. Chairman Bernanke, I want to thank you and the dedicated professionals at the Fed for all your hard work on the credit card rules—UDAP, Reg AA, Reg Z—released on December 18, 2008. As with several of my colleagues, we appreciate the delicate balance the Fed is trying to reach in protecting consumers against unfair practices while trying to make sure the regulations do not further limit the availability of credit. Along those lines, can you please provide for me background on the UDAP rule's impact on the ability of retailers in my state to offer "no interest" financing? I have heard from them that this fi- nancing option is very popular with consumers—especially now— and helps them be able to afford large ticket items like appliances, home repairs, computers, etc. Simply put, will retailers be able to continue to offer this type of financing option to their customers after the July 1, 2010, effective date? What about the millions of accounts in place—some of which may expire after the effective date? I would appreciate the Fed working with retailers and credit providers to come up with a simple and fair way for them to offer "no interest" financing going forward. Thank you. A.2. In the final rule addressing unfair and deceptive credit card practices, the Board, the Office of Thrift Supervision (OTS), and the National Credit Union Administration (NCUA) (collectively, the Agencies) expressed concern regarding deferred interest programs that are marketed as "no interest" but charge the consumer inter- est if purchases made under the program are not paid in full by a specified date or if the consumer violates the account terms prior to that date (which could include a "hair trigger" violation such as paying one day late). In particular, the Agencies noted that, al- though these programs provide substantial benefits to consumers who pay the purchases in full prior to the specified date, the "no interest" marketing claims may cause other consumers to be un- 80 fairly surprised by the increase in the cost of those purchases. Ac- cordingly, the Agencies concluded that prohibiting deferred interest programs as they are currently marketed and structured would im- prove transparency and enable consumers to make more informed decisions regarding the cost of using credit. The Agencies specifically stated, however, that the final rule per- mits institutions to offer promotional programs that provide similar benefits to consumers but do not raise concerns about unfair sur- prise. For example, the Agencies noted that an institution could offer a program where interest is assessed on purchases at a dis- closed rate for a period of time but the interest charged is waived or refunded if the principal is paid in full by the end of that period. The Board understands that the distinction in the final rule be- tween "deferred interest" and "waived or refunded interest" has caused confusion regarding how institutions should structure these types of promotional programs where the consumer will not be obli- gated to pay interest that accrues on purchases if those purchases are paid in full by a specified date. For this reason, the Board is consulting with the OTS and NCUA regarding the need to clarify that the focus of the final rule is not on the technical aspects of these promotional programs (such as whether interest is deferred or waived) but instead on whether the programs are disclosed and structured in a way that consumers will not be unfairly surprised by the cost of using the programs. The Agencies are also consid- ering whether clarification is needed regarding how existing de- ferred interest plans should be treated as of the final rule's July 1, 2010, effective date. If the Agencies determine that clarifications to the final rule are necessary, those changes will assist institu- tions in understanding and complying with the new rules and should not reduce protections for consumers. RESPONSE TO WRITTEN QUESTIONS OF SENATOR TESTER FROM BEN S. BERNANKE Q.I. Chairman Bernanke, as you may know, I strongly support comprehensive credit card reform, including S. 414 introduced by Chairman Dodd which would strengthen and expedite (up from July 1, 2010) many of the provisions in the final UDAP-Reg AA- Reg Z rule published last December by the Federal Reserve such as universal default, double-cycle billing, exorbitant overdraft fees, etc. S. 414 does not address the issue of "deferred interest" or "no interest" financing but I understand the final UDAP rule does at- tempt to address it and the complexity of the issue has some retail- ers concerned. Can you please clarify for me the impact of this pro- posal on consumers and businesses who use "no interest" financ- ing? I understand the impact to be very large and I would appre- ciate the Fed working with retailers to clarify that "no interest" fi- nancing can be used in the future albeit with revised disclosures and marketing. A.1. In the final rule addressing unfair and deceptive credit card practices, the Board, the Office of Thrift Supervision (OTS), and the National Credit Union Administration (NCUA) (collectively, the Agencies) expressed concern regarding deferred interest programs that are marketed as "no interest" but charge the consumer inter- 81 est if purchases made under the program are not paid in full by a specified date or if the consumer violates the account terms prior to that date (which could include a "hair trigger" violation such as paying one day late). In particular, the Agencies noted that, al- though these programs provide substantial benefits to consumers who pay the purchases in fill prior to the specified date, the "no interest" marketing claims may cause other consumers to be un- fairly surprised by the increase in the cost of those purchases. Ac- cordingly, the Agencies concluded that prohibiting deferred interest programs as they are currently marketed and structured would im- prove transparency and enable consumers to make more informed decisions regarding the cost of using credit. The Agencies specifically stated, however, that the final rule per- mits institutions to offer promotional programs that provide similar benefits to consumers but do not raise concerns about unfair sur- prise. For example, the Agencies noted that an institution could offer a program where interest is assessed on purchases at a dis- closed rate for a period of time but the interest charged is waived or refunded if the principal is paid in full by the end of that period. The Board understands that the distinction in the final rule be- tween "deferred interest" and "waived or refunded interest" has caused confusion regarding how institutions should structure these types of promotional programs where the consumer will not be obli- gated to pay interest that accrues on purchases if those purchases are paid in full by a specified date. For this reason, the Board is consulting with the OTS and NCUA regarding the need to clarify that the focus of the final rule is not on the technical aspects of these promotional programs (such as whether interest is deferred or waived) but instead on whether the programs are disclosed and structured in a way that consumers will not be unfairly surprised by the cost of using the programs. The Agencies are also consid- ering whether clarification is needed regarding how existing de- ferred interest plans should be treated as of the final rule's July 1, 2010, effective date. If the Agencies determine that clarifications to the final rule are necessary, those changes will assist institu- tions in understanding and complying with the new rules and should not reduce protections for consumers. RESPONSE TO WRITTEN QUESTIONS OF SENATOR CRAPO FROM BEN S. BERNANKE Q.I. What is it going to take to encourage private investment in our banks and drawing private capital that is now on the sidelines to ensuring that our financial institutions are stable and that our capital markets can return to more normal and healthy func- tioning? A.1. We believe that attracting private capital to recapitalize the financial industry is very important and steps to encourage private capital should be taken. Several factors have contributed to the re- luctance of private capital providers from investing in financial in- stitutions in recent months, including uncertainty about the health of financial institutions, broader macroeconomic and financial mar- ket conditions, and how private capital claims might be treated given existing or additional government support. The Federal Re- 82 serve has taken various actions to support financial market liquid- ity and economic activity, which are important steps to encourage private capital flows to the financial sector. In recent weeks, indica- tors of market and firm risks have fallen and share prices of finan- cial institutions have risen, suggesting some reduction in investor uncertainty. In addition, a number of institutions have issued new equity shares following the release of the results of the Supervisory Capital Assessment Program in early May. Q.2. To what extent do you believe that government and central bank policies led to the credit bubble? A.2. The fundamental causes of the ongoing financial turmoil re- main in dispute. In my view, however, it is impossible to under- stand this crisis without reference to the global imbalances in trade and capital flows that began in the latter half of the 1990s. In the simplest terms, these imbalances reflected a chronic lack of saving relative to investment in the United States and some other indus- trial countries, combined with an extraordinary increase in saving relative to investment in many emerging market nations. The in- crease in excess saving in the emerging world resulted in turn from factors such as rapid economic growth in high-saving East Asian economies accompanied, outside of China, by reduced investment rates; large buildups in foreign exchange reserves in a number of emerging markets; and substantial increases in revenues received by exporters of oil and other commodities. Saving flowed from where it was abundant to where it was deficient, with the result that the United States and some other advanced countries experi- enced large capital inflows for more than a decade, even as real long-term interest rates (both here and abroad) remained low. These capital inflows and low global interest rates interacted with the U.S. housing market and overall financial system in ways that eventually proved to be dysfunctional. As outlined in a report by the President's Working Group on Financial Markets (PWG) re- leased last year,1 the most evident of those was clearly a break- down in underwriting standards for subprime mortgages. But that was symptomatic of a much broader erosion of market discipline: Competition and the desire to maintain high returns created sig- nificant demand for structured credit product by investors, and all market participants involved in the securitization process, includ- ing originators, underwriters, asset managers, credit rating agen- cies, and global investors, failed to obtain sufficient information or to conduct comprehensive risk assessments on instruments that were quite complex. Investors relied excessively on credit ratings, and rating agencies relied on faulty assumptions to produce those ratings. These developments revealed serious weaknesses in risk management practices at several large U.S. and European financial institutions (some of which were widely perceived to be "too big to fail"), especially with respect to the concentration of risks, the valu- ation of illiquid instruments, the pricing of contingent liquidity fa- cilities, and the management of liquidity risk. In some cases, regulatory policies failed to mitigate those risk management weaknesses. For example, existing capital require- 1 Policy Statement on Financial Market Developments by the President's Working Group on Financial Markets, March 13, 2008. 83 ments encouraged the securitization of assets through facilities with very low capital requirements and failed to provide adequate incentives for firms to maintain capital and liquidity buffers suffi- cient to absorb extreme systemwide shocks. Further, supervisory authorities did not insist on appropriate disclosures of firms' poten- tial exposure to off-balance sheet vehicles. To address these weaknesses, I believe reforms to the financial architecture are needed to help prevent a similar crisis to develop in the future. First, the problem of financial firms that are consid- ered too big, or perhaps too interconnected, to fail must be ad- dressed. This perception reduces market discipline, encourages ex- cessive risk taking by the firms, and creates the incentive for any firm to grow in order to be perceived as too big to fail. Second, the financial infrastructure, including the systems, rules, and conventions that govern trading, payment, clearing, and settle- ment in financial markets, needs to be strengthened. In this re- spect, the aim should be not only to make the financial system as a whole better able to withstand future shocks, but also to mitigate moral hazard and the problem of too big to fail by reducing the range of circumstances in which systemic stability concerns might prompt government intervention. Third, a review of regulatory poli- cies and accounting rules is desirable to ensure that they do not induce excessive procyclicality—that is, do not overly magnify the ups and downs in the financial system and the economy. And fi- nally, consideration should be given to the creation of an authority specifically charged with monitoring and addressing systemic risk, with the objective of helping to protect the system from financial crises like the one we are currently experiencing. Reforming the structure of the financial system would go a long way towards mitigating the risk that other severe episodes of fi- nancial instability would arise in the future. Reducing this risk would in turn allow the Federal Reserve to continue to direct mon- etary policy towards the pursuit of the goals for which it is best suited—the legislated objectives of maximum employment, stable prices, and moderate long-term interest rates. With hindsight, an argument could be made, and has been made by some, that tighter monetary policy earlier in the decade might have helped limit the rise in house prices and checked the development of the subprime mortgage market, thereby containing the damage to the economy that later occurred when the housing market collapsed. However, the rise in the Federal funds rate required to accomplish this task would likely have had to be quite large, and thus would have sig- nificantly impaired economic growth, boosted unemployment, and probably led to an undesirably low rate of core inflation. All those would have been outcomes clearly at odds with the Federal Re- serve's objectives. Rather than redirecting monetary policy in this manner, a better approach going forward would be to have a stronger supervisory system in place to greatly reduce the risk that credit bubbles will merge in the first place, or at least to contain their expansion and limit the fallout from their eventual collapse. This would significantly help in the prevention of financial crises like the current one while at the same time still allowing macro- economic performance to be as strong as earlier in the decade. 84 Q.3. At what point does an institution or a product pose systemic risk? A.3. Identifying whether a given institution's failure is likely to im- pose systemic risks on the U.S. financial system and our overall economy is a very complex task that inevitably depends on the spe- cific circumstances of a given situation and requires substantial judgment by policymakers. That being said, a number of key prin- ciples should guide policymaking in this area. First, no firm should be considered too big to fail in the sense that existing stockholders cannot be wiped out, existing senior management and boards of directors cannot be replaced, and over time the organization cannot be wound down or sold in whole or in part. In addition, from the point of view of maintaining financial stability, it is critical that such a wind down occur in an orderly manner. Unfortunately, the current resolution process for system- ically important nonbank financial institutions does not facilitate such a wind down, and thus my testimony's recommendation for improved resolution procedures for potentially systemic financial firms. Still, even without improved procedures, it is important to try to resolve the firm in an orderly manner without guaranteeing the longer-term existence of any individual firm. Second, and as I indicated in my statement, the core concern of policymakers is whether the failure of the firm would be likely to have contagion, or knock-on, effects on other key financial institu- tions and markets and ultimately on the real economy. Thus, in making a systemic risk determination, we look as carefully as we can at the interconnections, or interdependencies, between the fail- ing firm and other participants in the financial system and the im- plications for these other participants of the troubled firm's failure. Such interdependencies can be direct, such as through deposit and loan relationships, or indirect, such as through concentrations in similar types of assets. Interdependencies can extend to broader fi- nancial markets and can also be transmitted through payment and settlement systems. In addition, we consider the extent to which the failure of the firm and other interconnected firms would affect the real economy through, for example, a sharp reduction in the supply of credit, rapid declines in the prices of key financial and nonfinancial assets, or a large drop in the sense of confidence that financial market participants, households, and nonfinancial busi- nesses bring to their activities. Of course, contagion effects are typically more likely in the case of a very large institution than with a smaller institution. However, I would emphasize that size is far from the only criterion for determining whether a firm is po- tentially systemic. Moderate-sized, or even relatively small firms, could be systemic if, in a given situation, a firm is critical to the functioning of key markets or, for example, critical payment and settlement systems. I would also reiterate that while traditionally the concern was that a run on a troubled bank could inspire con- tagious runs on other banks, recent financial crises have shown us that systemic risks can arise in other financial institutions and markets. For example, we now understand that highly desta- bilizing runs can occur on investment banks and money market funds. 85 Third, the nature of the overall financial and economic environ- ment is a core factor in deciding whether a given institution's fail- ure is likely to impose systemic risks. If the overall environment is highly uncertain and troubled, as was clearly the case last fall, then the likelihood of systemic effects is typically much greater than if the economy is growing and market participants are gen- erally optimistic and confident about the future. Indeed, and as I indicated above, the potential effects of a firm's failure on the con- fidence of not only financial market participants, but a wide spec- trum of households and businesses is a key decision variable in pol- icymakers' assessment of whether a given firm's failure is likely to pose systemic risks. Q.4. In a statement Monday, AIG said it is continuing to work with the government to evaluate potential new alternatives for address- ing AIG's financial challenges. AIG's rescue package has already been increased twice since September, from $85 billion to nearly $123 billion in October and then to $150 billion in November. Ac- cording to today's WSJ, AIG is seeking an overhaul of its $150 bil- lion government bailout package that would substantially reduce the insurer's financial burden, while further exposing U.S. tax- payers to its fortunes. Are you and Treasury considering changing our approach to AIG from that of a creditor to one of a potential owner? A.4. As explained in the reports submitted to Congress under sec- tion 129 of the Emergency Economic Stabilization Act of 2008, the Federal Reserve, in conjunction with the Treasury Department, has taken a series of steps since September 2008, to address the liquid- ity and capital needs of the American International Group, Inc. (AIG) and thereby to help stabilize the company, prevent a dis- orderly failure, and protect financial stability, which is a pre- requisite to resumption of economic activity. In particular, in Sep- tember and November 2008, the Federal Reserve established sev- eral credit facilities, including a Revolving Credit Facility, to fur- ther these objectives. As part of the November restructuring, the Treasury purchased $40 billion in AIG preferred stock. In light of the significant challenges faced by AIG in the last months of 2008 and the continued risk it poses to the financial sys- tem, on March 2, 2009, the Federal Reserve and the Treasury an- nounced a restructuring of the government's assistance to the com- pany. The March actions announced by the Federal Reserve include partial repayment of the Revolving Credit Facility with preferred stock interests in two of AIG's life insurance subsidiaries and with the proceeds of new loans that would be secured by net cash flows from designated blocks of existing life insurance policies held by other life insurance subsidiaries of AIG. These actions were under- taken in the context of the Federal Reserve's role as a creditor of AIG. As part of the March restructuring, the Treasury established a capital facility that allows AIG to draw down up to approximately $30 billion as needed over time in exchange for additional preferred stock. For more detail, please see Federal Reserve System Monthly Report on Credit and Liquidity Programs and The Balance Sheet (June 2009) at 13-16, http://www.federalreserve.gov/ monetarypolicy /files I monthlyclbsreport200906.pdf 86 Q.5. Recent events in the credit markets have highlighted the need for greater attention to settling credit default swaps by creating a central clearing system. While central counterparty clearing and exchange trading of relatively standardized contracts have the po- tential to reduce risk and increase market efficiency, market par- ticipants must be permitted to continue to negotiate customized bi- lateral contracts in over-the-counter markets. Do you agree that market participants should have the broadest possible range of standardized and customized options for managing their financial risk and is there a danger that a one-size-fits-all attitude will harm liquidity and innovation? A.5. The Federal Reserve supports central counterparty (CCP) clearing of credit default swaps and other over-the-counter (OTC) derivatives because, if properly designed and managed, CCPs can reduce risks to market participants and to the financial system. Counterparties to OTC derivatives trades sometimes seek to cus- tomize the terms of trades to meet very specific risk management needs. These trades may not be amenable to clearing because, for example, the CCP could have difficulty liquidating the positions in the event a clearing member defaulted. A requirement to clear all OTC derivative trades thus offers the uncomfortable alternatives of asking CCPs to accept business lines with difficult-to-manage risks or of asking customers to accept terms that do not meet their risk- management needs. A hybrid system in which standardized OTC derivative contracts are centrally cleared and in which more cus- tomized contracts are executed and managed on a bilateral, decen- tralized basis is a means for allowing product innovation while mitigating systemic risks. The Federal Reserve recognizes, how- ever, that a key part of this strategy is improvements in the risk management practices for OTC derivatives by the financial institu- tions that are the counterparties to bilateral trades. Q.6. What is the impact of the final UDAP rule issued last Decem- ber on consumers and businesses who use "no interest" financing? I understand the impact to be very large and I would appreciate the Federal Reserve Board working to clarify that "no interest" fi- nancing can be used in the future albeit perhaps with revised dis- closures and marketing. A.6. In the final rule addressing unfair and deceptive credit card practices, the Board, the Office of Thrift Supervision (OTS), and the National Credit Union Administration (NCUA) (collectively, the Agencies) expressed concern regarding deferred interest programs that are marketed as "no interest" but charge the consumer inter- est if purchases made under the program are not paid in full by a specified date or if the consumer violates the account terms prior to that date (which could include a "hair trigger" violation such as paying one day late). In particular, the Agencies noted that, al- though these programs provide substantial benefits to consumers who pay the purchases in full prior to the specified date, the "no interest" marketing claims may cause other consumers to be un- fairly surprised by the increase in the cost of those purchases. Ac- cordingly, the Agencies concluded that prohibiting deferred interest programs as they are currently marketed and structured would im- 87 prove transparency and enable consumers to make more informed decisions regarding the cost of using credit. The Agencies specifically stated, however, that the final rule per- mits institutions to offer promotional programs that provide similar benefits to consumers but do not raise concerns about unfair sur- prise, For example, the Agencies noted that an institution could offer a program where interest is assessed on purchases at a dis- closed rate for a period of time but the interest charged is waived or refunded if the principal is paid in full by the end of that period. The Board understands that the distinction in the final rule be- tween "deferred interest" and "waived or refunded interest" has caused confusion regarding how institutions should structure these types of promotional programs where the consumer will not be obli- gated to pay interest that accrues on purchases if those purchases are paid in full by a specified date. For this reason, the Board is consulting with the OTS and NCUA regarding the need to clarify that the focus of the final rule is not on the technical aspects of these promotional programs (such as whether interest is deferred or waived) but instead on whether the programs are disclosed and structured in a way that consumers will not be unfairly surprised by the cost of using the programs. The Agencies are also consid- ering whether clarification is needed regarding how existing de- ferred interest plans should be treated as of the final rule's July 1, 2010, effective date. If the Agencies determine that clarifications to the final rule are necessary, those changes will assist institu- tions in understanding and complying with the new rules and should not reduce protections for consumers. 88 89 Monetary Policy Report to the Congress Submitted pursuant to section 2B of the Federal Reserve Act February 24,2009 Board of Governors of the Federal Reserve System 90 Mm?. Letter of Transmittal BliAHl) 01 CiOVI.HWIHS (»• IIIL. FfclURAL Washington. L>.1\. Fi:braary24, 2MM ! HK E%BIBEM1 OF xw. StN \i F THL SH.AM.K <tr in Himsi- i)i Ri iTi-.i MAin-ts The Board of Governors is pleased to submit its Monetary Pattey Kgport W IIK Ccwgrat pursuanl laseLliun lit o\\ii<i Federal Reserve Ad. Siry-L'rd) i Benwnkc, Chairnisn 91 Contents Par! 1 I Overview: Munelan Policy ani) the Economic Oulluuk Part 2 5 Recent Financial and Economic Developments 5 FIXA\CIAL .snaiLtrr am •nt.of VESTS 5 Evolution (if Nit I'JfumtiiU Turmoil 9 Policy Actions and the Market Response ] i Hun kin" Inslitiirluils mid the i\vuiluliilit\ nf t rcjil 13 nminim i»a/min/v F2 Thcl.ahorMarkft 14 The Mousi'holcl Sector 14 Kesfifenthtl ttwi^iiitetit whl Housing 16 VntlXitWi!r Spt-'mtingami MmiM'tmitl Fii IX Hi. Business.Strtni 1N I'I.WII l>i\'e,*imenl Is) htwntnty Itnv.slmtwt 1V i 'orpvrOie I'li'l'ils antl Husitiv si l-'itlumx 71 flip Government Suttitr 21 Feiterat Gown/netti 21 S'lufi' ami l.tK'til Gitvt'nmn'til 12 The Eitelnnl Scrti>f 23 \utional Sn^'ing 14 lfi ir.-vs iiritl l.ulitir TrochK-livilv 2_T Pmdwlil'itv tituf Ihiit iMbnr Ct}Mx 21' M4HHTlHry Policy K\pL-ctitlt(in<f ;iud tr^ttsur^ KuLcs 2d federal Burnnvtug 2b Stale and laical (>nvrrtttuenl Htirifmin^ 92 27 I\TE*XArta\'Al DHVEI.OPMK.Vrs T! International Financial Markets 2<f The Hniincw! Amiunl Mi Advanced rnrcipn Kcimitmicv 1 1 KniiT^in^ Murkel ktiimrmk'i Part 3 33 Monetary Policy in 2008 and Early 2009 Part 4 37 Summary of Economic Projection* ?4 I hr nmlmik 4(1 RJjto t« ihc Oullnnk 4SI Divmity »f Views Appendix 47 Fcderul Reserve Initiatives lo Address Financial Strains 47 Provision of liquidity to Hunks and 47 Mfiditkaiions M tk$ Priiiiuiy Civtlll Prt'grwit 11 I'hi! Turin AiiLliim l-'iiatily 48 Liquidity Simp linn with Fmvign i'nttml Ittmfo 45 Tin- Term SewrM?> Lemtiug h'ocilin 4K The Prtmon • !}eu far Civttit Fut-liitr ;• I'ruvMiin i>f I ii|uiilily Iti Ollivr Murki'l 1'arlidpanls <W Tho A.wt-R/h*cit Cnnmu-rt hi Paper Mtmev Vturki-i Mwmit Font! iiijtiiMn Kir/tlir 41) Tlw CunimeK-itii Paper i-muling i-actiiiy 4^ TIK Muney Market hiviator Film/in^ Facility 49 Thr Ti'rm Asset-Hmknl Si-vtiniu-s I.mm i'urility 311 Dirttt I'tirtliuM's of Asselt SQ Suppi>r1 til C ri(k-ul ln«hMlu(i(ins so Hair sitarm i I Aitwrietiit huertiaiiaital Gmitp 51 CUittmip 51 Hank nl'Americti 53 Abbreviations Box 46 I'tu LI-K.1 ' iK-i-i mini j 93 Parti Overview: Monetary Policy and the Economic Outlook Tin1 LI S economy ui-,iki'ricii markedly in die SMUBfl kelleiMiug in |>ail dit1 advetsi1 [levelopiiictus in halfof 2UOB .]>. Ik' urn mil in IIILIIIII.II inarkeli inieil- lioLjurijI [lizlrketv. etunuinic auivily (Jm^i|}ed %9lar[ily in silird rrrllit rnmlilinitt lightened 6lfthB* -mil HIM lain 21IIIR and h.n riinliniiiil In mm ran 10 fttfftl 'MWk values cumhiunl IU vluin[). Cundiliuns in ihr labur In die lalxir markel. ihc pace of job losses t|iiicki'nt'd nimkel WHSancd SlgrSBcafttly slier early .lulllirai -mid consWeraity hegiuninf> last iiimmiu die unearflcyiTKnl nearly .all major se-ciors of Iheer.unomy reglslpretl sleep rail1 hits risen to ils hlghcsl IPVP.1 since Ihe early IBiiOs. III-L lines in n-ifvtly lull' lasi vrai. Meanwhile, InllBliiin amlullvi itirasuri". irl'Ulmr uwikH unttlitiunv—for pressureMliiiiiiiislieiJ appreciably PS prim of energy , ilir number of persons working part (irni- ami mini niniiiKiilllii'S dropped sharply, lln' in.nMiu of I'ull-linir jobs are nol nvailadli'—have wors- resource slack In the economy widened, and die foreign cnfil mil iff a lily. Tht deleriuralinf; job ntjrkcl along l>»:lHII);i! value ol die dlilliu slretl)>llieutitl. will! die •.i/iiMc losses tif uquiiy and housing weallh The second half uf 2G0H RtW TO hilpnsiMraliuii uf and lliu lightening ofirL'dit eundiliints, lias cl,-1.1 ••.-.. ,i dip liilannal ,im1 errpnonilc strains dint hail inillally cmisuoier senllnitnt <ind spending; these factors have i" • >i ni./'ri -I hy iin -inI •i'li- housing Iraom In iin- also rnmrihuni lo die ironllnued steep decliiH1 in ho in United Stales and oilier countries .mil die asiutinteil ing aciit'ily. In aditiiiun. bustoases have juiiiiuivil problems in inortflajse united The ensuing iiirmoil In widespread cudwrks In rajilial \|Wiidlng in response la global credit nrarki'lsiirTcclcd iuri vnlnra. crpdil rondl- (he wcaki'oing oullook n sites and priutuilion as well lions and bujtoeij and consumer coniidrncn around thr as the. tlifrind! credit envimnnienl. And iu cunlra^l Iu wotlit. Over I lie iui inner, s weakening U.S. ct-onuiuy itie lirsi hull of die year - when toliust demand lor US .mil iiiiimiui'ii linamial ILifbiilenr:i- Ifiitna InniiH \nm, expnrts |tf»vldi'il sume ofTvpl let Ihe softness in domwir Bf (.uilriik'ncp in iln- liiiiiiu-ial SWIor, In SwWaJMt. die dernaud—t'Npum vhiniiied in die set'unil half m eco- Rnvcrnnir-in sponsored cnlerprlsra Fiiniiif Mae and uoniic arlivlly ahroul fell, in all, real gross domesllc tri'ildic Mai wi'ii- |)lanil into Liiiiieiv.ituislii(j liy Ihfir |IILMIIII:I (GDP) in tin1 Unilfd Stales declined hligfllly' ill refjulame .-mil l.elinvni HmdKrs lloldlnf>s filed lor DM lliitri i|it,irter nl «1I!H anit is currently fstlmated hy liankmplcy. Ik'inMiranranmipanv Armrican Inler- the l-iiiM-.i.1 of Ktonumic Analysis Iu lave drup|ie.d at nailraiFil fironp. Inc., or AtG, fdsorsrnc nndnr Senas nu iuiminl rale of [1*i iiertenl In Ihe fourth (|U3rteri real (ni'^nie .mi) iIn' I'edi'ijl Resera-. »iih rhe lull rappurt CD)1 see lit* headed for ajtutlier i.ojisiiipialile dettease in of ihc 1'fimury. aprei'il in |iii]Vlii!'Nulisiaiilla liijnidliy the iku ijuaneruf 2(11 111 Iu die company. In addiiinn, .1 inuiib« DFUIIHT fmandal Tin- itowiiium in sain and pruduaiun. along wiiti liulitulldm failed fir were dii|itirprt hy roniprtltofS, te sieeji dec Hum in the pices of energy and other Win' 3 r rail I uf tlic li'liinan Drolher. bankniplcy. a praini- modifies and a sircnglherring in die exchange value of DM1 money niarkri inimiii] fntirt suffered rapitnl \oats, till' dolhr, hits cmilrihincd in a siiiisianila lessen ins ol vvliich |iruniiili.tl investors Iu wilhilraw large aniuunh inriBliun pre»nrer. in Ihc paM several ini>nllu Indeed, ftnm sitrh funrts. The resulting mawivc run Mows nndi<r- oven 11 io Hal ion, as nieiisureil by Ihe (iriri' Intluit for mini'il 1 In stability ol'slion lemi funding markels, personal consuniption exut'ndilures, lumiil negaltvK |iaitlnilailv Ihe cnimraTrliil |>.IIH-I market, upon which in thi1 fnunli quanri «r 2(M8; OVIT die lirsi three qnar cuijnirdtinin rely heavily iti meet iheir stort-tWW bar ten of Ik'year, overall inflation had averaged nearly mWlng neetk. Apainsl I his harkdrnp. iilVMInrs puljeil WJ \vtrenl M an annual rate, largely lier ause of tharji hut k bruintly fruni risk-taking in bi'plemher and Ucln- iiiciwiM'i in food and energy prices. Cure inflation— ber, lir|uldiiy in slion-terra lin..- maffcett vanished for wbkli em hides die dlreci effects of nioventents in food l hl l Sd and energy prices- -also slowed signifiranlly lale last Mllon markrts, wllh Ihc pxreiillon olttvose iff yenr anil e.riiemrl 2B09«l o sulnlued pare. MirmriiiR the Kiwcmmcnl supported rnonnaves, tsu^nllallv shul drop in headline inflation, survey measures uf near term rttHVll, iollalton irxpr'i latkms lave falleo 10 very low levels io 94 2 Monetary Poliry Report to die Cnriprr.vi FBtHUWJ iliKJO Mm mils, whllS the bWU rollings mi Innjjer-leini in rwponss to IN. IWsnsificaHoii of flfwrldal straim Inllnlinn cx|m taliuns arc similar tn those In 2(1117 and over lire rnorw1 rtf (he fall add winlw.ThcTrrasurv early 2008 anuouiiseil a (eiii|iuniry guarantee of (lie share ptlees of •flie federal RestTVB lias iMpuwted lorcelully lu Kir money uitirkel mutual fmiitstmd, iie^luninf> inOltiber. iTisk SlUCe its einerjienee in the •.IIIDHIW fif ZUIlj llv USiDd ^lilhnriiv granted urlfler the Flhef^eniy BJCOASCHJC IIK: middle of bsl ye.ir the Federal ! I., i. Market ( uili S4;dnll/.!]Eiuu Acl lu giurrlMse preferred \hjn^ in a large mltlM (RlMfJI tiad lowered the federal lunds rate luimbei ol depusimrv insliiutloni. That sanu> month, itie .Wi has* points,1 i\nd as Inrtiralions of economic weak- federal f>e|Ki^ri Insurance Corporal f>n (FDID inim- ness pmlifcraled and die financial (uilHitciite internl dnre.tl A Tempnmry I.JEjntrlity ClMtanfW Program under tied lii the jeuontl liiilf, the IOMC continued lu ease uhkh ii OIHTS guarantee for selected senior unsecured monetary policy aggn-ssively: ai Us Ueremher meeting, ihligaiintis nfpaniri|iaiin£in*iir«l ilc|iiniinry Instlio- Hie Cfmuntliee established a target range for I!K> federal liuns and many fit Ihelr parent linidirifi rnnljiauie* as funds ran: of U In 'k jicirvnl and indicated Iliut eionomic well U5 lor ill) Uakumes in noil interest liearing hansat conditions ,uv likely lo warrant exceptionally low levels lion ileprnll jr. rmulls at |)artieipallng insured deposi- of I lie federal finds rale for sonic time, lory institutions. Tn Mnvendier, Citigroup C3M6 under In addition, the federal Reserve look ,i number of •.IL'II! I.':Li• r 1.11.i11.'liil pressure. In reiponse. (hi1 f DtC, the measures during Ihe second lialfof 2008 Eo shore up Treasury, and the Federal Reserve provitiwl a \.... !••• •• financial uiiiikets anil support the flow of credit Eo husi- nf toil us and gifarantees to holster Citigroup's finRtM ial licssti and households. (See dw apiwnnlv for descrip- . i.iirNii.iM a similar jiarkaj>e was arranged for IHank n\' Mnns nflhtsp programs.) In response ro Inle.nsilie.d America hi January. Since Oclufoer, govemmenls hi SUeSSCS in dollar Litildiitg illarkels, Ille Ptotfettl EtefirVe many advajtL-ed e*.-ononil« have dutiouneed support anuoonix^l extensions of Its'I'erni Auction t'arjlhv ^ud plans for tl>eir banking systems. These programs have si^uiliranrly expanded il:. network nf iiquidlly nvap included Large-scale capital tinjecllnns, expanslnns nf liin^ with foreign COHfid Ejanks. To su|]pu[l I he finw- dejioriil insurance, and guaranlet'S ufstiiiK( forms of lionlngot Hit- lonuneiTiitl pit|H'i iiuukor in rliea^ei- hank debt. niiirlp of Ihe I i hniiiri Brolhers IhinKniplcy, Ihe h-'k i.il The measure* trtken liy the federal Reserve., oiher Rustrve tfsldtjiish^l die Assul fjjrknl Cs>innierchil L',S. gijvenunetH ejilitiirf, a [ill forvign ^uvemmenl* f^jper Muni'V Market Muiitat hnntl l.itiuidity facitlly have iKl\ai[ HSSSK a decree of Mtbitily to some lirrau- In Seplem1>eras well as die Commercial Paper Ponding clal markets. In particular, strains in short-Eerni fund- I -M ilirv and Money Market Investor Funding Facility ing ntirkeis have r.i •....! noticeably si nee the fall, snmf in ^ I, i.-.lni In jin IMNLI to iMvknr iL'ri.iin si'Liiitli/Lilinn rnr|Hjnjte rj^k spreaiis Elave dtHliueil mmlesEtv. and tmskeaaai sajpffli ea&eUm itfcredii tu «Mimni- meiisiiiesuI'volatllKv have generally retrtalHl. fftVBf eri. Ihf Kedenl Reserve In NoveraiwraiinniincKl ilie lltelrss. slfinllicanl sirrss. |H'[slsts in nrnst markets, and lemi As%erBark«l Srrurilfi1^ I.nan Farililv. wllith nnanrial inslilulinns nJm3in under rnrLsidemlili* pnJs liu'litdidcil HI hpgin o[*'raliiin in lunilng wiwki, To sine; as y result. \W* Clow of credh to lEutisehohKand sujpiwrl Ik inoriftiKPaoil hnostii|> matktts.•mil Ilie husii>psses eontlnnPA lo IK* jmpfliml, errraorny nmrp hrradlj and Iti enroiim[;i' IB'IIIT funr ! i runjunriinn wilt the Jrrau.ny 2(11)9 FOMC meet lioning in thr niarkrl fut ugi'ra.-y sL-ruritii's. Ilii' l-'«ilcnil ing. Ihe memberl nflhe Buard offJovcrnun »l the Kfser^e unnaunrri) pmgfBras in Novnnher to purrlasp l''edemf Reserve Svslem and presidents of Ihe federal aRe.ncy-RiiiiraniMd niortgiRe-lurkiil Mriirilies and Reserve Ranks, ali of whom (ikinlrinaie in FOMC meet agirncy dclil. 'IIKSC Initiatives have resulted in a nolahli' ings. |iu>Mili'ti prnjcclions Ibr economic i;iuv. ill. unem expansion ul'Itw ledcrat Hesetie'bualaoreshoel, anil ploymum. and inllattun; tlieie projections are jiresenteit the fXIMr has inillralwl tliat II eJtpens the Sim- nflhr in pith i flf this rennn. Given the strengili nf ihe forces balanrp sheri ID remain at a high level Inr some n im- ,rs weighing r>n the eronmrry. K)MC p.irtiripanliv viewrti a result otOpen rnarkei »pcnnlans and utrn't m«ai>ine.s tile, outlook ai having weakc-nei! signiricanilv in recent (o sopiiorl financial markets and lo provide additional months. Panicipants generally expecled economic slioinlus In ilie eroiiotny lu au environment of very low tsrllvity tn rnntraet sharply in the near term iind ilien slidn-li'rni interest rales. lo move onlij a pjlh ol"gradual rerovery, bohlenni by Oilier US goK-iiuiienl entitles ami foipigu garftnir monetaiy easing, governmenl elforts lo stabilise finan- ini'ius also lni|]koienl«l a varlerv of pnlley mcasuirs cial markeis, and fiscal sllniiilus. Participants expected total and rare iuilalion lo lie lower In 2(109 than over the I'uut ijiiailers of ZOOS, io largf oieasoif because I .'Mist ul iihlinmliiikm* l« .inllnhli. n n> osiil d ihh r»[m nf the recuol declines in commodity piices and rising 95 Jitntnl of Governors ttfthr Federal Reserve System 3 slack in resource Hiili/almn; inflation was lonvast tn l ihp rales In which macro- remain low in 2010 and £011. Panicipanls generally economic variables would In? expecled to converge over judged ihat (he degree of uncertainly surrounding Hie the longer run under appropriate monetary policy and in outlook for both economic activity ami in Hal ion was the absence of further shocks lo the economy. The cen- ^reater lhaii historical norms. Miuil participants vieufd tral [endene; tcs nf llwst1 lon^sT-run prey Eft ions were i In- risks lo J;MA', ili »s skc^wcfl in ihc downside1, ami )>..:> \n-\i. i-nr Ici 'I l [lift L-ill leu u-.il <?J>I' grOwttl LJ pa nearly all saw I he risks to the inflation ojllook as either cent lo 5.0 percent for the unemployment rateh and Eiahnml or litipil lo ifaedQWIBide, P.inici|ianis also 1.7 pefUfil Ui 2.0 |]ercenl for iho inlliUkjn rate. 96 Part 2 Recent Financial and Economic Developments The I '••••••lilMi n m ;' •:i'\t arlivilV I li.u li.i^ 'nni iml.il.l H-LVpf jjiii P x I'm p ing sinre lafe ?AW1 sEeejis'iied appriTialJly in ihr wfnwl hall of 2008 a* I he .inline in Tuiaiicial mariu'h in ten v.nl. After iJie. 3iii;ui^iHl tlitJK-HIIifv ^xppripncurl by kuinie Mai1 nut! Fmldie Mai dining (lip snmim-i ami • Tumi • I v luiahip In the Iwnkniplrv nfl.ehmnn FirJilhfrs Holdings In mld- SppHmiber, ilion-lecm Funding inarkeis were severely ill djsrupled. risk H[iwads slwl up, equily prices plunged. flnct market* for |H"lvate asset-backed smirltte* rpmalitrd latgely shut down. As a nsull, prossums uti the already siiauieit IjaljiKH tkteU uf SnaneSal uistiiuUoiiM iiu IVHSI.II, thereby ilirmii'niii); (lip viability of sonm InstfluUtins and iiii|)lni;mBoii (I"' low of rrerfil TO hmupholds .mil liu-u np««. In |Mrl Irllwlilig till' cmalliilf! i-Hptu uf tln-se develtipnieuls IIIIUIIJ>IHIUI I In1 wttl« enpiiotnv, • ontlil li.i s In Ilir lahur marki'l ili'lrrluraii'H niark«lly. Momwt. imJtuli'iaL ]»mdin:llr>ti ctmb^CtBd sharply as lUiiLufiiLLur ws r^iwinlHl agjjiwislvi'ly lu (to Iliiw in lioili U ainl foreign ilciiiaml. Air railing in ilie aHvanri' fitini ihr nuix'au ufliruilunul Analysis, ip.it giuss fttlural Kusvrvt1 nii|>knitint.'il a nuiiilxr of UTijjmrckHi tlumestk- proriuu {GOO tell ,II HII animal rate ufSH per erj polity i*iiiia(lvt?s 10 vuppan Ilrmnclal siaWUiy Mini ii>nl in ihf founliquaitsr, ariil ti veim liradni Ihr<tnolli- iii Thesa tuiOaUyw tactoded e M t t s ii i n /s w li l l i i l - k 1 ie , o in s l a la s l e iu n in p f r l e w s s i u l^ re i s .j IKIVC H i l o ii f n 2 i 0 n 6 u 8 li i ( t f i lg a w s e pr ic '! e • s cl Fur ihr lrdfir3! fuiiris rdti; K> .i \uu<:<- ol 0 ty '.i [Jtrttin, tir^innliiH Jin-Li purcl^s^^ ul ayeiny o m f a e r n g e in rg o y f a re n s d o o ur l c ti e e r s c l o a m rk m ti o n i s li t w ip id s e h n a e v d p , a p n li d iir I a h u e o t f i o 'i r l. e t i h gn e M d gy g^ Hfa c,\ehan)>e VLIIUC of ihr dollar ]HS strnifjllicnri! (ligun> 2). ing EiEjtiLcliiy |irmgrniiLs in liiuniisl MihTriH-df^rh's ;iiiit uihor cLiiinil biinks. arid iniiidiiii^ pru^raThs in suppon < himti1 »it tdlL iri ct 2052-08 of systemiriiJIy iinporfrtni niarkrT w^mems, QOttf U»S ^nvprnnwm i^nlill^ Also unii(irior>k rxlranriUnary inilia- livtb ly support iht1 fniJiiriDl s,wiyr by IIIJEK tingrnpilal iiiEu IIM- banking system ami providing girardiiLot"5 mi x'ki IN-4| HabHltJ>5 of df posllairy inslJtuHons Mnnv for- d$n fH-mrtil hiuik-i and ^ov^rjimrn^ tookslmllnr >U'|JV.. Althuii^li ilitst attians have lielpcd i^sluie a jneasiiic ol'stillJJlily lu iotiie majkfJs, financial conditions r qIIUP slTfcftod, anri a^re^ In hr i n i|ja irt^tl as a resiih. FINANCIAL STABILITY rji pfrincl nf prnnnaincril UiniErril in tiriitiiri.il jf^Hii in \\w vimniyi ul' i!{M)7 ai'fiT a rapid In flu* p*?rffln)iftiKr of ^nhprimr moriftrtj'Rs 97 fi Monetary Polity It upon la ihv Congress February 200E) caused largely by a downium in liuusr prices in some* oti jD^y«ar Fannt^ Miw debt and t3 part* Of tie county Iiiv^lun pulled bfldl Frum risk- f«n FaTinle Mai? mortgagfl- backed stcqritt«r taking, anil liquidity diminished sharply in (hi1 rnaiktMs I'm1 inii-ilMiili funding .mil slim inn-il i MMI ji prcwlutls mure RrrukralTy- House prices conlinuwi to Rill rapidly in IIK- lirsl pun ofZHUS* mortgage diiliiM.|ui-iii irs ;uid dt'laulls cnrHmucd to t limb, and CQ0Q91& about •••••-• mkmounted.The1 inrriiiiy<J Nnniniidstrains led i• Ja Ifcijiikltrfy crisis In March m The Rear Sk-nms Campa- Mtev 111L ., .a major itivestaifiil brink, iind En iis m:quisi- liun by JPMoryd/i Cliast1 & Ccr. Subsequent dggrrasiyi* monetary jiotlcy casing and mpastirro taken by the* Fnil- oal Reserve'« IHJIIUT di? Ik^id?^ [ifiiiiHmwl inMiiu ttons conlribuk'd ID sonjp r«over\r In lindiu ial markcl^ ! dmiMH lIn? spring. N^verdiele^ vraiii^ irh tinauciul coiidiunn^ talortsf- lind ^oing into I lie spftmtl lialFofthf4 year. In partii ular, | in ^^H' Im'i On Inn amid worriei rliml the capjtuf OffftflDle Mae and L-uddit- >" ftw Hjdtwifefi s '* Mar would lie insiiHicicnt lu absorb mourning tonxn QQ iujtc nianga^c (punlbtius. ihc stock firing ui I hi1 S' • . l' , MDITIH U|i,l| ,UICL il twn gyvflntowrt-spomw^O enlwvjisflfi (uSKs) b*^tn Hi*in. to drclLnc sigiiificantly in June, and ijirir r I'-dii d'hmli >w&p {CBS) spfffltl-S'^wliicji fotlcc! invpsin^' assp.w- lialictits) and tiid-ask^l sprratfcwUfrnwl in ihonsTkiiis nn-iiis ui" [he likelihood of Ike CSTs deTuulttng un Ihfir Ft>r n?|j«rt knse agreoueiKs {rt?|xjs} Iwt'hftl by ninny lypes debt obligallons—rose sharply. Market anxiety easrcl sumexvhttt in \Uw spLDlid half of July nlWt \lw Ir-fasuiy o w f e s r e t1 t u lo r n il s ie ti s te h r i e n d c lu ve d r in y g s a a F g e e a n u e d y l s iq ec u u id ri . ties thai previously [ji"(>|H)Mid blittuloPf' chikn^. subsequently approved by On S^plumbpf 7, tin1 Treaiury and \hv Federal H&wr thr CoiipirojaN, uncj£*r wlilrh El could lmd AIICJ provlrif tnfT Finance Af^cnry anucunced thai Fannie Mar and Cdfdtal to the G5& Ncverfliduss. pIBSStttfitOn llieif Krtddie Mat dad IHTII plitfeU ijilu t.uibervalorsliiip. I'o cnter|}rises ronlinued ovsrr Ike course oflJie aunimcr: as niaintuin the CSiis ability lu purchase hunie uiort^a^es, a iwaill, nplinti-ddjustrd sptiaits un jjgciH'v-^iLaraTiipptl Ihc Treasury Jiiinnuiirctl plans lo csEahllsli a barksiop puort^ttmrljackvd si'turities tMHS) widened Jiml Imfr- kniiii^ liii-itilY lur till? GSES, If frt£rei«e up IE> SJCJO bil psi rales nn rcsLdcnlial mnrtgngrs rose further (Hf>urr !i)r Meaimblln. iivvesmc IUUMV HIHUH iheuutbok hsi ilii1 broader linking svefor reemer[jed. In July, [lie Failure a\ 4. S|iiiniK-p|i EWfil (kfiiufl WNH r,... Cd US, IndvMar F-Heral Flank, a large <liri.Tr iEisiilulinti, raised ntwrJal ^oiii|Biik-i, 2007 (Ji» Euntier conocnisabonJ tbe proflhitiBityandaaBa quality ufmany Imaneiaf insilluEions, Over liie SUIUHRT. CDS :in>-.-si-. 11<i 111,11111 Envfslnient ,irn! i. •HIIUM.-, \ • il I>-nik-. rtfiift, SQTttKtf krge JEi^Jtulinns annouutrrf liharp il^cliiifs in earning, and unu dmul rtparts su^^fsd'ii Ihuc llie ahillly ifl niosJ iiJiam tal finns In lai^p ne^v t^pital was lirihiliHil (figuTF.' 4). Wjlh (iHiik.<s n.'[i)ciiin| Uy leiirl |ci nne another, r.cmdttinns in stiorHerm funding niarkds enn- [iiiiii-ij itf UP Mniiitfi! tlmiitulla' Mimnirf. Thf i lri*^iiiP>Hl hiitik eo?>l ol lniifi.i.1,inn ini!n- ii;Eerb»nk itnikr<—„<•. tj^eni- plllird hy llir London Interbank nFfrrpd fait' (MborKa refitfecce niie f&rawide variety ofcfflrtrads, inrindEn^ tloaling-rate mon^a^os - inrrunsud sharply Itigurf 5).' JiiHy tirl Jafri i\j*- 1B"¥ i":l -fslr In addition, rt^uirfd margins D| rollni^ral ikuhwn as ". . i i. [Uj m.li, ....I .-.i.i.i ,l,,..,.|:l I ,'n-n „ l>! .'IHVl I. lrypirnlE>. il> tf]m\vv twi W r>n<a.MinMl h^ umiparh i,|,ir,.K In. ,m I. ml. I.m,In, - .,>iiii i- .iii.| nl.i" ill-.L'Mik Link'. i.iF!- H-IMI rhr' r-Uf no •rii|if>ir.il»l'1 niLHurirv JI\*-I>U|;IH mii^ . .\Piipklt 98 Boanl oTCoYPFiujrs otih? Federal [faserve System 1 L.]Lwr min [>. Net Hcmi into i.iK.-ihlc U.S. £HQflQ$ .... « I — MS : _ U — ' — Rt ;! on fa l\. — 1 — )(» i rL. rn '1 tjnma J i i » ••• - **\ II (*.. •..Vr- II 1 W 1 .Dtutt B FVHIH' hi —j V^F ^~ S*-. — — M jll- — IlllHt - 1 — » , 1 ^• i , . 1 U tptl V"- Jnlv tin. Ian. <uv. Ji•hr (In |Hi HOT la 'in HeS Ih r- Lin \-»h aMMd Ihr-iLi^h leUru,^ 1IJ. ZUW \u Uimut Mffl uhj||i ullfi ill* ULHIIJIIK f*U> HK|I m Mn >ti flan} uwrtaH ••>" i. H '!*• »ffp iKr Mml forth i iMntijr. iw> i.uittt", I.-K« ^H- an %v .n oi |lw ipmd manm.-! llM F|*< HUIrifHiri' QmwgB WWl WUWlMI MM- ntgl HHi'MI«r UlU'r*^ uiti In nVTMumji Uh' n ||q. til (PhicrH- raw l.abtM ]h ihu l.uiKhut undLT 'severe iumliny pressure!, (u lai^f \mrt becmae i>l lu^st's on Lehman Brolhers' ilfhi. (In1 nfl ris.si'i viiJm .II. i liii I |j..v HiiH-Ji of a nuijor mout^v markiu iiiuioal fuiul ft'lt htlim SI per liun of prt-ffiTi«t Muck in t^th ol Ilif Itvti firnii, :m<: i:> •^liun- alw Eustmii ;is "lin^king (in- bin. k." an i-vi-mi iniifuiv a program lu pun hust agfotff MBS. AJUT Hit1 I liar had nol tHxurrt'd in many years— ihcrubv (iratupl annniiiLi'L-iTirnr intcr^^i Rtts^xoads i>EI CSF £itslj[ iiar- iMH xapiEJ HIHI widfsprtjsid iuvi^stiir vviihdia^v^U hum ru\V^ ai iiivf^urs lit'tariin HJiifidt'Ut lli;i[ tii*j I'n'Uhitrv piiim1 fumls {Ihm b. muTii'v nmrkef iiiuiua] funds fhiii would support ilic oliU^aEloii^ tif (hr GSLM, Oplimi-ad hold firhnarlly [irivatr-ft^cisl (LiguretiL Prime lunch [iisttfi init-nvii ran1 NprcziiJii on MRS IS,MJLHJ hy iin' OSKJI rij5i|HJTnit"(i tu Iht1 iiifjie in rLMjt'injjIim^ Ly r^ltning llit'ii Tell. UJIII nta iiinl spreads on rniw cuntunning Bxed-tlte purt hmcM of short [cms DSM?IS. ipidudmp {-onuiuTi'tiil murr^n^rs iJiiclinrfL Nt'xvrdifkrss, oilier liriBin: j;il iiisli l>auer—wkitdi *naoy hiiiiriL^st'S i^t1 la otUHLo woikinq fttttMfi t unlJnutd to fftC£ difliuiilics in ulilaiiiin^ tirjiiiil- rupilul diul by shortening I lie in.iiJTify of lho« i ity and capital its invc^lcn n^muint^l un\ioi^ .ifimbi [heir incntM Iliut Incv did purthiisi-. leading lo a [JrErrlai salvunry ami, maw tiroadly. ahuut the Im^llralioiu ul of tlit LuiiiiiLi/icidl pj^rmarkfl figure 7). M WDisrnin^ lirmtit'ial igrnlitUins fur lilt1 tLV4il;i.T)i1)lY of invr^torb intrmiingly dcTiiantk-d saft1 a^si'ls, and funds i R-tlii i'j lii'UVJi'.'Uh inn.] tiusim.-SMi-N ;uid so for I lie ucu- I hat hold unJy Treasury srt uriiira cxpff tciii-t^J a ^harp nrjmii oMclrink- Enoreuf tu inffuwi, wiuih caittvd yields on treasni) Amiil this ijrtHicI du-wniurn in invustor confiUefirc, liith to [iliciiunct. Iritrnsc dtinand^ iinion^ investors to ami) dftpf large niortf*aj>[j-ri31alL'[i iusscs in iht* third hold TroaSUn v.'cuijlios, coupled wilh I." •:- .• .-.I OOB- i|oar|(>r. Lfhumji UrollH1^ BUM uitdfr pip^stire HS LUUII- jrvnKt alnjiit ^oimlrqiarly rretliJ ri-iik. rejjurkjdly leJ lu EtTpartU'M refused to provkli' sliort tmu funding to iht a stibstanlial scaling back of activity atnong iradiliunal llivf^lniL1!]! hank, cvrn on a ^trorod Itasls. rvniMinlly, M-I iii iiii •- h-[«lr-i\ tit iUr | M, -iviit\ iii.il hr( Tht1 [h^-rvasfil wtlli net odirr iMin sMl'liiiM it^t (fuinj il Jiud v.-iih tl% hcjr- iitilviiy coniilbuLctl, in luni. lu di^TiiuUuiis in |IKL Trra snrv IT|)O and cash markets rfiai WBtt eviitenr^d hy a FOWin^ i .ijhi! :i'i | m i si-:--1 h1, d \,n\. -A •.•;'.. ,i'\.i\ ! • i: i; -11 vt?rv high v^hmiy Of I*tiIs-lu-deliver, RedtfinpliOTiSi Inmi Hfnlhnrs JilnJ foi l>anttruj>E(y un Soi^rjntH'T 15.•' Ovet tht.1 previous wecl^di Hank of Aiiirrird ainujvinnil Hi prirnt1 funds slnwcd atier die Treasury and [In? Tedund inlc4iifion to drqulro Merrill Eyiirh, whirh had also roinf i^^i^.Tvc totik {irMojih in Septetnlk'i Mud Cl( lobvi U) sun |KJll illt'il1 fuiHli falT ihl1 .i-'|" ' •'"•• • Aroontl Ihf same limp thai the diflkullies at Lehman a. lill,. 6<h,l M,|,l, •. oTUhnttn!iirorhm .md llwcwiwrvaloitlUp HIUIIIL-ISen^iRvd- llie liiitimiul Lxitditiuilof Aiiwrlcfirt • 1 j ntile Mm1 JFHJ E'IL-MI- MM LIUIKTLlUk'cl frtffl aVOrfti u1"UH|)M'C • : •- ii •: 'i (Tie 4;r?s ntnN"i.-vm iF(tk-H, M'Ult'iin'lilf UJ'IJK- Intfrniitional Croup, Inc., or A1G a U\w- complex ..ir.i.'iidlnft CDS f Limliwii on ll»e;rfL piilirin pUHBlM siiMKtltilv uvcr iusuraniT (un^lompfair—drn-iloraled lajiEdly, and rhr .Mlhwj'ucm wrvks i-_ I.- i-.l'.due In pan if ilk" JtiLroitft] nku^lw i;(HTi|iHiiy iijtmrt shun-lfcm linHiin^, «|jnn which il wui IL'UU'I• |• • | 1..', Ih |'||.;', .,i r r>s ini"E'I.EILNI In Ova EluPlfMl IwJlrij^ lip Eu hoiivily rdiHiir iiKTcaiin^ly diffu ull lo obtain. In view 99 8 Mwielary Polity Report tu Ihc CgiiKress Intaiary 2009 7. Qllllltii'ii-lal |IB]«T. 211(17-1)!) h. Hs Hi'*i »r Bw^ajaHiiidpd CHHJV nil itilei-iwl (J.,S llrmiK-i.il -r 'i in: ill) b Will 1»' Nttn jinMUi* m rMQ nd muftta IH.IHU.VV I» 2M9: ihuv UU, .\1ra LJIK |. I7 .h. • )..• ..., !'•!•. '" •••' S •« h- b. KMAL, BfWi N Wuw* 'HUWI u' lux Am •"• •*••«*• aid crowd Hmtfi Nbwo1 "• SOW.wlikh WW utiiiiiLLlt*ly atCjiiired \y\ \VfMs For^u in rarly 4>*|IH<Wil ti i l H l r I f « lH I* . - I hli h -J i i ' l V ^ H mW* up Iui mi nviiikij,lii tiMMi'lit MHI .in Octotw, ta AfialnM ihl.s harkdrop, UlvcSMB pilllMl Iwrk fcom i is-, p i".ii"> even I'lifilifM-, ii,iuiii' n i • -I-, f»r ci'niis uf tire likely spillover rltos iu Otfco Jiimmial inslilu- licyunri pvt'niighi Isttgdy ceased tt> fUnfllon, anil a linns of H (tisciflltfly folhnv fif AKi jind thth |HitrnEtal Tor hSAt variciy Of rtnanrlal linii^ riqwriftirnt &KKaSing hi^MiJir.nrii pass ihnni^h rffctis in ihr hmaiter wnnniny, diffindiy in nhinininfi funds .ind raising npiial, Mbnr l\w PfliteHd .BejCive Buaril un Stpiembtr l(i, triUl Iht- raifi ruw ai till nirtlnriUfs whik* rcunpambli'- full Nippon niihr lirasnry. sntliort/H Ihr l:i^)rml uvernight IndflS SUffp «JIS) ralps fell, l l gp •RttWVA Rank &fNeW Yurk to hind up iu $R5 lullton a[ rrrnrd tevtli Straits WDfe4l£OB9fftanl in thr f in the rirm la assist it in meeting iis ohligiiiions and lunik niarkd. in which ov^miyhi luiub Iradwl ovirr iu ladlilBE^ (he urdvrly sale ofsome ul'iis business, an mmMialty widi' rangi* anc3 srliviiy In (emi luntb [AIO, Ihr TrraHiirv, and Ihr Federal Reserve lnlrr rntidi dropped sharply, Condi I ions in Mpfi markers wnrsrnn] lird du> |{*rms ol this arningrnicnj. a* rtcsrrilK^d in ihe litnhc'r. as bairculs and bid-flsked spr^ds nn nnn- 3ppumltx.) Mi'iinwhlk. CDS spreads Tor olher insur- Tri'^uiry collalpral iiHTi-us^d, ant! the Dvpmighl rail1 on mvi' cotnp-mics nisp, and ihrirequily pricrs fell, amid general Trrasury coiladiJil iradnJ nertr Sfeft I'h^pirr f onrrrns ir^rtrfliu^ their pmlllabillly and declines i 5iibstanlia) JKW ivsiiflnrr, yiritis f>n shon -diitrrl Trra v,itiu-\ of iheir mvE&Lnient porlfoilas i SiL-.m »• ft]. sury bills also (radtfij near zuro, Fail^-Lo-defliver in tlii? Imrclfir anxirly ^boul inve^lme.nl Ihinks. which Treasury ni-nkct and (»v4?rnighl lending ol'spcurilles dad cMMliipti-ij mpldly in ihr ^ake of I ohnirm I'nHn ihr portfolio of Ihf SysTrni Oprn. Msrkrl Arcaunl aitlri^'ii1. abalcd ^onicwlial alitT Mdr^Jin Slajiluy and soaj"L"[l l{] record, liighv, Spreads on OSHCL tiackcxl com (joEdjnan Sachs weii? granEed bank holding company im-icia] jiapyj tAbCP) ami on lo\vi3F-<aled LISWI'L lived cliflntts by thv Federal Rcscrvt*. Htiwuvcr. on Septan^ ronunrrrEal \rA\n-t Issued bv noiTiinancUd linns widened bcr^S Ihc resolution of anniher failing linandai Inslllu- ^ij^tijikanlly. tiuEUit]. inipused sigiilljranl lushes CojidiliuELS ui "l<in jifi.ii.r mi ii;,i.kp'K .iiv, ilfhirio- on spnioi a IHII(1L*FS ai wull as on t^i-ii ^liarply in Sepl^uitier m\6 Otiolirr CDS spreads llieir i'-.\| •:••-'.111•: • r • i• • a . r ' e H g I a v r . d - in = | g M • l • i k 11 e -: ly •. g H o i v 1- e .. n M in m ie - n m l i s n u k p i i] down a LS n i " r :n o ii r ! p :in o * r l a h lf i^ d l e t b v t i i s 'M ur g h e o d n , d a s n r d o s II e H - i r lm al n e i s ii s o n n - i i l n h v .' ft r j c it h n i wnl- ptul (or Ihe unsei'urecl notitlt'pusil liatiililits of rumucial live louotnjjaj^blr-mHlmily Irifa^uiy yi^ldi (figure lil^tilutl^ns, wlitdi iutthtt inhibited ehe ability ol somr 3|. Sixomiafy-nirtrkel bid firi(.^ Far levs'ra^et! loans hanking organizations TO obtain funding. Anion^ ihi1^ dropped lo rerord bw levels as insNtuNooal inveslors liarfiH ooflipany i.i:ii.r k.. i. froftl 'I'- insirket, and Hit- implied :\n •••••»: S. buiih hy asHjt sbo ar ihe lime. tin an index oi faqn <njdil skdauh swapi jlln LCDXl 100 Hoanl vl Cmt i nun til the /•« k i nl Resi-n f Syiwu Fj !l. Spreads oi iwptnau' bmut yfeitls aver t of selctled montage- and assul t iifT'lfii'-ilm lVi'iUny ylplik, liy stn-urirl ;.||S -:• •• • J i \r,|L .-,(r..iL h H.MH Pill' M'MLlkriklitl jCinntfu51-ls1lHF.nl «|jn [ c fe td n iiu d r r i u w M t i in O t* T n r ri t > h < ^ M hh v O *a n U w )# m W l > < h h n n m ™ Jj i . i i l e M w J M U M » Y I fl- I w «. w H I T W flW H ft ii o y ||I.WHAI4NI> 'A\Vt li I liuiMIT l f M c N | I : H H •'.. I Wm l< m^ i uinunki I—in. ftd I H I'M I(S wri AI >S Widened to rcron! levels (flgjtfo JO), hld-^krd tprmds nn high vicld rnijinmrc bonds find Tpvpragprl losus TfE&htfy -i"€rurilii3s jiitH yields iin t«Miparaljkj muiuriiy • in ri^KHlsigmfo nully, ..in] UrjiiJillly .mrl jirii c iSiwiiv- oil t]tf rLEiistr iirilks (IIIHI iii. IbflSP ^rurilies rltiir Wtstt ory in (ho CDS Eiiiirkn miuiiit'd snipaircd. ™|ii'i la liy jm-viousty ISSMHIJ—an imiiiiilur ufdiu lk|Uidily til lliis far luiHracls InvuEvIn^ rmanciiit firms. Spreads an itiHjkii - surpi-t! from already tlwati'd levels. J orcign l mortgage1-harked secwhfes (CMnS) and tir^iU'kU iiiurhfis fxptritntt^ many nl\\w saiii* dislui- \m\vi& as dinittsiic marker (*« t^seciion "liMena eitoides (ARS) n\*n widened Uoiuil DtvrlupuifiiLs'). Price unjvi.*inttn(ii Inftfl «f Btese luaiki-li WWB likely i?xaci.-rb3lii<J l>v sales of wcurflljftS p tO a sfeUKfetB] (GgWt LI), Tin* lur hv hi-clgc JLHLCIA ^nd othei teveragosl niaiket parik i moil iHU'Ciuit iven theTreasuiy m;mkoi. in whk'ti lincrt^i t I ••• I-.I1 I n' 11 Ii j I itlVt^Eun? .ili'l UllkT JLIfll.lill.U Ill^ils. W). I (.UXlliiirh*. MM! ht ihc suKk nwifce*. pflas tun third aitd volarilky H^fld to rpforrl Itveh during rhe autumn as Investors grew BWft fonttirn«l ahom (he (Jr-osjietis of linancial Firms aiwl alium Mie likelihtHiit i>l H det^j anr] |jrijk»iii^uil ifcpsitom (Ifguivs V£ and IS) Lquity-[nhv decHiKis wore |iai'M(.'olflilv |irnrnE)iMiml aincnijj; Hnsiirml and energy finitt- f)ul Ihisy wfrf geneffllly w][|ijspMfft(l ft^Nk serInland wefeartonipani^l l)y ^uhitaiUjEil nel oul- [lows Irom iNjiiih- mutual I'IUHL^ DHLIEI^ Ihl^ jht^timI_ die preiiiluin iii.m invcsiors deiiLHiitdnl for holding ftjiiiiy ^tisres—gatigPd rnipghfy Uy v.,- ppbetWHJI Ifor pflmirths-|>rirf i Hilo ,nnl ihr yipld cm Trpj^iirv SK'lirt- ii"'s •iiurr tip. n-ilf'rtinj* ilu1 l«'if;im?nei] rKk aversion dim prevailed Ln • iu:>- ;.•! • •.=i- -:-- Policy Actions and the Market Rf5pfinsf ' i i >>. -. Miff nt rflu iBigfc u >ih .1 IpWhljffrfJ Ilkub. StltBS •« "-'u r.iHnij MtQ 31 2fHST To Mresipdien confidence in llie U.S. rutancial syslem, (h uhM >. /fflfl. 4iint>ifH-A IITrtl April H. kfti during iho autumn •!:• 1'cdrml :•;.••.•. at i! .' acl- 101 10 Monetary Policy Uuport ID UIU Longrfis leliruarv 2CMJ9 Si.w.\ |vi iiL Mahilijrjtion Art Usin^rnmK Iroui llir T (Itf Treasu^ PAiatiliiJusI A vulimUlJ CSpiU] purrlwsi;1 |iLin under vvhtrh thf US. RtivfrnniPUt wuuM huy pir frriciJ sfiait1^ hum eligible insLUutions AJditioiiiilH'. uiifltr the Temporary Llqukilly Cuaranlw Pmgram C fCCPJi (lit* I'^El^nil iJrjHwii IIIMII^IHC (.^r|«j)iitinn (MHC) piuvidrd A Ipinporflry gtiavanlw iot Sfltclwl senlfti mssmirpfi ohEJ^slloiK ol' p,irlifipnilnph huurrfl dt'pasilorvr iitsiinifluiiis nnt\ niptoy ml ihrir jiaffi^ linMin^ Ltnu|jaiiiHSds well «<s I'm <i|l Ij^ldHti'S To niMh-tnlerL-sl hi'arin^ Jsan^mlioii dc^iosii atrotinli; in juirtli Ijtailrs^ hi^Mrcd (Ic^o^iTory mMkiiUoiK \ U-1 111 - - -. i = aCflOAS •• i" i the :;iHi"ii'ipi- iii'iii'. n| '••nni !.n |tKigi3ni5 3ltB DH^barof ofhrr ETiunrrii:^*, Klrr?i!5Csin :-II in: i.'l ii!,!:- il •- • ..AI-II v.«ri!-v h.*l (iiiii]'..li . -i > i • > I i I.: • i LX J, i • L i j - -J 11L • • • I MlilHiril. Ill ISM1 niri i! >. • I • K I • • I I-E = 11L- -. IM;II.!,--I V I.. :„« |,.,.~, I,.!-,,-, l.lhr>r i\x\ts#> fltm nst niafrurlripi tl« MnnM rtoiicfat^y I(IK In BttSfiHI with inrfiRn mitral Itanks. pypanileri" IK <in(1 i|)feart& uver coiiipambU'-inaldtiiy O1S faies 1141 exiting liqiildily larililirs find announced "iFvt'ral scldi- •'•.••! ' I' •!!'.•. in!" --|lll . •« j -— M| '|- iij. -;l • : |1|1! j lim.al iuiliallvus, including urograntt lo support •.:i».: i cnmnicrt ial pa\Kf nw\ Afit!TJ unrrnwrii iilirr lhfh rcdrriil term lieiiEJiu^ rmukt'[>i M\il In film hasp a^piuy dr]>. Rpscrvn aiuiouucpd ttuLaiiun% In &ujipnrf aftWis markei. obligations ami MMS. (J In-se iiljllalivvs tire discussed 7»\t\ taMMFK r rriiMiinrliHl Minu^wlut Imin iK hvfiiK In In niorr dolaW In the appendix.) [ircansc- ol Ijif sharply HI^JII-IHI^I ,HII] Oclobur. Concfitioiis IjigJubHl iiiuit I^SJD lliminN.ptf Hvn.lrthiniv nl' mttkrl funding srvt'ral PMf* diilbr fiifuliitfj. inrtfkft*i also Imprnvofl sLgnlhmnily aftor ml Reserve facilities ww used tiuavily (Jiroughoul (he liii' l-iiifr.il Kf-icnT sit1^]rinii>ilfv fxpiiiwlfd ii^ |]ragi'fini ivei kii ILL|. i of Ihe \ ip.ir • a-1 li^n 11 Ill's *.\v; 151 *.. wlljl IHII JLiM 1 1 nii.il batik*;, ^]m \\ IMI L^SSI'II mn1 rhit.ii mill nl'kilJ-ir Iniiriini. ^HHIMMM-II in Id iiiliiilimi die rrrasnry miiiiiiini cil .i lr>nt|Kif<iry Foreign 111,1 rktis, and a number ot fort'lRi) ^ovpmmeitls p jit i t t i ^ jm rd s n i t d tf il p ic ro T g r r o a u m b l f e o d r A m s o s n a e l y N m BI a IP r I k 1 e P I r « m )> u n tu ii a n l f l T u A itd R s I1 d ) u ID d |[Kik uifiiSnns?i lu strvuytli^n -irnt ^tahiki/j1 llit'ir IMIJKLII^ IIV ^uv-Tjnuvni lurids (u help Mabili/.t? (li^ lin^uviitl ^ys- tcm; on Oclcbcr 3. (h^ Con^r^s ap]irt]\'rd anil providcfl Despite ltit.se ii)ipir>v(jini?ji(s, iiivnslnti%. Fi.'nialiiHl liiniliu:: in Ills imiyiTimasiMi-rofttii' I'jucigciicy Kcu- ftHii'^rncil alitiul rhe wunditL1^^ uf HnatiL'lal iiuliiu lions. Spreads OIT CDS for UN hai>k^ wiitrncri tunin 1 in NuvewbiTn wltidl raistil ike |jfui|n?a yf signUicant 13. [in|.li>-rl S&P SOD volaillUv. I'J'JH ,- lucri^sos In banks' rosis nf raKlnp rhe lunch thoy inbtrt1i?d fiir li'ndin^. Ctri^rnup, Lu jiailirular, saw ils CDS ?sjjrrad wid^u draxiUilJLdlly afltr ll aiUkiiuiLi-d HIM il WtHiIri take lar^c f^wrs nn Us JsernritlM prnifniiik Hi! To sii|>|KJH niai^cl liability, the ii.H. goVfrmiK*ni on — 7( November 22 enlpred Into an agree]iit'iu willli CitiproLip in prnvidc* .1 padt^flfoflpttaf,guarantee*, .11 id litjuiri- ilv access. SiLb^exjuenlly, CDS uploads I'cn linaiitial nr-sji ii IIUCI^ rpvwwd ;i partiun of ihelr i1^!^ widening, m rind wmr nnnfinatirta! risk^pTP^ri^ aKn narrnwwl. Cunitiliun* iti drbl i^idikLis 1 u/iliimed lu trdsedher i!n-|M-.--iu-, nl M.VI "ii'l idrtKMipJ) most i>l rti^einnr ki'ls lentaiti nuirh lrv% liquid lhan normal Virlds rtntl spreads on corporafE* honds and commerttal paper havi1 I8M Ml H<fl ^ M Hd. dKOQVei iinlitt^hly in ffrriit wul% bui prilvily En '-. 'i' I v- <LKM We KWWi Mid AMEWl ilhUHfill (W Wl-A PffllHW il"- leveraged loan market coniijuu's eo \tv very weak. F I, rit I l - il MFV -, ? I < S > , , i li O lV W M 1 I l« 'U ? ' J fl» J M I,- l . >rh •, V | J « W m II i N , M» I B V d . M V i I s S li mrfl h 1 N l t l. W 'IF il H U | K lliK i t ) I 1hii • it ; jj,ll r-i|inry prlrth for tln-inrlal lirni^ IIFIVV continued lo Irrnd dnwmvRrd. nmi CPS !ifirrad% lor sit^b llmifi h-ive Hu( toalpiJ aruiind fX(sfmely elevated levels. Luveslcrc 102 IliMTd of Gv terrain vfltie Federal Rassne System 1 1 exnwssed reircvwd conctra over linamiai institutions in pace through Ocloiler bul weakened (.onsiderably in January alk'r anunttier uf limis, muii uuiatily Hank uf \uviniliiTpud Drcmibn, HuWfVer, Itir arouunl uf America Cnijicimtinu, rrjmrtcd large npl losses for thn such lonns held on banks' boats fleucnilly ronliniiMl l<i I'iiunh quarter. Tin.1 lit'asuiy. die I-DIC, and HIP federal expand late in ilu- yeat. as luuks liad ilifficulty wiling Reserve iininjiniced un January 10 IIKII IlK'V hnlJ enlUed these loans bNU5C uf undoing illsni|)tiuns in stxvti lulu an agreement wilh Hank of America In prnvide. a ll^iliim markets. Recently, rnli^llnier Innn grnwlll hat |;.iLkago of capita!. guarantees, and liquidity actess (sti> also reportedly been buoyed by bads' decisions to the appenrti*]. Mlhongh markets ronamtal favorably build Inventory in anticipation nflHuanre Into the T«m In rtlis acliutl, Ihr uncertain (imspects nl I he financial Assrt-Harked Smtrltics l.nan i'acilily (TAI1). sit lot anil in nt in wtMjdi heavily un market sentiment. In the Smiai Loan Officer Opinion Survey un Bank I endingPrailkMronrlurlfd in both October20011 anil l.inoary 200(1, very latRe net frac lions ot hanks reptrtteti Banking Institutions and tile 11. i - - a i -i.: - lighleilfd lending standards lor all eiiajor ln.in Availsfoility uf '. ml it lypps, SiBnlliranl mil Ibciinn* nl 'respondents also K'|n.iiii'il a widi'Sjiirad weakrniiip oI loan demand In Commercial bank credit gn>w ntodL'raiely over 2008 Hue with the nearly 33 uerccnl drop (annual raie) in . a whole as iiulli ••• • ••• • and : '•< .,' Qmes total unused loan coinuiiiinenls reporter! in fourth drew heavily ail .•. i«rin:.: lending loimnilinenls, lull it quarter Cill Reports, many hanks iiiilicaled in Ihe Janu fontracicd notlreahly toward tlw cud of I hi' yenr ami In ;irs .Mirvey rli.n they hail cut lli&stK of existing credit railv 3O0B. In Ulp la IT citllic wverr financial matkcl lines to bustnt'sscs and hoiiM'hnlds (ligitrc N), dtsnipUiiii.s same ctiiiipaiik's lurnnd (a already coin- rarnlngs growth at de|]nsltury hisiitulloas slowed piiiluil llrlrs »] i inrlil vvilh hints, uhkh <anw<d Ihr ni^rkerily in 2NflX, anil jiifilil^hEHly ,is uira^urcd hy growth oftoninu'irla] mil indiislrlal ((.'•& I) loam lo aliiiii un assets and return on equity cituupt'd droiiiad ;|ilkc In Sc|)H'ni!]cr and October. However, C*l landing rally (lignre 15): Indeed, contmerrlal hanks pnsted an dfcliiwri nvfi Ihr fHsl lew month* as SOdtt husintsies FiggrfEiite loss in the Iburlh qiiarTfr, Theve develop- rt'portHdlv paid duvvn ouiManrliiig loans and stepped up men Is in part rellHIed wrile downs on securities hold thl'ir i'.Mi.Mli-r in till' i rir]i[tF.II( hiiiii inarkrl. In iiilililian ings ami Increases in luan loss jmivWinning In .,••..,,ir.,, hank* tnniinn«i IO xfM decreased demand for rredit lo deteriorating asset quality In Ihe fourth quarter. Ihe lair la1,! year in n>i|innsp lo blowing hiisinpss InveM overall loan delinquency rale at commercial banks in.HI ami ri'dnrtvl nuTRiT and .irquiilltfin nrilvify, \W,\ iili-n'asni In iHiin l,.,i|.r |H-criTI1. il\ hitj]i",l h'vrl liiinhs continued ID lighten st;iii(l;irih and [finis on C&l since the early IBSfls. and the total chaige-off rale rasv leans Hi lii ins uf all sizes. Issuance, of leveraged loans In un in than IN |iercenl, sur|iasslng ILs peaks In the tiy bankv whirh hftd already limi ver>' Invv thrnnj^li ihc llrsi hall of last year, was essentially nil In I he second half, largely hfcaiiw of a drop In morgMrs and leveraged II L liHiiff in iiiniMpi.l Ijmik Ja;ni * i iiiiiiiiiiLnurtK 1n Imyanlv which Ihew loans arc nlten uspd lo finance sand hffljw-hotris 1090:02-2008:04 CotnniLTciHl real estate lUti'i loans on banks' liooks pxjnnitnl ovw ZdllK S3 a ivhnlr- Hiwevar, will: tJte (OiniiH'nial iiiun^gr snir/lli/aiiunniarkei iSHenlially c lostd by mid year, the rale of grow 111 of I his loan cal f^nrv SIPJII^LJ [town *ii^niliranilv in ihr spcnnil hall—H ili'rn-3511 L'Dnsislt'nl willi the reported lightening »r stan- dards and fl rim(i olf In di-ni,uid for I hose loans. Hiink Irwn'i in iniil^i'linliK Bfea derllneil nvs»r Ihn sa»ad hair of 20US aiul early 2(»W. led by ,i sharp con tmi linn in residential mortgage loans on hanks' books, as demand Hi'akriKil further and liankssuld such luani to tlie CSEs. However, loans drawn under CXJSIJDL: revolving tinnie ei|iiUy Mill's (if itertii runiiTiunl nuiM- i ii i i briskly during the second lialf of Hie year, an increase Hum inn; iuii'1 iwifi rm will Tin; mu itmr am likely inHueiif ed by a drop In (be nrlme rale, on vililrh the rales on such [irrfiis are ufli'n hitseil. (.luivdj ul run- rtM I,.': Mil sinner loans originated by banki expanded at a solid 'I Nknil I I M' Ml,|kJlK 111 i NIHJLHUIIr flntI 103 12 Mnni'iary Policy Kppuri ID the Congress Fehruary MHI!) IS, t:»iniwiT-tal tank |ininialii]!l>'. economy recorded si/slilf declines in activity i» late ,-:IIIM. and I in- weakness lias L-\ti>ndt»il into early 2(109. ri l'mr«i Cundiu'un; in the labor maitii'l lave ivunened sub- Hmnnr ..HJI*'*K smmialiv slnrc parly aiiimini as <>iii|)lnynvnt lias Inlltrn 14 rapiitly. ihc- iinemplnyoii'nl nlr li^ss riinilicd, >inii fimh 1! conlionr ID annoiincc BOM InyoMv I loosing ii'mains on HI a Mfi'p downward irend. and both coommcr spending 1 ""^ \\ _ ui and business investment have cooltarlnl signitlcaiillv- In addllian, detiiand Tor US- rapons has slmiifinl in 6 4 V ' I — I i M fi| e M a jt u L w si h ' i t lf n . I n li v e i - d ra i'i l . l 'l c it o ii n f s i u n m F e w r e p ig ri i c i i e t iu iu i t o la n U ii o L u a l c u t n iv ie it d y. I - ' I — \ I nr'^ilivf in ltlkJ WW a^ I.'IH.T^\- |nir'rs lunililnl innl ta« i — II inllslton slowed rtDiicrably. 1 i 1 1 1- 1 i i 1 -1 « 1 ' 1i 1 1 1 1 1 1 1 ram turn trail iaa;i ••• : xx am : n IIH..Iti..I... >imti>iHHsqontifcwi.pk HO) Tlie Labor Markel S'l' I ..1 . .' 1 1.",... I..I tii'. 1 I MIIIINUH4I1I. t'limtii II l.uki^kLil^l ••..I"n> ,1 t.L,,,,llll,iF, 'Ml !,„,„,.. Hull 1. •(-.. III t ondiliuns in the labor niarkel delerinralnl Ilininghntil ;HI1H. lint they tvurseiifd niHik^lly in Ilir autumn as [ob Irsses arfplfralod and tilt1 unemiiliiymrni tint' |nni|)pd, [in-1. J'III1. I'.M' ivei^sloiis. lilt' ralio Of it In Inlttl. jjrivalf nflSTolls fi^ll S^ niilfirtn Iji^tvvt't'n dn* In nrl rhbiQ^r-t]fT%- sn imlinilm orn^ci onwl ol fhe fer^i^ton in DecemlK't '^007 and Janu- [Irupfseil Iwlmv \\\ \HF\\in\s nHiUr fP3[:litfI in iliu early ary 200!). with rougiily half of the reduction IK t urrtitu I99&. •. IL • • MIL1 lln1 | <-1"-. I lljll'l fllUllllr. I .L'lll' i C • I IILII'III -. 11 I L ! " I JI'[IO^I1NIV iii^iiinciuiis Lin t's^ Id I'unding lias NnvemrH-t, privsli1 payroll cnipltiynii-ni has fallen imjiruvod <IK d nhsutl of lhr vdrldiu l-'pdt'ral 6WJ.000 per iniinlli, i.oiup^ied with avwage innudily liquidity [iiI'J.IL.IHI1. .L]nl Ihr TI.GF, innIIT 'AII ill i.nM •, of 311 I.I!!Id in Si'jiimiliiT and Goober anil /innshevn luufii jinnhiiik™ol Hi 11)0,000 wr Ide first cigltl nmtillis of 2008. The dvil fiiiinK In LI• • si• In .iililimni ilir1 i ii[iiJiil ul iau uneeiployjnwi rate, which smoii ai -in perctn In izalions lias ljerit IKKJSILII by IIKMP (IISII S200 billion Dc_t ember *i0IJ7, has marc:hcd steadily upward wver Ike ofpr^fprrpd stock |>nrrlinw^ imdcr the TARP 5UIK Ilir |IASI year, and il nsdted 7,fi |H.'LT^III in Jantiary Z009. its ii'ii'in tluwilwdnl trviid tit dti^ M^iiily jiritfri ufnujst highest level since 1902 (li^ure 17). Moreover, private liHiikv ami (hi1 drvainl IfVn! iilldi-ii CDS SJMWh sag- surveys and tievvs Tepurls intlicajf tltal iirms pltui ntl gi*M ihM [HFtikcl p&riiripnnl.^ n'ni.iio rnnrpmftl almul In lav off workers in (he Star lemi. llliJ loog-lemi pmilinliililv anil pnieillial insolvfilry I'f si mu1 drpusiiurv inMlluIloiu. Tlie liiiaucial mtititiil \a\ Inl lu sigiiilitan tlmngcs 16. Km rhmijii- io pnvait payroll «nip!oyni«n, In ilu' 'nirniurn' til i In- Imiiid banking industry1, wllli iwn Idl'^e uivrcliuftil banks mid uilf Ijfge tiii^iLLLt' conijhHiv K /\A ri'renlly mil I'IIJHJ'. to kink Imltilllg CPTOpaiSM to h — ™ ubtaiii k'ttt'i tfxesa lu (juvrnuni'iit ruiiiiinjj |)i'<q;iaiie; — pJyY V»V A _ l«l s lisiliHiil of fargp inEUntnct lirms. iiirjlivaied pamly by rt 1 1 • I IKoir desire to apply forTARP rundin|>, have likewise V \ „... s i-uiivi'rti'il (>i lnii fiulding i uni)j,ii[i.'b In jiWiliuii, hfv- fral fsllurM and ms^en alhagt linanclal ttaOiWas \ - m icMild'il in intreiiwd roiifI'lilmlipni of i iiilmii •• aiwts - 3UKI and ilr|»hin in ?MW. \ VN. — \ — .mu DOMESTIC DEVELOPMENTS pirn; ?nm Ponl m> Pn* nnri7 Putin JDWl In part [("Hi-oiog Ihc inlf iisHyni)J drteMuiaiiun in I man Nun.. NQtilulTtL LIJM.M^^ m Mi. 1 IH- J.IUI ,III, IMUMIIHV -ml t^l" [in I cotiililtons. nearly all tiiajur sectors ol the VS. Sum i BWUIWI "1 1 Jlt'r. llnnwh ril 1 Jtlnr tthfljlfl 104 Buanf uf Cowman ufllw federal Reserve Svstcm 13 IT t-Ivllinn inifTH[iliivni«<! ralr Tli?S-;i«l(l Ift. l^hflF Ifirre fifiTIH-ifwUniL nilt, - ill HIM II J.I 11 i i : i.i •: HWft 'i M •!. lli|»|<li J..r,i .i H v H, l I^ .l I .1,1.,- 'pl.Ji-. I I ..inn I'.in-,,,i ni I fan Virtually all niajnr Industries have mpeiieiKfti rnn sidnahlc job lows rnonlly Mrtoidafforin£ cmiploy- In Jrivotunliiry pnfidmt1 work h»!s bi'pri widesprrad mpiil has lallpn nearly 50(1,00(1 aver UIL> \wil ihri-e BCfOss itidn.slik's mmillis ,tiid h;is c1r(ip|icrl innn* than I mlJIhau shirr Thn? labor foite parti (i|Mliun talt1, whitli ty pit idly IJ n'i'i- 2007. Layofls in lurck 1i,iN\|iniiLHi<m and frll* during periods ol labor marM WCftfclJWS. \VAS whnip.ialp trade, whlrh nrp closely relaicd |o activity • ii decreased! ufble (figure ISJ, il-i- ir. MiiLii lining suTltjr. \hw.'. a tfoiilnr |j,iiiL-in. I In- |jL'ijn damped !toiuf\v!iaL by (he a de< Eiitf in i/omirmiiuii etnpluytHfiii, wlkicl] btgau In niirihploviTirnl in^nrmKT bpiwlilv whirb nuiy have M ii>y rl . y * ' 2 'i t i i i \ i ) ' l n r h ii' a -H s I a In ii n ]f> > s ped I< u IM p I . iai pari IMS-aUSE1 thih utigtj . • • • M IH M -(H . I ' I . ,L » M jn P i C in I i L s i o | m iJ e i'. i W i p ff v t h ke s R i-M M w . l iu h i w .'J u lu u H h s l f t i o av c e u n q ( t 3 h n i u T ( W L li i u s H f ik iimrr i:• i i'H11 •• liy vsriikriHU in nunri^hltjiilinl iiif> for work.1 In rttklitioiu the reduction in liuiisp- In IhcMfrtirp fiiculm iiins«-njr. job ILKSI-JI hnvr IIIIUJMI holil wtsiltti O>IT dif past fo[ipt!j nf yi'anj fnav haw (id al lelail i]sla!>lijitmiciili, piovidpii ol lii^ncidl servic- pminpifd s»mf Individuals wht* would havp olhi'rwisc es, and j>n)fr',slt)n^l IUILJ bn^in^s ^prxirc?; firms, .ill t>f iliufijj^d mil tjf the laljtir Forte In reiiMiiit In. JOKI il may km1 caused some who uusdd nu4 liavi1 cnlercd (lit1 whicb hsvi' bi'pn advecsety affected *ay the dwntum in labor forcf ii> do so. ttoiiuniicsfiiviiy, Anutit^Ult? i-xteplion lias bflttl Ettt cowlnuefl brhfc hiring by jirovidrrs of hpatih strvices. I'he inrrra^r in j whirh intrludtrst both wa^eis and brntMHs. po!t(pd moder ac:ru?is deitirj^rapbji. rduimliutiiil, p p p ^rniijiv hljawmy ZIHMI. ihc* hour in thr nunfanh blHtftcsssectW a mriisurt derivrd Mifjii iiged Z0 y>pai^ anri older was 'A perc^niage \yomts himi IIK' DotnjKfHaU&n <ia^ in thr IBGOMI htcante and above iis ^vpragp Ipvet In die \'m\r\\\ quarl^i oF ?007. proditd miuuiilb (NIPAI—luyo 3Vif {Jerieiil in in.tnuntil WWIfi (he rait* fi>r WQBJiTl a(*n1 JtS JfflSCS and nhlr;r WSS (t1 nns oi 2008. isiniilnr io thr iocream OVC^F thij pfpeed tug few years {llgorc Tii). slnnsr uaiemplayrnem rare.v Tur leeoitgLT!; and yuung chills sliowfd PV™ larfii'r ilHTfflws. Amnug (hn inrijnr , U'lHJrr ir^tsluliMi INUCICI] Hi June ^WJS. the truwgency CJiK'4ii rittJij! cunt '•ikiiii :.'.i"ii|^. untiii^Io^itii1]!) rales Fur lilacLs add I IfciMiifra havf rison s<invcLwh.it moro ilian ihisp ilnikil J.'S Wfflfe uf bt'iit-liLs IQ W*rit«94 W3HJ L-Kluniil iku-lr rt^'.uluii Ih-ii L< I Ns (IvpioiMy 21 j MM'1'fciJ. ]TI NUVI< niber, ltu> prug.ni m u;»i> 1 [uiwlnJ lor whiter, a dillerpnlial iiKu lypicafc ot jmrriods WIICH to pioMtlt1 itddllliiitiii bwi-liMi EO wiHhcni wli« tisJuiar lilt- pre viuii!J\ labor NiatkH condhtoiu weake^L Mor<>over. (he number •Vtflpbll l3wwlwiirH0C ItriWllii Ijn utldLLiLniitt Znvvi'In fir jll nt'wLiifccrN whrt ;irc working p.trl limr fni piniux^iLi rflllta iiulivlilLuKaiulii FIITIIUT Liw.irtsTiH I[I<HV-1[IUJL> hi IMBS Wftn hi.'li uiHiTiipNiviiiPfil ml^—ik-liripcl JS a lOM ii[wiit|iJr)ynn'n[ m|«> MaHMfr-^ -i'"i|i I hat includes iiuEividitals whust1 bOllfS uf 6 jjtu'eitf or abuvcK 'tliis exfunslnn. £ Wfl.1 as (lit uri^inal ELC hij1.?- lii'i'ii I'ut hark h\ llnHr i>tihpli I-VH-IS ;r, wo 11 ;^ iliir.'.- limgranr. UJI .u-hfiiuhi] lu fxpin- In Man Ii ^Kfl, but ihr Aiih-in .111 WtlQ w>iiil lidl-iirnc |ob% tuif :o*e tmnhie In Ibid IkVoi— l f i c rr iN . u JI n K 'r M v : a L n hf i l • l n fL i > l [ - n il ^ w > i M I n n i r i< -n iil a A w n il p E v if m M c tii n l < t i U n n n< m r L [p il l n F m r ( v Im <i i f L u g n li p l m ^n p - ln m y tiiis suaiL-d to nearly 8 iiiiilitni, mate linn 3 mHliuti rsieni t ranEwii&arLrjn hy iili |*J wwk 105 14 Mnnt'larv Polity Report la I ho Congress February ZUOB IB. rilHM^<- In luilirly rump,tvalbin Bad wages. 19HB-?O(]B 20, Private iKUUMlg '.lam. I905-J0OH \ ••' ill, ,J,I., .is ,1-1 ,> i ,1.1 ii -ns-i v r-aH-i_i.i ,.. .. , :..,tlM .«..i|iL.riVin- -'-I ...I.. .JIH 1,11 ,n,', I r,..l|.l-, llKWhllll Ijll^llH-M. •.! • I I, Jlnh". I M "nil' nil. "^ I i-i - f!ljl-ll|llll">ll i|* I LllMlhh !| i' I _ 1111' • 1 J • .i I • III' 4 I • • L"* L! V. l\l-l\ Hi.Liit.il* Mil HtVIH rf LI> r i AIM* quarlct; for 2008 as a whole, niuUNaniiEv Marls MaM 2H5.0IIU. the Inwpsl k'vel in mcie Ilian a diratk'. In all, The waj>e component of hourly rnnipensntinn also Ihe decline in residential triveslmenl. a^ measured in the luse iMoiltTiilely i« iiuTiiiniil tennii in [>()(}H. and IH'L^ILS*1 NIFA. subtracted ^ p^reutilagt point from [In? annual rrinsumer |)ilrc inllnlinn nvi'r the ye.ir ss ,i wiwlc was rate . i :; In GOT in lite -ji-rouJ lialf of 2I1IIH, ahnut low, nihrli ciflhegain in nominal wages wa.s i L- i. i -- u • I i^ niui'li ai in Iln* first half. The fmlliiT ilrup in IIDIKIIIJH in higlu'i mill wag{»s. Pen example, owi tin- Urn qiidF- stare and fi'«dfntisl bulfiling jiermlis in .faniiiiry >;iig- If rs ol' last year, 3\'tira^e hourly ^rnlngsh a measure ol g dr c a s g li o tl n ii i I l In h - o u rl s ia in n g g e w i i n ll c "- o - n i1 ti C n D ue C l o in e e x a W rly a 2 s U u 0 h ft slantial iini.i;-. •.•..IL'.I-S loi | • i• •- linn iind tiuiisupteivisijiv wdrk- i>n;, iiir ri'.sM1!! nfariy 4 ]MT( '•!!! In nunmi.il IflitAS- -and The furlhc-r conirtir.iion tn hou^lnR demand In tin' rest' Z |X*n.TtU afltf HCioililtlug I or ihc AS imhf price Weillld Inll'ul' 2IIDH imrlly reOwleil tin' lilraker |iii-|[iri' fur 111 i !!•,.'he,1.1 iiirnnie <1i!d wenllli. l'uti'iili.il llon^tiuv (PCE). However, Uet'ause of shir\i CUIIKICR.'I in houri m may aho havr lieen •Jclem'd liv concerns alraul (\w worked, rpal «virdg<? wpekl} Mrnings were up jnM likelihood of additional decline in Iicitise prices and I potceW. Mormver, fnrnwny worki'rs. rpj| weekly fears of buying into a falling market. And whIEe tndivld iHniiiigsarliially derlim'ri: hi jiiamilarliirmK n.il aver- itals who t|ijalillLT] lor lixed-j-al? i.oidExtniii^ iitort^agts age «L'i-klv ('.irniriRs Ml l pccoBi IHM year, while in mn Jlili' in lake advantage n! hktnrtt-allv low tuWBi retail -.!-uli ihi- ni'-.iMiii' ol teal v.--i-klv enmings Cell rates, many jiuic'iiUfll hoiiH'Iniyrn witli Lilnnishnl cn-rtii niofp Ihan 1 percenl. lii-ynries m who were in.. position to make only small down iravJiieiiii lbuntl II diflicull i« obtain loans, In lite market foi new 5hi|>lc-fiui1lly llonwi, sales Tell nearly The Household Sector ;t() pewea (not i\ an annual rate) tieln'cen the winut iind I'.ninii qunrlers. which lumi^lic Ihe toltil ik^liin' in Rutitlai/tillmrsiiiiriK mill Housing Finance '• ill-'. Mia •• Mi' ' ()i-.ll Slut .•'(ill... In 711 jii-mill. 1 llr !>li|i)»gf in salu.i has t-un(inunl lu hamjier IJiiildtTi' IkniNuigiii'iiviiy rt:nii^inrrl rm n iitt-fi tlcAviuviirti irr-ml cITorls to fpin ronlml of Ihelr inveniiMiei, Akhonf|li in i he w-i .mil half of 2008. Home yrtn ami prkes lite Mock of unsold new homes fell considerably Eti die slumped furlher, and Imnii'biiilili'ts nindnued la cui* second kill of :-'(.nK. it illd not fall its tmich gs saltui; •ail new conslrucliun in rcspouso lo vmik denvand and Ilius, the- iiKiniIK' «i[i|ily of unsold new hoints con I'k'vaielt I•:i• l.li'i;--. ill iin--.i:lii lliw lloliles ill iln- illlj-lr- liniicll la MOVfi up, rpaLliitifi a level riL^ilv three Ilirle^ family widf. nt'iv unin v/vrc ilanoii al an average that iL-rorilnl during Hie first li.ilfr.r llu> ilrr.iiti' In ihr1 annual talgefjiW 'I6I).I)OO DflilS tn Hie I mirth quarter marki't for existing single-family homes, the dcdlne Hi' MiiriK iniiijhtv ?S |n'reeni below [he ([BBiWrly high In sales In recent quarters has been less pronouitrrd reached In mid -201)5 (ligure 20}. .Sta^t^ In I lie null M than for new homes, hut this illualinn could reflect the family want avemKeii jusi iiKI.HIMi units m i ..• lounh lad thai Ihtse safe lifiuies imliidf some HftrtSKJUOftS 106 tktanl uf Governors of the f'ctkmi fiesenr System IS Hhi.l Ni>n I Ip den «w IINI'IFM', hiii<r MIPI^HI WtO BUSK tj-l. j[ i urn' vrm rnilui Tlr 1 V |na HN^M ffll tain |im tBS** iiflnwi ii*nrnpni'h I I IWA ir*W (too** ^III.I-IHI I* fa OfTh* nl PMMJ HuwiriH I nirriiil'-- Uvntl^liil dMi -.nrlmbu jMfiUi*' k*inwnWrth rn<l-, ft* SMVfuw SliuMi uabrx nllKB Nil iiiui'sh'FitjNt uiin mrawawn IIH EIF ;FH•.iii|->hi.iil nm ii: lr...i.i,i Clk«KV' l"^i»i'i I-** V*»IM- IJU AUMHIW Mi in- UM CIJIJ HH iiMiiriih ml WtMd HIimiflN NwnMll SOCM i hiytrnl Mr** Yifk ^iriti Uli*j«i S*i.lTrtn.iiwn HIH>IV.Kliiwmii E)C Mil h .T.I) IJrixai^t IMi'iUliCI liEHIR till |»|ini> *bhilcUF |UllllN> I ?rt| | •' >; ' !i" II1 I uiiflfVrfijmiriMrf-, IF (itviaten •>[ I'lnr Sim^Kiin •ntt tt foe in run * if hwti> "M) d>) •• n r^ '•''h "• * 1|n n wctowt (.jiw\t^- ius PWAJ ti^li-ral rUcktqj I H«HLL< AXXIK^V. JIK '.if Kiihprlti*'. Inn . <'. i • i > ii. .in I miiihri' iiMrfii.>' in' pmih> .H Slt^l ,lM>-NM1tl'> ( IUI ."iHi* M»Tr«lflJl«' I kilmi^. I (l I ' A ^ im I involving Cweclosed homee ami utfoff ilsttwwd (jr«ti* delinqncnl Uhe laivsl available dala), • As of Decunibur I'nilS, which ft'iwl in wll ;u Invivily {li^nuiiinfl jM'ir^. 2008, ^Vi pcrrntl of [irime nrotigflgcs wfjn? seriously t'xisuriK hoiuv wh'.s tutiJcil tht1 yuar ITHJI^ llun 3D ptT- d^llnquunl murh low^r lhan iin* lrvel iifM'Mtnr1, ih-iin t^itl Iwlow iho hi^hs of a F*w >CHTS earlier. queuev Tor nonpiiine loans. Lutl still dltnosl (wicu Itnr lEcmse pritps Ml sharply in ilu> sotund half uf 2008, level tifa year i^rlh-r (fi^urt122j, wilh llu- laieii 1^-inoitlli icailiiij^i in inajcu nalioji- KfjivclOSUiWt also have risen apprmallly ttllate- wide indexes showing prices oToxIsiIng hom^is tiown Enrtiirc^ .ivittLifitn cliii^i suggr*! thai nmrr FII^IO 2 inilUnti |jt*!wmi!) prrcfni and 19 |it*rtufii tligiuri' 21)j Dm? Mirli In • nii«-->- entered (he Fon.'i1tMiure prut'UB? in 2008, ctifli- infiflsiirp, rlic I {kinPrrftirmann1 ri'itr-n salt* price indfx. IKircd will) forrtlosurc ElflftS Of itt million lo 'iW)l and Ji'Ii 11 pijr«*n[ over (IK1 12 munEtts fniltr;g in Deccni- I niiliinn or h-%1. in Rich • • I" n31•_= prcrwiinR FOLir years. As bprnnd siotwi tU pf Kent IKMOW HS prak in early 2ttUfi witJi delinquencies, decMriing huithf pttMS liave bren a Dtiliiti's in homo prirra ]ia\'tj lxjen especially sleep In hoy rfinrrkhuior it> iln1 rise kit fDr^rloiiirps. Ai (he saov w A h riz ic o h n h a a , d C l P ^ K lif jH ur M n 'J id p . n m hlo l 3 s. i r { m |H iii r » a n n i f ; l I N lie e v l. a ir d ^ a r . t ti T I h H* ic SE tt * 'a s s t f a ts l t^ \t , \ l in im k v o . u h s v f in p g ri r l ^ o s rv h ^E y u m w r r r x r ^ a s h t a n v g e ih e r x a im cu o rh ih a r i r c d o f t h h e e d a e v c ily line Imriii* ffrict'i euriler in Ihp ttPLSde. liHve ^ihrtprally si'i'n dJscminKHl propi'rtics on Llie market and dins ex^nlng Ihr hfgcsi increases in ddincnU'itfy rates dmt forw lo downward pii'ssutp on fxin.'S of udieiwist? conipatabh1 -.in*- ;n FLMJI1, iiiiii.in-ij fiv lenders. i|.'!'. 'I hatiJEL£. Ij-ndt'irJi and pnhlk policy makors The drop in liomu pric*?* ln:o[iifilnjrinfl la worsen- Iwve laktji vtupi io iinnJ Ilif nmnh^l oFavoitlahlf rnre- ing jjayiwni prablnms among mnrrgngc borrowers. rinsnres hv 511 \ i • i:; dKUUSBK Mid putting oi |.>l.!> •• iJJilit' lirtineowrtejs \w/e cofii-tl with )<JI> pio^ranti MH'U as I lopi- For HDIIKWIH^. established lilt1 cVfrils Ity ri^ftnsiu \\w IlioirhoiUPS by Ihe trrlrraf Hoitsin^ .AUn>inisuaN(>n (FHAV and extra eqully or by selling, I hi.1 properties, In mi envJmnni[jni of generally weak housing , tin*(cmsitl^HiblrdrflirH^ lo housing nifidty, demand, Iklling bOme prtMS, lighter luinliug slacntanls, -iI• •• *'_-. wiih iiti'.i11•:• i- lifiilin;^ M;HH!.H(K meandiat wan aivcl ristDRforwIosurps. tola) liousnhold niort^f»f (jftlir j>tht]C h.ians jir(j roan? dillit idi Lu rt'liiiiini e. dud wt-Hk rippi'isrs [(j havi.1 ]Ki\i['tl ^n milii^ln fbditM in 2iK)8—tht housing cj^iiiand kis tiwd(L ?.f 11 • i L- -. fhthii.il> As a tdti tirsi in (he hisidrv ol flu1 series, which stftfltilit hark to scqu^nte, liorroweri have intredslnyly fa I fen l>eliiiriil in ihnir moodily ohll^MoDt^ Indeefi. ii> Movpnihrr mnn^-igr i-- rErflnnl as "•clmn.lv iktErmnrrn l|' llic loin-mntr is 2008. 25 percent of Etubprime inon^agt% were seriously or moit (tdiiml in payinc-iir-^ or Mi* prtfttfty ft FB1 Bt D!> ih| U* 107 1G MQHHBIV Policy Kepnti m ilu? CoflgtteS February fin I'P die ltt.rattet In secondary mortgage markets. smiFiii/ii- ^5 well as dti Incrmsrd ^ ti by banks lo lion nl' iniirig^s l>y FatmM? Mdt'^ul I'rctlfLie Mar Ims f41 Inn in rprertl mODlK^, and grim Kstmrkri' of fiSI: IKK -krd MIlS has liJielyjusl dUijjatPil maturing isHni.s MI 11i(ii tewtfi Mltfitaftdfrg liavr only inclird up L'nnsumer Spending and llonsfllialff Finance jsinrp- rin- ^iL B-•- Issuance oJfGiRfllt M;io KPHVUQ •"i.n.'ho'l by I HAUr;ii^hast'onlinutd lo be Mronji. EJLII Consume sp^tisiin^ ticlJ up re^soiuljly \vt-11 iii J]KJ Lusl (lie non-agrircy MHS market rental its closed. TIJP FH A part •••I 1'OtlH-. MCPWCVIM, s|h?tidj|]^ slackened iKiiiLtahly has offcreri an -AUPXWIWP. wwc? nf mortgage Financ- toward [he omiL of (hn swund quarter de^fijlo lln] lioosl ing I p ii Mjiii'.' jn • ia|n~i iiii.- and near-prime bonuwery HMU ta huuH-oold ltir»inr frum iJn? ^ax reiuiu-s auiltorjrtxl liy SLti/li k'Nitiug fiiCi (licked H|J liHtJy: slill. it lifts replaced JSI. I r mujhiir SSmulllS Arf n| i^HiS ,in,t CQRSQQlif out- oniy parr of |hr rodurrlnn in crprilt from nthor SOIUTPS, lays titicri'd Ihc st'Ltmd ha! f of I hi1 year on a downward laigely liffjaiist1 of ihc l-'UA's ^laiivfEy strid ifiulio^ trajerlory. Agaiittt a iKickdrup of s3?abie jolt losw*. \i.miL[iv. .mil higher tush. drrreiisrs in hoiwchnlit nt*l wnrlJi. nml dfflirultlrs In frm-n'M ralr-s on 30-ycsir i\xn\ mlt1 rrpnl'nmiiinR obtaining •: rwlii. real PCI: tint linwl i\ an JHIIII;II rate murtgagfi have la Urn DIKIUI 1{KI t«isls puinls. un rwi. of more than Sl-i pfinjnl in OIL- secund IMIF uf'^JUS Since llM1 NnvtrmhtT 2it ;nininiO( t'ltirni of fhp Fcvlrral (l^urt124). Ht'serve's program to purclmsf MBS issued by ihi? Tli<j ifccPIVJITIIiikTi til ruusi]iiifr ^pE'udin^ rclVi'lPtl !IE>[1I hiiuftiiip f.iSts rind CJIUIIL1 Mae, diid Hiey cuiii'iillv sland a >\uwi piillbjick ifi pwxhiUtfv gf]E*joi|i ami a Himki-il j*l J5 (ffrcrnl {('Ignrc Ti) However, hiTi?ifMr atesf or , Oifll^s IV>r rujncoiifnmung juEiibo lix<^d-mti' loans havi1 Eloi'ilm.^ n[?w light nuHcr Vtifk&des (rarsr sport ulililv vv.httlt1^. by k*ss III.IEI fliu^r fm tunloiminjj; iiH3rij<Hjj;PV tit rs?t"t?Hf ^nii pickup [meIK) WBPP [*spriiatly h«iF(! hit. Indmi, E*I infih|liKr whirti tias r;iusrt( tlkt> rxlranniiiiiaiily uidc1 un iinmjipJ mM1 ufjusl EOU million uutLs, siili's of lij*ln ^prend brtween Iht- (wo rdlrs to wideti turllier/ Tlie vt?lii<:lt:i hi tin.' louiili E|U4iJ-lut WCIP IIUflj3v 4 itiilMon hlph ipvel of thtssprefld ifiierrs, in pan. tin? rf»OKffl of units below ihe alivady rc^hieed jiart* during tin- Mrsi fintE Moiling senihiL/Jirjoii m.irkrl-, rnrjumfii) BJO(tg3lgR5 nine moud>^ of dipvear: tliev liLll fun her m January ^nJU despite nclalivi:lv low u,nsi>iiin.1 pilce^ and a SUIJ- I. I. iui|lill|||1ri[; l|li:r.-J'.iyli -. .if T l hi I^I- L-h >llilir |II. injfi I..i".i- I rr • ."ill sfanflai liirf[*asij in ^lr-s im I'liUvi-i in ft-ircnT mauth^, Pili1 \S.iiH ,inrl ItrrWlr1 Mrtr ilwy muM rv ^(NJv,! II<PI I In risk [h 11 »rl n Ri-h] cJLspUKdble perMiml Lui unit1 {DPI) - diat is, ipii'Fi^o^f wiiPr JPI HO (wffein hoan In ^Ttfur raiio. -aiii rh^^ • £f$i 1 PMtflJ BWC0*ftpffnBtel(WlHlliiE, Hif ft.Kif(iNiHhg lafliiljiiill for aJLer-iax ituoitie ad]u^!t>d for inflation—rusu juii a lim inoiieug*: uii a ^ipylu-ramllv liymc In lk- iOMliymjtis Uriik'il Hi jir-rn ill in '^KlS. SofflP uf llir wi.ikni-ss ih rral UPE 5Wn l^'fii'cully ^ijejal ffiThf jjrrjlpp r>fSJ|/.Ot>0fiF reflet led wAftes* In H^rpgatt wu^e aitd Kiliiry looomd. m 11 sn• •M'-.-il rl yi' • ol •i n oiMcirmEriK whirh foil sii«inlv in mil lonu As noicd raffift linmlv Sl^'rlr"IL .111V I'. tea Willi i/l-illvi'ly tiiuiH wiigii^ puiik'd ;i •toliiL jntrea^e in md k'rnis liiil yiiar, hut llip effeel ol llih increase on aggregate wages ;ind HI m*mn,,r,.mini apta CftftTBP in MM I P 11 llllh •Vi., Un i],ir,i rttikpi iFP»i«ikl> NIHI I- in IH niilff^M un ;•• PJ "il i umnvrcp. Fiumu ot Fmnnmlr A IM 108 Banttf ofGovenutrs oftlir Federal ffa&tVP System 17 salaries was nutwpjfthe.d by ilw iwgativp nffpris or ihe , Ci eoi]tnj{:[iuii jji firipluyriteiic iind ihf decrease in lujunj woikad bv itosa whorctttorfjohs, Apart from trawlfe payments, moil types ufnonwuge income perlonTtiL'd poorly flS '.-.' •• :••..••.in.1.: :m R .:< i •: ,i| i1 i i i= •.• .-.:.:••. milafliF-liLX income wasfssenlially unchanged lasl JfKHfi conipaiud with ail 4VL'i<ige iutrcasi1 ol ncaily 2 percpiil riuFlu^ fhe jiinreduig tivr voars^ In mhliiHiii 4c> Hn: VffialuieSS in hii'time. COBSUJiKJ .|/i. miiii!1' tns bwB restrafned in Fpcenl QjBSttw hy a ?tzablc tlii'n.'[L5it in tiouiihliut(l nii wurili {fi^tirc 25J, Thh source ol' iptfraiul on sptMidii>g likely roll eels nol onEy ilu- mri:.r rrronl clrups in rqnity unti hi HIM- prices *i — * — but also EIHJ laggL^J fftttfc of thf Appnjcial>kj ilt'i-lin^ in i- *-t -i ni i i i-i i i Wtallh rtuHoM HMR and ihe firsi balfof 2S0a Vho fffibs IMS >IWf IBW ,-IJJJI 'inj I .-|j|>!. *M17 XH3 !j| wt'iihhr a]t>ngwi(l] heighkLncHl conr^m^ alioul Hie prosptTls Jbr jinhs ami inronir, hflppd (iii^h <:onsinui3r hienlifwnt lo very low levels (fi^urr 26). Thrse lotlors also ronnibuiiMJ \o a imricttiMi:1 upturn in ilu? pi'i^onal 'vivinj.^ n-Hr\ wliiiili msp in cirarly 3 prrnur in iln- foualli (|uasi*T uFSOOS uflei lluctUttUng be£nreen tuntl I pw n"iil Inr iiio>;j nl Mir jM'L'iml EfOCC i-H^.' (SifltJiL 21). Ntulrhuflgdgr toiisumtT Jihl>l u-titsLanding appt'iiri iLiiJ suiiif miijur prtivulcrs tjf dlfsc \oiun '/Kited ttit- to have fallen, nn net in lh**5pcoiid half i>l' 20EW aflff having jurrrtised ul »ti Hiiniml mtr of 4 percent in (he I'HN ollhe lifj.liicitin^ <A kinjiup siuiKJiiids imd I-.THIS first lull lh;ii< tjl' [lit1 iiin|i in Iiorruwirtg wai lik-'l1- "In- im iluubl n-lUvls ]ei]dijrsr LuiiLCTiii Abatii tlie rrtdit la weaker demand For toans, hui ilic available ividetKfi • in >lii\ oftWttSfthote, trtdewt ilw* ppfftirmanri1 QfflOn- 111" Mi^gcsh ihiil lt;nrli'n (igliinu'tl die ripply &igniji- iiimer tfr,jni Im^ tunlimiu'tl It) wurscri in n^uni munlhs. Diftily. btdeed, resiijis Etodi the Sanint loan OWcaf o\\w\i Levvifiarkly ili.milwi ol ninrt&Hgcs Delfcrajwncy •: • | _> 11 •> Survey rdcittud in October 2008 and Jajiuary rdtrs for most typia of conaunn'r lending trt'dii tards, 2GD!) levealetl iStai niany b^nks lighltMH.il slajidard^ HJUJ auln loam, and nonievolving luan^—rosp si^nifit ajtlly. KTIUS fur cnn^uitier Iniii^. arllotis lliat Inrluded lowrr- un lift, over dip rours^of^tHWi, ami mos) such ral^ iujj tJrtiit liiijji.s mi fXisJUjgctLtlil cart! aixuiiuiv Ltrnl- now M.HHI ai ur ihan IIK- krtls seen during itn- /mi! ri3) p.vtinri jjignrr j*H>. Hfiu^hnLrt hnnkni|iti y j-iii*-s also J sharply In 'A\iQ&. h io-ificunw ratio. 1SS5 2008 FtcwiLaJtaytagair, L^flB jfiNM y V VJ/ \ - 13 A- 1 KM •I "V, y _4 1 i ' 1 1 1 1 1 il ma • toil UK- atL* in -iij.mifls nl E«n nug:, HX>a:Q3 1 1 ...III' • • • • I t i i 1 , ... 1 1 1 1 law auu asj< sum inrrim • rTh h| 1 Mrt1f ••• ~. v. "••••' 1' n",1^',',,, III.'. i. ll•. IN Mil fll ;:••, ":,I;M: i M i P i' i lf • : ,l i ' j. i 'n ilM '' T [ U L W ^ W iT M K 1 I 4'vlf• n i.i « u d i,.- l ji m >i z im iraa i ^ . u i luloiL 109 IH Mnni'lirv Pol'rry !•'• •,.!n • lu ilu> Congress Frtimary MHI9 Ddlii[|u<°Eicy 199LI 2008 The relreiulnnenl in invrsmiciii rcllerted Iwrh a 4lwp (tro)i tn out lily h on ei|ui|inieat and saftWBm il-vi'M and a sharp clLvt'itTitliuii in spending on itonn-sidtnlial canSMcRaa afiet H'ft years nfmhinl fiains. Invminwtii (Lt'iMiind Lj|i^iirs In h.ivf hiTn ih-prr.sMfl hy thf dnwn Him in sales, pmducttnn. nnd prndtnhililv BS well m hy (lie ralurrd Dvuilo!i(li(v and liiglm rial ulcn-ilii from xtaaSS&t niitikeu. banks ami itrher lendeis Real spcmlln^ liir CKS fell at annual i.iii••> ••! Vh jii-itf in in lilt- iliird quarlei -«»l 2X pfitenl iit 11n• fuuiih t|itann-. liuslness nullays on iiiomr vchlf Ira. uhiiii hait bDeo sharply in the fin! half of iln\Year. i-oniiiiufd in [ilungi- in HH'-WTODII IBSII. Dinlays for oilier major tuinuonwil:> Of I .(t S also recordeii stable itedines. Real inwsinifiit in informatioii technology equipment—^whlr h had risen ninderalely In I he lirsl iJHf to Ilin |wrvoi!l ul'luiim 11U (&t} J w | liulf uf lla* year I'd! JI a Wh pereea annual rale, un fcinn p f^M.jl riiMin'l,*1 [itUiiiu.Nt. r'.h.i "' ]• "MI i ii" it fe ayt'riif;p, in iln' swnint hall'in business ilfraani) for n, soflwEirc. and •. UII:ISILII:H IIEIOII1. equipment d jipfinTiably. Real sprluting on t?quipn,L>nl oilier Thf [HilHitirk in r[ju^iinit'rrriJ<tit alw likrly r Iliau information Itxhnulo^y and InuLsponalion, which ill parl. (he Hi Hit1 nil If rs in MM' ru-iikfi lor a srairillrs. Until [tip Sol half of 2ITO8. a substantial frai- Lion orcomtmin nedil Iiad Ut5tn i'uiiiicd witli AJ1S. hoi jplncc ihc ih]rd quarter, i.vsuannf olcrLiJit cartL aLJIonio- 29, Change in re.il KUnfMeB Mini Investrmmt, Ijilir. ^nJ SILliJfill luiiTl ADS lids slmvn] lt>it Iritklc;. As nolrd earltPr. lu fat ihialp irupvvfil Issttaiwr uf t o mid sniilll hiliin<.JK> ABS urrd llnh ^upp anivlry, ihe Federal Reserve announrec) in Novemlwf ... pluns lor Itk1 Term Ajst'l-ESacked Siturllles LOLIII I'ndl ity, vi-lkjcik will ijrgin opnalioiii io I lie coining we'efcs,' Sjirf.ids nn AAA-ratfil AF1S rnse through most of lasl I JI vtsr Inn havf rltcliiii.il hti/Iv, n'pwlnlly inaiilici|)Blian -If of Ihp D|>piiioR at Ihr 1AI.K V:_-,.in-.! (liib backdrop, IIHITI-M mil's on auto I jipnerally niw SOIIICWIIBI during I hi- sreoiirt hull1 of itIIB. and those un iniisl odipr types of rausutiK'r loam; wen liiiii' deoBed, teptt?«syiisiamjai iteauase in rates nn iniii|{aralili'-iiiaiuriiy ircuMiry scrnrilii-i, Milnii^'ii SUMIK nmsmlHT Entered r'11'"' appp^r 10 Iliivo liill™ MigWIy inearlv ZUIIU. their sp/eails In Treaiury rates remain qullu elrvuk'd. IJIJI Lli fl i Tin- Btisini-ss Scrim- Fixed InwumeiH • i ATltr having potted HMD gains in the tirsl halfuf 21)08. nwi tnKfnfiSfi fiKod Invcstmoni erigcrl chiwn in Iht1 Ihird ; quant'i' .mil fell sharply in il«> iuiinli (|uarti>r iiipuir iiil. 8DZ BOOT TOH ::l. iwh tiijuigitii'Hl nriB,bvh uf CttnfpiErVn lmU <HU>HHIIll 7. n..[ CHMmeti UtHMH erf liommur AmKitu 110 Board ofCtnvmors of tin- Feitenil Reserve System 19 had been moving essentially sideways slncr the ••nd ( li^ngo In npai or ZOOS, held up iliniugli ih« Ihtrd quarter. However. II li'll ;li iiti :IIIIUI,]I IJII' 4<l .IIHIIII ZO ]>i i'-eiii In llui fount) ijuantt. .in: I lip slow parr of orders lately, along with ilif ilownlKiii lone in recent snfrejif of trclMK curitli- liinH, | :•>. 111 furlhrr ili'di rips in lllis lim.icl category I if III spending in early 2009, (hi ncl. real outlays lor noutesiilenlial raii'ilrm•ilon pr-.iMi a small inciease in Ik*second liatl"of 3003 I Imvevcr, gains were conrenlrateri In energy-trlalr u 1 ',1'ilots- t!tilling and mining Mtutluiw. uelmlmin II refineries, and iransmissinnand distribution Idiillllfi— iinil liktlv reflected liic arila run u)i 111 RK pita ill rniife oil. Outside rhi. menycelMaJ SMWSi *|>c»rlii!F, liitm-i! ikmn in the second hulf ofhisl year av cons true I inn (il'uflki- Imikliup lofiened and -i|jiTiriiiig un nun - • ••• i i ••-,...- me >' un i"'. Lkn-.ui«(i Nuramtt AaiJ^itt. ofrirf r.ommrrrclal hullttlnRS (a category llinl Includes retail, wliultsalc. .mil iunii' ivari'liuiisi' \fHHt) fell starplv- Thr derlliw wn\ relawrl lo Ihr rise in ratSBcj Corporate Pipits awrf Business Finance mil's over llw pasl few i|unrlcrs, which was driven, in pan liy (hp woahening in a^rirgalr (iiilpul ami ()|j(-ralmt> OrniOfft perabattB BjrSftP ?00 firms Ml an nuploynicnl Inaddillon. icccnl reports from bank Estimated u perceai in 2uu». QBseswfiBiBspBdidty Ifiidinn [iIIiti-is su^iesi dial financing Cor nsw pronnuiirpd for firi3nrl.il Amis In ilw naDfljaodflJ sec i-ai»inicilnn praji'm has ln-i-miir urn muir dlfnrnlt In [inns oilier tlmii uli ailil R3^ i:umpHili» wH over I In- rfmnr nl' ?(K1K .imL drrlinrd n Lhe Immh qti»mr. In addition, in llghi ol' Lhc drtorlurriifnn in ihc 4:cotinmy, analysT^ ^i•_;• ii.. n ii- markiMi down Us<?ir projpcllorw fur «imJtigfi tn rifiO^. Imvnlory Investment llii' <;t3r|Hjrjtf Loud niarlu1!. (ttc i 'ri;- ':\ il I iri.u !•. of liiu ^{'iniuitlLC I ni'l-.' .i[i>- OVQf IInr \tehl fi. ami Ijuntk loam—slowed ycjir has IHJTU IIIP |ironi|)i nasjwnsii of poSneDts to the of :'<»UH {^lu« S|Jr The stowing in tinnl Dili's. \UT much of ^CHIH, IJK1 production ( only a rtiluLi»(i di^irful aEfjiislrm?nr^ irsnllpd in a rapttl p^cr of invi'iiluo,- liqui- . (o borrow ami Urn-si In rrapoi&p (r> iho ilalion and wt're suffirieni lo prevent the en^rprncc of worspniEig i^oiwiniir oiirtonk hui also a redurrd will v. r<ts^pn';i![ sjqdt jniluL.tui i ^ jfijjuri.1 ^U>. In Hit1 UiuiIJi ijij>rieu ul fluential Itmlefe (i> piuvide Cumlii^j loi risky t|uaii{Lr, however. Ilir preripitm^ ctmji in hn.i! <h.'ui;in.l proj*->r[s In llif rnqmralc1 bnnd ttftifc&L, ihsiLinrr of It'll many firms liulilfng invenlofies In cxnss of IUM 1 inviiiMnitni-gradv se^uritits by i levels—a vlTO expressed by rmpniMti'nts In a varter>' solid rhrooglioitl I he fstf\ In rontrasi. s of lsusirRl5s surveyfi ill Ihe lum of Ihe ycur. Accordingly. isbiiaiicy has hppn sranl In Twain niDnihs. Al'ltr moving fivaitihlc rtala ^iiggc^i rhai lirodnrw^ conriiuied to paw up in iIn? llr\i half of ihp ypar, lliu unsi of toii^i'i-U'im liiiik output In January 2iWX iiiisiitinj* Ttiit. fui lliL'i J% iiHrrcsl ran-s un I mid invi^t The Invi'utory nverliaog at year-pud wns especially ment- <<nd BpectdaOve^iratteCBi^KJCTW ijomd^ sooftil aLuli.' in on1 NHinii vphii.le M^.NII. Aldiuuj^li iiuiuiiudki.1^ in rli[j E;ili. \V11i11*- coqioian1 honrj laif.s \vv\<- i htuhin;; slusllpll pnlElilriicin liming dls' ftiiulh 4|lli)i1ei'. Illl' t'ol- Tri'itsitry yields drop|xjd, jxisliin^ iirton^i raEP sprpad^t ljpstL in uli^ \~ii\i aulijinn pushed up dpaUbj\' Murlu, jurl on corporate bonds wef] above previous rer^Fff highs. the 'layV-sufiply of cars ;nif[ [ij^ht irurfcs vi^ired to neiiF- Thir iiLi"[ijiiM"i in %]mjtislv appfctnil to ikjrivc liunt btrlh 3y Iflts d;iys—well yhovt1 iurtiislry imriiv:- In respnihe, Iht autkipaJjuEi uf un incita^ in tU IbulKMiul J fiuijiur motor viJ}liL:lf [ii.iii'ii.ifiiirr'is il isl i tut I'd I'Vfil Kn^i'i nils rc'dnrtion in invrsioR1 u'illfus'in'ss kh lake ri^lf. tn the* In production In easly Z(3IJS. 'J'lieif toss shoulct help ease Nl paptr i I.M !^L. short-Evrni Imrrou-inp by (ht* pfpssnn1 on ilcah'n.' sdnks, ihnti^h furlhi!! pmgix^ss i nonfmanrlnl linns hns inrn^i^ifl ^incf \\MI ri'i]iiiir i iiiiliiiiii'il n--.li,:iiii i!ii prmliii liuh .I IEK'.IFI p uiininier die rise rpfiVtls ini^oriartdy *he r«ltjral in^ful ptckitp in sul^. or IHIIII. Ill 20 Monetary Policy Rcjxwl (O the Congress Fdinrary 2003 31, StlUf led EtifflKQtlAlK <>F »fi1 niiiliiriii^ for n 32, Ni?i perero-wgu HI (fewiitwii1 iBots lighicn^ Bumunt CofpwriB bulustMHt iOD:-!-03 riml lru.*nw*lngapnHtis Bncfsmmerdai and tadmUrtdi I a ID Mig^vnd nifdliiTii-sk'-1'! bvmtwr% HS3HJIW 1 1 ['onnlnft.il MINI • 11..'. • Itai* Ion St."lpL ffl. rill HH- Ml WR UW Bn-.i pdiwtvtfan It ftom Uic Iwiymy 201W Mijypj^lilt a?(Ht:[J-l NPS pfn'pinn^' K lit |xw rcrcBflP nt hurnlu K|iMiJnp! i 1 ^n fJaHfaih (H I*I hi n'i»*" IN wroi.1* 1[>n Dip p^cpftUgi' H^IHIMK mt i- l r i t n c n M s i . r I U n ' d s^ e e ii d i. , n r i a 3 le U s i o ls n y * h i h g a h v ly e r a a v te e d it^ p i- a i | l > e ar r a w tm ill d ] m 2f a l t b ii a r s i- is f r I i t W ifH rl l - s H . n n [ l N ' h a > w il ., r Nm ^ "i i t i H m i U n 'i ' m ii i rn i1 K . F a r i i n M n n i i\ B a h < r K w M L y - y u y n rt- n . ' H i I! f f li e ti n U , u . i u it *4 j ^«l ^ v I]»IK \ m hJi vi i H n J M w IIIU * I i ii•i•i•• • M t •' i . pohilsstitrt1 tate Nflvnniher, romprurd wlih nearly Swim • 200 baits |'-Miii-- in Seplembw and i Vkihi'i. I'IIU-V un ln\vcr-gfci[lr uonfinanf tel |jappr towr also clmpasptl In ilil Ljunlifyo I'nun financial lirrns dflmnraletl rccenl months, bul ^H'LJ sp? i'_i:Ls lu highly ralcd paper wd hrtti ol \\w year I lipf lRflrcgsKer alin ot irm i a ia ln n k e li I ? c v t a td k i > n d g b tn y b lil u M js o ln r i k ^ a s l e M .s J fx tu p J i a ir ir ir H h s 'r . l in Se|Hi]ntbct' debl la asi-la climlipx! funhcr, anJ ilit1 afy^rtfiaif rallo of liquid ^cib ru loial a&seii derliued tioiably. KjiEhigs ailU OilOhtr as Jiriils rcporii-eTly Umv dfl fXistfir^ iiin's fi nit noiijiaancial curpuralr bonds \m kv.[ ufr'n?dil. Marc* rwrnljy. hitwrvrr, Iriiir^ i« crnmncTt'inl f^tHi uj^radt^. anil the share o] cwporato and industrial Iwrruw^n have regislcrwl si^nincdiu d H-1 tir Mnw by MIMHK-'S fQCfQflMd lo a^Q doclSn^Sr InntddiUon, (he growth nfrrnnnir-Fiial rfal KLUP loan^- which LircDfi^n usod lo finance ranilrnr- [Lmi Ami \nm\ (IIVPIOJIUJLJII—sluVV^! Miltsljijliallv IJI Ide *i&ronrf half nTih^year Given tht>r ieierinratlnge co nunur uullmik. TigliEcr tretlii siaittlanls. am\ Ini*slnesse!i" dn'tsloii'i ID %rnli" hnrk new invrMmi'M, Imih C&l dnct CRL lending scum [Lkuly lo fall fuftiwr tn (Jit Jirsl pan ill lhip- •.•f|(iill. i:iH[kM. 1. 11 • •• 11 • • 11 -1L^ S F: \ P1: 11LI. I i. 1111 III!1 i:{ii|KUdlioh(i \vriiJ voiy scarce iJircmi^ti I flu second liult' uf '£CHJS, itnfl SC^JJIUMI {jfTiTin^1. (rtu turfing Knns in Itie eiiui^y sector) were also w«ak tfigurt^ 33). Kquily s—wlitcii ^ rcsiHi nf-shinc I >-| •>.!!•• II.IM--. i|f.M .Eir rlS*iO( ill l WJlh i. \\^\\- MiMHU'i1-)! mergers—anilijnn.il lo DLIII C \hv ujniijinnl eininn-ni cifprivak* ami publir KitiiLii , J ilrvE'l^ifiTiH'nt clue, in BIDS Ml ;I»I:> 20* 20W awe |jiirir LU Uit- •;'imip^iiun IJI a -iv larpe [Ht?rK^rS. Uciw- WiHJ.. Nil WP*B IMRMHH h <IK dUTbWDB IwiiVfnil vqnllV INUIHI^ lift' cvrr sharp rppurrhftNPS ^rr r ii-nalrni E"i hsvE- mntipralf1!! 'i',". .lui.iui, H in ,niiiin i .i p. ii. HI' natM M ii|iui\ pxtitni iiuni^i a I ML in r l monlhs. and anncmnrcnmnls ol Innurt' T !' if * iiH • K 1 i 1 r 1 p u m n i'. lw K ir t . |i n J n u , ni L n i d fl t u t ii t r i p if tJ Ir I L u im ui l P c^ r t ILirab K IT l 1 n *, t i^ " t r i P im lI v l i i n y |ir ; iv .. * - r . .. v nii . H i y ra^i-iiHiinird rncrg-i?is have slowed sl^ntEJ-rainly, HMv fMruwnuipi iiiui mm *• ..(Kin., i MA heraasp c f rhp wpa kt?r PC01 lamir au Elook A nd Li« liter SI I. i riipinuili FilulM/ul, lfW«MmiM 'A'lt'l m»i M^-JH ir i M •. I " .• foftm \>\ hraMWMMwCeepm; Nfliiinwi Vnuutf fniawf A»<jaKiioir. ...i VH'MMNK I un 112 Btard olGmrrnan elthi' FedfsnU Kexinv fewra 21 :!•! Delinquency raies, 4111 mmnierrtal tval Mian: loan*. 1: w If ral r« p||ii% rtiirl I»V|>HIU lili 1 r I9!!latffil H - 10 — II . •.••.II:- i—*•* .•• »-^ ' ii 1 ' i i _j L ' 1 i'. i •: i • i. IV, Mi'|,| gjo] sm'in " I. SMI I :.II Ir.-i H > 1 -1.... estimated thai Ihe ilplirl! for Fiscal 2(10!) iHi N iii m riE r y 1< M V a (b i l> * S »] U Hul . M «ii C ]tl> U ] t ^ u 1H ith IK 4 C J A E II ^I U lil A t, III i U lu II . M i ^. t , i ff n i a ih u i m n» ii wliuls- would luial muit' Itian %] Irilliim ginlei Ihi- 1non^iipr<iuikJ<iW''ini M tfttnUtfatold MMtlnu |inllrir-> In plnre .11 ilml time, s HM 1 ]twi nuiwnutiKY H fw ennjinwcmi BMtound G p figure Ihat excludes Ihe budgetary inipacl uf [he Amuri* i 1 ll il * W li m Ili i r t , I : H O r I i r B tj H us IU 1 U 41 IC R gC a BHI^IlltM 1* >lN' piltVffl (rf ln,nt>J[Jt IiltfrlV hil i'uNt4 |i|i|ii0]i'Kci r|vnW ran Hecovcfy anil KeinvesfnicnJ Ac[ Qf2O90< ^Ui^ unhrt *ii>»iiriK JninmL. ,\Mhhf (fp| [(imidrlNlll iMfct, flilrn^lt l'llkl<l> I,b1 llWlllllllKIA Pfderal n?ce.lpls Ml nearly 2 |iercenl in nominal i- I r'^i«ili.l.ni-.l rti-|.iii. ill r.uHl n ,nifl I. • i ILTIIIS In HSL-al ZI1US anil sloixl al 17't |HH[:HIII i>f ridiiii- C ki \ ^ II n C ii . I U li i i , W ;rra f i i | . i mjiH[iii<iLMi|uiikn. AitiMHKiiC^iiniJ iiH LN' limffimr PUI nil) CDP: I hey ,ii •' | • | =-•' • I fun her during the fust four niondis oriisciil 2(H)!J (figun- 3S), flic rlci lint' Ins S^ podnt Dclljiqiicucy fairs on C&l loans increased IK™ mn5l iiromiupirrd in i iir|uinti> (erei|)ts, whirli niiiicMhty in I he fourth quarter and delinquency' ;3lw have Fallen 31 double-digit rales as corporAle prolits on CRIi loans mse fmiliei, mainly tjemmt uf contjnu«l ii.n •• 'IMI[I[.MII and as firms have presumably adjusted P[Hd wenkeiiliig in t!w pi-rfomiaiife niroldetiilal .ind payment* lo lake advanlage. of tlw ! ninr. depreciation i HIIIJIM'II jiil cnn*anic:lit>n kmm (Hgurp 34). pruvi?<iun\ cuniained ni ike Hcununiic Stimulus Act. l-.jfrlutling ihe rebalts pmvided In rrmsl linTiseholds under die act, individual income lax recripis tone niud- t Sector 1'iaiHy in liwal 2IKJK, However, so far In fiscal 2U)y, Iudividiiid n'ceipls liavp been running below year- Federal Vmvrnmviii earlier leveli, likely Iwrausi1 i)f the weakness In nominal j>r-'FM)iiiiJ InCGTile ami rediifwl r'ijpil^l ^sins n^ili/iUEuru. Tile liefidl in ille leJeral nnili«l duilyel ii in llic [niilsi Kxdntling flpiHinial inniwriiuib. nuinnuil Witenl of a msssivi1 widening Mainly [PlliYlinglnt'dwclcra- outlays inrreasrrl X prrcrnl In lia-iil ittmi sfn>r huving lion in prononiir activily and (he pinvisions ef Ibe tro- UStnJtBl 3 percent in faca! 2(M7. Defense oullays lose nnmir Stimulus Ail of 2DI1R. the flctVtr row in 12 peiceul In 1isc.il i'liliKas the rnpld run-up In butlgel vl.-.j UUIicn In Bwal year 2008. nearly S3!K) billion liif^hor tlian ID fiscal 2UU7 ami equal to more dun wlikli im;,uw Ihjt lilt collie are recunbda s Ilicy occur, a thiv, of 3 |KTLL'III of minimal CnP. So far in fiscal 201IU. iln- rpf*,j|itt win IK rei'nnlpflin Funin1 yean 1"rpfliyi any ilLvirtmrisoii deni'h lias Increased saiatanlfety funlipi nnwly IIM1 iJwre% uf ffjully and die nrocmb frhm die fvenuwt %alr of IIK1 rtar«. In ('Ultra, ilw l'«i|>Kuinial Butl«« OtBa (COO) man ilerniLsenf unlhivN nndiT Ihe Vnjiihlnl \'.M'1 h'r-l II-I dH-u- MiUisjahm?, ml ill I imiu.il Intsis unit Illlu »•( IMIK iilillay^ iLS rln- Prugrdiil and Ihi- efl«ls of Ihe weak economy on re-v- • > |)ITM'IU v^llu* C'IKI • 'I.. i'i|iiilv QilllWWMitftfl dnill die • inn, enues and 'ijinnlinK. In [aniujy; I C jiiMjiiniilml t\dfJjteaKli mnkr ihBOil'}iifnsrcjiHli. ilwn« KIHIutTMT Illlg dnw ni r. i ,\\A\ In I linn, Wfll*l "V • - r; n 111 •;; n, llw 11, iiin dh< nnllwl IUIIIRPI tte.flrli lor ilhc lirM fmr ninnilB nl Iliral «m inliliil H III rhf MunlMy I rfitsury Slii 'ilt^. f*|i]Jly ]ilirrli;bwi iiimlii ilk' J5I1S lillllui: umk'i till' tBO Jippi.jv.cl. Ik. i.-.ii io ikui. dwirll would lAUt' airt rhe u s l i ' il mxtH on a cali-nnw tatn. I3EIIII 113 22 MuiiL'laty l'ulicy Ro|irin lo die Qmgiess February 2009 36. CtKUlRe In rual jyivmiinenl expend) mm. Huwever, JU far In fiscal 2009. revenues liave ten Ti ami tnvestmyni. ?0*>? -08 running significant^ Mow expttiefl tewll b«aUM if the -.• 'It in ,n i • ;il anil corporate incomes and die WakftcBi In • flab I sales Stales' inlllal IJI.IIIS to ,n!.l..v. iIn1 widening budget giip> huvr incbuki! CUB in ipetul ing on Hiiraliou and orlirr progmnti, liirine I'reews fini! (urlnuglis. and some lapping or rainy day funds; in torn- Ilk injiqnailers, Ititwever, the tlotninanl inlltienre on slate budget will be the infusion uf grjuls in-uitl umlei dir 2lMm li'ilciiil siimiihis parkage. which will help enshirai Jin the eStCU o( the iiononiic clounluin on slates' bud gels. Ai the local level, properly lax receipts continued ID be prnppEKl up in 20118 by the lagged effects of the ilraiiiritit increases in liuuse (KjCes uver the licsl lialf ul Ilie decade,"' Nevcrthi^less, the sharp fnll in henise prices I C I J am vm s») ans n nvpt Ihif pasl Iwo years is likely lo put sultslatilial dnwo- wani pressure on iucal revenues before long. Moreover, manv stale and local giowniuieiils will nml la si.'l aside authority over the iiast three years runthiual ID holster nuHiey iit ruining year* ID rebuild Ihi'ir einpluyee pen '*!!-!nEiI!LJ. inCVO&GS ill defense IUIKMII:.- ill ttCSXA years ftou finnts aftei tlie losses expprlenrcrl in 21X18 and to have town ^ulisi.inii.il not only for ope.raiimrs in Iraq and fund their ongoing nbllgallnns lo provide health rare to Aluhaiiiiijii bul aiso lui KtfvMes nu( itireclly ivlju-d then retired eniploytes. lo ihosr conflicts. Frdrial spending also rose sharply in lineal 2IKIR fw I^IMI-HI^ ils.H pnividt? Mijipurl lu luwer. ineraiiii hnnseho|[ls- Sn far in fora] 2II(I!1. lpdfr.il mil- The External Sector lays fur defense ami low-income support programs fmtl foniiunod to rise rapidly. Also, suending for Medicare in caUmsl to the firsi liulfiif ilKIS vfcea r»busl has picked up lately, and outlays For Social Sm-urily exports jnoviiled some oltsel lo Ihe wtllrass in doiucslii: tevi I n Itfii'd tty IIIP larRi' rnsl-oMivin); ndjitsloirm demand the external sector provided Intln- -.iifipon lo IIKH iotih place in January, As Im i In- j»n of H-CIIT.II uTimiiiiic activity in Ihe ipeciuJ half of lite veai. After spending I ha 1 is a dirccl coiilpoiii'nl or GUP. real federal [lEfT'lerLiliu^ III llie itiinl riujrli'i*. rtsd expurlsdeclined I'^l^fniHun's Furcorisumplion and gloss invpslrnctn sliar|ily In the found quaitet m ecOHOfllti aclivlly rote KI an annual rait til II) pttci'iii. on avpragi.1. in MM1 abroad contracted. Real ini|K)rls. which luul been derlin- mund hairuftdleiidiiryeiir 2003. nloslly tetBttK of iiiftemHei in ZOIIS. .ilso dit>p{ied lunsIcieEablv in the llu> siMhli' Increase In defense •.[wilding (lignre 3B). founli quarter, dragged down liy detehnming U.S. demand (ligiiie 37). The dtellni-. in trade Hows in late 2008 were wides|>rcad across major types of products State and Local Government and U.S. trading uartneis. In adriiiioii esouMs were depn«rd liy prndtii-tinu disnipilnns at I luring. j ^f n--jl i'Y|jt*ndiInii-s ij;l t:urmmi|]1iml anil ^IIIM Tile US, trade defkil rrarrowiil curisiclerilbly m the invi'slnifnl liy stair and local governments were mile end nf iilKIH. whirh largely relleelwl a sliarp dei/lliie in thanged.on ncl, in ilir second haifol 201)8alterpasiin^ die price uf iinuorled nil Tile iisile ilrfu il Vim S555 hi I D small incrpabp in ll«' liisl half. In pan ii'Hn'liiifi die lion ill an aiinunl rale in die fourth i)iiiirtrr of 20118. moontlng pressures on Ihc senor's budgets, snip and i>r alHiui 4 ilcrrem ill nominal GPP cora|Kired with lui>ii 1'inpiuvitii'iii (uu iM'fi)aboai nm \iiuf mliiiOte, a dflfitlr of 5 |ierc.ent of nominal C HI5 a year earlier wllile i • .ii construeliun .|:»TI.|III;:' lias i wnii;iih. muyed [figure .IS). The linancial posiliont ofniosl Malm with dip ejtcepUtws c>r Arizona, CatUuinb, Mif liigan. ;iml a fen 10. Tlw Ug iHii^een chjnwL^ In htmw \nkn jlul diiui^ til Fop- Ol&ers wen' fairly Mil ill at lip end nf SkSI ye.ir 2008." .|". : i\ ii'i ill:,' lik.'l1. naiirvl m ih.,rr. l..i ilnlvs in .I.IIIMII.I tiMt limns n» Hut annual Inrrnw* 111 mod pnifwily tux pyn^nm ,mi1 r*np»nv V3lut ikHniMn«m. thus. 1iKwav& In"mjrkvlprfce*for 11. S4au jciwi rffl fiw,>l y«B) pnl (W lunr .10 In ill bot rnw ftt.iiwv,iuy 1Krt iwr^lVirrii til [<<<'\ J 1 H 1.111 ^ Niilll wftl ATIM ll* ha. 114 tiaant afGofemofS fifth? Feder&i Ratten? Svstom 2.1 real iinjNHTJi HHIMXPBH3 nl JiiH>i[> ,411(1 ^fl. Prir«nroil smJnonfiifIcnmimdlim. arml <I-I *. 200Z-Q8 twin n» I I Imp*.. Illl — II 1,11 — 10 II • II I J I urn — 5 a an it i - 10 « ai Jr" - niii•'.n••i•!mll H ^ . i c lf m llt t i . f lE LIaivj llw T LL H IN F . c u itt l t l u || r n vr . f i j i l u f ip ri th h U '.|* r M I'lili- ••! I WM II I I. 14 /I MIKM) inl MJIIV fl^bra .uul ..Alt'l.K lUtiill^h l.lml.H* dMW hi nil d*< L'EUiiinrnJllv FCcwmtli flmwiu. i i hliqmQKMI MfHk-i-in11 IMITI p in wuriu nurkuis was extreme- Ey volatile in ^OftH. Afltr ruling 2CKP7 tf tlirmi SStt JKT band, thi- £|HII pricv uf Wtai Teas iiiiiTiiii'ilJak1 (WTJ} crude oil surged to intnc llwn SMS by mifi-JiiK •mi-i view Elml OJ^EC arlion5 will menliiiilly rediirc sinijily holh surprisingly rtitniM oil demand, e.spt'ctally from .Ill'i Mi'l '.H'lli.il ijl I •Ii-Ml.llhl '•, ill ri'U'lllli'.l In r} i • • JllpditlFII LTiLfimhift nirtikui etottofflios, ami coHUnaed rostfibfl mm, in nnar icrm supply (lifi'iff13&V Since tinid July the lni|KM pririw rosf rapidly In the Jim I all* of 2008, liii.irH'i:!! itinrk• s lumiuil anil ihe r«:••«•.irIeinjj. >UM\I ihnvn- liii [ ihv int'iraw wai rthvei>cil in I he .WTOIKI luilfr Thai iurri lit fflEibiit rroroimir nclivJly l^vc drafyjee) down pMIU'rn primarily rHlrrU'U llu1 sharp s'win|3 in till pffcfiS, oil ili'ticiin.I. Despiii1 »ltetsi|]ts by OPLiC u> reui in pro- 1)111 ii WAS also JMlllirr.: i d bv 3 u::l;kc<l stoiMUL1. in nun ttiiciidu, ilir ra|})d di(3p in demand si ltd itmcuriii aboul Oil ini|JH.iu piiirt: iiMlklllnii I'toill IIS ia|ilil \MCV in lln1 lilM fwEun1 j>m'i]h[i£:l% for ilnL glubaJ ("i"£}iif]iiiv ]IM! lo a rul Jiiilhsi"Ilic ycjr. HvcinOMludint'.oiL pliersnf imparliHl lapii- in nil prtws. Tlw *poi pfice ur w ri ftii UKJUI pKiik (li'iliMHl in ills fourth quariur ul'ZOOS, iliivi'ii by 75 pLiirjil frriiii I[«L |H*jk tn ntSkr S4H pn hsrri1! hi Jnnii bnlti ihc shnrp Hill 111 nun-oil rnliniiodiiy prirrc ni.l Mn- ur)r of thii yt?ar. i bir-tlJttjti i'utiiri^ \trkvb i'ur EBBtffi oil ..•..;,••... until' dollar I ha I ntuirri'il in Ilic •.••• -i hair of Ihp yoar. 38. \'. l>. 11.1111 •. 111 ..* 111... i'. i u 11 w National Saving I 'i.i I nsl national saving llul K i !.• saving Iff home- - ii- •!• K. fi'isM/t-^ui, ami Huvi'iiiiiitni* txriiuling dej!^1- rlailrin rhnrgn frll Turflicr ill 20DS (iifjiire 411). After — 2 having licktl up tu 3 pcrcunl ol nominal GUI' in 20(16. — J ncl national wviriR ilro]ipcfl stnd% nvti the Mihsr- /- ' quem iwo yeatsas liie Mcral lnidf>pi del'icil widened, J - , Ilio 1isc.il 11 . i i II.-.ill siaioand total jiovcitiiik-msilii[i<- I.. riiioii'd and [irlvale saving rftnaiticii low: in thtc- liiird — <i EjlinfiE'r til ifEHiH, ntt iiatimial ^vio^ siouil ai nv^aiivi1 - V I*:, |ii>si'|.iii iiM.lll' Mallmral\ai'ing will likelyri-main 1 1 ' ' i l_l luw Ilils year in li^hl ol [hi1 vvi'Hk economy and Ilii' «JTJ gSSi KB* am, ana rerenlly piiacfpd fcdtial ISscd slhrailiu \>M kjRp Nonr- Mr jljiu flni qifiHinlv HBsrai iln .1..'.. • I Ihflpss. if run ImoMcrl nvif Ihp Inngrr run. pccslSIelll I .'iiu • K I" i . I il. ' k.,. t .IU M JM I , I , W .., I - I , , I , * M . M IL lUUiU ( I 1. ^ 1 1.1 « J1U | III.U n , ^ All.l (gw ImJS tit iwiiiinal iavins will likely lit1 aisoiimnl 115 21 Monetary Polity Rppart lo llur Congress February 2003 to lBg, mi 41. Clungr In t nta lype price Indent lor p ' ;..i.i.n lii ', •! I'll .Dili IIL' (pitrwrly iilKl•iHrtumll ivmi^i ZMfi'ltf Nwitokni U > H .. H v. ii H i: i i t b i a t.r il u iH . ^'Tu I r iP |N ' U iil- M , I,I,,I ,uul i»i Urn,- M •-!•. mi: tfld i." M UMljg i<l ftMCJ Oc|t Hum nftaHHiiPm! Uiiiwui frf RafttHCAlM&MI with Iinlh low rales ol capital Inrinnlion ami heavy bor- rowing from nhroEnir which would limit [he me in (In1 Irss lhan£1! prrgnllon in FJerrnitior: in micj L •-!•• >nu- siandaid DI' living of LI S residents ovi'i lime ami ham- ll was in llit lici^liliorlmud of S3 [ti-r •JalEon. I'lit 65 Of per Ltic alijiiiy of die nation lo men ihc rriirrment needs i^iiiral gas. which lyjiifally rtu*vp n>iif>hl.v In Iliw wlih rnirtf nil piirt*.s (ivt*r ji^rifirK nFstfvi'nil ninnEfi^, alsn ft'll •Sh^rplv in lilt1 l:l h.!ll nL -'i.iilh nUt-TH ••.ii.i:^ .i.iii il n m tip jn ilu* Sr$l liFilf nfihc* y&r. f>»nsnmrr |jfir(*s TQF Prices and Labor Productivity pk'tu icily LEiiiliitn^ to mavn up liirough I In.' Lknd of die vt'dr—ItkHy brrdusr uf h]f>lin prkK oarlifr in dif yfar Rntan for fossil lutil inputs (u el*H.-|j-Sf hy ^eitfraLiuti - lliou^i MI; I i.i'-i 's -i[i|]iMi :n ILJV*1 s!mV( d i;i i in I1- if I Hilt AIE] loii^l i htllalion ^i^uurus wore i?li?V3H?d rimitiy the In LUIHE^M. r fniMiiui'f Fuud |irifiiN LunlinL^d lu rj.su lirsT Ithll tif HiiiH and tniu flu- sunmirr. ihcy dEminishc'd MpprfcijLly loward vt*ar Hid a^ prices QfeMf^ and i i! ! I CCQItUtncd rD 11 • 111 :> acid fur [minhiiM'd IIUMK til her rciiiiinHHillir?; dni]>|Ji']d and Nit' dtL<jrt'f nl slark itnd litvtragos. wliicli typically arc iislWm ill more in flu• 11 nrunny IJI[HT;IMHI. TIIL* cJtiJin tyjif firici1 indi'x Iky Inhur hfiul (KtBT bn-jliK^s CQSHs itmii by lami prtcos. for loraF [irrsonnE ron^uin[)tioii expeiidilure^ IPII al tm EihfT NuvenIIM-T, hwwt^vcr, irurfa.'jes in - • u•-,• i • < -1 ftiuii rtimimi riiit* of 5^ |Jwrt'ij| in itu1 fmmh (|uart(?r rtfEer pifefts iiaw tan) quite modfsr. Bam pricca, tvUkdi bad ri^in^ i;i|jidlv 0V*i lhij fn^l (lirrt- quaileri ul' [lie year, stirirc'd liHwtt'n 2()(Ki ctml initl .?UfiH .is Ei ((JTiNequrnre 'flip rorp PCI1' piirp imlpx—wliit ii exdtnfes Eood itml ul'MTun^ world drniand ant] Ihr incrfaMrri usi? fifrom fiit'r^.v iiiMiiv- ;[>st' <il iui iiimiial rale id 'just ft |wiii'ri< ffii i he preprint Ion nFrll^nol. fell ^liiirp]y in ihr st*rnnd in ihi- fourih (juftfWtf aftertocreflSBififlW pK&^t,M ItdJ'oClasL VIMI us pi us] ii-f .Is fin duiLifMu iind fureiuti avt'm^E1, ovpr Ihc firsl iK^'t1 qnarinrs nf Ihr ynnr, OVIT dciiiiiiTd f(n food vvir^koiHK.'l and die [Icmatttl For rlhatiol ^MJh as a wrmlr. rDii? I'Lt [urices increased I Vi jM^rct'nt ('rJscd. i. •. I'M .il!:- i >\-in••.' •. iii I'M;iII priLus ^.=.n I lu shuw [figittfi4lj. ftaia FbrPCE prlrps in janitnry2nO53 arr Ilirou^u fairly f|iiJtkly m lOiftumiT fuud prtfi-s. mul Hit? nut v<?1 availaljlt?. hni Lidoiiiialiuti I'rniri rfn.Miiih-.itimi1! sniiill Enrrriisr^ in ihr CPI £nr ftwul in (!IL* pji\i ccnijilc (Klri- iuiics, (CPI) Slid ollitrsoiiKPS sujy^psii fhal Ijr.Hrj of months &ug^L^l thai it nuEicuiible niotitTdtiuu in con- iln1 ((jjai aid LtirL1 PCIi [iric:^ iiuJpsw puisk'd liiodi'.si SUOKf food )iricr inllaflou Is uutlcr way. iiKSPaaai En dial mWi The slou'rJnwo In core iniiatinn In late ^U0§ was Sim P |jr;ikii!£r in July, i^nnvunin rniTgy jirte u-s \mvf. widespread, ^hhuu^h \i wu parlkoUriy sieeji bf DKMOi falTni (IninmEiicilIv. wiili muvi uF Ehi* ^c<-li)i niiiiL' vehicles, .lppiVL1!. and oiher MTO1BMTgoods lhai won? during flit' last thrw moiiffis of ZW.W. L.a^pJiy rcttucl- Iwavijy disrciiisK'd !iy rpnik1^ in an pnvirunrsn- n HJI' inj^ rl«j dnjp tn crmlf uil jtricfs. Mu* jirirt? uf ^iiMjIiitL" weak dnuand and cxn^ss Invrntorlcs- hi adrJiTinn, die t±-lI fi<nii uiiuiiitl $4 pur KELIIUII. on avvniHt. in July (o cosl pressurps dial s^cnied lo be booslbig core inlbljon 116 } ufC'Ovenitits of lite l-edoml Ri»wn p System pjulirr In I lip year pbljcd ah (i.ivi I m •nu\i- ofihp previ- byf iiTH5i n R'sptjnai! lo ihoir vyuricnin^ salti ii ous lingi1 fniMlSffl III ilie priiTSi nlnk-rj'v nnil iiwiffials Mdinn'ci, .iiiiujii^h esiinunes ptfthe twdertytog p^cc uf rail ilieir rimtsp and ihf effpcli oi recpiil declines In jiriiilurlivily ^rnwili Hrt1 i|iti(p unt prFain, ilic: buuyaniT Him- prfeas stow) iu shun iluratpji m oonsumej prttes. of irrotluclivtiy In ji• •_ i ;n qiaan^rs -.I.IJ.J.IM-. ihat I|.I;= I MM. Tin' slreiiglJieniitg hi I lie exchange value of lilt* dollar liajH+'iiUi! lurtrt Mippoilin^ n solid Linilirilyji^ Irviitl- jiul Ihc-deceleration of import pricr* aba helped ewe fof I-XUTII|IIC- tht: rapiH pa« of U'tJinulowiCiiJ cimrigc unit iiii? • i, • ii J pnsoure mi nut iiiiidiiun (lit* nn|^ohi}> olTt'irts Ity (inns (w use Lnfornmlioii ic.tr.U- Survey-bawd mcasiim ul "near-iemi inflation expee- Tiuki^y Iu itii|>n.»ve the elficitinry uldnfir u|H^lions— lallons hiivr nniW as actual inflation has comedown, remain in [ilacc. iviiilpiniiicawrsnl Ignger-tens iunatittnexDwSsSaw Rt'llr'ittir^i IIM1 stjtltJ i^lu 3n ]a\hi\ |HtrilinHvlly, <ilfii>g Jiavc been steadier. According Lu Ilie Ki'Ulers/LIniversity vvilli IIHJ suUchKfJ illCPHSa In iiouiiiMl Umn\y COnnWflWt- of Michigan Surveys of Consumers, nipdlitn onp-ypar iirjR JVJtcd ciirtlLLr UJIH lahnr casls in Ihp nonliirui h(Hl- inllMiimi e.HpirtHliuiis. wliidi Jiad Fiiuved aUjve 5 pvr- iii-w BECUJI iiK^ fi[s,< V* jjt-KLiit in H)\V&. Hie inaea^ lo rcn! last spring and parly summer, fell ilvMH>huut (In1 unit labor coats was JIIUJKI llu1 vamn ar« lJm( ^(.'corded in si-ruiitl half nf iaslyear; sliirc DeiTiiiher, ilwy have tlurlualcd aruuml 2 pocotUAS f«r lungrr-lrnn lillladou (bxijcctiitiiins. Plic Ri'iilf n/lJnlmostly of Michigan sur- vey Banurt nf [iiri[inII S- in 10-ytar iiiltaiinn KtplBfr lions was almiil 3 |iercon[ in January and parly I-Hlimary Irea^ury Rates of fills year, similar lu I he ragtags during 2111)7 and rhi> ilif t unviu lHr£E?i laiij^t fur ili^ Jwifral (unds Taif?r Q lo W |R-uviii, is substuruially bcbw tJie k'vt'l final ]nvt*3 lors expftfed al the; rmJ of Imr SilMIW; policy (Wpccfii- Produclirlly and Unit l^ibor Costs fi«iii wurf Mfadily leviwtH) {|i?\vTi>vurd over tin? wi urn! IlirU ::(' \\i'. VrMi ii•= ill', hnflni Ifll ,ISM| CCCmOlllk :• iL1 1:n•!. I ibOS prniltirtivliy his hrfrt u|i Mir|irisin^!v vvnll in worxtwd. hnvcird iho i-nri uf llu1 y^ar. i^adtiL^s fin Ilic1 pa^l year AlUiougli uroilutlivily yupwlli has iillon inlNHl rnir vKpci'tatiDns froirt nwney niarkti TuLum sis I led dining prtvious rswsSlons. mil put jirr limit in v\\i(\ ()])lion% WCTC! romp Jim icd by prriisicni i liir nmifiirin bii^inc.vti sector rose 2;W pn'*"poi DV€T (lie mj Itilerbi fnIUIS. Mo^ Hit lun^^l rale, whirli cvrarse of ?()l)8. ihr saiiw rait- as in 2007 (Jiguie Vt), ii •••: ! lIlC1 ! s.. ' II. :• .: •••' In '••.'!•• I..: -i.- •: .:•.-. • :-!M^ il:. Till" rnniiiiui'd rise In prmlnrtlvliy during •!•=- ---- --••-! inp; di[r f>i|W(islo[i of (he Fi'dfrfll Rrscrvc's HquldJty hall'ol'lasl year, al a limp whpn milpiil was cotilincling i . •:•:.• ••• ••.•• i'i:. j. -•-. MlVfikOrii K\t!ftrly •••-• • \: '• -i likrJv reUwts i (IKJI (IULf rdcraJ1f und^ rail1 would rtfwabl low fur quite ,H • i H i p. -1 i II II- .i ibiiil inr rt'^slnfJ ions t*rns phoul I ho hv*a|lli ul liriiirn idl uPsjikKiort?i, w^akJK1^^ in llw Pfal econunty. n uiil|iiu !-.•• • • tiuiir. Iv W 2tM!i EkticL D motkTahon in inilation pcfesatner. I1 inures quaira curti'ndy su^si dtai i 11 vosdorv H.»Spo*jP the fedi'iui funds rale lo remain tirumid its cnrrrin level lluuiighniil (he HI -.1 hall of this yiiir .tn>l tln-n lo risr ^tiicLually iln •••.-- • • tfafeflftdqf 3pUI. HEoVKCiVfifp timyilaiiHy ahuui QtCSiEC of IITTU ^niniiitnis and pcrlt.-nUiil thriitirtioni* cri'ak'd liy hV ?mo lawt't hound KLIK thr l^dc-rdl funds tuli- niakp 11 JllLJJ: diDit »JI( la rjf>iyin ttum fmuies prices * Ww^fve read inj^ on die policy expectations uf nmrkcL punicipuni^, Qpliuji^ |>rrCfi ^U^L^L^I I lull invt^Lur nnf t?iEain(y rthoul I he future paid for jjoliry wa& inrrmistng ruraitlerablv duou^li Ociobn, as strains In financial mafhets iulru sirifd. bu) itii'St1 itiea^uri'S ul ninjt'r^iuly Jiavf ^uUsi?- • l'ii IMI\ ih'jM.li-ii dmviiwai\l. '»• 'gj m •a1 ™ •» As Ihr economy. iHUlrrKik woL^riird during \hf\ fUnii- MBstDBRl (N^PKQ W"M" O f f*H ••»!! hm.lHVM« fifrlriH fr WK\itn\ Licill ul lint1 yvuv mil iullaJiois preMnrvi "i^n-ii. »Mtail1Hi frt Ilk' full III i |i.nri lull nl lU' Ltu.il p rJ IIIKINHUKI Jiifui IrMi 4ni.lt III yields on lon^er-nialufilv Tnrnsiu^' ^cctirUies declined IJWE^I)) ilii'M'.H JCNiinHdrU |IM.-* vrtkNjj \\m- pn.l A'A). ID ttddllFun, Itiu ^'(inwiiv I .H'|mniimn Ol I nix*, Uurmu ul LIUKW [Milliwio 117 2G Manolary Hoi lev Heaorl In I he Congress February 2DHH •I;i. tnleisM rates nnwlKied Tmssniy scwtlrle*. ante sheet. Tile ratio of federal ilelH llrlil hy the [iiililii to luuninal GDP surged In alninst 4h (leiccnl >n tile iml nl i alenrlru vciiT ?(H]H and seems CCSTUbl tn mrrcase agsin in thi' lirst imrl nfHIIIKi, as rHirrowing is enjiii^led ID rt'iiisin slninfi wilh Ihe weak e< nnmny <inri hud^cliiry initiatives. Despilc ihi' heavy issuance of Treasury •sri'urltlps in die serund half of Ille year, die rapid grnwdt of feJer- ,i(]ygiiardiilpiil dchi issiinl iiv lianklng inslltnlldiK under (Iiv Tcmpurdiy Liipiittily Cuaranteu Progiam, and ronlTiiued issii.nue of CSt' smirilips. demand at most TjMsur>' luctiom was solid, as Investors sought the safely of Treasury securities Demand for Treasury hill? \m\ wmrnely ^IIOIJR. anil yields In secondary niarl«>is ! '•« • sometimes felt clusi1 fq Itco fund t-vrn helnvv vvm al limes), even as ihf iiipply nl'hilk int reused innritedly. hirt'iRri cusliKly holding of Treasury si^curlhes al the F'V'deral lie.seivr Hank til Pfe* York giew opiiily negative markei wuthnetii ami speculation thai the. 1-ed- 4tt iH'rcenl over ittHiK. althouf-h tiie pr(j])ortiun of nomi- eral Keserve unjoin iH'j-iii jinn liasiin; laij-e [|uanli<inur nal ruiijion scturitfce pujdwed <il aiK-llom by fori'ign hinder nisnirrry Treasury scruririf* rnnlrihuled M Mm!'". inVetlOfG generally rpniflim'EJ in Hie II) perreii! tn Ki downward pressure on Treasury yields. Offsetting 3t) pt'rcenl ranjut' ohservctl over Llie [Hist several yean. Ihese factors In stnne degree WCTfi market ex liberations lhat die Treasury'5 issuance (if long lernt debt, whirh rose notably ovei Ihe course of 2U0S. would pick up State and Local Government Bono wing further In Z01B. On nci, yields on 2 a nit 10-yrair noles I'vE] abend 200 and MO basis puinls. respectively, during On net. liunuwtnj; liy Male and loral giiverniiti-iits in Ilie-second half of 2008. die ni.irlii'l for r •• i|..il srxuriliM was Milldueil in thr In conlrasL to yields on their nantinal counterparls. second ludTol iJODS. The issuance of short temi ninnici ypi'lcK OQ lri?asuiy InFl^tion-proh-tEcd sPLHihic^ {TIVS) |ial delij was rohusl, boosted u\ jiart Fiy [he need lo fnod rase over Ilir seroud half of 2(K1B. whirl) resulted In ^in'hionu. expenditures at a lime of mJak revenues. .' =i-1= reduction in measured iniiaiiun cowpw- Nowevei; issuance uE foiig.ierm delit, svhkh is gener- t;alinn—the dilFnrciUf1 hrfwi^n roiispn^hle-mslurliv ally NM;fl In fund i';][iiln] spending projects fir tn refund nurninal ant! Tll1^ yit'ldi, Sonic of this redudiun wa^ iwiiuin;! lung Ictiti debt, sloweil sirjilllit'Sillly. InHTUSI reversed In Ihe early |Htl nl ZlJ(l!i Inferences nliaul rare& mi long-tenn rteht rlimhed sharply 3£fO& the in till ion i'\|H"rtaliDiiv liased (in TIPS yields tort Iwen milurity sneclrutn lu Ihe swoiid hall of 'ilH)8 in the fair (liflicull lo iinike mvntly UMnuit Iliese yield* appear lu ol~ considerable strain on thi- budgets of many state and hnvr ht'cn nlTrt led in ^ rlcgre.i1 liy movements in llqiu'd local governments and sharp deierkiEilions in nmrkei ily nrrniiiinn and Iwcauw ifw'ai faclori have Irallcntl tunciioTiiiig. Mi>rerec^nilv. however. rnimUipal Lmnd yli'lris fin niiiiini.ii Ttcfl^iiry Issues. nrrs have dr«p|ieil mnrketlly, hi |i.id hs^cause rirai kei psrtlcinams appeared (o view the federal stimulus pack- 3gf us likely lo improve ill.' lnlann.il condition ttf stale Kederal Borrowing ant! lucal govonunenls. Federal dull! soared in the second hall of 2008. The more iliau $1 trillion of Timuiry bomWing slnci' lilt Monetary Aggregates summer leflcm Imnuclantly die iiMid to linanre die I'feasury's iiurtliasts of agency MBS and «|uiiy: (tie [lie Ml iniiiielaiy augi¥gate increased a! o 10 pcii.vnl TMiP, under whirl] lllc Treasury Itts pilnlMsili ]i(t>- annual rale duriuj; [lie secunil hall nf iUHJH and li rn-il sham in a numher or financial institutions; and Blioerccnl fordieyearasa whole (fijjurf 111," Ihe 5ii|>[i[enieiit.-ir>-Financing Pi(]flrain, under wlurh the Treasury has Increased de|iflslts al Ihe Feileral Reserve 11 vtf cmifaa nl u \ aam v ciiuilEhi IIK US 1 rvu lo k'lp fund the expansion of Ihe Federal kivive\ hid. es»n* IJjnks. ,ind irw viulis oriitinsiiDry Imtltullnis: 118 Boanl nfCmvimrn ofthr Fctfeivl Havnv System £7 M2 growth ra«> I'.il.iih -• lb£B) nf dtc Fwlijrnl Kcsijnth \o r-xfj^ml TE>II- stdrmhly DVEI UM CQUISfi ul ^IHJB. mid (firs growth W13 jRHy liy the iirqlinn nrrvscnr hnlrinrcv Thr ih^ in Fi?srrvr hqlHnm alntoil fnlMy rrprrurMrd an InqnflSc iti csrrss rcsi'rvcs rarbcr ihnn nn fnrrrasp In required reserves In parly 2000,1J11? iLze of ihe balance MJIIWI im dptit^pd suriKwiiMi. whlcli rodfcis a runoff in cit<dll L-jtlHidL-d diruu^fi f}iL" CUIIIIULTLiiil Pdper Tund Tifg f'ai'Ilify aiid a dm.i«H^ in JrdW^aEi lic|uiUlly swap ILIJI^ with furi'igi! cemral !TJ»J« LvmKHAIWNAL DEVELOPMENTS International Financial Markets MUTE Th. d ^ vmii^ ^pmtto <iiirhnUrii4 rnnnrV HU|i.e* R | nndJ-Jiiftfliaaai few tttpwtifc art] M Ilk' simnnoi and liinding EffltdldQnS lenifiiiitd siraitini. Hn-ml ••.I.^.-.....I I.M..,.-- 9U • l>loh»l hnanrlal inark^ls were rubtlvtlv calm In Inly .mi I August <ilVlK18. This ^luaUrjii tlun^rtJ aliruplly ii S^jHWtllWt ?& >\>:lr.t\ •!>:• s k..il. ,!'iM uUhT ! II ••:_- The rapid grfiMfflf) rvilftled in part a marked decrease n^sr^t'K sei/ctJ up ami lauding r ;inic ru a nr;ir %EjniUHll. In .: I.I> coBfllitfl ni- I:-.: rates rclaiive to rhf rates .sii.-i" ! Tliey? [!^veIo|jTiieii[s vvt'n' Iblluwetl liy lln< toiMpw of on Mi' .iwi-.-i.. .is urli as fttfWBSed demand loi sale aud several pmrninpnl Fnn'ign diyuttlttl Insdnulons In latr IIipiEft assets during Ehc financial luniwfl. During thr , I lii' Iwisks Bradford and Giiiglty, Itirliv ,ind SKEttAlJ iull'uFdip year. (In.' si^itihr^nt sliiwiinwti i;i thi1 i WGCB |jarriaJlv Of fully ffltliOWllfMl. and • I • ,••• growth ofreiail intrnry ntnrkrJ mutual funds sv*i% f>flw( nUiiTi^ A.C n*ivivrd .1 \m^v nijji|;d injijr- by a rapid IMN n.-.iivii in Miiuit iiiiHL iir|Kisils4 as kuiks hid linn In am Ih^ (it'nUflH g<ivt'rnnn.inr aggrossivuly for litest* drpL&ih lu EHIMII^S tin-ir funrf- Thcdfcpminj^ nfiht1 rrjsl^ |<fl niFiny fnr^ijjn gdvtTn \i\& Thp currrrify romponcni of iht* money slock nho nients hi ajitiouncp unpiccFdimlcd measures. ID IOSICHV iin'Ei'itvd Lri^kly, an imhr.ilkm iPF solid di'iitiind Itir civdh mHrki-i fwin lotting, Inclitrjiii^ Irii^c-srfllr Era,|if' IJ.S- tijinknnt^ from Imlh lipifiign and (btiti-Slic soarrps. lal iiijcLUuiLS iuki dk> banking iy^ifiti, fxpafi^iiuL'i «f Mows inlu cLcnmnd ricpo^Hs vto& jii^nitirant afdrr ihu d^imsiJ insiuatiii1 [inij^s^iii.s, HUE] gmuSQtflBStiJ s.i ILIIL- inUotlurtJDM of the Tnniiofarv Liquidiiv G L«M *a n Lrr I'IO- fcjrius nf bunk dt'bL MDII ntijur tt'iHr^i lMiik\ [ uE puljiy lfiam wtiicri ap|}iir(*rLlly dicw lunJs out ufulhcr niuncy rates vlirirpEy HS lite rnmiKiil crisis M ttifl dniTimiic Ml.!' k' ' HI' I Ti-. ih-iiTiiiirLiiiin iji tho nulFnok fnrernnmufr attivjty and I ill' JlHilLi-Liirv l/fisc—r^fJltl-illv lllf SUI1I -il • :i. |JI ' .|i..|- in (1. ini-.-i 1 ui 111 ij !!.!'.->• ; 1:11 j 1 1. 1 He Ltll* Wftffc rwitv iti I}IL' Uanth uf (lie public ^iid bank rejerees \u\ 111.nl"' by ihi- betivrril Resefvi?aiKl five OUKT tciKfjl iocreased rapidly in m-em mwilhs, primwllj' riwing fo Ninik1. To inlihrss, ^Inli.il rEtilkn fnnriing jjffiHtrrs, t]ic lica\7 me uf I he tedcmJ Reserve's {ii|Liiclity pru^rdtiis, l:Hkjral H*"\ervt gFtrsily fspwrHliil ifs iir^gmni t>l litjiikl- Civil it (.'MPiulvd through llifw programs rauscd die iiV sways with I'orrtgn central tanks by inrrrnsmg ilk? iJollai amounts kk*tarifktl m well as die uoiufier of counTrli's with whirh it lias swaijaprrrfnpiits. iThcren. r.il I•-' 11!-.^- •••. I I' •-.••.• ,i| 1 .1! i,irM.;.=i;iiTii\ .nr- iiLsLULVMJd i/l ill"' ap|H'ud]^L]i ThpM1 (unrerrerl j»Jtihal nir^ure.s SCPNI lo liavf MiEJllii'd LUiidiliurLs and luid ri'.slLUL'ci sump un-jiM.ir. oj' si.^liiliiv 10 mttets hy fhr end of lUr year, H NOW. lfiMhuLhiii&. i reilll un(tm \\MK tlrafl crcruunR. s in The aefvanced foieigii vctinoniies ml thrift inslHiitftin'.V. (S) uvJugs Lf-jJii'iiJv OnrMtng v»a\"\ nun her dcpftslr arrnunN: (fih >.nui!l-riE-n»tnJiuHJun rFtnp ilpp^t, H(n wore uftTily Hat owr July and Augutl of 21KJS but fell ull less than 5100,000} lr» iwflvrdiiiil wiln-mcrU -.11 -iiil- I . ;--i-i!ii"; ill h\p Si'\i\rmhiT' iii.ii Ju-i vt)talilily OCOJUQI !ir; \i jinl K*-f.it;Pi SMliiiKV. ,11 ilrpo^liory EiiMJuitCrnis: aitil 10St to Ik' V6\ S wll II I Ilij diit: |jei ti nft nt 11 ic I i rim IL ia I •:T • i».ii i; : In iriEil] itiumy m irs-.i-i .-I i-, tea 1i; \ m.; K«'«^!i II IIHllHiy HEdfMtl ItliUUjI Fulnlv. nisis. On ni'l. hrnad equity prirc indcjccs in Irtirnpr. 119 28 Monclaiy Policj Ke|KH I lo ihe Congress Febiuary 2000 1 i I QUltY lIPfhMtfH til I .i-k ;III: i\l foreign HXMWHlHft (tluj dUTprenri1 haivvcpn yields on nninJn.il spmriilns 2007-49 HH(] MIUM* on hiflaliuit ymstfcifd sc^urilitsl Ml sharjilv. As in (ht1 United Sialos. mraMirrs i>f inilafinn coittperv • '' •••• '• •• nation were <|uile voJcililr. huwever. a% the Liquidilv of innatioii-pralecrirtt SBCUfHi£$ Ml markedly Although in early ZflflH (he rmerRitig market econo- mies tooled as if ihey iniglil &£$]& tin1 nia^il sirrtou^ • '.M1-.' i|Ui ii- ••-, >iMln i• nili:•>: f.11 rrlsis, Ihe v\\- 11.i• wjun ml linaritial Slnttfts in Seftentlra StHlS led lo ^fl^^tl ^ud Htls us iiivi'stors ill Iheiid\anted LTononifcs sougtit to repatriate i K Downdriifls In linanriid mm kels wefe relnf{iTC.T[] by rnnccrns over thy cfT^rls rif declining i'xpuils to llkh(id\'aTni'i] ijtunutliii^s andr for ^UEIHTIUEIJEV ,.„, u t,i to fa fe forte fc BXpMlB¥. plnmnir:t3i]^ r.nnimoilliy prices. Mnsi sinrk markeh in llir emt^ing eraiusmiei fell '£# [lercenl io -1[> perrem, i?n iinl, over HIP Wrond halt of the VPar, and m. N a u n n n u 1 K 1 w HI - n ilN ** J ii n m *- ' - > rt M .n k K t M I M lw i > ii . t i n M \i p n > f t U M H w V i I i U ih fi M H H (W iiT P ]h K > A ji - w tf i * n -i " ir - i" a • n •> t . , .--. risk spreads tin ttiicr^Sng market debl rose sharply (Ei|> Il«i HMIH urii-a FV M.idn.1 M>LlMl IK' DKaitJW 88 VHIV.' l^.irm tiNw< ti|Lkib ui e 17) i.i< turn, .rinj.i Ehm Tin* Ferii*rai RrsE'rvp's hroadi^st measure of dw* nonv Inning SUKV l:«ii*irjir :BIH Dmputo * hial iTade-wutghinl Turt-igTi ext!ia«gij vuJue urihedul- £fttH lur rose ahuiil t^ ppfci'in, do npi, over Ifif- >iKfnid half u )M' rnij U Wb U b tt or 1!OOS (fijiiiR' 48). Murk or [his rise reflected gains ti. aivl Canada fall 20 ptffififfl i« 10 p«flfifli ovor (he ,^.iinM I\IA\\U \ \y -ir. j. -, I in- ilnll.ir .ip|in-i i,iii-.[ l'n!' LaM yiiar and have t 1^ perron) a^ain^it itir niro, 2\\ percrnl n^ainsl (his yi*ar {(igmn" 45). I.nng-lcrul the Canadian dollar, ami Ui pMtefl against M--!lin;1 fell sharply in Eunjpp and Canadii in lh(? lauer pan (fifiure 41!), Hie dollar"% sircngih WU aitrlhumliIr lo ofiOfl^, wlitrh re net it?d hnM> rite i>a&irtg DT moiioraiy ^"."i;il fuiturs, in;lulling \W- iLiiili/:iiitiri Ijy tiumv inv(^ pal fry and dliuLmUH'd growth [irospecis, but liavp risi-n fe -i*. in early 20IJU (HJL-UFP 4TI). In 47. Fi|Uiiy hn^hVA in hi-li'i'ird finpMj'i'i^ nPtfbai ffOOtORntl&i M, yir-lik nil ii>n.iJi[Ti)|irnlf^riffE tong irrm wt urt tit'S rosi1 in many cumum^, ^nd in 11alion CCHHIK'HWUMJ]! •16. Vfpltb tm Ijpnrhimirk government linnets In I'IL< limit an.1 rj,nr>-. I'ti- hftl . .'fhl'l hi^H..^Hn.M»innlLjiMi,rk I ,'IXJT Ihn- LIUIL, M. mrii I• HI |HHI I ' . H.I,I I'nn r>ir iihU.otl,. y.J.ivhlii. P'.ikhUiu llK- lt|i|ll|Hltl Nan l» tfmt, Htaltll m \m JM ..—r i Ml' LUIn Mr |R -.'"••' i Vbt iiJlLil -\ii,i-i n..- mi-1 iHM-rajlu A*™. \kiipni SUMtiy '-MiUliI •!•..,•, - i,-,.,!,•, i.i ;IMA i'ii',,>. LII rMSCU MHh-x FIM tilimp Shnalri fJOKUKMtfl fata .,-. 120 fsiard a! GoterBors of ihf Fedfrst Reseiw Ijittm 2(1 <\&. U.S. i1oll.tr iitHHifiJl excli.-sn^f r and Ihf H«/ill:in real. Thi> doll.ir a|)prr>riai«l iraidi Eat ii^iiiiM IIIOM I!IIIII);NIL! Asian rurrrniii'i, ahliou^h il ilkl mt ntuip Ihai M |HTH'III again;! tin? Kuteaii wan. .. , -. ii ilsH I In hH^^ MH in Ilifisf ppraSBires. many rcnlral 1/ IHIM In Imlh l.ytin Ami^rim nml Udtntlttd in vijiporl rjf Iheirritrrencfes. i ii Ml] Mlliiniyli III' Kill flit rttfOUIll del 111 I is .••.IMI. il-.i I.. ha\p narmucil In 2U0S, II (pnialns sl^hlp. rurtnilcncp 35 in {jlnliiil liuanrial ularkils liai nulitcably i li.m^til Ik' — UU niiniKKiilnit of ttir amwlalcd linanrial (IflWS. Esftirs Ilu' liinnoil, financial iniliuvs were nrininrilv in Ilic aft sun lorm nf HPI purchase of U.S. scf nriliirK by fnrr'rgn pn- Nftfl I<H An, MiLini ka -in LL.C.-I^P. iLin^picv Miiii*ut* iHli"' 1..IL-. v&w iiiveslarsand sumewlial smaller net purchase l>y I lie tml i httSBwata tin l1* Sri It-* (4 Mil linrv IK. Ztltll I I In' U i. el l-nliv |g ., lijit'i^n uflkial itisltlutions. Siiu.y lati3 Z0D7, huwfvi'i, . i ..,,,.. r - . L B ... ., r ,; i , . r , i , | U l i r u > y r H ^'^ [ I1 g I f |S lt t " td "' 'H** ( . i - « l i - jiJ i- r( . . - i l n i th U e S I - D - ^ . k U g l lf | M (fl s U H ll tt - t fnrci^n |)iL\;iiri ht'l ptirfliawj; nf U.S. RpfuridM havp !• I l^iiv1.'L ''"^i i IIMM1. HW IP'T^V'I'IJ In'in I' ii ipijHin [llMp|!i"il \harply, living lurfiKrl ullUial btBOW! In play 50MU I > .1 RntfM EMd a ninrll largrr roll' ifigiirr Sfl|. FuDhr'nnnrf. wtn^rrjs lnTon.' ilu< lunnoil private fujvi^n invi^iois puitluswl lar(jo sinus oFL^.S. assets isbitcrt l>y private cilttMoi, UK'S 11i.ii iorcipn Rmvvih wuitld *!ow murh more slwrjilv since Ihcn lbn?L^ii inveslm^n^- boik nl'Ekial and lEmn titic] beta E'rirliprantiripaipri as well Pisan inrTi-^sc privslc—lave lieeii ilunjiiialwl by »"Iligltl lu snfcl\~' If) in dr/iiiand For Itn? relciiivt* wifely ol' UA assets such as US. Trf.astny sneurHlra. Hnalty. In the third (jnatifrnf Trfasurv sfcurilies. In raninttl m its ilrci^fhajjainsl 2<Klft. miiKrlinnH in linMinps uNbrpign awh by private otrier majur currenti^s. liie dollar df|>r«i:iiikJd II |Hjr- US. f^ident^ playwl AIT uniiMijtl nfllt, which adilnd^lg- rcni at*alnsi ilic* ytfl, a:1! niiirki1! vnlalilhv Ifd titany Ja|>a- mllcaniiv lu nel privalf inflows. nese invKlon* Itj sell fort'ign uasel^r Overall. iiuUim fmni fun?E^n ]jiivaKr yftiiiisillons Tile dnlffir aten rf>*:e nfiaifrsJ the rurrrnfies (if int>Sl of U.S. serurlllcs in 20DS were jml one tifih of Ilu' i. n is'J .L: i 11 L; murki'l rtonoinics. iri4 lntJir^ itpprrnEiNun of Him v uliiiiini'il in I he |»('i inin inn yt'Hns. gtl avi'iajji'. more ifriui .10 JKTU'IK L^ainst fmili ilu- MfJikan pi^u AI1Ji[jti]>h pnrrhasK ctf U.S. TrrtLiniy srriiiitti'N FDSIL funsidi'rabiy, Iliery wen.1 unpn'teiti'iilud nut Milts in otfi IT Ll.S. SeoMUes In ?iDTJW lligureiil) Twin,!! demand 10, I S. LICIII.'M isK sr^cied rrukjor VWS nanicuhrly weak for US. agency and OlcptMSE ••'I. L.s. n,.| riiM,,, I , 2WH-O8 — • ^VulJlrlal II.I • hin»lKn uHlfl*l ««, 4M4tai|j - m n.i .— II n>i ••mi u -.••< Ilu 'I. I,' ".' , ii i.. Itel•f.• l..- •. !.• • I• i• • •••!!.•,. ii' • • • i••. Till' I.AI •• t. I-I4IHI.1H IS ? 'UK • 121 Monetary Policy Report lo the tongR-ss February 2009 51 N>r private Foreign jmn Uws in ,1 \ivang r*V6rs(l nt'banking hM (hark tSWMd III'' 1 nili'i! Sl.ti™. nn net) in Ihe :..:i. ;i [nurler. • i s. hrtftm Advanced Foreign Economics US i — JW) — sin F.rnnnmir perfnmianre in I he major advanrt'r! foreign citinomies weakened sharply in the MTond half itl' 2I1IIS, as r>lnhal inanrial rna'tket tnrbitlniri', shrinking wm lil trade, bind iulla}isiiig business and ajtiMiintt 1 tin ""I lirlKiice weight on arliviiy, Atiuss 1I111 aiiv'aiir'ni] [nr- ri^n erniHiiniiLs. rretlit LunHititjiK inl[l li'ndin^ M;IIIIIL|]IIS tyuini-il sidiM-.ilily. inditslrial iirnilnciton ilprliiwd. ^inl ri'i.ul \iilrs ^Itiw^l. I lunvMLf! ininJ. i-r, wmkened everywhere and |ierforrneil paiticularly poorly in t oun- Irles ill. 11 carhVr liarl aWHrttfleed Imusing bnuius. such i •^•l.l.lil,". III. I-H •>' ".l|-.l.|ri- If|-lll|i ^ n as Ireland. Spain, and dip United Kingdmn. By Ihe Ihird quane.r of !asi year, linih Japan ami tin' enrn arfa had enierefl rerr^sinm. and nulpnt fell sharply in all the IJUBIIS, wilh ihe weakness especially pronounced in Ihe inajnr advBiired I'oreiRn eronotllies in ilie lonrtll i(ii<tr- smlid hflllnf Ihe year ICT, with mnsi rnnnlrles fxperienring especially seven3 Foreign official nel purchases of U.S. assels dBClines in exports and ptivale investinenL remained lelaiively steady in 2IJHK. at a |K«ce vlighlly Alli'i sinking in ueptHtse to at (derating 1 onirnori- ,ii,.n-i. ill.;; of MHJ7, finwcvef, (In1 composillon of ity prices in Ihe ftrsl llalflif lasl year, headline rales uf ofliual net purchases in the third anil ftmrih quarters .11:!.111.,-i fell niitireably as a remrll n! rnll.i/i*». enm- mnved •.harplv iiwsy friini U.S. agfncy sirnriilps ami •nurlily |iririvt and wuKening ei llunniii 1 thndlliuns was coilti'ilimcd almosl i>xi lusivtly In U.S. Treasury The 12-monlh change En rnnsiuner piif es fjeaked in Ihe soctirititv FoifiR» oriicial ticqiiisilioi^ tflDlinitcd to IJO third quarter of 2U0K for all Ihe niajot ecnnmuiE-s. finil ilitniiiulwl by Allan inMinnlons in ZOOS. Ihe peak values ranged friiui y high oKSfik ]ieinjnl in 1'iiui lu ilii- [iiinii'il. U.S. iuvt'StiuV rat ptftliase! uf ihe Unlied KiiiKdnm in Pk percenl In Japan, Thp ninsi rnil'lgn vi'ilrilles lyplrally gimcratcil 9 munrtal 0111 rerenl rignies an* MLb.slnnlially Etiwer anil range fnmi flnw, ' !:i •• purchases ^luwed Ibliuwing \lw InmiuH • in I !< percenl in Ihe United Kingdnm la Mow 1 |ierci:ni in mDfc mfiitly hnvc innnnl 10 si?atih' ml SAlAS— flpncr- Japan {tigurf 52). Excluding foud and energy prices, a41nga litianrial inilcw - as U.S. invralors have pulled 0111 ol Irjrchfin inv^lnnnn.s. [n adiillion, U.S. rrsidi-nls pA Bd Tin imi considerably fpdured their drpusils in foroi^n banks in iF.V, ZOJWJ5 The- ninitilil alftl J1=• 1 10 Linn.^il>'d Hnw^ Trnm n h •: • liailk. iii'.11'-' i"i ami fruni ol'iicial (rdiisutlions in Ilie lonn of ths- fpdcul Reserve'5 lii(iiidiiy «vfl|) arrangemems with foreign fpnlral hanks. Net Hows reported by tnnklii" olikei ill the linilttl Slates art lyolirally sinall. Shut thf onsni »f tlie tijrmtiil tlirotigli nild-aoos, howi-wr, baoks JIMM1 ^I'tivi.ih'ii m•••! 1 -.11.111\ I.!];-. uuinVjws. in pan rf fleeting a irspnnss1 In heighti'iird dnoFind rrsnliin^ From imerhank funding firossur<?s In European markets. As ccnlial batiks ailed to adikess Utese contems ulth 1 In- expansion uf Ihe swap arrangements in September ZtiflX, Ilir private bankJnr> oulliuws SIUMIHI to 4 liall. I'oreign fenlrjl hanks eased dollar pressures abronu ..,111. M17 by fiiiliiiK tu 11 •••ii ilonu'Mk- iianliN ihe tlullar lit|iilility ^imT' T|K< ifiiH BV nmrlllh'. .im1 'lip p#m'nl ry PCr|Ulnd frnm tfie Fprlr^il Resell?- Furlhrr dritwiogs •• I. MM ..li PfCTUlW lim 6., C innil.i ii-l |l|W "•' Ilirnui|ti IHIIIIIIIV ilk>1 liirltH niM,inmlino Ai I lK un Ihe swap lines In October and Ueceinlier cuntrihuled - 1 . IIAHUWIVII" 122 ISnard at Cowman elihi' Ittlpral Reserve System i I In lameaiaga [nice :•••:•!. hdvfe IH^H more Emerging Maiktf Erononilf-s snMusd. Alter moving IIJI somewhat durins most ol' AniK line iniLirlun is now ili'dlnlng III mnsladvanced fintnnnili: lirrfnrnisrac weakctii'd lirainallcaliy In !•_•:• - I'liiLT^in^ ilmrkel LOUjltries In llie M-TEjnd halfE>f 20t)S. Official tiHtneiary |inlic.y rales have uwn loweind Ill riii' ! ii M ill! 0 lilt Vfal. ;im ill ill many cinn Ninji si^nihianlly siEiil- the tie^hming of ZtlOK Irl re'sriEinse k] inarkel ri (inuEiiif^ WM n'ljlively ruljuM. ami as fttud wvwe financlnl niarkei lurbulr-iirr. decelerating mi- anil soagj |lri«>5 ioati'd. fjoiif VTiiahi'rs fm-nwd un trar iiomir activity, ;m<i u,miiij> Inltallnn. Aftd MOB "'a*log I3liilnj2 imlaHnnary |irrvsurp. llnwfvrr, in die sprond early lasl ywr lij llie Bank of England and the Bank of iialf. weaker demand from Ike Advanced etonoinit'S Canada, rapidly rising fluid and energy o»ls fed Ihese weighed nn tlii1 PXIKIII sctlora of IIIPW counotes. ftlolral cesilral I ••• i :• - i' •• DflttEj II Eicl, in 11- • CAM • • I lie : ' M "i '• I liiniiH'i.il lurrnnLI I>-iI IE> lighter eredil innditiEins. and in Central Hank l!-XH). raise rates in ihe SUtttUBtt How- some cases, plunging fiimrncnliiy prices tonlfiljulfd lo PITI, in Ihr fall, ns iinanrial raniHiinns i)p|rrinialwl econntnir rtiHindus. By ihp end nf llii' yt^ir. onlpni in and conmimlily pricrs I I'll. p«li< nn.ikpfi in I lip niajnr etntrgiiig tnarkcl rcDimink's v,m dro|iping sharply, and mdiiMiial «otu)inlps cm rali-i sliarply, incluiliti|> a roor Inllatlonaiy (OTSSIBO view niodi'iafliiR. These duvpl- diluted [nave hi Odnbtr. bi lol^l. ilif Bank ufLi^iantl opmenis urumpied |io!ityntakei s in many tuunlries to han ItivviTHl i(f |ialit'y rah1 fmm 5te |K'rti'ttl in .[ajmajy slilti ifielr form tn mnrr" slimubilve innnetary ami lival of 2008 to I pOTCOll. The Rank uf Canada and llie Iwlii i(* 10 iniiii'.Ki1 lln1 i-lTnls of lln.' miiioulit h'CH have also ilmpprd ralPS ro I jwirpm anil downturn. 2 |)urct.'n[, nspi'iillvi'ly. In Jii|iiin. inlrrcifl ratyswurr In China, llie pee ol acllvily slowed MIIIMHIIIIHIIV lowered lo near ^ero in l^tYcinoei (figure 53). IJI addi- Lik ^fKJft. mill fontenii n>garflin^ liii^li inf!ariyn diid an tion In ^uhstnjillal rritiic:[Lnns In jknllry tfcKQS. rcnlml nvrrfiraiin^ ernnoiny rere^led and £EWE> wfty Wi cIVorK trjnk.% in lilt* niajor advanffd iT.untpinit^ Iwve laken i lo bolsler arUvily. Since Sejilember, Chinese authori- niniilipr til>i(iraordiiiary OMSartS in im|irovr lii|iiiiliu ties have iowered iK'iichnwirk leodhip aori driiosil rales in finjinclaJ nuirhpb. including llu1 large SCBIP provision as well as bank reserve requirements several limes. In of Icnn ftnuCin^ in local ['iirrmry and dollar mark^Fi Novemhi'i, a large iiscal slimulns plan tlml loi:itsed nn and dnl sij>niMriint cxpansiun ol aijmv'ahlp rollairral for infiaslnjclure. Inveshtienl was announced, and Chinese i.rnlrdF bank JunElin^. Some foreign iTiilrtt! b&ivk^ Etnr aiillrufities olvo dialled ollitt EHilicies d«!>i£iiiit) losop- lorning m tir rnnErinplattu^ Either nipasuiE'S to supptiri finrt the expofl sector, thr- real i^lale markE'i, anil small iitlivity. sufh as [mrviuises of privtik'^wlor [isstli, tov- anil medium siwd fnteruiises. AflE'rii|i|iret.ialliig slgnif Wlintaid In die nujor indmlrlal nronnmira IBVP aim Irannly In the first lialt nl'tlic ypjr, ilie eKiliiinije valoe jimoujii'rd fisrul piicrka^i^ lo bohipr uclivily. of Ike renmlnbl viva vis (tie dollar UK rclalivclv sniitli' lndvebei:oiullmirof2WS f'Jsm'here In enier^lnft Asia, ihe downturn In acri\r- OfHckilor lar^etnl Inif rmr'^ iri *H*-[ ily llai hecn dnwwlit. Hong Kong. Singapore. Suntli odvnHcert loreij^ji i-con -,. 2(R]b CIS Kniea, anil Taiwan all [insiiil uihstantigl enntractions in real GDP31 llie end «f last year. Denurnd lor these fonnlfies1 gooils fiom ihe advanced erononiies snd Chi- na |ilur!»nl in I lie second half of MIS. and aulhcrilits _M i i M . ,ii nisi I'liii-i-jiiii; Asia have iiiOiKluce l inunotary and lisral polfcies In tinkler Jlmir efu In Mexico, grawlli was aiu-niU" in die firsl half of lam year, blU It improved In the Iliifii ijnaner. Inrgely li'.-niv- of strong activtly In IlieagrkuJiural and scrvtcp seelOCS. However, ouijitti is esiimateil in have iInclined tiliarply In thi> fntinh quarter, as wfatili'M In thp U.S. • IIUIIIII'LII tmuiiisi'dorami iinamifllsiresihave tagimID weigh on Ihe Mi'rxlran er.nnnmv, in BrnJil, Oflnvmfl* •/mi - *i i activity remained firm ihrmRh much of Ihe year, but tmliciliirs SUggftii lhal oinpiii (ell sharply in (hi' m N w O h IK r : i ll T '. l T w ap U Q undl i l. I i l t r l o h p t m fr T t n d iB ff ln il r a I in ii ; in F r u t r i O kl k i i M eu n fi w i m q m m ibu . n 21 i H ti J il H iit . u n M i M 1n . t 1 il.n.1 qmner. -sl>• if fri* .nr,i«iL n[f f inr^iv. Ql{ t-nrvui ihi- dlldBW OK irwl. fnr Knssia s EfE.'Oiiotiiy ^nd lin<uicial sysleni ep - I'lllk^l HNlVlllMII [lit' LllJit U\ \MAIA. PJI-I ^Illl I'll (*rlHIIR.|U..| MM bM Bfl III miniI.HII< niiflrtiMM'xKi mMUfilmrtm r the s«nnd half nf Ihe ytar 123 Moivniy 1'oliry Report In (he CnngrisKi February 2009 because of ilir vd-i-p ilmji in nil and olhi<i IUIUUIIBIIIY ii|>itilit-3i» linaiu ial pressures in Ilic fdunli quadiit ni pikes. ttli< I urn ml I in jjlnhal financial markers, .mil ggf. WHS. whicli ti'flec(ei) ll» afietniath of a jicri.ii olvrn |i-i.in ,il iL'itsidiis n'Mi[ling fmnt (he ronllii I with Gtot- higli rales of crttlll cxpaiukin iis wfll a kirgp cunrtil gb.: -• • •. -. i... i ,i. in ....., n>.vni'« fell siib.siiiim.iMv, arcuiuic ik'li[it\,iiHl PNlmul linaniing in'ccli. llmigary, Ini^rJy bcCMIM nrintcrvcnlloiis m sii|)|iurl ilic currency Latvia. Serbia, anil Ukraine reri'iwul official .usliiancc ,inil lite iiiiamm] anil HH jim-alc in'Km more lifDinlly fiom iiie bnenadonal irfonmuij Rind Several lUimlrtoinenverging Euro|>ealint;u\w uiiiln 124 Part3 Monetary Policy in 2008 and Early 2009 Alter cflSitig I he SttJ»a of mnnfiarv policy 225 basis irpnrlrd lo have irxpaiulft] in liir second quEnti^r linaii points over Ihf faral hall'012008. ihr IciJcral Open cia\ market develti|3iinLnh suRpcsttd Thul ihc ["t'ononiv Miirltul fJtttvfltUfi* (FOMC) Inwpwd Ihr auypt (edWaJ wnuhl likely fuitiit- inij^r [rmisideraljlf <i\t?wa In tlie nw funds NSIC EUDIHT hi IJIC vvoiid lialf uLn'malHv brin^lii^ IILI.JI-.—in pan in11:11 I.--!.! -. I > . 1L! . , .|L< h 1 llh ..-ll-^J ii io a tang*? af 0 to 'A poTWJfl (ligurt M) .li The lt?d- iiij< hoil-ting to niliMiitiri. uinl (he rise in entrav1 iJrifis BfaJ NI-MTVM :iKn imjJ-; A imnlhrr o! nriilliihiiml .Mum*. OTTO expesird m we j[»h m\ ecunQAitc grnwfh over The tU iiu-n-,iM- iHfimlih iiml intpruVO itinrki't linn, lion •i LI * i •••.-': 11.« - n' iVw utajncrs. Lure consumer jjrict' inllu lion ivinaiiicd rotfilivoly stable, hill lu-iulliiir iiiiUilioo rt^s ftlpvaied as^rpsiili of lai^p Inrreasps Lo food aoci siu'ci, hirilit'L, the FDMC amiDuacfid at its Dficcnibej s'lU'Fjjy |jriiLh!i. niiwlln^ ihnl ihc1 Torus of |>ollr%r fining fonvflitl wntitri Wflrhihasnwi&ide.Qlions Jn mind- tin* l-OMC ko|ii Uuj larget •'••.!••: -1l'nnd*i rail1 iinrJian^cci ai ^ iterrc'tn a( 1 rrnnnnH1 lhrmif*h iP|tftii its Anrinsf n^iiihiIP. The F» r[>[n|Hiivino iioUcy slalc- Hnd oilier tiiLAHKurt'S lh;it would Mis(;iin lln* >ii/<n menl Indicated dial, allhouph do\vnsidu riiks; to ^m Tifdoriif RewfVF 's liaLintr SIHX1! al a high Irvt'l. iiMiiiihicd, ihc uji^fftL* risks t@ in^llon wm also of slgninfatiT (oiifprti to ilttL Cointniitpp, This rLsk J^P. n sirii'uiini. iin-1nn i[iMI uMii.unrirnii .1 i1m\ii\'.,nil in?nd. (neat, wtfch ninny Tiwrkei jwr^nij^ins t^p the hi'.1M iji.it k>-i lb.nl weakened r»rMirr, ,nnl Nulu-Jriitl jiFi'ir'ri as o.si^cnttally tuhinre'd. was 'n IWK* vviih njier |)rudu( lion had dvclinvd. Ahhuug^li aj^ri'gatt1 uul|>m was laiimii at tin tiinp. Atcurdiiiyly- t!n> Kpecied path for policy was II1 tie changed In [he wake* of ihi< announcc- IHL'TIL djid tlif CdpO0S^ in IjnwdiT Einnnrittl i It. Xfanrtk-i*rt rNt- I0ML M 2tWBc UoiiifJi ui i;ovinrni»rv ip K jfr i pN deiin ufdir Frcktul Hwrvt Banks ul Chwfi«4 D*H», Miiinr*pii- B> Ibe limp nf Ihc* nwefing nn SrplrmU'r 10. ihc mil Hi, New Vtiih, rtd ftiJWtlpkfl. Ln 2063,1 OMC imutbvi oHuW flf |{jok ftw iollatuin had mode ralcd n^ a rrsoli ol suhslati* h f l Bd l CW pflEihr jTC-Mrti1 nrs nl'ilir I Kkfal lial decUnt-s in ihc prices ofuil atnl oilier commodity as wi'll as mttkiMiijigag£>rcgalt> demand V.uiDtii mm- n J'OMt. son's nf inflation rxppclalimis dH liiud Ih'twifn Ihr ivvo 64 3clecteiJ Inter CM qtf«s, SOfifi 09 1 .«Mt P*Tk.T* I IIULTI* I If! • ••> K« -.11 .1'' \:M 11.11 iitiwt IIIKUIH)] (P'UIMIV Ik i'l.NUi [In ifrVM frwllm-ri I,.I> I* I|H. mnn,ui ,„••• -j- l * 1 *ffLv?1v HWIN IN.' ij»r-n-iii»T (ni.nK itffi 1- .='.-. • I •• •• ii • i( •. •.'., HQVBUMiHlBHp '-- 1 1 h iwtinaui h I ilia' t&n\ UMWIV 125 34 Manulaiy Puliry Report In Ilic Congress February 2009 meetings, nominal waye increases continued m be "«"!- sheet. Inu iiillialivt's wvte intrtiiiuttid iti help win', .mil produitlvtly growth remained vnlid. in .niitl iiii<n;n>i' the nX|HI:sirai [if Ihe Italawe sllrrl aiul Nun. declining ciiijiloymeiii mid wfteiiiiiK iin.il vile> ymniotc control of Ihe ft'di'ral funds [ate. Firit, un r nntribulod to a weaker outlook for nrjar-lenn erononiic Soptemiji'r 17. the Treasury announced a temporary ai.-llvhy, Sill I, some firms reportedly were coiilinuinp, Suuplpmenlary Finanrln^ rro^rain al the rwpiesl of lu |MM iii[;<iiuii in ONB custtmefs pwious increases II»• FBdSMl K«5MVt. Lutkr ilii:. program tlif litauny 111 ihe OKU of energy <>n& raw man-rials, and teartliiRS bSQOt shod term hills pvw and ahnvr Its regular hnr on tore anil headline inlialiun remained elevated In rowing pronrani. wilh ihe prtteasil ileposiiwl at the Illis environment, ihr Conuuiilec was rxrarnrnrd i:.:i Federal Reserve. Sceotiil IISIOR aiilhnrily (jninn-il miflrr b\vh iniiiiiiun tuiejil become embedded in expectations die Lmer^pncy Economic Sl;iblliMlionAi:l, the FLninral and Ihetrty inipail considerable momentum la pw Reserve aiinouiiLTil mi Clclobcr Ii Ilial II would IH-JJIII .ill inltolion. I iii;)ii(ial siratns had liwmase.d fiver Ihe |i:iiiii;.i. hiipn^l on r«|ulied antl excess reserve halaneeK. Inlinoaeaiig period, tlttutigh ihe wasequentsj uf iiie Tin- payiiwnt of BMWK1 on finxs- reserves was intend- lt.inkni]il[ y nf I rlnnan BlBttWJ5 I liililingt mi September ed to assist in maintaining Hit' frlleral fiiiuk rate [ Insr 15 WMC no! ye! dHt aj lite lime of Ihe meeting. Indeed, to 111i: iarRi'1 set by the CoininilK'L' by treating a flour on ihe sufntantUI (vising atmoitcvvy policy over the fic- inieibank market Ntes, Initially, the interest rate (laid on Viaiayat, i-omblneit wllli oriRoiiip. measure:, lo toner ivijiiiii'it reserve balances was set as a spread below die iiuikri lii)nldiiy, via seta ai likely to MI]J|H:UI .niiiiiv average targeted federal funds rate established by the (in Ing farwanl. Thus. msnAOS ,iu;ieeil I hat ki-.-jimi'. the FOMC over each reserve nnlntereince period, and Ihe federal luiwU mifitl rale uiii-liaiimMl al 'i pen «u JI tlw rale ji.iF-l on ateetS li.il.im i-s was set as a sprewl Muw q K ppp the Inwrat larfieteit fwle.ral funds raic for rarh nsSttfVe niainleinnce peiind. SulHtiiuenlly. with ihe fetlcral Ovm the following weeks, Presses In financial inar- funds rule li-adinrj ninsisteully tielow Ilie BtrgSI rale, tlic ki?ls ctnifliuit-d m ittmtil Irilcn-il rale iftinis iti inH'i- spreads were eltmlnsled ii ii•!•• funding markets: '.'.id i! markedly, cor|ioral(! and itiutiii'i{ial bniiil yields ruw, and rquiiy pittes dropupd In I.HH- Si'plfiiilier and n"i I li njiii-i. iiiafiui'i uiHiriilc 'ii.h i.:-. file decline iti the tiei as.Mil value (if a Titajfir eoiuhllnfis deterlorjietl in hnlh ihe LJnitrtl Slaii'.% and money niarkci iiiuiu.il fund lieluw XI pw shnrf- spnrkcil F.urope, prices of crude oil and oilier I'oulinoiiilies a flight out of primr mnney niaj'Kf*! Hmcis .iorl rjtn^L^r11 ilrnpivd substantially, ^nd^nme nKflsurcs ofespwlwl severe inipairmenl of Ihe fniii/immu^ of Ehe cutlunerclal hillatiun declined, En li^lu of these developments and \M\wi inarkel. In i^jionse to dip exliaoidlnary strt^M Ilk' e\IFiU>fdiiiary turmoil in iinanclal iihirkets, Ihe Cum- in liiinnfi.il tnnrkel^H I lie federal R^^rvtv to^olher with tninee members agrp.e.rt tfuil downside risks lo econnmLr L'.S. ^uvernmeni enilli^ and itiauy Eiireign tt'iitnil nnji.Mfi had inni'.iMilnm\ ili.ii upside riskstu inflation Uinh and gnvcmnienh. iniiilcmenlnd a nnmlirr uf hail itlminisheil al an unsrhrduH niceiIn^ in early iiHpr^ii'ilcriic^l \m\U y itniiaiivi^. Mea,sureji la ken bv lli(J Orlolier, the t''OMC cm lis Israel lo Ito percent in an Fcdeiid Rosi'rve around (his lime, discussed iti detail in unpriTtilcnled corirrlinafi'd policy action with live OIIHT I lie appendix, included the eMablishmeni of Iiie Assel- major central hanks. This action. alouj> with Ihe accom H:II knl Cutniiierflaf ]':i| I'l MutlPV \l:nk.i VI : i i I mill fianyin^ Malemetil. led inveslurs lo mark dr)wn lutdier I J[jii1[1iLv I iir A\\\ CotnBWEdal Papn I'undin;; I'arHiiv Ihe ex|Hyteii palli for did federal funds rate. and Mnnev Marki'i Invt'stcir Kuntiins I'afiltly, which Al ill Oclober 28-K) nwfiinn. die i'OMC lowered wore utli-ndeit in improve Hie liquidity in vhnrt-terra Us targei f.ir ihe federal funds r.ite an atldillonal [3(4)1 iiKirkels and paw ihe sir.Lins in , ii'dil market* more 50 basis points, to I penrenl. The Committee's stale- l>Foa(!lv. In addition. In arklrws IhesUable demand meiit IIOIHI that economic m ilvily appeared lo have for liclbi landing in foreign Jmlsrilnlon^. the FOMC slnvtnl markedly, a develnpnienl tlup inipotijntly In •uillhiri/i'il II rm\n in sis i-shriilji lh|iiidiiv Hm|J litlra weakiiiiinf" consumer ami Imsiueu spending and when- uiih furcipn ccnlial ljfink\ .mil rM.Lhlistird Mm". ^. illi Inft demaml from tiirtny fnre.iRri itnininiiev. Moreover, additional ceniral bunks. In [jonifstic markcEs. thy l-td- the iritensificaLion of financial markel lumioil was likely vral Rest'ive raisnl ihe regular aiHiion amnuuls of Ihe to cxi'H additional reslrainl on sjiendlo^ by Furtboi li^iii- 28 and :••;•! tlay maturily Term Auclion facility (TAf) eniug credit coiiiiitions for households and businesses. auctiuiis and aiiiiounc^d Iwo Itirwant IA11 auttii>us ir> I he <.:oiiuiiillee uuled thai. In ll^iil ol ihe declines in Ihe |Kovule funding over y^ar-enri. prices of energ}' and other cominodilles and Ihe weaker file expiuDiutl of existing lii|iiidiiy lacilitles and tile pnis|ieils fur etui ion ik' acliviiy. it e\|jei-|ed intlaiion la L'cra1i[H! nf ni'rt biilittev f milrilulled to a ^ulistaultal HHidexale in milling r|narrers In levels [cicisiMenl wllh increase hi tht> size of Ihe federal Kesfrve s balance price stability. With risks tu etouoinlt acliviiy !o the 126 Bonid of&oventots ofthe hederat Reserve System 35 downside, Ihr (Lummillre fndte&ied ihai ii would moni- ovor tinIP wilh ihr Federal RttWVC'S dual miiJidaif for tor economic and finalesal devi'lopmenls carefully and niiixrmuni fnijibymfnt und nrii:tr iinbitilv. net as nopdfil to [iioniOK1 iUilHiiiial>lL' economic gmwlli \YL<II Mic lrdpi.il himh i.Vi1 .ilnwly [radiii^ BI vt^ry and |irSrn \u\U Hi •.-. imv kjvii]s as a result of Mir langr volume ol t\xcc^ Tlit1 decision of (he KJMC ai ii* Oi'lolwr mepfr Cesevta awociaTi'd wiiti ihr Fodcral Ri?sn"Vc's HquM- inn "A;IV l,s,i.«lh, in litM •".iih maiki i rsj»pi Mlum-.m.l i(v operations, pahiripanis agreed Mial the ConiEiiJltcc •Ii. :I--I only a nuiilcst reaction in tiiiiinnul uwiiii-i. wduJJ soon niwd lo UJ* urtiei louls ro inipaii urlLiinnit.il However, nuhstfjiic-nl eennmnic dala ty^flises suggested nmnelary sliinuluv (n MifPfOTinmy, Flip Ifd^ial HKC'rv* thiil economic iuiiviiy was weaker and inlhiiiim lower had alrettdy acluftivtl a gtftts pfTpmttma Mii'i were ptH titan ;i."i beeneflrflof BfltlcipaKid Thusrrea&ta$balong v«M<i;i limddily sirp|ior^ in a rang* L.I in^iMilnns and •.. MI. ,-IIL..-.I aimliw in • ii in'; si IMII-L'-K .ii.i: wtigbal nuirkiLtsh and a conliiiLied focus on l]ie i[iKinlily ;iinl (he •il •••''• • "•'!•! • - • i'' -11 •• -: 11. •: '!i!li sl'iili-.l .'i ,l -•!..;; |i i |i-V. in- .-.I • I fonipasitiuii of fcfifeftri EESMVC iissi>ts ap|M-,nori lo Ix1 revision InIhr-eJinwtritpaihol'jinliry owrlln? Follow- iU^rrsArtr)1 rind dp.simhk. Fariif ipFinK a^rred Mini matn- ing weeks, l-i-n [Tcrtl iiiji investor concerns about ihc con 4fnnii(.(j gf it linv Ifv^l til ^J-iurl-fffi^a itiU'ruslr ais1^U n dilion ol' Jinaiicjal institutions, Jipioads on tiedil d^l'hii!! scsVd (itiLL* md rulipiirp on ihf u&e CHT l^lnnro sbr^i pnli swaps for U.S. hanks widened sharply, and ilitiw fur Ctei ;md conmiunicslion^ alioul nsonelary policy could ^ remained v«y eJfv^iwI. IKI Hirclivp and apprcppn^ic, in \\\*\n of MM1 VIIBIJ) iirlc- j rtoratian in the ncanqRife ouMookand the appreciable in LuinuiJiiT ti 111.1 sjHLitI I'lisiJU'ss tTt'diL cuiutitiojis; i I'rtbiny thf [iHla(innaiy [jressinev Arrufdin^jy. ilu* ConitiiiEtriftaimuiiTtt^iJi a rar^oi on NovcinbL1: 25 JILLHIS fur the Trnn niiigf ft IT (be fwleml fundi riile of 0 to H perciMtl and Secufilits Loan lratEllly (TAL1-J to support lending lo ii.-:ii .•'!.' iii.ii ••• r:l ! •• •• • •• lik* K (0 Th^p borrowers, Tlic Frdrral J^rsprvp also a warrdJit cxcepMoniilly Jow levels of the fbckial fjndv un Nfjvtjnil]er 2$ Thai, 4CJ ht'!|] ii'ilurf die DQSi t rate for some timc,TlH< stAtcincril also nolod thai tile size of ihr rrderal Rpstrrve's haJjinccr^heei unnltl \>c 11 :\i<n\'\ iflill.Hr- LI |jlii:,hnli !• • |'l:^ |i !'••• I:|' !• • v I MM lul iiuiinuined ~M a IIE^IL Ifvt'l llunu^L open marled uj^ra Htm in direct obliga(icin?i ol' housiug-M'Ifllwl juovirrn- linns A\K\ Dilif r m^sor^ losupeiort fin^nrial n^rkeh mc-n[-sj>ori^cjrfJ £*nicrprisci and uplo S.lOt) UUMon In anil Tilimulate [lie cconumy. In addition, Mil- ^alcrncnl roortgBge-taeltrf SKairttfeS (MBS) bat^L-d l>v Faiukif iii.ii' -ip: i- 'I^.M die Coin mi I tin- Moot! M?ady to expand Mat1, rteiidii1 Mat, and Ciinnir Mat'. I In1 amuittiiL ;.iII•. 'i.iv •. of aRrncy ij--i-i and agency MBS and thai n ufllic JJ^LTK S 15 I J r n J L II v * =• it was evaiuiiiiujj |}itr pok'nlfdl beu^filii of purdi^ui^ lanp'Mernt [r^asury SPI UI itlps. The VOMt iHi-jnlju-v 11ii IJIJLII i|u-ilii\ hiiiiu^i'i'i in iIn- |nii]LHrv rcsiti fmpliasi/pd I Ihi I thdr oxjifLlallon cibuul tht" [ILLMI of morlgage maiki'l stihscqutMiily rw |lit» i :••.!. •.. .1 funds riiii' was Conditioned rm I tip i r View nt AFdioo^h stmw jinnndal niarke(i> o\hiblUhd Ihi' likily |Killinf pidnnimc m livily.Tht* Inlfn'sl rflu^s iiu|jft)VHl Urn liiir-iu-.- -iln-1>] Ofthfi DiTfinl on required rwfrvp balance ami WMSS reserve bal- niK"fts WPIP Iwih i<?< at K^ basis poinlsr Thpsc mon^iary C nilif rnndilirjns hm\ rnnfmtii'ri in n^hlt'ii for bnrh putitry dwisions a|i]taieri!lv weiv more dggrt^ivt" Mian htnisHujklii and bns,inrssp?(. Fiml nngoinp di'rlini's in Uives(nrs luid teal QKpectlflg, M^rki'i |tariki|>anis weiv njuKy iitiH ho»M- [irtrcs fuithrr rrfiiiciHl hfHisrhnld Mimi'^hiii MI; [•M'-riJ I mill h\ tin1 M/M i?l ilur-11-••• 111• limi <n vvrailJi A^aiJLSi lilii batkdrttp. liidiraiDis (M hntgtf fMWB) Inndsi rah' and by Ihf slfllnlmils irwi m:oiK>nUc aclivEly contlntiud TO worsen. potlry rale* wnuld Mfcrlv rr'ninin low fnrsnmr1 Mmc and rAjH'Lled tNLCJiiintik duUvity iu Lonlrdd sbuquH In UIH MiiM [IIH I OM(_ mipliP L'ligs^1 ^(| aritlilmnal HOI tradition knirlli qgnrlef uf^CUS and in i«rly 2009; il ii(Me<l tfiai al [tnttcv aclffltis \mU as the purchase or/nn^i!r-lcrrn ihi' jHKL'KriJHiy sLirniUndii^f [tip finilnitk vviis rtiiuicjpr- TI • ::M! I •. ".i • u.rili<J1i iibli' ;iucJ didi tin.' doun^idt- riik (o even ihis dour irajwr- Ent timing liftla UVIJJ- ill? lolluwfi^ wwks hidir.filtd a rory For cronomir activity was a sprlons COIKPFII Inlla- runHntii'M shiirp trjiitr^Lliuu hi I-I -in- • • • i.• :n n1. .". i i, lion pfpssurps had dimJnishni appreciably as piifii1;,1 bLUisiti^iijiirhH rmwirnif un it <aw\idowim<iiTl irencl, .imi MIIH'I conittKKJily piki^ drouficd rtr»! eroiwillit: rrm^i,ifiii:T.[.|wLinllii^ ronMimihM il*i vijJiiiJlKvuK rincline. activity slumppri. I twiking Torward. member* agvepri ill" si i iv, 1.1 ii y. \\ in I'li'.iPM's.^ vi|LM|uiukiii invi'snin'iii JIINTI thai InrTttiicjTi ^resjtiup^ spjicpr^l SFI (O nHi(h'rnuj lurlbLT r>llk'd,di]d ("n'i^n nVmaiid weakcuetl ^oiutliSous In En rowing qti.in-c-re, and MIIIW saw ri^k-s Mini tnllatEnn iht' lalinr :n.n'i!il rnnliinnjd ID dt'lprinral^ raprjly, and coultl drop IK1 low rail's they VIVWEHI &a niuii run&istcnl MKJ ilft>|) in initial rial prodnctlun Hrr^leralei'l, Mt-acl- 127 36 Monetary Policy Ifcporl lo Ihttougress _ f ebmun, 2(309 I imp consumer prim (Hi in iVovrmlwr (hi! icrtpral K<,nser\'if's lialsncu sheet al a high level lor whkll refleciffl c!i-( knr^ in uinsiinH.r trifi^y prim; smiw.1 iinu\ Lnmnnlirr nii'^nhrrs agrccci Slml keeping CQCV i:in]* timer prices weft.1 about lint in liio&> mom hi. Ihr i •••••• • i"i ihi1 !•••!•. il ii:-i I-. i iii- al 0 lu VA ]•• r Crodll < ondiliom genorally remained itghl, VYHII fiium- OEfU would lHf d|)j)roprbl^, TJiey n,ho agrt'^l lo toniiinii' i i.iI n.:iiI-.i=is fragile ;LIHF SQUIB JWIK (jf llir funking gag Uslitu liijuidiry rtinl rtssff-jmrchasc |Hi>^raM^ ift !$ii|t|)r>in t in o i r f i u m n v d n e i r K s 'T u i h l s w la i' t f i t lf 1 a c l v x id in c x m A . i n K u w w m e w ve l r i , i u m n m ic J ia e. l s n l i s n i r g k n c s lK a — l I III1 !i i, s . r : . !..|:.i • ... i:..:... |g .M ;..:!..;. 4 hi' [i;triirttlFir!y ilitisc flirtt WIVE1 inrE'ivin^, support I'mni Frf In Its Jannarv ^Eai^iitE'iM. I In1 f-'OMC it'urtiplia\t7cd ktsi-rve liijuiditv lacitlltes stiul ( ihai tin- Fockrai Rtticwe wifl tcegJI availiMe tenth io promoti' tin* nesuB|RkHi ofjusufiofefrt eoonomlc A11 fit' mcHing jnimiuary 200B4 piirtlciptiJih antic i ^idvaM nnd lo pvT'jprvt! price sidljiliiy. Thi'Coinmiut^ |iitK'<l 4hat .i ^rcUliittl rtTQvpr) In U.S. rroiKinnc ncitviiy also stalwl lhalr in addition lo Ukfe pun INIM.^ of agency tvtiuhJ lii-^in in IJIE' •SL'[-[]JMI half »f 1|y? year In re.vpunsp f if In ;iiid MBS alrpjdy under way. U wsts [mpnml tn lo moiu.'lary Erasing, anoliienlow [if fiscal sllniulus, |>tirt hvi^e lou^PMiMiii Treasury ^turNici if rvolvin^ ri'lafivrJv I'JW energy prices, aiiti mnlintipd pITorjs by icalcd ihil such iraii'saclioiis would be Ihc1 ijnvivnjiit'nl lo M;idili/t- Ihc *ni.nn i.il SITIOJ .MM! v {•MW:[ivr in improving trtirKUlipn* in pnvnlr ifirrL'ast* I hi' avaliiibilKy of crwlil- A* o|tukj January, rn-tlii niarkt-is The Committee will continue lo numi howpv«r+ wilh hnainlal idiidiiions lur carohdJy t\ic si/v jmd i:omjKjsHinnoi llic J-i'drral mw-u-mi ectftWfflicottUwk w™i(L DKW ' shrci in light of t'votvlny immv ial agreeil lhal (he L.-unmtHli.T sluiutd toiKirtue kx IIKUS b. Il wiEl u\\u Loiilinup m ^Si'ju tm supportinf» HIn"! ruiKjIioniisgornnanahl markers and wlu-lhrr pxpamioits ofL or nnxlilica<ions ID, Ictitliitg slimulnting llin pronnniy through pujvliasra ciraptncy l.n ]liiir\ wmild sprvu ID (iirihci mi|i|i,ni neilit iii.nt-.Hs di-lM ami MBS auUuLluT illfdMirfs -including Ifti and ttfaHfttk £iriJv ifv yd IJC- E| h pMSWi/lB jsnr P imiJlt'iiirHlflfioii of tlii1 TA1 F— that uill keep Ific SfZC of 128 Part 4 Summary of Economic Projections TheRilkiwing watfiial3fi}H.'^ttfJm, JUI mhh'thUim to hUMC )JiiHjLipBji^ VIUWHJ llit outlonk lor e the unnaits ttfthe January 21-28. -?fflW, uitttirif! ciffite au[]viiy diid irritation as having vviMkriii*] sigtuTtcatiUy Federal Opm Market Committee. slncp !aM Oclulwr, when ihtHr InM prtjjitiioni were inti[lij. Ai indii-Hlett In lalilf I ami -IU^MI Ml in } ]»>\\i. I, liminjuiirimu wilh th* January 11 », gfflS I [JML parlidpailts projucltd IhiU real UD11 wuiild cumrdcl nnHUinjj;. ilwuitMnberc ofihi* Buunl of Guvemur* ami • i- is v^r, i h.ii i in- •.mi 'Hill.A M I-III raw ••...iii taoras* Ubf |jrc^idLiiiii iifihi' t^wictal SfcSOVe Hanks, all olr biihiiuiiiijitlv, Jti(] i-i. cQiwflwwr prtoj inflaSOn wuuld wlium (HftigJjSdB In delibpraliuiiK o! Qbfl H}MC, pro W tigdificMiiy lowei • !>:•• • in refill \i-,uv, Given • •••- vided pruferlloiiii for mrouomk- gmwlh. unE'inpIcivment. iirpngih ol the IQFCES I iirrenily weighing on (he ec«n- and fafutiton in 2<m £010, 2M1. and evw HtetDBgw omy. |3arrirjjiains g^nurally cxpcrEHil lhai I he rf'rovi'iy run. Pfoj^rlkins wrrv Ivi-spd on irifrirnmijinfi ^ymhiHr -.-- - -•= 11 • I I"- Illi'Cilliilh, ^hJilihil IMUl pC'luli:.1;'.'!. Ail |Jdr through the11 iirmt'luwoii nflhe meeting, cm i-srh pardri liL'lpants dnMcipal^iE ih.il untiiiployrntinl wouEd remain p;inr'i ovumpTion*. rpgnrdingfi range tfiactfl&S UMy in - < • 11 '• -•; • • i ~i; i i-k 11 •• . -1=• • •-1 - its l-in'n r Jim '-UM.iiitiifili- r,'n- .r iifTWr n osmmir OittCGJtMSi iiinl mi hin nr hcrassrsftnt'til :\. i-iul of 2011, L'VIT atiM-ni hntht-F frmioniit: siKKka;; of jpihrujir^lt1 ihunpiiiry pnliiy 'A|}[int|}riJir itmnrl^rv M Tew intiicaled ihal more Mian live lo six years wonLd pollfA1" is ilc-ienccl as the fun ire policy ihai bascfl on Iw iH'riln! lof iruM'rrmoniv in ronv^^c EQ n Ifnij^rr nm tHirri'iil Infonivitkin. Is rttTtntfl mosi likely lo foslrr nud nun's for^roiiomit -unviiy •»•'• •-.< ',-. • •= i ••• • i ,niil iiti'Miii^rvnii'iti unri by -in approprinir' ralp Ifnn. r'artlclrwnils (jcnprnlfv jurlgcti Ihnf fiwir pr Rr^^rvr'sdital objccllv^s of iMttx 1'nr IHHII rrniinTiiir .idlvily wu\ inflaliiiii v,vw .s prl(T s^biltry. Longn-run pmjcc p each Id .1 ripguvof iitLErriiihnlv cxtf^nllnj* hi<;iorir;il parlScifwnl 5 ^Sie«iiiiK.*ti( of (lie rate 10 which Pijfh Vji Nearly till parliripanis vlrwc-d tht1 risks lo die iible would hi? txpL'Lfetf ic cunvi'njt1 ov^i lijntj undrr cmiloQk it\ 'lkt'wcil UJ dicj ilownshif, nnd nil iiai iippn^prtHir MHrnrFBiy policy ami In ilt t foi- DM iiif riskJ io rho InilRitnn rnitkoh a kher sluicks. or Utied to lh GWnttfflk pti^ontora ui l:rtert1 Kawve Girt etfflia tttd EitfidVi Bank prcsktnib, Ottnlmm*)" V-i.bL MBit *uiu iLltplta an •'.ti't '.II i 1 ,1.^.^ Nun • -0 U .2 m In - D 1 . , i 1 J:.n.;t.< , tt l » l l u l 3.r I . I :ii 1. . 1 .! l in™! is L 1 S I n IH H . .5 l!i H. n i t . t Jll T.I in 7 F, 115 in 7 3 Ilk ijnns.il 1)11113 .. . l*< I'll.lT ITU t I j J .a I i . u ii i. . i l l i 0 1 1 . 1 8 1 I I i i n n n L [ I J H i Win I.S 1 I.|..'l> \.lutl • O 1 . . 1 I H I I I I . I I H L 1 I .(1 U IU .V il U ul T .8 .I l.l M mill Uilfiiei pni|prriHit lilt Id 1 ) n. 1 » IJiu I.I fSmil I.I .1.1 « . ri . B .. i. . . . . i . s NUM.. I'miiTikiiRPiif^iyiimiifi i».ii pirviil. -n, |tn.lir,i r<;U(ij JIH.1 uliBltjiurPJi*ciiituit\w.IrtrilbI|UHIHI n(Jrwfin,t«w,wwiiJ[ltfln*lflliilu*firtnritKTftn Iwilcid-rt lt.F tiidillfiH infl mir H I MU <l lWHtiillHil"jHi< urj-hJii^i- Hi i>^vrt^rlv. ih" |*Hn- 04H r>- IHTS i]ifiwwfiuifi UttaBBW**(POBQ JWHI-- ftrlr^ hrik.*r IB" KH HIQ luillnjl 1rk«l JIU] iwh^-. l'Pn|n-fMlH In* ihi- Uifrflii^Lvincw nPIN' 'w Hw nhrt^vU' rlvHUn ilainnifihU^liHil Mir MI Ihe Iniinb npliriiM nl lllr \rtt miJU iii'il l",if li |KirlK tEHHH in "I1'1- IfeW NI Jwwil i m Mi ur 1in iiivauinlt "FdjififthgiiMr iiHflii'M> ^ulky i.iniinT-iun |irnjw.mjitt KIKFM'H t»i l» |wi Ni timnl '»• iwurnnl uT [Ik-1 n lu in Kb L-ULII >L »\ LJLU- ^>iukl IV KlfM Ml ED IOM "SLJI- UIRJIT J|I^J«^H L»i' [WMHH y jmln •, .(ii'.i jn ih:- jkiwin'L' -\t (m tin.-: JHH ).•. l» ihi' LTUIKJIIIV. [ If frlCHrtf |H..|hi Lll.m Win no»k. H.<nn^B.1iMi vrlib *»WVMI iiMi.ljnginn I hirjl^i VM T\ \t\m 1 liH' FrXIrd ll-ndn H y I'XM JmJr-k I lu- Ihtvr !il#jli^iJ IIFJ 4taii' IIMI-M |NJi|rcHu*, li u y* ill * ,irwJ*' 4JI . - It p K, P»tr nwi/ F* ,1 vurk*!*- in *Rimi vmr Int.lwk-i dll |unrl^in> pfljiriluin. nSfll liWW in M||lM:(W ilhrt vmldik MI ilw vrm. 1. ll mijjiir run jifuj^f !l*im |iw cmr It'I lnfUl hjn ;m> iteii nillM-in!! 129 3S Monetary Holiry Kppnif In llw Congress l-'elituary 2(109 Cutiuvil tumlrnciL'i tmtl range* cifwoHftRAc tjiujtitlioiis, 200H 11 anil ovn [III- IOIIME'I pun j a - •'• -I g — i a KM am;, mm anu7 araja 21)11 !«i Kmt T i ! I I 20W 2005 2IJ00 ,'007 SOOS 20IJ3 itlli PCE ml l.n IOIi 2MM IMS 2I10B MB? 2WIS IB9 JOHI 3111 | r aflW J005 JOIII; 2007 anog !<iiffl 2nw Nl» V- I liiiriiiluin 1)1 vnrliililif mi' 111 Iltf Wltra W luMll I. I III! dun lu< Ilie iinwll villiu-s <>[ ll»i wimbles li 130 ftoxrd a( Covivn&rx ttftht* lateral Risen* Sy&ew The Outlook •<• '• • i :!••.• die Sharp rise in actual uiiefiiployniiiu Occurred during Hie linaJ tnorife of 20UH as wrll as R-irlirinnnEs' prfyerjiuns for llnj rhiingt1 in iwil GDP pnrlid[^nK' ^raKijr oeilknnk for mutdniiriirl'ivir^ lliis in 'mm Hid a tim& read&wy of •%£ iu ~n.5 pert-em, l OnaijwiiaJ wlih lhr ronrral lenrirnry of 0r£ lo 1,1 ppr- in 2OI0 vvntiM nni ho MLliMnntinlly nbnvr iis Jf>n^c*i nun ' I-JII for Uieir pmjeclions I:N (.MM ha In explaining inrncl rale and licntr dial uneiiipluvuicnl wnuld dt'cMnr ih™ licnvmvant revisions, pa rile (paws referred in ihe unty intMlrMity ocxt vcaf. With rrnrtomir iKiivitv; and furiEii'i iiiti-JLsiik.il LDII oftfii? Einatu ia! tmi&aiid ik ji ill tFL'alion £< in i >l h jii i MIH h-<| i(j M:\f\vrdie i ti SOI I. i-Mi'i i on rruilll JIM) \Wttftht i In- u.iiiiiiM of consinm'i and |Wrlkif>jins Hnli<:tj)rilLHj thai joblessness would drcilne ItuNini ss ruuntIL'IH L\ lilt- marked ilecelirjliun in global iiiort'ii[^]rf*f lably llul yearr as k uvidrnl from |IIL< ttin emiiumfCHtliviiy, :mM die wvakiu'ss nr im- jn- >I.•.. irid teiHl^nry (if BJ iu 7-5 i^ri'fiil for UuHr tiricmjilrjy- mi S|u-nr1bi)g aiul rmplnyinenf. ]Jarlirt|innl£ anliripiilefl n mnil niif pTUJDcttnns. l^irrir i|i,mi.% p*jiprlfd llmi ihc1 broail-b£mjit lift licit' in .ij^ie^Lnlt.* ••Jiii|,nir I.]EI;J|IK tilt1 !ir-.i aiSLShployiiiieiil rak1 would dt'tline J~tirElir-r aflif ?01 J. hall of ihfe yeax, diey noted iliac coiisuniei ^jerutinjj; ami mnsl taw It si'UlIn^ In <it a rati4 of 18 to-51) HrCSU U'Liiildliki'Ey Itf ile*nif]tji.l I11, ill'1 • I • - L-* • • ininci^u m lulim inufkfis. thv l4gfetB#ttGf irHll umiliLiuns. il|th t unliiui- ilng.dn.lim? in IIPUSP prices, anri ihp rreeni sharp fledtiK s0 3 lo 1.0 peit lion En Mot k nuirkul wtakh. And ihL'y law rt'tlti^iHinis in BITLHII A |icfi:iin!agp pnin( ktwfr ilmn ilw1 ct-nf consumer dctMBnd CDinrlbuiiti^ IFJ funln?r wt-aknrss In ty nf fhr]r |jfn|ertiQn^ Insi fk'Uih biLSbiL-s^ iuvrsditpiit ETuWuver. \i.nm. iji;ini\ ips[i-' • J• -rJ mill ..| ili,n tKfiil Ji'-inlini-.^ on inllaliuJt }iad IJWH s tIanr \\tv i^onumy wtmld be-^ln ru Jrrciv^r—afbt>ir inj>lv few* anH somu an(ki|iHTL'ii dini die u I'L'kl'i.iU1, during Hw *iecout\ fi.il I nl 11n - yfnv, iiKiVnly dtt-linpjs bi 1IH? jirit ri uf eiiL'r^y -'"J ufliei- tvAetlhiiL; (hi* e&tcts rffifcea] Mhrniliis am\ oi ivdrml >ii.n hail in i UNVLI in |]ip lain i pan ctf :•'•:':;': wouM COT" Rr.srrv^ incastiref providing siip|)f)r| locrertll linnp lu bctld down ieiMnliun al HID: t unsuincr level in iiinrki-1%. 200J). I^r1kl|}ants also ntarked down Iheir proji?rEion5 Looking fuviliti alieari, participants1 growth \uo]i\- for rori' PCF «mi. \\\h yeai lo Tl^hi of I heir vk'ws lions h;id a rtrrral l^ndfitry r>l 2.5 En 'A.'A pt'rcfiil lor rtl-H^Lil dttf indifei:t 4£B*CQ of tuuer energy jjiiuiaiul tile 201II ami 3.8 ttt fj.tl [JiTt't'iit fet 2LIIJ. Parlicj|iaiU*gen- iniiHcmf oi iDenssed iGWiiroe slaok. nraHy fsptrErn dial slmins in hivinrial nj-irkrls wmiM [.nrfiling IH-VI Hid iln-v ^ VM [j.nfte i|i.inK" jimjfrlinnv pbh tjnly slnwly and KU^RSB IIIHI itn3 pare (il rtcovi?ry j<;r tfififl rcE iiillalitm had a Gfeftttal IfUilcnt-v e?l 1.11 Ha in 2010 wmilri be- i(.i(ii|]r<1 fipneflK^ss, panltlpains I .S prrrenl for 2111(1. 0.0 ro l.Jpetcenl fnr 2011. and ^uwally aiiiki|]a((!d dial ivA GDP ^niwlli wuuld gain 17 lit V:- pwCeul aVej HIP longei run. FaiLicipnis1 ftirlnei iimtin'iiiuiti in 2011, rtat(iiii^;< jjyrf MJJII would lun^r-run pmjtrtioi^ fnr lolal ICIi .iiii.iiu:n reftjetfld k'niuurarily Efl6CB«l llic-ir ivMinadJi'.v cif dltp lunger run Uieir iniJividunl as^sitist'iili; ••!' un m.-.-. ! >i> -. uf bt d d h ilinallon i onsislenl wllli ihe Fritpral Reservi>'s iliwl In ![J n>t1i]t'c.L ilu- slat'k in n-Miun'Miii1HAitiu[i. Mctsl |-.u maiiddie for prurnoJMig \irkc Jsuhiftly and m^\jinniii ii«:iji,tiiis expecied (tfcii, iib^cm funiicr s!iock^H economic t'liipioyrneiK, Mosl pattidpUttE judged thai a longer- ^rowlh would rvcnliiRlly roitvcfgr «o d rate of ^,S to mn IJCF hiOatkiu mi*4 of ill portWtd would Iw i^nnslsicnt 27 percent, rftfl&tiog UmgLT timi ireatda in i h With Ihfr filial nidiliidt.:; Q(heR iiidLdltHl Ellnl I Vj ui ul (jtwlyi livliy and lilt' laliur force, l;»i ppfteiu iiiltaitoii would be appropriate. Modestly I'illlli ip.tlK1, .UK!: jp.idil ill-1,! Ictl ll.li I-1 -I nmiiivL* InngE-r nm intl.tiinn wrmhl ;il]nw ihi1 Cnmniil \\<}\iU\ HpirriunUf MEbsi^niifilh hirlhr*! nvi-r iln1 mursr i^e 10 tthualM trumpmh adivily nml MJppOfl t-inpby of this ycflr, nnd nearly all <ixpiM[*d lliaT unt'cnplciytncnr nwni by veiling ihr fpdt'Tiil 5mih m|p lenipnnniiy bclmv would ilill b.1 wi'll abuvt iLs lunger-iuia iitiiaiiNiljlf iJie in tin im i rate ivheo thf tennomy is bnlfeiefl by a rail1 at Hit4 end of^UI 1 Patiiiipaui^' pRgjfcetiOng for (lie large iki^atKi' ihork in demands for ypfnis and sfrvict*s »vtLragib ijnt'nijtlf iyjitenL rule tlucinjy; tlio fourdi i.]iL'in i i)f Patlicbfunts ^iier^lly wtpfi.it.HJ liial turf and a t^iiirai ipriftpmy ni H.5 m K.H |terre!nt mark- i:. :.!. . :i M:H; i i'ftnve^e^vf1! lime, and HT Uiriii i'A^i \}i\smites\ M\U\A niit'Enpliiynii'Jii L^rundiiiir '•link wuuJd LuiUJnue tu wti^li DII inllarictn raic of 7.2 iHTwnt— rJu" Isiit-*i nvailaljly figure ai i\w OttlMrtiea for Ihe 11^x1 lew ypani ftncl herue ITMI Wtfl) limp of HIP January I-OMC nu4eUn^. Nearly ^11 narllrli- PCF ttlflatUm in KOI 1 WwJtt silll he l>elow Hieir av^ss- |MiitNr umjcrliini^ ivwi1 ninn.1 lltun a pcri>jnliiye |Hjinl illiiil'i of llie .!.;•!•••<;.. i ,!•• :i r iiji-'i rdte I'of ihe L- • i«-.- -1 bi^lifi Ifiaii llii'if previous [J.>i>t:dsli tJittdr lasi Otluiu'i, 131 IE) Monetary Policy Itopori tO UHJ Cw pehruaiy /w W Risks in iln- table 2. Averagi1 historical pmjprtloTi vmnr rnnj^ Haiijfrpaws tmiiinued lo view uuaJiiaiJHy afimu die uuHcwk fflr ermmthit jriivity us hlghrr than nuimaU' Nur risks lo [heirnrujei/lions for real tiUl'grtwili vrere ( il- my II i PI . i (IUP1 jii«l*ir'(i» helnjjj skewed in ihe dnwusfdi' arid lhi?*55nri- men I risks lit (heir pnijfr. firms fur I hi1 iiminiptLhyrstfiir ri!'- w^rc lilted lu iJ11• ui.mi'Uv 1\iiiin|wrn^ lii^ltlipliU'ii . irm r.l>[Ur%-J|itAi| in'HH'j'.iMinl M |I1UIKT A llf iflU MK'.Hi Vjluixil I he considerable dcgr^? of uncertainty iilHuil fbt Allure WH nt jno|.nnh(P, ihil wm' wltuni In Ihn IMflUT limn 1 U|*J lllrutfjN /|JH71 ir rlir rnjrsf oflhe linundal rri*is ami ii% impart on die real i i i ' f M rw i r M U ii n ili i c l lh h m i h H i^ M 1 : > I b Q w ) " th V ow '. u-ii | i p U il i l i > r • i . t l M v l l y p jl i i l n ^/ ll i u W iN H t rt i j t l| H M P, T ilQ U |l KI A # uvmii|iiJoib. Hmr h etruinmiy; for example, rising uiieiiijikjyim'ril diul wt'dk- MilLl ,i .'II |»n hill ilfnljiJhlllli lfwl.-. Hi.l1 inLlinUn- ILH i.'.il i.lll" t\i\,\.,\ il H i>l ••• I •"•• -i |- h ' -. H m VBKl iHtfM IJV lln- HWH MW 11» |«J0 I lW o a r n d g r I o n w tfii t m h 'h fo ii u i ( I t d ia r n a s J , t c EI e M r C tB IIE T I^ i t I W ff O hi s g j h iw er r c I t t c iv s ic a ^ n f n h r A h ita ii. r i i n tp r l i r a i l IH TI I S L T |N T / i I h H iiu » J ; i ) - I • n f 1 t . \ « m |i im fiy , y I u u t n Lk ti r l r iil< i i y m -n ui r i i l b iii - i r o L B .lt n i * D in II * V . W U k i- r iU iK i k iH i ii'iitrr ,U « IL 1 I-- i , l in 'lHirMlln I nw\ liniKMH- HIKI L'cmiLinliH-> Dt^LAltttt iJfliln JUIIV^I LlJunrJ flrtfla ,iti(L MI it;{3 furtheriijilii"i;i=i'»uJ irtilii EOUdilJoM tftWinHlltOl llm I «ltfal FW-rw .SuH'm ^mwilink I hot wmiliJ in Mini i>m further dimnwarri jprrKure (in I HimlcfiiilPiiwpi. KIU in i^'wriiP fhwi- ini..l.i. i 7 MIIMIA- Iv ilMi I.TVWIII rnirttinirt |Hlr*i Imldv. fin |H-Ji r- ii«nmii¥ I4ia» Pim siH-siiliiiL lei ii i.n :if.!;i degree than currently foreseen. feo M i Coputm. In addition, sonic parlfc ipanfji iiolin! llml a substantial of * ml il il^iw of uncerlrtintv was iivscwiafeii! with i^Fna^ln^ ilu1 i.ihiu,nnf • 41• M.I -, t in t ij m r.iiH m il M id e i u 4liK t i rara brVai1PH1 I M II .,...• I lh l.k. IT, i v l . U J . fclimulatlve elltcts ol' noiifrddiLional monetary polirv lidil ^Jlilrili * p'fi'n! ftn Mfhiiirjjij; ||i, •arLirii ^ li«)ls Llkil an1 HOW In'iiijLi i.'jiiplovi/il i^ivi'fi liiar con- vonliottaj ]iu\\r\ ia^iit^ was limited hv lli-r t.t'ta lowrr IEII wound In n ilmcly fa,shlon once I lit (irooojny Iv^ins IKJOIKI r.u« nnmfral Inlerefl tates, Otfcets reft'rrwi iu in reiriivfj. uiirrrtftiiilir^i rpganlin^ [JIE> si/i', rfiinfH^ltJoii, anrl rlln'i ItvrilHs ill ifif Jiv.il %finiuLu!<> j>iic k;i[;r vvlkif Ii W33t Mill ilniliT cuTi5i(kjr«i(iu!i di llip limv flfI ftB bOMC fwafitlg—• Diversity of Vwws siid fif t tin her mrasnms TO itahlH/p llir iMcikji^ syslcnv As in Qttohi'r, rno.si panicijwiitb cQTilinurd lo view Figures 2,A ami 2.B provide funher dmib on [he <li- -r I lie* uncertainly stnroumlliig their imiadoEi urojet lions sity ofpastiflipajtff1 VJPW5 n^nJiMg likfly OtffiXnuieS Pet ^s highi'r lh;m hMfjifral norms. '\s:li^lir mnjrtrily nf iral CDP Krawih and the oncinploymeni ratrH rnsppc- jurliLi|>;niH |LKE^ES:I ihe risks lei ilic inflation ciullook Hvt'tv. For 2005) In 2011, ilic di^pfriiun in |iarliri|iaiir5' Ab roughly fjJilEiik1^!. wlitlo (lie rest viewnl lliesc ilsks prtJecTioitt far em h vartabli was muchly ihp same 3S 45 ^kewnfl lo rhc downside, Panirlpanls lodirarpd lhaf fnr iheif projt-Tiiiqns lusl OnolitT. This di^pt^%ii,7n iTi.iin flt'vultfl 11n• • • 11 is iir\ aljwul ghilwl gru-wih wti^ t^utulii^ Ly indicaltnl I hi1 diversity nlnarlitipanii' fl^u^^tnpnis rl i«- ntillnnh lor \miv\ nf piirr^v And flthtt CDBI1)Udllltt regard tog Ihesiimnlatlvc erTrfls nf [lira I |mJky. I he ,i!nl henri1 (tMin IIUKPII-1, In y.re.mT tinrcTtfiinry in iluMf I.!' > of recovery in financm! insrkels. and mi! evolulion inETaliun prujcctiunii, Many |*Hrti-rifHinis fsltticd ihtti ihHr orhowiphuIlls'dt'sired ^iviMy rales. Till' dispersion in fiSwHjisnieilis regarding Ihr level (iltmn*rfainEy nod Iwl pard[nl|]aols' longer-nin prfajcriinns rellected diflfroncTS ancc Q\ risks m ihe intlafian oullook were ckrseiv IIMJU-M In llieEr eslimalps r^gardin^ (he .^u^lainahle ralps of out- lu Lririr JLtdgii leu Is A\:nmi i\w loiteiialnEy ami risks lo llie put giuwdi anJ nneni|]loyiriHiu lo WIIIL-II BIB ecoitotny cHillook for econotitic ^cdvify. Some panic irnaius nolifl would i mivi rgf1 wuim ajppn)|>r]Air jkiliey and in \)i> lilt riik did I inHdiiun ^K|ieLljliOus rni^lil b^f.unit tuian absence t>Fany further shix&s, tliorthJ and drlfl dnwiiwaid in tespoiisf lo pfi^isieiir[y PlgureS IX' and Z.I) provide eorrwpniKling inrnr- Imv un'.Lini\s oiu: in:h11- while nfhers ,i =.f i-.• \n- jMi^liihii E^Hiinlimi; iIn- \Y\\ v\'\M\ ni |jHiiir jpruus vtows IK'ssiljifiiy of an n[?waril sliill il invusturs lxjtiiiue win yarding MKJ intlalrmi outlook Tin.1 dispersion in par- (I Ihdt sii(HH[ftI!vi* [julir y o&HU&g migJll not IH< UdpOfttS |irojeilions for rolal PCI1 inllation in 3UUFJ was siil'M.i11ri.iMv (.:n:iiiiT than lor ihelr projerlions made last Oclobrr. dim la increased diversity of participants1 vlnws regard I IIR the m-ar-lorm evodilion of prices ivnifnl nHr. unil \t\ial i^n-iiuatr ol'^nefgv and raw materials and I he exle.nl lo which nm IIW7 to 21W7 Aj HIT i-ml nl rh:s rltiiii.nr"! in rlnrsH piin's wrriihl he Itkfly lo OBSS intuLi^li bnv ' I'orw.wi Ll«i.-fTiiitii|vn dlwiraws fhf wurr*-s iinil Into ovpraf! Jnrlaiioiv The dispersion in |>.inl(tpini-; if t f B u t i S ni I i H ili U Lh lI i n ty u f p ti t M •g T p l:il f J f p f l l v if r . L f I u II 1 it 1 i J i- S ,k J - * > J u tk r l n i 1 ln .* l ; u |j r i u nl ; l i \ s \ , l n ln U - ti prujtiiiur&fur tun° VLV inlluUun in '<HW)\\ wai nulite stilly lower Ihen last Gfitflttif; \mi i\w dispersion in ihctr 132 tfaant utCmiTuors uflhr iuilrnl ttnrnv Srxt<!m projM:!ions for corf rnflalimi in 21)10 and Sffll1 was in 2(111 Huulil IK tfOM In ilieir togeMOM i niiirki'dly wiiter. retiming varying HMSSnMttS alxiul Mnwi'vn. (ttoa fiarllt:i]!anl<>' tirniniiini!. fur iiniil PCE llw litniiiK BIHI pacp or economic racovcfy, the sciksl- tiill.iiiiin in 2011 wcrp bclmv Iheir Inngpi-riiii prajer liytn ultiillaiiim Hi duck in MtMrtt uiiliznlioo. Ihp lifiiis, iiriiii.LiiK Ei-Hri iin,n rln- rtfiii(ip8Je.df(TtJris nl' |i.- .il'-i••• • • I • •: ------ ri-.-..I• .i ii.-.I I-1.-1 WBRC 11 .-i:nl -. and lii- siihMdiilidl slack CIVFI ihe rtcsl ihrrr years: this iiiflsiiim likelihood Illnl fadUdM cyjpi-i-lalioiis will rriiiain hrinlv gap w;is atmiil W (n K orrcrnlngi1 (mini for somr psr- ii. A few partlcipmiii Biiliii|wii-il IIIHI Inflaiion tk ijiaiils bill i-WMinVit n Till! (H'lii'niapp poitil for iilhprs. 133 Monetary Policy Rfi[i»rl In the Congress ~ February 2009 Dlsrrlhlillnn nf panls-ljuiiw- prnjKrllnn-i trirlhr rtangp in ml GTiV 21109-H ami DVK Ihp Intigir nm " B J yi — I! — Orrabrc in — « — 8 — z J mm \i V\mVm mwm MI i;i;.51:! w i.t H H ?; •- i. if! nn s I i a SS R ii S !1 B : i'11" ii ^' 201 a .iii i I; — 111 * I • • - N UtlMl I' 134 Ihinnl atCavemoti of the Federal Reserve System 4 it Figurf 2. fl, DlwHrnlimittr |jaHM[*mli' |nnjrriinm Un ifw iiiii'iii[plf>yiiirnl Tiilr. 2UIW 1 I ;iiuln\rr 11 ^r- loip^a inn — I! — Ill — I .11... 4.4- 4ft- «fl- 511- 5.2- 54- 5F- 5.S- Gil KZ- HI HTi- £&- 711- 72- ? 3 J t- 7.R- fl[l- £.2. El HG- UK- !>B- Q2- (J (,T I.S 5 1 S3 W 5 7 .19 6 1 ».H t5 G7 0 9 7.1 J) 7 5 7.7 7<l it 8.3 «.S »7 8U SI ) — [1 IN A u n HI in r.i rl M f.T ti si »3 s.i I17 H fi.T I'. . Hi Iritis -1/ -III — a — E II Hi l.g. 51! Si i.t- 5B S»- 6.11 H2 HA t,B- 6.B 7» TJ- I.<- W ".« (It IV U B* 8» »»• !I2 SS iS i.I 5 9 6.1 O S.S 0.1 U 71 M SS S3 H II -1,1 — f - I - I — A I •H I.G 4 J*- BJO ii M 3& iS 6.0 6U 6 4 6fr t* 1.0 7J! 71- 7.6 7.H 6 0 8,2 «.4- B6- 8# 'Hi 9 if 45 «T 49 il IJ SJ 37 S3 61 fi.3 fl.fl fl7 I7£J 71 73 7 S T7 79 SJ PI 3 H> Jt 7 R11 Hi El 3 • • ,.• , hit Ml IVJJIUJIIIJIIIMJ IL-.IITJ,I1JI-^ A|P|I Itl IL • i > wn'[,l1 fitm- in i.ifiU- I 135 AA Monetary Policy Reporttcifin> fJoiigress 1'eliruaiv 2009 F]JJ,[II.- t.C DlUSbollOB tit [.«|rllt IpHnl-.' |irajerU<piis fur PCF iiiHilt|i>ri. 2MB-11 .lllil IIWJ: till' lotlgH Hill » Ml I I u $ JUKI u si Hi n i[ ..I i • LOIBB Km I-1 — tU ii > - I Q v y if] S Kl s* n u g S3 I h'r-ll L1L1 ITUIIJI- NUM. DufliJtuiin tif varljiblH tni In llw KGwnkl nblc HI 136 Honnlol'Cmenton of the Federal Reserve System 45 Figure Z.D. Dislnbulloi] o[ pjmri|Hnls pfDjfctions Ibr rare PCI; in nation. 2009-11 U ¥i IT ¥i W lrp if ' \' I. I""J TSf St U H \i \i 1.1 8 Itaccnt ranjv 137 Monetary Pnltrv Report lt> J'rbruarv £0OS Forecast Uncertainly The economic pirojedlons provided by (he |i did liiy risks .iroun pf members ol (he tin.ircl oi C iovernoii tind (he hr..i,viiv l.j,iiflncfd. iht* numbers p^poned to t^A MM ,,,|,-,i|s MI r I hi Finfpr.il Ki".H'itH' fUnk; inform 2 would limply 1 probabilhy or .iboui ?Q percent thstUftJOrtt ill iiifHVi.'i.u-p |hiilii. v .inirmj.; \whi.y- thai ,ii tu.il (^DP woultl ftxpiind between 1.H iwr- mflkffl'S ;wid c>in aid puijlir LIndfrstondinp of fh-t1 Ctffl to W fWaem in iho*.urfenl year and basis lor policy actions. CoiiiklPMblp uncer- 1 .(> pt'Fcertl lo >\A [wrceni ii^ thy second .md tainly <ut<wds iUme jjiOrertiui^ however- Tlit* ilind yeart Fhe coirfspondinp 70 fiercenl confi- gOOAOfrti ' &l I'HH *\ muclelv jntl relation- .!.-..- < . Ki-rvjl-i kw ov^f^ll inllatioii woMtd lie ships uied 10 help produce economic rbretj^it 1.1 percerti lu 2 9 pt^rctrti in ihi? t-urreiit year, 4M? neces&arily imperfect clu&cr'ipiiGiih of ihu real 1,0 penrenl 10 3.0 jrercenl in 'he fiecOOd year, SM.II.I. Arnj tl*C CultiW (Kith Of lh»' !'• 0'iriiny i S(1 ami 1.1 porceni in IM> pfrCfiM !fl the ihirrj ye.u. be affected liv mviml imiomeiHii dL-vtlupintini^ Setduso curreni eonditions UMV differ Iroin iirifl everHs, Thiii. insfiliny ihe Jinnee ol MI on (hose ibiil prevailed on avprage over hislDryh '!•' v. pflitd fpjintj (To>rnocontv whiii iJiirficlfMiUs lUovidp ju(J^.nieni^ a^ JQ wheUicr tlw an to bv lite most 11 My tconomit atdmnE rrijirity attached (o tln-n pnijKiiarBdf ench in Iheir firojeclions, but also (hf bl s^reti(?rthan, MtuHet (NJO, Of briwtJIy limfift) IO ryp^c.d levekor iVjrecj^L Mnestdlnty til tiwit tjcturrti^ .ind HH- t^tisls U>the in Lhr p4iM .is shewn in l.iiili.1 2, Portfti^ants ."ilsfl hld h provirjf iiui^inool*, ts Ui ftthttfttf the riik* lo |.hpjr 2 su m mj ri zt% Uie jg profeclJO'i? »W wemhwd to llw utJiidc, down- rdry «f a r^njj^ of IbrecflsU, tachitftng I&OH side, orjrebfoacOy Ijabnct^j. Thii( rsf parlici' pd in (Wit Monetary Policy PcpuiK and puno judg€ whfiihw I'.n li •-.H...I.I. is more likriy those IJWpjirerl by Federal Reserve Biurd ulnili k? bt ^iltuve BI l*ettiw llieir tMUj^tiron? ol \he in adviince of meeting erf i]ie Federal Open mott likely outcume. These judgment* abuul the Mdrkcl Conioijtloo- Ihi* p»ojeclion ertor ran$fi\, unccrt.nntv 3i>d ihe fisk^ Pmit?niljn^ each |j,irlJcl- shown bii> ihe tali If Hlu^itate ihe n I:MHI-s |)r[/n*ciionb'Firt* dffttncl from Hie div«rstly unri'FtEiinlv aisociiletl with economic f fti piiriii.iit.nim1 vn'^!. .ibout (he mosl lrkelyoir(- i in i^.nniiloj sufi|W*e ,i (ianicir"nl proj comes. Turecasl uncerUiriTV i* concerned1 wllh rftit GDP find totfll eantuAm pfiees will rj«* Ihe risk* iflsccialcd with • p lH ilftnlily ail iinnunf tiile* ol, iespec(fvely1 H<nd ^2 p[?Fceiil- If ihe oncertJinlv Jltendinji those Ti-n1 ( -tmrih. 138 Appendix Federal Reserve Initiatives to Address Financial Strains Since die oustu of Ww taiatitial Itunnil in die sunimti tf ] pdt'ral RescrvT |!rovl*Lon uf llquidily JSKI acdil, ^ 2IH17. tlm FrtliTdli Kt?%ervt! \\IK aunouTit iJil M.jvt?nil new MLIMmn ofdHtW WSSiStS Eo addii^s iln- slrttinv In linanfial oiuiXeb, .is well as I'liLatit finfrils lo ilb exisling liquldily facilititii. O'ur OUIMending Liiliiufi'S irtalcil in ilir"*.- ?:n .able) IThTV rmlJI linpjin |*i1L Wl Si 11*. 1.1. , Ifiit IJII. I) i lie > l ll Provision of Liquidity to Banks and Dealers i - , i • . i Mmtifi'i-Hflom fit the Primary Credit PrOgttaB l-nllnuinglhoonsri of (he linnivrtnl lumiod, ihf Foil- M.11 M,I.L 1 U L U« 'Ih M ip l rj h ir ir, rrai Reserve ftnani irtitonnced tenponc rimn^ to iis primary ciwlit dhcoum winduw facility on August iRCililV ^ 17 2IHJ7. Tlicsr change werr designed It* provide iJ.'|MAi(-'nr> with greater assurance abnm ihe rtjst tod V a I /w (H i ti h it i- M ||. i .l K .|l i l M ||:. t . i " i M m m him l4BB'].ll. availability of funding KkM, ibe KpdWftJ R&SWVfl Baud ?nillW approved a 5U IjdSis ]>oinl reeluclIOJI in die primary ciidfl raie EO wrrw to spread bet weed die prtmiry Hftrt I.U cretlil raleiuid ihi? Federal O^TI M^rhfi Cinnirihi«ev'» I ?IP- h'lHal Refef* li.n, i.-i •.'• i ••-••- s i fluids arp I' i Sfl l..;-.i. |lUilllS ' ii\ . ii -1 VkJlll rTrtf^ IN S*Jfi[« ill > 1 liiijl iht* i-'fdeuil Hwservr Buaul :iiuiotiiiujd ;i diangv to die JI i;.nr. .. c WUtltjf Mir lirjr Hijsrrvc liank^' riNiud pmrlircv i n a Him lhij pnivishin nt icirn IliKJiiriiig Ji?i i]1! I(M9^ tts L+i I LIHVV i^ricwkihlc Ir^ ilu- llV L m 4A N E lr C lN 11 . ^ . M ll . u M - l i t H rU ir s I ,; . iD .n i> w I h II ii 1.1 £ bomnvtr. CnU ^Nllll SWlllKDIIftlll tl Tel bulsitT miirki-l liqutdliy funhc^ in itit liii(L t>f imFi'asiJiK ttiuiiri;tl sirtiJEis, mi Marrh I IK 'IQOE, LtaP I'eiJeral RPSPFW Hoard unanimously approved a requi^l ran hv IIM-I.I I-I ^eiuit1 lottii^al iln- dibiiounl winJow. By by ihr l-rd^nil Keservc Rank^ indrrrrEisr die sprracl incriraslng die arfesi of clepo^itoi>' iiiiliruliuiis tol'und- of I he primary rn'riil rai^nvpr ibe FDMC's MIRIS litl lug, HH? TA1' iia.s bopouiiciJ die abitiLy ul Such irLSiilu f-ral funds rale |o *A prrrrntji^e. pnlni. Thf: Hoard .iKci Lions lo riwi'i die Cfeptt Jietds uf Elixir LUSIQIIWI^. n liirrrase In Ihe ni>ixlnuiiu nmturltv of pri Lech depository inslilubun dial h judged lo Uv. in fr frnm Hft d.iy%- j^LTitTrflls srnitu! liniirti'inl t tmtlilion by ic^ K^SITM.1 HRHU (anil likely In rftiidin NO GtVtf die term u! (lie ban) liin |nint' i|.ijn- in TAL jjcliuns, Alt ii^aiut1, nniM 1(i- fully mUaE£riillv<.'d. linch TAI1' aut-Mon is fora f widi iIn* [,iti- iMi'iimiiiil by die UULIJUTI pro cess (sulijccl Id a minimum hid raid. A deposiiEory InsiJ 1 BfiHni of Giivcruois of iiitinn suhmUfi bids Ihron^h JIN RESftrve Hsnk The mini fie Ped«ji3 RBSBTVI: Sysifun appmveri chr i^iablishiiifiil nium bul rnti" fnr liie ^tirlions vva*i irtiii^lly c?ittib1isbprf Ejfa frmi Auction Facility (TAD Under diisproftfam, HI ihe overnight Index swan (0151 rate rorrespomllng llu- k'uiJi.Tal Ifoserv? tturiiiMS icnn fmulis lodcjKjsHoiy Id tnt* m^nirHy of itn* rn^il Iwing ,nicHniii»fl. lit |^insiir>r iitsiinuirnis a^iinsr flwwitle variety of collaioral Ural afHHj. iiir minimum bid raw was ctanged id dip imwesi 139 IH MoiH'iary Policy Report 10 the Congress February 2(109 rale paid by the Federal Reserve on excess rraerve securities, fwleral agency dehl, leiieral agency rr-slden- l&lances. Iliil mi.! IJ..I!M• liiji ki'ij M < HI inr: (MRS), and inns :i;v!in Initially,TAFaualons wereInamountsof S20bil- AAA/Aaa-ralrd jirivaie-label residential MRS. In lion and provided primarily 28-rtay term funds. Over September, this list was broarfcn«t lo include >•!• Invest- I lie course of 2IWH. ttiu Federal Re serve extended I lie incnl-gnnle dfiit seturilips. The TSl.F ii inliMiilwl to term of scjmp nut [ions lo 84 days and raised Lite regular Mrpngllien I he tinanrin^ positinn of primary cksl^rs and ainuunls or hoih tlii? 28- and til-day IAI' auctions {a [oslpr htijirovttl coiidElioii^ in financial itiaik^is Enure 1150 billion. Tlie Federal ResetvS also conducted iwu generally Srruritii'i arc msilt1 avnilabk1 through weekly Forward TAF auctions In November for $1511 billion ,iui:tl»irt This IWtililv Is cilireiilly uhnluled Id wpitc each, which provided ftmdtng CNUt yezrrml. on Oi itiln-r 3D, MB, Liquidity Snap Linen with Tltr Primary Dealer Credit Facility Foreign Central Banks To bolster market Itrjuidity and pmnwie orderly market funciliming, on March IS, 2IKJK, the Federal To address HIP inrnsutng demand EM dollar funding in Reserve ho^rd voN?d uuaniniousJy In authorise ihe foreign jnrisdirlionSr in Dfremhcr ZiW7. Ihe J-ederal Feitrral fti'setve Bank of Mew York lo fn-Me a lend Open M.iikel CuriunillL'L' (KJML'J ULlliarizvil lempu- ing facilliy—ihe Primary IMIT Credit Facility— tn rary rillproial riincm y Jilarigi'ini-ilis liWilJI Urn's) improve llu> ability \>{ \mwmn ili'slfrs In provide wltli liie EtttajKOT Cenlral Hank (ECB) and the SwiSJ tinanriiig lo [larlicipanls in sucuriti/ation markets. Nnlional Bunk (SNI3). Tlieie arrariMfnu'iits iniii.ilb, This facility became available lur husini'ss on Munday provided dollafh in BniDimls al up lo $20 billion and March 17. aiui was originally instituted for a femi of SI billion in (hi' F.CR and ilu> SNfi. respctlivfly. fur us? sin moiiihs; this lerm was suhsenm-ntly extwwlcit, and In Iheir jtirisiliclions, the FOMC approved Iliese !k|uirl- the fadlliy is ctirrently sel lo expire on October 'M). ily •.« jjp I inn for a period of up ID six months and lain 2009. Collateral pledged lo secure loans outlet this raicndrd illis lemi In Ocloher .1(1. 2M)R. fartllly was Initially limited lo inveMiwm srjilt-(lelii As demand for dollar lunding* rose ftirllver over Ihe securillfs; sulisft^uently, eligible collateral was expand- (nurseof2(K18, the FOMCaulliurlra! theeniiiniii f ed to Include id I rollaterai eligible fur pifilRp in iri|jartv iis existing vwap lines wllli Ihe VCR and SNB In Ihe funding arrangements ill rough dn i:i,i|in i \r iriirj hanks. fall, ilic fiiintd ijiinniify linills on (liest* line*, m well as The lulea'sl rale charged un such ciedh Is Ihe same as on swa|i lines Ihal were set up wiLh ihe liank of Japan Ihe primary credll rale alt Ihe Federal Heserve Bank of !0»d lln' liiink of lingland, ww-f eltniinated. TIIL- FOMC New York. Mv> .unhun/pil new lifpiidily swajl lini's wilfi 1(1 Dlher rein ml luinkv dn1 Reserve fiank of Anslialln, Hie ISan- i ii Central tin BfttB, ilic Bank .,11 ,u,,ia.t tin- DaniMAs Provision ul Liquidity to NaliotiallMnk. Ihe Bank of Korea, ilu> Hank nfMexirn, Other Market Participants Ihe RJBOVB Uaiik of Niw Zsatond, ihr Naps liank. Hie MoiK-uiry Auihoiiiy of Singapore, and die Sveriges The Aswf- Backed Comtuercial Papv.r Miutey RlkslMnk. Market Mutual Fttml Liquidity Facility On Sepieralier 13. ZDOB. the Federal Reserve announced The Term Securities Lending Facility the creation of I be Asset- Rack ptl Commercial Paper Money Market MUHMI Fund Uquidlly Facility On Man-It 11, ZWiS. lo address Increasing llquidlly IAMl.r-,1 Under this {irogram. the Federal Reserve pressures In funding inarkvls, Ihe l"«leral Ri'serve • •\lfiul1, Inilili-i -iiiirii- I'liiilS III dli |B I'. lUllll Mil' 111 annminrted Ihe csrahllshnicnl of a Tetni Si'ciiritiM U.S. rleposilory inslllulions sosi haok holding compa- t enrfing facility (TSl.f). Unrter Ibp TSU-. Ihe Ketferal nii-v lo 'iii-iiiii' ilii'ii purchases uf high-quality &&&< Heuervt1 lends up lo S200 billion of Treasury Stfjurkle.s hacked colimterclal pa|>er (ABCPJ from rmmi'v in;irket (o prinKiry dealt'is for a li'im of 28 days (rather than nnilual fLintls. This initiative Is inteiufed to assist mooey overnight, as In the regular securities landing progratn); funds that hold stich paper in meeling demands for Ihe I [•ml ing is sccuinl by a pledge nf oilier SEMHUtt. rerk'mplions by investors and lo fosier liquidily in ihe I.iiliallv, the eligible collateral inclodwl oilier treasury AUCI1 narkets ami hroa<ler nuiney marks*. Alllioiigh 140 Saanl uf Governors oftlif Federal Scxcnv System i'J the AM1..F was Initially 3iilhuitei'ri ihwugh January aswn incloile LLS. dollai-denniuiiian'il r^nHirates of 2009, Nil- I :n..i.I M.IIV: ,| !-. . •-.n-nd.il in. operation itepusil and r.onimerriat pajter Issued by highly ralcd i a liiiHtifial iiisllluliuiis anil Iwvitig miiialiiltii^ mmuiiHes or nil day; nt IfW- Fllgililc Invraiurc uirreuily iiu luile VS. niunty inarkei nmtiuil funds and tulitjr similar erili The Commercial Paper Funding Futility tiif.. Hy harlntnppinR the sales of ninni>y rruitkci insiru- IIH'IHS in (In- snundary ritirkH, iln- MMI1I' sliuuld (Jo October7. Ihe Fwleral Reserve aullinrifflil the tic- Improve the liquidity of oioney market Investors, thus arinii oMIv-CnratiK-ivtnl Caper Funding Facility (CI'FF) Increasing Ihelr abillly In meet redemption icquiali and lu i'ii". ill- a iii;iiiii'i;. liiLkslnji lu U.S. liMU'ii ul iurn tlu'lt wilHugiiess to Invest in niouey maiket tiiiiiuiuciili men lul fmp¥l, The f I'Fl is Intended In hnpmve liqulit- liiijiinvi'il money m.irki'i rouriiilon^ riilmm e ill.- jtiiliiy ily • ri short lenn liiu.lm;: madteta unit then-hy hlarase ul Ijantsand ullici linsmial InlFtnu-'diarii'!. In wcom- iln- ii\,iil:iliilii\ nlrrrdil fnr Imliicws awl IKHIWIIIIIIIS. modnli' tin- I idlll Bwdk nf Imslnesscs and hmiserinlds The 'I'll . rijm'utly rhUIhnriyed to piiFi husi' nmiEiijj* The SPVs will puivhase eligilile umnev insrkel ri.il papa ii.M.n-ji, Ociohei 30. 2009 iiMrunifiiii from dijilbk1 Invaslou iisiut> Ijiwnclug Under itii' CPFF, Federal Reserve credit Is provided from It! MMII-I and From the touauce ufAftCP. It) ,i special pwjiose Veifole (SI'V) lll.nt. ill luni |iui The SPVs will issue in ihf seller ul eatti eiltsllilc asst'i Ctases i ommtTrlfll papw of eligible issuers, fit Fed- AHt!Pri[|]al In 10 pi'HTin nfllir1 LLVM't'% [mrrhasf1 priti-. end He-serve Rank nf New York has cnmmilipd In Jrntl willi tlie rciiMiniiiK 00 percent of the transition I'urated i» the SI!V tin a recounvt1 hflsis. w\lh surh IIMUS ttoCmttti In rash The Federal Reserve Hank of New Vork will by nt! llw assets of (hi- SPV, The SPV pun lusra I'nim commit lo lend to earh SPV 9() prarenl of the piircliine ••liyililf ssuers (Iiir-f-iiion(Ji US. ddlln-ilFiiumiiulcd ptiteoE'eitcheJlglljk'EtUift.Tht-^e LU^IK will too^n loninii'irlal paper ilumijili ilir ['fdi-ial jtesWve Dank of ovfrnlghl hasd and nt the primary credit rail' Ttie Insns Ntw Yuri;1.', primary dralm. Eligllilp issii«\ are Ui will lie simiur lu ihe ABCP, wiih ri^mme lu lbi< SI'V. i«iien nf rnramprrisl |W|MT, im kniiiiR U.S. toucrs with anil sn-ured hy all the nssHs nf Ihr SPV Al the linu- a fi)ix.Li^n pjrrnl L-umjiarty. The SPV jlunhasrs Eliity of an SPVs purchase nlr a debl instrunienl issued by a LF.S. dollflT'driioiiiinatorl ronnni*rcial paper flur luctin^ financial iusl Etui Ion. tin1 debi Instrutneins of that finan- AHCP) thai Is ralcd al leasl A-l/IJ-I/Fl. cial Institution rnav uol conslitule mort than 15 pcrccm Tlith maxiimun ititiuuiit ol'a single issurr's cutn- of Hit n»els cifilw SPV1 fxcegil Outing m initial tanip- ilierclal 1M|HT ttiBi Ihc SI'V may own al any lime Is Ihi1 np pi'richii when IJi•.-1 nm piiLniFfnn liniJI nkay lie 211 p'r- grc?a[rst aninunt of U.S. clolliir-rtfiinTi Linked cnmniEin:i.i3 ceni. The Sl'Vs linaiitvd by Ilie MMIFF are scheduled fispthr itir1 iw«T hrtd (MiislatntinK on nnv fiay lielwi?Hn to enter a wind-down process on Octoher 'it}, ^tHJil. January 1 and August 31 2008. The SI'V Mill nol jliutiiil rcmmjornal j^fin Fimn an ISMM ; l (unimrrt ial i^api'r Diitsfaitriln^ iu all invi-s- The Term Asset-Backed Securities Loan inrv (imludiilg IIIL^SPV) rtpuh ur eKl.ei-lls [lie .*.-.M:-I . Facility llnill. I'riring it liawri on llw Ihnv-minitti UIS isle pliLS fi\«l sprc^ck. Al Ihr lime uf its n'glslraliuil tu ilsi1 On Navcmlier 2S. 20I1S, the l-'ulerid Keserve Hfian! the CI'l'K each issuer musl pay a fnciliiy lit' equal ti> aniioLint'ei] plans for Ihe Term Asset-liat'ked Securities 0.1 pej'L'L-nr ..'I MM.1 iliii>. urn mi IMMMILIU t}f (I-. rulllllivn iill Loan facility {TAI D a farillly dial will help market f)a]H'i t\iv SPV iiidy UWJI. fiarllcipaius meel Ihe credit needs of households and MI Ml I businesses by supporting I lie issuuuee ol Jssel lisckwl serurliies (AUS) coltalerallicd liy siiulem loans Market Investor Funding aitiu loans, rtvtlil card loans, and loans guBtufkln^l Facility hy Ihe Small Business Adniinisfrrtlinn. Fhc TAI F Is designed to Increase credil a^ilabibly and support et-n On (Jnober 21.200fl. Hie 1'edenil Reservr- Mia ed UOUIIE: activity by fac III fating renewed Issuance til cun- the tmtlinii nf Itic Money Mnrkfi Inveslnr F(HI[1IIIJ> suiiH^r and small business A^S M more nnmial interest liu ilily (MM1FF) UmltT the MM IFF. the Ftili-ral rjtie spreads. l''H'i u- ESiink of New York will provide v^nior ^I'lttretl Uniler the current design nf Ihe TAI .F, ihe Federal In a M'rits rjf SPVi In BdllUtt an inillislry Kevin' Hank of New York will lend up to SZOO tjilliun vUIMiWtSi inlli»livi* In liiwmr ilif pur- rm .1 LKinrernurse hasls In holders rvf certain AA^riU^I A13S backed hy consumer HIUI small business Joans. 141 SO Monetary Policy Report lo the Con^n^s Fehiuary ZOOS ? securities mnM havr* hpen Issued on nr after nfprprlsf^ (GSFsj and up in y I. 2 (Hilt, 11 ud all ur iuh^liiHti[illy id I til'ihv \ itjdil ^ M;I> hiIIinn in MBS tffidffid by 1 aimie MiG, Kitddie irc^ underlying rtigililp /VKS must ho newly or Mac, rhf I fdcrnl Jhinw* LbU Goiflkf. and Qnnir Mar. rcrenEiy originated exposure* to U.S. domicilc'd obli Purchases yI apenev dt-ht t'blinotions began in Uecenj JJOIS l hii 14.111,11>>'-is of iln1 credit exposures underlying eli- hrr, rind pure hniscv of MBS began iojannrirv gible A US musl have agreed tu comply with, or already The pm^ratn to purchase C.SL dircrl obli^alionEi be MIIJJI i ( to, the DKtioiUve LOinpi'nsalion requiiumPiKs lias initially f<H tlSCd <ni |\xed-ia(lf, rmm :i li. •hL -j in-); of ihc* F.nierfiency Kconomlr SlabNiratltHi An of hrnenmarks^nirllirs]ssuciiby TamileMae, In'ddie Cin I L'liiiwry |Dr ZUUD, foe Federal ftWGTVE I Mac aiitr the federal Hoiiw Uwifi Byrika, Over Hie MUtMUtOOfl H'iJi it [•• prepared tn ninlrriakf ;J MLb-.iiinH.Ll roursc of'lJip |im Ilir i-nilrr^l Rsa^vc ttHfV t£angE expansion of Ihe TALI. The expansion remit! increase lhii sccpfl of purciwsiLble securities. Purtbases will be the* Sfse of Ihe TALI1 to a* much a* Si irillloii and rnnfd i a muil(pl£-price couh|H-lilivi' auction broaden Ihe eligible ra I linen] to encompass oilier types Primary dewier* are pii^ible lo iransarl dif£hrlly oi i^wly issmd AAA-rdEida^ii't-bittk^l 5ecttflHes> e atul tin? encotiragtil lu submit Mich a* roinnvrrrlal MBS and private-label resid^jWial (jffprs for ihfrmsflvi's anrE ihMr nisifunert. MBS. An gqttdflttt tf (he t A LI WMW IK- ^ipi^rletl by ihv provision by Ihe 1 'rfASory Ol 'add ilium I linidi fraqn Ihe Tmulilisl Asset Relief I'ragram ITARFJ. All U.S. peisons who own rli^ibli1 collateral ui»y participate In the- 1AI l;, and each borrower must um1- a Beat Steams prinwy dealer lo access die TALF, The Federal Restrve Hank nf \i:w Vnrk will nlfer a fixed aiwuinl ri-l" Ur,nt\ \n n>iil-Man h rtf ^DIIH. HIP Hear Sl under ilr TALI- on a nininlilv basis, Via it curnpeiiiive, Inc., a inajor lnv^stint-iit hank and phnmrv (iiialcr, was walerf-bfrf cturtion proceish trw Kederal Heserve Hank pUSftEgj (0 lhf+ l>Miik of Ifiilore after losing tlK- conlrileuce of New York will award loans tn amounl.s equal lo ihe ofinveslori and linrting itseif without ac.crs.i to Nhort ntHrkfl villuc uf the ABS l^s a lidiictst. The ILHHIS will if mi futaiJL-mjj; niarkels. A btntkrujik y filing wouM have he Jionrecourse, will be seaifft! ?u a] I linns by ibe. forced \\v ttc.met\ rvedllor* and t-unnw^wiivs of Hoar AliS. and wiU havt1 a Ihrrt >x^ir [CTTH, with inlerrsl "-•ii-.i.ii1. \> !ii|Mi'l,Hi- •i.ii'.-TiMii:j i nil.-,i i.l i. id given ihe payable tnonflirv' The Treasury. nnnVr tin1 TAKP. will illiqimlity ol markp^s. Ihose cfettftOrt and cnnnlerpar- provide credil proleeliou lo ihe frdcral Re^er\'e Bonk Elc\ mlghl well have suslaijicd sulislanlial losses. Illh^v of New Ytiik in connection WJIII the TAL K The facility had responded to lowus oi (lit1 uiiexpHCltHl illiqutEiily oJ will feast* making new loans an Dpccmbi'r 31, HUB, fhrii holdings Lay pnlliai^ \n)\k hum providing secured iNiii-v1. i In1 IWunl agrtvs tu exl^ud Itie I'm itilv. fuLaiki]^ lo uliicr FiiitLS Lind bv du of illiquid a^^ls nn ihr maikf I, A NIIII (i.if orkfs likely would have ensui'd Tfius, I Direcl Purchases of Assets Reserve judged Mini a disorderly ft Hun- or Hear *ir wonld hflvi11 thrnaliwrt overall rmancinl ^lubMlty and un S^rteoNr Ift ZIHW, ihe Federal R«wn« anKwwed would iii-i'M liKi'K have IILMI sixiisfjrdlit adVfiM1 iiiiplitd ihui. to sup|ion market font ittinlng, ilie Opon Marker I Lous Joi the US> economy. Trading Desk would begin pun1 tan ing leileral it^emy \f!i.'r 4li*.Mi-.*iis)]i^ willi ijii' St'iiiriiii'v aiiij I xc discount iioi™ tn I In* siTiiiKlnry mark^f for Ihe5iyslt'iii Open Market Account, These instruments Ate shod- y, Itie Titl^ral REterve {ti'iemiincrl ihat it *hnuld tenn debt oblations Issued by Fannie Mac, Freddie r- pini.'rgenirv sidhorilie^ to provide -SMI i.J llnauc- Mac, and ihe Federal Home I MMM li.iiik^. Similar to ing to TatliJlate ihr nrmtisliton ol Rear Sleams Vjy seuinddry-nitirkei fiurthawi ul Trvaitir^1 99CU(1Ii8fti JPMoi^an Chssi- K- Co. J^Mtu^an CJiase ygwssd lu pUTCh^iW til FaraUl Mar, Freddie Mac. and PMtOl |imt hase liuai Stearns ^ud assume me roin|jjim s Mnan- Home Loan Jnicjkdebl are rondnrled wilhiSn1 Itdeml tiat ubli^anum. Tht FwJttdl Ri-M-i-ve af-m^d i{)Mip|]lly nun Inmling. KOUERl by Ktflhillhui in K^r SteSBIE live auctions. assets, m fecHiat* ibe purfbra, ^ limited Hatt% LEI liflu reduce Ihe cost jnid kticreHSt (he availabil eompany, Maiden Lane LLC ww Funned to facili- ily of residoutial nson^a^p tr«lll. i\w letforM Ri'servf1 tate the arran^einenls associated with the purchase by -mil I •f?i "-.n1: ••iiili.-| 'I :, ;i |JH.1JLH41NI 1(1 |)HHllit>,l I |i acquiring i"i-p i£i in• iis*n'hi nf \W,i\ Sceanih and IELIM rr'\t\\j In sttKI b til inn in duvtl oblifiiilioitt ofliousing-relalwi imisirnin n [i,iv nu ut uf Ihe 142 i til Gavtvimrs (jfthp Federal Restrw System 5 J credit ewnded and to minimise dmuption to linancial ImettUied deb obBgaiions o« wliirii ML has wrtncn niLirb'ts. JPMtirj;mi C\mw completed lhe;tt:({tJisitltm tmlil delimit swajp niiitnitls. of Bear Si cams unjunc 2G, and uV Hrderal Reserve afUMN atipiuxiinaiclv S^U hi 11 inn of hi tiding io Maid- en I; IT. ikn date. Citigroup Wmk^i anxiely IIIHUII Ihp rnndltlori of Clli^riHip 3nle» American International Group siltpri in r^ovpiulwi 200S. espfcitxlly in the waku olr thP iirm"s announr.finpnt ihat It would lay off bZ.OUfJ In Parly September die condition uf American Inter- workers find ahsorii S] 7 htllion in distressed ^wets i'min national Group, Inc. (AIGL a large., complex financial slfurtured mvpstmeut vehicles that it sponstired. and irLsliluliim deteriorated rapidly. In view of trie likely CSfjGOCHS ahmn Mir1 tiuit s aite.^H to luiidipij; [imnnii'd. Systemic implications and HIP potential tor HBflfiolU 7bsupport financial oiatket stability, Hie Ll.S.govprn- adverse effects nn the econnmy of a disorderly failure hhiii nn November ?3 enii'Ti'd into an agrppnittnl with ol AIG. nil Sp|ileinlier Iti. the hnleral Reserve Utvtnl, Clltgffllip til prfividf a lackafte oli-a|>itnl. glWttKMW; wilh the support of the TIM Miry. aulltoiizerf dip IVdpial and liqiiidtly access. As putt otHH> agiu'iiietil, Hie 1;. •..•• ••• Hank nt'New York ID ktid up lu SBfi billion Trpasurv and Frdetal Deuotfl lusuranci.' Corpnialion 10 Iftp firm tons*! il In meeting it) obligations and 10 II'DIC) sre providing capital uranTtiun aj;ainsl minimi faiililiiti' I In." onli'rly salt- uf Sam uf ili Uuinrsst-j, This losses un 4 |KHil of auuiil $3W l)illion in residential anil far III ry had .124 n ion III lenn. will) liilwsl arrming nn foniraerrlal real estate and other assets. Uilgroii" has 11 - -: :iu-.i. . - !i-1- balance al a «(J rf 3-niaitili l.ibor plus issiinl picii'rtrd shad's la the Tipasuiy and FDIC ami 850 I..™'. (iuinl>. ,11111 was nrftaftratbuj liy all uf lite tbp TrMKury has (litrehasni an addiliuTUl $20 billion iti it.twt.iflF AK, and Its |irlin.ii\ nnnri-gii[Fili<rl sulisIriiniles. CSBgrqjIp |iietiTied Hot* using TAKI1 funds. In .nfili On Derate8. iiu> Iidtral IW-IVPannoiiflfft! sn lion and il'iu-ri'ssaiy, I he l-edera! Rt93V0 sutnds rrady additional program nnilrr which It would lend up to to backstop neslifugl risk In the asset |HMI hy providing s:i7.H hilliini in liimm c invrMini'iil-prTiilc tiyttd Inrniiii- nimreronrsp r[Pilit si-i.uiilira hi'ld bv AIG. TlifSK wcuiilii^ liad ineviuuslv been Icor by AIC'i iinutam-c roiii|iinv .wbitltllatlis lu third unties. Bank uf America In Novwnlwi. IIIP Trfssury announced tlmi it wuuld jiurrliasp $40 hill Inn ftfnewty IMII-II AIG |in>fcrred Despite the Improvement in bank funding ni.irki'ts aflt'i sharps miller ihp TAKP wlifch altnwed Ihr Vcdctal year-entl. Bank of Amedra also OUDS under Intmse ReSWVt 10 refoW from S85 hilliini lu SBO iiilliuti lln- lirt'isnre In mid-Jautiary 2IKKI. thi1 linn rpptirii'il a Mil amountavstlabh" imkt 1I111 iirdit fwtUty. Purther. SI M billion nfl loss for ihe fourth quarter, and it was tlip inli'ifsl me on IIHI facility VtK rpdnuvl to I ilmi further strained by its merger on January 2 with Merrill pfns ^(K) liasls points, rhr tpp on undrawn funds was Lynch, which rc|H)rl«i a fourth-quarter luss uf tpdur«t Iti 75 hssis [WltKS, and ihp ti'rra of tin1 fai-il- Sd'.i billion on a pretax basis and SIB billion on an ily vvas IfngllieneJ fujni two vi'acs lu five ytaii. T'IH.* altfi-iKK basis, tin January IB. Hank ui America enlfrcil f'I'dpia! Rt'^crvf1 alscj aniioinicud plaii^ m rMtrtittur^ into an agretMiitwt widi die Treasury, the 1-DIC. and Ih^ ili l(*nditi^ roliifpd to AIG by ONIrndin/; rrodit to two Icdcral Kfissrve similar tn ttiai arcan^nd wilh Citigroup newly fornitil liinilyd ti;d>ilrly tuni|JiintKs. Tlie first, in Nuvi'iniier. Uftdof Die arrangement, ihe Treasury ami Miiid'en tjinr I! U.C. rrrcivwl n $22.5 billion l.'.m from the FDIC provide protection agninsl Ihe possibility of |}IP Fpdpial liusictvp and a $1 billion subuidiiiril^d loan UDIMIMIIV Inrfii1 hisses nn .1 [nxi\ of aiijiroxinwiel)1 froin A[C ami unrt Itasi'd 1 ttiilenlial nturl^a^p Ijackrd ii 18 billion ol financial Instruments. In niMilion. and securities from AIC. As s result of Ihpse actions. l(tf if necessary, llw Federal Reserve will provide nonre sviMiitiei Itiuliift facility esiablisliMl onUiiobti 8 was CTinrfh credit 10 Hank nf America H^ainvl tEiis pnijl ol subsequently H'paid and lenninated. Thy si>cund nnv liuiimiid instruilieiits. As a lee fur this arrjEl^eilient, couip^tnv, Mrtidru [^op If I I..LC, tveeived a %rM) billkm Rank of America JsMied jjreferred sharps to the lVciisury luan from thi.1 Frilrral flpsmve am) a J5 bilibn SHilwr and Ihe FDIC. rltnai<Hi lnim t'timi AIC ^hiul |hirrli.isrd imillisw loriol 143 Haint affjtn-prnur* ai ihr I-'nit'fat ffasprwSyunu Abbreviations AHS AMU' Aispt-Hacked Commnrial Paper Money Market MuluatI-'und Liquid!!}- Facility C&T saarmrtttl ami indmirfnl t MhS I'UiiuiHTrlsl utiin^a^'-liattictl wi uiiuti CPFF CcmraiiTilal Fiiju'r Funrting F;irlliiy (HI iiunuiimlalrMlffliaie FOMC Ffidoal Open Mjiiti Conmilti™; also, (be C'omnilllcv trbti ggvtrainciu s^i^orrJ Li»ii'rprii* l.lbiii l.uinJini liiii'ib.ink uffeietl rdlc MBS mongagc-lHcW ipcuriUcs MM 111' Minify Mvdd Invralfir liitnllus 1 -ii iiii i niS • ••. II II, .hi ii!,rir iv^ap BO3 Mnnry Dralir Lrftlil 1-nriHly SIT Supplmnfliiwiv I i"<im I'lK I'rnsttin TAf Term Auttjun Farililv IAIJ' 1'i-nhiAyMl IlinkiM* Sfi-ririlii-j 1 iwn S-'ai ilii, TA R P Traub] nl tasa Rf I Iff l>hi|jfam Tr.UP Toniptiraiy I.U|likli(y GawntljK Prrjgianl TSI.F Irrm .Sumfilira 11ndiug lrarill|y

Ben S. Bernanke (2009, February 23). Congressional Testimony. Testimony, Federal Reserve. https://whenthefedspeaks.com/doc/testimony_20090224_chair_federal_reserves_first_monetary_policy

@misc{wtfs_testimony_20090224_chair_federal_reserves_first_monetary_policy,
  author = {Ben S. Bernanke},
  title = {Congressional Testimony},
  year = {2009},
  month = {Feb},
  howpublished = {Testimony, Federal Reserve},
  url = {https://whenthefedspeaks.com/doc/testimony_20090224_chair_federal_reserves_first_monetary_policy},
  note = {Retrieved via When the Fed Speaks corpus}
}