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v.446

Department of the Treasury

PRESS RELEASES

Number not used: HP-899

P-855: Remarks by Treasury Assistant Secretary for International Affairs Clay <br>Lowery at the An...

March 3, 2008
HP-855

Remarks by Treasury Assistant Secretary for International Affairs Clay
Lowery at the Annual Conference of the Institute of International Bankers
Global Financial Stability and Systemic Risk. The Current Financial Market Turmoil
Washington - Thank you for your kind introduction. I'm pleased that you have
invited me to speak at today's forum. In 2006 I spoke at an liB Dialogue in
Singapore on "Promoting a More Open Global Financial System," and I'm glad to
be back today - particularly given how calm everything is in the markets.
Today I will briefly review the U.S. and global economic situation and some of the
factors contributing to today's financial turmoil. I will then describe some of the
lessons we have learned so far and the steps the U.S. and the international
financial community is taking to address the issues we face.

Economic overview
The U.S. economy is fundamentally sound, diverse and resilient. Economic growth
over the past four years has averaged 2.9 percent. More than 8 million jobs have
been created since August 2003. However, following several years of what. in
retrospect, was unsustainable home price appreciation, the U.S. economy is
undergoing a significant and necessary housing correction, which is weighing on
near-term economic growth. Headwinds also are coming from higher energy prices
and stress in the financial markets.
Looking beyond the U.S., global economic growth remains solid, in the vicinity of 4
percent, which is still well above the 3 % percent average of the 1980s and 1990s,
though not as robust as the 5 percent numbers of recent years. Much of the global
slowdown is concentrated in G-7 economies, though emerging markets are likely to
experience some dampening of their growth prospects as well. However, many
parts of the emerging market world are still expected to grow in excess of 5 percent
in 2008, with some, especially developing Asia, likely to grow in excess of 8
percent.

Underlying Weaknesses that Contributed to the Current Financial Market
Turmoil
In the context of these global economic conditions, let me turn to the current
financial market turmoil. I know that thiS has been a roller-coaster ride for you and
the financial institutions you represent. Likewise, here at Treasury, we have been
very much engaged In monitoring and analyzing the turmoil, both domestically and
internationally.
Let me spend some time this morning giving you our perspectives on the underlying
weaknesses that contributed to the turmoil and what the U.S. Administration is
doing to address the problems. I will then turn to the international response that we
have been working in cooperation with many other countries to craft. Of course, we
are still in the midst of the turmoil, so it is premature to draw final lessons and make
final recommendations.
There are a variety of ways to categorize the weaknesses, but let me try to take a
lesson from a key observer of the international financial system - David Letterman
- and give you my top ten list. Unlike Mr. Letterman, this will not be in any particular
order.
Underwriting standards were seriously eroded during the housing boom. On

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I\,>~';stant

Secretary for International Affairs Clay <br>Lowery at the An,.,

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the positive Side, securitization brought new capital to sub-prime borrowers
and helped them buy homes they otherwise would not have been able to
own. However, some mortgage originators encouraged excessive
borroWing, or with disadvantageous loan terms.
Risk management practices did not keep pace with market developments.
Risk managers for loan Originators, securitization issuers, and Investors did
not properly evaluate all of the risks, including the liquidity risks,
concentration risks, and reputation risks.
Investors did not perform appropriate due diligence for their investments.
Some Investors relied completely on external credit ratings to determine the
risk rather than assessing risk themselves. Many Investors misunderstood
or Ignored the dlffel'ent risk characteristics between structured products and
corporate bonds. Some Investors did not realize that credit ratings provide
only a probability of default risk, and not other risks.
Disclosure throughout the securitization process was inadequate. Loan
originators did not sufficiently or clearly disclose their terms to borrowers.
Securitization issuers did not disclose adequate Information for Investors to
Judge the quality of mortgage loans underlying residential mortgage-backed
securities and more complex products And purchasers of often complex
securities did not demand adequate Inforillation or perform appropriate
analYSIS on the contents of what they were buying.
Credit rating agencies failed to adequately communicate risks. Credit rating
agencies did not make It sufficiently clear that there are differences In the
Illeaning of ratings between corporate bonds and structured finance
products. The agencies also had not adequately considered the potential
weaknesses in the underlying data and in their assumptions and models
used to arrive at their credit rating decisions.
Misaligned Incentives encouraged excessive risk-taking The orlginate-todistribute business model encouraged mortgage originators and
securitization issuers to produce complex products to satisfy investors'
increased demand for yield. The lucrative Income stream from originations
and securitlzations encouraged some to incur risks.
The treatment of off-balance sheet exposures encouraged excessive rlsktaking, leading to the creation of conduits and SIVs that we all know about
so well now. Off-balance sheet exposures were generally opaque, which
made risk analysis difficult for investors.
The liquidity assumptions of borrowers, securities issuers, and investors
often were unfounded. Many borrowers had not considered the possibility
that the housing market could decline. Mortgage originators and
securitization Issuers had assumed that a liquid market for the underlying
mortgages and securitizatlons would continue unabated.
The valuation of complex securities proved to be more challenging than
expected for many market participants. The application of fair-value
accounting to liquid seCUrities IS not especially difficult--or at least, so l'lll
told, for accountants. However, the possibility that such seCUrities could
become substantially less liquid, or could even cease trading, In times of
market stress was not fully conSidered in advance.
And finally, weaknesses in supervisory frameworks have been exposed
Supervisors In some countries did not have the tools they needed to
adequately regulate financial institutions or deal with weak and failing
banks.

United States policy response
With thiS long list of ten weaknesses I have Just identified, it does suggest we might
want to do something about it. So what should we do?
In the United States, I would say that we are doing three things that also helps feed
Into a fourth.
Firs\' we have made adjustments to the macroeconomic policy mix to support the
broad U.S. economy while the Inevitable corrections take place In the housing and
credit markets. The President and Congress responded with a bipartisan fiscal
stimulus package totaling more than $150 billion, while the Federal Reserve has
made adjustments in liquidity support and monetary policy.
Second, the Administration has supported a number of Initiatives - both private
sector led and public sector initiatives - in response to the housing correction,
designed to prevent as many foreclosures as pOSSible.

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Third, the President's Working Group on Financial Markets - the PWG - an
interagency policy coordination group chaired by Secretary Paulson and consisting
of the Fed, the SEC, and the CFTC, is actively engaged In a comprehensive review
of policy issues related to recent financial market turmoil This review includes
approaches to strengthen risk management practices at fillancial Institutions,
Improve market diSCipline in the securitization process, and improve the Issuance
and use of credit ratings

International plan
This is a summary of the actions that the US Administration has supported so far.
But the current financial market turmoil IS not Just a U.S. problem
Indeed, the financial market turmoil has spread globally. We at the Treasury
Department are closely tracking write-downs and losses that international finanCial
firm have publicly disclosed. By our count, it now tallies over $200 billion. Only
about half of this IS reported by U.S. financial Institutions; European Institutions
report another $75 billion and the rest is accounted for by banks In Asia, Canada,
and elsewhere.
Last August, as the turmoil spread to Europe, we realized that we needed not Just a
US response, but a global response. And what better mechanism to address the
situation than the Financial Stability Forum - known as the FSF? And If you are
keeping count, it is the work of the FSF that I consider the fourth step that we are
takillg.
The FSF was formed by the Group of Seven finance ministers and central bank
governors In 1999 after the ASian financial crisis. The FSF IS a unique body. It
brings together supervisors, central banks, finance ministries, the IMF and World
Bank, and international regulatory groups. Together, the members of the FSF
assess international financial system vulnerabilities, identify actions needed to
address these vulnerabilities, and help coordination among authorities responSible
for finanCial stability. In short, the FSF is the coordillation link between the global
phenomenon of capital markets and the national system of regulatory entititles.
In October 2007, the G7 tasked the FSF to analyze the causes of the fillancial
turbulence and recommend actions to address them. At last month's meeting in
Tokyo, the FSF presented an interim report to the G7 finance ministers and central
bank governors. The interim report identified six main policy directions.
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The first area is supervisory framework and overSight. The FSF interim
report recommended that the Basel Committee on Banking SupervIsion
assess the need for changes to the Basel II capital framework in light of the
turmoil. The FSF also asked the Basel Committee to recommend
strengthened industry and supervisory practices for liquidity risk
management Basel II and accounting practices prOVided incentives for the
use of off-balance sheet vehicles, and the Basel Committee has agreed to
review these.
Second, the FSF said that the underpinnings of the originate-to-distribute
model need to be strengthened This should include origination and
underwriting standards and transparency. The FSF is encouraging the
development of market-based approaches to incenlives in the originate-todistribute model.
Third, the FSF concluded that investors relied excessively on credit ratings
The credit rating agencies (the CRAs) must improve the information they
prOVide to investors in structured financial products. AuthOrities should also
review the role of credit ratings in their regulations and gUidance to ensure
that investors do not overly rely on them instead of performlllg their own due
diligence An IOSCO working group is updating its Sound Practices for
credit rating agencies to address structured finance.
Fourth, the FSF report said that market transparency should be Improved
Fillancial Institutions should disclose more useful information on risk
exposures and values. Valuation methods and data, particularly for IlliqUid
markets, are a concern. Market-led enhancements to market transparency
and disclosure are needed, although the FSF noted that more prescriptive
approaches are possible if these Improvements are not forthcomlllg
Transparency is also an area of active work for the Basel Committee, the
International Accounting Standards Board (IASB), and IOSCO.

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P-855: Rem,lJks by Treasury AssistCl.llt Secretary for International Affairs Clay <br>Lowery at the An...
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Fifth. supervisory and regulatory responsiveness to risks should be
strengthened, with an increased bias to turning analysis Into action Skills of
supervisors should keep pace With Industry developments, and supervIsors
should clearly communicate concerns about risk management to financial
institutions. International organizations should improve their declSlonmaking processes. IOSCO IS working on aspects of this area
Finally. the FSF rep0l1 said that authOrities' ability to respond to crises
should be strengthened. Central banks are reviewing lessons from recent
experiences to identify improvements In their operational frameworks.
communications with markets, and coordination between central banks.
Authorities also are considering their structures for dealing with failing banks
internally, and cross-border. The Committee on the Global Financial System
(CGFS) is evaluating these issues.

These are just the highlights from the FSF's interim report. The G7 finance
ministers and central bank governors In Tokyo in February welcomed the report and
the solid progress that the FSF is making. The chairman of the FSF, MariO Draghl.
is doing an excellent Job and prOViding great leadership to a complex area. The FSF
will gather again this month and the final report is scheduled to be released at the
April G7 meetings here in Washington.
In addition to the FSF, the European Commission. UK Prime Minister Gordon
Brown. and German Finance Minister Peer Steinbruck have been offering
proposals. The leaders of four major European countries and the President of the
European Commission also met and issued a joint communique with a variety of
suggestions. These ideas largely cover areas that are within the six overarching
policy directions identified by the FSF and its framework.
These efforts underscore that the questions raised by the current market turmoil are
complex. And given that volatility in the markets continues. the diagnosis,
recommendations and ultimately solutions to those problems will need to be
nuanced, probably won't be complete upon first draft, and must not impair future
capital market efficiency or innovation. These are global issues that require bilateral
and multilateral cooperation and we will continue to work closely with the G7 and
the FSF on a wide range of issues to ensure that policy responses are coordinated.
Thank you.

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~-856:

Remarks bv Secretary Hr.nry M. Paulson, lr.<br>U.S. Housing and Mortgage Market Update<...

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.-

March 3, 2008
HP-856
Remarks by Secretary Henry M. Paulson, Jr.
U.S. Housing and Mortgage Market Update
before the National Association of Business Economists
Washington - Good morning. Thank you, Tom It IS a pleasure to be with you. Last
week we had several significant data releases updating us on the status of tile
hOUSing market correction. And just this morning, we are reviewing data released
by the HOPE NOW alliance, marking the results of their efforts through January to
reach and assist struggling borrowers who want to keep their homes. Industry
efforts are making progress, and I will walk through these results in a moment.
I have said before that housing poses the biggest downside risk to our economy,
and most forecasters expect a prolonged period of adjustment. It IS an appropriate
time to take a comprehensive look at the state of our housing and mortgage
markets and their impact on the economy. I will do that today. My careful review
has led me to three main conclusions.
Three Conclusions
First, many In Washington and many financial Institutions have been floating
proposals for a major government intervention In the hOUSing market. with US
taxpayers assuming the costs of the riskiest mortgages. Today, 93 percent of
American homeowners - 51 million housetlolds - pay their mortgages on lime.
Many are on tight budgets, sacrificing other things in order to make that payment.
Only 2 percent are in foreclosure.
Most of the proposals I've seen would do more harm than good --- bailing out
Investors, lenders or speculators who, instead of getting a free-pass, should be
accountable for the risks they took Let me be clear I oppose any bailout. I believe
our efforts are best focused on helping homeowners who want to stay In their
homes.
Second, this is a shared responsibility of industry, government and homeowners.
We In government are working to expand options through the FHA, and we've
worked with the industry to reach as many homeowners as possible to let them
know ttlat help is available. There is more that government and Industry can do,
and our efforts will continue to evolve. Homeowners have responsibilities as well. If
borrowers won't ask about solutions, there IS only so much that can be done on
their behalf.
Third, the current public disCUSSion often conflates the number of so-called
"underwater" homeowners - that IS, those with mortgages greater than the value of
their house - with projections of foreclosures. Let's be precise: being underwater
does not affect your ability to pay your mortgage, nor create a government
responSibility for assistance Homeowners who can afford their mortgage should
honor their obligations --- and most do.
Obviously, being underwater is not inSignificant to homeowners in that position But
negative equity does not necessarily result in foreclosure. Most people buy tlomes
as a long-term investment. as a place to raise a family and put down roots In a
community. Homeowners who can afford their payments and don't have to move,
can choose to stay in their house. And let me emphasize, any homeowner' wtlO can
afford his mortgage payment but chooses to walk away from an underwater
property is simply a speculator - and one who is not honorrng his obligations
We know that speculation increased in recent years: a resulting rncrease in
foreclosures is to be expected and does not warrant any relref. People who

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speculated and bought investment properties in hot markets should take their
losses just like day traders who speculated and bought soaring tech stocks in 2000.
Let me walk through my perspective on today's markets, which has led to these
conclusions.

Current Housing Market Data
Recent housing data confirmed the ongoing housing correction. Existing singlefamily home sales fell to a 1O-year low in January. At current sales rates there is
now a 10.1 month supply of existing homes on the market, as compared to 4.5
months worth of inventory in a more normal market.
Similarly, new January data reported a 9.9 month supply of new homes currently on
the market, more than twice the average supply during the first half of this decade.
We also know that foreclosures add to inventories of unsold homes; by some
estimates, more than half of properties go back on the market shortly after
foreclosure.
Clearly, we have an overhang of supply. Working through the excess means that
home prices will stagnate or fall, and we are seeing that now. The OFHEO index for
purchased homes showed a 1.3 percent price decline in the fourth quarter of 2007
and is down 0.3 percent over the past year. The Case-Shiller composite index for
the 20 largest metropolitan areas is down 9.1 percent over the past year; prices
were down on an annual basis in 17 of the 20 metropolitan areas surveyed.
Of course, there is no national housing market, but instead a compilation of regional
markets. The housing correction, and the run up to the correction, unfolded
differently in different regions.
In recent years, many markets witnessed steep home price appreciation that was
clearly unsustainable. For example, from 2002 to 2006, home prices in Bakersfield,
California rose 122 percent. During that same time frame, prices rose 94 percent in
Las Vegas, Nevada, and 107 percent in Miami, Florida. Not surprisingly, many
areas that saw the biggest price increases are now seeing the biggest price
declines.
Other markets experiencing high foreclosure rates today are those facing broader
economic difficulties. Cities like Detroit, Michigan and Cleveland, Ohio didn't
experience the large price appreciation, and current price declines in these markets
have been triggered by weak local economic conditions.
Falling prices have impacted millions of homeowners. A recent Moody's report
estimates that 8.8 million homeowners today have zero or negative equity.
While these equity considerations clearly impact homeowners' financial situation,
they are not the primary concern in the effort to prevent avoidable foreclosures. And
preventing avoidable foreclosures is the linchpin of our efforts to minimize the
impact of the housing correction on the broader economy.
A greater determining factor in foreclosures of homeowners who want to stay in
their home is the homeowner's ability to make the monthly mortgage payment,
whether or not they have equity in their home. Those struggling to make their
monthly payments may have had a change in life circumstance that reduces their
ability to pay, or be facing a resetting adjustable rate that they cannot afford.
Essentially, these are the homeowners we are aiming to help - they want to stay in
their homes, but have a mortgage product problem or an income problem.

Two-pronged Approach to Rising Foreclosures
We have a two-pronged policy approach that focuses on these two sources of rising
foreclosures. First, we worked with Congress to enact a broad stimulus plan to
support the economy, to maintain and create jobs so there will be fewer who suffer
that income loss. The stimulUS package will put $150 billion into the economy and

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create more than 500,000 new Jobs this year We expect to deliver stimulus
payments to over 130 million households starting in May, with the bulk of those
dollars distributed by tile first week in July. The boost from consumer spending and
business investment will add strength to our economy while the housing and credit
market adjustments proceed
Second, a private sector alliance - HOPE NOW - has adopted a broad set of tools
focused on assisting struggling borrowers who want to keep their homes. This
morning they released data demonstrating the results of their efforts through the
month of January.

HOPE NOW Results
HOPE NOW announced that since July more than 1 million struggling homeowners
received a work-out - either a loan modification or a repayment plan that helped
them avoid foreclosure. Of those, 638,000 were for subprime borrowers. ThiS data
does not include refinancings, which also provide borrowers with affordable, longterm mortgages.
According to today's information, HOPE NOW's progress is accelerating. In
January, there were 167,000 work-outs, up 11 percent from December. Loan
modifications alone increased 19 percent from December to January. By
comparison, foreclosure starts increased Just 5 percent during the same period.
am encouraged that the number of borrowers receiving help is rising faster than the
number entering foreclosure.

Focus on Subprime Borrowers
One of the tools of HOPE NOW is the American Securitization Forum's fast-track
framework for subprime ARM borrowers that was announced in December.
Why are we focused on this small group of borrowers? Because they represent a
disproportionate share of foreclosures.
Even when both the economy and the housing market are strong, many
foreclosures occur. For exaillple, between 2001 and 2005, foreclosure starts
averaged more than 650,000 per year. Based on data through the third quarter of
last year, we are on track for about 1.5 million foreclosure starts in 2007 and some
analysts see as many as 2 million foreclosure starts in 2008.
While subprime mortgages make up only 13 percent of outstanding mortgages,
about 50 percent of the foreclosure starts in the third quarter 2007 were subprime
loans. And more astonishing is the fact that, while subprillle ARMs are only 6.5
percent of mortgages, they represent 40 percent of third-quarter 2007 foreclosure
starts.
These numbers presented a volume problem - that the time-intensive process of
examining the financial situation of every subprime borrower would overwhelm the
available resources, and as Illore borrowers called for help some who, In a norillal
market, would get a Illodification or refinance would instead go into foreclosure
simply because no one could respond to them in time.
The new protocol announced in December is designed to address thiS volume
problem by streamlining some borrowers Into refinancing or modification, so that
resources are available for more difficult situations.
The SEC signed off on this protocol on January 8th. Although it is complex, some
servicers were able to illlplement it right away, while others required more time to
work through the legal, operational and accounting issues. Overall, more than half
of the HOPE NOW servicers had implemented the protocol by the end of January
Those of you who know me know that I am not a patient person I certainly would
have liked to see more servicers implement the protocol faster, and I want to praise
those industry leaders who acted quickly. They met tllelr commitments, and that IS
welcome. I am pleased that as of today, all of the HOPE NOW members who
service subprime mortgages have the protocol in place, ahead of the riSing volume

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of resets in the coming months. Having the protocol in place industry-wide should
also mean - and I will monitor this - accelerated results for subprime borrowers in
the coming months.
Given the time it took to implement the ASF framework, HOPE NOW concluded it
was too soon to have meaningful results specific to this fast-track plan. Instead, the
results are included in the aggregate HOPE NOW reporting on subprime workouts.
In January, HOPE NOW members - through the ASF protocol and other workout
programs - modified 45,000 subprime loans, up 16 percent from December. I
expect those numbers to increase further, now that the ASF protocol is in place
industry-wide. Transparency of the ASF protocol results is critical. I understand that
tracking results is complicated - every borrower is unique and attributing particular
outcomes to particular causes is difficult. Still, enough of the servicers were
following the ASF framework in February that I will press HOPE NOW to break out
the ASF protocol results when their February data is released, so that we can all
assess its effectiveness.
It is important that everyone who agreed to this protocol follows through on their
commitment. I won't look kindly on industry free riders. My measure of success will
be that a borrower who has made all the payments at the initial rate, but can't afford
the reset and reaches out for help, avoids going into foreclosure.
Of course, the single most significant factor that has benefited all ARM borrowers is
the recent decline in short-term interest rates, which are very significantly mitigating
the effects of mortgage resets. A typical subprime mortgage resetting in December
might have increased from 8.5 to 10.8 percent; in today's lower interest rate
environment it may reset only to 9 percent. This means on a $200,000 mortgage,
the typical monthly payment will increase by about $70, instead of growing by more
than $300. Market participants estimate that as many as half the borrowers who at
December rates would have been fast-tracked for a modification instead did not
face a significant ARM reset in January. Lower rates, rather than loan modifications,
helped these borrowers avoid foreclosure.
Outreach Efforts
As we continue to urge lenders to streamline the modification and refinance
process, we must also continue to urge struggling homeowners to reach out for
help.
Before the creation of HOPE NOW, servicers were sending letters to delinquent
borrowers and getting only a 2 to 3 percent response rate. The alliance now sends
out letters on HOPE NOW letterhead, and gets closer to a 20 percent response.
They've sent over 1 million letters to struggling borrowers who had previously
avoided contact, and the higher response rate means almost 200,000 borrowers
have reached out for help.
That's a big improvement, but it also means that more than 80 percent of at-risk
homeowners aren't responding - aren't taking any responsibility. For any
government or industry initiative to be effective, homeowners must actively engage
with their lenders and demonstrate that they want to keep their homes. The earlier
they do so, the more flexibility their lender will have. If borrowers don't ask for help,
they will have to bear the consequences --- which may very well mean lOSing their
homes when that could have been prevented.
Conclusion
As the HOPE NOW alliance continues to report results, we will evaluate progress
and make adjustments. We will also continue to listen to new ideas. I believe we
have the right program in place - an evolving private sector effort to reach
borrowers and find affordable mortgage solutions wherever possible. We will
continue to pursue FHA modernization and GSE reform in Congress, to expand
access to affordable mortgages. And I will continue to focus on the broader effort to
keep our economy strong as we weather this necessary housing correction.
Thank you.

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March 3, 2008
2008-3-3-14-50-32-24601
U.S. International Reserve Position

The Treasury Department today released U.s, reserve assets data for the latest week, As indicated in this table, U.s.
reserve assets totaled $73,521 million as of the end of that week, compared to $72,073 million as of the end of the
prior week,
I. Official reserve assets and other foreign currency assets (approximate market value, In US millions)

I

II

I
IA Official reserve assets (in US millions unless othelwlse specified)

IIFebruary 29, 2008
Euro

IIYen

IITotal

II

11 73 .521

11 12 ,306

11 27 ,503

II
II

11 0

II

11 6 ,033

11 21 ,042

Iii) banks headquartered in the reporting country

II

lof which: located abroad

II

11 0
11 0

1(lil) banks headquartered outside the reporting country

II
II

1(1) Foreign currency reserves (in convertible foreign currencies)
I(a) Securities

15,197

lof which issuer headquartered in reporting country but located abroad
I(b) total currency and deposits with:
l(i) other national central banks, BIS and IMF

15,009

lof which: located in the reporting country
1(2) IMF reserve position

11 4 ,277

1(3) SDRs

11 9 ,658

1(4) gold (including gold depOSits and, if appropriate, gold swapped)

11 11 ,041

I--volume in millions of fine troy ounces

11 261 .499

1(5) other reserve assets (specify)

I

11 0
11 0

0

I--financial derivatives
I--Ioans to nonbank nonresidents
I--other
lB. Other foreign currency assets (specify)
I--securities not included In official reserve assets
I--deposits not Included in official reserve assets
I--Ioans not included in official reserve assets
I--financial derivatives not included in official reserve assets
1--gOld not included in official reserve assets
I --other

1

II

II

I

II. Predetermined short-term net drains on foreign currency assets (nominal value)

I~I_ _ _ _ _ _ _ _ _ _ _ _~I~I_ _ _ _~I~I_ _ _ _~I~I_ _ _ _~I~I_ _ _ _~I~I_ _ _ _~II
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II

I

Total

[

Illnterest

I

Illnterest

II
II
II

Ilprincipal

2. Aggregate short and long positions in forwards and
futures in foreign currencies vis-a-vis the domestic
currency (including the forward leg of currency swaps)

I

(a) Short positions ( - )

I

3. Other (specify)

II
II
II
II
II
II

--inflows related to reverse repos (+)

I --trade credit (-)
I --trade cred it (+)
I --other accounts payable (-)
I --other accounts receivable (+)

I

/I
/I

I

I

I

II

(b) Long positions (+)

--outflows related to repos (-)

More lIlall 3
months anei up to
1 year

More than 1 and
up to 3 months

Up to 1 month

1. Foreign currency loans, securities, and deposits
I
II Principal
I--outflows (-)
I
I--inflows (+)

!

!!Maturlty breakdown (residual maturity)

I

I

I

II

III Contingent short-term net drains on foreign currency assets (nominal value)

II

II

I

II

I

II

applicable)

[

IITotal

Up to 1 month

11

II

I

I Maturity breakdown (residual maturity, where
More than 1 and
up to 3 months

More than 3
months and up to
1 year

Contingent liabilities in foreign currency

II(a) Collateral guarantees on debt falling due within 1
lIyear

I

I(b) Other contingent liabilities

112. Foreign currency securities issued with embedded
options (puttable bonds)

13.

I
I

Undrawn, unconditional credit lines provided by:

Wa) other national monetary authorities, BIS, IMF, and
other international organizations

I

I--other national monetary authorities (+)
I--BIS (+)
I--IMF (+)
(b) with banks and other financial institutions
headquartered in the reporting country (+)

I

(c) with banks and other financial institutions
headquartered outside the reporting country (+)

II

IUndrawn, unconditional credit lines provided to:
(a) other national monetary authorities, BIS, IMF, and
other international organizations

I

I--other national monetary authorities (-)

I

:llwww.treas.guvlpress/releaseS/20021314503224601.htm

4/4/2008

Page 3 of 4
I--BIS (-)

I

I--IMF (-)
II(b) banks and other financial institutions headquartered
in reporting country (- )

II

I

II

I

I

(c) banks and other financial institutions headquartered
outside the reporting country ( - )

II

4. Aggregate short and long positions of options in
foreign currencies vis-a-vis the domestic currency

II

I

"
1/

I

I

II

ha) Short positions
I(i) Bought puts
I(ii) Written calls
I(b) Long positions
I(i) Bought calls
I(ii) Written puts

II

IPRO MEMORIA In-the-moneyoptions

II

1(1) At current exchange rate

II

I

I(a) Short position

I

I(b) Long position

1(2) + 5 % (depreciation of 5%)
I(a) Short position
I(b) Long position

1(3) - 5 % (appreciation of 5%)
I(a) Short position
I(b) Long position
I( 4) + 10 % (depreciation of 10%)
I(a) Short position

I

I(b) Long position

1(5) - 10 % (appreciation of 10%)
I(a) Short position
I(b) Long position

I

1(6) Other (specify)

II

I(a) Short position

II

I

I(b) Long position

II

I

IV. Memo items

I
1(1) To be reported with standard periodicity and timeliness

I
I

I(a) short-term domestic currency debt indexed to the exchange rate

I

(b) financial Instruments denominated in foreign currency and settled by other means (e.g. In domestic I
currency)

I

I--nondeliverable forwards
I --short positions
I --long pOSitions
I--other Instruments
I(C) pledged assets
1--inCluded in reserve assets
1--inCluded in other foreign currency assets
I

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414/2008

Page 4 of 4
I(d) securities lent and on repo
I--Ient or repoed and included in Section I
I--Ient or repoed but not included in Section I
I--borrowed or acquired and included in Section I
I--borrowed or acquired but not included in Section I
I(e) financial derivative assets (net, marked to market)
I--forwards
I--futures
I--swaps
I--options
I--other
(f) derivatives (forward, futures, or options contracts) that have a residual maturity greater than one
year, which are subject to margin calls.

II

--aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the domestic"
currency (including the forward leg of currency swaps)
I(a) short positions ( - )
I(b) long pOSitions (+)
I--aggregate short and long positions of options in foreign currencies vis-a-vis the domestic currency
I(a) short positions
I(i) bought puts
I(ii) written calls
I(b) long positions
l(i) bought calls
I(ii) written puts

1(2) To be disclosed less frequently:
I(a) currency composition of reserves (by groups of currencies)
I--currencies

In

SDR basket

11 73 ,521

11 73 ,521

I--currencies not in SDR basket

II
II
II

I--by individual currencies (optional)
I

Notes:
1/ Includes holdings of the Treasury's Exchange Stabilization Fund (ESF) and the Federal Reserve's System Open Market
Account (SOMA), valued at current market exchange rates. Foreign currency holdings listed as securities reflect markedto-market values, and deposits reflect carrying values.
2/ The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF
and are valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest
week reflect any necessary adjustments, including revaluation, by the U.S. Treasury to IMF data for the prior month
end.
3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

'://www.treaf.gov/presslreleases!20U~3314503224601 \htm

4/4nnnR

P-857:

u.s.

J I ~';l.',mer t~

liwit piscl'..;sion on <br>African-American Financial Education

Page 1 of I

March 3, 2008
HP-857

u.s. Treasurer to Host Discussion on
African-American Financial Education
The U.S. Treasury Department will host a discussion tomorrow on financial
education in African-American communities, U.S. Treasurer Anna Escobedo
Cabral and Deputy Assistant Secretary for Financial Education Dan lannicola, Jr.
will co-chair the discussion and moderate expert panels on the best ways to provide
financial education to African-American communities.
Less than half of African-American workers have saved for retirement and generally
have less saved when compared to all workers. Only 27 percent of AfricanAmerican workers have tried to calculate how much they will need to save for
retirement.
The roundtable is the third in a series of four discussions being held as part of the
Financial Literacy and Education Commission's implementation of the National
Strategy for Financial Literacy. For more information about the Commission, visit
its website at www,mymoney,gov.
The following event is open to the media:
Who
U. S. Treasurer Anna Escobedo Cabral
Deputy Assistant Secretary for Financial Education Dan lannicola, Jr.
What
Roundtable Discussion on Financial Education in African-American Communities
When
Tuesday, March 4, 8:30 a.m. EST
Where
Treasury Department
Cash Room
1500 Pennsylvania Avenue, NW
Washington, D.C.
Note
Media without Treasury press credentials should contact Frances Anderson at
(202) 622-2960, or Frances.Anderson@do.treas.gov with the following information:
full name, Social Security Number and date of birth.

:llwww.tre73.guv/press/releases/hp357.htm

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P-858: Opel,J]I\; Statement by

~~cn:t:.try

Henry M. Paulson, Jr. <br>on the Department of the Treasury ... Page 1 of2

March 5, 2008
HP-858
Opening Statement by Secretary Henry M. Paulson, Jr.
on the Department of the Treasury FY 2009 Budget Request
before the House Committee on Appropriations
Subcommittee on Financial Services and General Government
Washington -- Chairman Serrano, Representative Regula, Members of the
Committee: Thank you for the opportunity to discuss the Treasury Department's
proposed fiscal year 2009 budget. Our budget request reflects the Department's
continued commitment to promoting a healthy U.S. economy, fiscal discipline and
national security. The Department has broad responsibility in federal cash
management, tax administration and plays an integral role in combating terrorist
financing and advocating the integrity of the U.S. and global financial systems.
Our spending priorities for the 2009 fiscal year fall into six main categories. I will
briefly describe the priorities and then take your questions.
U.S. Economic Steward
Treasury has an important role to playas steward of the U.S. economy, and our
offices provide technical analysis, economic forecasting and policy guidance on
issues ranging from federal financing to domestic and global financial systems.
Those functions are especially critical now as the U.S. economy, through a
combination of a significant housing correction, high energy prices and capital
market turmoil has slowed appreciably. Our long term economic fundamentals are
solid, and I believe our economy will continue to grow this year, although not as
rapidly as in recent years.
In response to economic signals, early this year the Administration and the
Congress worked together to quickly pass, on a bipartisan basis, the Economic
Stimulus Act of 2008. And I would like to thank this subcommittee for approving
funds for the IRS and the FMS to administer the stimulus check rebate program
under that Act.
As you know, the stimulus payments to households and the incentives to
businesses in the Act, together, are estimated to lead to the creation of half a
million jobs by year-end. This will provide timely and effective support for families
and our economy, and it wouldn't be possible without your leadership.
Strengthening National Security
Treasury's Office of Terrorism and Financial Intelligence (TFI) uses financial
intelligence, sanctions, and regulatory authorities to track and combat threats to our
security and safeguard the U.S. financial system from abuse by terrorists,
proliferators of weapons of mass destruction and other illicit actors.
To continue and build on our efforts to combat these threats, we are requesting an
$11 million increase for TFI, including $5.5 million for the Financial Crimes
Enforcement Network to ensure effective management of the Bank Secrecy Act.
Efficient Management of the Treasury Department
The budget request emphasizes infrastructure and technology investments to
modernize business processes and improve efficiency throughout the Treasury
Department. We will continue to make information technology management a

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P-858: OpeI1J1H; Statement by Secretflry Henry M. Paulson, Jr. <br>on the Department of the Treasury... Page 2 of 2
priority, and have taken several significant steps to strengthen our systems and
oversight.

Fiscal Discipline
Treasury is committed to managing the nation's finances effectively, ensuring the
most efficient use of taxpayer dollars and collecting the revenue due to the federal
government.

Enforcing the Nation's Tax Laws Fairly and Efficiently
The Internal Revenue Service, of course, plays an integral role in this. The budget
requests a 4.3 percent increase in IRS funding.
As in the past three budget requests, we are proposing to increase IRS
enforcement funding as a Budget Enforcement Act program integrity cap
adjustment. IRS enforcement efforts have yielded record revenue collections. With
the requested funding, the IRS will collect an estimated $55 billion in direct
enforcement revenue in 2009.
The budget also includes a number of legislative proposals intended to target the
tax gap and improve tax compliance, with an appropriate balance between
enforcement and taxpayer service. These proposals are estimated to generate $36
billion over the next ten years.

International Programs
We will continue to focus efforts on supporting a stable and growing global
economy, through on-going dialogue and initiatives with developing economies
throughout Asia, Latin America and Africa.
In addition we are asking your colleagues on the Foreign Operations Subcommittee
to support key objectives of the President's international assistance agenda. This
includes funding for the multilateral development banks - notably new
replenishments for the World Bank's International Development Association and the
African Development Fund.
Also included as a Foreign Operations priority is a $400 million request for the first
installment of a multi-billion dollar clean technology fund that, with additional
funding from the United Kingdom, Japan and other donors, will help finance clean
energy projects in the developing world and make strides towards addressing
global climate change.

Conclusion
Overall, the budget request reflects a prudent and forward-leaning approach to
fulfilling the Treasury Department's core responsibilities to support our economy,
managing the government's finances and ensuring financial system security. I thank
you for your past support and consideration of our work, and look forward to
working with you during your deliberations.
Thank you and I welcome your questions.
-30-

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1-859: Prepal""rl Testimony of Trf':{lsmy Tax Legislative Counsel Michael Desmond before the Subcom... Page 1 of 6

March 5, 2008
hp-859
Prepared Testimony of Treasury Tax Legislative Counsel Michael Desmond
before the Subcommittee on Select Revenue Measures of the House
Committee on Ways and Means
Washington -- Mr. Chairman, Ranking Member English, and distinguished
Members of the Subcommittee:
Thank you for the opportunity to discuss with you today the Federal tax treatment of
certain derivative products, including prepaid forward contracts. With the growing
complexity and sophistication of our financial markets, the tax treatment of
derivatives plays an increasingly important role in the efforts of the Treasury
Department and the Internal Revenue Service ("IRS") to administer the nation's tax
laws, and we appreciate this Subcommittee's focus on these issues.
The tax treatment of prepaid forward contracts is of continuing interest to the
Treasury Department Last December, we issued Notice 2008-2 (the "Notice"),[1]
announcing that we are considering the subject and requesting public comments
with respect to a number of specific issues. The period for submitting formal
comments remains open, and the Notice has generated significant discussion on
this important issue.
Although it is premature to offer any conclusions or positions with respect to how
we might move forward with respect to the issues raised by the Notice, we look
forward to continuing to work with this Subcommittee as you consider proposals
that would affect the tax treatment of derivatives and, in particular, proposals to
change the tax law with respect to prepaid forward contracts. To that end, it may be
productive to describe the context in which we have seen this issue arise and some
of the challenges we see in addressing it It may also be helpful to provide some
background regarding the Notice in order to clarify the context in which we are
considering the issue and to develop a mutual understanding of the issues
presented.
General Background Regarding Forward Contracts
Historically, forward contracts developed as a means for parties to hedge against
the risk of price fluctuations in ordinary business operations. For example, a
manufacturer might enter into a forward contract on steel that is used as a
component in its production process to hedge against the risk that the price of steel
will rise. For similar reasons, an airline might enter into a forward contract on jet fuel
to hedge against the risk of fuel price increases. By fixing the price at which some
asset will be acquired (or sold) in the future, a forward contract can reduce the risk
of adverse price changes and, thereby, reduce the cost of doing business. Forward
contracts, however, are not solely used in hedging transactions. Parties can (and
do) use forward contracts to speculate on the future value of a reference asset
A traditional forward contract is an agreement in which one party (in the "long
position") agrees to purchase, and the other party (in the "short position") agrees to
sell and deliver, a specific asset (the "reference asset") at a specific time for a
specific price (the "forward price"). Generally, the party in the long position will profit
from an increase in the price of the reference asset, while the party in the short
position will profit from a decrease in the price.
Parties to a forward contract often settle their obligations under the contract with a
single, net, cash-settlement payment (rather than through physical delivery of the
reference asset and payment of the full forward price). In typical "cash-settled"
contracts, at the time the contract settles, the forward price set forth in the contract
is compared to the then-current (or "spot") price of the reference asset If that spot

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-859: Prepar.l.'J. Testimony of Treasury Tax Legislative Counsel Michael Desmond before the Subcom... Page 2 of 6
price is less than the forward price, then the long position pays the difference; if that
spot price is more than the forward price, then the short position pays the
difference.
The forward price for a nonperishable commodity or a financial instrument generally
equals the reference asset's spot price at the time the contract is executed, plus the
"cost to carry" (or hold) the asset for the term of the contract. "Cost to carry"
represents interest (and other costs[2]) that a party would have to pay if it were to
borrow to purchase and "carry" the reference asset during the term of the
arrangement.[3] Consequently, the forward price implicitly includes a component
that is calculated by reference to the time value of money - that is, interest. If the
time value of money were not properly factored in to the forward price, arbitrageurs
would be able to earn risk-free profits.[4]
Some contracts (referred to as "prepaid forward contracts") require the party in the
long position to pay the purchase price upon execution of the contract, rather than
on the later delivery date. In these circumstances, the amount paid typically reflects
only the spot price of the asset to which the contract refers (plus any warehousing
or similar expenses), but does not reflect a time value component. Again, if this
were not the case, arbitrageurs could earn a risk-free profit.

General Background Regarding Taxation of Derivatives
The Internal Revenue Code and Treasury regulations contain a number of specific
rules governing the Federal tax treatment of stock, debt, options, traditional forward
contracts, futures contracts, certain swaps, and various other financial instruments.
Different rules may apply to identical instruments in different contexts. Thus, for
example, a forward contract may be taxed differently if it is executed by an investor,
[5] a trader,[6] a dealer,[7] or a business hedger.[8] An identical forward contract
may also be taxed differently depending on whether it is executed by a domestic or
a foreign person,[9] or whether it derives its value from certain reference assets
(such as foreign currency).[1 O]ln addition, a single forward contract may involve
different types of taxpayers as counterparties on opposite sides of the same
contract. Thus, a single forward contract often generates asymmetrical tax
consequences for the parties.
The resulting set of complex rules reflects various policy choices that Congress and
the Treasury Department have made over the years with respect to the timing of
income and loss, the character (capital or ordinary) of income and loss, and the
source (domestic or foreign) of income and loss.
Financial innovation challenges the current system of taxing derivatives, because
the system generally approaches new financial transactions by attempting to assign
them to various categories (of the nature described above) for which there are
clearly established rules. These categories are often colloquially referred to as
"cubbyholes." Absent clear guidance as to which category a new transaction might
fit in to, taxpayers are left to deal with uncertainty in structuring their affairs and the
IRS is presented with difficulties in administering the tax law.
Unavoidably, this "cubbyhole" approach results in different tax consequences for
economically equivalent transactions. For example, if a "triple-A" rated company
issues preferred stock that is required by its terms to be redeemed on a specific
date, that stock may be economically indistinguishable from that company's
subordinated debt with the same maturity date. For both the company and its
investors, however, these two transactions are taxed differently. Financial
innovation amplifies this phenomenon (that is, different tax treatment of
economically equivalent transactions) by increasing the number of situations in
which it materializes. A single "hybrid" instrument that cannot be easily classified
under the existing taxonomy may combine traditional instruments such as stock and
debt. Alternatively, combinations of separate transactions may produce net cash
flows that replicate a traditional instrument, thus creating a "synthetic" version of the
traditional one, but with different tax consequences.
The following three examples illustrate this phenomenon in the specific context of
prepaid forward contracts:

Example 1. On date 1, X (a hypothetical domestic investor) buys a share of stock

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1-859: Prepa:.-~d Testimony of Treasmy Tax Legislative Counsel Michael Desmond before the Subcom... Page 3 of 6
of ABC Inc. for $100. Two years later (on date 2), X sells the stock for its fair market
value of $125.
Example 2. On date 1, X buys a "zero coupon bond"[11] (the "bond") for $100. The
bond was issued by Corp Q on date 1 and matures in two years (on date 2) for
$112, reflecting an interest rate of approximately 6%. On date 1, X also enters into
a cash-settled forward contract to purchase a share of stock of ABC Inc. from Y in
two years (on date 2) for $112. Two years later (on date 2), the fair market value of
a share of stock of ABC Inc. is $125. On date 2, X receives a total of $125,
consisting of $112 from Corp Q in redemption of the bond, and $13 from Y in
settlement of the forward contract.
Example 3. On date 1, X enters into a cash-settled prepaid forward contract to
purchase a share of stock of ABC Inc. in two years (on date 2). Pursuant to the
contract, X pays Y $100 on date 1. In exchange, Y agrees to pay X on date 2 the
fair market value on that date of a share of stock of ABC Inc. The contract does not
require Y to own or acquire any stock of ABC Inc. Two years later (on date 2), the
fair market value of a share of stock of ABC Inc. is $125. On date 2, X receives
$125 from Y in settlement of the forward contract.
Aside from their tax consequences, these transactions are economically equivalent.
In each case, X paid $100 on date 1 and received $125 on date 2, for an economic
return of $25. However, on an after-tax basis, these transactions differ
considerably.
In Example 1, X pays tax on its entire $25 economic return on a deferred basis (on
date 2) at the long-term capital gains rate. This result follows from the current
realization-based system of taxation.
In Example 2, X accrues $12 (attributable to the bond) into taxable income on a
current basis and pays tax on these accruals in years 1 and 2 at ordinary income
rates. X pays tax on the $13 attributable to the forward contract on a deferred basis
at long-term capital gain rates. This result follows from the respect the current tax
system generally affords to the separate transactions (the bond and the forward)
and the specific tax rules that apply once each is assigned to a separate category.
What do these principles say about the manner in which Example 3 (the prepaid
forward contract) should be taxed? In particular, does current law require X to
bifurcate (or does it prevent X from bifurcating) the single contract into separate
economic components for tax purposes? As a matter of market practice, investors
in X's position in Example 3 typically do not bifurcate. Instead, they generally
attempt to assign the transaction to only one of the traditional categories for which
the tax system has prescribed rules. Investors in X's position often conclude that
the transaction is not indebtedness under common law tax principles. They
emphasize that, unlike traditional debt, which guarantees a return of principal, there
is a meaningful likelihood that a significant portion of the $100 amount advanced
may not be repaid because the value of ABC Inc. stock may go down. Furthermore,
investors in X's position often conclude that their counterparty in the transaction is
not acting as their agent, holding ABC Inc. stock on their behalf, stressing that X
cannot be sure whether its counterparty (Y) even owns stock of ABC Inc. during the
term of the transaction.
Having concluded that neither the debt nor the agency characterization is proper,
investors in X's position generally assert that the transaction should be treated as a
forward contract, taxed only upon realization. This result in Example 3 is consistent
with the result in Example 1 (where tax is not paid until realization), but not with the
result in Example 2 (where the investor is required to pay tax on accrued but unpaid
income), even though all three examples involve economically equivalent
transactions.
Notice 2008-2
The Treasury Department and the IRS have been aware for some time of the
difficult issues raised with respect to the tax treatment of prepaid forward contracts.
In 1993, in a preamble to regulations dealing with certain swap transactions, the
Treasury Department and IRS first announced that they were studying the tax
treatment of prepaid forward contracts and requested public comments. Specific

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projects to address prepaid forward contracts were placed on the administrative
guidance "business plan" in 1993 and again in 2001. To date, however, published
guidance has not been issued .[12]
In 2007, the Treasury Department and IRS became aware of an instrument that
was beginning to be offered to retail investors in the capital markets that purported
to be a prepaid cash-settled forward contract with respect to foreign currency. The
offering materials filed with the Securities and Exchange Commission (SEC)
suggested that for Federal tax purposes the Instrument did not require current
income inclusions by Investors and Ilad the potential of generating long-term capital
gains. In response, Revenue Ruling 2008-1,2008-2 I.R.B. 248 (Jan. 14,2008), was
released in December 2007, holding that these instruments are foreign-currencydenominated debt under general tax principles, and that investors must accrue
currently interest income.
In 2006, we also learned of recent significant growth in the number of prepaid
forward contracts being offered to retail investors with respect to reference assets
other than foreign currency. Language in the offering documents filed with the SEC
with respect to these instruments suggested that they are not debt under general
tax principles. In the retail space, these instruments are sometimes referred to as
exchange traded notes ("ETNs"). Typically, ETNs differ from the Simple situation
described in Example 3, above, In that they reference large portfolioS of stocks
and/or commodities rather than a single stock or asset. These portfolios are
periodically redefined and, in the case of stock indices, may pay dividends which
are credited to the contract, but are not currently paid to the holder of the contract.
These features present unique questions as to whether deferral of tax IS
appropriate.
Because of the large number of taxpayers potentially affected and their relative
level of sophistication, the migration of prepaid forward contracts Into the portfolios
of retail investors served as an occasion for us to revisit the core issue related to
prepaid forward contracts -- whether or not a current accrual of income should be
required. We issued the Notice to inform the public that we are continuing to
examine this issue and to solicit comments. As the popularity of prepaid forward
contracts grows, more taxpayers are affected by the current lack of clarity and need
gUidance regarding how to compute their tax liability. We were also mindful of the
fact that the market segment into which these transactions is expanding is one that
is, perhaps, less capable of appreciating the risks associated with this uncertainty
Although it would be very desirable for us to clarify this area, we have reached no
conclusion about how to proceed, about what result should be reached, or about
whether we are able to reach that result with administrative guidance.
Thank you Mr. Chairman, Ranking Member English and Members of the
Subcommittee for providing an opportunity for us to participate in today's hearing on
this important subject. I would be pleased to respond to your questions.

- 30 -

[1J 2008-2 I R.B. 252 (Jan. 14,2008).
[2] For example, the "cost to carry" includes any warehousing, Insurance, and
similar expenses that a party would have to pay if it were to hold (or "carry") the
asset during the term of forward contract. These costs arise more frequently In the
context of forward contracts on commodities.
[3J Any expected cash yield on the asset underlYing the forward contract (for
example, diVidends on stock) IS typically subtracted from the forward price.
(Because it is a benefit, rather than a cost, of holding the asset over the term of the
contract, It is like a negative "cost to carry.")
[4] For example, If the forward price were too high (I.e., if it were in excess of the
spot price plus the cost to carry, including this time value component), an
arbitrageur could borrow at market Interest rates to purchase the reference asset at

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-859: Prep(.;red Testimony of Treasury Tax Legislative Counsel Michael Desmond before the S ubcom... Page 5 of 6
its spot price today and simultaneously take the short position on tile forward
contract. Similarly. if the forward price were too low (ie .. if it were below the spot
price plus the cost to carry, including this time value component), an arbitrageur
could short sell the reference asset today (i.e., borrow the asset and sell It In the
market for its current price) to generate cash proceeds to purchase a bond paying
market interest rates and simultaneously take a long position on the forward
contract.
[5J If an investor executes a traditional forward contract with respect to an asset that
is a capital asset for that investor, the contract is treated as an "open transaction"
for tax purposes -- that is, It has no tax effect until the transaction is ultimately
settled See, eg, Lucas v. North Texas Lumber Co, 281 US 11 (1930). If the
forward contract is settled by physical delivery of the reference asset. the seller
(that is, the short position) recognizes capital gain or loss at the lime it delivers the
asset. The amount of gain or loss is determined by reference to the seller's basis In
the asset and tile forward price received. LikeWise, the buyer (that is, the long
position) takes a basis in the asset equal to the forward price it pays, and realizes
capital gain or loss upon its ultimate disposition of the asset. If, Instead, the forward
contract is cash settled (that is, the "losing" party makes a cash payment), the
recipient recognizes capital gain and the payor recognizes a commensurate amount
of capital loss at the time the payment is made. See section 1234A. Special rules
change these results in certain circumstances (e.g., if the forward contract is part of
a straddle (section 1092), a conversion transaction (section 1258), a constructive
sale (section 1259), or a constructive ownership transaction (section 1260)).
[6] A "trader" that elects to have section 475(f) apply must "mark to market" the
forward contract (that is. treat the position as if It is sold for its fair market value at
the end of each tax year) and treat the resulting gain or loss as ordinary (rather than
capital) in character.
[7J A "securities dealer" must "mark to market" forward contracts with respect to
securities (that is, treat the position as if it is sold for its fair market value at the end
of each tax year) and treat the resulting gain or loss as ordinary (rather than capital)
in character. A "commodities dealer" may elect this treatment. See section 475.
[8] A "hedger" must match the timing of the gain or loss recognition on the forward
contract with the timing of the gain or loss recognition on the Item being hedged
See Treas. Reg. §1.446-4. The gain or loss is typically ordinary, so long as
appropriate identifications are made. See section 1221 (a )(7).
[9] For example, foreign persons are taxed at graduated rates on net income that is
"effectively connected" with a U.S trade or business. See sections 871(b) and 882
In the absence of a U.S. trade or business, foreign persons are generally taxed at a
flat 30-percent rate on certain gross income from U.S. sources. See sections 871 (a)
and 881. Tax treaties often Change these results. If the foreign person IS a
"controlled foreign corporation," the tax consequences to U.S shareholders depend
on a number of complicated variables, such as whether the asset underlYing the
forward contract is a commodity, and whether it is a hedging transaction
[10]ln certain Circumstances, a forward contract on foreign currency IS "marked to
market." See section 1256 Gain or loss on these contracts IS typically ordinary in
character. but, In certain circumstances, taxpayers can elect to treat the gain or loss
as capital See section 988.
[11] A zero-coupon bond is a debt security IIlat does not pay interest on a current
baSIS but instead. IS Issued at a discount to ItS nominal (or "face") value. (The
discount generally reflects the prevailing market Interest rate.) For U.S tax
purposes, all holders of bonds that are onginally issued with such a discount (such
as X, in Example 2) must generally accrue the "original issue discount" Into income
as interest over the term of the bond Thus. the holders will have an income tax
liability based on this accrued income even though they do not have any current
cash flow from the bond See sedon 1272.
[12J The IRS and Treasury Department have addressed a very different tax Issue In
connection with a transaction called a "variable prepaid forward contract." That
transaction involves a situation similar to Example 3. except that X plays the role of
seller, not buyer, of ABC Inc. stock under a contract. Because X separately owns
appreciated ABC Inc. stock, the key tax issue presented is whether the contract and

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other aspects of the transaction amount to a current sale (or constructive sale) of
the stock. (There are meaningful differences between the simplified prepaid forward
contract described in Example 3 and typical variable prepaid forward contracts that
bear on this key tax issue.) Revenue Ruling 2003-7, 2003-1 C.B. 363 (Feb. 3,
2003), holds that no such sale results from the arrangement described in the ruling.
A matter of current controversy between the IRS and certain taxpayers is whether
particular transactions are within the scope of the revenue ruling.

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-860: Trea:"JfY Assistant Secret(iry SWage I to Hold Monthly Economic Briefing

Page 1 of 1

March 5, 2008
hp-860
Treasury Assistant Secretary Swagel to Hold Monthly Economic Briefing
U.S. Treasury Assistant Secretary for Economic Policy Phillip Swagel will hold a
media briefing to review economic indicators from the last month as well as discuss
the state of the U.S. Economy. The event is open to the media:
Who

U. S. Treasury Assistant Secretary Phillip Swagel

What

Economic Media Briefing

When

Friday, March 7, 2008,10:00 a.m. EST

Where

Treasury Department
Media Room (Room 4121)
1500 Pennsylvania Ave,
NWWashington, D.C.

Note
Media without Treasury press credentials should contact
Frances Anderson at (202) 622-2960, or Frances.Anderson@do.treas.gov with
the following information: full name, Social Security number, and date of
birth.

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-861: Un del Secretary for Intf'ffi1ticl1ai Affairs David H. McCormick<br>Testimony before the Hous... Page i of 5

March 5, 2008
hp-861
Under Secretary for International Affairs David H. McCormick
Testimony before the House Committee on Financial Services
Subcommittee on Domestic and International Monetary Policy, Trade and
Technology and Subcommittee on Capital Markets, Insurance and
Government Sponsored Enterprises
Washington - Chairman Gutierrez, Chairman Kanjorski, Ranking Member Paul,
Ranking Member Pryce, Members of the Committee, good afternoon. I very much
appreciate the opportunity to appear before you today to discuss sovereign wealth
funds. This is a timely hearing on a very important topic. At Treasury, we have been
increasingly focused on sovereign wealth funds for more than a year now. I am
pleased to be able to share with the Committee some of our views.
History and Context
Although the term "sovereign wealth fund" was coined just a few years ago, the
funds it describes are not new. Sovereign wealth funds have existed in various
forms for decades in places as diverse as the central Pacific, Southeast Asia,
Europe and the Persian Gulf. At the turn of the century, there were about 20
sovereign wealth funds worldwide managing total assets of several hundred billion
dollars.
Today, what is new is the rapid increase in both the number and size of sovereign
wealth funds. Twenty new funds have been created since 2000, more than half of
these since 2005, which brings the total number to nearly 40 funds that now
manage total assets in a range of $1.9-2.9 trillion. Private sector analysts have
projected that sovereign wealth fund assets could grow to $10-15 trillion by 2015.
Two trends have contributed to this ongOing growth. The first is sustained high
commodity prices. The second is the accumulation of official reserves and the
transfers from official reserves to investment funds in non-commodity exporters.
Within this group of countries, foreign exchange reserves are now sufficient by all
standard metrics of reserve adequacy. For these non-commodity exporters, more
flexible exchange rates are often necessary, and Treasury actively pushes for
increased flexibility.
So what are sovereign wealth funds? At the Department of the Treasury, we have
defined them as government investment vehicles funded by foreign exchange
assets, which manage those assets separately from official reserves. Sovereign
wealth funds generally fall into two categories based on the source of the foreign
exchange assets:
•

Commodity funds are established through commodity exports, either owned
or taxed by the government. They serve different purposes, including
stabilization of fiscal revenues, intergenerational saving, and balance of
payments sterilization. Given the recent extended sharp rise in commodity
prices, many funds initially established for fiscal stabilization purposes have
evolved into savings funds. In the case of commodity funds, foreign
currency typically accrues to the government and does not increase the
money supply and create unwanted inflationary pressure.

•

Non-commodity funds are typically established through transfers of assets
from official foreign exchange reserves. Large balance of payments
surpluses have enabled non-commodity exporting countries to transfer
"excess" foreign exchange reserves to stand-alone funds. In the case of
non-commodity funds, foreign eXChange assets often derive from exchange
rate intervention, which then increases a country's money supply. Monetary
rlilthorities take additional steps to lower the money supply and stave off

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Page 2 of 5

inflation by issuing new debt, but there may be a cost associated with this if
the cost of the new debt is more than the returns that the government earns
on its foreign exchange assets.
In contrast to traditional reserves, which are typically invested for liquidity and
safety, sovereign wealth funds seek a higher rate of return and may be invested in
a wider range of asset classes. Sovereign wealth fund managers have a higher risk
tolerance than their counterparts managing official reserves They emphasize
expected returns over liquidity, and their investments can take the form of stakes in
U.S. companies, as has been witnessed in recent months with increased regularity.
However, sovereign wealth fund assets are currently fairly concentrated. By some
market estimates, a handful of funds account for the majority of total sovereign
wealth fund assets. Roughly two-thirds of sovereign wealth fund assets are
commodity fund assets ($1.3-1.9 trillion), while the remaining one-third are noncommodity funds transferred from official reserves ($0.6-1.0 trillion).
To get a better perspective of the relative importance of sovereign wealth funds, it is
useful to consider how they measure up against private pools of global capital.
Total sovereign wealth fund assets of $1.9-2.9 trillion may be small relative to a
$190 trillion stock of global financial assets, or the roughly $62 trillion managed by
private institutional investors. But sovereign wealth fund assets are currently larger
than the total assets under management by either hedge funds or private equity
funds and are set to grow at a much faster pace.
In sum, sovereign wealth funds represent a large and rapidly growing stock of
government-controlled assets, invested more aggressively than traditional reserves.
Attention to sovereign wealth funds is inevitable given that their rise clearly has
implications for the international financial system. Sovereign wealth funds bring
benefits to the system but also raise potential concerns.
Benefits

A useful starting point when discussing the benefits of sovereign wealth funds is to
stress that the United States remains committed to open investment. On May 10,
2007, President Bush publicly reaffirmed, in his Statement on Open Economies, the
U.S. commitment to advancing open economies at home and abroad, including
through open investment and trade. Lower trade and investment barriers benefit not
only the United States, but also the global economy as a whole. The depth, liquidity
and efficiency of our capital markets should continue to make the United States the
most attractive country in the world in which to invest.
In 2006, there was a net increase of $2.5 trillion in foreign-owned assets in the
United States, while U.S. net international investment abroad increased by $2.2
trillion. International investment in the United States fuels U.S. economic prosperity
by creating well-paid jobs, importing new technology and business methods,
helping to finance U.S. priorities, and providing healthy competition that fosters
innovation, productivity gains, lower prices, and greater variety for consumers. Over
five million Americans 4.6 percent of the U.S. private sector - are employed by foreign-owned firms' U.S.
operations. Over 39 percent of these five million jobs at foreign-owned firms are in
manufacturing, a sector that accounts for 13 percent of U.S. private sector jobs.
These five million jobs pay 25 percent higher compensation on average than jobs at
other U.S. firms. Another roughly five million jobs are indirectly supported by foreign
investment. Additionally, foreign-owned firms contributed almost six percent of U.S.
output and 14 percent of U.S. R&D spending in 2006. Foreign-owned firms reinvested over half of their U.S. income - $71 billion - back into the U.S. economy in
2006. A disproportionate 13 percent of U.S. tax payments and 19 percent of U.S.
exports are made by foreign-owned firms. Without international investment,
Americans would be faced with painful choices regarding taxes, spending on
government programs, and their level of savings and consumption. Another benefit
of FDI is that foreign investors' economic interests become more dependent on the
health of the U.S. economy - giving the investor an incentive to support U.S.
economic interests.
As many observers have pointed out. sovereign wealth funds have the potential to

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-861: Undet .'\r.r,retary for Intemati(\ilal Affairs David H. McConnick<br>Testimony before the Hous... Page 3 of 5
promote financial stability. They are, in principle, long term, stable investors that
provide significant capital to the system. They are typically not highly leveraged and
cannot be forced by capital requirements or investor withdrawals to liquidate
positions rapidly. Sovereign wealth funds, as public sector entities, should have an
interest in and a responsibility for financial market stability.

Potential Concerns
Yet, sovereign wealth funds also raise potential concerns.
First, transactions involving investment by sovereign wealth funds, as with other
types of foreign investment, may raise legitimate national security concerns. The
Committee on Foreign Investment in the United States (CFIUS), which is chaired by
Treasury, conducts robust reviews of certain investments that could result in foreign
control of a U.S. business to identify and resolve any genuine national security
concerns. The Foreign Investment and National Security Act (FINSA) became
effective on October 24, 2007, and strengthened the CFIUS process. CFIUS is able
to review investments from sovereign wealth funds, just as it would other foreign
government-controlled investments, and it has and will continue to exercise this
authority to ensure national security. CFIUS reviews are of course limited to
identifying and resolving genuine national security concerns.
Separately, Treasury is also considering non-national security issues related to
potential distortions from a larger role of foreign governments in markets. Through
inefficient allocation of capital, perceived unfair competition with private firms, or the
pursuit of broader strategic rather than strictly economic return-oriented
investments, sovereign wealth funds could potentially distort markets. Sovereign
wealth funds may also indirectly invest abroad through domestic state-owned
enterprises. However, such action by a SWF is more likely to be viewed as a direct
extension of government policy. Clearly, both sovereign wealth funds and the
countries in which they invest will be best served if investment decisions are made
solely on commercial grounds.
The investment policy issues I have just described - both the national security and
non-national security issues - have the potential to provoke protectionist responses
from recipient country governments. It is my view that protectionist sentiment stems
partly from a lack of information and understanding of sovereign wealth funds,
which in turn is partly due to a lack of transparency and clear communication on the
part of many of the funds themselves. Further, concerns about cross-border
investment by state-owned enterprises are often misdirected at sovereign wealth
funds as a group. Better information and understanding on both sides of the
investment relationship is therefore needed.
Finally, sovereign wealth funds may raise concerns related to financial stability.
Sovereign wealth funds can represent large, concentrated, and often nontransparent positions in certain markets and asset classes. Actual shifts in their
asset allocations can cause market volatility. In fact, even perceived shifts or
rumors can cause volatility as the market reacts to what it perceives sovereign
wealth funds to be doing.

Policy Response
Treasury has taken a number of steps to help ensure that the United States can
continue to benefit from open investment while addressing these potential
concerns.
First, we are aggressively implementing reforms that strengthen the CFIUS
process, reflected in FINSA and Executive Order 11858, issued by the President on
January 23. We are proceeding steadily through a vigorous drafting process for
new regulations which will become effective later this Spring following public notice
and comment. One of the reforms codified by FINSA, which we have already
implemented, is an elevated level of accountability within CFIUS for review of
foreign government-controlled transactions. I want to be clear that CFIUS has - as
early as 1989 - and will continue to review the investment transactions of sovereign
wealth funds, based on the consideration of genuine national security concerns, just
as it does for other foreign government-controlled investment. FINSA protects our
national security while keeping investment barriers low and reaffirming investor

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-861: Undei' Secretary for

IntematiO~lal

Affairs David H. McConnick<br>Testimony before the Hous... Page 4 of 5

confidence and the longstanding U.S. open investment policy. CFIUS will continue
to vigorously implement this law.
Second, we have proposed that the international community collaborate on the
development of a multilateral framework for best practices. The International
Monetary Fund, with support from the World Bank, should develop voluntary best
practices for sovereign wealth funds, building on existing best practices for foreign
exchange reserve management. These would provide guidance to new funds on
how to structure themselves, reduce any potential systemic risk, and help
demonstrate to critics that sovereign wealth funds can be responsible, constructive
participants in the international financial system.
Here, I would note that the logic of voluntary best practices for sovereign wealth
funds is to create a dynamic rise to the top. International agreement on a set of best
practices will create a strong incentive among funds to hold themselves to high
standards. Sovereign wealth funds themselves are increasingly aware that the
increase in the number and size of these funds has, rightly or wrongly, raised
reputational issues for them all.
Third, we have proposed that the Organisation for Economic Co-operation and
Development (OECD) should identify best practices for countries that receive
foreign government-controlled investment, based on its extensive work on
promoting open investment regimes. These should have a focus on avoiding
protectionism and should be guided by the well-established principles embraced by
OECD and its members for the treatment of foreign investment.
We have already seen meaningful progress along these lines. On May 12-13 of last
year, Treasury hosted a G-20 meeting of Finance Ministry and Central Bank
officials on commodity cycles and financial stability, which included perhaps the first
multilateral discussion of sovereign wealth funds among countries with these funds
and countries in which they invest. Following a period of extensive direct bilateral
outreach with sovereign wealth funds, Secretary Paulson hosted a G-7 outreach
meeting on October 19, 2007 with Finance Ministers and heads of sovereign wealth
funds from eight countries (China, Korea, Kuwait, Norway, Russia, Saudi Arabia,
Singapore, and the United Arab Emirates) to build support for best practices.
On October 20, 2007, the International Monetary and Financial Committee - a
ministerial level advisory committee to the IMF - issued a statement calling on the
IMF to begin a dialogue to identify best practices for sovereign wealth funds. On
November 15-16, 2007, the IMF hosted a roundtable meeting for sovereign asset
and reserve managers. In response to the IMFC statement, the IMF added a
special session on policy and operational issues relating to SWFs for official sector
delegates. This marks the beginning of an important process in the IMF. IMF
Managing Director Dominique Strauss-Kahn opened the roundtable meeting and
underlined that some form of agreement on best practices for the operations of
SWFs could help maintain an open global financial system.
A separate dialogue is well underway in the OECD on investment policy issues with
regard to SWFs, building on the discussions on Freedom of Investment, National
Security, and "Strategic" Industries. Later this month, the OECD Investment
Committee will discuss an interim report on broader investment issues that will also
cover SWFs. The OECD expects to issue a "special statement" regarding
investment policy principles and sovereign investment at its June Ministerial.
Fourth, Treasury has taken a number of steps internally and within the U.S.
Government to enhance our understanding of sovereign wealth funds. Treasury has
created a working group on sovereign wealth funds that draws on the expertise of
Treasury's offices of International Affairs and Domestic Finance. Treasury's new
market room is ensuring vigilant, ongoing monitoring of sovereign wealth fund
trends and transactions. Through the President's Working Group on Financial
Markets, chaired by Secretary Paulson, we continue to discuss and review
sovereign wealth funds. We have also engaged sovereign wealth funds directly on
numerous occasions, at numerous levels within our government and at numerous
forums.
Treasury is actively coordinating with Congress through staff briefings and
committee hearings. As you may know, I testified on these issues before the
Senate Banking Committee in November. Also, in June and December of last year

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-861:

Undel~~cretary

for International Affairs David H. McConnick<br>Testimony before the HOlls... Page 5 of 5
we provided Congress with updates on our sovereign wealth fund-related work in
an appendix to the Report on International Economic and Exchange Rate Policies,
and we will continue to provide updates on a semi-annual basis.
The Treasury Department will continue its work on sovereign wealth funds through
sound analysis and focused bilateral and multilateral efforts to help ensure the
United States shapes an appropriate international response to this issue, addresses
legitimate areas of concern, and together with other countries, remains open to
foreign investment.
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)-862:

OpellJn~

Statement hy Secretary Henry M. Paulson, lr.<br>on the Department of the Treasury ... Page 1 of 2

March 5, 2008
HP-862
Opening Statement by Secretary Henry M. Paulson, Jr.
on the Department of the Treasury FY 2009 Budget Request
before the Senate Committee on Appropriations
Subcommittee on Financial Services and General Government
Washington -- Chairman Durbin, Senator Brownback, Members of the Committee:
Thank you for the opportunity to discuss the Treasury Department's proposed fiscal
year 2009 budget. Our budget request reflects the Department's continued
commitment to promoting a healthy U.S. economy, fiscal discipline and national
security. The Department has broad responsibility in federal cash management, tax
administration and plays an integral role in combating terrorist financing and
advocating the integrity of the U.S. and global financial systems.
Our spending priorities for the 2009 fiscal year fall into six main categories. I will
briefly describe the priorities and then take your questions.
u.S. Economic Steward
Treasury has an important role to playas steward of the U.S. economy, and our
offices provide technical analysis, economic forecasting and policy guidance on
issues ranging from federal financing to domestic and global financial systems.
Those functions are especially critical now as the U.S. economy, through a
combination of a significant housing correction, high energy prices and capital
market turmoil has slowed appreciably. Our long term economic fundamentals are
solid, and I believe our economy will continue to grow this year, although not as
rapidly as in recent years.
In response to economic signals, early this year the Administration and the
Congress worked together to quickly pass, on a bipartisan basis, the Economic
Stimulus Act of 2008. And I would like to thank this subcommittee for approving
funds for the IRS and the FMS to administer the stimulus check rebate program
under that Act.
As you know, the stimulus payments to households and the incentives to
businesses in the Act, together, are estimated to lead to the creation of half a
million jobs by year-end. This will provide timely and effective support for families
and our economy, and it wouldn't be possible without your leadership.
Strengthening National Security
Treasury's Office of Terrorism and Financial Intelligence (TFI) uses financial
intelligence, sanctions, and regulatory authorities to track and combat threats to our
security and safeguard the U.S. financial system from abuse by terrorists,
proliferators of weapons of mass destruction and other illicit actors.
To continue and build on our efforts to combat these threats, we are requesting an
$11 million increase for TFI, including $5.5 million for the Financial Crimes
Enforcement Network to ensure effective management of the Bank Secrecy Act.
Efficient Management of the Treasury Department
The budget request emphasizes infrastructure and technology investments to
modernize business processes and improve efficiency throughout the Treasury
Department. We will continue to make information technology management a

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>-862: OpeLJllr Statement hy Sr.r.rp~dry Henry M. Paulson, lr.<br>on the Department of the Treasury ... Page 2 of2
priority, and have taken several significant steps to strengthen our systems and
oversight.

Fiscal Discipline
Treasury is committed to managing the nation's finances effectively, ensuring the
most efficient use of taxpayer dollars and collecting the revenue due to the federal
government.
Enforcing the Nation's Tax Laws Fairly and Efficiently
The Internal Revenue Service, of course, plays an integral role in this. The budget
requests a 4.3 percent increase in IRS funding.
As in the past three budget requests, we are proposing to increase IRS
enforcement funding as a Budget Enforcement Act program integrity cap
adjustment. IRS enforcement efforts have yielded record revenue collections. With
the requested funding, the IRS will collect an estimated $55 billion in direct
enforcement revenue in 2009.
The budget also includes a number of legislative proposals intended to target the
tax gap and improve tax compliance, with an appropriate balance between
enforcement and taxpayer service. These proposals are estimated to generate $36
billion over the next ten years.

International Programs
We will continue to focus efforts on supporting a stable and growing global
economy, through on-going dialogue and initiatives with developing economies
throughout Asia, Latin America and Africa.
In addition we are asking your colleagues on the Foreign Operations Subcommittee
to support key objectives of the President's international assistance agenda. This
includes funding for the multilateral development banks --- notably new
replenishments for the World Bank's International Development Association (IDA)
and the African Development Fund.
Also included as a Foreign Operations priority is a $400 million request for the first
installment of a multi-billion dollar clean technology fund that, with additional
funding from the United Kingdom, Japan and other donors, will help finance clean
energy projects in the developing world and make strides towards addressing
global climate change.

Conclusion
Overall, the budget request reflects a prudent and forward-leaning approach to
fulfilling the Treasury Department's core responsibilities to support our economy,
managing the government's finances and ensuring financial system security. I thank
you for your past support and consideration of our work, and look forward to
working with you during your deliberations.
Thank you and I welcome your questions.

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:>-863: Prepa~t~ct Remarks hy Stllflrt A. Levey, Under Secretary for Terrorism and<br>Financial Intelli...

Page 1 of 6

10 vIew or pnnt me /-,UI- content on thIS page, oown/oao the Tree AOOIJe<V AcroIJa[(~) HeaOei\RJ.

March 6, 2008
HP-863

Prepared Remarks by Stuart A. Levey, Under Secretary for Terrorism and
Financial Intelligence, Before the American Bar Association's
22nd Annual National Institute on White Collar Crime
Miami - It is truly an honor for me to be asked to address this audience which
includes so many current and former colleagues and personal friends. Throughout
my legal career, the ABA White Collar Crime Institute has been the key annual
forum for prosecutors, defense lawyers and judges to share views about cutting
edge issues in the field of white collar crime.
This audience is well-acquainted with how, within the Justice Department, there is a
new focus on, and preventative approach to, terrorism and other national security
matters. We simply cannot afford to wait for these threats to fully materialize before
acting against them. Since 2000, Justice has dramatically increased its number of
terrorism- and national security-related prosecutions.
What you may be less familiar with is how Treasury also has a preventative role in
combating key threats by targeting the financial networks of terrorists and other
illicit actors. After 9/11 , and particularly after a majority of Treasury's law
enforcement functions were moved to the Departments of Justice and Homeland
Security in 2003, It was not obvious that Treasury would have any significant
national security role. But, over time, it has become clear that Treasury's continued
role in protecting the safety and soundness of the international financial system IS
intrinsically linked to the protection of our national security.
My office - which was created in 2004 - marshals the Treasury Department's
policy, enforcement, regulatory, and intelligence functions to combat international
terrorists, weapons of mass destruction (WMD) proliferators, rogue regimes,
narcotics traffickers, money launderers, and other threats to our security.
The guiding principle of the Treasury Department's approach is that these threats
all have one thing in common: they rely on financial support networks. These
networks are a key source of intelligence. Money trails don't lie; financial
intelligence is uniquely reliable. That is why we have established at the Treasury
Department a fully functioning intelligence and analysis office headed by an
Assistant Secretary- the first office of its kind in any finance ministry worldWide. Our
intelligence office maps illicit financial networks and helps us identify opportunities
to pressure, disrupt and weaken them. As I will explain, we have learned that
isolation from the global financial system can have a devastating impact on the
ability of illicit actors to function
For much of the first 15 years of my legal career, I grappled with many of the Issues
that are the subject of this conference, first as a defense lawyer in private practice
and then while working for former Deputy Attorneys General Larry Thompson and
Jim Comey. Four years ago, I was given the challenge of doing something
completely different - to set up this new office at the Treasury Department. Four
years after its creation, I think it is fair to say that Treasury is more a part of our
national security strategy than it has ever been in the past. I have learned a number
of lessons doing thiS Job and also had some new experiences that I never
anticipated. I would like to share a few of those with you today.
Let me start with a vivid example. In June 2005, I found myself at the airport in
Tripoli, Libya, a place I never thought I would be. I was winding up a two-day visit to
try to encourage the Libyans to cooperate with us on various counterterrorism
issues. At the time, I was the highest level U.S official to visit Libya since It had

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Preph~ed

Remarks by St\l{\rt A. Levey, Under Secretary for Terrorism and<br>Financial Intelli...

Page 2 of 6

renounced its nuclear weapons program and sought to normalize its relations with
the U.S. When I arrived at the airport, instead of boarding my flight to Turkey, I was
ushered onto Colonel Gaddafi's personal jet. It was decked out with shag carpets,
white leather armchairs and couches, and golden seat belt buckles. I was flown
about an hour away and then driven through the desert to an oasis where Colonel
Gaddafi was waiting to meet with me. The scene was surreal. He was sitting under
an umbrella on a dock jutting out into a pond. He was dressed in a white track suit,
a white sailor's cap and orange sunglasses. We spent an hour or so discussing
terrorism in the Middle East and ways in which he said Libya would cooperate in
fighting it. After the meeting, as I was being driven back to his plane, I realized that I
had long missed my flight to Turkey. When I mentioned this to one of Gaddafi's
ministers who was in the car with me, he just laughed and told me not to worry. It
turns out that the Libyans had the plane held. We arrived back at the Tripoli airport
three or four hours after we left, and it was still sitting waiting on the very hot
tarmac, full of some very irritated passengers.
That stop in Libya is one of approximately 75 foreign visits I have made in the past
four years to more than 30 different countries - from China to Latvia and from
Russia to Vietnam. A large part of my job consists of building an international
coalition of both governments and private sector financial institutions to fight various
types of illicit activity in the global financial system. That coalition at first may seem
like it consists of strange bedfellows - it has been joined by many governments that
are not necessarily allied with the United States politically. But whatever their
political views, they typically want their financial sectors to prosper, and they
therefore share a common interest with us in keeping them clean and untainted by
illicit conduct.

Targeted Measures - A Different Kind of Sanction
In the course of trying to build that government and private sector coalition, we have
adopted a new strategy. More and more, we are using targeted, conduct-based
financial measures aimed at particular bad actors. I intentionally refer to these
targeted actions as "financial measures" rather than "sanctions" because the word
"sanctions" often evokes such a negative reaction. Sanctions are typically
associated with traditional country sanctions, which attempt to stop trade or
investment altogether in order to weaken the economy of an entire state. It is hard
to persuade other governments to join such broad sanctions, and the international
private sector often views them as merely political statements that are not in their
interests to comply with and thus, at best, they will do only what is minimally
required of them.
The dynamic is very different when we employ targeted financial measures aimed
at specific actors engaged in illicit conduct. Because they single out those
responsible for supporting terrorism, proliferation, and other criminal activities,
rather than affecting an entire country, they are more likely to be accepted by other
governments that we want to join us in taking action. But the key difference is the
reaction by the private sector. Rather than grudgingly complying with, or even trying
to evade these measures, we have seen many members of the banking industry in
particular voluntarily go above and beyond their legal requirements because they
do not want to handle illicit business. This is a product of good corporate citizenship
and a desire to protect their institutions' reputations. The end result is that private
sector voluntary actions amplify the effectiveness of government-imposed
measures.
Once some in the private sector decide to cut off companies or individuals we have
targeted, it becomes an even greater reputational risk for others not to follow, and
so they often do. Such voluntary implementation in turn makes it even more
palatable for governments to impose similar measures, thus creating a mutuallyreinforcing cycle of public and private action. In the end, if we do our jobs well,
especially by sharing critical information with the key governmental and private
sector parties around the world, there is the potential for us to create a multilateral
coalition to apply significant pressure on those who threaten our security.
The tools we have developed and implemented have turned out to be some of the
most useful and flexible means that we have to exert leverage against intransigent
regimes and to help increase the effectiveness of our traditional diplomacy. I will
talk about this more in the context of our North Korea and Iran strategies.

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>-863: Prep~red Remarks by Stuart A. Levey, Under Secretary for Terrorism and<br>Financial Intelli... Page 3 of 6
Targeted Measures Put to Use
But first let me say a few words about how this works in the context of terrorism.
Our efforts to track, deter, and disrupt terrorist financing are a key component of the
government's overall counterterrorism strategy. After the September 11 attacks, the
President signed an Executive Order that authorized the designation of terrorists
and their facilitators worldwide. When it comes to al Qaida and the Taliban, there is
a corresponding UN Security Council Resolution that makes similar designations
global in their application. There are other UN resolutions dealing with terrorist
financing more generally, but for HAMAS, Hizballah and other terrorist
organizations, there is no comparable UN list. We nevertheless have found that our
unilateral designations are followed voluntarily by many banks around the world
who have decided that they simply do not want to do business with these actors.
The significance of these efforts is that terrorist networks and organizations require
real financing to survive. The support they require goes far beyond funding attacks.
They need money to pay operatives, support their families, train, travel, and bribe
officials. When we restrict the flow of funds to terrorist groups or disrupt a link in
their financing chain, they are forced to shift their focus from planning attacks to
worrying about their financial viability. These designations can also deter other
would-be financiers who want to remain part of the legitimate business world while
supporting terrorism on the side.
One very challenging issue is how we apply these rules to the problem of charities
that are being used to support terrorist organizations. Historically, al Qaida and
other terrorist groups have exploited charities, often preying on unwitting donors
trying to fulfill their religious obligation of charitable giving. Indeed, most terroristsupporting charities go to great lengths in attempting to obscure their support for
violence to fool these donors who believe their contributions are being devoted to
laudable causes. But, occasionally, we find one that makes no such effort. The
Islamic Resistance Support Organization, or IRSO, offers one of the starkest
examples of a charity openly supporting terrorism and soliciting donations from
individuals intending to support terror. As you can see [donor receipts (Arabic),
dOllOI receipts (translation)], IRSO's materials present donors with options of
sending funds to equip Hizballah fighters or to purchase rockets that Hizballah uses
to target civilian populations. The group's leaflet is equally reprehensible.
Treasury designated IRSO in August of 2006 for its role as a key Hizballah
fundraising organization. While this was a unilateral US designation - other
countries do not recognize Hizballah as a terrorist organization - it nevertheless
exposes the true nature of IRSO to the world, isolates it from reputable banks
around the world, and warns any well-intentioned donors to direct their money
elsewhere.
Terrorists, of course, are not the only illicit actors abusing the financial system to
support their dangerous activities; the targeted authorities that we employ against
them have proven useful in other contexts as well.
We have, for example, targeted these measures at kleptocrats and others engaging
in high-level political corruption. In August 2006, the President announced a
comprehensive U.S. government strategy to combat high-level corruption as an
ongoing threat to international security. This strategy relies on Treasury's ability to
take targeted financial action against specific regimes and actors of concern. The
most recent example is our designation of Rami Makhluf - the cousin of Syrian
President Bashar al-Asad and a powerful Syrian businessman and regime insider who has used intimidation and his close ties to the regime to obtain improper
business advantages at the expense of ordinary Syrians. We have also targeted the
corrupt behavior of senior figures from the regimes in Burma and Belarus.
Targeted financial measures have also given us more options in dealing with
proliferators of weapons of mass destruction and intransigent regimes, such as
those in North Korea and Iran.
North Korea offers an example of how powerful targeted financial measures can be.
Confronted with a range of North Korean-related illicit conduct from WMD and
missile proliferation activities to the counterfeiting of US currency, we took two
important public actions. First, we targeted a number of North Korean firms under
our proliferation Executive order, E.O. 13382. That authority - which the President

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signed in June 2005 and is modeled after our terrorism Executive order - allows us
to designate proliferators and their supporters, freezing any assets they have under
U.S. jurisdiction and preventing U.S. persons from doing business with them.
Second, we took a regulatory action under Section 311 of the USA PATRIOT Act to
protect our financial system from abuse by Banco Delta Asia (BOA), a Macaubased bank that is a serious money-laundering concern and that also knowingly
allowed its North Korean clients to use the bank to facilitate a range of illicit conduct
and engage in deceptive financial practices.
The real impact has come from the information made public in conjunction with
these actions. Many private financial institutions worldwide responded by
terminating their business relationships not only with designated entities, but with
North Korean clients altogether. They determined that the risks associated with this
business far outweighed any benefit. The result has been North Korea's virtual
isolation from the global financial system. That, in turn, put enormous pressure on
the regime - even the most reclusive government depends on access to the
international financial system. This pressure provided the State Department a great
deal of leverage in its diplomacy over the nuclear issue with North Korea.
We are currently in the midst of an effort to apply these same lessons to the very
real threat posed by Iran. Iran presents a more complex challenge than North Korea
because of its greater integration into the international financial community. Iran
exploits its global financial ties to pursue nuclear capabilities and to develop ballistic
missiles in violation of UN Security Council resolutions, as well as to funnel
hundreds of millions of dollars each year to fund and arm terrorists. And it uses its
state-owned banks to do so. The Security Council has designated Iran's Bank
Sepah for its involvement in Iran's ballistic missile programs. The United States has
designated Iranian banks Melli and Mellat for their involvement in Iran's nuclear and
missile activities, including their support of UN-sanctioned Iranian proliferation
entities. And we designated another Iranian bank, Bank Saderat, for its role in
funneling money to Hizballah, HAMAS and the Palestinian Islamic Jihad. Not only
do these banks facilitate illicit transactions, they engage in a wide variety of
deceptive financial conduct to cover their tracks. For example, they often request
that other financial institutions take their names off of transactions when processing
them in the international financial system. This practice is specifically designed to
deceive those who might refuse to handle the transaction if they knew who, or what,
was really involved.
The world is taking note of Iran's financial misconduct. On Monday, the UN Security
Council adopted a third sanctions resolution on Iran. A key section of that resolution
calls upon all States to exercise vigilance over the activities of financial institutions
in their territories with all banks domiciled in Iran, particularly with Banks Melli and
Saderat. And the world's premier standard-setting body on countering the financing
of terrorism and money laundering - the Financial Action Task Force, or FATF has now twice confirmed the extraordinary risks to the financial system that
accompany doing business with Iran. Just last week, FATF called on all
governments to issue advisories to their financial institutions warning them of these
risks.
Voluntary action by the private sector to cut off risky clients is reinforcing this
multilateral governmental pressure. In the fall of 2006, Treasury Secretary Paulson
launched an effort to inform the public, government partners, and private sector
leaders about the danger that Iran's financial deception poses to the international
financial system. Over the past 18 months, I have met with scores of banks and
with government officials allover the world on this topic.
Let me give youan example I sometimes share to illustrate how the Iranian
government will deceive and abuse banks that do business with them. An affiliate of
the Atomic Energy Organization of Iran - an entity that was designated by the UN
Security Council in Resolution 1737 - placed an ad in the International Herald
Tribune requesting bids to build two nuclear power plants in Iran. It is hard to
imagine a transaction with bigger and brighter red flags for a financial institution.
Bidders were asked to deposit a non-refundable fee in an account at a particular
bank. I have spared that bank, which is a well-established, high-quality bank, the
embarrassment of identification here. When I saw the ad, I called them, and they
told me that this account had been opened at the request of the Iranian Foreign
Ministry to support Iranian diplomats accredited to the International Atomic Energy
Agency in Vienna. They said they were dismayed when they saw the ad and
learned that the Iranians were attempting to use their bank for this purpose. This

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kind of example is very powerful because all banks want to avoid being involved in
illicit transactions. More and more. banks are coming to realize that it is difficult to
do that if one is dealing with Iran, especially the Iranian government.
The result of our global outreach and the formal actions of the UN and the FATF is
that Iran has found itself increasingly isolated from the international financial system
as banks around the world decide that maintaining their Iranian clientele is not
worth the risk of unwittingly facilitating proliferation or terrorism. The world's leading
financial institutions have essentially stopped dealing with Iran, and especially
Iranian banks, in any currency, a situation that many in Iran's elite are finding very
painful. That self-imposed isolation combined with the Iranian regime's
mismanagement of their country's economy is beginning to generate a debate
about the wisdom of the current regime's policies.
Our use of targeted measures is certainly not limited to what I've described here
today. We have demonstrated the agility and adaptability of these measures to
address other threats to international peace and security - from narcotics trafficking
to abusive regimes in Zimbabwe and Sudan. In all of these contexts, we can help
put pressure on specific bad actors and try to rally the private sector to isolate them
from the international financial system. I do not claim that these financial measures
will alone solve these intractable problems. I do believe, however, that they can
playa far more important and useful role than was previously thought possible to
pressure illicit actors and to create leverage for our diplomats. Washington Post
columnist David Ignatius summed it up like this in a recent column: "Everybody
knows that economic sanctions don't work .... But guess what? In the recent cases
of North Korea and Iran, a new variety of U.S. Treasury sanctions is having a potent
effect, suggesting that the conventional wisdom may be wrong. These new,
targeted financial measures are to traditional sanctions what Super Glue is to
Elmer's Glue-All. That is, they really stick."
Partnership With DOJ
It is also worth noting that these targeted measures and the work of the Justice
Department and law enforcement often go hand in hand. Perhaps the best recent
example is the Justice Department's September 2006 announcement that Miguel
and Gilberto Rodriguez-Orejuela, the brothers who ran the infamous Cali Cartel in
Colombia, had pleaded guilty to a charge of conspiracy to import cocaine into the
United States and had agreed to plead guilty to conspiracy to commit money
laundering by hiding the proceeds of narcotics trafficking. Treasury's Office of
Foreign Assets Control and law enforcement officials had for years worked to
uncover and immobilize the hidden assets of the Cali Cartel, with OFAC
designating hundreds of front companies and individuals in Colombia and ten other
countries. In the end, the Rodriguez-Orejuela brothers were willing to plead guilty
and spend the rest of their lives in jail just to make their family members eligible to
be removed from OFAC's designation list.
It is clear that our national security increasingly depends on the success of these
financial measures, which, in turn, depend on the vigilance of the private sector. As
I have described, much of the global private sector's conduct in this regard is
voluntary, with financial institutions acting even when they are not legally obliged to
do so. But strong enforcement of our laws relating to money laundering and our
sanctions programs also plays an important role.
The Departments of the Treasury and Justice, along with our other law enforcement
colleagues, work together as a team to administer and enforce these laws. Most
enforcement in this area is civil, involving the banking regulators, OFAC or the
Financial Crimes Enforcement Network (FinCEN). In cases of serious violations,
however, criminal enforcement may be warranted.
In the summer of 2005, the Department of Justice amended the United States
Attorneys' Manual to require that all money laundering prosecutions of financial
institutions be coordinated with, and approved by, the Criminal Division in
Washington. The United States Attorneys' Manual contains a similar consultation
and approval requirement with respect to the prosecution of cases affecting or
involving national security, including prosecutions under the International
Emergency Economics Power Act - or IEEPA, as it is commonly referred to - which
is the primary statute pursuant to which economic sanctions are imposed. These
provisions promote consistency and uniformity in the use of these statutes and help

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P-863: Preparr,o Remarks hy Stwlrt A. Levey, Under Secretary for Terrorism and<br>Financial Intelli... Page 6 of 6
ensure that unintended consequences from relevant cases are minimized. In that
regard, they were specifically designed to enable Justice to consult with other
agencies, including the Treasury Department As eVidenced by recent enforcement
actions involving violations of the Bank Secrecy Act, the recent trend has been for
Justice and Treasury to proceed concurrently against financial IIlstltulions. While
both agencies must operate under their respective authOrities and due process
procedures, whenever possible, we will proceed concurrently on enforcement
matters to promote consistency and avoid multiple actions against the
same financial institution at different times for similar and related conduct.
The continued consultation between Justice and Treasury is vitally important given
the complexities surrounding potential criminal charges against banks and other
financial institutions, including the potential impact of such cases on the U.S.
financial system. The good news is that, under Assistant Attorney General Alice
Fisher's leadership, the right atmosphere has been created for that consultation. In
the end, we need to strike a delicate balance. We need to ensure the proper
respect for the laws that safeguard the integrity of our financial system, but do so In
a way that allows our regulatory system to function effectively and mailltains our
position of leadership in the global financial system. This requires the exercise of
well-informed and wise prosecutorial discretion. It is hard to overstate the
importance of real collaboration between Justice and Treasury III making that
happen.
Conclusion
When I was at the Justice Department in 2004 and the idea was floated to create
this new office at Treasury. there were many skeptics who questioned whether
Treasury still had an important national security function after the creation of the
Department of Homeland Security. I know this for a fact because I was one of them.
I now know I was wrong - Treasury has a critical national security role to play. I am
confident it will continue to do so not only in this Administration but in future ones as
well.

REPORTS
•
•

Islamic Resistance Support Orgarllzcltion cianO! receipt (Alablc)
IslamiC Resistance Suppali OrgarllLation cionor- receipt (EIICJlish tlcIllS:,IIIUli)

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4/4/2008

Front page of receipts
Unofficial Translation

Donation Receipt

No. 415626 (Second receipt is numbered: 034500)
[Organization's logo]
Date: [Redacted]
The Organization for Support of the Islamic Resistance thanks the honorable Mr.
[Redacted] for his contribution in the amount of:
For:
Subscription D

Collection BOxW

DonationD

Other. ..

Recipient's signature: [Redacted]
Note: It is required that the representative sign the card and confirm the date of validity.

Back Page of Receipts
The Organization for Support of the Islamic Resistance reminds [its contributors of] the
following projects:
1.
2.
3.
4.
5.
6.
7.
8.
9.

Monthly subscription plan.
Collection box project for the children and homes.
Al Quds replica project for display in stores and businesses.
Support for a mujahid project.
Equipping a mujahid project.
Contribution to the cost of a rocket. [Number is circled and marked by an x in ink].
Contribution to the cost of bullets.
Donations in kind project for (food, household items, clothing, shoes, etc.).
[Illegible text].

The Organization for Support to the Islamic Resistance authorizes the legal receipt of tithing
and alms from every authority.
Contact the administration: 142
Contact the administration: 556943 (on Second receipt numbered: 034500)
Beirut: 556941101.
The South: 743848/0? (on Second receipt numbered: 034500)
The Biqa': 374379/08.
The North: 437567/06.

P-864: Secrelary Paulson Rr.rnr;ni7('£ Individual for Dedication to Volunteer Service

Page 1 of 1

March 6, 2008
HP-864
Secretary Paulson Recognizes Individual for Dedication to Volunteer Service
Oakland, Calif. - Secretary Henry M. Paulson, Jr. presented the President's
Volunteer Service Award to Gayliene Omary as part of the USA Freedom Corps
Volunteer Service Recognition Program today in Oakland, Calif. Omary has
completed 27,000 hours of volunteer service.
Gayliene Omary is a Wholesale Account Executive for the Bank of America through
which she began her involvement with Operation Hope's "Banking on Our Future"
and taught the importance of uSing your money wisely in grade schools, middle
schools, and high schools. She received the Banking on Our Future Volunteer of
the Year 2007 award for her efforts. In addition, Omary is a volunteer trainer for the
Contra Costa Child Abuse Prevention Council, where she trains adults who are in
contact with children to spot, and hopefully, end, any abuse to a child.
In his January 2002 State of the Union Address, President Bush called on all
Americans to make a difference in their communities through volunteer service. He
created USA Freedom Corps, an Office of the White House, to strengthen and
expand volunteer service. Americans are responding to the President's Call to
Service. Go to www.volunteer.gov or call1-877-USA-CORPS to find an existing
volunteer service opportunity in your area or to find more information about service
programs, including national service programs such as the Peace Corps,
AmeriCorps, Senior Corps, and Citizen Corps. USA Freedom Corps is also
highlighting youth volunteer service. Visit www.volunteerkids.gov for games and
ideas designed to show how America's youth are making a difference.
The President's Volunteer Service Award was created at the President's direction
by the President's Council on Service and Civic Participation. The Award IS
available to youth ages 14 and under who have completed 50 or more hours of
volunteer service; to Individuals 15 and older who have completed 100 or more
hours: and to families or groups who have completed 200 or more hours. For more
information about the Award, please visit www.presidentialserviceawards.gov.

-30-

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P-865:

Trea~:lry

Page 1 of2

Economic lipfi(ltt> \.-1.08

March 7, 200B
HP-B65
Treasury Economic Update 3.7.08

"roday's job market report reflects the impacts of the housing correction,
credit market strains, and high energy prices. We have known for some time
that these factors have been weighing on the economy, and this is why the
President took action with the stimulus package. We expect the stimulus to
start taking effect in the second quarter; it will support consumer and
business spending while adjustments continue in housing and credit
markets.
Assistant Secretary Phillip Swagel, March 7, 200B
Employment Fell in February:
Job Growth: Payroll employment fell by 63,000 in February, following a decrease
of 22,000 jobs in January, The United States has added B.2 million jobs since
August 2003. Employment increased in 47 states and the District of Columbia over
the year ending in December. (Last updated: March 7, 2008)
Low Unemployment: The unemployment rate edged down to 4.B percent in
February from 4.9 percent in January. Unemployment rates declined in 12 states
and the District of Columbia over the year ending in December. (Last updated:
March 7, 2008)
There Are Still Many Signs of Economic Strength:
Business Investment: Business spending on commercial structures and
equipment rose solidly in the fourth quarter. Healthy corporate balance sheets
should support continued investment growth. (Last updated: February 27, 2008)
Exports: Strong global growth is boosting U.S. exports, which grew by 7.9 percent
over the past 4 quarters. (Last updated. February 27, 2008)
Inflation: Core inflation remains contained. The consumer price index excluding
food and energy rose 2.5 percent over the 12 months ending in January. (Last
updated: February 20, 2008)
The Economic Stimulus Package Will Provide a Temporary Boost to Our
Economy:
The package will help our economy weather the housing correction and other
challenges. The Economic Stimulus Act of 200B, signed into lay by President Bush
on February 13, has two main elements--temporary individual tax relief so that
working Americans have more money to spend and temporary tax incentives for
businesses to invest and grow. Together, the legislation will provide about $150
billion of tax relief for the economy in 200B, leading to the creation of over half a
million additional jobs by the end of this year. (Last updated: February 29, 2008)
Pro-Growth Policies Will Enhance Long-Term U.S. Economic Strength:
We are on track to make significant further progress on the deficit. The FY07
budget deficit was down to 1.2 percent of GDP, from 1.9 percent in FY06. Much of
the improvement in the deficit reflects strong revenue growth, which in turn reflects
strong economic growth. Looking ahead, higher spending on entitlement programs
dominates the future fiscal situation; we must squarely face up to the challenge of

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P-865:

Trea~Jlry

Economic Update 3:1.08

Page 2 of2

reforming these programs.
www.treas.gov/economic_plan

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Page 1 0[2

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The U.S. economy is fundamentally strong, but the housing
correction, credit turmoil, and high oil prices are weighing on growth
this year and short-term risks are to the downside. The Economic
Stimulus Act of 2008, signed into law on February 13, will help
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Fact Sheet: State-by-State Benefit of the Economic Stimulus
Act of 2008 lEI
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Package will Benefit Americans
Paulson Statement on Senate Passage of Economic Growth
Package
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Treasury Releases Social Security Papers
To build on the discussions that Secretary Paulson has had with
members of Congress in both parties, Treasury will release a series
of issue briefs that will discuss Social Security reform, focusing on
the nature of the problem and those aspects of reform that have
broad support.

http://www.treas.gov/eCunOmic=ptan1

4/4/2008

Page 2 of2

nited States . Department of Thf': Treasury - Economy
•

Paulson Statement on Treasury Social Security Papers on
Common Ground
• Issue Brief 1: Social Security Reform: The Nature of the
Problem
• Issue Brief 2 : Social Security Reform: A Framework for
Analysis
• Issue Brief 3: Social Security Reform: Benchmarks for
Assessing Fairness and Benefit Adequacy
U.S. Economic Strength
Employment Fell in March:
Job Growth: Payroll employment fell by 80,000 in March, following
a decrease of 76,000 jobs in February. The United States has
added 8.0 million jobs since August 2003. Employment increased in
43 states and the District of Columbia over the year ending in
February. (Last updated: April 4, 2008)
Low Unemployment: The unemployment rate rose to 5.1 percent
in March from 4.8 percent in February. Unemployment rates
declined or remained steady in 24 states over the year ending in
February. (Last updated: April 4, 2008)
Signs of Economic Strength Include Exports and Low Inflation:
Exports: Strong global growth is boosting U.S. exports, which grew
by 8.4 percent over the past 4 quarters. (Last updated: March 27,
2008)
Inflation: Core inflation remains contained. The consumer price
index excluding food and energy rose 2.3 percent over the 12
months ending in February. (Last updated: March 14, 2008)
The Economic Stimulus Package Will Provide a Temporary
Boost to Our Economy:
The package will help our economy weather the housing
correction and other challenges. The Economic Stimulus Act of
2008, signed into law by President Bush has two main elementstemporary individual tax relief so that working Americans have more
money to spend and temporary tax incentives for businesses to
invest and grow. Together, the legislation will provide about $150
billion of tax relief for the economy in 2008, leading to the creation of
over half a million additional jobs by the end of this year.(Last
updated: February 29, 2008)
Pro-Growth Policies Will Enhance Long-Term U.S. Economic
Strength:
We are on track to make significant further progress on the
deficit. The FY07 budget deficit was down to 1.2 percent of GOP,
from 1.9 percent in FY06. Much of the improvement in the deficit
reflects strong revenue growth, which in turn reflects strong
economic growth. Looking ahead, higher spending on entitlement
programs dominates the future fiscal situation; we must squarely
face up to the challenge of reforming these programs.

Last Updated April 4, 2008

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P-866: Assi~~i;lIlt Secretary Ryan to Speak on Strengthening Financial Markets

Page 1 of 1

March 7, 2008
HP-866

Assistant Secretary Ryan to Speak on Strengthening Financial Markets
Assistant Secretary for Financial Markets Anthony W. Ryan will deliver remarks
Monday to the National Association of State Treasurers at their 2008 Legislative
Conference in Washington. His remarks will focus on strengthening financial
markets and fiduciary responsibility.
The following event is open to the media:

Who
Assistant Secretary for Financial Markets Anthony W. Ryan
What
Remarks to the National Association of State Treasurers
Legislative Conference
When
Monday, March 10, 10:15 a.m. EDT
Where
Willard InterContinental Hotel
1401 Pennsylvania Avenue, NW
Washington, D.C.

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P-867: Assi'::lant Secretary Anthony W. Ryan <br>Remarks before the National Association of State T. .. Page I of 4

March 10, 2008
HP-867

Assistant Secretary Anthony W. Ryan
Remarks before the National Association of State Treasurers
Washington - Good morning. Thank you for inviting me to join you. It's my pleasure
to be here.
Our presence here today on the banks of the Potomac River is tied to a political
deal and the relationship between the federal government and the states
comprising our union. In 1790, the first Secretary of the U.S. Treasury, Alexander
Hamilton, made a controversial proposal that the Federal Government assume
state debts incurred during the Revolutionary War.
His bold proposal drew sharp criticism from Thomas Jefferson and James Madison.
A deal was proposed and made. Hamilton agreed to use his influence to place the
capital of the country here in deference to Jefferson and Madison. In turn, they
agreed to encourage their constituents and colleagues in Congress to back
Hamilton's debt assumption plan, which together with his proposals for funding the
debt, subsequently became law.
The U.S. Treasury continues to work with states on many issues including tax
policy and facilitating the financing of municipal debt through our State and Local
Government Series (SLGS). Today, I would like to focus on another potential
collaboration where together we can strengthen efforts to help protect your
beneficiaries and enhance the capital markets in which both your citizens and
states invest their assets.
We have the best capital markets in the world. The quality, breadth and depth of
our markets enable capital to be allocated in ever more efficient ways over the long
term. Our markets' diversity and operating integrity inspire investor confidence and
attract liquidity. Our capital markets stimulate competition and innovation -- enabling
not just economic viability in each of your states, but vitality.
As public sector executives you know first hand the benefits of dynamic economic
growth, and thus have a vested interest in capital markets that enhance investor
confidence and market liquidity - - both of which have been significantly challenged
in recent months.
One reason investor confidence is being hit so hard, is that many investors were
sanguine over the last few years. This sanguine state - perhaps even overconfidence - was a result of many factors. But recent events underscore the
importance of prudent regulatory policies, strong market discipline and robust risk
management. Efforts to enhance these core components also serve to foster
greater market liquidity which reduces costs and improves returns.
The headlines over the past several months include numerous reports of the
challenges being confronted by states and municipalities. These range from hedge
fund investments by public pension plans gone awry, to municipal officials grappling
with investments they made in complicated structures like conduits and SIVs, to
valuation challenges of holdings in opaque asset backed securities in cash
investment funds, to concerns over bond issues wrapped by financial guarantors, to
exorbitant interest rates being paid by state and local authorities as a result of failed
auctions of auction rate securities. These reports raise many issues: some old,
some new. Collectively, there is a lot we can do to influence what the headlines of
tomorrow will be.
As a public sector representative, you fulfill many roles including the management
of state fiscal matters. This morning, I'd like to focus on one of your most important

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P-867: ASSl.:tant Secretary Anthony W. Ryan <br>Remarks before the National Association of State T. .. Page 2 of 4
roles: the responsibility you have in keeping retirement promises made to state
workers.
The total value of our nation's retirement investments--including 401 (k)s and IRAs-has been estimated at a staggering $11 trillion. Approximately $5 trillion reside in
public-sector retirement plans.
With trillions of dollars in assets, our nation's retirement plans are major players in
the economy. Public pension plans hold $2.1 trillion of stock in our corporations,
over $158 billion in U.S. Treasury marketable debt, over $311 billion in U.S. agency
debt, and over $256 billion in corporate debt.
I choose to focus on this role that you play - not just to illustrate that the health of
our nation's public pension assets and our nation's economy is deeply intertwined but to highlight the importance of the role of institutional investors such as public
pension plans not just can play, but must play in contributing to market discipline,
and to underscore a fundamental investment concept: prudence in the role of a
fiduciary.
The Prudent Man Rule was established by a Massachusetts court decision in 1830
in which trustees were directed to "observe how men of prudence, discretion and
intelligence manage their own affairs, not in regard to speculation, but in regard to
the permanent disposition of their funds, considering the probable income, as well
as the probable safety of the capital to be invested."
The standard has evolved over time as prudent man became prudent expert, and
income and safety expanded into return and risk, but after almost two centuries, the
principle still resonates. The challenge for fiduciaries is not to focus just on returns
or even to avoid risks. Rather, prudence dictates that fiduciaries seek to balance
potential future returns with a corresponding identification, assessment and
management of risks.
Fiduciaries seeking to fulfill their obligations must appreciate that they represent the
first and most important line of defense for the interests of their beneficiaries. No
one should suggest that plan trustees or portfolio managers should not take risks in fact they must take risks in order to generate desired returns. Investors must
have the opportunity to succeed, and in doing so they also have the freedom to fail.
However, given the characteristics of many of the investment strategies and
securities in which pension plans have investments today, fiduciaries must return to
some of the fundamentals of investment management. They must seek to excel in
risk management as much as return management. Risk management is not some
part-time responsibility - it's a fundamental obligation of a fiduciary's duty. And it's
not just investors' responsibility. Risk management is everybody's business.
Every investment strategy introduces risks. We should acknowledge that the risks
are many. They range beyond volatility to include market, liquidity, counterparty,
credit, operational risk and reputation risk. But, despite more tools and greater
experience, the responsibility seems to be becoming harder to fulfill.
Investors must appreciate risk in its myriad dimensions and seek to identify, assess,
and manage it. Successfully doing so requires continuous evaluation from multiple
perspectives, and humility to know the limitations of any single or even
comprehensive assessment of risk.
Sound practices on the part of fiduciaries are critical to fulfilling their obligations.
Fiduciaries have an ongoing responsibility to perform due diligence and must
continually ensure that their investment decisions are prudent and conform to
sound practices, including diversification.
While pension laws have a dramatic impact on pension plan management, we have
also witnessed how the presence and scale of institutional investors has influenced
many market practices.
Today, many public pension plans are invested in strategies and securities that are
very complex and opaque. These characteristics create additional challenges. To

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P-867: Ass~"tant Secretary Anthony W. Ryan <br>Remarks before the National Association of State T ... Page 3 of 4
address these challenges many fiduciaries are demanding more detailed
information, higher quality business standards and operational practices, effective
compliance and increased transparency.
Fiduciary responsibility is real, and fiduciaries should be held accountable. Nobody
likes having responsibility without the corresponding authority. Appropriately,
fiduciaries define and exercise their authority in several ways including their
governance models and investment guidelines. Such implementation mechanisms
should be carefully considered and reviewed to accomplish not only the intended
objectives, but also to mitigate the likelihood of unintended, deleterious
consequences such as relying solely on a credit rating to be a sufficient standard
for assessing investment risks.
It is understandable that many fiduciaries struggle with complexity in the financial
markets. Let's acknowledge that complexity may be a very legitimate reason a
potential investor decides not to make a certain investment. However, we must also
acknowledge that complexity can be no excuse for an existing investor or buyer of
such a security to justify a loss. Investors and their fiduciaries must understand the
risks associated with a potential investment. This is true of any investment whether it is in a structure like a structured investment vehicle or in a security like a
collateralized debt obligation or auction rate security.
Given such an innovative and evolving financial marketplace, a commitment to
continual education seems appropriate so fiduciaries can fulfill their responsibilities
and possess the requisite skills and knowledge to make informed investment
decisions.
These efforts help to define m<;lrket discipline. Federal policy makers are very
supportive of efforts that strengthen market discipline, since such efforts serve to
mitigate systemic risk.
Fiduciaries play two critical roles. In addition to contributing to market discipline,
fiduciaries -- both trustees and asset managers -- playa powerful and important
investor protection role. They help protect their beneficiaries' financial interests by
continuously evaluating and monitoring their investments in the capital markets.
At the Treasury Department, we are vigilant in monitoring the global capital
markets, and the past eighteen months have provided us with many issues to
evaluate and address. These issues range from financial markets preparedness, to
hedge funds, to market infrastructure, to challenges in the housing sector of our
economy and the resulting implications in the capital markets.
The latter category includes funding challenges in the short term credit markets,
enhancing financial institutions' risk management including liquidity and
counterparty credit risk, reporting and disclosure issues, as well as the use of
ratings and investor practices.
We also work closely with our colleagues comprising the President's Working
Group on Financial Markets (PWG), which is chaired by Treasury Secretary
Paulson and includes the Chairmen of the Federal Reserve, the Securities and
Exchange Commission, and the Commodity Futures Trading Commission.
One marketplace development that we continue to address is directly related to
institutional investors' (such as public pension plans) increasing allocations to
alternative investments and investments in private pools of capital such as hedge
funds and private equity.
In February 2007, the President's Working Group on Financial Markets produced
principles and guidelines regarding such investments. Last September, Secretary
Paulson announced the establishment of two separate yet complementary private
sector committees. The first is comprised of investors such as state pension funds
and the second committee is comprised of asset managers.
The first task for each group was to develop detailed guidelines that would define
"best practices" for their respective communities. These guidelines have as a
foundation, and are consistent with, the principles and guidelines developed by the
PWG. They have also built upon existing industry work where possible. These will

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P-867: Assistant Secretary Anthem)' W. Ryan <br>Remarks before the National Association of State T ... Page 4 of 4
be released for public comment in the weeks ahead, and I would urge all of you to
review them, share them with your colleagues and consultants, and provide
feedback to the respective committees.
Implementing these practices will help strengthen market discipline, mitigate
systemic risk, augment regulatory safeguards regarding investor protection, and
complement regulatory efforts to enhance market integrity.
The PWG is also reviewing the underlying policy issues contributing to the current
stress in our capital markets. While working through the current situation is our first
concern, getting the long-term policy right is just as important.

Conclusion
As fiduciaries and leaders, I want to encourage you to not only stay engaged, but to
redouble your efforts. There is much work to do and I encourage you to take the
necessary steps to protect your beneficiaries' interests and enhance market
discipline.
As stewards of the public trust we all must continually uphold and enhance the
highest quality standards of excellence. It is both a privilege and responsibility to
help strengthen the vitality, stability and integrity of the public's investments and our
capital markets. Let our efforts, as well as those of the private sector to meet those
goals, be the headlines of tomorrow. The system works when all stakeholders
recognize the benefits, mitigate the risks, and choose to participate. Thank you
again for the opportunity to speak here today.
-30-

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Page 1 of 4

March 10, 2008
2008-3-10-15-27 -53-2152

U.S. International Reserve Position

The Treasury Department today released U.S. reserve assets data for the latest week. As indicated in this table, u.s.
reserve assets totaled $74,266 million as of the end of that week, compared to $73,521 million as of the end of the
prior week.
I. Official reserve assets and other foreign currency assets (approximate market value, in US millions)

I
I
IA. Official reserve assets (in US millions unless otherwise specified)

II
IIMarch 7, 2008
IIEuro

IIYen

IITotal

II
11 12 ,497

11 74 ,266

I(a) Securities

II
11 15 ,336

lof which: issuer headquartered in reporting country but located abroad

II

II

11 0

I(b) total currency and deposits with:

II

1(1) Foreign currency reserves (in convertible foreign currencies)

l(i) other national central banks, BIS and IMF

II
15,165

6,121

Iii) banks headquartered in the reporting country

II
11 21 ,286
11 0
11 0

lof which: located abroad
I(iii) banks headquartered outside the reporting country

11 0
11 0

lof which: located in the reporting country
1(2) IMF reserve position

11 4 ,322

1(3) SDRs

11 9 ,784

1(4) gold (including gold deposits and, if appropriate, gold swapped)

11 11 ,041

I--volume in millions of fine troy ounces

11 2 61.499

1(5) other reserve assets (specify)

11 27 ,833

0

I--financial derivatives
I--Ioans to nonbank nonresidents
I--other
lB. Other foreign currency assets (specify)
I--securities not included in official reserve assets
I--deposits not included in official reserve assets
I--Ioans not included in official reserve assets
I--financial derivatives not included in official reserve assets
I--gold not included in official reserve assets
[ --other

II

II

II. Predetermined short-term net drains on foreign currency assets (nominal value)

1-[_ _ _ _ _ _-----'IL-I_ _-----'IL-l------'IL...-l--------'1'--1-_--JIL...-l_ _------lll
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Page 2 of 4

I

II

IIMaturity breakdown (residual maturity)

I

More than 1 and
up to 3 months

Up to 1 month

IITotal

II

1. Foreign currency loans, securities, and deposits
I
IIPrincipal
I--outflows (-)
I
I--inflows (+)

IIlnterest
IIPrincipal

II

II Interest

I

I

More than 3
months and up to
1 year

2. Aggregate short and long positions in forwards and
futures in foreign currencies vis-a-vis the domestic
currency (includinq the forward leq of currency swaps)

II

(a) Short positions ( - )

II

(b) Long positions (+)

II

3. Other (specify)

II

I

--outflows related to repos (-)

I

--inflows related to reverse repos (+)

II

--trade credit (-)

II

--trade credit (+)

II

--other accounts payable (-)

II

--other accounts receivable (+)

II

"

III. Contingent short-term net drains on foreign currency assets (nominal value)

I

II

II

I

"

Total

I
11. Contingent liabilities in foreign currency
(a) Collateral guarantees on debt falling due within 1
year
I(b) Other contingent liabilities

2. Foreign currency securities issued with embedded
options (puttable bonds)

13. Undrawn, unconditional credit lines provided

by:
I

[--other national monetary authorities (+)

I

I

I

More than 3
months and up to
1 year

More than 1 and
up to 3 months

Up to 1 mooth

II

II

II

II

II

II

II

I

1\

I
I

[--BIS (+)

I

[--IMF (+)
(b) with banks and other financial institutions
headquartered in the reporting country (+)

II

(c) with banks and other financial institutions
headquartered outside the reporting country (+)

II

[Undrawn, unconditional credit lines provided to:

II

II~a) other national monetary authorities, BIS, IMF, and
other international organizations

r

II

1/

(a) other national monetary authorities, BIS, IMF, and
other international organizations

[other national monetary authorities (-)

II

Iapplicable)
Maturity breakdown (residual maturity, where

I
II

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II
II

II

II
II
II

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Page 3 of 4
I--BIS (-)
I--IMF (-)
(b) banks and other financial institutions headquartered
in reporting country (- )

I

(c) banks and other financial institutions headquartered
outside the reporting country ( - )

I

II~' Aggregate short and long positions of options in

IIforeign currencies vis-a-vis the domestic currency

II
II

"

II

I

I

I

I

I

I

I

I(a) Short positions

II

I(i) Bought puts
I(ii) Written calls
I(b) Long positions
I(i) Bought calls
I(ii) Written puts
IPRO MEMORIA: In-the-money options

11

I

1(1) At current exchange rate

I

I(a) Short position
I(b) Long position
1(2) + 5 % (depreciation of 5%)
I(a) Short position
I(b) Long position
1(3) - 5 % (appreciation of 5%)
I(a) Short position

I

I(b) Long position

I

1(4) +10 % (depreciation of 10%)
I(a) Short position
I(b) Long position
1(5) - 10 % (appreciation of 10%)
I(a) Short position
I(b) Long position
1(6) Other (specify)

I

I(a) Short position

I

itb) Long position

IV. Memo items

I
1(1) To be reported with standard periodicity and timeliness:
I(a) short-term domestic currency debt indexed to the exchange rate
(b) financial instruments denominated in foreign currency and settled by other means (e.g., in domestic
currency)

I

I--nondeliverable forwards
I --short positions
I --long positions
I--other instruments
I(C) pledged assets
I--included in reserve assets
--included in other foreign currency assets
I

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11

II
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Page 4 of 4
I(d) securities lent and on repo

II

I--Ient or repoed and included in Section I

II
II
II
II
II

I--Ient or repoed but not included in Section I
I--borrowed or acquired and included in Section I
I--borrowed or acquired but not included in Section I
I(e) financial derivative assets (net, marked to market)
I--forwards

II

I--futures

II

I--swaps

II

I--options
I--other
(f) derivatives (forward. futures. or options contracts) that have a residual maturity greater than one
year. which are subject to margin calls.
--aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the domestic
currency (\ilcluding the forward leg of currency swaps)

"

I
I

I

I

I(a) short positions ( - )
I(b) long positions (+)
I--aggregate short and long positions of options in foreign currencies vis-a-vis the domestic currency
I(a) short positions

10) bought puts

II
II

I(ii) written calls
I(b) long positions

II

!ti) bought calls

II
II

I(ii) written puts
1(2) To be disclosed less frequently:
I(a) currency composition of reserves (by groups of currencies)

1174.266

I--currencies in SDR basket

1174.266

I--currencies not in SDR basket

II
II

I--by individual currencies (optional)

I

II

I

Notes:
1/ Includes holdings of the Treasury's Exchange Stabilization Fund (ESF) and the Federal Reserve's System Open Market
Account (SOMA), valued at current market exchange rates. Foreign currency holdings listed as securities reflect markedto-market values, and deposits reflect carrying values.
2/ The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF
and are valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest
week reflect any necessary adjustments, including revaluation, by the U.S. Treasury to IMF data for the prior month
end.
3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

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IP-868: Secrdary

Paul~on

to Speak on Financial Markets

Page 1 of 1

March 12, 2008
HP-868

Secretary Paulson to Speak on Financial Markets
Secretary Henry M. Paulson, Jr. will deliver remarks Thursday at the National Press
Club in Washington. His remarks will focus on financial market developments.
The following event is open to the media:

Who
Secretary Henry M. Paulson, Jr.
What
Remarks on Financial Markets
When
Thursday, March 13, 10:00 a.m. EDT
Where
National Press Club
First Amendment Lounge
529 14th Street, NW
Washington, D.C.

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IP-869: Treasury Dosignates Iran.-Cuntrolled Bank for Proliferation<br>Future Bank Controlled by Ira...

Page 1 of 2

March 12, 2008
HP-869
Treasury Designates Iran-Controlled Bank for Proliferation
Future Bank Controlled by Iran's Bank Melli
Washington - The U.S. Department of the Treasury today designated Future Bank
B.S.C. for being controlled by Iran's Bank Melli, which was previously designated by
the Treasury Department for facilitating Iran's proliferation activities.
"Bank Melli goes to extraordinary lengths to assist Iran's pursuit of a nuclear
capability and ballistic missiles, while also helping other designated entities to
dodge sanctions," said Stuart Levey, Under Secretary for Terrorism and Financial
Intelligence (TFI). "Banks and other entities owned or controlled by Bank Melli
pose a serious threat to the integrity of the international financial system."
Future Bank is being designated pursuant to Executive Order 13382, an authority
aimed at freezing the assets of proliferators of weapons of mass destruction (WMD)
and their supporters. Bank Melli was designated by the Treasury Department
under E.O. 13382 on October 25,2007.
Future Bank was established in 2004 as a joint venture between two Iranian banks,
Bank Melli and Bank Saderat. and a private bank based in Bahrain. Bank Melli and
Bank Saderat each hold 33.3 percent of Future Bank's outstanding shares. At the
time of designation, Bank Melli and Future Bank publicly identify the same
individual as chairman of both institutions. Other information available to the U.S.
Government also demonstrates that Future Bank is controlled by Bank Melli.
The Government of Bahrain has taken responsible steps to try to prevent Future
Bank from abusing the country's financial system.
"Bahraini authorities have been closely monitoring Future Bank and took some
steps after Treasury's designations of Banks Melli and Saderat to attempt to
prevent abuse by this institution," Levey continued.
This designation is consistent with United Nations Security Council Resolution
(UNSCR) 1803 of March 3, 2008, which calls upon Member States to "exercise
vigilance" with regard to activities between financial institutions in their countries
and all banks domiciled in Iran, in particular, Iran's Bank Melli and Bank Saderat.
UNSCR 1803 specifically calls on States to take such action in order to avoid these
activities contributing to either proliferation sensitive nuclear activities or the
development of nuclear weapons systems, as referred to in UNSCR 1737.
Treasury's Office of Foreign Assets Control (OFAC) designated Bank Melli pursuant
to E.O. 13382 for providing, or attempting to provide, financial support for entities
involved in Iran's nuclear and missile programs. These include: the Shahid
Hemmat Industrial Group, the Defense Industries Organization (DIO), Bank Sepah,
and the Islamic Revolutionary Guard Corps (IRGC). These entities have also been
designated under E.O. 13382 and have been listed in UNSCRs 1737 and 1747.
OFAC also designated four financial institutions that are owned or controlled by
Bank Melli, including Melli Bank pic, Arian Bank, Bank Melli Iran ZAO, and Bank
Kargoshaee.
On that same day, OFAC designated Bank Saderat pursuant to E.O. 13224 for
providing support to the terrorist organizations Hizballah and Hamas.
Since President George W Bush issued E.O. 13382 in June 2005 and identified
eight entities in the Annex to the Order, a total of 51 entities and 12 individuals have
been designated as proliferators of WMD. Specifically, the Treasury Department

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Page 2 of 2

has designated:
•
•
•

36 entities and 11 individuals tied to Iranian proliferation activity;
Nine entities and one individual tied to North Korean proliferation activity;
and
Three entities tied to Syrian proliferation activity.

Additionally. the State Department has designated three Iranian organizations as
entities of proliferation concern. including Iran's Ministry of Defense and Armed
Forces Logistics (MODAFL). the 010. and the IRGC.
The designation announced today is part of the ongoing interagency effort by the
United States Government to combat WMD trafficking by exposing and blocking the
property of entities and individuals that engage in proliferation activities and their
support networks.
Future Bank Identifying Information
FUTURE BANK B.S.C.

Addresses:
P.O. Box 785. City Centre Building. Government Avenue, Manama, Bahrain
Block 304, City Centre Building, Building 199, Government Avenue, Road 383,
Manama, Bahrain
All branches worldwide
For more information on the designation of Bank Melli, please visit:
http://www.treas.gov/press/releases/hp644.htm .

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4/4/2008

-IP-870: Trehwry to Host Background Briefing

Page 1 of 1

March 12, 2008
HP-870
Treasury to Host Background Briefing
Treasury will host a pen-and-pad background briefing Thursday on developments in
financial markets. The briefing will be held at 11 :30 a.m. in the Treasury Media
Room, following Secretary Henry M. Paulson's remarks. No cameras will be
permitted into the briefing.
The following event is open to the press:
•
•
•

•

What: Pen-and-Pad Background Briefing
When: Thursday, March 13 11 :30 a.m. (EDT)
Where: Department of the Treasury
Media Room (4121)
1500 Pennsylvania Avenue, NW
Washington, D.C.
Note: Media without Treasury press credentials should contact Frances
Anderson at (202) 622-2960 or frances.anderson@do.treas.gov with the
following information: full name, Social Security number, and date of birth.
- 30 -

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lp-871: Pre~ident's Working OIUUp Issues Policy Statement <br> To Improve Future State of Financial... Page 1 of 2

10 view or pnnt tne I-'U~ content on tnlS page, cJowntoacJ tne tree AcJoOe® Acrooat® KeacJer®.

March 13, 2008
hp-871
President's Working Group Issues Policy Statement
To Improve Future State of Financial Markets
Washington -The President's Working Group on Financial Markets issued a policy
statement today with recommendations to improve the future state of U.S. and
global financial markets. The statement offers the group's insight on causes of
recent market issues and next steps for mitigating systemic risk, restoring investor
confidence. and facilitating stable economic growth
"The President's Working Group on Financial Markets has been reviewing policy
issues to help reduce the likelihood that mistakes of the past are repeated. We
have completed the assessment phase of our review, and are moving forward to
focus on implementation," said Secretary Henry M Paulson, Jr, chairman of the
PWG, which Includes the Treasury Department, the Federal Reserve, the Securities
and Exchange Commission and the Commodity Futures Trading Commission. "I
believe today's recommendations, when implemented, will strengthen market
discipline, enhance risk management and improve the efficiency and stability of our
capital markets."
"The recommendations set out in the Working Group's statement constitute an
appropriate and effective response to the deficiencies in our financial framework
that contributed to the current turmoil in financial markets. I strongly support them,"
said Federal Reserve Board Chairman Ben S. Bernanke.
SEC Chairman Christopher Cox said, "Several of the recommendations in today's
Policy Statement fall within the purview of the SEC, including in particular those
concerning the role of credit rating agencies. Congress has recently given the SEC
new authority to address issues including conflicts of interest and the lack of
competition in this industry-and we will use that authority to help restore investor
confidence and healthy capital formation in our markets."
"These recommendations are a critical step in strengthening the US financial
markets. The CFTC will continue to work with the other PWG members to
Implement the recommendations," said CFTC Acting Chairman Walt Lukken.
The PWG, working with the Office of the Comptroller of the Currency and the
Federal Reserve Bank of New York, issued the statement to help enable market
partiCipants and regulators to better deal with the complexity that has resulted from
market innovation. The recommendations offer steps to improve market
transparency and disclosure, risk awareness and risk management, capital
management and regulatory policies and market infrastructure for products such as
over-the-counter derivatives. The statement focuses on changes needed from
financial regulators and all market participants, including mortgage originators and
brokers, financial institutions, issuers of securitized products, credit rating agencies
and investors. The statement also discusses the challenges presented by
securitization and over-the-counter derivatives.
"The OCC strongly supports the conclusions of the PWC policy statement and
views it as an important step toward restoring stability in US markets," said
Comptroller of the Currency John C Dugan. "We are already pursuing
implementation of its recommendations in the largest US banks that we supervise,
and look forward to working with the other PWG participants on the wider reform
agenda."
President Bush called

011

trle PING in August 2007 to review the underlYing causes

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of the recent market issues. Members of the group have frequently discussed the
causes of the recent turmoil, including: lax underwriting standards for mortgages,
particularly for subprime mortgages; an erosion of market discipline in the
securitization process; flaws in credit rating agencies' assessments of some
complex structured credit products; risk management weaknesses at global
financial institutions; and regulatory policies that failed to mitigate risk management
weaknesses.
The PWG will work with foreign regulators, finance ministries, and central banks
through the international Financial Stability Forum and other venues to address
these challenges globally.
The PWG is committed to progress toward implementation of the
recommendations. Members will issue a progress statement in the fourth quarter of
2008 and consider whether further steps are needed to address weaknesses in
financial markets, institutions and related supervisory policies.
-30REPORTS
•

Policy Statement of the President's Working Group on Financial Markets

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414/2008

DEPARTMENT OF THE TREASURY
WASHINGTON, D.C.
SECRETARY OF THE TREASURY

March 13,2008

MEMORANDUM FOR THE PRESIDENT

,/;1'

Jr.1tjl

FROM:

Henry M. Paulson,

SUBJECT:

President's Working Group on Financial Markets Policy Statement

Last August, you called on the President's Working Group on Financial Markets (PWG) to
review the underlying causes of developing financial market tunnoil. I am pleased to transmit to
you the policy statement of the PWG, which is led by me as the Secretary of the Treasury and
includes the chairmen of the Federal Reserve Board, the Securities and Exchange Commission,
and the Commodity Futures Trading Commission.
The PWG, working with the Office of the Comptroller of the Currency and the Federal Reserve
Bank of New York, issued the statement to present the Group's findings on the causes of recent
market turmoil and recommend changes to help avoid a repeat of recent events.
Obviously, market turmoil is still playing out, and all market participants and policy makers are
deeply engaged in addressing the current situation. We must implement these recommendations
with an eye toward not creating a burden that exacerbates today's market stresses.
We will monitor and report back to you on the implementation of these recommendations. In
addition, we will make further recommendations later this year if we do not see the progress we
are seeking.
Our objectives - which we believe these recommendations will achieve - are improved
transparency and disclosure, better risk awareness and management, and stronger oversight.
Collectively, these recommendations will mitigate systemic risk, help restore investor
confidence, and facilitate economic growth.

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March 13, 2008
HP-872
Remarks by Secretary Henry M. Paulson, Jr. on Recommendations from the
President's Working Group on Financial Markets
Washington -- Thank you. I appreciate this opportunity to talk with you about
Treasury's work on financial markets. As you know, since the market turmoil began
last summer we have been closely monitoring and taking steps to address current
market conditions.
We are working to get through the current period of market turmoil while minimizing
its impact on our economy. And, as we do so, risk is being re-priced and markets
are de-leveraging. This is creating liquidity challenges and, as a result, credit
markets are not functioning as normal. We are encouraging financial institutions to
continue to strengthen balance sheets by raising capital and revisiting dividend
policies; we need these institutions to continue to lend and facilitate economic
growth.
As we continue to address current market stress, we must also examine the
appropriate policy responses. The President's Working Group on Financial Markets,
the PWG, has been reviewing policy issues to help reduce the likelihood that
mistakes of the past are repeated. The objective here is to get the balance right regulation needs to catch up with innovation and help restore investor confidence
but not go so far as to create new problems, make our markets less efficient or cut
off credit to those who need it.
The focus of my remarks will be the PWG recommendations being released today
as part of the policy review. We are at the end of the beginning of that review, and
moving forward to the next phase -implementation. Clearly, that implementation
must be consistent with today's environment, recognizing that all market
participants are under stress and acting prudently to address current strains. We
will pursue implementation in a measured way, so as not to impose burdens which
might exacerbate the present situation.
And let me be clear: The PWG will stay on top of this. We will continually assess,
consider further steps, report as we proceed, and issue a summary progress
statement in the fourth quarter of 2008.
Many of these issues are as global as our markets, and we are also working closely
with the Financial Stability Forum (FSF) as they prepare their report and
recommendations. The FSF efforts, under the leadership of Mario Draghi, will bring
a globally coordinated response.
Market Innovation and Complexity
Innovation is a hallmark of our capital markets. Securitization of credit is one
example of an innovation that has made more, more flexible and lower-cost capital
available to consumers and companies, and stimulated competition.
Financial innovation has brought these and other benefits. Financial innovation has
also brought, inevitably, the challenge of complexity. In my judgment, some
financial products have become overly complex. Excessive complexity is the enemy
of transparency and market efficiency. Investor sentiment has swung hard to risk
aversion, and now markets are punishing not only complex, but non-complex
products as well.
Complexity is one of the many excesses that exacerbated the current market
turmoil - turmoil that was triggered by the dramatic weakening of underwriting
standards for U.S. subprime mortgages. Weaker subprime credit standards were
part of a much broader erosion of standards throughout corporate and consumer

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IP-872: Remarh by Secretary Henry M. Paulson, lr. on Recommendations from the President's Worki ... Page 2 of6
credit markets. We have had a number of years of benign economic financial
conditions and abundant liquidity; investors reached ever further for yield, and
market participants and regulators became complacent about all types of risks.
As we did our contingency planning at Treasury prior to this period of market
turmoil, we recognized the need to be continually vigilant because financial shocks
or disruptions are a fact of life, and our markets seem to experience them every six
to eight years. In our planning, we also recognized that the precipitating factor of
any shock is virtually impossible to predict, except in hindsight, and we didn't try to
do so. We did turn our attention to certain risks surrounding hedge funds, and to
systemic risk and investor protection. We examined issues such as disclosure and
margin requirements and, in February 2007, issued principles and guidelines for
addressing issues related to private pools of capital, including hedge funds.
Subsequently, we established two private-sector committees to develop industry
best practices.
There is a certain irony that during this period it has been the regulated financial
institutions which have been the focus of our attention. With a few exceptions, the
hedge fund sector thus far has proven resilient to market volatility and protracted
illiquidity. We know that a number of hedge funds are now also facing difficulties, as
some are missing margin calls, and we are monitoring that closely. However, for a
number of months last year much attention was given to various banks' off-balance
sheet exposures to conduits and structured investment vehicles (SIVs). This risk
exposure was partially due to the opacity of conduits and SIVs; existing capital rules
may have also failed to mitigate, or even amplified, the stress associated with these
vehicles.
PWG Policy Review Recommendations

We must have better policies, processes and mechanisms to understand and
manage complexity, to discourage its excess, and to better understand and
manage risk. Hopefully, the PWG policy recommendations will make progress in
doing just that. Our recommendations have six key objectives:
•

One, stronger transparency and disclosure. The challenges of complexity
were exacerbated by opacity. The best antidote to opacity is transparency
and disclosure.

• Two, stronger risk awareness. Regulators and all market participants must
be more aware of and better able to respond to risks. Credit rating agency
practices must improve, and the users of their services must rely less on,
and appreciate more the limitations of, ratings products.
•

Three, stronger risk management. We need improved risk management
practices by investors, issuers, financial institutions, rating agencies, and
regulators alike. Risk management is everyone's business.

•

Four, stronger capital management. Well-capitalized institutions are better
prepared to deal with challenges, foster economic growth and enhance
market confidence.

•

Five, stronger regulatory policies. Regulatory policies, including capital
requirements, must address risk management weaknesses and improve the
safety and soundness of our institutions and financial system.

•

Six, stronger market infrastructure. Perhaps the best example of innovation
is the over-the-counter (OTC) derivatives markets. These markets have
grown tremendously; but the infrastructure has not kept up - and it must.

This effort is not about finding excuses and scapegoats. Those who committed
fraud or wrongdoing have contributed to the current problems; authorities need to
and are prosecuting them. But poor judgment and poor market practices led to
mistakes by all participants.
Let me now summarize how the PWG recommendations will impact some of the
issues we are facing in the marketplace and certain market participants. I will briefly

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discuss mortgage origination, credit ratings, securitization, financial institutions,
investors, credit default swaps and other OTC derivatives, and regulators.

Mortgage Originators and Brokers
The PWG is recommending three important changes for mortgage originators and
brokers. First, federal and state regulators should strengthen oversight of all
mortgage originators. Second, state financial regulators should implement strong
nationwide licensing standards for mortgage brokers. Third, at the end of the
current comment period, the Federal Reserve will issue revised rules for consumer
protection and disclosure requirements. As part of a larger study of financial
regulatory structure, Treasury will soon release additional recommendations to
improve the mortgage origination process.

Credit Rating Agencies
Credit rating agencies playa major role in financial markets, and their ratings
products must provide information investors need to make more fully informed
decisions about risk. This will require reforming structured credit product rating
processes to ensure integrity and transparency, and improving the quality of data,
models, and assumptions. Credit rating agencies must enforce policies and
procedures that manage and disclose conflicts of interest, and implement changes
suggested by the SEC review of conflict of interest issues.
The credit rating process needs to clearly differentiate between structured products
ratings and ratings for corporate and municipal securities. And agencies should
require securitized credit issuers to perform robust due diligence of originators of
assets that are securitized or used as collateral for structured credit products.
The PWG will form a private-sector committee to work toward implementation of
these rating agency recommendations and develop additional ones, as needed.
The PWG member agencies will reinforce credit rating agencies' efforts through
revisions to supervisory policy and regulation, and revisit the need for stronger
oversight if the industry-led reforms do not lead to the integrity and transparency we
seek. Regulators must also review how they encourage the use of ratings in rules
and guidance; at a minimum, regulatory policies should distinguish between
structured credits and corporate and municipal bonds.

Securitization
The securitization of a number of credit products, including residential and
commercial mortgages, credit card receivables, student loans and business loans
have brought us greater availability and lower cost credit. This has been positive for
our economy. But with innovation in securitization and structured credit products
has come varying degrees of complexity and other challenges, particularly related
to securitization of mortgages.
For illustrative purposes, I will describe how the PWG recommendations will impact
mortgage securitization. But first a few words about the process.
Mortgage brokers shop home loan applications to financial institutions and other
lenders. Lenders then originate the mortgage loan and provide funds so the
borrower can buy a home. The next step is securitization, packaging mortgage
loans into securities. The originators sell these loans to securitizers that pool them
with other loans into mortgage-backed securities (MBS). The MBS can be pooled
again into collateralized debt obligations (COOs), and multiple COOs can be pooled
further into what are called a "COO Squared." Along the way, the mortgage loans
can also be sliced into tranches representing different cash flows and payment
risks.
The PWG has determined that there is no single, simple solution to the problems
that have emerged from the mortgage securitization process, yet we have
determined that market participants' behavior must change. I expect that market
participants and regulators will implement these recommendations; when they do,
we will see changes at every step of the securitization process:

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Mortgage Brokers will be held to strong national licensing and enforcement
standards. There will be stricter safeguards against fraud, and full and clear
disclosure to borrowers about home loan terms, including long-term affordability.
Credit Rating Agencies will clearly differentiate structured product ratings from
ratings for corporate and municipal securities. They will also disclose reviews
performed on asset originators, and strengthen data integrity, models and
assumptions.
Issuers of Mortgage-Backed Securities will disclose the level and scope of due
diligence performed on underlying assets, disclose more granular information
regarding underlying credits. And, if issuers have shopped for ratings, disclose the
what and why of that as well.
Investors will conduct more independent analysis and be less reliant on ratings.
They will require, receive and use more information and more clearly differentiate
between structured credits and corporate and municipal securities.
These practices will better align the interests of mortgage originators and
homebuyers, of originators and securitizers, of securitizers and rating agencies and,
ultimately, investors.
Regulators have a role to play in every change. They will issue new rules and seek
regulatory authorities as needed, evaluate progress, provide guidance and enforce
laws - to ensure that implementation follows recommendation.
Covered Bonds, which allow banks to retain originated mortgage loans while
accessing financial market funding, are another alternative worth considering.
Covered bonds may address the current lack of liquidity in, and bring more
competition to, mortgage securitization. Rule-making, not legislation, is needed to
facilitate the issuance of covered bonds. Through clarification of covered bonds'
status in the event of a bank-issuer's insolvency, the FDIC can reduce uncertainty
and consider appropriate measures that will protect the deposit insurance fund.
These steps would encourage a covered bond market in the U.S.; similar changes
in Europe have resulted in more covered bond activity.
Financial Institutions
As key participants in virtually every phase of the markets, financial institutions
must identify and address any weaknesses in risk management practices,
especially those revealed by the current turmoil. This means enhancing internal risk
measurement and reporting systems, a robust valuation of instruments and
exposures, and aggregation of exposures across business lines. It also means
more comprehensive disclosure of fair value estimates for complex and illiquid
instruments, and of credit or liquidity enhancements provided to off-balance sheet
commitments, such as conduits and SIVs.
The PWG's guidance on risk management and disclosure issues for financial
institutions is important, but the quality of the top management team responsible for
executing this guidance is even more important. I know from first-hand experience
how increaSingly difficult, yet how critical, it is to successfully manage today's large,
integrated global financial institutions. The leadership challenge here is enormous.
Market difficulties often expose weaknesses; weaknesses which can often only be
overcome with experience. And that experience often comes from lessons learned
from prior challenges and prior mistakes.
The ultimate success of any CEO is largely determined by the answer to one
question: Do we have the right people in the right jobs with the right incentive
structure? And these large financial institutions have a large number of key jobs to
fill. They must have people with talent, judgment, expertise and motivation that best
serve their institutions and, by extension, contribute to the quality and strength of
our markets. I cite this management issue because I do not believe that the top jobs
in our large financial institutions are going to get easier any time soon, and the
markets, not regulators, will ultimately sort this out.
Investors

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I will speak for a moment about investors - many of whom bought products they
didn't fully understand, or bought products based solely on credit ratings. Many
investors became complacent about risk and they have learned a costly lesson, one
that amplifies the need for thorough due diligence. In fact, it seems that today's risk
aversion is an aftermath of yesterday's risk complacency.
Going forward, investors must demand and use better information about investment
risk characteristics, when they buy and as they hold. They, and the markets, will be
better served by independent evaluations and by understanding that different types
of instruments have different types of risks.
Credit Default Swaps and OTC Derivatives
In recent years, innovation has also facilitated the tremendous expansion in the
scale, diversity and impact of credit default swaps and over-the-counter (OTC)
derivatives. These instruments and markets have become important for the hedging
or transfer of credit and default risk. Heightened price volatility and surging trading
volumes underscore the need for the OTC derivatives market infrastructure to
evolve to support this expansion. Industry has taken some, but not enough steps.
We need a dedicated industry cooperative. Market volume and instrument
complexity call for a clear, functional, well-designed infrastructure that can meet the
needs of the OTC derivatives markets in the years ahead. We have similar facilities
for other asset classes, such as the Depository Trust and Clearing Corporation
(DTCC).
Such an industry cooperative must capture all significant processing events over
the entire lifecycle of trades. It must have the capability to accommodate all major
asset classes and product types. It must be operationally reliable and scaleable,
and use automation to promote standardization that will create efficiency and
moderate excessive complexity.
In addition, the infrastructure must have a flexible and open architecture for
interoperability, upgrades, and improvements. The facility also should enhance
counterparty risk management through netting and collateral agreements by
promoting portfoliO reconciliation and accurate valuation of trades.
Some steps can be implemented quickly; others will take longer, but we need
movement on all. With the continued leadership of the Federal Reserve Bank of
New York, we also need to work with market participants to establish ambitious
standards for trade data and for accurate and timely trade resolution. The industry
also should incorporate, without delay, cash settlement protocol into standard
documentation. We don't need good ideas sitting on the shelf; we need good ideas
put into practice. All market participants, not just the dealer community, need to
participate in the solution.
Supervisors, PWG, and Treasury
The PWG recommendations would not be complete unless they also included steps
for regulators, including PWG member agencies. Regulators should take steps to
ensure that investors improve due diligence and have greater awareness of risk
characteristics. To further support this, regulators should work closely with FASB, to
review accounting issues and implement policies that ensure aggregation of
exposure across business lines and rigorous valuation of instruments and
exposures.
Supervisors and regulators of global and U.S. institutions must closely monitor to
ensure that institutions address risk management weaknesses and take action as
needed. Regulators should also review capital requirements, as this plays such an
important role in financial institution behavior. To this end, the Basel Committee on
Banking Supervision should review the Basel II capital requirements for
resecuritizations and off-balance sheet commitments, and promptly complete its
liquidity management guidance update.
Efforts in Addition to these Recommendations

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Today's recommendations are part of a much larger effort that spans multiple
fronts. Treasury has commissioned a study on the cause of financial restatements.
As I mentioned earlier, there is a financial regulatory review that will be released as
a regulatory blueprint in the weeks ahead. We also have private sector committees
developing best practices for investors and hedge fund managers and antiCipate
publishing guidelines for public comment next month.
Investors in vibrant capital markets require accurate financial statements, and that
can only occur with a vibrant accounting profession. Recognizing the challenges
facing this industry, last spring the Treasury Department formed an advisory
committee to review the sustainability of the auditing profession. The committee will
report its final recommendations this summer.
Together, these additional committees and efforts will provide further guidance to
enhance market integrity, investor protection and mitigate systemic risk.

Conclusion
We have learned many lessons from this period and we may learn still more as
events unfold. Today I have summarized the results of a great deal of hard work by
the PWG member agencies. We have laid down objectives and recommendations,
which form a good start. Although we haven't yet worked completely through this
period of market turmoil, and that is our highest priority today, it is not too early to
suggest appropriate policy responses.
No silver bullet exists to prevent past excesses from recurring. In these remarks, I
have focused a great deal on challenges related to excessive complexity, but
complexity is only one of many issues we face. I believe today's recommendations
put us on the path towards more transparent, better-functioning, and bettermanaged markets, which are integral to attracting and allocating capital to fuel our
economic growth and prosperity. We will continue to re-assess conditions, monitor
progress, put forward new recommendations and take additional steps as
necessary.
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March 14,2008
hp-874
Statement by Treasury Secretary Henry M. Paulson, Jr.
Washington, DC -- Treasury Secretary Henry M. Paulson, Jr. today issued the
following statement:
"As we have been saying for some time, there are challenges in our financial
markets, and we continue to address them. This is another challenge that market
participants and regulators are addressing. We are working closely with the Federal
Reserve and the SEC. I appreciate the leadership of the Federal Reserve in
enhancing the stability and orderliness of our markets. Our financial system is
flexible and resilient and I am confident that the efforts of regulators and market
participants will minimize disruption to the system."
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:-IP-875: Treawry International Capital (TIC) Data for January

Page 1 of 3

FROM THE OFFICE OF PUBLIC AFFAIRS
We recommend printmg this release using the PDF file below.
To view or print the PDF content on this page. download the free Adobe® Acrobat® Reader®.

March 17, 2008
HP-875

Treasury International Capital (TIC) Data for January
Treasury International Capital (TIC) data for January 2008 are released today and posted on the U.S Treasury web site (www.treas.Cj(
which will report on data for February, is scheduled for April 15, 2008.
Net foreign purchases of long-term securities were $62.0 billion.
•

Net foreign purchases of long-term U.S. securities were $81.2 billion. Of this, net purchases by foreign official institutions were
purchases by private foreign investors were $27.8 billion.

•

U.S. residents purchased a net $19.2 billion of long-term foreign securities.

Net foreign acquisition of long-term securities, taking into account adjustments, is estimated to have been $47.2 billion.
Foreign holdings of dollar-denominated short-term U.S. securities, including Treasury bills, and other custody liabilities increased $73.1
holdings of Treasury bills increased $11.6 billion.
Banks' own net dollar-denominated liabilities to foreign residents decreased $83.6 billion.
Monthly net TIC flows were positive $37.4 billion. Of this, net foreign private flows were negative $38.2 billion, and net foreign official fI,
billion.
-30-

TIC Monthly Reports on Cross-Border Financial Flows
(Billions of dollars, not seasonally adiusted)
2006

2007

12 Months Through
Jan-07
Jan-08

Oct-07 Nov

Foreigners' Acquisitions of Long-term Securities
1
2
3

Gross Purchases of Domestic U.S. Securities
Gross Sales of Domestic U.S. Securities
Domestic Securities Purchased, net (line 1 less line 2) /1

21077.1 29689.0
19933.9 28683.2
1143.2 1005.8

21324.6
20143.4
1181.2

30989.8
30027.2
962.7

2671.9
2553.8
118.0

289
281
7

4
5
6
7
8

Private, net /2
Treasury Bonds & Notes, net
Gov't Agency Bonds, net
Corporate Bonds, net
Equities, net

946.6
125.9
193.8
482.2
144.6

818.1
198.1
107.0
332.6
180.4

991.3
151.6
194.8
501.6
143.3

733.6
178.5
105.8
288.3
161.0

96.2
45.9
4.8
15.6
29.9

5
2
2
1

9
10
11

Official, net /3
Treasury Bonds & Notes, net
Gov't Agency Bonds, net

196.6
69.6
92.6

187.7
3.0
119.1

189.9
58.4
98.8

229.1
44.0
103.4

21.8
4.0
10.0

1

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41412008

:lP-875:

Tre~£ury

12

13
14
15
16
17
18

International Capital (TIC) Data for January
Corporate Bonds, net
Equities, net
Gross Purchases of Foreign Securities from U.S. Residents
Gross Sales of Foreign Securities to U.S. Residents
Foreign Securities Purchased, net (line 14 less line 15) /4
Foreign Bonds Purchased, net
Foreign Equities Purchased, net

19

Net Long-Term Securities Transactions (line 3 plus line

20

Other Acquisitions of Long-term Securities, net /5

21

22

Net Foreign Acquisition of Long-Term Securities
(lines 19 and 20):

Page 2 of3
28.6
5.8

50.6
15.1

28.5
4.3

52.2
29.6

7.4
0.4

5515.9
5766.8
-250.9

8177.0
8400.5
-223.5

5664.2
5912.7
-248.5

8398.8
8628.5
-229.7

809.4
813.4
-4.1

-144.5
-106.5

-128.6
-94.9

-141.0
-107.5

-144.6
-85.1

-9.1
5.0

892.3

782.3

932.7

733.0

114.0

9

-169.9

-188.9

-171.2

-186.9

-15.1

-1

722.4

593.4

761.5

546.0

98.9

7

72
70
2

146.2
-9.0
16.1
-25.0

215.5
48.8
29.3
19.5

149.2
-17.2
11.3
-28.5

271.4
58.9
35.3
23.6

30.3
9.0
6.7
2.3

3
1

155.1
174.9
-19.8

166.7
90.6
76.1

166.4
183.2
-16.8

212.5
126.3
86.2

21.3
1.3
20.0

2

27
28

Increase in Foreign Holdings of Dollar-denominated ShortU.S. Securities and Other Custody Liabilities: /6
U.S. Treasury Bills
Private, net
Official, net
Other Negotiable Instruments
and Selected Other Liabilities: 17
Private, net
Official, net

29

Change in Banks' Own Net Dollar-Denominated Liabilities

198.0

-106.3

15.7

-169.6

-26.5

2

1066.5

702.6

926.4

647.9

102.6

13

926.2
140.3

404.6
298.0

773.3
153.1

299.0
348.9

60.5
42.2

9
4

23
24
25
26

30 Monthly Net TIC Flows (lines 21,22,29) /8
of which
31
Private, net
32
Official, net

/1
/2
/3
/4

/5

/6

17
/8

Net foreign purchases of U.S. securities (+)
Includes international and regional organizations
The reported division of net purchases of long-term securities between net purchases by foreign official institutions and
of other foreign investors is subject to a "transaction bias" described in Frequently Asked Questions 7 and 10.a.4 on
Net transactions in foreign securities by U.S. residents. Foreign purchases offoreign securities = U.S. sales of foreign Se
Thus negative entries indicate net U.S. purchases of foreign securities, or an outflow of capital from the United State
indicate net U.S. sales offoreign securities.
Minus estimated unrecorded principal repayments to foreigners on domestic corporate and agency asset-backed securiti<
estimated foreign acquisitions of U.S. equity through stock swapsestimated U.S. acquisitions of foreign equity through stock swaps +
increase in nonmarketable Treasury Bonds and Notes Issued to Official Institutions and Other Residents of Foreign (
These are primarily data on monthly changes in banks' and broker/dealers' custody liabilities. Data on custody claims aft
quarterly and published in the Treasury Bulletin and the TIC web site.
"Selected Other Liabilities" are primarily the foreign liabilities of U.S. customers that are managed by U.S. banks or bro
TIC data cover most components of international financial flows, but do not include data on direct investment flows, wt
and published by the Department of Commerce's Bureau of Economic Analysis. In addition to the monthly data sum
TIC collects quarterly data on some banking and nonbanking assets and liabilities. Frequently Asked Question 1 on 1
site describes the scope of TIC data collection.

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Page 3 of3

REPORTS

•

(PDF) TIC Monthly Reports on Cross-Border Financial Flows (Billions of dollars, not seasonally adjusted)

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4/4/2008

u.s. TREASURY DEPARTMENT OFFICE OF PUBLIC AFFAIRS
EMBARGOED UNTIL 9 a.m. (EST), March 17, 2008
CONTACT Brookly McLaughlin, (202) 622-2920

TREASURY INTERNATIONAL CAPITAL DATA FOR JANUARY
Treasury International Capital (TIC) data for January 2008 are released today and posted on the
U.S. Treasury web site (www.treas.gov/tic). The next release, which will report on data for
February, is scheduled for April 15,2008.
Net foreign purchases of long-term securities were $62.0 billion.
•

Net foreign purchases oflong-term U.S. securities were $81.2 billion. Ofthis, net purchases
by foreign official institutions were $53.4 billion, and net purchases by private foreign
investors were $27.8 billion.

•

U.S. residents purchased a net $19.2 billion of long-term foreign securities.

Net foreign acquisition of long-term securities, taking into account adjustments, is estimated to have
been $47.2 billion.
Foreign holdings of dollar-denominated short-term U.S. securities, including Treasury bills, and
other custody liabilities increased $73.8 billion. Foreign holdings of Treasury bills increased $11.6
billion.
Banks' own net dollar-denominated liabilities to foreign residents decreased $83.6 billion.
Monthly net TIC flows were positive $37.4 billion. Of this, net foreign private flows were negative
$38.2 billion, and net foreign official flows were positive $75.5 billion.

TIC Monthly Reports on Cross-Border Financial Flows
(Billions of dollars not season all v adjusted)
2006

2007

12 Months Throul!h
Jan-07
Jan-08

Oct-07

Nov-07

Dec-07

Jan-08

Foreigners' Acquisitions of Long-term Securities
I
2
3

Gross Purchases of Domestic U.S. Securities
Gross Sales of Domestic U.S. Securities
Domestic Securities Purchased, net (line I less line 2) /1

21077.1 29689.0
19933.9 28683.2
1143.2 1005.8

21324.6
20143.4
1181.2

30989.8
30027.2
962.7

2671.9
2553.8
118.0

2890.2
2819.9
70.3

2312.8
2243.7
69.1

3134.4
3053.2
81.2

4
5
6
7
8

Private, net 12
Treasury Bonds & Notes, net
Gov't Agency Bonds, net
Corporate Bonds, net
Equities, net

946.6
125.9
193.8
482.2
144.6

818.1
198.1
107.0
332.6
180.4

991.3
151.6
194.8
501.6
143.3

733.6
178.5
105.8
288.3
161.0

96.2
45.9
4.8
15.6
29.9

58.5
23.2
20.6
10.5
4.3

33.3
-9.5
-7.4
29.3
21.0

27.8
1.5
20.0
2.9
3.5

9
10
II
12
13

Official, net /3
Treasury Bonds & Notes, net
Gov't Agency Bonds, net
Corporate Bonds, net
Equities, net

196.6
69.6
92.6
28.6
5.8

187.7
3.0
119.1
50.6
15.1

189.9
58.4
98.8
28.5
4.3

229.1
44.0
103.4
52.2
29.6

21.8
4.0
10.0
7.4
0.4

11.8
0.4
6.0
4.9
0.5

35.8
11.0
4.1
8.2
12.5

53.4
36.1
-0.6
3.9
13.9

5515.9
5766.8
-250.9

8177.0
8400.5
-223.5

5664.2
5912.7
-248.5

8398.8
8628.5
-229.7

809.4
813.4
-4.1

728.9
708.3
20.6

598.6
611.2
-12.6

770.6
789.8
-19.2

-144.5
-106.5

-128.6
-94.9

-141.0
-107.5

-144.6
-85.1

-9.1
5.0

11.0
9.6

-13.1
0.5

-16.5
-2.7

892.3

782.3

932.7

733.0

114.0

90.9

56.5

62.0

-169.9

-188.9

-171.2

-186.9

-15.1

-13.6

-11.3

-14.8

722.4

593.4

761.5

546.0

98.9

77.3

45.2

47.2

146.2
-9.0
16.1
-25.0

215.5
48.8
29.3
19.5

149.2
-17.2
11.3
-28.5

271.4
58.9
35.3
23.6

30.3
9.0
6.7
2.3

37.2
15.6
10.8
4.8

33.3
15.1
4.0
11.1

73.8
11.6
2.9
8.6

155.1
174.9
-19.8

166.7
90.6
76.1

166.4
183.2
-16.8

212.5
126.3
86.2

21.3
1.3
20.0

21.5
4.3
17.3

18.2
17.1
1.0

62.3
56.0
6.3

198.0

-106.3

15.7

-169.6

-26.5

20.9

-5.8

-83.6

1066.5

702.6

926.4

647.9

102.6

135.4

72.7

37.4

926.2
140.3

404.6
298.0

773.3
153.1

299.0
348.9

60.5
42.2

90.4
45.0

21.0
51.7

-38.2
75.5

14
15
16
17
18

Gross Purchases of Foreign Securities from U.S. Residents
Gross Sales of Foreign Securities to U.S. Residents
Foreign Securities Purchased, net (line 14 less line 15) /4
Foreign Bonds Purchased, net
Foreign Equities Purchased, net

19

Net Long-Term Securities Transactions (line 3 plus line 16):

20

Other Acquisitions of Long-term Securities, net /5

21

Net Foreign Acquisition of Long-Term Securities
(lines 19 and 20):

27
28

Increase in Foreign Holdings of Dollar-denominated Short-term
U.S. Securities and Other Custody Liabilities: /6
U.S. Treasury Bills
Private, net
Official, net
Other Negotiable Instruments
and Selected Other Liabilities: 17
Private, net
Official, net

29

Change in Banks' Own Net Dollar-Denominated Liabilities

22
23
24
25
26

30 Monthly Net TIC Flows (lines 21,22,29) /8
of which
Private, net
31
Official, net
32
/1
/2
/3
14

/5

/6

17
/8

Net foreign purchases of U.S. securities (+)
Includes international and regional organizations
The reported division of net purchases of long-term securities between net purchases by foreign official institutions and net purchases
of other foreign investors is subject to a "transaction bias" described in Frequently Asked Questions 7 and 10.a.4 on the TIC web site.
Net transactions in foreign securities by U.S. residents. Foreign purchases of foreign securities = U.S. sales of foreign securities to foreigners.
Thus negative entries indicate net U.S. purchases of foreign securities, or an outflow of capital from the United States; positive entries
indicate net U.S. sales of foreign securities.
Minus estimated unrecorded principal repayments to foreigners on domestic corporate and agency asset-backed securities +
estimated foreign acquisitions of U.S. equity through stock swaps estimated U.S. acquisitions offoreign equity through stock swaps +
increase in nonmarketable Treasury Bonds and Notes Issued to Official Institutions and Other Residents of Foreign Countries.
These are primarily data on monthly changes in banks' and broker/dealers' custody liabilities. Data on custody claims are collected
quarterly and published in the Treasury Bulletin and the TIC web site.
"Selected Other Liabilities" are primarily the foreign liabilities of U.S. customers that are managed by U.S. banks or broker/dealers.
TIC data cover most components of international financial flows, but do not include data on direct investment flows, which are collected
and published by the Department of Commerce's Bureau of Economic Analysis. In addition to the monthly data summarized here, the
TIC collects quarterly data on some banking and nonbanking assets and liabilities. Frequently Asked Question I on the TIC web
site describes the scope of TIC data collection.

2

Page I of 1

:tP-876: Statement by Trcosury Secretary Paulson

March 16,2008
HP-876
Statement by Treasury Secretary Paulson

Treasury Secretary Henry M. Paulson, Jr. released the following statement today:
"Last Friday, I said that market participants are addressing challenges and I am
pleased with recent developments. I appreciate the additional actions taken this
evening by the Federal Reserve to enhance the stability, liquidity and orderliness of
our markets."
-30-

http://www.treas.gov/press/releases/hp81fJ.htm

4/412008

Page 1 of 4

March 17, 2008
2008-3-17 -15-40-53-94 7 4
U.S. International Reserve Position

The Treasury Department today released u.s. reserve assets data for the latest week. As indicated in this table, U.s.
reserve assets totaled $75,366 million as of the end of that week, compared to $74,266 million as of the end of the
prior week.
I. Official reserve assets and other foreign currency assets (approximate market value, in US millions)

I

II

I
IA. Official reserve assets (in US millions unless otherwise specified)

IIMarch 14,2008

1(1) Foreign currency reserves (in convertible foreign currencies)

I(a) Securities
lof which: issuer headquartered in reporting country but located abroad

IIEuro

IIYen

IITotal

II

II

11 75,366

11 15 ,622

11 12,800

11 28 ,422
11 0

II

II

I(b) total currency and deposits with:

II

II

l(i) other national central banks, BIS and IMF

1115,444

II
6,274

11 21 ,718

Iii) banks headquartered in the reporting country

11 0

lof which: located abroad

11 0

I(iii) banks headquartered outside the reporting country

11 0

lof which: located in the reporting country

11 0

1(2) IMF reserve position

11 4 ,347

1(3) SDRs

11 9,838

1(4) gold (including gold deposits and, if appropriate, gold swapped)

11 11 ,041

I--volume in millions of fine troy ounces

11 261 .499

1(5) other reserve assets (specify)

0

I--financial derivatives
[--loans to nonbank nonresidents
I--other

[B. Other foreign currency assets (specify)
t-securities not included in official reserve assets
tdeposits not included in official reserve assets
[--loans not included in official reserve assets
t-financial derivatives not included in official reserve assets
Egold not included in official reserve assets
[-other

II

II

II. Predetermined short-term net drains on foreign currency assets (nominal value)

r~[------------~I~I_ _ _ _~II~_ _ _ _~I~I------II~- -_ _~I~I_ _ _ _~II
http://www.treas.gov/press/releases/20U83171540539474.htm

4/4/2008

Page 2 of 4

[

IIMaturity breakdown (residual maturity)

II

[

Total

[ 1. Foreign currency loans, securities, and deposits
t-0utflows (-)

IIPrincipal

[

IIlnterest

t-inflows (+)

IIPrincipal

I

IIlnterest

I

More than 1 and
up to 3 months

Up to 1 month

I

I

More than 3
months and up to
1 year

II

II

II

II

"

2. Aggregate short and long positions in forwards and
futures in foreign currencies vis-a-vis the domestic
currency (includinQ the forward leQ of curren9' swaps)

I

[ (a) Short positions ( - )
(b) Long positions (+)

II

3. Other (specify)

II

--outflows related to repos (-)

I

I

I

--inflows related to reverse repos (+)

I

--trade credit (-)

II

--trade credit (+)

II

--other accounts payable (-)

"

--other accounts receivable (+)

II

III. Contingent short-term net drains on foreign currency assets (nominal value)

I

II

I

I

II

II

I

applicable)
Total

I

II

IMaturity breakdown (residual maturity, where
More than 1 and
up to 3 months

Up to 1 month

More than 3
months and up to
1 year

11. Contingent liabilities in foreign currency
(a) Collateral guarantees on debt falling due within 1
year

I'

I(b) Other contingent liabilities
1~2. Foreign currency securities issued with embedded
options (puttable bonds)

13. Undrawn, unconditional credit lines provided by:
(a) other national monetary authorities, BIS, IMF, and
other international organizations
I--other national monetary authorities (+)

I

I

II

~I

I

I

I
II

I--BIS (+)

II

I--IMF (+)

II

(b) with banks and other financial institutions
headquartered in the reporting country (+)

I

I

(c) with banks and other financial institutions
headquartered outside the reporting country (+)

jI

I

I

[Undrawn, unconditional credit lines provided to:
(a) other national monetary authorities, BIS, IMF, and
other international organizations

I

[--other national monetary authorities (-)

r
http://www.treas.gov/press/releases/20tm-3171540539474.htm

I

I
II

II

II
II

4/4/2008

Page 3 of 4

l-- BIS (-)
I--IMF (-)
(b) banks and other financial institutions headquartered
in reporting country (- )
(c) banks and other financial institutions headquartered
outside the reporting country ( - )
4. Aggregate short and long positions of options in
foreign currencies vis-a-vis the domestic currency

"

I
I

I

II

I

I

"
"

I

I

I

I(a) Short positions

II

I(i) Bought puts

I

I(ii) Written calls
I(b) Long positions
I(i) Bought calls
I(ii) Written puts
IpRO MEMORIA: In-the-money options

11

1(1) At current exchange rate

"
"
I"

I
/I

I

II

I(a) Short position

"I

II

I(b) Long position

I

1(2) + 5 % (depreciation of 5%)
I(a) Short position
I(b) Long position
1(3) - 5 % (appreciation of 5%)
I(a) Short position

I
I

I(b) Long position
1(4) +10 % (depreciation of 10%)
I(a) Short position

I

I(b) Long position
1(5) - 10 % (appreciation of 10%)
I(a) Short position
I(b) Long position

1/

1(6) Other (specify)

I

I(a) Short position

"
"
"

I(b) Long position

IV. Memo items

I
1(1) To be reported with standard periodicity and timeliness:
I(a) short-term domestic currency debt indexed to the exchange rate

I
I
I

"
"
"

Il(b) financial instruments denominated in foreign currency and settled by other means (e.g., in domestic 11
currency)
I--nondeliverable forwards
I --short positions
I --long positions
I--other instruments
I(c) pledged assets
I--included in reserve assets
--included in other foreign currency assets

I

I

http://www.treas.gov/press/releasesILUlJ8.3171540539474.htm

4/4/2008

Page 4 of 4
~d) securities lent and on repo

II

[lent or repoed and included in Section I

II

llent or repoed but not included in Section I

/

t-bOrrowed or acquired and included in Section I
[borrowed or acquired but not included in Section I

~) financial derivative assets (net, marked to market)
[forwards
t-futures
lswaps
t-options
[other
(f) derivatives (forward, futures, or options contracts) that have a residual maturity greater than one
year, which are subject to margin calls.

II
--aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the domestic II
currency (including the forward leg of currency swaps)

[(a) short positions ( - )
I(b) long positions (+)
I--aggregate short and long positions of options in foreign currencies vis-a-vis the domestic currency
I(a) short positions
I(i) bought puts
I(ii) written calls
I(b) long positions

l(i) bought calls
I(ii) written puts

I

\(2) To be disclosed less frequently:
I(a) currency composition of reserves (by groups of currencies)

1/ 75 ,366

I--currencies in SDR basket

11 75 ,366

I--currencies not in SDR basket

II

I--by individual currencies (optional)

II

I

II

Notes:
1/ Includes holdings of the Treasury's Exchange Stabilization Fund (ESF) and the Federal Reserve's System Open Market
Account (SOMA), valued at current market exchange rates. Foreign currency holdings listed as securities reflect markedto-market values, and deposits reflect carrying values.
2/ The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF
and are valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest
week reflect any necessary adjustments, including revaluation, by the U.s. Treasury to IMF data for the prior month
end.
3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

http://www.treas.gov/press/releases/2001n I 71540539474.htrn

4/4/200R

-IP-877: PaU\S01'1 StakIIlent on GSE, OFHEO Agreement to Inject<br>Liquidity into Mortgage Markets

Page 1 of 1

March 19, 2008
HP-877
Paulson Statement on GSE, OFHEO Agreement to Inject
Liquidity into Mortgage Markets
Washington - Secretary Henry M. Paulson, Jr. released the following statement
today regarding the agreement among the Office of Federal Housing Enterprise
Oversight, Fannie Mae and Freddie Mac to provide additional support to the U.S.
mortgage market.
"Fannie Mae and Freddie Mac are significant participants in the mortgage market
and I am encouraged that today's announcement will make more financing
available in this area. Additional capital will enable the companies to help more
homeowners and will strengthen the underlying fundamentals of the mortgage
market.
"Today's announcement also reaffirms the commitment of all parties to work toward
comprehensive GSE reform legislation as soon as possible. I look forward to
working with Director Lockhart, Congress and the GSEs on this important
legislation."
-30-

http://www.treas.gov!press/releases/hp877 htm

4/412008

-IP-878: Remark!:; by Treasury Deputy Assistant Secretary Mark Sobel <br>at the Symposium of the Br...

Page 1 of 4

March 14, 2008
HP-878
Remarks by Treasury Deputy Assistant Secretary Mark Sobel
at the Symposium of the Bretton Woods Committee on China
Washington, DC--At the outset, I wish to thank Bill Frenzel and the Bretton Woods
Committee for affording me this opportunity to speak on a range of issues
pertaining to Chinese currency developments.

Engagement with China
When one visits Beijing or Shanghai, one immediately feels the energy and
vibrancy of a dynamic country and fast-growing economy. Indeed, China's growth in
recent decades is an extraordinary success story that has sustained a particularly
blistering pace of global growth this decade. But China's growing weight and
presence on the global scene inevitably leaves an ever-noticeable footprint that is a
source of admiration and angst.
As Secretary Paulson has often stated, ensuring a productive U.S.-China
relationship is essential for managing the challenges of the 21 sl Century and that
requires continuous high-level engagement. To this end, President Bush and
Chinese President Hu created the Strategic Economic Dialogue, led by Secretary
Paulson on the U.S. side, which brings a diversity of Cabinet-level officials in both
China and the United States together.
Our economic discussions with China in the SED focus on a broad range of issues,
including the need for China to rebalance its economy away from exports and
investment by boosting domestic demand-led growth and reducing national saving;
promoting financial sector reform; and achieving monetary policy autonomy,
including through RMB appreciation and greater currency flexibility.
Let there be no doubt, important progress is being made. While it is sometimes
hard to discern the progress amid the daily focus on China and its ups and downs,
rapid change is a constant. The risk, though, to China is still that the pace of reform
is too gradual.
•

•

Chinese saving consumes over half of national income. This is the
structural basis for China's large current account surpluses. Part of this can
be explained by the dismantling of the social safety net once provided by
China's large state-owned enterprises -- the so-called "iron rice bowl" putting a heavy burden on households to save for basic needs such as
health care, retirement, and education. China has begun to take some early
but important steps towards addressing the problem, including through the
introduction of universal free education through high school, upping the
share of a patient's health spending covered by the state, and expanding
the coverage of China's minimum income guarantee program. Enterprise
saving is also high. Here, China announced a policy at the end of last year
requiring state-owned enterprises to pay a portion of their profits as
dividends back to the government. Much more work is needed -- but these
are important steps forward.
On the financial sector front, change is afoot. Major banks are making
progress in reducing non-performing loans (NPLs) and improving risk
management practices. This process has been aided by recapitalizations,
foreign firms taking strategiC stakes, and IPOs which have led to improved
transparency and accounting standards. Efforts to develop the corporate
bond market and consumer finance are picking up. Make no mistake, there
is still a long road ahead, especially in offering consumers meaningful
products and returns and in building a vibrant capital market which can
provide a viable alternative to firms and individuals from bank dominated

http://www.treas.gov/press/releases/hpS78.htm

4/4/2008

:-IP-878: Remarh by Treasury Deputy Assistant Secretary Mark Sobel <br>at the Symposium of the Sr... Page 2 of 4
finance. And absolutely critical, China can and should do far more to open
its entire financial system to much greater foreign participation.
Perhaps the most nettlesome aspect of our rebalancing discussions lies in the
realm of monetary policy, including the exchange rate regime. Simply put, a more
autonomous and effective monetary policy -- which fundamentally requires RMB
appreciation and much greater currency flexibility -- is in China's own self-interest. It
is needed to better control domestic liquidity and inflation, dampen swings in the
investment cycle, improve the health of the financial sector, and ultimately reduce
prospects for boom-bust cycles. I think this central point is increasingly recognized
by China's leadership.
In contrast, heavy foreign exchange market intervention by China to manage the
currency has led to excess reserve accumulation and rapid increases in domestic
liquidity, which is not easily sterilized. This is part of the story behind the recent
sharp increases in Chinese consumer prices. China's current exchange rate policy
heightens the risk of asset bubbles, renewed build-up in NPLs, and further banking
sector stress. This policy also perpetuates a model of growth that depends heavily
on exports and industrial investment rather than domestic household consumption.
As Treasury stated in its last semi-annual Foreign Exchange Report, the substantial
undervaluation of the RMB poses risks for the Chinese economy. As I have said
before, Chinese currency adjustment is a matter of international responsibility, with
significant implications for the smooth functioning of the international monetary and
trading systems, of which China is increasingly a part.
Here too, progress is being made. Cumulative RMB appreciation since July 2005,
including the RMB's revaluation at the time, totals 16-3/4%. This appreciation has
accelerated markedly in the last months. For example, in the last 90 days, the RMB
has appreciated at an annualized rate of nearly 17%. China's foreign exchange
market is also developing - in recent years, RMB fluctuations have been greater,
foreign currency hedging instruments are emerging, and the market is deepening.
That said, the RMB's trade-weighted appreciation has been much less. The RMB
has actually depreciated against the euro. The RMB's adjustment is far from
complete. While the recent accelerated pace of appreCiation is welcome, it should
continue.
While RMB appreciation may to some extent reduce the U.S. bilateral trade deficit
with China, the U.S. and Chinese global trade imbalances are rooted in the
structure of our economies, and in imbalances in our relative levels of saving and
investment. That is why we need to continue engaging through the SED across the
broad swath of policies.
Currency Legislation?
While we share the frustrations of many with the pace of reform in China, we
believe that continued intensive bilateral and multilateral engagement is the best
means of making meaningful progress in building a productive U.S.-Chinese
relationship for the 21 5t Century. We do not believe that currency legislation would
strengthen the hand of the United States in achieving the goal, which the
Administration and Congress share, of faster Chinese economic reform.
Indeed, we believe legislation would be counterproductive and could lead to
unintended adverse consequences.
Multilateral Engagement

Bilateral engagement is an essential element of U.S. financial diplomacy, and
Secretary Paulson and other Treasury officials have pursued the need for RMB
appreciation and greater currency flexibility relentlessly with the Chinese, both
privately and publicly. But experience also teaches us that China can respond
defensively to bilateral pressure and is often more open to multilateral
engagement.
While the recent stepped-up pace of Chinese currency appreciation importantly
reflects a Chinese response to rising inflation and the large current account surplus,

http://www.treas.gov/press/releases/hp~i~.htm

4/4/2008

-IP-878: Remal'ks by Treasury Deputy Assistant Secretary Mark Sobel <br>at the Symposium of the Br... Page 3 of 4
we are working on the multilateral front to accelerate the reform of China's currency
practices. We are making progress and this work has had an impact.
•

The G-7 has joined the United States, sharpening its message on Chinese
currency practices. At its recent Tokyo meeting, the G-7 stated: "We
welcome China's decision to increase the flexibility of its currency, but in
view of its rising current account surplus and domestic inflation, we
encourage accelerated appreciation of its effective exchange rate." This
statement reflects the strong consensus in the G-7 on the need for greater
appreciation and flexibility of the RMB.
• The United States has also worked hard to strengthen the IMF's focus on
currency surveillance. In mid-2007, the IMF modernized its 30-year old
operational rules for conducting this duty. The new decision sent a strong
and welcome message that the IMF is to put firm exchange rate surveillance
back at the core of its duties. Since then, the IMF has started sharpening its
work on exchange rate analytics. But this is clearly a work in progress. As
Under Secretary McCormick recently said: "The IMF must now step fully
through the door it has opened and make exchange rate issues the priority
they deserve to be."
More generally, I believe that the discussions held with many Chinese leaders over
recent years on currency issues have been instrumental in persuading them and
creating a growing consensus on the merits of currency appreciation, moving to
greater currency flexibility and building the deeper financial markets needed to
support a more autonomous monetary policy regime.
Legislative action aimed at China, in contrast, runs the risk that the results of our
engagement, even if less than we desire, will be weakened and that China will
retrench from engagement.
U.S. Economic Interests
The United States is increasingly a part of a global economy, in which technology
and globalization are potent drivers of change. These forces have undoubtedly led
to difficult adjustments for some American workers and we have enormous and
deep sympathy for those facing these pressures. China must play by the rules of
the game. Still, while China may be the poster child for globalization, neither RMB
appreciation nor currency legislation will remove these underlying potent forces.
In recent years, export growth has been an important factor underlying U.S.
economic growth. Indeed, growth in many emerging markets, including China,
shows continued resilience, helping to support increased U.S. exports. China is our
most rapidly growing export market, taking over $65 billion in U.S. exports last year,
creating high-paying jobs for many Americans.
The adoption of currency legislation that might be perceived abroad as unilateralist
and directed at China could pose significant further risks to and have profoundly
adverse consequences for the U.S. economy, including increased costs for U.S.
consumers. Unilateral action would likely undermine confidence in the openness of
our capital markets, diminish capital inflow into the United States, and further upset
financial markets, potentially putting upward pressure on interest rates and prices.
Nothing could be more unwelcome at any time, but especially right now given U.S.
and global financial market turmoil.
Further, we must recognize the precedent we might create and the possibility for
foreign retaliation, if we adopt such legislation. Others might seize on a U.S.
precedent to adopt unilateral measures against other countries, including the United
States. If that were to occur, what might then happen to U.S. exports of aircraft,
agricultural products, machinery and high-tech exports, and the jobs supported by
these exports? This too would have severe adverse results for the smooth
functioning of the international monetary system.

Currency Misalignment and the WTO
Many legislative proposals involve determinations as to the extent of "misalignment"
of a currency as a basis for remedial measures, including through the WTO.

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In assessing currency "misalignment", economists use models to calculate real
"equilibrium exchange rates" and then the degree of under- or over-valuation as
deviations from these real equilibrium exchange rates.
It is important to recognize that models make various assumptions. What is a
"normal" payments position for a country? What price index should be used to
deflate nominal prices? How should an effective exchange rate index be
constructed? Depending on the answers to these and many more questions, one
can get varying answers.
Equilibrium exchange rate analysis will not yield precise results. But it is still a
worthwhile undertaking. Especially if many multilateral exchange rate models point
in a similar direction and suggest a broadly comparable range of deviation, that is
very valuable and useful information. Further, such results, when complemented by
other analysis, can allow one to render more definitive judgments. For example,
buttressing such analytic work with a review of current account positions, reserve
accumulation, movement in exchange rates, and dependence on external demand,
can create a basis for more consistent judgments. In the final analysis, there is an
element of judgment inherent in rendering assessments of currency valuations, but
that does not mean that one can shirk the responsibility of having a view.
On matters regarding the WTO, Treasury defers to USTR. We are advised, though,
that using currency calculations, which admittedly lack precision and reliability, to
determine trade remedies could raise serious concerns with respect to U.S.
compliance with WTO obligations.
Conclusion
Let me conclude by commending Congressman Levin and others for consistently
raising the issue of China's currency practices. It is a critical and completely
legitimate public policy issue and it is one that should be - and is - high on radar
screens. The United States is fully engaged with China through the Strategic
Economic Dialogue across a broad front of issues. This engagement is yielding
material results. Robust bilateral and multilateral engagement with China is the
best path forward for the United States.
-30-

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iP-879: Assistanl Secretary Anthony W. Ryan <br>Remarks Before the Exchequer Club in Washington

Page 1 of 5

March 19, 2008
HP-879
Assistant Secretary Anthony W. Ryan
Remarks Before the Exchequer Club in Washington
Washington - Good afternoon. Thank you for inviting me to join you here today.
The Exchequer Club has a rich history of fostering thoughtful discussion on key
issues affecting our economy. The path to this podium is well worn by a long list of
distinguished public servants whom you have invited to share their thoughts, and I
am honored to be included among such an impressive list.
Our economy is the largest and most diverse in the world; but it is not immune to
challenges. The difficulties in the housing market are the biggest threat to our
economy, and the Treasury is focused on addressing this issue by enhancing
efforts to help homeowners and by offering long term recommendations to get at
the cause of these troubles.
We are working with HOPE NOW, a coalition of non-profit counselors, servicers,
lenders and investors, so that we can help more homeowners, more quickly. Their
progress reports show that modifications are rising, and those kinds of fast results
are the direction we are taking at Treasury.
We've heard of proposals that would create new bureaucracies and will take years
to implement. We've also seen proposals that will cause mortgages to be more
expensive for borrowers in the future- not just those who are stressed today. But
these types of proposals will do more harm than good. We need our colleagues in
Congress to pass reform of the Federal Housing Administration and the
Government Sponsored Enterprises.

In the long term, we are looking to get at the root causes of this stress by
strengthening market discipline and oversight in the mortgage securitization
process and by improving the future state of our capital markets.
Orderly financial markets are critical to the health of our economy - businesses rely
on access to credit in order to invest and create jobs, and families draw on credit
markets to finance their homes and borrow for education.
As financial industry professionals and policy leaders, you know first hand the
benefits of dynamic economic growth, and thus have a vested interest in capital
markets that enhance investor confidence and market liquidity - - both of which
have been significantly challenged in recent months.
The health of our capital markets reflects the collective efforts of both the public and
private sectors. To reap the benefits, both sectors must share responsibility. I have
confidence in the resilience of our markets and that collectively, we will work
through this period of stress, and make our markets even stronger.
At the U.S. Treasury Department, we are vigilant in monitoring the global capital
markets, and the current period has provided us many issues to evaluate and
address. These issues range from financial market preparedness, private pools of
capital, market infrastructure, challenges in the housing sector, and the resulting
implications for the capital markets.
Effective and efficient capital markets rely on private-sector representatives to play
a complementary role. Investors and commercial institutions have influenced, and
must continue to influence, market and business practices in a constructive
manner.

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-IP-879: Assistant SCl:ldary Anthohy W. Ryan <br>Remarks Before the Exchequer Club in Washington

Page 2 of5

As we continue to work through the current turmoil, we must also identify and
address the weaknesses that caused, facilitated, and exacerbated the challenges in
our capital markets. In doing so, we will collectively strengthen market discipline,
mitigate systemic risk, restore investor confidence, and facilitate stable economic
growth.
Background
After years of benign financial conditions around the globe, many providers of
capital became complacent about risk. It manifested itself in many ways, including a
significant loosening of credit standards and investors reaching ever further for
yield.
For several months, we have witnessed our financial markets go through cycles
where there have been real strains followed by periods of improvement. A great
deal of de-leveraging is occurring, which has created liquidity challenges, thereby
compromising our credit markets' ability to facilitate economic activities.
It took a long time to build up the excesses, but we are working through the
consequences. Market participants are adjusting, disclosures are being made,
capital is being raised, and assets are being re-priced.
Finding examples of sectors, structures, or institutions that have experienced stress
has been fairly easy. But as I tell my children: 10 pOints for identifying the problem -that's the simple part; 90 points for finding the best solution.
In this case, it's 10 points for identifying the conditions that enabled the market
turmoil to start, and more importantly, spread. There's 90 points for coming up with
thoughtful recommendations, and extra credit for deft implementation.
Developing and implementing recommendations must happen thoughtfully as policy
makers and market participants must seek to avoid exacerbating current strains.
Given the diversity of our capital markets and the breadth of global participants, we
must begin with the recognition that no panacea exists to prevent the excesses of
the past from re-occurring.
Innovation I Securitization
Successful capital markets continually innovate, and one of the greatest examples
of financial innovation is the securitization of credit. Some have argued that
securitization is the problem. It's not that simple. The ability to securitize credit has
expanded the availability of credit for consumers, homeowners, and businesses both large and small. Securitization has stimulated competition, reduced the cost of
capital, and created more choice and flexibility for borrowers.
Prudent policy responses require an examination not just of overall processes such
as securitization, but a rigorous review of the underlying weaknesses. Working
closely with our colleagues comprising the President's Working Group on Financial
Markets (PWG), that is exactly what we have done. Last week, Secretary Paulson,
in his capacity as Chairman of the PWG, released a policy paper that diagnosed the
underlying weaknesses contributing to the turmoil in our capital markets and
specific recommendations to address them.
When implemented, these recommendations will change behavior and strengthen
our markets through greater risk awareness, enhanced risk management, strong
capital positions, prudent regulatory policies, and greater transparency.
Root Causes
This afternoon, I will briefly address the triggering events, but I will focus my
remarks on three of the underlying weaknesses that enabled the market turmoil to
spread.
The turmoil was triggered by an unexpected and alarming rate of mortgage

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delinquencies by loans originated from late 2004 through 2006. It is easy to identify
the weakness that enabled the turmoil to start - a breakdown in underwriting
standards for mortgage origination, particularly for sub-prime mortgages.
To address this weakness, the PWG recommended strengthening government
oversight of all entities that originate mortgages, the implementation of strong
nationwide licensing and enforcement standards for mortgage brokers, and a
stronger set of national rules for consumer protection and disclosure.
Challenges, however, were not limited to sub-prime mortgages. Financial market
innovation, interrelated markets, and broadening investment horizons - both from a
geographic and asset class perspective - linked the challenges across capital
structures and the globe. Every user or provider of capital has been impacted either directly or indirectly.
Other underlying weaknesses enabled the market turmoil to spread, and the PWG
has put forth specific recommendations to address each one, all of which call upon
market participants and regulators to make changes. Let me highlight three areas
where we need to see existing practices strengthened: credit ratings, disclosure,
and risk management.

Credit Rating Agencies and Ratings Practices
Credit rating agencies have been long-standing and important participants in the
financial markets, but their practices, particularly surrounding structured credit
products, warrant attention. That being said, the need for change regarding ratings
practices is not constrained to just the credit rating agencies. The weaknesses of
the rating agencies were compounded by investors over-relying on the rating
agencies' assessments and by the practices of other market participants, including
originators and securitizers.
The PWG put forth a series of recommendations regarding ratings practices that
focused on improving the quality and integrity of underlying data and models,
independence of the ratings process, and participant awareness of the purpose,
risk, and limits in utilizing ratings.
To start, rating assessments are dependent on the quality and integrity of the
underlying data received from both the originator of credit and the packager of
securitized products. As a result, the PWG has called for rating agencies to disclose
what qualitative reviews they perform on originators and for rating agencies to
require securitizers to represent the level and scope of due diligence performed on
the underlying assets.
Second, given the role they play, the rating agencies must have and enforce
policies and procedures that disclose and manage conflicts of interest.
There also exists the need for rating agencies to produce rating products that
provide the information investors need to make better informed decisions about
risk. The use of the same rating categories for both structured products and
corporate bonds facilitated investors' complacency. Investors acted as if they did
not appreciate that risk characteristics differed. They most certainly do differ, and
we need to see a clearer distinction made by the rating agencies, investors, and
regulators. One way of doing so could be a separate nomenclature, an identifying
suffix, or other information that highlights the unique risk characteristics of
structured credit products.
The PWG will facilitate the formation of a private-sector committee comprised of
investors, issuers, and rating agencies to develop additional recommendations that
issuers, rating agencies, and policymakers could implement to ensure the integrity
and transparency of ratings, and to foster appropriate use of ratings in risk
assessment.
We must also reduce investors' reliance on ratings. Investors also have a
responsibility to conduct independent analysis and must not rely solely on ratings.
Additionally, regulators must avoid creating an over-reliance on ratings through

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-IP-879: Assistant SccretalY Anthony W. Ryan <br>Remarks Before the Exchequer Club in Washington

Page 4 of 5

regulations and supervisory rules. At a minimum, regulators should systematically
distinguish between ratings of structured credit products and ratings of corporate
bonds in regulatory and supervisory policies, including regulatory capital
requirements that reference ratings. We need to see these recommendations
implemented, which will result in stronger rating processes and practices.
Disclosure
Markets also are challenged by the complexity and opacity of many securitized
products. Additional and clearer disclosure can enhance transparency, but
disclosure for the sake of disclosure is insufficient. The PWG has called for
additional disclosure by originators, underwriters, and credit rating agencies so that
investors have information available to better assess risk.
Part of good risk management is having good information. Let me share some
specific recommendations the PWG made with respect to disclosure.
Securitizers need to enhance disclosure regarding the originators of assets,
including, for example, asseSSing the originator's experience, quality of
management, underwriting standards, process by which loans are sourced, and
track record of providing accurate and robust information on originated assets. They
should also publicly disclose whether they engage in ratings shopping, and if they
do, disclose the reason for not publishing preliminary ratings.
The PWG also called on financial institutions to make more detailed and
comprehensive disclosures of off-balance sheet commitments, including
commitments to support ABCP conduits and other off-balance sheet vehicles.
To facilitate better disclosure, the PWG will ask a private-sector committee made up
of investors, rating agencies, and issuers to develop best practices regarding
disclosure.
Disclosure is only useful if it is understandable and acted upon. We must remember
that most of the buyers of these complex securities were professional, institutional
investors. Given the characteristics of many of the structures and securities,
investors must seek to excel in risk analysis and risk management as much as
return management.
Investors must obtain from issuers of securitized credits better information about
the risk characteristics of such credits, including the information about the
underlying asset pools, on both an initial and ongoing basis. Investing without
having the knowledge, expertise, systems, or personnel to assess risk, or not
receiving the information needed to overcome opacity, is a surefire way to lose a lot
of money. That's a game for speculators, not prudent investors.
Financial Institutions I Risk Management
One of the most important implications of the capital market turmoil has been the
balance-sheet pressure felt by our financial institutions. Bank capital has been
squeezed by losses associated with the value of securities they held; by balance
sheets swollen with credit products they were unable to sell; and by commitments
to provide liquidity and financing.
These developments can lead to a reduction in the supply of capital that financial
institutions provide to borrowers. Still, we are fortunate that financial institutions
came into this episode with healthy capital ratios and that many have raised
additional capital in recent weeks. We encourage them to continue doing so where
appropriate.
Much of this comes back to risk management. Again, identifying the root cause is
the easier part. We had regulatory policies, including capital requirements that
failed to mitigate certain risk management weaknesses. Here, market participants
and regulators at all levels need to be part of the solution. We need to see global
financial institutions promptly identify and address any weaknesses in risk
management practices that the current turmoil has revealed.

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[P-879: Assi~tunt Secretary Anthony W. Ryan <br>Remarks Before the Exchequer Club in Washington

Page 5 of 5

u.s. banking regulators and the SEC are developing common

guidance to address
risk management weaknesses, including improving stress testing, the governance
of the risk management and control framework, and internal risk reporting and
measurement.
We need to see improved risk management practices by investors, issuers, rating
agencies, and regulators alike. Risk management is everyone's business.

Conclusion
We will continually assess conditions and monitor how practices are changing. We
may put forward additional recommendations as events unfold and new insights are
gained.
Looking ahead, we expect practices to be different. Financial products will be less
complex and more transparent, and the mechanisms for dealing with complexity will
improve. This will include better credit rating practices, improved capital cushions,
better liquidity management, and enhanced disclosure and due diligence.
The recently released PWG policy recommendations represent our latest efforts,
and we remain engaged on other issues as well. In the weeks ahead, we will be
releasing a financial regulatory blueprint, and we anticipate that the private-sector
committees that the PWG established last September to develop best practices for
investors and hedge fund managers will publish their guidelines for public comment.
Collectively, these efforts will serve to enhance market efficiency and investor
protection, and help mitigate systemic risk.
At the U.S. Treasury Department, we are addressing both the current and strategic
challenges, and doing all we can to ensure high quality, competitive, and orderly
capital markets. We encourage the private sector to do the same. Thank you.
-30-

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IP-880: Secreiary Paulsun to Meet with Abu Dhabi and Singapore Officials on Sovereign Wealth Funds

Page 1 of

March 20, 2008
HP-880

Secretary Paulson to Meet with Abu Dhabi and Singapore Officials on
Sovereign Wealth Funds
Treasury Secretary Henry M. Paulson, Jr. and Deputy Secretary Robert M. Kimmitt
will welcome officials from the governments of Abu Dhabi and Singapore today to
the Treasury Department for a meeting to discuss issues surrounding sovereign
wealth funds, recipient country inward investment regimes, and efforts to develop
best practices. Joining Paulson will be Government of Abu Dhabi Executive
Council Member Hamad AI Hurr AI Suwaidi, ADIA Executive Director Hareb
Masood AI-Darmaki, Singapore Finance Minister Tharman Shanmugaratnam, and
GIC Deputy Chairman Tony Tan.
A photo op will take place at the conclusion of the meeting, at approximately 3:45
p.m. Contact Eileen Gilligan for more information at 202-622-1374 or
Eileen.Gilligan@do.treas.gov.
Following the meeting, Assistant Secretary for International Affairs Clay Lowery will
hold a pen and pad briefing.

Who
Treasury Assistant Secretary for International Affairs Clay Lowery
What
Pen-and-pad briefing on sovereign wealth fund meeting
When
Thursday, March 20, 4:15 p.m. EDT
Where
Treasury Media Room, 4121
Note: Media without Treasury press credentials should contact Frances Anderson
at (202) 622-2960, or Frances.Anderson@do.treas.gov with the following
information: full name, Social Security Number and date of birth. No cameras will
be permitted into the briefing.

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hp-881: Treasury Reaches Agreement on Principles for Sovereign Wealth Fund Investment with Singap... Page 1 of2

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March 20, 2008
hp-881

Treasury Reaches Agreement on Principles for Sovereign Wealth Fund
Investment with Singapore and Abu Dhabi
Washington, DC--Officials from the U.S. Treasury, the governments of Singapore
and Abu Dhabi, and sovereign wealth funds ADIA and GIC met today in
Washington, DC to discuss issues surrounding sovereign wealth funds, recipient
country inward investment regimes, and efforts to develop best practices. Joining
Treasury Secretary Henry M. Paulson, Jr. and Deputy Secretary Robert M. Kimmitt
were Government of Abu Dhabi Executive Council Member Hamad AI Hurr AI
Suwaidi, ADIA Executive Director Hareb Masood AI-Darmaki, Singapore Finance
Minister Tharman Shanmugaratnam and GIC Deputy Chairman Tony Tan.
"We had a good discussion today on the issues surrounding sovereign wealth
funds. Singapore and UAE have long-established, well-respected funds and are
showing real leadership by joining with us today. The U.S. welcomes sovereign
wealth fund investment and looks forward to continuing to work with these two
countries and others to support the initiatives underway at the IMF and OECD to
develop best practices for sovereign wealth funds and recipient countries," said
Paulson. "The principles we agreed to here today will further those efforts."

Following today's meeting the three nations released the following joint
statement and accompanying policy principles:
Sovereign wealth funds (SWFs) represent government-owned investment vehicles,
funded by foreign exchange assets and commodity export receipts, etc., which
invest internationally for financial objectives such as stabilization and
intergenerational savings.
The United States, Abu Dhabi, and Singapore, being a group of nations with SWFs
and a country receiving investments from SWFs, have a common interest in an
open and stable international financial system. We support the processes
underway in the International Monetary Fund (IMF) and the Organization for
Economic Cooperation and Development (OECD) to develop voluntary best
practices for SWFs and inward investment regimes for government-controlled
investment in recipient countries, respectively. International agreement on a set of
voluntary best practices will create a strong incentive among SWFs and investmentrecipient countries to hold themselves to high standards. We hope that the IMF and
OECD's work can build upon these basic principles:

Policy Principles for Sovereign Wealth Funds (SWFs)
1. SWF investment decisions should be based solely on commercial grounds,
rather than to advance, directly or indirectly, the geopolitical goals of the controlling
government. SWFs should make this statement formally as part of their basic
investment management policies.
2. Greater information disclosure by SWFs, in areas such as purpose, investment
objectives, institutional arrangements, and financial information - particularly asset
allocation, benchmarks, and rates of return over appropriate historical periods - can
help reduce uncertainty in financial markets and build trust in recipient countries.
3. SWFs should have in place strong governance structures, internal controls, and
operational and risk management systems.
4. SWFs and the private sector should compete fairly.
5. SWFs should respect host-country rules by complying with all applicable

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lp-881: Treasury Reaches Agreement on Principles for Sovereign Wealth Fund Investment with Singap ... Page 2 of2
regulatory and disclosure requirements of the countries in which they invest.

Policy Principles for Countries Receiving SWF Investment
1. Countries receiving SWF investment should not erect protectionist barriers to
portfolio or foreign direct investment.
2. Recipient countries should ensure predictable investment frameworks. Inward
investment rules should be publicly available, clearly articulated, predictable, and
supported by strong and consistent rule of law.
3. Recipient countries should not discriminate among investors. Inward investment
policies should treat like-situated investors equally.
4. Recipient countries should respect investor decisions by being as un intrusive as
possible, rather than seeking to direct SWF investment. Any restrictions imposed
on investments for national security reasons should be proportional to genuine
national security risks raised by the transaction.
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HP-882: Treasury Secretary Paulson to Host Press Briefing <br>on the Social Security and Medicare Tr... Page 1 of 1

March 21, 2008
HP-882
Treasury Secretary Paulson to Host Press Briefing
on the Social Security and Medicare Trustees Reports
Treasury Secretary and Managing Trustee Henry M. Paulson, Jr. will be joined by
members of the Social Security and Medicare Boards of Trustees for a press
briefing to discuss the release of the annual Trustees Reports on Tuesday.
Who
Secretary of Treasury and Managing Trustee Henry M. Paulson, Jr.
Secretary of Labor and Trustee Elaine L. Chao
Secretary of Health and Human Services and Trustee Michael Leavitt
Commissioner of Social Security and Trustee Michael J. Astrue
What
Press Conference to discuss Social Security and Medicare Trustees Reports
When
Tuesday, March 25, 2008, 2:00 p.m. EDT
Where
Treasury Department
Media Room (Room 4121)
1500 Pennsylvania Ave., NW
Washington, DC
Note
Copies of the Social Security and Medicare Trustees Reports will be available at
the briefing. A pen and pad background briefing will follow the press conference at
2:30 p.m. in the same room.
Media without Treasury press credentials should submit full name, Social Security
number, and date of birth to Frances Anderson at 202-622-2960 or
Frances.AngersQn@do.tr~c.I~.goy.

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HP-883: Treasury BlUauens Savings Opportunities for More Investors<br>New $100 Minimums for Tr

Page 1 of 1

-

March 21, 2008
HP-883

Treasury Broadens Savings Opportunities for More Investors
New $100 Minimums for Treasury Marketable Securities to Debut in April
Washington- The Treasury Department announced today that it would expand
savings opportunities for investors. Beginning with the 13- and 26-week bill auctions
of Monday, April 7, 2008, all Treasury marketable bills, notes, bonds and Treasury
Inflation-Protected Securities (TIPS) will be available to the public in minimum and
multiple amounts of $100. Marketable Treasury securities have been available in
$1,000 minimums and multiples since August 1998.
"U.S. Treasury securities, the world's safest, most liquid investments, should be
accessible to the broadest universe of investors- large and small. The new, lower
minimum Treasury amount will put marketable securities within reach of more
savers and investors in the United States and around the world," said Anthony
Ryan, Assistant Secretary of the Treasury for Financial Markets. "In addition, being
able to buy securities in $100 increments adds a new degree of flexibility for all
market participants."
All Treasury bills, notes, bonds and TIPS may now be sold and transferred in
multiples of $100. The new minimum and multiples will also apply to outstanding
Treasury marketable securities effective April 7, 2008. Previously, the securities
could only be transferred in increments of $1,000.
Treasury securities can be purchased non-competitively on original issue directly
from the Treasury after opening either a TreasuryDirect account online at
www.treasurydirect.gov or a Legacy Treasury Direct account. Securities can also
be obtained on either a competitive or non-competitive basis through bond brokers
and dealers. More information on how to purchase Treasury marketable securities
can be found on www,treasurydirect.gQv.
Additionally, the minimum and multiple par amount of Treasury securities that may
be stripped in the Separate Trading of Registered Interest and Principal of
Securities (STRIPS) program will be reduced to $100 beginning April 7, 2008.

-30-

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HP-884: RepOlllu CUIlgress on Financial Implications of U.S. Participation in the International Monetar... Page 1 of 1

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March 21, 2008
HP-884
Report to Congress on Financial Implications of U,S, Participation in the
International Monetary Fund

01 - 04 FY2007
REPORTS
•

(PDF) Report to Congress on Financial Implications of US Participation in
the International Monetary Fund

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4/4/2008

REPORT TO CONGRESS ON FINANCIAL IMPLICATIONS OF
U.S. PARTICIPATION IN
THE INTERNATIONAL MONETARY FUND
Q 1 - Q4 FY2007
This report has been prepared in compliance with Section 504(b) of Appendix E, Title V of the
Consolidated Appropriations Act for FY 2000. 1 The report focuses exclusively on the financial
implications of U.S. participation in the International Monetary Fund (IMF) and does not attempt
to quantify the broad and substantial economic benefits to the United States and the global
economy resulting from U.S. participation in the IMF.
As required, the report provides financial information on the net interest income and valuation
changes associated with U.S. participation in the IMF. The broader context for the financial
implications of U.S. participation in the IMF and the methodology used in deriving these figures
has been laid out in previous reports. The methodology is also summarized briefly in the
footnotes attached to the tables. Reports under Section 504(b) are prepared quarterly and made
available to the public on the Treasury website: http://www.treas.gov/press/reports.html.
This report provides quarterly data for the full fiscal year of2007. It provides information on
U.S. participation in the IMF's General Department as well as information related to U.S.
holdings of Special Drawing Rights (SDRs) as part of its international reserves and the financial
implications of U.S. participation in the SDR Department of the IMF.2
Data on the net interest income and valuation changes related to U.S. participation in the IMF's
General Department during the first to fourth quarters of fiscal year 2007 are provided in Table
1. For comparison purposes, the previous three fiscal years of data are also provided.
Similarly, data for net interest income and valuation changes related to U.S. participation in the
SDR Department of the IMF during the first to fourth quarters of fiscal year 2007 are provided in
Table 2. For comparison purposes, previously-reported data for the last three fiscal years are
also provided.
The table footnotes explain the columns shown and provide pertinent information and
assumptions used in the calculations.
As shown in Table 1, for the first to fourth quarters of fiscal year 2007, the financial implications
of U.S. participation in the General Department reflected a net interest income effect of$103
Section S04(b) of Appendix E, Title V of the Consolidated Appropriations Act for FY 2000, Public Law 106-113,
113 Stat. ISOIA-317, requires that the Secretary of the Treasury prepare and transmit to the appropriate committees
of the Congress a quarterly report on United States participation in the International Monetary Fund (IMF), detailing
the costs or benefits to the United States as well as valuation gains or losses on the United States' reserve position in
the IMF.
2 Th·e SDR is an international reserve asset created by the IMF. The SDR is used as a unit of account by the IMF
and other international organizations. Its value is determined as a weighted average of a basket of currencies -- the
dollar, euro, pound sterling and yen. The SDR carries a market-based interest rate determined on the basis of a
weighted average of interest rates on short-term instruments in the markets of the currencies included in the SDR
valuation basket.
I

million. The valuation change in the U.S. Reserve Position for the first to fourth quarters of
fiscal year 2007 was $259 million. 3
As shown in Table 2, for the first to fourth quarters of fiscal year 2007, the net interest income
effect of U.S. participation in the SDR Department was negative $14 million. The valuation
change on U.S. SDR holdings for the first to fourth quarters of fiscal year 2007 was $81 million. 4

Attachments

3 For an explanation of the methodology used in deriving these figures, see the section on "Calculating the Financial
Implications of U.S. Participation in the General Department" in the report prepared for the fourth quarter of fiscal
year 2000, submitted in December 2000 and available at http://www.treas.gov/press/releases/report3073.htm
4 For an explanation of the methodology used in deriving these figures, see the section on "Calculating the Financial
Implications of U.S. Participation in the SDR Department" in the report prepared for the fourth quarter of fiscal year
2000, submitted in December 2000 and available at http://www.treas.gov/press/releases/report3073.htm.

2

Net Interest Income and Valuation Changes Related to U.S. Participation in the IMF

Table 1

-- General Department --

u.s. Fiscal Year, Quarterly
(millions of U.S. Dollars)
Transactions "ith the I !\I F

Transactions under U.S. U.S. Loans to IMF
Quota (Letter of Credit (Under SFF, GAB,
&Transfers of Reserve
NAB)
Assets) Cumulative
Fiscal Year Ended 9/30
Cumulative

Total U.S.
Transactions with
the IMF/I

Interest Expense
Associated wltb
Financing U.S.
Transactions witb
theIMF

Remuneration
Received by U.S. Interest Received by
fromIMF&
U.S. from IMF
Refund of Burden
under SFF, GAB,
Sbaring
and NAB

(Col 1+2)
Col.I

Col. 2

.Wt!MiUJiM _

Interest Calculations

Col. 3

Net Interest
Income

Valuation Cbanges
on U.S. Reserve
Position

Col. 4

Col.5

Col.6

Col. 7

Total
(Col 7+8)

(Col. 4+5+6)
Col. 8

Col. 9

2004
Q1: Oct - Dec 03
Q2: Jan - Mar 04
Q3: Apr -June 04
Q4: July -Sept 04
Total

-$16.702
-15,886
-14,530
-13,867

$0
0
0
0

-$16,702
-15,886
-14,530
-13,867

-$65
-58
-60
-67
-5249

$78
79
69
74
5300

$0
0
0
0
50

$13
21
9
7
550

$903
-78
-220
43
5648

$916
-57
-211
50
5698

2005
QI: Oct - Dec 04
Q2: Jan - Mar 05
Q3: Apr -June 05
Q4: July -Sept 05
Total

-$12,882
-9,119
-9,677
-7,772

$0
0
0
0

-$12,882
-9,119
-9,677
-7,772

-$73
-$53
-$59
-$51
-5237

$82
$88
$71
$75
5316

$0
$0
$0
$0
50

$9
$35
$12
$24
579

$1,026
-440
-565
-75
-554

$1,035
-405
-553
-51
525

-2,660
-1,947
-2,296
-1,023

0
0
0
0

-2,660
-1,947
-2,296
-1,023

-$41
-$18
-$14
-$12

$69
$58
$40
$42

$0
$0
$0
$0

$29
$41
$26
$30

-159
69
179
18

-130
110
205
48

-585

5210

50

5125

5107

5232

$0
$0
-$2
-$2

$36
$27
$23
$20

$0
$0
$0
$0

$36
$27
$21
$18

100
18
21
120

136
45
42
138

-54

5107

50

5103

5259

5362

2006
Q1: Oct - Dec 05
Q2: Jan - Mar 06
Q3: Apr -June 06
Q4: July -Sept 06
Total
2007
Ql:
Q2:
Q3:
Q4:

Oct - Dec 06
Jan - Mar 07
Apr -June 07
July -Sept 07

658
822
-548
1,395

Total
Nole: Delail may nol add 10 lolal due 10 rounding.

0
0
0
0

658
822
-548
1,395

Table 2

Net Interest and Valuation Changes Related to U.S. Participation in the IMF
-- SDR Department -U.S. Fiscal Year, Quarterly
(millions of U.S. Dollars)
Net SDR Holdings

Fiscal Year Ended
9/30

Interest Calculations

Dollar Value of
SDR Holdings

Dollar Value of
Cumulative SDR
Allocation

Col. 1

Col. 2

Col. 3

NetSDR
Holdings
(Col. 1- 2)

Interest Expense
Associated with
Interest Income
Financing
on NetSDR
Cumulative U.S.
Holdings
SDR Transactions

Col. 4

Col. 5

2004
Ql:
Q2:
Q3:
Q4:
Total

Oct - Dec 03
Jan - Mar 04
Apr - June 04
July - Sept 04

$12,638
12,645
12,659
12,782

$7,281
7,228
7,184
7,197

$5,357
5,417
5,475
5,585

$20
21
21
24
$87

-$17
-17
-20
-25
-$79

2005
QI:
Q2:
Q3:
Q4:
Total

Oct - Dec 04
Jan - Mar 05
Apr - June 05
July - Sept 05

$13,628
11,565
11,243
8,245

$7,609
7,402
7,137
7,102

$6,019
4,162
4,106
1,143

$29
33
26
26
$114

$8,210
$8,344
$8,618
$8,655

$7,003
$7,059
$7,248
$7,234

$1,207
$1,284
$1,369
$1,421

$8,870
$8,948
$9,018
$9,301

$7,371
$7,399
$7,426
$7,627

$1,499
$1,548
$1,592
$1,674

2006
Q I : Oct - Dec 05
Q2: Jan - Mar 06
Q3: Apr - June 06
Q4: July - Sept 06
Total
2007
QI:
Q2:
Q3:
Q4:
Total

Oct - Dec 06
Jan - Mar 07
Apr - June 07
July - Sept 07

Net Interest
Income
(Col. 4 + 5)

Valuation
Changes

Col. 6

Col. 7

$3
5

Total
(Col. 6 + 7)
Col. 8

-1
$8

$199
-39
-33
10
$137

$202
-34
-32
10
$145

-$34
-29
-32
-10
-$106

-$5
3
-6
16
$8

$319
-163
-149
-20
-$14

$315
-160
-155
-4
-$5

$11
$9
$11
$13
$44

-$12
-$15
-$17
-$18
-$62

-$1
-$5
-$6
-$5
-$17

-$16
$10
$34
-$3
$25

-$17
$5
$29
-$8
$8

$14
$15
$16
$18
$63

-$19
-$20
-$20
-$19
-$77

-$5
-$4
-$4
-$1
-$14

$27
$6
$6
$43
$81

$22
$1
$2
$42
$68

HP-885: Paulson Statcn'let'l.t on Ft:lleral Housing<br> Finance Board Action to Help Mortgage Market

Page 1 of 1

March 24, 2008
HP-885
Paulson Statement on Federal Housing
Finance Board Action to Help Mortgage Market
Washington - Treasury Secretary Henry M. Paulson, Jr. made the following
statement today regarding the Federal Housing Finance Board's decision to allow
the Federal Home Loan Banks to bring temporary relief to the mortgage market
"The targeted decision by the Federal Housing Finance Board to enable the
Federal Home Loan Banks to assist temporarily in this period of stress, consistent
with safe and sound operations, will bring more liquidity to the mortgage market"

-30-

http://www.treas.gov/press/releases/hp885.btm

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lp-886: Statement by Secretary Henry M. Paulson, lr. <br>on the 2008 Social Security and Medicare T...

Page I 0[2

10 view or pnnt the /-'Ur content on this page, aOWn/oaa the tree Aaobe® Acrooat® Heaaer®.

March 25, 2008
hp-886
Statement by Secretary Henry M. Paulson, Jr.
on the 2008 Social Security and Medicare Trust Fund Reports
Washington--The Social Security and Medicare Boards of Trustees met this
afternoon to complete their annual financial review of the programs and to transmit
the Trustees Reports to Congress. I welcome my Cabinet colleagues.
For decades, Social Security and Medicare have provided vital support for millions
of Americans. As the baby boom generation moves into retirement, these programs
face progressively larger financial challenges. If we do not take action soon to
reform Social Security and Medicare, the coming demographic bulge will jeopardize
the ability of these programs to support people who depend on them. Without
change, rising costs will drive government spending to unprecedented levels,
consume nearly all projected federal revenues, and threaten America's future
prosperity. Our Nation needs a bipartisan effort to strengthen both programs for
futu re reti rees.
This year's Social Security Report again demonstrates that the Social Security
program is financially unsustainable and requires reform. In fewer than 10 years,
cash flows are projected to turn negative--meaning that we will draw upon general
revenues to support withdrawals from the Trust Funds in order to pay current
benefits. The Trust Funds are projected to be exhausted in 2041, the same as
projected in last year's Report. Reform is needed and time is of the essence. The
longer we delay, the larger the required adjustments will be and the more heavily
the burden of those adjustments will fallon future generations.
Social Security's unfunded obligation--the difference between the present values of
Social Security inflows and outflows less the existing Trust Fund--equals $4.3 trillion
over the next 75 years and $13.6 trillion on a permanent basis. To make the system
whole on a permanent basis, the combined payroll tax rate would have to be raised
immediately by 26 percent (from 12.4 percent to about 15.6 percent), or benefits
reduced immediately by 20 percent.
This Report confirms the need for action; the sooner we take action to strengthen
Social Security's financial footing, the less drastic the needed reforms will be, and
the fairer reforms will be to future generations. President Bush has called for
bipartisan solutions that generate a permanently sustainable Social Security
system. The President has put forward a number of well-considered ideas. We now
need serious and thoughtful engagement from all sides to make sure Social
Security is strengthened and sustained for future generations.
The 2008 Medicare Trustees Report shows that the Medicare program poses a far
greater financial challenge than Social Security. Medicare faces the same
demographic trends as Social Security, and, in addition, the system must cope with
expected large increases in health care costs. Medicare's annual costs were 3.2
percent of GDP in 2007, or nearly three-quarters of Social Security's, but are
projected to surpass Social Security expenditures in 2028 and reach nearly 11
percent of GDP in 2082, compared to 5.8 percent for Social Security.
Cash flow for the Hospital Insurance (HI) Trust Fund is projected to be negative this
year and for all subsequent years. The HI Trust Fund is projected to become
insolvent in 2019, the same as projected in last year's Report.
The Supplementary Medical Insurance (SMI) Trust Fund, which includes Part B for
outpatient services and the new Part D prescription drug benefit, is financed in large

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lp-886: Statement by Secretary Henry M. Paulson, Jr. <br>on the 2008 Social Security and Medicare Too.

Page 2 of2

part by general revenues as well as beneficiary premiums. SMI expenditures are
projected to increase rapidly, resulting in growing pressures on future federal
budgets and, in turn, the U.S. economy. General revenue financing for SMI is
expected to increase from about 1.3 percent of GOP in 2007 to over 4 percent in
2082, with continued increases beyond 75 years.
Today, seniors allover America have guaranteed access to affordable prescription
drug coverage. The market-based structure of the new prescription drug benefit
appears to be working. Average premiums for Part 0 have come down again this
year.
The facts are clear: the sooner Social Security and Medicare are reformed, the
fairer reforms will be to future generations. The serious concerns raised by the
Trustees Reports demand the attention of America's pOlicymakers and the public.
Americans who will depend on Social Security and Medicare expect us to address
the long-term funding issues. Successful long-term reform of these programs is a
shared responsibility and we all have to rise to the challenge.
-30REPORTS

•
•
•

Medicare Report
Social Security Report
Summary of Reports

http://www.treas.gov/press/releases/hp886.htm

4/412008

A MESSAGE TO THE PUBLIC:
Each year the Trustees of the Social Security and Medicare trust funds
report on the current and projected financial status of the two programs.
This message summarizes our 2008 Annual Reports.
The financial condition of the Social Security and Medicare programs
remains problematic. Projected long run program costs are not sustainable under current financing arrangements. Social Security s current
annual surpluses of tax income over expenditures will begin to decline in
2011 and then turn into rapidly growing deficits as the baby boom generation retires. Medicare sfinancial status is even worse. This year Medicare s Hospital Insurance (HI) Trust Fund is expected to payout more in
hospital benefits and other expenditures than it receives in taxes and
other dedicated revenues. The difference will be made up from general
revenues which pay for interest credits to the Trust Fund. Growing annual
deficits are projected to exhaust HI reserves in 2019 and Social Security
reserves in 2041. In addition, the Medicare Supplementary Medical
Insurance (SMI) Trust Fund that pays for physician services and the prescription drug benefit will continue to require general revenue financing
and charges on beneficiaries that grow substantially faster than the economy and beneficiary incomes over time.
The drawdown of Social Security and HI Trust Fund reserves and the
general revenue transfers into SMI will result in mounting pressure on the
Federal budget. In fact, pressure is already evident. For the second consecutive year, a "Medicare funding warning" is being triggered, signaling that non-dedicated sources of revenues-primarily general
revenues-will soon account for more than 45 percent ofMedicare s outlays. The President recently proposed remedial action pursuant to the
warning in last year s report and, in accordance with Medicare statute, a
Presidential proposal will be needed in response to the latest warning.
We are increasingly concerned about inaction on the financial challenges
facing the Social Security and Medicare programs. The longer action is
delayed, the greater will be the required adjustments, the larger the burden on future generations, and the more severe the detrimental economic
impact on our nation.

Medicare
As we reported last year, Medicare sfinancial difficulties come soonerand are much more severe-than those confronting Social Security. While

both programs face demographic challenges, rapidly growing health care
costs also affect Medicare. Underlying health care costs per enrollee are
projected to rise faster than the wages per worker on which payroll taxes
and Social Security benefits are based. As a result, while Medicare s
annual costs were 3.2 percent ofGDP in 2007, or nearly three quarters of
Social Security s, they are projected to surpass Social Security expenditures in 2028 and reach 10.8 percent ofGDP in 2082.
Moreover, this is the second consecutive year that the Medicare Report
triggers a Medicare funding warning. Under the Medicare Prescription
Drug, Improvement, and Modernization Act of 2003 the Medicare Report
must include a determination of whether the difference between total
Medicare outlays and dedicated financing (such as premiums and payroll
taxes) exceeds 45 percent of total outlays within the first 7 years of the
projection period (2008-2014 for the 2008 Report). The Act provides that
an affirmative determination in two consecutive reports be treated as a
'funding warning" for Medicare that would, in turn, prompt a Presidential proposal to respond to the warning and expedited Congressional consideration of such proposal. The 2008 Report projects that the difference
will surpass 45 percent in 2014 and therefore again makes a determination of excess general revenue funding (as prior Reports did in 2006 and
2007). This determination triggers the second consecutive Medicare funding warning. Under the provisions of the 2003 Act, this calls for a Presidential proposal to respond to the warning within 15 days of the
submission of the Fiscal Year 2010 budget andfor Congress to consider
the proposal on an expedited basis. This provision is expected to bring
additional attention to Medicare s impact on the Federal budget.
The projected 75-year actuarial deficit in the Hospital Insurance (HI)
Trust Fund is now 3.54 percent oftaxable payroll, down slightly from 3.55
percent projected in last year s report. Were it not for new methods for
projecting immigration that were implemented this year, the HI actuarial
deficit would have increased rather than decreased. Despite the slight
improvement, the fund again fails our test ofshort-range financial adequacy, as projected annual assets drop below projected annual expenditures within 10 years-by 2013. The fund also continues to fail our longrange test ofclose actuarial balance by a wide margin. The projected date
ofHI Trust Fund exhaustion is 2019, the same as in last year s report,
when dedicated revenues would be sufficient to pay only 78 percent of HI
costs. Projected HI dedicated revenues fall short of outlays in this and all
future years. The Medicare Report shows that the program could be
brought into actuarial balance over the next 75 years by an immediate

122 percent increase in the payroll tax (from 2.9 percent to 6.44 percent),
or an immediate 51 percent reduction in program outlays or some combination of the two. As with Social Security, adjustments ofgreater magnitude would be necessary if changes are delayed or phased in gradually.
Larger changes would also be required to make the program solvent on a
sustainable basis beyond the 75-year horizon.
Part B of the Supplementary Medical Insurance (SMI) Trust Fund, which
pays doctors' bills and other outpatient expenses, and Part D, which pays
for access to prescription drug coverage, are both projected to remain
adequately financed into the indefinite future because current law automatically provides financing each year to meet next year s expected costs.
However, expected steep cost increases will result in rapidly growing general revenuefinancing needs-projected to risefrom 1.3 percent ofGDP
in 2007 to 4.5 percent in 2082-as well as substantial increases over time
in beneficiary premium charges.
Social Security

The annual cost of Social Security benefits represented 4.3 percent of
Gross Domestic Product (GDP) in 2007 and is projected to increase to
6.1 percent ofGDP in 2035, and then decline to 5.8 percent ofGDP by
2048 and remain at that level. The projected 75-year actuarial deficit in
the combined Old-Age and Survivors and Disability Insurance (OASDI)
Trust Fund is 1.70 percent of taxable payroll ($4.3 trillion in present
value terms), down from 1.95 percent projected in last year s report. This
decrease is due primarily to changes in projection methods. Although the
combined OASDI program passes our short-range test offinancial adequacy, the Disability Insurance Trust Fund does not; in addition, OASDI
continues to fail our long-range test of close actuarial balance by a wide
margin. Projected OASDI tax income will begin to fall short of outlays in
2017, and will be sufficient to finance only 78 percent of scheduled
annual benefits in 2041, after the combined OASDI Trust Fund is projected to be exhausted.
Social Security could be brought into actuarial balance over the next
75 years in various ways, including an immediate increase of 14 percent
in payroll tax revenues (from 12.4 percent to 14.1 percent) or an immediate reduction in benefits of 12 percent or some combination of the two.
Ensuring that the system is solvent on a sustainable basis beyond the next
75 years would require larger changes, because an aging population and
increaSing longevity cause the projected current-law OASDI cash-flow

deficits to be substantially larger after the 75-year projection period than
they are on average during the period.
The projected actuarial deficit in the OASDI Trust Fund over the infinite
future is 3.2 percent of taxable payroll (1.1 percent ofGDP), or $13.6 trillion in present value terms. The system could be brought into actuarial
balance over this time horizon with an immediate increase in payroll tax
revenues of 2 6 percent (from 12.4 percent to 15.6 percent) or an immediate reduction in benefits of 20 percent, or some combination of the two.
Conclusion

The financial difficulties facing Social Security and Medicare pose enormous challenges. The sooner these challenges are addressed, the more
varied and less disruptive their solutions can be. We urge the public to
engage in informed discussion and po licym akers to think creatively about
the changing needs and preferences of working and retired Americans. A
national conversation and timely political action are essential to ensure
that Social Security and Medicare continue to playa critical role in the
lives of all Americans.
By the Trustees:
Henry M Paulson, Jr.,
Secretary of the Treasury,
and Managing Trustee

Elaine L. Chao,
Secretary ofLabor,
and Trustee

Michael O. Leavitt,
Secretary ofHealth
and Human Services,
and Trustee

Michael J. Astrue,
Commissioner of
Social Security,
and Trustee

A SUMMARY OF THE 2008 ANNUAL SOCIAL SECURITY
AND MEDICARE TRUST FUND REPORTS
Who Are the Trustees? There are six Trustees, four of whom serve by
virtue of their positions in the Federal Government: the Secretary of the
Treasury, the Secretary of Labor, the Secretary of Health and Human Services, and the Commissioner of Social Security. The other two Trustees
are public representatives appointed by the President, subject to confirmation by the Senate. The two Public Trustee positions are currently vacant.

What Are the Trust Funds? Congress established the trust funds in the
U.S. Treasury to account for all program income and disbursements.
Social Security and Medicare taxes, premiums, and other income are
credited to the funds. Disbursements from the funds can be made only to
pay benefits and program administrative costs.
The Department of the Treasury invests program revenues not needed in
the current year to pay benefits and administrative costs in special nonmarketable securities of the U.S. Government on which a market rate of
interest is credited. Thus, the trust funds represent the accumulated value,
including interest, of all prior program annual surpluses and deficits, and
provide automatic authority to pay benefits.
There are four separate trust funds. For Social Security, the Old-Age and
Survivors Insurance (OASI) Trust Fund pays retirement and survivors
benefits, and the Disability Insurance (DI) Trust Fund pays disability benefits. (The two trust funds are often considered on a combined basis designated OASDI.) For Medicare, the Hospital Insurance (HI) Trust Fund
pays for inpatient hospital and related care. The Supplementary Medical
Insurance (SMI) Trust Fund comprises two separate accounts: Part B,
which pays for physician and outpatient services, and Part D, which covers the prescription drug benefit.

What Were the Trust Fund Results in 2007? In December 2007,
40.9 million people received OASI benefits, 8.9 million received DI benefits, and 44.1 million were covered under Medicare. Trust fund operations, in billions of dollars, are shown below (totals may not add due to
rounding). All four trust funds showed net increases in assets in 2007.
Assets (end of2006) .............. .
Income during 2007 ............... .
Outgo during 2007 ................ .
Net increase in assets . . . . . . . . . . .
Assets (end of 2007) .............. .

OASI
$1,844.3
675.0
495.7
179.3
2,023.6

DI
$203.8
109.9
98.8
11.1
214.9

HI
$305.4
223.7
203.1
20.7
326.0

SMI
$33.1
238.2
228.5
9.7
42.9

How Has the Financial Outlook for Social Security and Medicare
Changed Since Last Year? Under the intermediate assumptions, the
combined OASDI Trust Funds show a 75-year actuarial deficit equal to
1.70 percent of taxable payroll, 0.26 percentage point smaller than last
1

year's estimate. The difference is due mainly to changes in methods used
to project immigration. The revised methods result in persistently lower
projected costs as a percentage of payroll. Over the infinite horizon, the
actuarial deficit is 3.2 percent of projected payroll, 0.3 percentage point
smaller than last year. The OASI Trust Fund and the combined OASI and
DI Trust Funds are adequately financed over the next 10 years. The DI
Trust Fund is expected to remain solvent over the next 10 years, but does
not meet the short-range test for financial adequacy because its assets are
projected to fall short of 100 percent of annual expenditures, reaching
95 percent at the end of 2017.
Medicare's HI Trust Fund has a projected 75-year actuarial deficit equal
to 3.54 percent of payroll under the intermediate assumptions, nearly the
same as reported last year (3.55 percent). The HI Trust Fund is expected
to remain solvent over the next 10 years, but does not meet the shortrange test of financial adequacy; its assets are projected to fall short of
100 percent of annual expenditures by 2013. If the annual growth in HI
expenditures averages 7.4 percent during 2008-17 as expected, HI Trust
Fund assets would fall to 39 percent of annual HI expenditures in 2017.
The SMI Trust Fund is adequately financed under current law because of
the automatic financing established for Medicare Parts Band D. Nonetheless, projected SMI cost growth over the long term will require increases
in enrollee premiums and general revenue funding that will average about
6.5 percent annually, placing an ever-increasing burden on beneficiaries
and Federal revenues.
This year's Medicare Trustees Report is the third consecutive report in
which the annual general revenue funding contribution to total Medicare
expenditures is projected to exceed 45 percent within the first 7 years of
the 75-year projection period. This result triggers another "Medicare
funding warning."
How Are Social Security and Medicare Financed? For OASDI and HI,
the major source of financing is payroll taxes on earnings that are paid by
employees and their employers. The self-employed are charged the equivalent of the combined employer and employee tax rates. During 2007, an
estimated 163 million people had earnings covered by Social Security and
paid payroll taxes; for Medicare the corresponding figure was 168 million
people. The payroll tax rates are set by law and for OASDI apply to earnings up to an annual maximum ($102,000 in 2008) that increases with the
growth in the nationwide average wage. HI taxes are paid on total earnings. The payroll tax rates (in percent) for 2008 and later are:
OASI
5.30
Employees ......
5.30
Employers ......
Combined total ... 10.60

DI
0.90
0.90
1.80
2

OASDI
6.20
6.20
12.40

HI
1.45
1.45
2.90

Total
7.65
7.65
15.30

About 75 percent of SMI Part B and Part D expenditures are paid from
Federal general fund revenues, with most of the remaining costs covered
by monthly premiums charged to enrollees. Part B and Part D premium
amounts are based on methods defined in law and increase as the estimated costs of those programs rise.
In 2008, the Part B standard monthly premium paid by most enrollees is
$96.40. During 2007-09, an income-related premium surcharge is being
phased in for Part B beneficiaries whose modified adjusted gross income
exceeds inflation-indexed thresholds (in 2008, $82,000 for individual tax
returns, $164,000 for joint returns).
In 2008, the Part D "base monthly premium" is $27.93. (Actual premium
amounts charged to Part D beneficiaries depend on the specific plan in
which they are enrolled and average $25 for standard coverage in 2008.)
Part D also receives payments from States for the Federal assumption of
Medicaid responsibilities for prescription drug costs for individuals eligible for both Medicare and Medicaid. In 2008, State payments are estimated to cover 14 percent of Part D costs, but that percentage is projected
to decline to 10 percent by 2014 as the State requirement decreases.
Income to each trust fund, by source, in 2007 is shown in the table below
(totals may not add due to rounding).
Source (in billions)
Payroll taxes ...........
General fund revenue ....
Interest earnings. . . . . . . . .
Beneficiary premiums ....
Taxes on benefits ........
Other .................
Total ..................

OASI
$560.9

DI
$95.2

97.0

13.2

17.2

1.4

*

*

675.0

109.9

HI
$191.9
0.6
16.5
2.8
10.6
1.3
223.7

SMI
$178.4
2.2
50.6
7.0
238.2

* Less than $50 million.
What Were the Administrative Expenses in 2007? Administrative
expenses, as a percentage of total expenditures, were:
OASI
Administrative expenses 2007. .. 0.6

DI
2.5

HI
1.4

SMI
1.5

How Are Estimates of the Trust Funds' Future Status Made?
Short-range (lO-year) and long-range (75-year) projections are reported
for all funds. Estimates are based on current law and assumptions about
factors that affect the income and outgo of each trust fund. Assumptions
include economic growth, wage growth, inflation, unemployment, fertilty,

3

immigration, and mortality, as well as factors relating to disability incidence and the cost of hospital, medical, and prescription drug services.
Because the future is inherently uncertain, three alternative sets of economic, demographic, and programmatic assumptions are used to show a
range of possibilities. The intermediate assumptions (alternative II) reflect
the Trustees' best estimate of future experience. The low-cost alternative I
is more optimistic for trust fund financing, and the high-cost alternative
III is more pessimistic; they show trust fund projections for more and less
favorable conditions for trust fund financing than the best estimate. The
assumptions are reexamined each year in light of recent experience and
new information about future trends, and are revised as warranted. In general, greater confidence can be placed in the assumptions and estimates
for earlier projection years than for later years. The statistics and analysis
presented in this Summary are based on the intermediate assumptions.

What is the Short-Range Outlook (2008-2017) for the Trust Funds?
For the short range, the adequacy of the OASI, DI, and HI Trust Funds is
measured by comparing their assets at the beginning of a year to projected
costs for that year (the "trust fund ratio"). A trust fund ratio of 100 percent
or more-that is, assets at least equal to projected benefit payments for a
year-is considered a good indicator of a fund's short-term adequacy.
That level of projected assets for any year means that even if expenditures
exceed income, the trust fund reserves, combined with annual tax revenues, would be sufficient to pay full benefits for several years, allowing
time for legislative action to restore financial adequacy.
By this measure, the OASI Trust Fund is financially adequate throughout
the 2008-2017 period, but the DI Trust Fund fails the short-range test
because its trust fund ratio falls below 100 percent by the end of 20 17.
The HI Trust Fund also does not meet the short-range test of financial
adequacy, with assets projected to fall below 100 percent of one year's
outgo by 2013. Chart A shows these trust fund ratios under the intermediate assumptions through 2025.
For SMI Part B, a less stringent annual "contingency reserve" asset test
applies because the major portion of the financing for that account is provided by beneficiary premiums and Federal general fund revenue payments automatically adjusted each year to meet expected costs. Part Dis
similarly financed on an annual basis. Moreover, the operation of Part D
through private insurance plans, together with a flexible appropriation for
Federal costs, eliminates the need for a contingency reserve in that
account. Note, however, that the cost estimates for Part B are very likely
to be too low for 2008 and ensuing years (perhaps by 10 to 20 percent in
the long range) because they assume that current law governing the structure of physician payment updates will persist. That would lead to substantial reductions in physician payments per service during 2008-17 and
slow the growth of projected Part B costs.
4

Chart A-OASI, DI, and HI Trust Fund Ratios
[Assets as a percentage of annual expendituresJ

500%r-----------~--~----~----~,_----------~

Historical:

450%
400%

Estimated

--OASI
- - - - DI

350%

HI

300%
250%
200%
150%

.. .. .

...

,

100%

,

50%
,

!

O%~~~~~~~~~~~~~~~~~~~~~~

1970 1975 1980 1985 1990 1995 2000 2005 2010 2015 2020 2025
Calendar year

For each year since 2001, Congress has passed legislation to maintain or
increase physician payments rather than allow the current law reductions.
Thus, experience indicates that the scheduled reductions are unlikely to
occur before legislative intervention. The understated physician payments
affect projected costs for Part B, total SMI, and total Medicare.
The following table shows the projected income and outgo, and the
change in the balance of each trust fund (except for SMI) over the next 10
years. SMI income and expenditures are shown in separate columns for
Parts Band D. Changes in the SMI Trust Funds are not shown because of
the automatic annual adjustments in program income to meet the following year's projected expenditures.
ESTIMATED OPERATIONS OF TRUST FUNDS
(In billions-totals may not add due to rounding)
Expenditures
Change in fund
Income
SMI
SMI
Year OASI DI
HI
B
D OASI DI HI
B
HI
D OASI DI
-----------------

2008
2009
2010
2011
2012
2013
2014
2015
2016
2017

$708 $112
755 118
801 124
848 129
897 135
947 141
998 147
1,050 152
1,103 158
1,159 164

$221
247
259
271
283
296
309
322
335
348

$213
220
192
218
232
255
264
307
277
330

$52 $516 $108 $230
62 545 115 246
68 578 122 260
75 615 129 276
84 657 137 295
92 704 145 316
102 755 153 338
114 810 161 361
127 869 170 387
142 931 179 415
5

$187
194
205
216
229
251
261
278
298
325

$52
62
68
75
84
92
102
114
127
142

$192 $4
210
3
223
2
233
1
240 -2
243 -4
242 -6
239 -9
235 -12
228 -15

$-8
1
-2
-5
-11
-19
-28
-40
-52
-67

What is the Long-Range (2008-2082) Outlook for Social Security and
Medicare Costs? An instructive way to view the projected cost of Social
Security and Medicare is to compare the financing required to pay all
scheduled benefits for the two programs with the gross domestic product
(GDP), the most frequently used measure of the total output of the U.S.
economy. Costs for both programs rise steeply between 2010 and 2030
because the number of people receiving benefits will increase rapidly as
the large baby-boom generation retires (Chart B). During those years, cost
growth for Medicare is higher than for Social Security because of the rising cost of health services, increasing utilization rates, and anticipated
increases in the complexity of services. Beyond 2030, Social Security
costs increase slowly for about 5 years, reaching a peak of 6.1 percent of
GDP in the middle of the decade. Costs then decline slightly over the following decade to about 5.8 percent ofGDP where they remain for the last
35 years of the projection period. In contrast, Medicare costs continue to
grow rapidly after 2030 due to expected increases in the cost of health
care.
Chart B-Social Security and Medicare Cost as a Percentage of GDP
12%

~-------~---------------

-- -----

ID+SMI
(including Part D)

10% -

Historical

Estimated

8%
6%
OASI + DI

4%
2%

1970 1980 1990 2000 2010 2020 2030 2040 2050 2060 2070 2080
Calendar year

The projected cost outlook for Social Security and Medicare has
improved relative to that described in last year's report. In 2007, the combined cost of the Social Security and Medicare programs represented
about 7.5 percent of GDP. Social Security outgo amounted to 4.3 percent
ofGDP in 2007 and is projected to increase to 5.8 percent ofGDP in 2082
(compared to 6.3 percent in 2081 last year). Medicare's cost was smaller
in 2007-3.2 percent of GDP- but is projected to surpass the cost of
Social Security in 2028, growing to 10.8 percent of GDP in 2082 (compared to 11.3 percent in 2081 last year) when it will be 85 percent larger
6

than Social Security's cost. In 2082, the combined cost of the programs
would represent 16.6 percent of GDP. As a point of comparison, in 2007
all Federal receipts amounted to 19.6 percent ofGDP.
What is the Outlook for OASDI and HI Costs Relative to Tax
Income? Both Medicare and Social Security costs are projected to grow
substantially faster than the economy over the next several decades, but
tax income to the HI and OA~DI Trust Funds will not. Because the primary source of income for HI and OASDI is the payroll tax, it is customary to compare the programs' income and costs expressed as percentages
of taxable payroll. These income and cost rates are shown in Chart C.
Although both the HI and OASDI annual cost rates increase markedly
from their 2007 levels (3.11 and 11.26 percent), income rates increase
very little over the long run. The reason is that payroll tax rates are not
scheduled to change and income from the other tax source, taxation of
OASDI benefits, will increase only gradually as a greater proportion of
beneficiaries is subject to taxation in future years.
Chart C-Income and Cost Rates
[Percentage of taxable payroll}
20%

Estimated

Historical

OASDI

15%

10%
-~-----~·

5%

b

~~.

- -I

Income rates
-Cost rates

HI

1970 1980 1990 2000 2010 2020 2030 2040 2050 2060 2070 2080
Calendar year

What is the Long-Range Actuarial Balance of the OASI, DI, and HI
Trust Funds? The traditional way to view the outlook of the payroll tax
financed trust funds is in terms of their actuarial balances for the 75-year
valuation period. The actuarial balance of a fund is essentially the difference between annual income and costs, expressed as a percentage of taxable payroll, summarized over the 75-year projection period. Because
SMI is brought into balance annually through premium increases and general revenue transfers, actuarial balance is not an informative concept for
that program.
7

The OASI, DI, and HI Trust Funds all have actuarial deficits under the
intermediate assumptions, as shown in the following table. The actuarial
deficit can be interpreted as the percentage points that could be either
added to the current law income rate or subtracted from the cost rate for
each of the next 75 years to bring the funds into actuarial balance. Actuarial balance is achieved if trust fund assets at the end of the period are
equal to the following year's expenditures. Because large and growing
annual deficits are projected at the end of the long-range period, adequate
financing beyond 2082 would require even larger changes than are
needed for solvency in 2008-82. Projections show that over the infinite
horizon the actuarial deficit for OASDI is 3.2 percent, 1.5 percentage
points higher than the 75-year deficit. For HI, the actuarial deficit over the
very long run is 6.1 percent of taxable payroll, 2.6 percentage points
higher than the 75-year imbalance.
LONG-RANGE ACTUARIAL DEFICIT OF THE
OASI, DI, AND HI TRUST FUNDS
(As a percentage of taxable payroll; total may not add due to rounding)

OASI

DI

OASDI

HI

Actuarial
Deficit. . . . . . . . . . . . . . . . .. 1.46

0.24

l.70

3.54

What Are Key Dates in Long-Range OASI, DI, and HI Financing?
When cost exceeds income excluding interest (Chart C), use of trust fund
assets occurs in stages. For HI, the process begins in 2008 when HI
income excluding interest falls short of expenditures, and interest earnings (which are paid from Federal general revenues) must be used to
cover the difference. Beginning in 2010, costs are projected to exceed
income including interest, and assets must be redeemed each year until
the trust fund is exhausted in 2019. The onset of the use of trust fund
assets to help finance HI benefits is now expected to start a year earlier
than indicated in last year's report. The change is due to a combination of
slightly lower payroll tax income and higher short-range HI expenditures
than projected in the 2007 Report. In 2019, tax income is estimated to be
sufficient to pay 78 percent of HI costs-and by 2082 only 30 percent.
For OASDI, interest income will first be needed to pay a portion of benefits in 2017, although the trust funds will continue to accumulate assets. In
2027, trust fund assets will begin to be depleted and are projected to be
exhausted in 2041, after which continuing tax income would be sufficient
to cover 78 percent of scheduled benefits. Tax income would cover
75 percent of scheduled benefits in the final year (2082) of the 75-year
projection period. Although the projected exhaustion date for the DI Trust
Fund is 2025, the value of the OASI Trust Fund would be sufficient at that
point to make assets available to pay full DI benefits, but only with authorizing legislation.

8

The key dates regarding cash flows are shown in the following table.
KEY DATES FOR THE TRUST FUNDS
First year outgo exceeds income
excluding interest ....................
First year outgo exceeds income
including interest ....................
Year trust fund assets are exhausted. . . . . .

OASI

DI

OASDI

HI

2018

2005

2017

2008

2028
2042

2012
2025

2027
2041

2010
2019

How Do the Sources of Medicare Financing Change? As Medicare
costs grow over time, general revenues and beneficiary premiums will
playa larger role in financing the program. Chart D shows expenditures
and current law non-interest revenue sources for HI and SMI combined as
a percentage of GDP. The total expenditure line is the same as displayed
in Chart B and shows Medicare cost rising to 10.8 percent of GDP by
2082. Revenue from taxes would remain at roughly 1.5 percent of GDP
under current law, while general fund revenue contributions are projected
to increase from 1.3 percent in 2008 to 4.5 percent in 2082, and beneficiary premiums from 0.5 to 1.4 percent of GDP. Thus, revenue from taxes
would fall substantially as a share of total non-interest Medicare income
(from 45 percent to 19 percent) while general fund revenue would rise
(from 39 to 60 percent), as would premiums (from 15 percent to 19 percent). These current-law relationships could change as a result of the need
to address the future HI Trust Fund deficits. The gap between total noninterest income and expenditures steadily widens due to growing annual
HI deficits, reaching 3.4 percent of GDP by 2082. All told, by 2082 the
Chart D-Medicare Cost and Non-Interest Income by Source
as a Percent of GDP
12%

Historical

Estimated

10%

8%

6%
4%

2%

0%

1972 1982 1992 2002 2012 2022 2032 2042 2052 2062 2072 2082
Calendar year

9

Medicare program is projected to require general revenue transfers equal
to 4.5 percent of GDP. Moreover, the HI deficit represents a further 3.4
percent of GDP in 2082, and there is no provision to finance this deficit
under current law through general fund transfers or any other revenue
source.
The Medicare Modernization Act (2003) requires that the Board of Trustees determine each year whether the annual difference between program
outlays and dedicated revenues (the bottom four layers of Chart D)
exceeds 45 percent of total Medicare outlays within the first 7 years of the
75-year projection period. In effect, the law sets a threshold condition that
signals that a trust fund's dedicated financing is inadequate and/or that
general revenue financing of Medicare is becoming excessive. In that
case, the annual report includes a determination of "excess general revenue Medicare funding." When that determination is made in two consecutive reports, a "Medicare funding warning" is triggered. The warning
requires the President to respond by submitting proposed legislation
within 15 days of the next budget submission to address the problem, and
for Congress to consider the proposal on an expedited basis.
This year's report projects the difference between outlays and dedicated
financing revenues to exceed 45 percent in 2014, prompting a determination of "excess general revenue Medicare funding" for the third consecutive report. In response to the "Medicare funding warning" triggered by
the 2007 Medicare Trustees Report, President Bush submitted legislation
in February 2008. No further action has been taken as of the date of this
report and another "Medicare funding warning" is triggered.
Why is Reform to Improve the Social Security and Medicare Financial Imbalances Needed? Concern about the long-range financial outlook for Medicare and Social Security often focuses on the exhaustion
dates for the HI and OASDI Trust Funds-the time when projected
finances under current law would be insufficient to pay the full amount of
scheduled benefits. A more immediate issue is the growing burden that
the programs will place on the Federal budget well before the trust funds
are exhausted.
The difference between the cost of scheduled benefits and tax income for
the HI and OASDI Trust Funds is shown in Chart E, together with the
Federal general fund revenues provided under current law for SM!. During 2008-18 for HI, general revenues (the red bars in the chart) must be
used to cover the interest earnings and asset redemptions required to offset the shortfall of HI tax revenues. Similarly, general revenues cover
these offsets for the OASDI deficits during 2017-40 (blue bars). In addition, general revenues pay for roughly 75 percent of all SMI costs under
current law (green bars).
In 2019 and later for HI, and in 2041 and later for OASDI, there is no provision in current law that would enable full payment of benefits, once the
10

trust funds ~re exhausted. If asset exhaustion actually occurred, benefits
could be paid only up to the amount of ongoing dedicated revenues. Further general fund transfers could not be made to finance the deficits.
Chart E- Projected OASDI and HI Tax Income Shortfall
plus the 75-Percent General Fund Revenue Contribution to SMI
(Percentage of GDP)
14% ~
12%

l

• SMI(B&D)

10%

.HI

8% 6%

.OASDI

l

4% .
2%
0%
-2%

···1-,-1-1

T

-'-------~~~~~ -------~---

2008

2010

2020

2030

2040

2050

2060

2070

2082

Calendar year

The initial negative amounts shown for OASDI indicate that tax income
exceeds cost (which occurs during 2008-16) and represent net cash flow
to the Treasury that results in the issuance of special Treasury bonds to the
trust funds. Those OASDI net revenues are more than offset by the Medicare general revenue requirements under current law. For instance, in
2008 the Social Security tax income surplus ($79 billion) is estimated to
be significantly smaller than the statutory Medicare Part B and Part D
general revenue transfers, resulting in an overall cash requirement of
$117 billion (0.8 percent ofGDP) from the general fund of the Treasury.
The combined difference grows each year, so that by 2017, net revenue
flows from the general fund will total $449 billion (2.0 percent of GDP).
The positive amounts that begin in 2017 for OASDI, and in 2008 for HI,
initially represent payments the Treasury must make to the trust funds
when assets are redeemed to help pay benefits in years prior to exhaustion
of the funds. Note that neither the redemption of trust fund bonds, nor
interest paid on those bonds, provides any new net income to the Treasury, which must finance redemptions and interest payments through
some combination of increased taxation, reductions in other government
spending, or additional borrowing from the public.
Chart E shows that the difference between outgo and dedicated payroll
tax and premium income will grow rapidly in the 2010-30 period as the
11

baby-boom generation reaches retirement age. Beyond 2030, the difference continues to increase nearly as rapidly due primarily to health care
costs that grow faster than GDP. After the trust fund exhaustion dates
(2041 for OASDI, 2019 for HI), the increasing positive amounts for
OASDI and HI depict the excess of scheduled benefits over projected program income. When the statutory SMI general fund revenue requirements
are added in, the projected combined Social Security and Medicare deficits and statutory general fund revenues in 2082 equal 9.3 percent ofGDP,
indicating the magnitude of the potential effect on the Federal budget if
general revenues were used to ensure payment of all scheduled program
benefits. A similar burden today would require nearly 80 percent of all
Federal income tax revenues, which amounted to 11.7 percent of GDP in
2007.
To put these magnitudes into historical perspective, in 2007 the combined
annual cost of HI, SMI, and OASDI amounted to 38 percent of total Federal revenues, or about 7 percent ofGDP. That cost (as a percentage of
GDP) is projected to double by 2060, and then to increase further to
nearly 17 percent of GDP in 2082. It is noteworthy that over the past four
decades, the average amount of total Federal revenue as a percentage of
GDP has been 18 percent, and has not exceeded 21 percent in a given
year. Assuming the continued need to fund a wide range of other government functions, the projected growth in Social Security and Medicare
costs would require that the total Federal revenue share of GDP increase
to wholly unprecedented levels.
This year's Trustees Reports describe large long-term financial imbalances for Social Security and Medicare, and demonstrate the need for
timely and effective action. The sooner that solutions are adopted, the
more varied and gradual they can be.

12

Because the two Public Trustee positions are currently vacant, there is no
Message from the Public Trustees for inclusion in the Summary of the
2008 Annual Reports.

IP-887: Remarks by Secretary Henry M. Paulson, lr<BR>on Current Financial and Housing Markets<...

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March 26, 2008
HP-887
Remarks by Secretary Henry M. Paulson, Jr
on Current Financial and Housing Markets
at the US Chamber of Commerce

Washington -- Thank you for inviting me to address your Capital Markets
Competitiveness Conference. We share a commitment to competitive markets, and
Treasury will soon release a Blueprint for Regulatory Reform that proposes a
financial regulatory framework which we believe will more effectively promote
orderly markets and foster financial sector innovation and competitiveness.
As you know, financial market stress began last August and has led to significant
de-leveraging and repricing of risk, and sentiment has swung hard to risk aversion.
There have been, as there always are during periods like this, bumps in the road
and unpleasant surprises along the way.
I am constantly asked how much longer will this take to play out and if this is the
worst period of market stress I have experienced. I respond that every period of
prolonged turbulence seems to be the worst until it is resolved. And it always is
resolved. Our economy and our capital markets are flexible and resilient and I have
great confidence in them. I am certain we will work through this situation and go on
to new heights as we always do.
As we work our way through this turbulence, our highest priority is limiting its impact
on the real economy. We must maintain stable, orderly and liquid financial markets
and our banks must continue to play their vital role of supporting the economy by
making credit available to consumers and businesses. And we must of course focus
on housing, which precipitated the turmoil in the capital markets, and is today the
biggest downside risk to our economy. We must work to limit the impact of the
housing downturn on the real economy without impeding the completion of the
necessary housing correction. I will address each of these in turn. Regulators and
policy makers are vigilant; we are not taking anything for granted.
Orderly Financial Markets
For some months now, reduced access to short term funding and liquidity issues
have created turmoil in our capital markets. In the midst of these conditions, Bear
Stearns found itself facing bankruptcy. The Federal Reserve acted promptly to
resolve the Bear Stearns situation and avoid a disorderly wind-down. It is the job of
regulators to come together to address times such as this; and we did so. Our focus
was the stability and orderliness of our financial markets.
Discount Window Access
As the Federal Reserve resolved the Bear Stearns situation, it subsequently took a
very important and consequential action of instituting a temporary program for
providing liquidity to primary dealers. I fully support that action. Taking this step in a
period of stress recognizes the changed nature of our financial system and the role
played by investment banks in the post Glass-Steagall world.
Such direct lending from the central bank to non-depository institutions has not
occurred since the 1930s. Recent market turmoil has required the Federal Reserve
to adjust some of the mechanisms by which it provides liquidity to the financial
system. Their creativity in the face of new challenges deserves praise, but the
circumstances that led the Fed to modify its lending facilities raises significant policy

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considerations that need to be addressed.
Insured depository institutions remain important participants in financial markets,
but this latest episode has highlighted that the world has changed as has the role of
other non-bank financial institutions, and the interconnectedness among all financial
institutions. These changes require us all to think more broadly about the regulatory
and supervisory framework that is consistent with the promotion and maintenance
of financial stability. Now that the Fed is granting primary dealers temporary access
to liquidity facilities, we must consider the policy implications associated with such
access.
Historically, commercial banks have had regular access to the discount window.
Access to the Federal Reserve's liquidity facilities traditionally has been
accompanied by strong prudential oversight of depository institutions, which also
has included consolidated supervision where appropriate. Certainly any regular
access to the discount window should involve the same type of regulation and
supervision.
While there has been extraordinary convergence in financial services, one
distinction between banks and investment banks remains particularly important banks have the advantage that they issue deposits that are insured by the Federal
government. A properly designed program of deposit insurance greatly reduces the
likelihood of liquidity pressures on depository institutions and as a corollary, makes
the funding base of these institutions more stable. The trade-off for this subsidized
funding is regulation tailored to protect the taxpayers from moral hazard this
insurance creates.
For the non-depository institutions that now have temporary access to the discount
window, I believe a few constructive steps would enable the Federal Reserve to
protect its balance sheet, and ultimately protect U.S. taxpayers.
First, the process for obtaining funds by non-banks must continue to be as
transparent as possible. The Fed should describe eligible institutions, articulate the
situations in which funds will be made available, and the magnitude and pricing
structure for the funds. The TAF process is a good model for a structure that would
provide relevant information to the marketplace.
Second, and perhaps most importantly, the Federal Reserve should have the
information about these institutions it deems necessary for making informed lending
decisions. The Federal Reserve is currently working to ensure the adequacy of
such information. We suggest that the Federal Reserve, the SEC, and the CFTC
continue their work of building a robust cooperative framework. Already, at the
invitation of the SEC, the Federal Reserve is working alongside their teams within
these institutions. These regulators should consider whether a more formalized
working agreement should be entered into to reflect these events.
With this added information flow, the Federal Reserve will be better positioned to
consider market stability issues like liquidity provisioning and the
interconnectedness of financial institutions. The Federal Reserve's participation
could also allow for broader consideration of market stability issues by the SEC and
the CFTC. This collaborative process will necessarily have a strong focus on
liquidity and funding issues.
The combination of these steps should provide the Federal Reserve with a structure
and the information that it would need to make liquidity backstop loans during
periods of market instability to non-banks. They address the current situation, in
which investment banks have temporary access to the discount window. Clearly,
many difficult policy questions must also be addressed on a going-forward basis.
Despite the fundamental changes in our financial system, it would be premature to
jump to the conclusion that all broker-dealers or other potentially important financial
firms in our system today should have permanent access to the Fed's liquidity
facility. Recent market conditions are an exception from the norm. At this time, the
Federal Reserve's recent action should be viewed as a precedent only for unusual
periods of turmoil.
As we work through this period, we will learn through this experience. And the

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Federal Reserve will learn as it works with financial institutions as they come to the
window. It is appropriate that we evaluate that experience in the coming months,
and use the lessons of that experience to inform a path forward. Very relevant to
this issue is the fact that bank regulation, which applies to institutions with an
explicit taxpayer-funded backstop, is fundamentally different from non-bank
regulation, which applies to institutions that are not supported by federal deposit
insurance. The President's Working Group on Financial Markets will evaluate these
issues and their implications for regulation of bank and non-bank financial
institutions.
Housing and Mortgage Markets
The housing downturn and the surrounding uncertainty are significantly impacting
our financial institutions and capital markets. However, we should not lose sight of
the fact that this downturn was precipitated by unsustainable home price
appreciation which was particularly pronounced in a relatively few regions. A
correction was inevitable and the sooner we work through it, with a minimum of
disorder, the sooner we will see home values stabilize, more buyers return to the
housing market, and housing will again contribute to economic growth. Having
stability in housing markets will in turn contribute to better conditions in credit
markets for mortgage-backed securities.
Data releases every month create headlines about declining housing sales, starts
and prices. Yet, declines are exactly what we should expect during a correction. It
takes time to work through the excess inventory - and we are. The question many
are asking is how deep the correction will be and how long it will last. The CaseShiller index of home prices in 10 major metropolitan areas showed an 11.4 percent
decline in home prices over the 12 months ending in January, and the futures
market is predicting that the index will decline another 13 percent in 2008. But we
do not have a national housing market; housing markets are regional - and there is
considerable variation in adjustment, with prices changing the most in areas that
had the greatest overbuilding.
Amid this correction, there are many calls to "do something about housing." When
people say this, they are urging any number of possible things - minimize
foreclosures, make affordable mortgages more available, improve the secondary
market and liquidity for mortgages, improve the mortgage origination process,
prosecute fraud, reduce the inventory of homes for sale, or help communities
hardest hit by foreclosures.
The 'to do' list tends to get conflated. We must sort through each of these shared
and desired outcomes, carefully choosing policies that minimize the impact of - but
do not slow - the housing correction.
Availability of Mortgage Finance
Turbulence in the financial markets has disrupted and reduced the availability and
increased the cost of mortgage financing. The secondary mortgage market is still
facing liquidity and pricing issues. We are taking steps to increase the availability of
affordable mortgage financing. The Federal Reserve's temporary lending facility for
non-banks will help in this area, as will the Federal Housing Finance Board's
decision to authorize the Federal Home Loan Banks to increase purchases of
agency mortgage backed securities, which could provide over $100 billion in new
MBS market liquidity.
Another helpful step is the agreement reached last week among Fannie Mae,
Freddie Mac and OFHEO, their independent regulator, to inject more capital into
the mortgage market.
Fannie and Freddie, two of the nation's housing Government Sponsored Entities or
GSEs, have been playing an important, countercyclical role in supporting the
secondary market for mortgage finance. The GSEs' market share has grown
substantially from 46 percent of all new mortgages in the second quarter of 2007 to
76 percent in the fourth quarter. It is very important that the GSEs remain
positioned to play this critical role. That is why I was pleased that the GSEs
committed to raise significant capital. A stronger capital base will better enable
them to support more home purchases and refinancings through their securitization

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activities. Additional capital not only increases the availability of mortgage financing,
but also strengthens mortgage market fundamentals.
The Economic Stimulus Act of 2008 also temporarily raised the conforming loan
limit, which should reduce costs for homebuyers seeking a jumbo mortgage.
The subprime mortgage market accounted for a large portion of housing purchase
growth before the downturn, and the market for subprime mortgage financing is
now largely closed. Last August, President Bush launched the FHASecure initiative,
an important new solution for subprime homeowners. To date, FHASecure has
helped more than 130,000 families refinance their mortgages and stay in their
homes. That number is expected to reach 300,000 by year end. More can be done.
Secretary Jackson continues to examine administrative tools to make FHA
mortgages more widely available. And it is essential that Congress pass FHA
modernization that would provide FHA the authority to help as many as 250,000
more homeowners at this critical time.
We will continue to look for solutions that expand mortgage access and availability
for all borrowers, including finanCially-able subprime borrowers.
Foreclosures
Home foreclosures are also a significant issue today. Foreclosures are painful and
costly to homeowners and, neighborhoods. They also prolong the housing
correction by adding to the inventory of unsold homes. Before quickly reviewing our
initiatives to prevent avoidable foreclosures, let me observe that some current
headlines make it difficult to put foreclosure rates in perspective. So let me try to do
so.
First, 92 percent of all homeowners with mortgages pay that mortgage every month
right on time. Roughly 2 percent of mortgages are in foreclosure. Even from 2001 to
2005, a time of solid U.S. economic growth and high home price appreciation,
foreclosure starts averaged more than 650,000 per year.
Last year there were about 1.5 million foreclosures started and estimates are that
foreclosure starts might be as high as 2 million in 2008. These foreclosures are
highly concentrated - subprime mortgages account for 50 percent of foreclosure
starts, even though they are only 13 percent of all mortgages outstanding.
Adjustable rate subprime mortgages account for only 6 percent of all mortgages but
40 percent of the foreclosures. So we are right to focus many of our policies on
subprime borrowers.
There are approximately 7 million outstanding subprime mortgage loans. Available
data suggests that 10 percent of subprime borrowers were investors or speculators.
This figure is likely higher, as some investors misrepresented themselves to take
advantage of a cheaper rate, and others speculated on a primary residence,
expecting prices to continue going up.
Other subprime loans were very poorly underwritten and borrowers simply can not
afford the home they bought. Almost 18 percent of adjustable rate subprime
mortgages underwritten in 2006 were in foreclosure six months before the initial
rate was scheduled to reset. Subtracting the speculators and those who took on
more than they could handle leaves us with our target population of subprime
borrowers for whom we are seeking a solution - those who want to keep their
homes, have the financial wherewithal, but are facing challenges making their
monthly payments.
We are focused on private sector and government efforts to help these borrowers
avoid foreclosure.
The HOPE NOW alliance has announced that, since July, more than 1 million
struggling homeowners received a work out, either a loan modification or
repayment plan that helped them avoid foreclosure. HOPE NOW's work-out efforts
are accelerating more quickly than the foreclosure rate. In the month of January
foreclosure starts were up 5 percent while the number of mortgage workouts grew
19 percent.

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HOPE NOW and the American Securitization Forum together have implemented a
protocol targeted specifically at subprime borrowers facing mortgage resets.
Through the protocol, those who made their initial payments and want to keep their
home should be fast-tracked into a sustainable refinancing or loan modification.
We are closely monitoring the implementation and results of HOPE NOW and the
ASF efforts. Responsible homeowners who have been making their payments and
want to find a way to stay in their home should not go into foreclosure merely
because the volume of people seeking help overwhelms the system.
Homeowners with Negative Equity
Much attention has been given to the fact that an estimated 8.8 million households
may currently have negative home equity. We can expect that number to rise as the
housing correction plays out, and to begin to reverse once the correction has run its
course. The best outcome for these homeowners is to work through this correction
as quickly as possible.
Homeowners with negative equity are more common in this housing downturn
because lending practices changed dramatically in recent years. In 2007, 29
percent of mortgages were originated with no down payment. Some of those
mortgages went to speculators; others to responsible borrowers who were able to
buy a home because of expanded access to credit.
But let me emphasize that we do not need a system-wide solution for the vast
majority of loans where a homeowner temporarily has negative equity. Negative
equity does not affect borrowers' ability to pay their loans. Homeowners who can
afford their mortgage payment should honor their obligations --- and most do. They
know that there are housing cycles, and they bought more than houses. They
bought homes to become part of a community, and they bought them as places to
live, not as investments. And if they live in them for the long term, they are likely to
become good investments.
Let me also emphasize that any homeowner who can afford his mortgage payment
but chooses to walk away from an underwater property is simply a speculator.
Washington can not create any new mortgage program to induce these speculators
to continue to own these homes, unless someone else foots the bill.
The people we seek to help are those who want to keep their homes but can't
afford the monthly payment because of an ARM reset. If they also have negative
equity in their homes, refinancing becomes almost impossible and so workouts
become even more important. Secretary Jackson is examining the potential for FHA
to be a solution for these borrowers.
Conclusion
In summary, there is bipartisan interest in bolstering our economy, maintaining
stable and orderly capital markets, and helping struggling homeowners. New ideas
and solutions can come from either side of the aisle. The Administration and
Congress demonstrated how well bipartisanship can work when we quickly passed
and enacted an economic stimulus package earlier this year. I am hopeful we can
demonstrate this again by quickly concluding the FHA Modernization bill, and I am
working hard to make progress on comprehensive GSE reform legislation because
stronger oversight is essential for these large, critically important financial
institutions.
I know Members of Congress have outlined other ideas, but most are not yet ready
for the starting gate. FHA Modernization and GSE reform are well on their way to
the finish line - let's complete this important legislation now, so we can implement
them and help homeowners and our economy.
Timeliness is critical for adding confidence in today's markets. I continue to focus
on additional steps that the Administration can take without delay - things that don't
require congressional action and will immediately impact the availability of
affordable mortgage finance.

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We are obviously well aware that the housing market correction was not only a
precipitating cause but continues to be an underlying factor in our capital markets'
stress. Both are disrupting our economy right now. We will continue to pursue
policies that strike the right balance: that do not slow the housing correction, yet
also help avoid preventable foreclosures and unnecessary capital market turmoIl.
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Ip-888: Implemenlation of Certam Legislative Provisions Relating to the International Monetary Fund

Page 1 of 1

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March 26, 2008
hp-888
Implementation of Certain Legislative Provisions Relating to the International
Monetary Fund
Implementation of Certain Legislative Provisions Relating to the International
Monetary Fund
REPORTS
•

Legislative Mandates Report

http://www.treas.gov/press/releases/hp88~.tltm

4/4/2008

IMPLEMENTATION OF
CERTAIN LEGISLATIVE PROVISIONS
RELATING TO THE
INTERNATIONAL MONETARY FUND

A Report to Congress
in accordance with
Sections 1503 and 1705(a) of the
International Financial Institutions Act,
Section 801 (c)(1 )(B) of the
Foreign Operations, Export Financing, and Related Programs
Appropriations Act, 2001
and
Section 605( d) of the
Foreign Operations, Export Financing, and Related Programs
Appropriations Act, 1999

United States Department of the Treasury
January 2008

Table of Contents
Introduction ............................................................................................................................... 1
International Financial Institutions Act, Section 1503 Provisions, by Subsection
1. Exchange Rate Stability ................................................................................................. 1
2. Independent Monetary Authority, Internal Competition, Privatization,
Deregulation, Social Safety Nets, Trade Liberalization ................................................ 2
3. Strengthened Financial Systems .................................................................................... 5
4. Bankruptcy Laws & Regulations ................................................................................... 5
5. Private Sector Involvement. ........................................................................................... 6
6. Good Governance .......................................................................................................... 8
7. Channeling Public Funds Toward Productive Purposes ................................................ 9
8. Individual Economic Prescriptions ............................................................................... 9
9. Core Labor Standards .................................................................................................... 9
10. Discouraging Ethnic and Social Strife ........................................................................... 9
11. Environmental Protection ............................................................................................ 10
12. Greater Transparency ................................................................................................... 10
13. Evaluation .................................................................................................................... 10
14. Microenterprise Lending .............................................................................................. 11
15. Anti-Money Laundering and Combating the Financing of Terrorism ......................... 11
Foreign Operations, Export Financing, and Related Programs Appropriations Act, 2001, Section
801 (c) (l)(B) Provisions, by Subsection
I. Suspension of Financing for Diversion of Funds ........................................................ 12
II. IMF Financing as Catalyst for Private Sector Financing ............................................. 12
III. Conditions for Disbursement ....................................................................................... 13
IV. Trade Liberalization ..................................................................................................... 13
V. Focus on Short-Term Balance of Payments Financing ................................................ 13
VI. Progress toward Graduation from Concessionary Financing ...................................... 13

Annex 1: New IMF lending arrangements, per section 605(d) of the Foreign Operations, Export
Financing, and Related Programs Appropriations Act, 1999

Introduction
This is the ninth report prepared in accordance with Sections 1503 and 1705(a) of the
International Financial Institutions Act (the IFI Act - codified at 22 United States Code sections
2620-2 and 262r-4(a)).1 This report also covers policies set forth in Section 801(c)(1)(B) of the
Foreign Operations, Export Financing, and Related Programs Appropriations Act, 2001, 2 as
required by Section 1705(a) of the IFI Act. The report reviews actions taken by the United
States to promote these legislative provisions in International Monetary Fund ("IMF" or the
"Fund") country programs. Annex 1 covers new IMF lending arrangements per section 605(d)
of the Foreign Operations, Export Financing, and Related Programs Appropriations Act, 1999.
Earlier reports under these provisions are available on the Department of the Treasury's website
(www.treas.gov/press/reports.html).
Treasury and the Office of the United States Executive Director ("USED") at the IMF
consistently endeavor to build support in the IMF's Executive Board for the objectives set out in
this legislation. These endeavors include meetings with IMF staff and other Board members on
country programs and IMF policies, formal statements by the USED in the IMF Board, and
USED votes in the Board. Treasury's objective is to support strengthened commitments in IMF
programs, policy actions by program countries, and policy decisions at the IMF itself.
Treasury's IMF task force is charged with increasing awareness among Treasury staff about
legislative mandates and identifying opportunities to influence IMF decisions in line with
broader U.S. international economic policy objectives. Assessments of the overall effectiveness
of the Treasury and USED's office in promoting the legislative provisions are published annually
by the GAO and are available online. 3 The most recent report states that the "Treasury continues
to promote the [IMF] task force as a tool for monitoring and promoting legislative mandates and
other policy priorities."

Report on specific provisions
I.

Section 1503(a)
(1) Exchange rate stability

Article I of the IMF's Articles of Agreement states that one of the purposes of the IMF is "to
promote exchange stability, to maintain orderly exchange arrangements among members, and to
avoid competitive exchange depreciation." In June, 2007, as a result of U.S. leadership, the IMF
adopted a new framework for exchange rate surveillance. A key feature of this framework is the
concept of fundamental misalignment. A country's exchange rate can be found fundamentally
misaligned if it substantially deviates from its long run equilibrium level and if it is coupled with
I These provisions were enacted in Sections 610 and 613 of the Foreign Operations, Export Financing, and Related
Programs Appropriations Act, 1999 (Public Law 105-277, division A, § IOI(d), title VI, §§ 610 & 613). Section
1705(a) was amended by Section 803 of the Foreign Operations, Export Financing, and Related Programs
Appropriations Act, 2001 (Public Law 106-429, title VIII, § 803).
2 Public Law 106-429, title VIII, § 80I(c)(I)(B).
3 Treasury Has Sustained Its Formal Process to Promote U.S. Policies at the International Monetary Fund,
Government Accountability Office (GAO), June 2006.

a persistent misalignment in the current account. A finding of fundamental misalignment does
not, in itself, imply a sanction by the Fund. However, it would sharpen the discussion on
whether the country's exchange rate policy has a detrimental impact on the rest of the world. Ifa
country were found to be fundamentally misaligned with the intent of increasing net exports, the
Fund could find the country to be manipulating its currency in violation of its obligations under
the IMF's articles of agreement.
This new framework is in the process of being implemented. Some Article IV's have been
delayed, included China's, in order to incorporate the new framework into the Article IV
reviews.
Treasury has urged the Fund to exercise firm surveillance over exchange rates throughout the
year, as the new framework was being formulated.
•

In its Board statement at the September 2007 Article IV discussions on the Republic of
Korea, the USED underscored Korea's strong growth in a flexible exchange rate regime and
the role of exchange rate appreciation in mitigating inflationary pressures.

•

In its July 2007 statement on the Article IV review of Brazil, the USED noted that heavy
intervention resulted in substantial reserve accumulation. It stated that given the Central
Bank of Brazil's high level of reserves, intervention is more costly than the alternative
options for preventing the development of an overvalued real exchange rate and that
concerns about exchange rate overshooting could be better addressed through countercyclical
fiscal policy.

•

In its December 2006 board statement on the Article IV review of India, the USED noted that
India's flexible exchange rate regime will support the economy's adjustment as well as
encourage the recognition and hedging of foreign exchange risk. It also emphasized that there
is scope for additional flexibility in the application of the exchange rate policy which is
particularly important as India moves toward greater integration with the global economy.

•

In its Board statement at the October 2006 Article IV discussions on Russia, the USED noted
that heavy intervention in the foreign exchange market has led to significant money supply
growth and that negative real interest rates have helped fuel an asset price boom. The USED
highlighted that given that Russia now has the world's third largest foreign exchange
reserves and a current account surplus of 11 percent ofGDP, the authorities should cease
intervening in the foreign exchange market and rather focus monetary policy directly on
steadily reducing inflation.

(2) Policies to increase the effectiveness of the IMF in promoting market-oriented reform,
trade liberalization, economic growth, democratic governance, and social stability
through:
(A) Establishment of an independent monetary authority
2

With the support of the United States, the IMF has been a consistent advocate of greater
independence of monetary authorities across a range of countries. IMF conditionality frequently
includes measures to strengthen central bank autonomy and accountability. The IMF also
provides technical assistance to help countries achieve these goals. In addition, the Fund
promotes these objectives through assessments of compliance with internationally-agreed upon
standards and codes, as well as rules for safeguarding the use of IMF resources. Examples of
United States activities in the last year with regard to these issues include the following:
•

In its Board statement at the July 2007 Article IV discussions, the USED urged that the
Brazilian Central Bank be granted full autonomy, especially given Brazil's recent success in
anchoring the market's inflation expectations.

•

In its statement on Pakistan's November 2006 Article IV review, the USED noted that a
strong and independent central bank will continue to be a key to macroeconomic stability.

(B) Fair and open internal competition among domestic enterprises
Though the World Bank has the lead mandate on these issues, with United States support the
IMF encourages member countries to pursue policies that improve internal economic efficiency.
These measures may include ending directed lending (or other relationships between government
and businesses based on favoritism), improving anti-trust enforcement, and establishing a sound
and transparent legal system. For example,
•

In a January 2007 Board Statement on Swaziland's Article IV review, the USED urged
authorities to remove legal, regulatory, and administrative barriers to business establishment
and operation in an effort to promote private sector-led economic development.

(C) Privatization
The IMF has made privatization a component of country programs where significant
distortions and government ownership of business enterprises have created substantial
inefficiencies in the allocation of resources and the production of goods. Collaborating with the
World Bank, the Fund has supported the use of competitive and transparent means of
privatization so that borrowing countries might achieve gains in economic efficiency and
improve their fiscal positions. Examples of IMF programs and surveillance discussions in which
the USED has advocated privatization include the following:
•

In an August 2007 board statement for the Iraq Article IV, the USED commended the
liberalization of fuel imports and encouraged Iraqi authorities to push for quick passage and
implementation of a suite of hydrocarbons laws to encourage private investment in oil
production.

•

In a December 2006 Board statement on the second review of Cameroon's Poverty Reduction
and Growth Facility, the USED urged the government to move forward with the privatization
3

of the government-owned airline, telecom company and water parastatal, noting that further
delay would require additional government subsidization.
•

In an April 2007 Board statement on a Poverty Reduction and Growth Facility for Burkina
Faso, the USED encouraged Burkina Faso authorities to continue efforts for the government
to reduce the government's ownership stake in SOFITEX, the country's largest cotton
company and a central player in the critical cotton sector.

(D) Economic deregulation and strong legalframeworks
Markets are distorted and entrepreneurship is stifled without strong property rights,
enforcement of contracts, and fair and open competition. While these issues are often addressed
as part of the World Bank's mandate, the IMF periodically includes such policy advice in its
programs or surveillance on measures considered critical to the member country's
macroeconomic performance. Examples of United States' efforts to encourage these reforms
include the following:
•

In the August, 2007 Article IV review for Uruguay, the USED urged Uruguayan authorities
to support increased financial intermediation through promoting banking sector competition,
reforming state-owned banks, and strengthening bank supervision and regulation.

•

In the December, 2006 Article IV review for India, the USED emphasized that an inefficient
dispute resolution system, the lack of binding international arbitration and the backlogged
domestic court system remain major deterrents to foreign investment in critical infrastructure
projects.

(E) Social safety nets
While growth is an essential ingredient for poverty reduction, investment in human
development and basic social services is also critical. Cost effective social safety nets can play
an important role in building domestic support for economic reform, and in alleviating the direct
impact of poverty.
The IMF does not lend directly for budget support to build social safety nets. However, the
Fund's policy advice and its focus on macroeconomic stability encourage domestic policy
makers to develop fiscal strategies that address the needs of the poor. Reducing generalized
subsidies while protecting pro-poor spending, for example, is a common theme. In the poorest
countries, IMF advice is developed within a country-specific poverty reduction strategy (PRS)
that encourages accountability between donors and recipients.
•

In the June 29, 2007 Board review of Paraguay's Stand-by Arrangement, the USED
advocated increased expenditure on poverty reduction in Paraguay, financed by increased
revenues from reforms to broaden the tax base.

(F) Opening of markets for agricultural goods through reductions in trade barriers
4

The IMF encourages a multilateral, rules-based approach to trade liberalization across all
sectors of the global economy, including, but not limited to, the agricultural sector. The IMF has
played a supportive role in promoting trade liberalization, particularly in the context of the WTO
trade negotiations under the Doha Development Agenda (DDA). In April 2004, the Fund
approved the Trade Integration Mechanism (TIM) to provide financial support to countries
facing balance of payments problems resulting from trade adjustment. The proposal represents a
concrete response to developing country concerns about the potential negative impacts from
multilateral trade liberalization. The IMF is prepared, along with the World Bank, to provide
transitional assistance to member countries experiencing payment imbalances arising from the
passage of trade reform.

(3) Strengthened financial systems and adoption of sound banking principles and practices
The joint IMF-World Bank Financial Sector Assessment Program ("FSAP") has emerged as
a critical instrument for financial sector surveillance and advice. As of end-September 2007, 116
countries have completed FSAP assessments and 24 countries have completed FSAP update
assessments. Twenty-eight reviews are underway or planned.
Results from the FSAP are used to generate assessments of compliance with key financial
sector standards such as the Basel Committee's Core Principles for Effective Banking
Supervision. the International Organization of Securities Commission's Objectives and
Principles of Securities Regulation. and the IMF's own Code of Good Practices on
Transparency in Monetary and Financial Policies.
The FSAP assessment results are
summarized in Financial System Stability Assessments ("FSSA") which are often provided to the
public. Some key examples of where the USED has supported the strengthening of financial
systems are:
•

In its May, 2007 Board statement on Turkey's 6th review of its Stand-by Arrangement the
USED noted that Government of Turkey supervisory capacity has improved substantially,
while the legislative framework is being modernized with the new Banking Law, the
Mortgage Law, and prospective legislation on insurance and capital markets.

•

In its statement on Japan's Article IV review in July 2007, the USED called for greater focus
on consumer and investor protection, based on information disclosure, and risk management
measures. The USED emphasized the need for such efforts to respond to Japanese investors'
increased appetite for risk and investment abroad, and the need to increase the return on
savings for retirement.

•

During the IMF Board discussion on Brazil's Article IV review in July 2007, the USED
supported policies that would foster financial intermediation, further reductions in directed
lending, gradual phase out of the financial transactions tax, phase-out of credit quotas to
specific sectors, and reorientation of the state-owned development bank toward marketoriented lending.

(4) Internationally acceptable domestic bankruptcy laws and regulations
5

The IFIs have continued to build upon work started after the Asian financial crisis to promote
more effective insolvency and debtor-creditor regimes. While the World Bank normally leads
reviews of domestic insolvency laws, the IMF actively supports this agenda. Both the UN
Commission on International Trade Law (UNCITRAL) and the World Bank have worked to
compile recommendations in this area covering, respectively, insolvency law and sound
insolvency/creditor rights regimes. At the urging of the United States, staff from the World
Bank, IMF and UNCITRAL worked together to develop a standardized, unified assessment
methodology to assess implementation of those recommendations. The Financial Stability
Forum, also with strong U.S. support, has called on World Bank and UNCITRAL staff to
continue this cooperation and complete a concise, unified international standard for insolvency
and creditor rights.
The IFIs also provide technical assistance to help emerging market economies develop efficient
insolvency regimes. The IMF and the World Bank have supported adoption of the Model Law
on Cross-Border Insolvency developed by the UN (the UNCITRAL Model Law) to facilitate the
resolution of increasingly complex cases of insolvency where companies have assets in several
jurisdictions. With the support of the United States, the IMF has worked with the World Bank to
promote improved insolvency regimes in a number of countries.

(5) Private sector involvement
The United States continues to work to ensure that the private sector plays an appropriate
role in the resolution of financial crises. Over the past several years, the IMF, with the support
of the United States, has taken important steps towards strengthening crisis prevention and
resolution. The IMF has strengthened its surveillance of member countries and instilled more
discipline in the use of official sector financing, especially through the establishment of rules and
procedures governing exceptional access to Fund resources. Additionally, the use of collective
action clauses (see Section C, below), supported by the IMF as an accepted contractual, marketbased approach to sovereign debt restructurings, should help a sovereign restructure its debt
when under financial distress. The IMF recognizes the need to preserve the fundamental
principles that (a) creditors should bear the consequences of the risks they assume, and (b)
debtors should honor their obligations.
In particular, the United States has advocated policies that include:
(A) Increased crisis prevention through improved surveillance and debt and reserve

management
The United States has urged the IMF to strengthen further its surveillance function and crisis
prevention capabilities. In May 2007, the Board discussed an IMF staff paper on strengthening
debt management which provided a stocktaking of the IMF and World Bank's experience in
helping middle- and low-income countries in strengthening debt management practices. The
Board noted that the development of clear operational frameworks to identify, monitor, and
manage balance sheet and market risks would be helpful for middle- and low-income countries
and the USED supported a four-year pilot project for providing technical assistance to three to

6

four low-income countries per year to help them build the capacity to develop and implement an
effective medium-term debt management strategy.
The USED has also supported the balance sheet approach to measure vulnerabilities in
emerging markets and has called for greater focus on debt sustainability in both low-income and
emerging market countries.
•

In its October, 2006 Article IV Board statement, the USED commended Colombia's
performance in reducing its debt ratio to a predicted 40% or less ofGDP by 2010, and
encouraged continued debt reduction and prudent fiscal policies.

•

In its January 26,2007 review of the Peru Stand-By Arrangement, the USED welcomed
authorities' efforts to re-balance the currency denomination of debt towards domestic
currency, reducing the government's vulnerability to exchange rate volatility.

•

In its July 18,2007 Article IV response, the USED supported Indonesia's fiscal stance which
aims to reduce public debt, and noted that this goal remains appropriate.

The IMF continues to encourage, with strong United States support, member countries to
make their economic and financial conditions more transparent. Countries are urged to provide
additional information to private market participants by publishing Article IV assessments and
program documentation as well as by regularly releasing data consistent with the IMF's Special
Data Dissemination Standard (SDDS).
•

Fund members subscribing to either the General or Special Data Dissemination Standards
(SDDS) increased from 75% of all members in 2005 to 82% in 2006, and 83% in 2007.

•

In its October 2006 statement on Burma's September 2006 Article IV review, the USED
noted that economic data continues to not be transparent to outside observers and the
Burmese public and found that IMF surveillance and formulation of policy recommendations
are hindered by questionable transparency and data shortcomings.

•

In its November 2006 statement on India's Article IV review, the USED encouraged the
Indian authorities to adopt the methods outlined by SDDS and to publicize current statistics.

•

In its Board statement at the September 2007 Article IV discussions on the Republic of
Korea, the USED emphasized that that it would welcome welcome a greater degree of
transparency from Korean authorities regarding the timing and magnitude of their foreign
exchange interventions.

(B) Strengthening of emerging markets' financial systems
The IMF continues to work with other IFIs to promote stronger financial systems in
emerging market economies (see Section 3). The IMF and the World Bank reviewed
coordination of their assistance efforts and the results of this review were set forth in the Malan
Report which was published in February 2007. This report notes that the IMF and the World
7

Bank are the only IFIs with near universal membership, and that both of these institutions play
an important role in helping emerging economies address the challenges of globalization, and
obtain its benefits. The report recommended that future cooperation be based on the comparative
expertise of the two institutions, with the IMF taking the lead in instances where there are
significant issues of domestic or global economic stability, and the World Bank leading in
instances where financial sector development issues are paramount.
The IMF is also actively involved with the World Bank in monitoring the implementation of
the Basel Core Principles for Effective Banking Supervision. The IMF, with United States
support, has increased its cooperation with the World Bank in this area, through the joint
Financial Sector Assessment Program (FSAP) and in assessing countries' observance of other
standards and codes.
Some key examples of where the USED has supported a strengthening of emerging market
financial systems are:
•

In its statement during the December 2006 IMF Executive Board discussion on India's
Article IV consultations, the USED urged the removal of restrictions on banking sector
assets, divestiture of government ownership of financial institutions, elimination of the
obstacles to development of securitization markets, and improving reporting standards.

•

The IMF Board discussed Turkey's Article IV review in May 2007. Welcoming Turkey's
recent participation in the FSAP, the USED called for bolstering the bank resolution
framework, supported authorities' commitment to bank privatization. The USED's statement
encouraged ongoing human capital investment so that bank supervisors can respond
effectively to still high levels of deposit dollarization, the large stock of foreign currency
loans, and the thin inter-bank markets.

•

In its Board statement at the February 2007 Article IV discussions, the USED noted that
although Guatemalan authorities made progress in upgrading the bank supervisory
framework and implementing the Basel Core Principles, the supervisors still lack sufficient
legal authority to conduct effective consolidated supervision, and need to take immediate
steps to bolster the crisis management framework, initiate comprehensive special inspection
of banks, and recapitalize the deposit insurance fund with public money.

•

In its December, 2006 review of the Uruguay Stand-By Arrangement, the USED urged the
passage of a financial sector law, along with capitalization of the central bank, as a means of
reducing financial sector vulnerabilities.
(C) Strengthened crisis resolution mechanisms

The United States, in cooperation with the IMF and the broader international financial
community, has promoted a strengthened framework for crisis resolution through use of
collective action clauses (CACs), application of the lending into arrears policy, and clear limits
on the use of official finance.
8

(i) Collective Action Clauses

Sovereign bonds governed by New York law conventionally had not included provisions
which would permit modification of key payment terms by less than unanimous consent. This
restriction made these bonds harder to restructure when a sovereign experienced financial
distress. The United States has worked actively with the IMF and the private sector to promote
the market's adoption of CACs in order to improve debt restructuring processes. CACs have
now become the market standard for sovereign bonds issued under New York law.
As of August 2007, CACs are included in 66 percent of the stock of external sovereign bonds
issued by emerging markets. The IMF, encouraged by the United States, has made CACs an
important element of its crisis resolution agenda. The IMF has indicated it will continue to
encourage future issuers to follow this trend.
(ii) Lending into Arrears

The IMF lending into arrears policy permits the Fund to provide financial support for policy
adjustments, despite the presence of actual or impending arrears on a country's obligations to
private creditors, where: (i) prompt IMF support is considered essential for the successful
implementation of the member's adjustment program; and (ii) the member is pursuing
appropriate policies and is making a good faith effort to reach a collaborative agreement with
creditors. IMF efforts in recent years have focused on applying the "good faith" criterion to
specific cases, including Argentina, the Dominican Republic, Iraq, and Dominica.
(iii) Clear Limits on Official Finance

The United States continues to press the IMF to improve its lending selectivity. In 2002
explicit criteria were developed for extending loans to countries seeking to borrow beyond
normal limits ("exceptional access"). These include: (i) the member must be experiencing
"exceptional balance of payments pressures on the capital account" which cannot be addressed
with normal resources, (ii) an analysis of sustainable debt levels, (iii) reasonable prospects exist
that the member will regain access to private capital markets during the program term, and (iv)
the member's policy program can reasonably be expected to succeed. In addition, procedures
were introduced to require: (i) a "higher burden of proof in program documentation", (ii) early
consultation with the Board on sovereign creditor negotiations, (iii) the issuance of a staff note
specifically outlining all of the relevant considerations, and (iv) an ex-post evaluation of such a
program within twelve months of its completion.
(6) Good governance

The IMF's commitment to promoting good governance is outlined in its 1996 Declaration on
Partnership for Sustainable Global Growth and its 1997 Guidelines on Good Governance. The
IMF also supports good governance through its emphasis on transparency, strong fiduciary
4
Recently, the IMF has been
diagnostics, and its promotion of market-based reforms.
IMF financing is provided to central banks to address balance of payments difficulties. The IMF does not lend to
fund specific projects in member countries aimed at procurement and financial management controls.

4

9

particularly active in promoting good governance through its efforts to protect against abuse of
the financial system and to fight corruption.
The Fund's involvement has focused on those governance aspects that are generally
considered part of the IMF's core expertise, such as improving public administration, increasing
government transparency, enhancing data dissemination, and implementing effective financial
sector supervision. The IMF promotes best practice principles through its codes and standards,
such as the Code of Good Practices on Fiscal Transparency, and is collaborating with the World
Bank on strengthening the capacity of HIPe countries to track public sector spending. The Fund
has worked with the World Bank and other donors to develop 28 Public Expenditure and
Financial Accountability (PEF A) indicators, building on the 16 HIPe indicators, to measure and
track countries' PMF performance over time. Supplementing this is the Fund's 2005 resource
revenue guide, updated in 2007, a complement to the FIse ROSe for use in resource (oil-gasmining) rich countries. The guide is being used increasingly in diagnostic work in extractive
industry intense economies.
Examples of U.S. efforts to encourage good governance include the following:
•

In its October 2006 statement on Burma's September 2006 Article IV, the USED observed
that ongoing pervasive government control of the Burmese economy continues to generate
serious macroeconomic imbalances, resulting in low investment, high and volatile inflation
and entrenched poverty.

•

In an August 2007 Board Statement on Angola's Article IV review, the USED urged
authorities to increase oil and diamond sector transparency to ensure that the country's
improved macroeconomic performance translates into lower poverty, a more diversified
economy, and increased opportunities for all Angolans.

•

During the July 2007 Third Review of Liberia's performance under the staff-monitored
program, the USED urged timely passage of anti-corruption legislation to allow the
government to continue its pursuit of good governance and greater transparency.

•

In meetings with IMF staff, OUSED and Treasury staff encouraged the Fund to accelerate
the use of the resource revenue guide in Fiscal ROSes and to apply it more systematically in
relevant Article IV reports.

(7) Channeling public funds away from unproductive purposes, including large "show case"

projects and excessive military spending, and toward investment in human and physical
capital to protect the neediest and promote social equity
The Fund published a Code of Good Practices on Fiscal Transparency in 1998 that aims to
enhance fiscal policy transparency, promote quality audit and accounting standards, and reduce
or eliminate off-budget transactions, which are often the source of unproductive government
spending. The IMF also encourages countries to conduct "public expenditure reviews" with the
World Bank.
10

•

In its July, 2007 Article IV review of Bolivia, the USED encouraged Bolivian authorities to
enact a new budget framework to strengthen the budget process and control subnational
spending.

•

In its Board statement at the most recent Brazil Article IV discussions, the USED questioned
the value of Brazil's use of fiscal adjustors to the primary surplus, noting that such
adjustments tend to cloud fiscal transparency.

(8) Economic prescriptions appropriate to the economic circumstances of each country

The United States has supported flexibility in Fund programs, while emphasizing the need to
focus conditionality on issues critical to growth and macroeconomic stability using measurable
results. Partly as a result of U.S. efforts, program conditions have focused increasingly on debt
and financial vulnerability in middle-income countries and macroeconomic management in lowincome countries. In low-income countries, the U.S. has supported the use of Poverty Reduction
Strategy Papers ("PRSP"), which are developed by local authorities and civil society and help
ensure that IMF programs meet specific needs of the country.
(9) Core labor standards (CLS)

Core labor standards provide a useful benchmark for assessing countries' treatment of
workers against internationally agreed-upon standards. The State Department monitors. labor
standards in all IFI borrower countries and Treasury is mandated to submit a separate report to
Congress assessing progress made with respect to internationally recognized worker rights.
(10) Discouraging practices that may promote ethnic or social strife

By helping to create the conditions for a sound economy, IMF assistance facilitates the
reduction of ethnic and social strife, to the extent such strife is driven in part by economic
deprivation. For example, with United States support, the IMF has increasingly encouraged the
strengthening of social safety nets. The IMF also encourages consultation with various segments
of society in the development of programs so that these segments have an opportunity to
participate in the implementation of national priorities. IMF assistance has helped to free up
resources for more productive public investment by contributing to a reduction in country
military expenditures.

(11) Link between environmental and macroeconomic conditions and policies

With respect to its individual lending operations, the IMF does not itself evaluate positive or
negative linkages between conditions and environmental sustainability. Rather, the IMF
coordinates with the World Bank which, unlike the IMF, possesses the internal expertise to
address such linkages. The United States has encouraged the inclusion of conditions on
environmental issues in cases where such issues have significant macroeconomic consequences.
11

•

In the August 2007 statement on Laos' July Article IV review, the USED noted that a
transparent and predictable resource revenue management framework would help maximize
the benefits of Lao's vast natural resources and strongly recommended that the authorities
participate in the Extractive Industries Transparency Initiative and adhere to the Fund's
guidelines on resource revenue management.

(12) Greater transparency
Over the last several years, the IMF has increased significantly the amount of information on
its programs that it has made available to the public. The United States has stressed the need to
build on this progress and expand the number of publications and IMF practices open to public
scrutiny. As of July 2004, publication of all Article IV and Use of Fund Resources staff reports
is presumed unless a country objects. In addition, all exceptional access reports will generally be
published as a pre-condition for the Board's approval of such an arrangement. 5 The USED
consistently encourages countries to publish the full Article IV staff report on the IMF's public
website. The percentage of staff reports published increased from 78 percent in 2004 to 84
percent in 2006.

(13) Greater IMF accountability and enhanced self-evaluation
In April 2000, with the strong urging of the USED, the Executive Board agreed to establish
an Independent Evaluation Office ("lEO") to supplement existing internal and external
evaluation activities. The lEO provides objective and independent evaluation on issues related to
the IMF and operates independently of Fund management and at arm's length from the IMF
Board. Since its inception, the lEO has published thirteen comprehensive reviews, including
recent assessments of the IMF's structural conditionality, exchange rate policy advice, and aid to
Sub-Saharan Africa. All reports are publicly available on the lEO's website at
(http://www.imf.org/externallnp/ieo/index.htm).
In response to recommendations of a 2002 lEO study on prolonged use of IMF resources, the
IMF now requires "Ex Post Assessments" (EPAs) of IMF engagement in countries where the
IMF has had a program in place for at least 7 out of the past 10 years. The EP As are intended to
provide a long-term, arms-length perspective and are led by someone other than the country
mission chief, ideally someone outside of the area department. EPAs provide valuable insights
to guide future engagement with "prolonged use" countries.

(14) Structural reforms which facilitate the provision of credit to small businesses, including
microenterprise lending
The lack of financial services available to the poor is a significant obstacle to growth for
many developing countries. The IMF does not have the lead role in microeconomic reforms to
benefit small businesses; however, the Treasury Department engages with the IFIs to promote
structural reforms that encourage the provision of credit to small and micro enterprises. The
micro finance sector is frequently reviewed in the context of the Financial Sector Assessment
Program (FSAP) in developing countries.
5 "Exceptional

access" refers to financing arrangements in amounts that exceed the Fund's normal limits.
12

•

In its July, 2007 Article IV response, the USED voiced concerns about the impact of a staterun development bank, BDP, on the Bolivian micro-credit industry, doubting its potential to
complement the private sector without competition.

(15) Anti-Money Laundering and Combating the Financing of Terrorism (AMLICFT)

Comprehensive integration of the efforts of the IMF and the other IFI efforts as part of the
global war on terrorism has been a consistent policy priority for the United States and its
partners. We have encouraged collaboration between the IF Is and the Financial Action Task
Force (FATF) to assess global compliance with the anti-money laundering (AML) and counterterrorist financing (CFT) standards based on the FATF 40 Recommendations on Money
Laundering and the 9 Special Recommendations on Terrorist Financing.
In April 2007, largely as a result of US and G7 leadership, the Executive Board of the IMF
reiterated the importance of AMLlCFT standards to strengthening the integrity of financial
systems and deterring financial abuse, and affirmed the collaborative arrangements presently in
place with the FATF and FATF-style regional bodies (FSRBs) for assessing AMLlCFT regimes
in the context of the IMF's financial sector work. The Board also encouraged greater
transparency by calling for the publication of comprehensive country evaluations.
Collaboration by the IMF, FATF and FSRBs, with the assessors, using the same common
methodology, institutionalizes the global fight against terrorist financing and money laundering,
and helps countries identify shortfalls in their AML and CFT regimes and implement reforms.
As of September 2007, the IMF had conducted 50 assessments of country compliance with
AMLlCFT, four of which were conducted jointly with the World Bank.
The IMF is also a substantial source of funding for countries' efforts to strengthen their own
AMLlCFT regimes - an activity that Treasury has supported and has joined in to leverage
Treasury's own bilateral AMLlCFT assistance. The IMF has provided substantial technical
assistance (TA) on a bilateral and regional basis, delivering 88 missions and events from May
2006 to April 2007.
In the latest Communique of the International Monetary and Financial Committee of the
Board of Governors of the International Monetary Fund (lMFC) - the Secretary of the Treasury
is the Governor for the United States - the IMFC reiterated the importance of these issues and
called for closer cooperation between the IMF and FATF in promoting stronger implementation
of AMLlCFT standards and encouraged publication of comprehensive country evaluations.
The USED/IMF office played a crucial role in mobilizing the IMF Board support for this
initiative, as well as making sure note is taken of AMLlCFT issues in Article IV reviews and
reports, IMF programs, and other regular reviews of country progress. Examples include:
•

In its September 2007 statement on the United Arab Emirates' Article IV report, the USED
concurred with IMF staff in calling upon the government of the United Arab Emirates to
strengthen its legal framework for combating terrorist financing and money laundering.
13

•

In the USED July 2007 Board Statement, the USED noted that MENA FATF (the regional
FSRB for the Middle East and North Africa) had completed its AMLlCFT assessment of
Syria. The USED asked IMF staff to review the MENA FA TF assessment and provide the
Board with comment on its main findings.

•

In its December 2006 statement on Hong Kong's Article IV review, the USED noted that
Hong Kong authorities are taking steps to improve their AMLlCFT legislative framework.
The USED called for improved enforcement of AMLlCFT measures, and highlighted the
need for greater regulatory oversight.

•

In its November 2006 statement on Pakistan's Article IV review, the USED congratulated
Pakistani authorities on measures taken to date to build robust controls against illicit finance
and emphasized that passage of the long-delayed legislation on money laundering would be
an important step.

II. Section 801(c)(1)(B)
(I)

Suspension of IMF financing if funds are being diverted for purposes other than the
purposes for which the financing was intended

With strong United States support, the IMF has taken steps in the past several years to
ensure that IMF resources are used solely for the purposes for which they are intended. These
steps constitute a serious and far-reaching initiative to strengthen the system for safeguarding the
use of Fund resources and for deterring the misreporting of data to the IMF.
The IMF's safeguards framework requires countries receiving funds to submit to external
financial audits of their central bank's data. This process is designed to ensure that central banks
have adequate control, accounting, reporting and auditing systems in place to protect central
bank resources, including IMF disbursements. Any critical gaps identified during the assessment
process must be remedied before additional IMF resources can be disbursed.
(II) IMF financing as a catalyst for private sector financing

The IMF recognizes that, if structured effectively, official financing can complement and
attract private sector flows. The Fund promotes policy reforms that catalyze private financing
and, in cases of financial crisis, allow countries to regain access to international private capital
markets as quickly as possible. (See Section 5 above for a more in-depth discussion of private
sector involvement.)
(III) Financing must be disbursed (i) on the basis of specific prior reforms; or (ii)

incrementally upon implementation of specific reforms after initial disbursement
IMF disbursements are tranched based on a country's performance against specified policy
actions, both prior to and during the program.
14

•

In its Board statement at the February 2007 discussions on the Ex-post Assessment of the
2002-2006 PROF program for Nicaragua, the USED noted that using an IMF disbursement
of funds as a signal to other donors of compliance put pressure on the IMF to disburse funds
despite countries not meeting program standards, limiting the IMF's ability to be an effective
gatekeeper of funds.

(IV) Open markets and liberalization of trade in goods and services
The IMF has been a consistent advocate of open markets and trade liberalization. The Fund
also recognizes that trade adjustments can cause temporary balance of payments problems and
has developed the Trade Integration Mechanism to provide transitional financial assistance to
countries if needed.
•

In its Board statement at the December 2006 Article IV discussion for India, the USED
agreed with IMF staff that India can playa proactive role in restarting multilateral trade talks
and noted that in the Doha Round, key developing countries such as India also need to reduce
tariffs and other trade barriers in order to promote new trade flows in agriculture,
manufactured goods and services.

•

In its Board statement at the February 2007 Article IV discussions, the USED encouraged
Panama that implementation of the US-Panama FTA would provide additional impetus for
reforms and help sustain growth.

(V) IMF financing to concentrate chiefly on short-term balance ofpayments financing

In September 2000, with strong United States support, the IMF agreed to reorient IMF
lending to discourage continued or prolonged use of IMF funds, and provide incentives for quick
repayment. In particular, the IMF shortened the expected repayment periods for both Stand-By
and Extended Arrangements and established surcharges for higher levels of access.
In early 2006 the IMF activated an Exogenous Shocks Facility (ESF) for low-income
countries, which the U.S. supported to bolster the IMF's focus on addressing short-term balance
of payments needs. The U.S. also successfully pressed for the adoption of the non-borrowing
Policy Support Instrument (PSI), to provide a framework for IMF policy advice and donor
signaling without the need for IMF lending. The U.S. has discouraged low-income countries
from pursuing serial PROF programs. The U.S. urges those countries without a clear balance of
payments financing need to opt for a PSI, in which case they would retain the option of seeking
ESF financing in the event of sudden adverse developments in their balance of payments.

(VI) Graduation from receiving financing on concessionary terms
The United States supports comprehensive growth strategies to move countries from
concessional to market-based lending. The United States works closely with the IMF and World
Bank to promote a growth-oriented agenda in developing countries based on strong monetary
and fiscal policies, trade liberalization, and reduction of impediments to private sector job
creation. The IMF extends concessional credit through the PROF. Eligibility is based
15

principally on a country's per capita income and eligibility under the International Development
Association ("IDA"), the World Bank's concessional window (the current operational cutoff
point for IDA eligibility is a 2004 per capita ONI level of $965). Factors that would contribute
to reduced reliance on concessional resources include a country's growth performance and
prospects, capacity to borrow on non-concessional terms, vulnerability to adverse external
developments such as swings in commodity prices, and balance of payments dynamics.

16

ANNEX 1

Report to Congress on International Monetary Fund Lending
October 1, 2006 - September 30, 2007

11120/2006

I Haiti

12115/2006

I Moldova

1211812006

I Mauritania

12/22/2006

Central African
Republic

0112612007

Peru

SDR 73.7 million
(US $110 million)
SDR 30.8 million
(US $46 million)

IPRGF

Support

I PRGF Augmentation

Support

SDR 16.1 million
(US $24 million)
SDR 36.2 million
(US $54 million)

IPRGF

Support

IPRGF

Support

SDR 172.4 million ISBA
($258 million)

Support

IPRGF

Support

SDR 6 million
($9 million)

IPRGF

Support

I Gabon

SDR 77.2 million
($116 million)

ISBA

Support

I Cote d'Ivoire

SDR 40.6 million
(US$62 million)

I EPCA

Support

02/2112007

I The Gambia

04/23/2007

I Burkina Faso

05/07/2007
08/03/2007

SDR 14 million
($21 million)

Legislative Provisions
Section 1503 of the International Financial Institutions Act, as amended
(originally passed as Section 610 ofthe
Foreign Operations, Export Financing, and
Related Programs Appropriations Act, 1999, and amended in 2004)
The Secretary of the Treasury shall instruct the United States Executive Director of the
International Monetary Fund to use aggressively the voice and vote of the Executive Director to
do the following:
(1) Vigorously promote policies to increase the effectiveness of the International Monetary Fund
in structuring programs and assistance so as to promote policies and actions that will
contribute to exchange rate stability and avoid competitive devaluations that will further
destabilize the international financial and trade systems.
(2) Vigorously promote policies to increase the effectiveness of the International Monetary Fund
in promoting market-oriented reform, trade liberalization, economic growth, democratic
governance, and social stability through (A) Establishing an independent monetary authority, with full power to conduct monetary
policy, that provides for a non-inflationary domestic currency that is fully convertible in
foreign exchange markets;
(B) Opening domestic markets to fair and open internal competition among domestic
enterprises by eliminating inappropriate favoritism for small or large businesses,
eliminating elite monopolies, creating and effectively implementing anti-trust and antimonopoly laws to protect free competition, and establishing fair and accessible legal
procedures for dispute settlement among domestic enterprises;
(C) Privatizing industry in a fair and equitable manner that provides economic opportunities
to a broad spectrum of the population, eliminating government and elite monopolies,
closing loss-making enterprises, and reducing government control over the factors of
production;
(D) Economic deregulation by eliminating inefficient and overly burdensome regulations and
strengthening the legal framework supporting private contract and intellectual property
rights;
(E) Establishing or strengthening key elements of a social safety net to cushion the effects on
workers of unemployment and dislocation; and
(F) Encouraging the opening of markets for agricultural commodities and products by
requiring recipient countries to make efforts to reduce trade barriers.
(3) Vigorously promote policies to increase the effectiveness of the International Monetary
Fund, in concert with appropriate international authorities and other international financial
institutions (as defined in Section 1701(c)(2)), in strengtheningfinancial systems in
developing countries, and encouraging the adoption of sound banking principles and
practices, including the development of laws and regulations that will help to ensure that
domestic financial institutions meet strong standards regarding capital reserves, regulatory
oversight, and transparency.

(4) Vigorously promote policies to increase the effectiveness of the International Monetary
Fund, in concert with appropriate international authorities and other international financial
institutions (as defined in Section 1701(c)(2)), infacilitating the development and
implementation of internationally acceptable domestic bankruptcy laws and regulations in
developing countries, including the provision of technical assistance as appropriate.
(5) Vigorously promote policies that aim at appropriate burden-sharing by the private sector so
that investors and creditors bear more fully the consequences of their decisions, and
accordingly advocate policies which include (A) Strengthening crisis prevention and early warning signals through improved and more
effective surveillance of the national economic policies and financial market development
of countries (including monitoring of the structure and volume of capital flows to identify
problematic imbalances in the inflow of short and medium term investment capital,
potentially destabilizing inflows of offshore lending and foreign investment, or problems
with the maturity profiles of capital to provide warnings of imminent economic
instability), and fuller disclosure of such information to market participants;
(B) Accelerating work on strengtheningfinancial systems in emerging market economies so
as to reduce the risk offinancial crises;
(C) Consideration ofprovisions in debt contracts that would foster dialogue and consultation
between a sovereign debtor and its private creditors, and among those creditors;
(D) Consideration of extending the scope of the International Monetary Fund's policy on
lending to members in arrears and of other policies so as to foster the dialogue and
consultation referred to in subparagraph (C);
(E) Intensified consideration of mechanisms to facilitate orderly workout mechanisms for
countries experiencing debt or liquidity crises;
(F) Consideration of establishing ad hoc or formal linkages between the provision of official
financing to countries experiencing a financial crisis and the willingness of market
participants to meaningfully participate in any stabilization effort led by the International
Monetary Fund;
(G) Using the International Monetary Fund to facilitate discussions between debtors and
private creditors to help ensure that financial difficulties are resolved without
inappropriate resort to public resources; and
(H) The International Monetary Fund accompanying the provision offunding to countries
experiencing a financial crisis resulting from imprudent borrowing with efforts to
achieve a significant contribution by the private creditors, investors, and banks which
had extended such credits.
(6) Vigorously promote policies that would make the International Monetary Fund a more
effective mechanism, in concert with appropriate international authorities and other
internationalfinancial institutions (as defined in Section 1701(c)(2)),for promoting good
governance principles within recipient countries by fostering structural reforms, including
procurement reform, that reduce opportunities for corruption and bribery, and drug-related
money laundering.
(7) Vigorously promote the design of International Monetary Fund programs and assistance so
that governments that draw on the International Monetary Fund channel public funds away

2

from unproductive purposes, including large "show case" projects and excessive military
spending, and toward investment in human and physical capital as well as social programs
to protect the neediest and promote social equity.
(8) Work with the International Monetary Fund to foster economic prescriptions that are
appropriate to the individual economic circumstances of each recipient country, recognizing
that inappropriate stabilization programs may only serve to further destabilize the economy
and create unnecessary economic, social, and political dislocation.
(9) Structure International Monetary Fund programs and assistance so that the maintenance
and improvement of core labor standards are routinely incorporated as an integral goal in
the policy dialogue with recipient countries, so that (A) Recipient governments commit to affording workers the right to exercise internationally
recognized core worker rights, including the right offree association and collective
bargaining through unions of their own choosing;
(B) Measures designed to facilitate labor market flexibility are consistent with such core
worker rights; and
(C) The staff of the International Monetary Fund surveys the labor market policies and
practices of recipient countries and recommends policy initiatives that will help to ensure
the maintenance or improvement of core labor standards.
(J 0)
Vigorously promote International Monetary Fund programs and assistance that are
structured to the maximum extent feasible to discourage practices which may promote ethnic
or social strife in a recipient country.
(J J)
Vigorously promote recognition by the International Monetary Fund that
macroeconomic developments and policies can affect and be affected by environmental
conditions and policies, and urge the International Monetary Fund to encourage member
countries to pursue macroeconomic stability while promoting environmental protection.
(J 2)
Facilitate greater International Monetary Fund transparency, including by enhancing
accessibility of the International Monetary Fund and its staff,foster a more open release
policy toward working papers, past evaluations, and other International Monetary Fund
documents, seeking to publish all Letters of Intent to the International Monetary Fund and
Policy Framework Papers, and establishing a more open release policy regarding Article IV
consultations.
(J 3)
Facilitate greater International Monetary Fund accountability and enhance
International Monetary Fund self-evaluation by vigorously promoting review of the
effectiveness of the Office of Internal Audit and Inspection and the Executive Board's
external evaluation pilot program and, if necessary, the establishment of an operations
evaluation department modeled on the experience of the International Bank for
Reconstruction and Development, guided by such key principles as usefulness, credibility,
transparency, and independence.

3

(14)
Vigorously promote coordination with the International Bankfor Reconstruction and
Development and other internationalfinancial institutions (as defined in Section 1701 (c)(2))
in promoting structural reforms which facilitate the provision of credit to small businesses,
including microenterprise lending, especially in the world's poorest, heavily indebted
countries.
(15)

Work with the International Monetary Fund to

(A) foster strong global anti-money laundering (AML) and combat the financing of terrorism
(eFT) regimes;
(B) ensure that country performance under the Financial Action Task Force anti-money
laundering and counterterrorist financing standards is effectively and comprehensively
monitored;
(e) ensure note is taken ofAML and eFT issues in Article IV reports, International Monetary
Fund programs, and other regular reviews of country progress;
(D) ensure that effective AML and eFT regimes are considered to be indispensable elements
of sound financial systems; and
(E) emphasize the importance ofsound AML and eFT regimes to global growth and
development.

4

Legislative Provisions
Section 801 (c) (1) (B)
Foreign Operations, Export Financing, and
Related Programs Appropriations Act, 2001

Treasury should report on the extent to which the IMF is implementingI.

Policies providing for the suspension offinancing iffunds are being diverted for
purposes other than the purpose for which the financing was intended;

II.

Policies seeking to ensure that financing by the Fund normally serves as a catalyst for
private sector financing and does not displace such financing;

III.

Policies requiring that financing must be disbursed (i) on the basis of specific prior
reforms; or (ii) incrementally upon implementation ofspecific reforms after initial
disbursement;

IV.

Policies vigorously promoting open markets and liberalization of trade in goods and
services;

V.

Policies providing that financing by the Fund concentrates chiefly on short-term balance
ofpayments financing;

VI.

Policies providing for the use, in conjunction with the Bank, of appropriate qualitative
and quantitative indicators to measure progress toward graduation from receiving
financing on concessionary terms, including an estimated timetable by which countries
may graduate over the next 15 years.

5

Legislative Provisions
Section 605(d) of the Foreign Operations, Export Financing, and
Related Programs Appropriations Act, 1999

On a quarterly basis, the Secretary of the Treasury shall report to the appropriate committees on
the standby or other arrangements of the Fund made during the preceding quarter, identifying
separately the arrangements to which the policies described in section 601 (4) of this title apply
and the arrangements to which such policies do not apply.

6

Page 1 of 4

March 26, 2008
2008-3-26-14-49-55-13417

U.S. International Reserve Position

The Treasury Department today released U.S. reserve assets data for the latest week. As indicated in this table, U.S.
reserve assets totaled $75,146 million as of the end of that week, compared to $75,366 million as of the end of the
prior week.
I. Official reserve assets and other foreign currency assets (approximate market value, in US millions)

I
I
IA. Official reserve assets (in US millions unless otherwise specified)

II
IIMarch 21, 2008
IIEuro

IIYen

IITotal

1(1) Foreign currency reserves (in convertible foreign currencies)

II

II

11 75 ,146

I(a) Securities

11 15,446

11 12 ,324

11 27 ,770

lof which: issuer headquartered in reporting country but located abroad

II
II

II
II

11 0

I(b) total currency and deposits with:
I(i) other national central banks, BIS and IMF

15,301

II
6,902

11 0
11 0
110
11 0

Iii) banks headquartered in the reporting country
lof which: located abroad
I(iii) banks headquartered outside the reporting country
lof which: located in the reporting country
1(2) IMF reserve position

11 4 ,330

1(3) SDRs

11 9 ,802

1(4) gold (including gold deposits and, if appropriate, gold swapped)

1111 ,041

I--volume in millions of fine troy ounces

11 261 .499

1(5) other reserve assets (specify)

11 0

I--financial derivatives

II
II

[--loans to nonbank nonresidents

11 22 ,203

I

t-other

[B. Other foreign currency assets (specify)
t-securities not included in official reserve assets
[deposits not included in official reserve assets
--loans not included in official reserve assets

II

--financial derivatives not included in official reserve assets

1\

[gOld not included in official reserve assets

II
II

[other

II

II

II. Predetermined short-term net drains on foreign currency assets (nominal value)

[ ____________

~I~I_ _ _ _~ILI_ _ _ _~I~I----~I~I- -_ _~I~I_ _ _ _~II

http://www.treas.gov/press/releases!200832644495513417.htm

4/412008

Page 2 of 4

[

II

[

I

IIMaturity breakdown (residual maturity)
Total

IUp to 1 mooth

More than 3
months and up to
1 year

More than 1 and
up to 3 months

[1. Foreign currency loans, securities, and deposits
[outflOWS (-)

IIPrincipal

[

IIlnterest

[inflows (+)

IIPrincipal

[

IIlnterest
2. Aggregate short and long positions in forwards and
futures in foreign currencies vis-a-vis the domestic
currency (including the forward leg of currency swaps)

I (a) Short positions ( - )
I (b) Long positions (+)
I 3. Other (specify)

I

I

II

II

--outflows related to repos (-)
--inflows related to reverse repos (+)
--trade credit (-)
--trade credit (+)
--other accounts payable (-)
--other accounts receivable (+)

III. Contingent short-term net drains on foreign currency assets (nominal value)

I

II

I

II

II

applicable)
Total

I

I

I Maturity breakdown (residual maturity, where
Up to 1 month

More than 1 and
up to 3 months

More than 3
months and up to
1 year

11. Contingent liabilities in foreign currency
(a) Collateral guarantees on debt falling due within 1
year

I(b) Other contingent liabilities
2. Foreign currency securities issued with embedded
options (pultable bonds)

@. Undrawn, unconditional credit lines provided by:
(a) other national monetary authorities, 81S, IMF, and
other international organizations
[other national monetary authorities (+)

[81S (+)

tlMF

(+)

(b) with banks and other financial institutions
headquartered in the reporting country (+)
(c) with banks and other financial institutions
headquartered outside the reporting country (+)
Undrawn, unconditional credit lines provided to:
(a) other national monetary authorities, 81S, IMF, and
other international organizations
I.:.:.other national monetary authorities (-)

r

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Page 3 of 4

t BIS (-)
t lMF (-)

II

(b) banks and other financial institutions headquartered
in reporting country (- )

II

(c) banks and other financial institutions headquartered
outside the reporting country ( - )

II

4. Aggregate short and long positions of options in
foreign currencies vis-a-vis the domestic currency

II

II
II

I

II

I

I

[(a) Short positions

[(i) Bought puts
I(ii) Written calls
I(b) Long positions

[(i) Bought calls
[iii) Written puts
iPRO MEMORIA: In-the-money options

I

I

I

I

[(1) At current exchange rate
I(a) Short position
[(b) Long position

1(2) + 5 % (depreciation of 5%)
I(a) Short position
I(b) Long position

1(3) - 5 % (appreciation of 5%)
I(a) Short position
I(b) Long position
[(4) +10 % (depreciation of 10%)
[(a) Short position
I(b) Long position

1(5) -10 % (appreciation of 10%)
I(a) Short position
I(b) Long position

1(6) Other (specify)
I(a) Short position
I(b) Long position

IV. Memo items

[

"
"
(b) financial instruments denominated in foreign currency and settled by other means (e.g., in domestic II
"
currency)

[1) To be reported with standard periodicity and timeliness:

~) short-term

domestic currency debt indexed to the exchange rate

[nondeliverable forwards
[-Short positions
[-long positions
[other instruments

li0 pledged assets

t[nclUded in reserve assets
I.::.included in other foreign currency assets

r-

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11
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Page 4 of 4

li9) securities lent and on repo

I
I

Elent or repoed and included in Section I
Elent or repoed but not included in Section I
tbOrrowed or acquired and included in Section I

II

--borrowed or acquired but not included in Section I

~) financial derivative assets (net, marked to market)
[--forwards
tfutures
t-swaps
[options
t-other
(f) derivatives (forward, futures, or options contracts) that have a residual maturity greater than one
year, which are subject to margin calls.

11

--aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the domestic
currency (including the forward leg of currency swaps)

I

I(a) short positions ( - )
I(b) long positions (+)
I--aggregate short and long positions of options in foreign currencies vis-a-vis the domestic currency
I(a) short positions

l(i) bought puts
I(ii) written calls
I(b) long positions

l(i) bought calls
I(ii) written puts

1(2) To be disclosed

less frequently:

I(a) currency composition of reserves (by groups of currencies)

11 75 ,146

I--currencies in SDR basket

11 75 ,146

I--currencies not in SDR basket

II

I--by individual currencies (optional)

I
II

I

Notes:

1/ Includes holdings of the Treasury's Exchange Stabilization Fund (ESF) and the Federal Reserve's System Open Market
Account (SOMA), valued at current market exchange rates. Foreign currency holdings listed as securities reflect markedto-market values, and depOSits reflect carrying values.
2/ The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF
and are valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest
week reflect any necessary adjustments, including revaluation, by the U.S. Treasury to IMF data for the prior month
end.

3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

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IP.889: Secretary Paulsun to Visit China Next Week

Page 1 of 1

March 27, 2008
HP-889
Secretary Paulson to Visit China Next Week
Secretary Henry M. Paulson, Jr. will travel to China next week to meet with the
newly appointed leadership and discuss a broad range of economic issues.
Paulson will be in Beijing April 2 and 3.
While there he will also deliver remarks on U.S. and Chinese cooperation on issues
surrounding energy and the environment.
Presidents Bush and Hu established the U.S.-China Strategic Economic Dialogue
(SED) in 2006 to provide a focused and effective framework for addressing
economic issues of mutual concern. By prioritizing issues in the broader context of
our bilateral economic relationship, the SED gives direction and creates momentum
for the many existing bilateral mechanisms we use to foster cooperation and
resolve concerns across the spectrum of economic issues. The SED focuses on a
range of issues including financial sector reform and increased currency flexibility,
the integrity of trade and product safety, and investment.
Paulson's remarks will focus on an agreement reached at the last meeting of the
SED, in which the United States and China agreed to conduct extensive
cooperation over a ten-year period to address the challenges of environmental
sustainability, climate change and energy security. This ten year collaboration will
advance technological innovation, further the adoption of highly-efficient, clean
energy technology, promote the development of technology to address climate
change, and promote the sustainability of natural resources. Both sides agreed to
take additional steps to promote energy efficiency and security and address climate
change.
Protecting the environment and promoting clean energy represent a shared priority
for the United States and China. The two countries are the two largest consumers
of natural resources, and recognize that meaningful results require cooperation on
a wide range of sustainable resource and environment initiatives.
Who
Secretary Henry M. Paulson, Jr.
What
Remarks
When
9:00 a.m. (Local Time), Thursday, April 3
Where
Chinese Academy of Sciences
Research Center for Eco-Environmental Sciences
18 Shuangqing Road
Haidian District, Beijing, China

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P.890: Treasury To Hold Briefing on China Trip

Page 1 of 1

March 27, 2008
HP-890
Treasury To Hold Briefing on China Trip
Ambassador Alan F. Holmer, Special Envoy for China and the Strategic Economic
Dialogue, will hold a pen-and-pad briefing on Secretary Paulson's April 2-3 trip to
China.
Who
Ambassador Alan F. Holmer
What
Pen-and-Pad Briefing on Secretary Paulson's China Trip
When
Friday, March 28, 2:00 p.m. EDT
Where
U.S. Treasury Department
Media Room (4121)
1500 Pennsylvania Avenue, NW
Washington, D.C.
Note
Media without Treasury press credentials should contact Frances Anderson at
(202) 622-2960, or FrcmC~~LAnQ~r~9D_@QO.trE;lQS.90Y with the following information:
full name, Social Security Number and date of birth. No cameras will be permitted
into the briefing.

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[p.891: Remarks By Treasurer Anna Escobedo Cabral on Housing<br>Before the National Associatio...

Page 1 of2

March 27, 2008
HP-891
Remarks By Treasurer Anna Escobedo Cabral on Housing
Before the National Association of Hispanic Real Estate Professionals
Washington - Thank you, Chairman DeHerrera, for the kind introduction and
strong leadership. I am pleased to be here with all of you today for the 2008
Legislative Conference.
I send my most sincere thanks to NAHREP President and CEO Timothy Sandos,
incoming Chair Rebecca Gallardo-Serrano, Legislative Conference Committee
Chair Alex Chaparro, the panelists representing many distinguished organizations
in the housing sector and last, but certainly not least, those representatives from
NAHREP's 60 local affiliate chapters for making the trip to DC today.
Together, you create a resounding, powerful voice on issues that affect Hispanic
homeownership throughout our nation.
As we gather today, during the opening days of spring, we have much work to do.
Despite the homeownership challenges we face, the majority of homeowners in the
country are not experiencing serious housing problems. For the 92 percent of
homeowners who pay their mortgages on time, the sun is shining. But for those
remaining families who are at risk of foreclosure, are struggling to make payments,
or have lost their homes, their spring has yet to come.
Many struggling to stay in their homes face constant worry, causing some to
declare that "Home is where the mortgage is."
Minority homeownership in this country has risen to historic levels -- above 50
percent -- since the President took office. But, the housing crisis hit the Hispanic
community especially hard and too many families in this country face a time when
they are watching their dreams fade into a not-so-distant past.
Solutions to complex housing and economic problems do not come easily, nor
swiftly, but there are ways we can help people keep their homes. The
Administration is taking many steps to ensure that our nation works through this
difficult period.
First, as many of you know, the President signed into law an economic growth
package that will provide rebates payments to more than 130 million Americans and
tax incentives to businesses. These funds will create a temporary, meaningful boost
to our economy as we weather the housing correction. (And, it will put extra
spending money in your pockets!)
The President is also working closely with Secretary Jackson at HUD to assist
those homeowners in danger of foreclosure and to make necessary changes to the
home buying process including:
•

•
•

Promoting FHASecure, which has helped more than 130,000 current and
delinquent homeowners nationwide to refinance into a safer, more secure
FHA loan;
Reforming RESPA, which will ensure that the process of signing a mortgage
is clear and understandable; and
Pushing Congress to act on important issues like GSE reform and FHA
Modernization.

I know your luncheon speaker today, Secretary Jackson, is going to delve much
deeper into those issues.

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[P-891: Remarks By Treasurer Anna Escobedo Cabral on Housing<br>Before the National Associatio...

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At Treasury, we are equally committed to an ownership society and to helping
homeowners. We know that government works best when it joins together with the
private sector to solve problems. This is why Secretary Paulson and Secretary
Jackson, at the behest of the President, have partnered with the private sector in an
evolving voluntary industry effort to build back the housing market.
The HOPE NOW Alliance - made up of our nation's leading counselors, servicers,
and investors - has been critical in bolstering our efforts to vulnerable homeowners.
Representing more than 70 percent of the mortgage industry and 90 percent of the
subprime mortgage industry, HOPE NOW has implemented a variety of outreach
services, including a direct mail campaign and a centralized hotline. We know that
half of borrowers who foreclosed on a home never reached out to their lender or
housing counselor to ask for the crucial help they need. We must work to
encourage those families who fall behind that they can't avoid the letters. They can't
avoid the phone calls. They can't avoid the problem.
We need your help in spreading the word. If you know a homeowner who needs
assistance, and they are not comfortable calling their mortgage lender directly,
please encourage them to call the HOPE NOW hotline at: 1-888-995-HOPE. That's
1-888-995-4673, or HOPE. At the other end of that line will be a housing counselor
- people who have the training, tools, and know-how to help keep people in their
homes.
As Treasurer, I have made it a priority to help educate the public about how to
make important decisions about their finances, from understanding the importance
of having a bank account to knowing how to use credit to your advantage to
knowing the terms of your mortgage.
Sometimes it is easier to see the value of financial education when it is not there. In
the past few years, too many individuals entered into mortgages that they didn't
understand or couldn't manage. For most Americans, buying a home is the biggest,
most important purchase of a lifetime. In the Hispanic community, where home
equity accounts for the majority of household wealth, this is especially true. I would
encourage all Americans to use the financial education resources available to their
advantage and to use housing counselors.
I know that the members of NAHREP are lending a hand during this challenging
time. Your members are vital to this effort, because you work closely with
communities. You build trust. And, you assist those with language barriers to
become, and remain, homeowners. The organization's historic growth in
membership in the past six years is sure to further enhance its ability to make an
even greater impact in the Hispanic community.
Let me close with this: President Bush has worked hard to break down barriers to
homeownership and expand the dream of owning a home to more Americans. It is
all of our responsibilities to help protect and preserve this dream. At the end of the
day, the more families we place and keep in homes improves lives and strengthens
our nation's economy. Working together, I'm confident we can move forward to
brighter days ahead and preserve the American Dream of homeownership for all
Americans.
Thank you.

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[1>-892: Under Secretary McCormick Remarks to the Japan Society

Page 1 of 4

March 27, 2008
HP-892
Under Secretary McCormick Remarks to the Japan Society
U.S.-Japan Relations: An Essential Bond in a Changing World
New York - I'd like to thank the Japan Society for inviting me to speak here today.
The Japan Society recently celebrated its 100th anniversary, and over the past
century the Society's efforts have contributed greatly to making the U.S.-Japan
relationship one of the strongest - and most important - bilateral relationships we
have.
As this group knows well, the U.S.-Japan alliance is the bedrock of economic
stability and prosperity in Asia. The economic success of the Asia Pacific region
owes much to the open trading regime promoted by the United States and Japan.
There is no doubt that this relationship has had its moments of tension over the
past 60 years, but through the strength of our mutual interests and our shared
values, it has grown, flourished and matured.
While this economic relationship is exceptionally strong and successful, it also is
clear that it has not achieved its full potential in many ways. Given the size of our
two economies, for example, we have failed to achieve the full benefits of economic
integration through bilateral trade and investment. Likewise, despite our many
mutual interests around the world, we have not fully leveraged the strength of our
alliance to confront common challenges and opportunities on crucial issues such as
global trade, energy and the environment, or investment liberalization.
With this context, my argument today is a simple one: in this time of dramatic global
economic change - a period marked by factors including the rapid growth of
emerging economies, the rise of protectionism, and global financial market turmoil
and uncertainty - U.S.-Japan cooperation on the international stage is more
important than ever. Japan and the United States must work together on a focused
agenda for addressing these common challenges and opportunities. Today, I'd like
to suggest some critical components of the common U.S.-Japan agenda.
The U.S.-Japan Relationship in Perspective
To get a sense of how much the challenges confronting Japan and the United
States have changed - one needs only to go back a single generation. In the early
1980s, the U.S. and Japanese economies overwhelmingly dominated the AsiaPacific region, accounting for 84% of the area's GOP. Economic issues were
synonymous with trade issues - steel, autos, and semiconductors dominated U.S.Japan economic discussion. The Asian tigers - Korea, Taiwan, Hong Kong, and
Singapore - were growing rapidly but still relatively small. China was just beginning
its turn towards a market economy.
Today, the emerging markets of Asia - China in particular - are far larger in the
region and the world. The U.S. and Japan share of Asia-Pacific GOP has fallen to
75 percent. We should be absolutely clear: the rapid growth of Asian economies is
a validation of the open global economic system that the United States and Japan
fostered. Their growth has enhanced our prosperity. But it has also altered the
world that we operate in and the many challenges that we face.
The US-Japan economic relationship has also changed over this period. A quartercentury ago, Japan was America's top economic challenger and the face of the
globalization threat for U.S. workers. Ironically, just as American fear of the
Japanese challenge became most intense, the bursting of an equity and property
market bubble launched Japan into a period of sluggish growth, financial cnSIS, and
deflation. The Japanese now refer to this as the "Iost decade." U.S. worry about

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IP-892: Under Secretary McCormick Remarks to the Japan Society

Page 2 of 4

Japanese economic weakness and its effect on the global economy after the Asian
financial crisis displaced worry about Japan's strength. And lectures about
macroeconomic policy supplemented U.S. demands for market opening.
This Administration has recognized Japan as an indispensible ally in Asia and
introduced a quiet, less strident and more respectful dialogue across all dimensions
of the relationship. We understood that solving financial sector problems and
deflation were key to restoring the vibrancy of Japan's economy. And, restoring a
vibrant economy was essential if Japan was to playa confident, leading role on the
world stage.
Economic and financial sector reforms have restored health to Japan's banking
sector and Japan is now in its longest postwar economic recovery. But deflation
remains surprisingly stubborn and domestic demand - particularly consumer
spending - has been weak. Despite years of structural reform, Japan still relies
heavily on foreign demand and lacks the domestic vibrancy to stimulate growth. For
these reasons, Japan should continue with comprehensive reforms to spur
competition and raise Japan's long-term growth. There are some encouraging
signs, including the government's financial sector reform plans and its recent
creation of a blue-ribbon panel to consider how the Japanese economy should
evolve over the next quarter century. But it is fair to say - as many of my friends in
Japan would acknowledge - that beyond discussion, more action must be taken
faster.
Our joint focus on the bilateral relationship has sometimes come at the expense of
our two countries presenting a common and forceful front on issues of international
significance. Yet, in many areas of international policy, a strong US-Japan
partnership is critical and necessary for success. There are several particularly
important and timely areas for cooperation.
Common Challenges and Opportunities
Maintaining open trade and investment is perhaps the most important common
global challenge we face. Although trade liberalization and increasing openness to
capital flows and investment have been fundamental to our two countries' growth
and prosperity, they are now under increasing challenge. The Doha Round of trade
negotiations presents a significant opportunity to create new trade in agriculture,
industrial goods, and services. It is important that Japan playa leading role, along
with the United States, in bringing Doha to a successful conclusion. In addition,
Japanese leadership is critical to achieving ambitious trade liberalization in the
Asia-Pacific region through a Free Trade Area of the Asia-Pacific.
Open Investment
Openness to investment is as important as openness to trade. The United States
has benefited greatly from the free flow of capital. Cumulative foreign direct
investment in the United States now exceeds 28 percent of GOP. International
investment in the United States fuels U.S. economic prosperity by creating well-paid
jobs, importing new technology, and providing healthy competition that fosters
innovation, productivity gains, lower prices, and greater variety for consumers. Over
10 million Americans - 9.2 percent of the U.S. private sector - are employed,
directly or indirectly, by the U.S. operations of foreign-owned firms.
Like the United States, Japan has been the beneficiary of inward foreign portfolio
investment and the ability of its firms to invest overseas. In contrast, however,
foreign direct investment flows into Japan have averaged just 0.1 percent of GOP
over the past ten years, and the Ministry of Finance estimates the stock of foreign
direct investment at just 3.0 percent of GOP, among the lowest in the OECD. The
Fukuda government has ambitiously pledged to double incoming foreign direct
investment by 2010. This would spur an increase in productivity and domestic
demand growth.
The most immediate challenge to maintaining open investment regimes comes from
the rapid growth and increasing importance of state-owned sovereign wealth funds
as international investors. Sovereign wealth funds can bring many benefits, by
boosting funds available for investment, and by being patient, long run investors.
Sovereign wealth funds, as public sector entities, should have both an interest in

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IP·892: Under ~ecretary McCormick Remarks to the Japan Society

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and a responsibility for financial market stability.
At the same time, rising investment by state-owned wealth funds could provoke a
new wave of investment protectionism, which would be very harmful to the global
economy. Protectionist sentiment could be partially based on a lack of information
and understanding of the objectives of sovereign wealth funds. It could be done in
part due to limited transparency and spotty communication on the part of the funds
themselves. Better information and understanding on both sides of the investment
relationship are needed.
To maintain open investment regimes and ensure that the world continues to
benefit from investment by sovereign wealth funds, we have proposed the
development of a multilateral framework for best practices. The International
Monetary Fund should develop best practices for sovereign wealth funds, building
on existing best practices for foreign exchange reserve management. These would
provide guidance to new funds on how to structure themselves, reduce any
potential systemic risk, and demonstrate they are responsible, constructive market
participants.
We have also proposed that the Organization for Economic Co-operation and
Development (OECD) identify best practices for countries that receive foreign
government-controlled investment. These should have a focus on avoiding
protectionism and should be guided by the well-established principles embraced by
the OECD and its members for the treatment of foreign investment. Japan has
been, and should continue to be, an important ally in the development and adoption
of best practices for sovereign wealth funds and for the recipients of sovereign
wealth fund investment.
Exchange Rates
A more obvious cause of protectionist backlash against open trade and
globalization is rigid exchange rate policies in surplus countries, particularly China.
The U.S. and Japan both recognize the value of maintaining floating exchange
rates. We have found common ground with Japan in the G7, which in February
2008 welcomed China's decision to increase the flexibility of its currency, but also
encouraged accelerated appreciation of China's effective exchange rate.
RMB exchange rate policy is a multilateral issue, and Japan and others in the G7
have highlighted the importance of RMB appreciation for the global economy.
Japanese Finance Minister Nukaga has also called publicly for China to accelerate
the appreciation of the RMB. And, Japan has established a ministerial "High Level
Economic Dialogue" with China, which covers pressing economic issues, including
the protection of intellectual property, food and product safety, and currency
flexibility.
Japan's engagement with China on currency is particularly useful. Chinese
academics and government officials frequently suggest that China won't move
faster on currency because they do not want to repeat Japan's experience with
deflation and sluggish growth following the appreciation of the yen in the mid1980s. For this reason, Japan's willingness to engage in a full and frank discussion
has helped encourage China's progress on currency reform. In addition, Japan's full
support for vigorous implementation of the IMF's new exchange rate surveillance
mechanism would encourage China's progress toward a fully market-determined
currency.
Energy and the Environment
An additional prerequisite to achieving sustainable global growth is facing the high
costs of energy demand and the associated environmental challenges. Climate
change is a global challenge that requires global solutions. Our and Japan's
strategies reflect this reality. In this area, we share common commitment and
capabilities for developing and promoting cutting edge clean technology. We also
share a common commitment to play leading roles in the Major Economies process
launched by President Bush in September of last year and in working towards a
successful conclusion to the Bali road map that was agreed to last December.
Japan's leadership in the upcoming G8 will be crucial to pushing this important
agenda forward.

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[P.892: Under Secretary McConnick Remarks to the Japan Society

Page 4 of 4

In addition, the U.S. and Japan, together with the UK, have agreed on one part of
the solution for addressing climate change through the creation of a fund to
accelerate deployment of clean technologies in the developing world. Our three
countries are working with the World Bank to launch a multibillion-dollar multilateral
trust fund, to help fund deployment of clean technology to reduce greenhouse gas
emissions in major emerging economies.
The fund would support national policies that use market forces to encourage the
adoption of clean technologies, and help finance the cost difference between clean
and dirty technologies. President Bush will be seeking authorization for a U.S.
contribution of $2 billion over three years to this "Clean Technology Fund". Japan
announced its support for the Fund in January. This, too, will be a crucial part of the
agenda at the upcoming G8.

Conclusion
Ladies and Gentlemen, as I hope my remarks have made clear, the U.S.-Japan
bilateral relationship is robust. It is important. And, it offers enormous unrealized
potential. A vibrant, confident Japan on the world stage is critical for addressing
global challenges. Given our leading economic positions, the U.S. and Japan share
a unique responsibility for maintaining and strengthening the global trade and
financial system. Our committed, comprehensive, and energetic cooperation is
critical for making this goal a reality.
Thank you for your attention today, and I welcome your questions.
-30-

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P.893: Paulson to Meet with Australian Prime Minister Rudd

Page 1 of 1

March 27, 2008

Hp·893
Paulson to Meet with Australian Prime Minister Rudd
Washington - Treasury Secretary Henry M. Paulson, Jr. will welcome Australian
Prime Minister Kevin Rudd to the U.S. Department of the Treasury on Friday,
March 28. They will discuss a range of economic and financial issues including
Australia's leadership in the fight against illicit finance in the Asia-Pacific region.

·30·

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lP-894: PaulsoH lu Deliver Kemarks on Financial Market Issues

Page 1 of 1

March 28, 2008
HP-894
Paulson to Deliver Remarks on Financial Market Issues

u.s. Treasury Secretary Henry M.

Paulson, Jr. will deliver remarks at the Treasury
Department Monday, March 31. The Secretary will discuss issues relating to
financial institutions and financial markets. The event will be available for viewing
via webcast at www.treas.gov. The following event is open to press:
Who
U.S. Treasury Secretary Henry M. Paulson, Jr.
What
Remarks on Financial Market Issues
When
Monday, March 31, 10 a.m. (EDT)
Where
U.S. Treasury Department
Cash Room
1500 Pennsylvania Ave.
Washington, D.C.
Note
Media without Treasury press credentials should contact Frances Anderson at
(202) 622-2960, or Frances.Anderson@do.treas.gov with the following information:
full name, Social Security Number and date of birth.

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,-895: MEDIA ADVISORY: <br>Treasury To Host Background Briefing on Regulatory Blueprint

Page 1 of 1

March 31,2008
hp-895
MEDIA ADVISORY:
Treasury To Host Background Briefing on Regulatory Blueprint
U.S. Treasury department officials will host a pen-and-pad background briefing
following remarks by Secretary Henry M. Paulson, Jr. to discuss Treasury's
Blueprint for a Modernized Financial Regulatory Structure. No cameras will be
admitted to the briefing. The following event is open to the press:
What

Background Briefing on Regulatory Blueprint

When

Monday, March 31,2008, 11 a.m. (EDT)

Where

U.S. Treasury Department
West Gables Room (Room 5432)
1500 Pennsylvania Ave.
Washington, D.C.

Note

Media without Treasury press credentials should contact Frances
Anderson at (202) 622-2960, or Frances.Anderson@do.treas.gov with
the following information: full name, Social Security Number and date of
birth.

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,.896: Treasury Releases Blueprint [o-r Stronger Regulatory Structure

Page 1 of2

PRess ROOM

10 view or pnnt tne /-'Ur content on tnlS page, aOWnloaa tne free Aaobe® Acrobat® Heaaer®.

March 31, 2008
hp-896
Treasury Releases Blueprint for Stronger Regulatory Structure
Washington· The U.S. Treasury Department today released its Blueprint for an
improved financial regulatory structure, one that strengthens consumer protections,
improves tools for market stability and enhances financial innovation. Treasury's
Blueprint for a Modernized Financial Regulatory Structure presents a series of
short-, intermediate- and long-term recommendations for reform of the U.S.
regulatory structure. The Blueprint, announced III June 2007, is a key part of
Treasury Secretary Henry M. Paulson Jr.'s efforts to improve the competitiveness of
the U.S. capital markets in the increasingly global marketplace.
"We should and can have a structure that is designed for the world we live in, one
that is more flexible, one that can better adapt to change, one that will allow us to
more effectively deal with inevitable market disruptions and one that will better
protect investors and consumers," said Secretary Paulson in remarks at the
Treasury Department. "The challenge is to evolve to a more flexible, efficient and
effective regulatory framework - and that is the purpose of this Blueprint."
The short-term recommendations include improvements to regulatory coordination
and oversight that regulators can make quickly. The Blueprint recommends creating
a new federal commission for mortgage origination to protect consumers better.
The report also recommends modernizing the President's Working Group on
Financial Markets and clarifying the Federal Reserve's liquidity provisioning, as
Secretary Paulson discussed last week.
Intermediate-term recommendations focus on eliminating some of
the duplication in our existing regulatory system, but more
importantly they offer ways to modernize the regulatory structure for
certain financial services sectors, within the current framework.
Recommendations include eliminating the thrift charter, creating an
optional federal charter for insurance and unifying oversight for
futures and securities
The long-term recommendation is to create an entirely new
regulatory structure using an objectives-based approach for optimal
regulation. The structure will consist of a market stability regulator, a
prudential regulator and a business conduct regulator with a focus
on consumer protection.
The United States is the world leader in financial services, so it is from this position
of strength that we must constantly work to improve our system. Secretary Paulson
convened a blue-ribbon panel to discuss this issue at his March 2007 U.S. Capital
Markets Competitiveness Conference. Industry leaders and policymakers alike
agreed that the competitiveness of our financial services sector - and its ability to
support U.S. economic growth - are constrained by an outdated financial regulatory
framework.
The U.S. regulatory structure does not serve American as well as it could, and
modernization is inevitable. It has been largely knit together over the last 75 years,
put into place for particular reasons at different times and in response to
circumstances that may no longer exist. The current U.S. regulatory framework for
financial services providers includes:
•

Five federal depository institution regulators in addition to state-based
supervision.

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•

•
•

Page 2 of2

One federal securities regulator, additional state based supervision of
securities firms, and self-regulatory organizations with broad regulatory
powers.
One federal futures regulator
Insurance regulation that is almost wholly state-based, with 50+ regulators.
This structure also has an international dimension that can be inefficient,
costly and harmful to U.S. competitiveness.
But capital markets and the financial services industry have evolved
significantly over the past decade. Globalization and financial
innovation, such as securitization, have provided benefits to
domestic and global economic growth; while highlighting new risks
to financial markets.
These developments are pressuring the U.S. regulatory structure,
exposing regulatory gaps and redundancies, and often encouraging
market participants to do business in other jurisdictions with more
effective regulation. As a result, the U.S. regulatory structure reflects
an antiquated system struggling to keep pace with market
developments, while facing increasing challenges to anticipate and
prevent today's financial crises.
Although Treasury began this effort a year ago, market conditions
today provide a pertinent backdrop for this study's release and
highlight the need to examine the U.S. regulatory structure. Recent
events have also reinforced the need to balance strong consumer
protection and market stability on one hand, with capital markets
competitiveness on the other.

Public input has been important to our work. In addition to the range of views
present at the Capital Markets Conference in March 2007, Treasury published a
rJ~.gl!estfor public:; comrrwDl in the Federal Register in October. Response to the
Federal Register notice was strong, with hundreds of letters from investor
advocates, state regulators, financial institutions and many others. All public
comments are posted on the internet at www.regulations.gov.
For more information, visit http://www.treas.gov/offices/domestic-finance/regulatoryblueprint!.
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REPORTS
•
•

Blueprint for a Modernized Financial Regulatory Structure
Fact Sheet

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March 9, 2007
HP-304

Schedule for Treasury
Conference on US Capital Markets
Com petitiveness
Treasury Secretary Henry M. Paulson, Jr. will host a conference to examine issues
affecting U.S. capital markets competitiveness on Tuesday, March 13 in
Washington, D.C. Following is a schedule of events:

8:45 a.m.
Secretary Paulson
Opening Remarks
Healy Hall Auditorium
Georgetown University
Streets, NW
37th and
Washington, DC
NOTE: Broadcast media should arrive starting at 6:30 a.m. and must arrive no later
than 7:30 a.m. All media must RSVP with Andrea Sarubbi at 202-687-4328 or
aes54@georgetown.edu prior to the event for credentials.

°

8:55 a.m.
Panel I
Framing the Issues: Markets Perspectives
Moderators: Secretary Paulson
SEC Chairman Christopher Cox
Panelists: Warren E. Buffett, Chairman and CEO, Berkshire Hathaway Inc.
James Dimon, Chairman and CEO, JPMorgan Chase & Co
Jeffrey R. Immelt, Chairman and CEO, General Electric Company
Charles R. Schwab, Founder, Chairman, and CEO, Charles Schwab
Corporation
John A. Thain, CEO, NYSE Group
Ann Yerger, Executive Director, Council of Institutional Investors
Gaston Hall
3rd Floor, Healy Hall
Georgetown University
Streets, NW
37th and
Washington, DC
NOTE: Broadcast media must arrive no later than 7:30 a.m. All media must RSVP
with Andrea Sarubbi at 202-687-4328 or C1~$!54@g~orge.town,~clu prior to the event
for credentials.

°

Panel II
Framing the Issues: Public Policy Perspectives
Moderators: Secretary Paulson
Chairman Cox
Panelists: The Honorable Michael R. Bloomberg, Mayor, New York City
The Honorable Dr. Alan Greenspan, Greenspan Associates, and Former
Chairman of the Board of Governors, Federal Reserve System
The Honorable Arthur Levitt, Jr., Senior Advisor, The Carlyle Group,
and Former Chairman, Securities and Exchange Commission
The Honorable Robert E. Rubin, Director and Chairman of the Executive
Committee, Citigroup Inc., and Former Secretary of the Treasury
The Honorable Paul A. Volcker, Former Chairman of the Board of
Governors, Federal Reserve System
Gaston Hall
3rd Floor, Healy Hall
Georgetown University

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Page 2 of2
37th and 0 Streets, NW
Washington, DC
NOTE: Broadcast media must arrive no later than 7:30 a.m. All media must RSVP
with Andrea Sarubbi at 202-687-4328 or aes54@georgetown.edu prior to the event
for credentials.
5:15 p.m.
Under Secretary Robert K. Steel
Pen and Pad Briefing
Philodemic Room
2nd Floor, Healy Hall
Georgetown University
37th and 0 Streets, NW
Washington, DC
NOTE: No cameras will be admitted to the briefing. All media must RSVP with
Andrea Sarubbi at 202-687-4328 or aes54@georgetown.edu prior to the event for
credentials.

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March 26, 2008
HP-887
Remarks by Secretary Henry M. Paulson, Jr
on Current Financial and Housing Markets
at the US Chamber of Commerce

Washington •• Thank you for inviting me to address your Capital Markets
Competitiveness Conference. We share a commitment to competitive markets, and
Treasury will soon release a Blueprint for Regulatory Reform that proposes a
financial regulatory framework which we believe will more effectively promote
orderly markets and foster financial sector innovation and competitiveness.
As you know, financial market stress began last August and has led to significant
de-leveraging and repricing of risk, and sentiment has swung hard to risk aversion.
There have been, as there always are during periods like this, bumps in the road
and unpleasant surprises along the way.
I am constantly asked how much longer will this take to play out and if this is the
worst period of market stress I have experienced. I respond that every period of
prolonged turbulence seems to be the worst until it is resolved. And it always is
resolved. Our economy and our capital markets are flexible and resilient and I have
great confidence in them. I am certain we will work through this situation and go on
to new heights as we always do.
As we work our way through this turbulence, our highest priority is limiting its impact
on the real economy. We must maintain stable, orderly and liquid financial markets
and our banks must continue to play their vital role of supporting the economy by
making credit available to consumers and businesses. And we must of course focus
on housing, which precipitated the turmoil in the capital markets, and is today the
biggest downside risk to our economy. We must work to limit the impact of the
housing downturn on the real economy without impeding the completion of the
necessary housing correction. I will address each of these in turn. Regulators and
policy makers are vigilant; we are not taking anything for granted.
Orderly Financial Markets
For some months now, reduced access to short term funding and liquidity issues
have created turmoil in our capital markets. In the midst of these conditions, Bear
Stearns found itself facing bankruptcy. The Federal Reserve acted promptly to
resolve the Bear Stearns situation and avoid a disorderly wind-down. It is the job of
regulators to come together to address times such as this; and we did so. Our focus
was the stability and orderliness of our financial markets.
Discount Window Access
As the Federal Reserve resolved the Bear Stearns situation, it subsequently took a
very important and consequential action of instituting a temporary program for
providing liquidity to primary dealers. I fully support that action. Taking this step in a
period of stress recognizes the changed nature of our financial system and the role
played by investment banks in the post Glass-Steagall world.
Such direct lending from the central bank to non-depository institutions has not
occurred since the 1930s. Recent market turmoil has required the Federal Reserve
to adjust some of the mechanisms by which it provides liquidity to the financial
system. Their creativity in the face of new challenges deserves praise, but the
circumstances that led the Fed to modify its lending facilities raises significant policy

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considerations that need to be addressed.
Insured depository institutions remain important participants in financial markets,
but this latest episode has highlighted that the world has changed as has the role of
other non-bank financial institutions, and the interconnectedness among all financial
institutions. These changes require us all to think more broadly about the regulatory
and supervisory framework that is consistent with the promotion and maintenance
of financial stability. Now that the Fed is granting primary dealers temporary access
to liquidity facilities, we must consider the policy implications associated with such
access.
Historically, commercial banks have had regular access to the discount window.
Access to the Federal Reserve's liquidity facilities traditionally has been
accompanied by strong prudential oversight of depository institutions, which also
has included consolidated supervision where appropriate. Certainly any regular
access to the discount window should involve the same type of regulation and
supervision.
While there has been extraordinary convergence in financial services, one
distinction between banks and investment banks remains particularly important banks have the advantage that they issue deposits that are insured by the Federal
government. A properly designed program of deposit insurance greatly reduces the
likelihood of liquidity pressures on depository institutions and as a corollary, makes
the funding base of these institutions more stable. The trade-off for this subsidized
funding is regulation tailored to protect the taxpayers from moral hazard this
insurance creates.
For the non-depository institutions that now have temporary access to the discount
window, I believe a few constructive steps would enable the Federal Reserve to
protect its balance sheet, and ultimately protect U.S. taxpayers.
First, the process for obtaining funds by non-banks must continue to be as
transparent as possible. The Fed should describe eligible institutions, articulate the
situations in which funds will be made available, and the magnitude and pricing
structure for the funds. The TAF process is a good model for a structure that would
provide relevant information to the marketplace.
Second, and perhaps most importantly, the Federal Reserve should have the
information about these institutions it deems necessary for making informed lending
decisions. The Federal Reserve is currently working to ensure the adequacy of
such information. We suggest that the Federal Reserve, the SEC, and the CFTC
continue their work of building a robust cooperative framework. Already. at the
invitation of the SEC, the Federal Reserve is working alongside their teams within
these institutions. These regulators should consider whether a more formalized
working agreement should be entered into to reflect these events.
With this added information flow, the Federal Reserve will be better positioned to
consider market stability issues like liquidity provisioning and the
interconnectedness of financial institutions. The Federal Reserve's participation
could also allow for broader consideration of market stability issues by the SEC and
the CFTC. This collaborative process will necessarily have a strong focus on
liquidity and funding issues.
The combination of these steps should provide the Federal Reserve with a structure
and the information that it would need to make liquidity backstop loans during
periods of market instability to non-banks. They address the current situation, in
which investment banks have temporary access to the discount window. Clearly,
many difficult policy questions must also be addressed on a going-forward basis.
Despite the fundamental changes in our financial system, it would be premature to
jump to the conclusion that all broker-dealers or other potentially important financial
firms in our system today should have permanent access to the Fed's liquidity
facility. Recent market conditions are an exception from the norm. At this time, the
Federal Reserve's recent action should be viewed as a precedent only for unusual
periods of turmoil.
As we work through this period, we will learn through this experience. And the

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Federal Reserve will learn as it works with financial institutions as they come to the
window. It is appropriate that we evaluate that experience in the coming months,
and use the lessons of that experience to inform a path forward. Very relevant to
this issue is the fact that bank regulation, which applies to institutions with an
explicit taxpayer·funded backstop, is fundamentally different from non-bank
regulation, which applies to institutions that are not supported by federal deposit
insurance. The President's Working Group on Financial Markets will evaluate these
issues and their implications for regulation of bank and non-bank financial
institutions.
Housing and Mortgage Markets
The housing downturn and the surrounding uncertainty are significantly impacting
our financial institutions and capital markets. However, we should not lose sight of
the fact that this downturn was precipitated by unsustainable home price
appreciation which was particularly pronounced in a relatively few regions. A
correction was inevitable and the sooner we work through it, with a minimum of
disorder, the sooner we will see home values stabilize, more buyers return to the
housing market, and housing will again contribute to economic growth. Having
stability in housing markets will in turn contribute to better conditions in credit
markets for mortgage-backed securities.
Data releases every month create headlines about declining housing sales, starts
and prices. Yet, declines are exactly what we should expect during a correction. It
takes time to work through the excess inventory - and we are. The question many
are asking is how deep the correction will be and how long it will last. The CaseShiller index of home prices in 10 major metropolitan areas showed an 11.4 percent
decline in home prices over the 12 months ending in January, and the futures
market is predicting that the index will decline another 13 percent in 2008. But we
do not have a national housing market; housing markets are regional - and there is
considerable variation in adjustment, with prices changing the most in areas that
had the greatest overbuilding.
Amid this correction, there are many calls to "do something about housing." When
people say this, they are urging any number of possible things - minimize
foreclosures, make affordable mortgages more available, improve the secondary
market and liquidity for mortgages, improve the mortgage origination process,
prosecute fraud, reduce the inventory of homes for sale, or help communities
hardest hit by foreclosures.
The 'to do' list tends to get conflated. We must sort through each of these shared
and desired outcomes, carefully choosing policies that minimize the impact of - but
do not slow - the housing correction.
Availability of Mortgage Finance
Turbulence in the financial markets has disrupted and reduced the availability and
increased the cost of mortgage financing. The secondary mortgage market is still
facing liquidity and pricing issues. We are taking steps to increase the availability of
affordable mortgage financing. The Federal Reserve's temporary lending facility for
non-banks will help in this area, as will the Federal Housing Finance Board's
decision to authorize the Federal Home Loan Banks to increase purchases of
agency mortgage backed securities, which could provide over $100 billion in new
MBS market liquidity.
Another helpful step is the agreement reached last week among Fannie Mae,
Freddie Mac and OFHEO, their independent regulator, to inject more capital into
the mortgage market.
Fannie and Freddie, two of the nation's housing Government Sponsored Entities or
GSEs, have been playing an important, countercyclical role in supporting the
secondary market for mortgage finance. The GSEs' market share has grown
substantially from 46 percent of all new mortgages in the second quarter of 2007 to
76 percent in the fourth quarter. It is very important that the GSEs remain
positioned to play this critical role. That is why I was pleased that the GSEs
committed to raise significant capital. A stronger capital base will better enable .
them to support more home purchases and refinancings through their seCUritization

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activities. Additional capital not only increases the availability of mortgage financing.
but also strengthens mortgage market fundamentals.
The Economic Stimulus Act of 2008 also temporarily raised the conforming loan
limit. which should reduce costs for homebuyers seeking a jumbo mortgage.
The subprime mortgage market accounted for a large portion of housing purchase
growth before the downturn. and the market for subprime mortgage financing is
now largely closed. Last August. President Bush launched the FHASecure initiative,
an important new solution for subprime homeowners. To date, FHASecure has
helped more than 130,000 families refinance their mortgages and stay in their
homes. That number is expected to reach 300,000 by year end. More can be done.
Secretary Jackson continues to examine administrative tools to make FHA
mortgages more widely available. And it is essential that Congress pass FHA
modernization that would provide FHA the authority to help as many as 250,000
more homeowners at this critical time.
We will continue to look for solutions that expand mortgage access and availability
for all borrowers, including financially-able subprime borrowers.

Foreclosures
Home foreclosures are also a significant issue today. Foreclosures are painful and
costly to homeowners and, neighborhoods. They also prolong the housing
correction by adding to the inventory of unsold homes. Before quickly reviewing our
initiatives to prevent avoidable foreclosures, let me observe that some current
headlines make it difficult to put foreclosure rates in perspective. So let me try to do
so.
First, 92 percent of all homeowners with mortgages pay that mortgage every month
right on time. Roughly 2 percent of mortgages are in foreclosure. Even from 2001 to
2005, a time of solid U.S. economic growth and high home price appreciation,
foreclosure starts averaged more than 650,000 per year.
Last year there were about 1.5 million foreclosures started and estimates are that
foreclosure starts might be as high as 2 million in 2008. These foreclosures are
highly concentrated - subprime mortgages account for 50 percent of foreclosure
starts, even though they are only 13 percent of all mortgages outstanding.
Adjustable rate subprime mortgages account for only 6 percent of all mortgages but
40 percent of the foreclosures. So we are right to focus many of our policies on
subprime borrowers.
There are approximately 7 million outstanding subprime mortgage loans. Available
data suggests that 10 percent of subprime borrowers were investors or speculators.
This figure is likely higher, as some investors misrepresented themselves to take
advantage of a cheaper rate, and others speculated on a primary residence,
expecting prices to continue going up.
Other subprime loans were very poorly underwritten and borrowers simply can not
afford the home they bought. Almost 18 percent of adjustable rate subprime
mortgages underwritten in 2006 were in foreclosure six months before the initial
rate was scheduled to reset. Subtracting the speculators and those who took on
more than they could handle leaves us with our target population of subprime
borrowers for whom we are seeking a solution - those who want to keep their
homes, have the financial wherewithal, but are facing challenges making their
monthly payments.
We are focused on private sector and government efforts to help these borrowers
avoid foreclosure.
The HOPE NOW alliance has announced that, since July, more than 1 million
struggling homeowners received a work out, either a loan modification or
repayment plan that helped them avoid foreclosure. HOPE NOW's work-out efforts
are accelerating more quickly than the foreclosure rate. In the month of January
foreclosure starts were up 5 percent while the number of mortgage workouts grew
19 percent.

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HOPE NOW and the American Securitization Forum together have implemented a
protocol targeted specifically at subprime borrowers facing mortgage resets.
Through the protocol, those who made their initial payments and want to keep their
home should be fast-tracked into a sustainable refinancing or loan modification.
We are closely monitoring the implementation and results of HOPE NOW and the
ASF efforts. Responsible homeowners who have been making their payments and
want to find a way to stay in their home should not go into foreclosure merely
because the volume of people seeking help overwhelms the system.

Homeowners with Negative Equity
Much attention has been given to the fact that an estimated 8.8 million households
may currently have negative home equity. We can expect that number to rise as the
housing correction plays out, and to begin to reverse once the correction has run its
course. The best outcome for these homeowners is to work through this correction
as quickly as possible.
Homeowners with negative equity are more common in this housing downturn
because lending practices changed dramatically in recent years. In 2007, 29
percent of mortgages were originated with no down payment. Some of those
mortgages went to speculators; others to responsible borrowers who were able to
buy a home because of expanded access to credit.
But let me emphasize that we do not need a system-wide solution for the vast
majority of loans where a homeowner temporarily has negative equity. Negative
equity does not affect borrowers' ability to pay their loans. Homeowners who can
afford their mortgage payment should honor their obligations --- and most do. They
know that there are housing cycles, and they bought more than houses. They
bought homes to become part of a community, and they bought them as places to
live, not as investments. And if they live in them for the long term, they are likely to
become good investments.
Let me also emphasize that any homeowner who can afford his mortgage payment
but chooses to walk away from an underwater property is simply a speculator.
Washington can not create any new mortgage program to induce these speculators
to continue to own these homes, unless someone else foots the bill.
The people we seek to help are those who want to keep their homes but can't
afford the monthly payment because of an ARM reset. If they also have negative
equity in their homes, refinancing becomes almost impossible and so workouts
become even more important. Secretary Jackson is examining the potential for FHA
to be a solution for these borrowers.

Conclusion
In summary, there is bipartisan interest in bolstering our economy, maintaining
stable and orderly capital markets, and helping struggling homeowners. New ideas
and solutions can come from either side of the aisle. The Administration and
Congress demonstrated how well bipartisanship can work when we quickly passed
and enacted an economic stimulus package earlier this year. I am hopeful we can
demonstrate this again by quickly concluding the FHA Modernization bill, and I am
working hard to make progress on comprehensive GSE reform legislation because
stronger oversight is essential for these large, critically important financial
institutions.
I know Members of Congress have outlined other ideas, but most are not yet ready
for the starting gate. FHA Modernization and GSE reform are well on their way to
the finish line - let's complete this important legislation now, so we can implement
them and help homeowners and our economy.
Timeliness is critical for adding confidence in today's markets. I continue to focus
on additional steps that the Administration can take without delay - things that don't
require congressional action and will immediately impact the availability of
affordable mortgage finance.

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We are obviously well aware that the housing market correction was not only a
precipitating cause but continues to be an underlying factor in our capital markets'
stress. Both are disrupting our economy right now. We will continue to pursue
policies that strike the right balance: that do not slow the housing correction, yet
also help avoid preventable foreclosures and unnecessary capital market turmoil.
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March 13, 2007
HP-306

Opening Remarks by Treasury Secretary Henry M. Paulson, Jr.
at Treasury's Capital Markets Competitiveness Conference
Georgetown University
Washington, DC -- Thank you very much, President DeGioia. We are pleased to
be here at Georgetown University. Georgetown is a world-class institution that
trains leaders in a number of areas, and we are especially pleased to be joined in
our discussions by faculty and students from Georgetown's McDonough School of
Business.
The participants in today's Conference are a distinguished group of leaders in U.S.
capital markets, and I welcome you and thank you all for being here. You have
many areas of expertise and you bring a variety of perspectives: years of valuable
experience in academia, government, the business world, Wall Street, or as
investor advocates. All of your views are welcome and appreciated. This is a very
knowledgeable group of people and I am looking forward to an engaging
discussion.
As the Treasury Secretary, my goal is to promote the conditions for American
prosperity and economic growth - and maintaining the competitiveness of our
capital markets is central to that goal. Capital markets are the lifeblood of our
economy. They help entrepreneurs implement new ideas and businesses expand
operations, creating new jobs. They give our citizens the confidence to invest, earn
higher returns on their savings, and reduce the cost of borrowing.
U.S. capital markets are the deepest, most efficient, and most transparent in the
world. We are the world's leader and innovator in mergers and acquisitions advice,
venture capital, private equity, hedge funds, derivatives, securitization skills, and
Exchange Traded Funds. With this expertise, our major financial institutions have
contributed greatly to economic success throughout the world.
One of the great strengths of our markets is their dynamism. They change with the
times to serve the needs of investors and businesses. Yet, our markets are not
immune to challenges. After years of economic expansion and the excesses and
exuberance of the late 1990s, the technology and telecom bubble burst and a wave
of corporate scandals undermined investor confidence. We weathered the storm.
The President, both parties in Congress, and regulators moved quickly to address
the business scandals, which helped to restore investor confidence.
We responded to the corporate scandals with the Sarbanes-Oxley Act of 2002, new
listing rules for public companies, and regulatory and enforcement actions to alter
certain business practices. These changes have been extensive and significant, so
it is quite naturally taking time for companies to understand, process, and
implement the new rules and requirements. But the principles behind them have
been positive, as have many of the results.
As U.S.-listed companies are adapting to these rules, global capital markets around
the world are evolving and developing, introducing new competition for our markets.
At the same time, we have witnessed extraordinary growth in private pools of
capital, including hedge funds. Each of these changes presents its own set of
benefits and challenges. The question we have to consider is the individual and
cumulative impact of these changes on U.S. public companies.
Our markets are, indeed, the best in the world. Yet we must be vigilant, and we
must do everything we can to ensure they stay that way. We at Treasury have
some ideas and our fellow regulators are working on these issues as well. There
are some obvious adjustments, such as the recent administrative actions regarding

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Section 404 which should mitigate a major problem related to Sarbanes-Oxley
implementation. But these are complex, interrelated issues and I am confident that
we can benefit greatly from the views of the people in this room.
In particular, we will focus on three issues: our regulatory structure; the accounting
industry; and our legal and corporate governance environment.
Our regulatory system has served us very well over the course of our history. It is
part of the foundation for our prosperity and growth. And, robust and balanced
regulation is critical to ensuring that we continue to have the strongest capital
markets in the future. Yet, the addition of new regulators over many years, and the
tendency of these regulators to adapt to the changing market by expanding, as
opposed to focusing on the broader objective of regulatory efficiency, is a trend we
should examine. We should assess how the current system works and where it can
be improved, with a particular eye toward more rigorous cost-benefit analysis of
new regulation. And we should also consider whether it would be practically
possible and beneficial to move toward a more principles-based regulatory system,
as we see working in other parts of the world.
Because many of the corporate scandals of the late 90s were, for the most part,
accounting scandals, it is not surprising that much of the reform focused on the
accounting profession. This reform has helped to restore investor confidence. This
is key because capital markets rely on trust, which is based on financial information
presumed to be accurate and to reflect economic reality. But the cumulative impact
of all the change has significantly affected the accounting industry, fundamentally
altering the interactions between auditors and corporate management and boards
in a number of ways, some of which might not be constructive. Also, we have seen
great concentration among the major accounting firms and there are legitimate
questions about the sustainability of the accounting profession's business model.
We should also consider whether our system is producing the high-quality audits
and attracting the talented auditors we need, whether there is currently enough
competition in the accounting profession, and the desirability of moving toward
more principles-based accounting standards.
The basic principles that underpin a robust corporate governance system are
accountability, transparency, and the need to identify and manage conflicts of
interest. As a result of Sarbanes-Oxley and other regulatory changes, corporate
directors are more independent, more aware of real and perceived conflicts, more
diligent about their fiduciary responsibilities. Of course, directors must now spend
much more time engaged in compliance processes and finding the right balance on
the use of director time is critically important. But good corporate governance is a
means to an end, not an end in itself. Our goal should be better managed, more
competitive corporations that earn investor confidence through sound leadership,
thoughtful governance, and outstanding performance. In my judgment, we must rise
above a rules-based mindset that asks, "Is this legal?" and adopt a more principlesbased approach that asks, "Is this right?" And we should consider whether our legal
system appropriately protects investors or gives too much latitude to unscrupulous
lawyers.
Throughout the day, the fundamental question we must ask is: Have we struck the
right balance between investor protection and market competitiveness - a balance
that assures investors the system is sound and trustworthy, and also gives
companies the flexibility to compete, innovate, and respond to changes in the global
economy?
At today's conference there are no pre-determined answers. We are looking for a
real discussion, with rigorous questioning and candid and collegial debate.
At the end of the day, I hope each of us will have had one of our opinions
challenged, or been given the opportunity to view an issue from a new perspective.
Given the cumulative wisdom and experience in this room, I am confident the day
will be thought-provoking and productive.
At Treasury, we will carefully consider the views we have heard today along with
the recommendations of a number of other groups which have studied thiS subject.
Together they will inform us as we develop specific follow up steps in the coming

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Page 3 of3
months to keep US capital markets the strongest and most innovative in the world.
There will be things we at Treasury, working with the regulatory agencies, will do in
the near term and some other actions over a longer time frame to address these
challenges to our competitiveness. This is a high priority for me.
My great thanks again to the students, faculty, and administrators of Georgetown
for hosting us. And thank you to all of our conference participants for taking the time
to lend your voices to this process. Given the importance of our capital markets to
our long-term economic growth and competitiveness, it is essential to have our best
minds engaged on this matter.
Now, let's get started. Please welcome to the stage our first panel participants.
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October 11 , 2007
HP-602

Treasury Requests Public Input on Review
to Improve Regulatory Structure
Washington- The Department of the Treasury today released a request for public
input as it prepares a blueprint for an improved U.S. financial regulatory structure.
Secretary Paulson first announced his plans to review and recommend
improvements to the regulatory structure in June as part of his initiative to
strengthen U.S. financial markets' ability to compete in the global economy.
The blueprint, set for release early next year, will seek a more effective regulatory
structure that can adapt to the dynamic U.S. marketplace while improving oversight.
Treasury believes it is important to continue to evaluate our regulatory structure to
consider ways to improve efficiency, reduce overlap, strengthen consumer and
investor protection and ensure that financial institutions have the ability to keep
pace with evolving markets.
The Department's review of the financial regulatory structure will focus on all types
of financial institutions: commercial banks and other insured depository institutions;
insurance companies; securities firms; futures firms; and other types of financial
intermediaries.
Treasury asks for public comments on topics including overlapping state and
federal regulation, ways to improve market discipline and consumer protection, the
strengths and weaknesses of having multiple regulators and multiple federal
charters for financial institutions, as well as other issues.
Comments are due by Wednesday, November 21 and may be submitted at
www.regulations.gov.

REPORTS
•

Federal Register Notice

http://www.treas.gov/press/releases/hp602.htm

4/4/2008

BILLING CODE 4811-42

DEPARTMENT OF THE TREASURY

Review by the Treasury Department of the Regulatory Structure Associated with
Financial Institutions.

AGENCY: Department of the Treasury, Departmental Offices.

ACTION: Notice; request for comments.

SUMMARY: The Treasury Department is undertaking a broad review of the regulatory
structure associated with financial institutions. To assist in this review and obtain a broad
view of all perspectives, the Treasury Department is issuing this notice seeking public
comment.

DATES: Comments should be submitted electronically and received by Wednesday,
November 21,2007.

ADDRESSES: Please submit comments electronically through the Federal eRulemaking
Portal- "Regulations.gov." Go to http://www.regulations.gov, select "Department of the
Treasury - All" from the agency drop-down menu, then click "Submit." In the "Docket
ID" column, select "TREAS-DO-2007-0018" to submit or view public comments and to
view supporting and related materials for this notice. The "User Tips" link at the top of
the Regulations.gov home page provides information on using Regulations.gov, including

instructions for submitting or viewing public comments, viewing other supporting and
related materials, and viewing the docket after the close of the comment period.

Please include your name, affiliation, address, e-mail address and telephone number(s) in
your comment. Where appropriate, comments should include a short Executive
Summary (no more than five single-spaced pages). All statements, including attachments
and other supporting materials, received are part of the public record and subject to
public disclosure. You should submit only information that you wish to make available
publicly.

FOR FURTHER INFORMATION CONTACT: Jeffrey Stoltzfoos, Senior Advisor,
Office of the Assistant Secretary for Financial Institutions, (202) 622-2610 or Mario
Ugoletti, Director, Office of Financial Institutions Policy, (202) 622-2730 (not toll free
numbers).

SUPPLEMENTARY INFORMATION: The Treasury Department is currently
engaged in a number of initiatives associated with maintaining the competitiveness of
United States capital markets. One of those initiatives is evaluating the regulatory
structure associated with financial institutions.

The regulatory structure for financial institutions in the United States has served us well
over the course of our history. Much of the basic regulatory structure associated with
financial institutions was established decades ago. While there have been important

changes over time in the way financial institutions have been regulated, the Treasury
Department believes that it is important to continue to evaluate our regulatory structure
and consider ways to improve efficiency, reduce overlap, strengthen consumer and
investor protection, and ensure that financial institutions have the ability to adapt to
evolving market dynamics, including the increasingly global nature of financial markets.

The Treasury Department's review of regulatory structure will focus on all types of
financial institutions: commercial banks and other insured depository institutions;
insurance companies; securities firms; futures firms; and other types of financial
intermediaries.

The Treasury Department is soliciting comments to assist in this review. The Treasury
Department would be particularly interested in comments on the specific questions set
forth below, or on other issues related to the regulatory structure associated with financial
institutions. We are also interested in specific ideas or recommendations as to how we
can improve our current regulatory structure.

I.

General Issues

1.1

What are the key problems or issues that need to be addressed by our review of

the current regulatory structure for financial institutions?
1.2

Over time, there has been an increasing convergence of products across the

traditional "functional" regulatory lines of banking, insurance, securities, and futures.
What do you view as the significant market developments over the past two decades (e.g.

securitization, institutionalization, financial product innovation and globalization) and
please describe what opportunities and/or pressures, if any, these developments have
created in the regulation of financial institutions?
1.2.1

Does the "functional" regulatory framework under which banking,

securities, insurance, and futures are primarily regulated by respective functional
regulators lead to inefficiencies in the provision of financial services?
1.2.2

Does the "functional" regulatory framework pose difficulties for

considering overall risk to the financial system? If so, to what extent have these
difficulties been resolved through regulatory oversight at the holding company level?
1.2.3

Many countries have moved towards creating a single financial market

regulator (e.g., United Kingdom's Financial Services Authority; Japan's Financial
Services Agency; and Germany's Federal Financial Supervisory Authority (BaFin)).
Some countries (e.g., Australia and the Netherlands) have adopted a twin peaks
model of regulation, separating prudential safety and soundness regulation and
conduct-of-business regulation. What are the strengths and weaknesses of these
structural approaches and their applicability in the United States? What ideas can be
gleaned from these structures that would improve U.S. capital market
competitiveness?
1.3

What should be the key objectives of financial institution regulation? How could

the framework for the regulation of financial institutions be more closely aligned with the
objectives of regulation? Can our current regulatory framework be improved, especially
in terms of imparting greater market discipline and providing a more cohesive look at

overall financial system risk? If so, how can it be improved to achieve these goals? In
regards to this set of questions, more specifically:
1.3.1

How should the regulation of financial institutions with explicit

government guarantees differ from financial institutions without explicit guarantees?
Is the current system adequate in this regard?
1.3.2

Is there a need for some type of market stability regulation for financial

institutions without explicit Federal Government guarantees? If so, what would such
regulation entail?
1.3.3

Does the current system of regulating certain financial institutions at the

holding company level allow for sufficient amounts of market discipline? Are there
ways to improve holding company regulation to allow for enhanced market
discipline?
1.3.4

In recent years, debate has emerged about "more efficient" regulation and

the possibility of adopting a "principles-based" approach to regulation, rather than a
"rules-based" approach. Others suggest that a proper balance between the two is
essential. What are the strengths, weaknesses and feasibility of such approaches, and
could a more "principles-based" approach improve U.S. competitiveness?
1.3.5

Would the U.S. financial regulatory structure benefit ifthere was a

uniform set of basic principles of regulation that were agreed upon and adopted by
each financial services regulator?
1.4

Does the current regulatory structure adequately address consumer or investor

protection issues? If not, how could we improve our current regulatory structure to
address these issues?

1.5

What role should the States have in the regulation of financial institutions? Is

there a difference in the appropriate role of the States depending on financial system
protection or consumer and investor protection aspects of regulation?
1.6

Europe is putting in place a more integrated single financial market under its

Financial Services Action Plan. Many Asian countries as well are developing their
financial markets. Often, these countries or regions are doing so on the basis of widely
adopted international regulatory standards. Global businesses often cite concerns about
the costs associated with meeting diverse regulatory standards in the numerous countries
in which they operate. To address these issues, some call for greater global regulatory
convergence and others call for mutual recognition. To what extent should the design of
regulatory initiatives in the United States be informed by the competitiveness of U.S.
institutions and markets in the global marketplace? Would the U.S. economy and capital
market competitiveness be better served by pursuing greater global regulatory
convergence?

II.

Specific Issues

2.1

Depository Institutions
2.1.1

Are multiple charters for insured depository institutions the optimal way to

achieve regulatory objectives? What are the strengths and weaknesses of having
charters tied to specific activities or organizational structures? Are these distinctions
as valid and important today as when these charters were granted?
2.1.2

What are the strengths and weaknesses of the dual banking system?

2.1.3

What is the optimal role for a deposit insurer in depository institution

regulation and supervision? For example, should the insurer be the primary regulator
for all insured depository institutions, should it have back-up regulatory authority, or
should its functions be limited to the pricing of deposit insurance, or other functions?
2.1.4

What role should the central bank have in bank regulation and

supervision? Is central bank regulatory authority necessary for the development of
monetary policy?
2.1.5

Is the current framework for regulating bank or financial holding

companies with depository institution subsidiaries appropriate? Are there other
regulatory frameworks that could or should be considered to limit the transfer of the
safety net associated with insured depository institutions?
2.1.6

What are the key consumer protection elements associated with products

offered by depository institutions? What is the best regulatory enforcement
mechanism for these elements?
2.2

Insurance
2.2.1

What are the costs and benefits of State-based regulation of the insurance

industry?
2.2.2

What are the key Federal interests for establishing a presence or greater

involvement in insurance regulation? What regulatory structure would best achieve
these goals/interests?
2.2.3

Should the States continue to have a role (or the sole role) in insurance

regulation? Insurance regulation is already somewhat bifurcated between retail and

wholesale companies (e.g., surplus lines carriers). Does the current structure work?
How could that structure be improved?
2.2.4

States have taken an active role in some aspects of the insurance

marketplace (e.g., workers' compensation and residual markets for hard to place
risks) for various policy reasons. Are these policy reasons still valid? Are these
necessarily met through State (as opposed to federal) regulation?
2.3

Securities and Futures
2.3.1

Is there a continued rationale for distinguishing between securities and

futures products and their respective intermediaries?
2.3.2

Is there a continued rationale for having separate regulators for these

types of financial products and institutions?
2.3.3

What type of regulation would be optimal for firms that provide financial

services related to securities and futures products? Should this regulation be driven
by the need to protect customers or by the broader issues of market integrity and
financial system stability?
2.3.4

What is the optimal role for the states in securities and futures regulation?

2.3.5

What are the key consumer/investor protection elements associated with

products offered by securities and futures firms? Should there be a regulatory
distinction among retail, institutional, wholesale, commercial, and hedging
customers?
2.3.6

Would it be useful to apply some of the principles of the Commodity

Futures Modernization Act of 2000 to the securities regulatory regime? Is a tiered

system of regulation appropriate? Is it appropriate to make distinctions based on the
relative sophistication of the market participants and/or the integrity of the market?

Dated:

Taiya Smith
Executive Secretary of the Treasury

).897: Remarks by Secretary Henry M. Paulson, Jr. on Blueprint for Regulatory Reform

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March 31, 2008
hp-897
Remarks by Secretary Henry M. Paulson, Jr. on Blueprint for Regulatory
Reform
Washington, DC··Good morning, everyone. A strong financial system is vitally
important - not for Wall Street, not for bankers, but for working Americans. When
our markets work, people throughout our economy benefit - Americans seeking to
buy a car or buy a home, families borrowing to pay for college, innovators
borrowing on the strength of a good idea for a new product or technology, and
businesses financing investments that create new jobs. And when our financial
system is under stress, millions of working Americans bear the consequences.
Government has a responsibility to make sure our financial system is regulated
effectively. And in this area, we can do a better job. In sum, the ultimate
beneficiaries from improved financial regulation are America's workers, families and
businesses - both large and small.
Today I am pleased to release Treasury's Blueprint for Financial Regulatory
Reform. Or, perhaps I should say - given the last few days' news coverage --- that I
am pleased to provide additional details to accompany the release of this Blueprint
for Regulatory Reform. It's been a long road, as we began the process leading to
this final report a year ago, in March of 2007, after convening industry leaders and
policymakers for a conference on capital markets competitiveness.
The conference participants concluded that our current financial regulatory system
could more effectively promote stable and resilient markets and a more competitive
financial services industry. So, in addition to our other capital markets initiatives,
last June we began work on a Blueprint for a financial regulatory structure that
would be more effective and more appropriate for modern financial markets.
When we announced that we would work on such a Blueprint, other than some
enthusiastic academics, few noticed. Today, of course, capital markets and
financial regulation are on everybody's mind. As recent events have demonstrated,
investor protection and market stability are critical elements of competitiveness. Far
from being at odds with one another, they are mutually reinforcing.
We have been undergoing a period of financial market stress since last August.
Markets are pricing and reassessing risk and as we should expect, there are always
difficulties during periods such as this. We know that a housing correction has
precipitated this turmoil, and housing remains by far the biggest downside risk to
our economy. As we work through this period, our highest priority is limiting its
impact on the real economy.
I have the greatest confidence in the resiliency, flexibility and strength of our
economy and our capital markets. We are focused on maintaining stable, orderly
and liquid financial markets and ensuring that our banks continue to support the
economy by making credit available to consumers and businesses.
Our regulatory community is working cooperatively through some very challenging
times. Last week I reiterated my support for the important and consequential recent
actions taken by the Federal Reserve. The Fed must have the necessary
information to perform its role as it temporarily provides liquidity to non-banks. But it
would be premature to assume these institutions should have permanent access to
the Fed's discount window and permanent supervision by the Fed. We will learn
lessons from the experience of this temporary facility, and those lessons will inform
a path forward.

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Our first and most urgent priority is working through this capital market turmoil and
housing downturn, and that will be our priority until this situation is resolved. With
few exceptions, the recommendations in this Blueprint should not and will not be
implemented until after the present market difficulties are past.
Some may view these recommendations as a response to the circumstances of the
day; yet, that is not how they are intended. This Blueprint addresses complex, longterm issues that should not be decided in the midst of stressful situations and
should not be implemented to add greater burden to a market already under strain.
These long-term ideas require thoughtful discussion and will not be resolved this
month or even this year.
Let me also remind you that two weeks ago, the President's Working Group on
Financial Markets released a series of recommendations addressing issues
including ratings agencies, securitization, mortgage origination, and OTC
derivatives. They are a policy response to the current market turmoil, designed to
reduce the likelihood that we will repeat our current problems. We are focused on
seeing these recommendations implemented, to improve the workings of our
financial markets. But we will not seek to implement them on a pace or in a manner
that interferes with our first priority of working through this current period of market
difficulty.
Before I describe our Regulatory Blueprint, I will briefly outline why updating our
financial regulatory structure is essential.
Evolution of our Financial Regulatory System

Our current regulatory structure was not built to address the modern financial
system with its diversity of market participants, innovation, complexity of financial
instruments, convergence of financial intermediaries and trading platforms, global
integration and interconnectedness among financial institutions, investors and
markets. Moreover, our financial services companies are becoming larger, more
complex and more difficult to manage. Much of our current regulatory system was
developed after the Great Depression and it has developed through reaction --- a
pattern of creating regulators as a response to market innovations or to market
stress.
We have five federal deposit institution regulators in addition to state-based
supervision. We bifurcate securities and futures regulation. And regulation of one of
our largest financial services industries, insurance, is almost entirely at the state
level. The bulk of these regulatory responses made sense at the time they were
created, but as we look at today's financial markets, the lack of a comprehensive
design is clear.
The 1991 Bush Administration study, known as the "Green Book," made the case
for many of the changes adopted in the last comprehensive financial regulatory
overhaul, the Gramm-Leach-Bliley Act of 1999. That Act made important changes
to our financial regulatory structure by allowing broader affiliations of financial
services firms through a Financial Holding Company structure. But, it also
maintained separate regulatory agencies across the traditional securities, futures,
insurance and banking industry segments. This functional division is at odds with
the increasing convergence of financial service providers and products. It creates
jurisdictional disputes among regulators, and it is a likely result that some financial
services and products are exported to more adaptive foreign markets.
This complex structure can invite regulatory arbitrage, where business models are
chosen based on regulatory structure, or even worse, based on the regulator itself.
Regulators have adapted to keep pace with innovation, but they do so within a rigid
structure that can not readily adapt as the financial services industry evolves. The
current system fosters duplicative requirements and can allow important regulatory
matters to fall through the cracks.
That said, I do not believe it is fair or accurate to blame our regulatory structure for
the current market turmoil. As we work through this period, our regulators are
cooperating to the extent appropriate, recognizing their different roles,
responsibilities and authorities. They are also working cooperatively with their
global counterparts. They share information when appropriate, minimize duplication

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and try to avoid jurisdictional conflict. We are very fortunate to have experienced
professionals acting out of a shared sense of responsibility for the public good.
I am not suggesting that more regulation is the answer, or even that more effective
regulation can prevent the periods of financial market stress that seem to occur
every five to ten years. I am suggesting that we should and can have a structure
that is designed for the world we live in, one that is more flexible, one that can
better adapt to change, one that will allow us to more effectively deal with the
inevitable market disruptions, one that will better protect investors and consumers,
and one that will enable US capital markets to remain the most competitive in the
world.
This is a complex subject deserving serious attention. Those who want to quickly
label the Blueprint as advocating "more" or "less" regulation are over-simplifying
this critical and inevitable debate. The Blueprint is about structure and
responsibilities - not the regulations each entity would write. The benefit of the
structure we outline is the accountability that stems from having one agency
responsible for each regulatory objective. Few, if any, will defend our current
balkanized system as optimal.
I also want to make clear that today's recommendations will not alter how we
continue to set policy and coordinate the implementation of rules designed to
protect the financial system from money laundering, terrorist finance and other illicit
activities. Our challenge is to thoughtfully evolve to a more flexible, efficient and
effective safety and soundness regulatory framework - and that is the purpose of
this Blueprint.
The Optimal Financial Regulatory Model
We concluded we could only do justice to this topic by asking a rather theoretical
question: If we could start over, which of course we can't, what regulatory model
would we build? The idea here was to put forward an aspirational model, which
could only be achieved after many years. But the model would serve as a beacon
guiding us as we take necessary steps to modernize our financial regulatory
structure to reflect today's market realities. SeVeral difficult but unavoidable issues
must be confronted, and we have put forward specific intermediate term
recommendations to address these transitional issues over a two to eight year
period. And we have a few recommendations for the near-term. But let's begin with
the optimal or aspirational model.
We took a deliberative approach to developing this Blueprint. We met extensively
with US and international financial regulators. We considered several models
currently used in other global financial centers. We requested public comment on a
broad range of issues and received hundreds of thoughtful and constructive
comments. We interviewed thought leaders, industry, academics, and advocates of
all political persuasion, including former Treasury leaders from both sides of the
aisle. To a person, everyone agreed with two things: first, it was a difficult task and
second, we must do this to retain our competitive advantage.
Our work led us to recommend a regulatory model based on objectives, to more
closely link the regulatory structure to the reasons why we regulate. This model
would have three regulators: a regulator focused on market stability across the
entire financial sector, a regulator focused on safety and soundness of those
institutions supported by a federal guarantee, and a regulator focused on protecting
consumers and investors. A major advantage of this structure is its timelessness
and its flexibility. It can more easily respond and adapt to the ever-changing
marketplace because it is organized by regulatory objective rather than by financial
institution category.
Market Stability Regulator
Given its traditional central bank role of promoting overall macroeconomic stability,
the Federal Reserve is the natural choice for the important task of market stability
regulator. In our model, the Federal Reserve's market stability role would continue
through traditional channels of implementing monetary policy and providing liquidity
to the financial system. In addition, the Federal Reserve would be provided with a
different, yet critically important regulatory role with broad powers focusing on the

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overall financial system.
This role would replace the Fed's more limited role of bank holding company
supervision because we recognize the need for enhanced regulatory authority to
complement market discipline to deal with systemic risk. To do its job as the market
stability regulator, the Fed would have to be able to evaluate the capital, liquidity,
and margin practices across the entire financial system and their potential impact
on overall financial stability. The Fed would have the authority to go wherever in the
system it thinks it needs to go for a deeper look to preserve stability.
To do this effectively, the Fed will collect information from commercial banks,
investment banks, insurance companies, hedge funds, commodity pool operators,
but rather than focus on the health of a particular organization, it will focus on
whether a firm's or industry's practices threaten overall financial stability. It will have
broad powers and the necessary corrective authorities to deal with deficiencies that
pose threats to our financial stability.
To illustrate, consider that our current regulatory system is almost solely focused
above the ground at the tree level. But, the real threat to market stability is below
the ground, at the root level where the health of financial firms is intertwined.
Obvious root systems requiring the attention of our market stability regulator would
include the interconnected OTC derivatives markets with their lack of a cohesive
design for clearing, settlement, and novation protocols. Similarly, a market stability
regulator would have the authority to review certain private pools of capital, such as
hedge funds and private equity, which have the potential to contribute to a systemic
event.
This market stability regulator's job sounds difficult and I assure you, it is. No
regulator can prevent all instability and market turmoil, and this one won't either. I
would expect that we will continue to go through periods of market stress every five
to ten years. But hopefully with the proper tools and authorities, greater
transparency and better information flow, we will be better able to avoid some
problems and more effectively work through others. As a nation we have placed
great faith in the powers of market discipline and this regulator is designed to better
harness those forces.
Prudential Financial Regulator
Our second regulator combines all federal bank charters into one charter and
consolidates all federal bank regulators into a single prudential regulator. For further
regulatory efficiency, we recommend a federal insurance charter and put oversight
of these guaranteed products within the jurisdiction of our federal prudential
regulator. By its singular focus on prudential regulation that ensures the safety and
soundness of institutions with federal guarantees, this regulator would serve a role
similar to the current Office of the Comptroller of the Currency, the OCC.
Conduct of Business Regulator
Third, we propose a dedicated business conduct regulator with the responsibility to
vigorously protect consumers and investors, one which will focus on achieving
greater consistency across product lines. This regulator would monitor business
conduct regulation across all types of financial institutions and entities. Business
conduct regulation in this context includes key aspects of consumer protection such
as disclosures, business practices, chartering and licenSing of certain types of
financial institutions, and rigorous enforcement programs. This agency would
assume many of the roles of the CFTC, the SEC, and the consumer protection and
enforcement roles of our insurance and banking regulators. Having one agency
responsible for these critically important issues for all financial products should
bring greater consistency to regulation where overlapping requirements currently
exist. Mortgages are an example of a consumer financial product that has suffered
from uneven and inadequate treatment in our current regulatory and enforcement
regime.
The premise of our optimal structure is that clarity of mission and objective will lead
to strengthened regulation and improved capital markets efficiency.
We chose an objectives-based structure because we believe it provides a flexible

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framework that fosters and embraces innovation, helps ensure competitiveness and
better manages risk. Such a structure would be better able to adjust to market and
institutional changes. It would allow for clearer focus on particular goals - how do
we prevent market failures - and provide a clear view across the financial
landscape of functions, products, practices and institutions to meet those goals.
Establishing regulatory lines by objective also has the potential for establishing and
enforcing the greatest levels of market discipline by aiming regulation at the most
vulnerable points.
An objectives-based model is substantially different from our current system and,
realistically, will not and could not be implemented any time soon. However, we are
anchoring our recommendations in a tangible, aspirational Blueprint even though it
will take many years to evolve to this model. In the interim, the model can guide us
as we consider and then take steps along the way.

Near Term Recommendations
I will now turn to our near term recommendations.
PWG Executive Order

I have a particularly high regard for the talented and dedicated professionals who
today lead our regulatory agencies and, while recognizing their different roles,
responsibilities and authorities, also collaborate to deal with current challenges. The
President's Working Group on Financial Markets, the PWG, is a forum that is
designed to help do just that. It was developed to coordinate across the current US
structure, just as the Financial Stability Forum, the FSF, has developed as the
means of facilitating international cooperation. We should formalize the current
informal coordinating practice among the US regulatory community by amending
and enhancing the Executive Order which created the PWG.
The new executive order will emphasize the importance of coordination and
communication. It will clarify the PWG's mission of attempting to mitigate systemic
financial risk, enhancing financial market integrity, promoting consumer and
investor protection, and supporting capital markets efficiency and competitiveness.
It will also increase the PGW membership to include all federal financial regulators
so that information is shared in an appropriate, timely and efficient manner.
One thing that the PWG will work on immediately is determining whether the
government has all the tools and powers it needs to deal with a financial crisis. As
part of this, as I mentioned in my remarks last week, the PWG should examine the
lessons of the current temporary liquidity facility the Fed has established for
investment banks, and examine a number of issues regarding the proper level of
oversight that should apply.
Mortgage Origination Process

Another issue that needs attention is the mortgage origination process. Simply put,
that process was broken. We are aggressively addressing the immediate problem,
working to increase the availability of affordable mortgage financing, prevent
avoidable foreclosures and to minimize the economic disruption of the housing
downturn. We concluded that it was also appropriate to put forward a proposal to
address the policy issues arising from the current turmoil, to avoid a recurrence of
recent events and to respond to the fact that a very large percentage of the
problematic subprime mortgages originated in the last four years were originated by
state-regulated entities.
Mortgage origination is one of the best case studies for the importance of regulatory
structure. It raises the question of proper balance between federal and state
oversight, and requires a balancing of innovation, consumer choice and expanded
access to credit with protecting consumers from predatory lending and deceptive or
incomplete disclosure practices. I have reviewed and analyzed a number of ideas to
deal with this process. We thought quite seriously about federal preemption of
enforcement authority but concluded in this case it was best to focus on the
immediately achievable.
We are recommending retaining state-level regulation of mortgage origination

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practices, but we are also recommending creating a new federal-level commission,
the Mortgage Origination Commission. This commission, the MOC, would be led by
a director appointed by the President. The Commission membership would include
federal banking regulators and appropriate state representation. Legislation should
set forth or task this Commission to establish minimum standards which should
include personal conduct and disciplinary history, minimum educational
requirements, testing criteria and procedures, and appropriate licensing revocation
standards.
In addition to the standards, the MOC would provide important information to the
marketplace about the strength of each state's mortgage compliance standards.
The MOC would evaluate, rate, and report on each state's adequacy for licensing
and regulation of participants in the mortgage origination process. These
evaluations would grade the overall adequacy of a state system by descriptive
categories, indicating a system's strength or weakness. These evaluations could
provide further information regarding whether mortgages originated in a state
should be viewed cautiously before being securitized. This powerful Commission,
coupled with the Federal Reserve's strong regulatory proposal regarding the
HOEPA rules, should go a long way in preventing recent issues from recurring.
Intermediate Term Recommendations

Now, as these near term steps are taken, we also recommend action on a number
of intermediate steps after the current market stress has passed. We should focus
on a critical part of our economy: payment and settlement systems. Also, there are
two areas where our regulatory structure severely inhibits our competitiveness futures and securities, and insurance. Our recommendations in each area also call
for fundamental change that move us toward the longer-term, objectives-based
structure and, consequently, will take a number of years to complete.

Payment and Settlement Systems
Payment systems are critically important for overall market stability. On a typical
business day, US payment and settlement systems settle transactions valued at
over $13 trillion. Every American relies on a payment system in one way or another,
everyday. Yet, our government is behind the curve in payment system oversight. I
am not intending to raise an alarm here. There is no crisis, but we should be
proactive and address this issue. In our Blueprint, we recommend the creation of a
federal charter for systemically important payment and settlement systems and that
these systems should be overseen by the Federal Reserve. This will allow the
Federal Reserve to guard the integrity of this vital part of our nation's economy.

Merge SEC and CFTC
When the topic of regulatory structure comes up, people often rush to the
assumption that the SEC and the CFTC should be merged. We agree that the
realities of the current marketplace for securities and futures products make it
increasingly difficult to rationalize a separate regulatory regime. And, we believe
that we should pursue moving our regulation in the direction that the markets are
taking us.
As you will see in the Blueprint, in this case process is just as important as
substance. The market benefits achieved in the futures area should be preserved
and we do not want to lose the CFTC's principle-based process for market
exchange oversight. Accordingly, instead of simply recommending merging the
SEC and CFTC with the expectation that all will work out, we recommend a number
of steps and an evolutionary approach to shape the merger process so as to
preserve the best aspects of each regulator. In fact. the SEC and the CFTC have
recently signed a mutual cooperation agreement that embodies the spirit of what
the Blueprint is trying to achieve.

Optional Federal Charter for Insurance
Insurance presents a clear need for regulatory modernization. States have been the
primary regulator for insurance for over 135 years. While a completely state-based
regulatory system for insurance may have been appropriate at one time, Insurance
market changes have put increasing strains on the system.

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Page 7 of7

A state-based regulatory system is quite burdensome. It allows price controls to
create market distortions. It can hinder development of national products and can
directly impact the competitiveness of US insurers. There have been numerous
attempts to modernize the regulatory structure for insurance. At this time, it seems
clear that the way forward is to give insurers the ability to elect for federal
regulation. Therefore, in the Blueprint we recommend the establishment of a federal
insurance regulatory structure to provide for the creation of an Optional Federal
Charter for insurance companies, similar to the current dual-chartering system for
banking. This system would be built on a proven model and we recommend, as in
the banking sector, that this federal agency be housed within the Treasury
Department. This is the most effective way to address these issues and we outline
the critical elements to this legislation.

Revocation of the Federal Thrift Charter
In some cases, the market develops so quickly as to render parts of our regulatory
structure relatively obsolete. This is the case with the federal thrift charter and the
Office of Thrift Supervision, the OTS. The thrift charter is no longer necessary to
ensure sufficient residential mortgage loans availability for US consumers. In the
Blueprint, we have concluded that the thrift charter has run its course and should be
phased out. With the elimination of the federal thrift charter, the OTS would be
closed and its operations would be assumed by the OCC.

Conclusion
We recognize that these ideas will generate some controversy and healthy debate.
This is not unlike the circumstances surrounding the 1991 "Green Book," which
after a period of constructive discussion resulted in the passage of the GrammLeach-Bliley Act, modernizing our financial services industry some eight years later.
One of the most constant aspects of American life is change - and nowhere is it
more evident than in our financial markets. If private sector institutions don't
change, they become obsolete. Our regulatory structure also needs to change and
evolve to one which will stand the test of time. Once we are through this period of
market stress we need to begin the serious work of modernizing and reforming the
structure, which will require a great deal of discussion and many years to complete.
This will not be a small or easy effort -- transformative efforts rarely are. But this is a
subject we must debate, and ultimately address, for our long-term economic growth
and prosperity. Thank you.
-30-

LINKS
•
•
•

Press Releclse
Report
Fact Sheet

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Page 1 of 4

March 31, 2008
2008-3-31-15-53-2-23651

U.S. International Reserve Position

The Treasury Department today released U.S. reserve assets data for the latest week. As indicated in this table, U.S.
reserve assets totaled $75,840 million as of the end of that week, compared to $75,146 million as of the end of the
prior week.
I. Official reserve assets and other foreign currency assets (approximate market value, in US millions)

I
I
IA. Official reserve assets (in US millions unless otherwise specified)

II
IIMarch 28, 2008
IIEuro

IIYen

IITotal

II
11 15 ,732

II
11 12 ,289

11 75 ,840

I(a) Securities
lof which: issuer headquartered in reporting country but located abroad

II

II

11 0

I(b) total currency and deposits with:

II

1(1) Foreign currency reserves (in convertible foreign currencies)

II
15,622

l(i) other national central banks, BIS and IMF

6,881

11 28 ,021

II
11 22 ,503

lofwhich: located abroad

11 0
11 0

I(iii) banks headquartered outside the reporting country

110

lof which: located in the reporting country

11 0

Iii) banks headquartered in the reporting country

1(2) IMF reserve position

11 4 ,374

1(3) SDRs

11 9 ,901

1(4) gold (including gold deposits and, if appropriate, gold swapped)

1111 ,041

I--volume in millions of fine troy ounces

11 261 .499
0

[(5) other reserve assets (specify)
I--financial derivatives
[-loans to nonbank nonresidents
t-other

~. Other foreign

currency assets (specify)

tsecurities not included in official reserve assets
[deposits not included in official reserve assets
--loans not included in official reserve assets

II

--financial derivatives not included in official reserve assets

I!

--gold not included in official reserve assets

I

Cother

II

II

II. Predetermined short-term net drains on foreign currency assets (nominal value)

r______~IL..._1

_ _.........IL..._I_ _.........IL..._I_ _--IIIL.-_-----'1IL...-_-----'II

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Page 2 of 4

[

II

[

I

IIMaturity breakdown (residual maturity)
Total

1. Foreign currency loans, securities, and deposits
[outflOWS (-)

IIPrincipal

[

IIlnterest

/I

tinflows (+)

IIPrincipal

[

II Interest

II
II

2. Aggregate short and long positions in forwards and
futures in foreign currencies vis-a-vis the domestic
currency (including the forward leg of currency swaps)

More than 1 and
up to 3 months

Up to 1 month

II
II
II
/I

I
I

[(a) Short positions ( - )

More than 3
months and up to
1 year

I

I

[ (b) Long positions (+)
3. Other (specify)
--outflows related to repos (-)

I
II
II
II
II

--inflows related to reverse repos (+)
--trade credit (-)
--trade credit (+)
--other accounts payable (-)
--other accounts receivable (+)

III. Contingent short-term net drains on foreign currency assets (nominal value)

I

II

I

II

II
II
II
I Maturity breakdown (residual maturity, where
applicable)
Total

I

I

Up to 1 month

More than 1 and
up to 3 months

More than 3
months and up to
1 year

11. Contingent liabilities in foreign currency
(a) Collateral guarantees on debt falling due within 1
year

[(b) Other contingent liabilities
2. Foreign currency securities issued with embedded
options (puttable bonds)

@. Undrawn,

unconditional credit lines provided by:

(a) other national monetary authorities, 81S, IMF, and
other international organizations
Eother national monetary authorities (+)
EBIS (+)
[iMF (+)
(b) with banks and other financial institutions
headquartered in the reporting country (+)
(e) with banks and other financial institutions
headquartered outside the reporting country (+)

I

Undrawn, unconditional credit lines provided to:
(a) other national monetary authorities, 81S, IMF, and
other international organizations
.;:9ther national monetary authorities (-)

r

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Page 3 of 4

t.SIS (-)

I

BMF(-)
(b) banks and other financial institutions headquartered
in reporting country (- )
(c) banks and other financial institutions headquartered
outside the reporting country ( - )

4. Aggregate short and long positions of options in
foreign currencies vis-a-vis the domestic currency

~a) Short positions

@Bought puts

II

I

II
II

mil Written calls
[b) Long positions
I(i) Bought calls

~ii) Written puts
[PRO MEMORIA: In-the-money options 11

1(1) At current exchange rate

I

I(a) Short position
I(b) Long position

1(2) + 5 % (depreciation of 5%)
I(a) Short position
I(b) Long position

1(3) - 5 % (appreciation of 5%)
I(a) Short position
I(b) Long position

1(4) +10 % (depreciation of 10%)
I(a) Short position
I(b) Long position

1(5) - 10% (appreciation of 10%)
I(a) Short position
I(b) Long position

1(6) Other (specify)
I(a) Short position
I(b) Long position

IV. Memo items

[

I

~) To be reported with standard periodicity and timeliness:
~) short-term domestic currency debt indexed to the exchange rate

I

(b) financial instruments denominated in foreign currency and settled by other means (e.g .. in domestic
currency)
[nondeliverable forwards

II
I

I

I

[-Short positions
[-long positions
t9ther instruments

~ pledged assets
~cluded in reserve assets
~ncluded in other foreign currency assets

r--

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I
4/4/2008

Page 4 of 4
~) securities lent and on repo

II
II

Bent or repoed and included in Section I

I

I

Bent or repoed but not included in Section I
[borrowed or acquired and included in Section I
--borrowed or acquired but not included in Section I

~) financial derivative assets (net, marked to market)
tforwards
t-futures
t-swaps
[options
t-other
(f) derivatives (forward, futures, or options contracts) that have a residual maturity greater than one
year, which are subject to margin calls.
--aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the domestic
currency (including the forward leg of currency swaps)

I

I(a) short positions ( - )
I(b) long positions (+)
I--aggregate short and long positions of options in foreign currencies vis-a-vis the domestic currency
I(a) short positions
I(i) bought puts
I(ii) written calls
I(b) long positions

l(i) bought calls
I(ii) written puts

1(2) To be disclosed less frequently:
I(a) currency composition of reserves (by groups of currencies)

1/75,840

I--currencies in SDR basket

1175,840

I--currencies not in SDR basket

II
II
II

I--by individual currencies (optional)
I

Notes:
1/ Includes holdings of the Treasury's Exchange Stabilization Fund (ESF) and the Federal Reserve's System Open Market
Account (SOMA), valued at current market exchange rates. Foreign currency holdings listed as securities reflect markedto-market values, and deposits reflect carrying values.
2/The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF
and are valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest
week reflect any necessary adjustments, including revaluation, by the U.s. Treasury to IMF data for the prior month
end.

3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

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April 1, 2008
HP-898
Under Secretary for Terrorism and
Financial Intelligence Stuart Levey
Testimony Before the Senate Committee on Finance
Washington - Chairman Baucus, Ranking Member Grassley, and distinguished
members of the Committee, thank you for the opportunity to speak with you today
about the work of the Treasury Department's Office of Terrorism and Financial
Intelligence (TFI). I want to thank this Committee and the others that oversee TFI
for the continued support and guidance we have received. Today, I want to brief
you on the progress we have made over the past four years and also talk about
some of the challenges we face moving forward.
THE OFFICE OF TERRORISM AND FINANCIAL INTELLIGENCE AND THE
TREASURY DEPARTMENT'S ROLE IN PROTECTING NATIONAL SECURITY
Nearly four years have passed since I first testified before this committee as the
nominee for my current position. At the time, I think it is fair to say that the extent of
the Treasury Department's future role in protecting U.S. national security was
uncertain at best. Most of the Treasury's law enforcement functions had been
moved to the Departments of Justice and Homeland Security in 2003, the Treasury
was not integrated into the Intelligence Community, and the office that I was being
asked to lead was only in the process of being established.
But there were some who recognized that the Treasury Department's efforts to
protect the safety and soundness of the international financial system were
indispensable to our national security, especially given the types of threats we face
in a post -9/11 world. Globalization is a positive trend; open finance and free trade
enhance the economic security and prosperity of people in this country and around
the world. But illicit actors seek to abuse the global financial system to support their
dangerous activities. The financing of terrorism and weapons proliferation often
occurs within the same system that spreads prosperity at home and abroad. It was
therefore important to adapt our national security strategy to confront this challenge.
This was the genesis of the Office of Terrorism and Financial Intelligence, or TFI.
Fast-forward to today, and we have a Treasury Department that is playing a greater
role in national security than ever before. The guiding principle of TFI's approach is
that many of the threats we face - from terrorism to the proliferation of weapons of
mass destruction (WMD) to narcotics trafficking - all have one thing in common:
they rely on financial support networks. These threats are not neatly confined within
the borders of another country. They are asymmetric and borderless and thus not
necessarily susceptible to being solved exclusively by traditional means of
deterrence. The Treasury is well-situated to address them because of the
authorities we command, the relationships we possess with governments and
private sector actors around the world, and the financial information we can draw
upon.
Transactions by those engaged in threatening conduct typically leave a trail of
detailed information that we can follow to identify key actors and map their
networks. Opening an account or initiating a funds transfer requires a name, an
address, a phone number. This information tends to be very accurate and durable.
In 2004, with the creation of TFI's Office of Intelligence and Analysis, the Treasury
became the first finance ministry in the world to develop in-house intelligence and
analytic expertise to use this information We now work with the broader
Intelligence Community to communicate the Department's requirements and
evaluate information that threatens our national security. The Treasury then
considers this information with an eye toward potential action - be it a designation,
an advisory to the private sector, or a conversation to alert the private sector and
government officials in another country to a particular threat. The financial networks
of these illicit actors are not only a rich source of intelligence, but also they are a

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vulnerability we can exploit. As I will explain, we have seen in various contexts that
targeting these financial networks, when we do it right, can place an enormous
amount of pressure on these networks and the actors they support.

A. COMBATING THREATS WITH TARGETED FINANCIAL MEASURES
As we have applied our authorities to different threats over the past several years,
we have adopted a new strategy of using targeted, conduct-based financial
measures aimed at particular bad actors. I intentionally refer to these targeted
actions as "financial measures" rather than "sanctions" because the word
"sanctions" often evokes such a negative reaction. These targeted financial
measures are proving to be quite effective, flying in the face of a widely-held
historical view that dismisses sanctions as ineffective, harmful to innocents, or both.
In the case of broad, country-wide sanctions that are often perceived as political
statements, it can be difficult to persuade other governments and private
businesses to join us in taking action. Even when other governments agree with us
politically, they generally tend to be unwilling to force their businesses to forgo
opportunities that remain open to others. When the private sector views such broad
sanctions as unwelcome barriers to business, companies are unmotivated to do
more than what is minimally necessary to comply. Indeed, history is replete with
examples of participants in the global economy working to evade such sanctions
while their governments turn a blind eye.
The dynamic is different when we instead impose financial measures specifically
targeted against individuals or entities engaging in illicit conduct. When we use
reliable financial intelligence to build conduct-based cases, it is much easier to
achieve a multilateral alignment of interests. It is difficult for another government,
even one that is not a close political ally, to oppose isolating actors who are
demonstrably engaged in conduct that threatens global security or humanitarian
interests. Also, whatever their political views, all countries want their financial
sectors to prosper and to have good reputations. They therefore share a common
interest with us in keeping their financial sectors untainted by illicit conduct.
The key difference when we use targeted financial measures is the reaction of the
private sector. Rather than grudgingly complying with, or even trying to evade these
measures, we have seen many members of the banking industry, in particular,
voluntarily go beyond their legal requirements because they do not want to handle
illicit business. This is a product of good corporate citizenship and a desire to
protect their institutions' reputations. The end result is that private sector voluntary
actions amplify the effectiveness of government-imposed measures.
Once some in the private sector decide to cut off companies or individuals we have
targeted, it becomes an even greater reputational risk for others not to follow, and
so they often do. Such voluntary implementation in turn makes it even more
palatable for foreign governments to impose similar measures because their
financial institutions have already given up the business, thus creating a mutuallyreinforcing cycle of public and private action.
Armed with the critical intelligence capability I have described, as well as our
experience building and maintaining multilateral government and private sector
support for our actions, TFI draws on anyone or a combination of authorities to
respond to a particular threat. In many circumstances, we have found that our most
effective tool is simply sharing information about illicit actors with other
governments and members of the international private sector.
I would now like to describe some of the results of this marriage of intelligence and
strong financial authorities, and the role it plays across various elements of our
national security strategy.
1. Disrupting and Dismantling Terrorist Support Networks
Our efforts to track and combat terrorist financing are critical pillars of the U.S.
government's efforts to protect U.S. citizens and other innocents around the world
from terrorist attacks. These efforts span across U.S. departments and agencies
and range from intelligence collection and analysis to public actions aimed at
holding terrorist financiers accountable for their conduct and deterring other wouldbe donors. Activities to combat terrorist financing are more integrated than ever

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TC1"Ol'isl'1"1

and<br>Financial Intelligence Stuart Levey<br>Testimony Befo ... Page 3 of 13

before into the U.S. government's strategic approach to counterterrorism by virtue
of the National Implementation Plan, which synchronizes the U.S. government's
overall counterterrorism efforts.
Over the last four years, we have become more adept at pursuing that strategy and
at pursuing the most appropriate course of action to combat the particular terrorism
threat presented. In December of 2005, the 9/11 Commission's Public Discourse
Project awarded its highest grade, an A-, to the U.S. government's efforts to combat
terrorist financing. Since then, we have continued to develop and improve our
strategy and there are signs that we are making important progress.
To start, we have made significant progress in mapping terrorist networks.
"Following the money" yields some of the most valuable sources of information we
have in this effort. As 9/11 Commission Chairman Lee Hamilton has stated: "Use of
this tool almost always remains invisible to the general public, but it is a critical part
of the overall campaign against al Qaida." That is because financial intelligence is
extremely reliable; money trails don't lie. At times, our best course is not to take
public action, but to continue to trace the network both upstream to the ultimate
donors and downstream to the operational cells.
On some occasions, we decide that the best approach is to share intelligence with
other countries and urge them to take action against the relevant actors. We have
found that almost all countries will take such requests very seriously, especially
when the information concerns al Qaida.
At other times, we have determined that the best course is for the Treasury to take
public action. We have a powerful Executive Order that allows us to deSignate
terrorists and their supporters, freezing any assets they have under U.S. jurisdiction
and preventing U.S. persons from doing business with them. We have used this
authority against key terrorist entities, faCilitators, donors, and terrorist-supporting
charities, ranging from Bayt ai-Mal and Yousser Company, which are financial
institutions that functioned as Hizballah's unofficial treasury in Lebanon, to Adel
Abdul Jalil Batterjee, a Saudi-based donor to al Qaida.
When it comes to al Qaida and the Taliban, there is a UN Security Council
resolution, UNSCR 1267, which provides for designations similar to our Executive
Order designations. There are other Security Council resolutions dealing with
terrorist financing more generally, but for Hamas, Hizballah and other terrorist
organizations we have deSignated, there is no comparable UN list. We are still
grappling with this challenge. We nevertheless have found that our unilateral
designations are followed voluntarily by many banks around the world that have
decided they simply do not want to do bUSiness with these actors.
The disruptive impact of these actions is significant. Beyond the direct effect on the
designated individual or entity, designations can also deter other would-be
financiers. The terrorist operative who is willing to strap on a suicide belt may not be
susceptible to deterrence, but the individual donor who wants to support violent
jihad may well be. Terrorist financiers typically live public lives with all that entails:
property, occupation, family, and social position. Being publicly identified as a
financier of terror threatens an end to that "normal" life.
Designations have also been an effective tool in combating terrorist abuse of
charities. Historically, al Qaida and other terrorist groups have set up or exploited
some charities, preying on unwitting donors trying to fulfill their religious obligation
of charitable giving or seemingly engaging in humanitarian activity to garner support
from communities in need. Indeed, many terrorist-supporting charities have gone to
great lengths in attempting to obscure their support for violence.
Through a combination of public designations and law enforcement and regulatory
actions against corrupt charities, both at home and abroad, we have exposed and
taken out key organizations and deterred or disrupted others. We have thus far
designated approximately 50 charities worldwide as supporters of terrorism,
including several in the United States, putting a strain on al Qaida's financing
efforts.
There is also increased awareness among charities around the world of the danger
of terrorist abuse. In that regard, our active engagement with the charitable sector
has been just as important as our actions against specific charities that have

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supported terrorism. This is particularly important because we want humanitarian
assistance to reach those who are truly in need through channels safe from terrorist
exploitation.
We have issued guidance to assist charities in mitigating the risk of exploitation by
terrorist groups. We have engaged in a comprehensive outreach campaign to the
charitable sector and the Arab/Muslim-American communities to explain the threat,
provide guidance, and address questions regarding Treasury enforcement actions.
Internationally, we have worked through organizations like the Financial Action
Task Force - or the "FATF," the world's premier standard-setting body on
combating terrorist financing and money laundering - to develop and implement
standards and best practices on preventing terrorist financing through charitable
organizations. This effort has made it much more difficult for al Qaida and other
terrorist groups to raise money through ostensibly mainstream charities while also
helping well-intentioned donors support worthy causes.
The real value of all of our counter-terrorist financing efforts is that they provide us
with another means of maintaining perSistent pressure on terrorist networks.
Terrorist networks and organizations require real financing to survive. The support
they require goes far beyond funding attacks. They need money to pay operatives,
support their families, indoctrinate and recruit new members, train, travel, and bribe
officials. When we restrict the flow of funds to terrorist groups or disrupt a link in
their financing chain, we can have an impact.
With respect to the terrorist group that poses the greatest threat to the United
States, al Qaida, we have made real progress. We have disrupted or deterred many
of the donors on which al Qaida used to rely. At the very least, these donors are
finding it far more difficult to fund al Qaida with the ease and efficiency provided by
the international financial system. The same applies to many of the charities that al
Qaida previously depended upon as a source of funds. To the extent we can force
terrorists and their supporters out of the formal financial system, we force them into
more cumbersome and riskier methods of raising and moving money, subjecting
them to a greater likelihood of detection and disruption. In this regard, we are also
pursuing important efforts to facilitate the interdiction of cash couriers, for example
by working with DHS to identify and interdict them. The Department of Homeland
Security's Customs and Border Protection is playing a leading role in this global
effort.
Along with our allies around the world, we have disrupted many of al Qaida's most
important facilitation networks. Consider this relatively recent quote from an
interview by a high-ranking al Qaida official, Mustafa Abu-al-Yazid, also known as
Shaykh Sa'id:
"As for the needs of the Jihad in Afghanistan, the first of them is
financial. The Mujahideen of the Taliban number in the thousands,
but they lack funds. And there are hundreds wishing to carry out
martyrdom-seeking operations, but they can't find the funds to equip
themselves. So funding is the mainstay of Jihad .... And here we
would like to point out that those who perform Jihad with their wealth
should be certain to only send the funds to those responsible for
finances and no other party, as to do otherwise leads to disunity and
differences in the ranks of the Mujahideen."
AI Qaida's expression of concern about its financial difficulties is not limited to this
one comment; this concern has recently been echoed elsewhere in al Qaida's
upper ranks. This, in part, is the impact of being forced out of the formal financial
system. AI Qaida has had no choice but to turn to less reliable methods of raising,
storing, and moving money, giving rise to opportunities for fraud and distrust within
its ranks.
The overall impact of all of our efforts has been substantial: as DNI McConnell
recently testified, over the last year to 18 months we have seen that the core
leadership of al Qaida has had difficulty raising funds and sustaining itself.
That does not mean that I am satisfied; there are still tough issues that need to be
tackled. One of our greatest challenges will be to foster the political will required to
deter terrorist financiers more consistently and effectively. It has proven difficult to
persuade officials in some countries to identify and to hold terrorist financiers
publicly accountable for their actions. This lack of public accountability undermines

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our ability to deter other donors. Those who reach for their wallets to fund terrorism
must be pursued and punished in the same way as those who reach for a bomb or
a gun. We have made some progress in this area, but we have a long way to go.
So long as that is the case, even when we are successful in disrupting terrorist
facilitators and financial conduits, our successes may well be short-lived.
Stemming the violence in Iraq continues to be a significant challenge, but TFI is
contributing to the effort. Our intelligence work has been particularly useful in
helping to restrict the flow of funds fueling the Iraqi insurgency. The Treasury and
Defense Departments established in late 2005 a Baghdad-based interagency
intelligence unit, known as the Iraq Threat Finance Cell (ITFC), to enhance the
collection, analysis, and dissemination of timely and relevant financial intelligence to
combat the insurgency. The ITFC has made significant contributions to our war
fighters. Senior U.S and Coalition military commanders have come to rely on the
cell's strategic and tactical analysis to help combat the Iraqi insurgency and disrupt
terrorist, insurgent, and militia financial networks.
The presence of al Qaida in Iraq is representative of another trend that poses a
significant challenge for us. In the years since September 11, al Qaida has
continued to merge with regionally-based terrorist groups to support its cause.
Although these partners, which include groups based in Africa, the Middle East and
elsewhere, may have had long-standing objectives of using terrorist tactics against
governments and regimes, their affiliation with al Qaida brings with it the potential
that their personnel and resources could be used to engage in attacks globally
including against the United States. Our challenge is to stay in front of this trend by
working to understand these groups' operations, organizational structure and, of
course, their financial networks, as quickly as they are evolving. By focusing on the
financing of these nodes, we can better understand the relationship among them
and identify potential vulnerabilities.
We are also not yet where we need to be with respect to State Sponsors of
Terrorism, particularly Iran and Syria. These states not only provide support and
safe haven to terrorists, but also a financial infrastructure that terrorists can use to
move, store, and launder their funds. Iran poses the biggest problem in this area,
using its Qods Force to provide weapons and financial support to the Taliban and
terrorist organizations. We have designated individuals or entities in both Iran and
Syria for supporting terrorism-related activities, and, as in other areas, we find that
responsible financial institutions take these actions into account and adjust their
business accordingly.
Finally, there is only so much that the United States can do alone. We have good
cooperation from many other governments and the private sector on counterterrorist financing. The work of the UN Security Council in implementing Security
Council Resolution 1267 and the FATF in setting international standards has been
instrumental. But there are still challenges. Legal authorities and operational
capacity to combat terrorist financing on a national level remain uneven. Some
countries still have not criminalized terrorist financing; others have taken this step,
but have yet to use the authority. Most importantly, countries need to develop and
apply intelligence as a basis of disrupting terrorist financing networks through law
enforcement as well as through the use of targeted financial measures. Even some
of our best partners still lack the political will or national authorities to consistently
and aggressively disrupt terrorist financing networks. This is particularly true when it
comes to terrorist groups beyond al Qaida or when there is need to rely on
intelligence as a basis for financial action.
2. Targeting Proliferators and their Supporters
We are applying the lessons we have learned in combating terrorist financing to
respond to the threat of WMD and missile proliferation. Targeted financial action
against proliferation networks has the potential to be particularly effective for two
reasons. First, while terrorist organizations are likely to use informal networks or
cash couriers, proliferation networks often engage in ostensibly legitimate
commercial transactions and therefore tend to depend upon access to the formal
financial system, where transparency and our controls are greatest. Second, many
in the proliferation chain are motivated by profit, rather than ideology, making them
more susceptible to deterrence if we can credibly threaten to publicly expose or
isolate them.
Recognizing this, President Bush issued Executive Order 13382 in June of 2005,

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adding targeted financial measures to the array of options previously available to
the U.S. government to combat proliferation. This order authorizes the Treasury
and State Departments to target key nodes of WMD and missile proliferation
networks, including their suppliers and financiers, in the same way we do with
terrorists. We have used it to designate a number of banks, entities, and individuals
supporting proliferation activities in Iran, North Korea, and Syria.
In the Iran context, UN Member States are implementing targeted financial
measures against entities and individuals identified by the Security Council in a
series of Chapter VII UN Security Council resolutions for their involvement in Iran's
nuclear and missile programs. Beyond that, most governments do not yet have a
national-level designation authority similar to ours as a tool to stem proliferation.
Nonetheless, U.S. designations in this area gain worldwide recognition, particularly
among financial institutions. My colleagues and I have traveled worldwide
explaining our actions to, and sharing information with, foreign government officials
and private sector representatives to help them understand the nature of the threat.
The result is that our actions Jeopardize designated proliferators' access to the
international financial system and put their commercial partners on notice of the
threat they pose. Those who continue to do business with them do so at the risk of
tainting their reputations or even being designated themselves.
We also continue to work bilaterally and multilaterally to raise awareness of the
problem of WMD proliferation finance and to encourage the creation of authorities
like those we have under our Executive Order. We have been working closely with
our G-7 Finance Ministry counterparts, in particular, to determine what steps can be
taken to isolate proliferators from the international financial system through
multilateral action. One of the most promising avenues is the recent and ongoing
work of the FATF to study the threat of proliferation finance and assess the types of
actions countries can take to prevent and disrupt proliferators' financial activities.
This work has been strongly and unanimously endorsed by the G7, and we hope it
will lead to international standards and best practices on proliferation finance, much
like we already have on terrorist financing and money laundering. The Treasury and
State Departments are also working to encourage the more than 85 countries that
partiCipate in the Proliferation Security Initiative (PSI) - aimed at stopping
shipments of weapons of mass destruction, their delivery systems, and related
materials to state and non-state actors of proliferation concern - to use financial
measures to combat proliferation support networks.
3. Combating the Illicit Financial Conduct of Rogue Regimes

States engaged in illicit conduct pose a particular challenge. They hide behind a veil
of legitimacy, disguising their activities, such as weapons sales or procurement,
through the use of front companies and intermediaries. In some cases, they
intentionally obscure the nature of their financial activities to evade detection and
avoid suspicion. We have had important successes countering the illicit financial
activity of both North Korea and Iran by using a combination of financial measures,
fueled by financial intelligence, to target their conduct in a way that is persuasive
both for other governments and the private sector.
North Korea
Confronted with North Korean conduct ranging from WMD and missile proliferationrelated activities to the counterfeiting of U.S currency and other illicit financial
behavior, the Treasury Department took two important public actions. First, we
targeted a number of North Korean proliferation firms under E.O. 13382. Second,
we acted under Section 311 of the USA PATRIOT Act to protect our financial
system from abuse by Banco Delta Asia, a Macau-based bank that, among other
things, knowingly allowed its North Korean clients to use the bank to facilitate illicit
conduct and engage in deceptive financial practices.
Much of the real impact of these actions came from the information we made public
in conjunction with the actions and the information we shared with governments and
banks around the world. The private sector's reaction was dramatic. Since the
information pointed to the North Korean regime's involvement in the illicit conduct,
many of the world's private financial institutions terminated their business
relationships not only with designated entities, but also with North Korean clients
altogether. Banks in China, Japan, Vietnam, Mongolia, Singapore and across
Europe decided that the risks associated with this business far outweighed any
benefit. The result has been North Korea's virtual isolation from the global financial

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system. That, in turn, put enormous pressure on the regime - even the most
reclusive government depends on access to the international financial system. This
effort was valuable both in securing the integrity of the international financial system
and in providing the State Department with leverage in its diplomacy with North
Korea.
In addition to these public actions, we have continued to work with the U.S. Secret
Service to counteract North Korea's counterfeiting of U.S. currency. The Secret
Service is continuing to investigate North Korea's counterfeiting activities and the
high-quality counterfeit bills produced by North Korea, known as the "Supernote,"
continue to surface.
Iran

Dealing with Iran - a country that is much more deeply integrated into the
international financial system than North Korea - has presented an even more
complex challenge. Iran poses a number of threats. Among them are the regime's
continued pursuit of nuclear capabilities in defiance of UN Security Council
resolutions and its provision of financial and material support to terrorist groups.
The combination of these dangerous activities has an extraordinarily lethal
potential. Iran uses its global financial ties to pursue both policies, and it engages in
an array of deceptive financial conduct specifically designed to avoid suspicion and
evade detection by regulators and law-abiding financial institutions. By combating
Iran's illicit financial activities with a strategy that combines targeted financial
measures with an unprecedented level of outreach around the world, the Treasury
is playing an integral role in the U.S. and multilateral strategy for dealing with Iran.
Iran's financial conduct underlies its proliferation and terrorism activities. Iran uses
its state-owned banks for its nuclear and missile programs and for financing
terrorism. It also uses front companies and intermediaries to engage in ostensibly
innocent commercial transactions that are actually related to its nuclear and missile
programs. These front companies and intermediaries enable the regime to obtain
dual-use technology and materials from countries that would typically prohibit such
exports to Iran.
We have also seen how Iranian banks request that other financial institutions take
their names off of transactions when processing them in the international financial
system. This practice is intended to evade the controls put in place by responsible
financial institutions and has the effect of threatening to involve them in transactions
they would never engage in if they knew who, or what, was really involved. This
practice is even used by the Central Bank of Iran.
Over the past year and a half, I and other senior Treasury officials have met with
our finance ministry and central bank counterparts from around the world to discuss
the importance of ensuring that the international financial system is not tainted by
Iran's abuse. We have also met with scores of banks to share this information and
to discuss the risks of doing business with Iran.
We have taken targeted financial action under our proliferation and terrorism
Executive Orders against key Iranian banks, entities and individuals facilitating the
regime's dangerous conduct. Among these designations, we have acted against
state-owned Bank Saderat, which has been used by the regime to funnel money to
terrorist organizations. We have also designated three other Iranian state-owned
banks - Bank Sepah, Bank Melli, and Bank Mellat - for facilitating the regime's
proliferation activities and designated the Qods Force under our terrorism Executive
Order for providing material support to the Taliban and terrorist organizations. The
State Department has designated other key entities of proliferation concern,
including the Islamic Revolutionary Guard Corps (also known as the Iranian
Revolutionary Guard Corps) and the Ministry of Defense and Armed Forces
Logistics.
These U.S. efforts have been accompanied by international action. The State
Department's intensive diplomatic efforts have resulted in three UN Security
Council resolutions imposing sanctions on Iran for its pursuit of nuclear capabilities
and ballistic missiles. The most recent resolution, UNSCR 1803, calls upon UN
member states to exercise vigilance over their own financial institutions' activities
with all financial institutions domiciled in Iran, and their branches and subsidiaries
abroad. This provision makes special mention of the risks posed by Bank Melli and
Bank Saderat. And, in February, the FATF issued its second statement on Iran,

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sending a clear message to governments and financial institutions worldwide about
the threat Iran poses to the international financial system.
In response to Resolution 1803 and the FATF's warning, Treasury's Financial
Crimes Enforcement Network (FinCEN) issued an advisory on March 20 to U.S.
banks warning them of the risks of dOing business with Iran and identifying Iranian
state-owned and private banks and their branches and subsidiaries abroad. We
also warned financial institutions about the conduct of the Central Bank of Iran. both
in obscuring the true parties to transactions and in helping Iranian proliferation and
terrorist-supporting entities avoid sanctions.
The overall result has been just the type of mutually-reinforcing cycle of
governmental and private sector action that I previously described. In reaction to
U.S. and multilateral actions, the world's leading financial institutions have largely
stopped dealing with Iran, and especially Iranian banks, in any currency. Foreignbased branches and subsidiaries of Iran's state-owned banks are becoming
financial pariahs - threatening their viability - as banks and companies around the
world resist dealing with them. This represents a substantial success in protecting
the integrity of the financial system from Iranian illicit conduct while simultaneously
providing leverage to support the multilateral effort to reach a negotiated solution on
Iran's nuclear program.
Combating other Threats
Our use of targeted financial measures is not limited to combating terrorism,
proliferation. and the illicit financial conduct of Iran and North Korea. We are also
using these tools in a variety of other contexts, including against corruption,
narcotics trafficking. and abusive and oppressive regimes. In all of these situations,
we can help put pressure on specific bad actors and try to rally the private sector to
isolate them from the international financial system. Of course, these financial
measures cannot alone solve these types of intractable problems. They are just one
component of broader U.S. and, in some cases international, strategies to address
them.
Combating Corruption
Corruption is one of the newer <;lreas where we are increasingly relying on targeted
financial measures. Corruption erodes democracy. the rule of law and economic
well-being around the world. It taxes the poor, deprives legitimate businesses of
opportunity and breeds criminality and mistrust. To address this threat, the
President announced a strategy in August 2006 to combat high-level corruption, or
"kleptocracy'" The Treasury's charge in this strategy is to ensure that the
international financial system is not misused by kleptocrats seeking to hide or move
their ill-gotten gains. We also have targeted financial authorities aimed at exposing
and disrupting corrupt officials' financial networks in countries such as Belarus,
Burma and Syria.
In addition to the use of targeted financial measures to combat corruption, we are
also working to increase transparency in the U.S. domestic and international
financial systems, ensuring that an appropriate level of due diligence is applied to
the financial dealings of foreign officials in positions of public trust, otherwise know
as "Politically Exposed Persons," or PEPs.
Addressing Human Rights Abuses and Oppressive Regimes
In the past several years, we have learned that targeted financial measures can
playa helpful role in reinforcing broader strategies to address human rights abuses
and the conduct of brutal and oppressive regimes. Our efforts span across the crisis
in Darfur to human rights violations and other oppressive activities in Zimbabwe,
Burma, and Belarus. In the context of Darfur, for example, we have used the
precision of targeted financial measures to focus on those who foment violence and
human rights abuses. Our designations have included Sudanese individuals,
including government and rebel leaders, elements of the logistical support network
that arm those committing atrocities, and companies tied to the regime. These
actions supplement an already comprehensive country sanctions program and have
played an important role in exposing ongoing atrocities and bringing a new element
- the financial sector - into the fight to bring them to an end. In the context of
Burma, we have designated key financial operatives of the Burmese regime and

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their business networks.
Combating Narcotics Trafficking

No discussion of the success of targeted financial measures would be complete
without mention of the Treasury Department's counternarcotics sanctions program.
This program has been in place since 1995, when President Clinton issued an
Executive Order targeting the activities of significant foreign narcotics traffickers in
Colombia, with the objective of isolating and incapacitating the businesses and
agents of the Colombian drug cartels. Designations under this order continue today
and span multiple industries, including such enterprises as drugstore chains,
construction firms, agricultural businesses, and department stores. This program
was the model in 1999 for the Foreign Narcotics Kingpin Designation Act ("Kingpin
Act"), which provides a statutory framework for the President to impose sanctions
against foreign drug kingpins and their organizations on a worldwide scale. Targets
under the Kingpin Act have been identified in Mexico, the Caribbean, Middle East,
and Southeast Asia.
This program has achieved many successes. Among them is the historic
September 2006 plea agreement between the U.S. government and Miguel and
Gilberto Rodriguez-OreJuela, the brothers who ran the infamous Cali Cartel in
Colombia, which was responsible for importing tons of cocaine into the United
States during the past two decades. According to the plea agreement, the
Rodriguez-Orejuela brothers admitted smuggling over 30 metric tons of cocaine into
the United States, generating an illicit fortune in excess of one billion dollars.
Treasury, Justice, and other law enforcement agencies had for years worked to
uncover and immobilize the hidden assets of the Cali Cartel, with the Office of
Foreign Assets Control (OFAC) designating hundreds of front companies and
individuals in Colombia and 10 other countries. In the end, the Rodriguez-Orejuela
brothers were willing to plead guilty and spend the rest of their lives in Jail just to
make their family members eligible to be removed from OFAC's list.

B. SAFEGUARDING THE INTEGRITY OF THE FINANCIAL SYSTEM
Our efforts to combat threats to our national security using our financial authorities
are most effective when they build on a foundation of strong systemic safeguards in
the financial sector. Indeed, one of the Treasury's core missions is to ensure that
these safeguards are part of our own domestic financial system and to encourage
the adoption of similar safeguards worldwide. The common thread that runs
throughout these initiatives is the goal of bringing greater transparency to the
international financial system.
Transparency is, in and of itself, a powerful safeguard against the kinds of abuse of
the financial system that I have described today. It is critical to enabling financial
institutions and law enforcement, regulatory and other authorities to identify sources
and conduits of illicit finance so that they can take steps to protect themselves,
contributing to the overall safety, soundness, and security of the international
financial system. Their efforts, in turn, deny terrorist organizations, proliferators and
other criminals access to the financial system, forcing them to adopt costlier and
riskier alternative financing mechanisms. We work to promote security by:
•

•
•
•

Understanding how illicit actors abuse the financial system and ensuring
that the U.S. financial system is protected by a comprehensive, efficient,
and rigorously enforced anti-money laundering/counterterrorist financing
(AMLlCFT) regime;
Strengthening and expanding international AMLlCFT standards;
Taking protective actions against threats and systemic vulnerabilities; and
Partnering with the private sector.

I would like to share with you some of the actions we are taking to meet each of
these objectives.

1. Understanding How Illicit Actors Abuse the Financial System and Ensuring
the Protection of that System
The first step in safeguarding the financial system is to understand where it is
vulnerable and the threats it faces. The Treasury Department has worked for many
years to improve its understanding of illicit finance, and, in 2006, we coordinated

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the first U.S. government-wide Money Laundering Threat Assessment. The
assessment brought together the expertise of regulatory, law enforcement and
investigative officials from across the government to investigate the current and
emerging trends and techniques used to raise, move and launder illicit proceeds.
Following the assessment, the Treasury joined with the Departments of Justice and
Homeland Security to craft the 2007 National Money Laundering Strategy, which is
mapped explicitly to the vulnerabilities identified in the threat assessment.
The Treasury is working with other agencies to ensure that we are appropriately
addressing these threats. Highlights of this effort include FinCEN's ongoing efforts
to analyze Bank Secrecy Act (BSA) filings to provide geographic threat
assessments, such as the 43 State-specific reports provided to State regulators last
year, analysis of Suspicious Activity Report (SAR) filings related to the districts of
individual U.S. Attorney offices, and the ongoing analytical work in the area of
mortgage fraud following FinCEN's first published report on that topic in November
2006. FinCEN also continues its coordination with the IRS and law enforcement
agencies to identify potentially unregistered money services businesses and to
target those businesses with outreach, education, and, where appropriate,
enforcement efforts.
In addition to taking these specific steps, we are constantly examining our
regulatory system to ensure it is as efficient and effective as possible. In that
regard, on June 22, 2007, Secretary Paulson announced the first in a series of
ongoing initiatives to promote the efficiency and effectiveness of the AMLlCFT
regulatory framework. FinCEN has been working with the Federal Banking
Agencies and other government authorities, and in the coming months will be taking
public steps in the areas previewed by the Secretary, including discussing the
results of our efforts with the banking regulators to enhance risk-scoping in the bank
examination process; proposing a clearer and more tailored regulatory definition of
money services businesses; and proposing a restructured set of regulations to
enable covered industries to focus more quickly on rules that apply specifically to
them. Moreover, FinCEN continues to provide feedback to the financial industry on
the usefulness to law enforcement of reported information and through analytical
studies, guidance, and advisories to help financial institutions better target their risk
control activities.
Strong enforcement of our money laundering and sanctions laws also plays an
important role in protecting the financial system from abuse. The Department of the
Treasury works with its other financial regulatory colleagues to administer and
promote understanding of, and compliance with, these laws. Most enforcement in
this area is civil, involving the banking regulators, OFAC, or FinCEN. In cases of
serious violations, however, criminal enforcement may be warranted.
In the summer of 2005, the Department of Justice amended the United States
Attorneys' Manual to require that all money laundering prosecutions of financial
institutions be coordinated with, and approved by, the Criminal Division in
Washington. The Manual contains a similar provision for cases under the
International Emergency Economics Power Act - or IEEPA - which is one of the
principal statutory authorities for OFAC's sanctions programs. These provisions
promote consistency and uniformity in the use of these statutes and help ensure
that unintended consequences from relevant cases are minimized. In that regard,
they were specifically designed to enable Justice to consult with other agencies,
including the Treasury Department. In enforcement actions involving violations of
the BSA, Justice and the Treasury attempt to act concurrently whenever possible to
promote consistency and avoid multiple actions against the same financial
institution at different times for similar and related conduct.
The continued consultation between the Justice and Treasury Departments is vitally
important given the complexities surrounding potential criminal charges against
banks and other financial institutions, including the potential impact of such cases
on the U.S. financial system. Under Assistant Attorney General Alice Fisher's
leadership, the right atmosphere has been created for that consultation. In the end,
the U.S. government must strike a delicate balance. We need to ensure the proper
respect for the laws that safeguard the integrity of our financial system, but do so in
a way that (1) allows our civil regulatory system to function effectively and (2)
ensures that we maintain our position of leadership in the global financial system.
This requires the exercise of well-informed and wise prosecutorial discretion.
Consultation between the Treasury and Justice is an important part of that process.

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2. Strengthening and Expanding International AMLlCFT Standards
Given the global nature of the financial system. focusing only on the U.S. financial
system and its AMLlCFT regime is not sufficient. Safeguarding the U.S. financial
system requires global solutions and effective action by financial centers throughout
the world. We work toward this objective through multilateral bodies that set and
seek to ensure global compliance with strong international standards.
The Treasury Department primarily advances this strategic objective through FATF,
which articulates standards in the form of recommendations, guidelines, and best
practices. The FATF standards have been recognized by more than 175
jurisdictions and have been integrated into the work of international organizations
such as the United Nations, the World Bank and the International Monetary Fund.
The FATF seeks global implementation of its standards through a number of
mechanisms. Partnership with the IMF, World Bank and FATF-Style Regional
Bodies ensures that every country in the world is assessed against the same
standards using the same methodology. AMLlCFT is one of twelve core standards
used by the IMF to evaluate financial sector stability and is the sole required
standard for all countries. As of September 2007, the IMF had conducted 50
assessments -- four of which were done jointly with the World Bank -- of country
compliance with AMLlCFT standards. These assessments highlight the key
deficiencies for countries seeking to improve their AMLlCFT standards. We have
seen steady progress in legislation by countries to address their deficiencies
identified in their assessments. Assessments also highlight deficiencies in a way
that is useful to the private sector in assessing risk.
In some cases, implementation of AMLlCFT standards is a question of political will.
In other cases, however, countries need help to comply with the standards. In such
cases. the Treasury has worked through its Office of Technical Assistance and
other agencies to provide technical assistance to support the development of legal
authorities and operational capacity that will enable countries to meet these
standards.
While we work to ensure the current standards are being implemented, we also
have conSistently engaged the FATF to expand and strengthen these international
standards to address the systemic vulnerabilities that terrorists and other criminals
exploit. Most recently, we have successfully engaged the FATF to adopt a new
international standard to combat the illicit use of cash couriers, and we have
enhanced the international standard for combating terrorist abuse of charities.
Not only does this investment in foreign capacity building make it more difficult for
illicit actors to hide and thrive, it also opens up new avenues to share information
across borders. For this purpose FinCEN is the designated financial intelligence
unit (FlU) for the United States and has played a leading role in fostering the
sharing of financial intelligence among the FlUs of 106 countries that are members
of the Egmont Group.
One new and promising initiative that touches on these important issues is the
Merida Initiative - a U.S.-proposed multi-year cooperation initiative with the
governments in Mexico and the countries of Central America. For Fiscal Year 2008,
the Administration has requested $500 million for Mexico and $50 million for Central
America to fulfill U.S. obligations under the initiative. This would be the first tranche
of a potential $1.4 billion multi-year package. The assistance proposed falls into
three broad areas: counternarcotics, counterterrorism, and border security; public
security and law enforcement; and institution-building and the rule of law. A key part
of the effort will be to modernize the Mexican financial intelligence unit's ability to
respond more effectively to the evolving nature of money laundering. Overall, this
initiative would complement existing U.S.-Mexico and Central America cooperation
in countering the cross-border movement of billions of dollars in drug proceeds and
in restricting the placement of these illicit proceeds into the U.S. financial system.

3. Taking Protective Action against Systemic Vulnerabilities
Although it is important to focus on improving transparency and ensuring adequate
AMLlCFT controls are in place on a global level, there are also times when specific,
discrete vulnerabilities are not adequately addressed in the international financial
system. In those cases, we need to take action to warn the financial industry of the
risks and to protect ourselves from the threat those vulnerabilities pose to our
financial system.

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In that regard, Section 311 of the USA PA TRIOT Act - which I mentioned briefly in
the context of our efforts on North Korea - is an important and extraordinarily
powerful tool. Section 311 authorizes the Treasury to designate a foreign
jurisdiction, foreign financial institution, type of account or class of transactions to
be of "primary money laundering concern," thereby enabling the Treasury to impose
anyone or combination of a range of special measures that U.S. financial
institutions must take to protect against illicit financing risks associated with the
designated target. We are the only country in the world that has an authority to take
such protective action.
The Treasury has utilized Section 311 against both jurisdictions and financial
institutions that posed a serious money laundering concern. When we have
designated an entire jurisdiction - such as the Ukraine or Nauru - we have done so
as part of, or in response to, a multilateral action, such as a FATF determination
that these countries were "non-cooperative" on AMLlCFT issues. One of the things
that makes the Section 311 authority unique, however, is that it also allows us to
finely target our actions so that we can protect ourselves from the threat that an
individual financial institutions poses. This gives us enormous flexibility in
determining how best to apply this authority to achieve the desired impact.
Our use of Section 311 has been extremely effective. Not only have our Section
311 designations had a significant effect in protecting the U.S. financial system, but
they also have spurred actions by other countries that have the result of protecting
the broader international financial system. In some instances, designation under
Section 311 has facilitated the development of rehabilitative measures by a
financial institution or jurisdiction that effectively addressed the underlying systemic
vulnerability to the extent that withdrawal of the 311 designation was warranted.
4. Partnership with the Private Sector
Finally, we know that it is not sufficient to work only in partnership with governments
on strengthening AMLlCFT standards and identifying and closing specific
vulnerabilities to the financial sector. The private sector brings a unique and
invaluable insight into how the international financial system works and how we can
be effective in achieving our objectives. We have forged important partnerships with
both the domestic and international private sector to tap into and better utilize their
expertise.
On the domestic side, Congress established the Bank Secrecy Act Advisory Group
(BSAAG) in 1992 to enable the financial services industry and law enforcement to
advise the Secretary of the Treasury on ways to enhance the utility of BSA records
and reports. Since 1994, the BSAAG has served as a forum for industry, regulators,
and law enforcement to communicate about how SARs and other BSA reports are
used by law enforcement and how record keeping and reporting requirements can
be improved. Under the chairmanship of the Director of FinCEN, the BSAAG meets
twice a year in plenary and through multiple subcommittees over the course of the
year. It has become an increasingly active group in suggesting priorities and to
promote the efficiency and effectiveness of BSA rules and regulations.
On an international scale, we collaborated effectively with the private sector on the
issue of "cover payments." Cover payment transactions occur typically with respect
to foreign correspondent banking, where the actual movement of funds is made
through one or more intermediary banks that "cover" the payment amount, but the
intermediaries do not know on whose behalf they are settling a given transaction. It
became increasingly clear to many banks that this practice, which developed over
time for a variety of commercial reasons, is inconsistent with international AMLlCFT
standards, in particular with the purpose behind FATF Special Recommendation VII
requiring that originator information remain with the funds transfer throughout the
payment chain.
Industry representatives raised with the Treasury Department the issue of
vulnerabilities of cover payments - together with a proposal on how to rectify the
situation in the most efficient way. In April 2007, the Clearing House Association - a
provider of payment services owned by the U.S. affiliates of almost two dozen
major banks - and the Wolfsberg Group - an association of 12 global banks proposed an amendment to the global bank messaging standards to incorporate all
relevant transaction information. That proposal was refined and endorsed by
national bank groups in January 2008, and SWIFT, the Society for Worldwide
Interbank Financial Telecommunication, will introduce the new message standards

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in November 2009. In addition to the technical changes, these groups of leading
global banks announced payment message standards that they would follow to
further enhance transparency in international payments, and thereby help avoid
abuse by individuals and organizations that these banks would not accept as their
own customers, such as money launderers and terrorist financiers. The Treasury
Department, together with the Federal Banking Agencies, has engaged with their
counterparts through the Basel Committee on Banking Supervision, FATF and the
Egmont Group to promote a consistent global approach to ensuring compliance
with these emerging global best practices.
The Treasury has also spearheaded an important initiative, the Private Sector
Dialogue (PSD), to facilitate a dialogue between U.S. financial institutions and their
counterparts in key regions on AMLlCFT issues. Our goal for these dialogues,
which focus on the Middle Eastern and North African and Latin American banking
and regulatory communities, is to raise awareness of domestic and regional money
laundering and terrorist financing risks, international AMLlCFT standards and
regional developments, and U.S. government policies and private sector measures
to combat terrorist financing and money laundering. These dialogues are also
helping us to assess the impact of these international standards and U.S. laws and
regulations and to strengthen development and implementation of effective
AMLlCFT measures, particularly in regions of strategic importance and jurisdictions
that lack fully-functional AMLlCFT regimes.

CONCLUSION
Over the past four years, I believe that, with your active support, we have
transformed the Treasury Department into an important part of our country's
national security architecture. We have greatly improved our ability to analyze and
use financial intelligence. We have further developed and implemented strategies
for combating terrorist financing and other pressing threats to our national security,
including through the innovative use of targeted financial measures against specific
bad actors. These strategies, particularly in the cases of North Korea and Iran, have
provided valuable leverage in difficult diplomatic negotiations. We have also made
important strides in strengthening the systemic safeguards in the financial system
both here in the United States and around the world. But our work is not nearly
complete. We continue to face significant challenges as we move forward with
these efforts, including fostering and maintaining the political will among other
governments to take effective and consistent action.
I look forward to continuing to work with this Committee as we tackle these
challenges.
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IP-900: Deputy i\E;E;istant Secretary Valerie Abend<BR>Testimony on Implementation of Regulations .,.

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-

-

PRESS ROOM- ..

April 2, 2008
HP-900
Deputy Assistant Secretary Valerie Abend
Testimony on Implementation of Regulations Required
by the Unlawful Internet Gambling Enforcement Act of 2006
Washington - Mr. Chairman, Ranking Member Paul, and Members of the
Subcommittee, it is my privilege to appear before you today to discuss the Unlawful
Internet Gambling Enforcement Act of 2006 (the "Act")
Proposed Rulemaking
The Act was fashioned to require payment systems to interdict the flow of funds
from gamblers to businesses providing unlawful internet gambling services. To
accomplish this, the Act requires the Treasury Department and the Federal Reserve
Board, in consultation with the Justice Department, to jointly prescribe regulations
requiring participants in designated payment systems to establish policies and
procedures that are reasonably designed to prevent or prohibit such funding flows.
It also requires that payment systems, or portions of payment systems, be
exempted in situations in which it would not be reasonably practical for payment
systems to prevent or prohibit unlawful internet gambling transactions.
On October 4, 2007 the Treasury Department and the Federal Reserve Board, after
consultation with the Justice Department, published a Notice of Proposed
Rulemaking seeking public comment. Our goal when writing this proposed rule was
to faithfully adhere to the mandates set forth by Congress in the Act. The comment
period ended on December 12, 2007.
We received more than 200 comments from a diverse group of interests, including
entities potentially subject to the proposed regulations, individuals and groups
supportive of internet gambling, individuals and groups opposed to internet
gambling, as well as others.
We are currently reviewing each comment closely, and analyzing the issues
presented. Many comments present more than a single issue, and certain issues
require additional research into operations of various parts of payment systems, or
into existing law relevant to the comment provided.
Some of the comments address the meaning of statutory definitions provided by
Congress, the applicability of requirements to specific portions of designated
payment systems, and the impacts this proposed regulation could have in the event
it were to be finalized as proposed.
Crafting such a Joint rulemaking requires extensive coordination. We are working
jointly with the Federal Reserve Board in consultation with the Justice Department.
We have been impressed with the quality of the comments provided, and with the
effort and expertise employed in the development of many of these comments.
An over-arching goal for our efforts has been to closely adhere to the statutory
instructions provided to us by the Congress. The Act requires deSignation of
payment systems that could be used in connection with unlawful internet gambling.
Such a designation makes the payment system, and financial providers
participating in the system, subject to the requirements of the regulations. The
proposed rule designated the following 5 payment systems:
•
•
•

Automated Clearing House Systems
Card Systems (e.g., credit cards, debit cards, as well as stored value
products)
Check Collection Systems

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•
•

Page 2 of 2

Money Transmitting Businesses
Wire Transfer Systems (i.e., CHIPS)

The Act requires us to exempt certain restricted transactions or designated
payment systems from any requirement imposed by the regulations if the Treasury
Department and the Federal Reserve Board jointly determine that it is not
reasonably practical for participants to prevent or prohibit unlawful internet gambling
transactions. However, the proposed rule does propose to partially exempt certain
participants within some of the designated payment systems from having to
establish reasonably designed policies and procedures. The Treasury and the
Federal Reserve Board determined that this was the most appropriate way to
implement the Act while retaining fidelity to the intent of Congress.
Under the proposed rule, the gambling business's bank (or, if abroad, the first U.S.
bank dealing with that bank) would not be exempted because it could, through
reasonable due diligence, ascertain the nature of its customer's business and
ensure that the customer relationship is not used to receive unlawful internet
gambling transactions. The proposed exemptions generally extend to the gambler's
bank. For example, in the case of checks, the check collection system is highly
automated and it is not reasonably practical for the gambler's bank to know whether
a check presented to it for payment involves unlawful internet gambling. However,
the proposed rule provides that the gambling business's bank (or, if abroad, the first
U.S. bank to receive the check) would need to have reasonably designed policies
and procedures to prevent or prohibit unlawful internet gambling transactions
involving these checks. In the situation where the bank of the gambling business is
located abroad, the proposed requirements focus on the bank in the United States
that has a corresponding relationship with the gambling business's bank.
The Act further requires us to provide nonexclusive examples of policies and
procedures, which would be deemed "reasonably designed" to prevent or prohibit
unlawful internet gambling transactions. As a result, this proposed rule contains a
"safe harbor" provision, as mandated by the Act, that includes for each designated
payment system nonexclusive examples of reasonably designed policies and
procedures.
Conclusion

The Treasury, working closely and collaboratively with our colleagues at the
Federal Reserve Board, is making progress in reaching our statutory mandate to
promulgate a final rule that strictly adheres to the Act. No final decisions have been
made regarding any aspect of the final rule or the comments provided, and we are
still considering all aspects of the proposed rule. W hen we publish the final rule we
will, of course, provide an analysis of the comments received, and the reasons for
any decisions. We are committed to giving fair consideration to all relevant
comments as we are working toward promulgation of a final rule. We have
benefited from the knowledge and efforts of our colleagues at the Federal Reserve
Board and the Justice Department, as we have proceeded in our consideration and
analysis. Thank you, I would be happy to answer your questions.
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P-901: Secretary Paulson to Attend<br> Annual Inter-American Development Bank<br>Meeting in M...

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PRESS ROOM

April 2, 2008
HP-901

Secretary Paulson to Attend
Annual Inter-American Development Bank
Meeting in Miami
Secretary Henry M. Paulson, Jr. will attend the 2008 Inter-American Development
Bank (lOB) annual meeting in Miami next week. The United States is hosting this
year's annual meeting which is an important opportunity for high-level government
and private sector representatives from Latin America and the Caribbean to discuss
the work of the lOB and other financial issues facing the region. Paulson attended
last year's meeting in Guatemala.
As the representative of the host country, Paulson will accept the nomination of
Chairman of the Board of Governors for 2008-09. In addition to delivering opening
remarks at the inaugural session, Paulson will meet with several of his counterparts
from the region while in Miami.
"I look forward to attending this year's meeting in Miami and thank President
Moreno and the lOB for the hard work and positive impact the Bank has had in the
region," said Paulson. "The U.S. looks forward to continuing to work with the Bank
to increase growth and reduce poverty in Latin America and the Caribbean."
The following events are open to the media:

Who
Secretary Henry M. Paulson, Jr.
lOB President Luis Alberto Moreno
Guatemala Finance Minister Juan A. Fuentes (outgoing lOB Board of Governors
Chairman)
Miami Mayor Manuel Diaz
What
Inaugural Session
When
Monday, April 7, 9:30 a.m. EDT
Where
Jackie Gleason Theater
1700 Washington Avenue
Miami Beach, Fla.
Who
Treasury Secretary Paulson and Commerce Secretary Gutierrez
What
Joint Press Conference
When
Monday, April 7, 4:00 p.m. EDT
Where
Miami Beach Convention Center
1901 Convention Center Drive
Miami Beach, Fla.
For more information on the lOB's annual meeting in Miami go to:
http://www.iadb.org/.

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P-902: Treasury Assistant St:cldary Swagel to Hold Monthly Economic Briefing

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April 2, 2008
HP-902
Treasury Assistant Secretary Swagel to Hold Monthly Economic Briefing
U.S. Treasury Assistant Secretary for Economic Policy Phillip Swagel will hold a
media briefing to review economic indicators from the last month as well as discuss
the state of the U.S. Economy. The event is open to the media:
•
•
•
•

•

Who Treasury Assistant Secretary Phillip Swagel
What Monthly Economic Press Briefing
When Friday, April 4, 2008, 11 :00 a.m. EDT
Where Treasury Department
Media Room (Room 4121)
1500 Pennsylvania Ave., NW
Washington, D.C.
Note: Media without Treasury press credentials should contact Frances
Anderson at (202) 622-2960, or Frances.Anderson@do.treas.gov with the
following information: full name, Social Security number, and date of birth.

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P-903: Remarb by Secretary Henry M. Paulson, Jr. <BR>Meeting the Challenge: A Partnership on En... Page 1 of 6

April 2, 2008
HP-903
Remarks by Secretary Henry M. Paulson, Jr.
Meeting the Challenge: A Partnership on Energy and the Environment
Beijing, CHINA-- Thank you It is my pleasure to join you here at the Chinese
Academy of Sciences. I understand my visit is timely - many of you are also
participating in the Chinese Ministry of Science and Technology and the U.S.
Environmental Protection Agency discussions on new technology for environmental
challenges. Thank you for your work. I believe that workshops like these will help
our two countries overcome the energy and environmental challenges of the future.
China has just completed a significant change in its leadership, something that
happens every five years. I am here to meet those new leaders so that we can
immediately begin work and achieve progress on the critically-important U.S.-China
economic relationship. The United States welcomes a stable and prosperous China
and wants to continue our efforts and dialogues to meet our shared responsibilities
to advance a robust and sustainable world economy.
Benefits of the Strategic Economic Dialogue
The StrategiC Economic Dialogue, created by President Bush and President Hu in
September of 2006, has allowed both countries to develop long-term, strategic
solutions and to address immediate issues of pressing concern in our economic
relationship. Through the SED, we make progress on those long-term issues by
defining our strategic objectives and laying a course of concrete actions. We solve
immediate problems through cooperative engagement. We reduce
misunderstandings through dialogue. And perhaps most importantly, at each
session of the SED, we review our previous agreements and make sure that
progress is being made.
Long-term, structural challenges confront both of our economies. For the United
States, the challenge is to save more and spend less. For China, the challenge is to
save less and consume more. A deep and more efficient financial sector will help
Chinese households earn a higher return on their investments and thus achieve
their financial goals without having to save so much of their income. It will give them
greater financial security by allowing them to insure against life's many risks, while
also reducing their need to save. A more flexible exchange rate is also a powerful
tool in redirecting growth to domestic consumption. Although the process of
adjustment is not complete, the accelerated pace of appreciation is significant and
welcome, and should continue.
The SED also provides a mechanism to address immediate issues. When serious
concerns about food and product safety arose last year, our governments quickly
initiated consultations to enhance the safety of Chinese food, feed, drug, and
medical device exports to the United States. These consultations, in conjunction
with the Chinese government's domestic efforts, resulted in two bilateral accords at
our last SED meeting, which will enhance cooperation and improve the safety of
Chinese exports to the United States. Although these issues are not fully resolved,
we now have a process for developing timely solutions to similar problems as they
arise. And the U.S. Department of Health and Human Services is establishing a
Food and Drug Administration office in China to strengthen collaboration with
Chinese regulators.
Ten Years of Cooperation: Achieving Economic Growth, Energy Security and
Environmental Sustainability
Energy and environmental challenges are also part of our overall economic
relationship. The United States and China, individually and together, continue to
find ways to maintain economic growth while also developing sustainable and

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P-903: Remarks by Secldary Henry M. Paulson, Jr. <BR>Meeting the Challenge: A Partnership on En... Page 2 of 6
secure energy supplies, and protecting and conserving the environment.
At last December's SED meeting, the United States and China announced that we
would embark on ten years of cooperation on energy and environmental issues.
The cooperation will not replace ongoing United Nations' multilateral climate
change negotiations, supported by the Major Economies Process, which includes
China and the United States. Through the Major Economies process, we will
continue our efforts and will urge every country to reach an agreed outcome by the
end of next year that is both environmentally effective and economically
sustainable. Successfully confronting the challenge of global climate change will
require commitment and leadership by all major economies. Our ten year energy
and environment cooperative framework is part of that commitment, as we will
focus on shared objectives, including energy security, lower greenhouse gas
emissions, clean water, clean air and preservation of wild and beautiful places.
Working together on this ten year framework will challenge our governments,
industries, universities, research institutions, academics, thought leaders, and nongovernmental organizations to find answers to these and many other questions:
How do we reduce dependency on oil and increase energy security? How do we
better preserve the natural environment, and prevent greenhouse gas release due
to deforestation? How do we meet our energy goals? How do we ensure that our
water is clean and safe?
These questions may be answered differently in the United States than in China.
Yet, our approaches to finding answers may be similar - to implement proven,
effective policies, to educate individuals to make environmentally sound decisions,
to ensure that companies follow regulations designed to protect human health.
Other solutions will require technological breakthroughs and making existing or new
technology affordable by reducing market access barriers.
Our two countries share the challenge of achieving balanced economic growth
along with energy security and environmental sustainability. It will take
resourcefulness, creativity, determination and a long-term commitment to achieve
the results we seek.
Since December, we have been hard at work creating and adding details to this
framework, which will require cooperation at the highest levels on climate change,
energy security and efficiency, pollution abatement, and natural resource
conservation. Only through greater cooperation will we be able to better organize
our efforts and target some of the most pressing issues that the United States and
China will face in the coming decade.
We are selecting shared goals, such as reducing dependency on oil. We are
defining specific energy targets, such as increasing vehicle fleet fuel efficiency and
creating incentives for the development and use of alternative fuels. We are
developing action plans for joint projects that will build upon and accelerate existing
efforts. These action plans will help each country identify policy solutions to improve
implementation of existing regulations and incentives, and challenge us to develop
even more innovative approaches and answers.
For example, I was pleased by the announcement by the X Prize Foundation that
there will be an X prize for whoever can develop a car that goes 100 miles on a
gallon of gas. I want to see American and Chinese scientists and engineers actively
engaged in developing that car. I want to see us establish national laboratory
systems that will communicate, conduct joint research and share expertise.
This cooperation will likely bring innovations that we cannot even imagine and
create new ways to expand our relationship. I often hear from U.S. companies that
have Chinese clients ready to buy their technology, but do not sell it for fear that
their designs and technology will be stolen. In China, I hear from government
officials about the need for US. technology to help clean up China's rivers and
control pollution from China's many smoke stacks, but that technology can be
expensive in part due to tariffs and non-tariff barriers. We have a shared interest in
resolving these dilemmas, and we can solve them. Making the air and water clean,
improving the health of our people and creating sustainable economic growth, are
strong motivations.
Environmental Challenges

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The United States knows well that economic development increases opportunity
and prosperity, but also that rapid industrial growth often brings serious
environmental side effects.
During the late nineteenth and early twentieth centuries, as the United States
industrialized, factories and manufacturing plants were built throughout America. As
these plants and factories produced goods, they also released chemicals and waste
into our environment.
In one example, Ohio's Cuyahoga River - a major tributary into Lake Erie - was so
polluted in the 1930's that the river often burst into flames. Pollution was so severe
that descriptions from the time declared that the Cuyahoga had "no visible life, not
even low forms such as leeches and sludge worms." On June 23, 1969, the
Cuyahoga again caught fire, with flames leaping as high as five stories.
China today faces similar and daunting environmental challenges. According to the
World Bank, 16 of the world's 20 most polluted cities are in China. Water quality
also has deteriorated. Ninety percent of all rivers show signs of significant pollution,
and 62 percent of water is unsuitable for fish. We have followed with great interest
the ways you have sought to address the pollution issues surrounding Lake Tai in
Jiangsu Province.
In the United States, we address our problems by combining strict laws and
regulations with the will and capacity to enforce them. The hazards created by the
Cuyahoga River led to the 1972 Federal Water Pollution Control Act. Subsequent
efforts to clean the Cuyahoga have been so successful that Lake Erie now has a
thriving $600 million dollar annual fishing industry.

Energy Challenges
Economic activity in China and the United States requires energy; and the energy
challenges are as daunting as the environmental challenges.
China's economy is one-sixth the size of the U.S. economy, yet China is in the
process of overtaking the United States as the world's largest source of greenhouse
gas emissions. China is now the world's largest coal producer and consumer. In
2006, it became the second largest global market for new vehicles, which is one of
the key reasons why China is now the world's second largest consumer of oil.
I am not here to tell you what you already know - that achieving economic growth
along with energy security and environmental protection is a formidable task. The
United States also knows this struggle, and we also continue to search for
solutions.

Promoting Energy Security and Protecting the Environment
U.S. economic growth brought substantial environmental impacts, and our
government has taken enormous steps to protect our water, land and air. Economic
incentives for new cleaner technologies, in addition to strong regulations and
enforcement, have been at the core of our success.
The US. recognizes the importance of safeguarding the environment through
conservation. Through a variety of federal, state and local agencies we conserve,
protect and manage natural resources. We also expect private industry and a
vibrant non-profit sector to further support these efforts.
I am pleased that China has also recognized the importance of conservation efforts,
and applaud China's steps to develop legislation that would more effectively protect
natural habitat. It is important that this legislation move forward quickly. I am also
encouraged to know that China is adding 2 million hectares of forest per year to
increase forest coverage by 6 percent to combat desertification. According to official
Chinese projections, by 2010, 16 percent of China's total territory will be natural
reserve areas, and 90 percent of typical forest ecosystems and key national wildlife
will effectively be protected.
China has established numerous plans and ambitious goals to tackle the energy
and environment challenge. With the Tenth Five Year Plan, for 2001 to 2005, China

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recognized that energy would drive its future economic growth. And in the Eleventh
Five Year Plan, for 2006 to 2010, China recognizes that energy and environmental
issues must be integrated to promote sustainable economic growth. Aggressive
goals have been established to reduce energy consumption per unit of GOP by 20
percent, to reduce total discharge of major pollutants by 10 percent, and to increase
overall forest coverage in China from 18.2 to 20 percent.
China has moved towards meeting some of these goals in 2007. China reduced
energy consumption over 3 percent per unit of GOP output, and has made progress
in reducing water pollution and sulfur dioxide emissions. While I applaud this
continued focus and am encouraged by China's progress to date, further results
cannot come fast enough.

The Role of Markets
Harnessing market forces can also improve governments' ability to resolve these
issues. The 1990 Clean Air Act has demonstrated clearly how market-driven
measures can cost-effectively reduce pollution.
The goal of the Clean Air Act was to reduce acid rain by reducing sulfur dioxide,
S02, and nitrogen oxides, NOX. Traditional source-by-source limits were set for
NOx. A system of tradable credits - allowing those who could reduce emissions
most cheaply to sell excess credits to those whose reductions were more expensive
- were set for S02.
Studies estimate that the S02 market-based trading system will reduce S02
emissions by about 50 percent, and that it has reduced the cost of controlling acid
rain by up to 80 percent compared to traditional source-by-source regulations.
Further, the annual benefits of this market-based trading system are estimated to
exceed the program's operating costs by over 40 times.
After a very costly experiment with oil price restrictions, the United States has also
learned the lessons of attempting to defy market forces. We learned that markets
and consumers are best served when prices are allowed to fluctuate.
In the 1970s, the U.S. attempted various price control regimes. Rather than
achieving our intended result, we experienced winter heating oil shortages, supply
problems. rationing, and a reduction in domestic oil and gas investment and
exploration. In some cases we attempted to control output prices without being able
to control input prices, forcing operating losses and large cuts in supply.
China, by setting price controls on fuel, is facing similar consequences today - as
can be seen by perSistent gasoline and diesel shortages throughout the country.
The consequences of these policies also extend to the power sector, where price
caps on electricity and fuel contributed to nationwide power outages during
snowstorms this past January and February.
The United States has learned that price controls interfere with the natural
equilibrium of markets to match supply and demand, and lead to shortages. And
because market forces can never be completely eliminated, price controls often
lead to smuggling and corruption.

U.S. Energy and Environment Policy Today
Experience has also taught us that rising energy prices are a strong incentive for
consumers to buy more efficient cars and appliances, to insulate homes and
buildings and to employ technological advances to reduce energy consumption.
This demand for greater efficiency unleashes a wave of market-based innovations.
In the United States, we encourage these innovations and couple them with policies
and regulations that encourage and require higher energy efficiency standards. As
a result, the consumer benefits, markets continue to evolve and grow, and we come
closer to realizing the national good of a cleaner environment.
And these efforts are producing positive results. According to the International
Energy Agency, from 2000-2004, as our population increased and our economy
grew by nearly 10 percent, U.S. carbon dioxide emissions increased by only 1.7

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[P-903: Remark.s by Secretary Henry M. Paulson, lr. <BR>Meeting the Challenge: A Partnership on En... Page 5 of 6
percent. During the same period. European Union carbon dioxide emissions grew
by 5 percent, with lower economic growth Over the past 35 years, the U.S. has
dramatically reduced its energy use per unit of output. Between 1973 and 2006,
U.S. total economic production grew from $4.3 to $11.4 trillion, a 265 percent
increase. Yet the energy used for that production grew by only 32 percent.
U.S. energy and environmental policies continue to evolve, and our efforts are ongoing. Since the beginning of the Bush Administration, the United States has spent
nearly $18 billion to research, develop, promote and bring clean and efficient
technologies to market. We continue to develop new strategies - President Bush's
"Twenty in Ten" initiative aims to reduce U.S. gasoline consumption by at least 20
percent in ten years through new mandatory fuel economy standards and
alternative fuel sources. With the recent signing of the energy bill into law, the
President established a mandate for 36 billion gallons of renewable fuel to be
provided as transportation fuel, which is five times the amount of renewable fuel
consumed in the U.S. transportation sector in 2007.

u.s. -

China Cooperation

United States - China energy and environmental cooperation will build on a solid
foundation. We already have an agreement to increase industrial energy efficiency,
and a joint five-year commitment to promote large scale deployment of alternative
fuel technologies for vehicles. We have a memorandum of understanding to combat
illegal logging and promote sustainable forest management. In conjunction with the
International Energy Agency. we have also strengthened cooperation on strategic
oil reserves. And we have launched efforts to help China develop a nationwide
program on sulfur dioxide emissions trading.
In both the United States and China. the private sector is also helping to create the
"green" economy. Whether it is the public sector or the private sector, this work is
aspirational. We are rethinking transportation systems. We are constructing "green"
buildings and "green communities." And we are developing new methods and
technology to power our economies.
Our next steps will be important. Technology must be developed and adopted at a
faster pace. Policies and regulations must be developed and refined to create the
proper incentives and price signals. U.S. and Chinese institutions need to manage
the new demands of energy and environmental issues in innovative ways.
U.S. and Chinese governments and industries have a role to play in reducing
greenhouse gases and pollution, increasing energy security and natural resource
conservation, and can do a better job of increasing public awareness of the
environmental impacts of energy choices.
What can be done right now?
As we establish our ten year energy and environment cooperative framework, my
friends in China often ask what can be done about China's immediate energy and
environmental challenges. My answer is that China, given its current economic
growth and prosperity, can leapfrog the United States and the rest of the world in
deploying and using advanced energy and environmental technology.
Adopting advanced technology will increase China's energy efficiency and reduce
the emissions of greenhouse gases and harmful pollutants. But bringing this
technology to China is hindered by the high tariff and non-tariff barriers that China
places on environmental goods and services.
For example, there is a water membrane technology available right now. If installed
properly, it could help local communities take significant steps towards reducing the
pollution entering rivers from power plants. That means that within months, some
Chinese citizens could have cleaner water. Yet a tariff of 22 percent on water
membranes makes this technology too expensive for many communities.
A high priority should be given to eliminating tariffs and non-tariff barriers on
products, goods and services that can improve the health and welfare of the
Chinese people.

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Advancing a Bilateral Agenda for Sustainable Growth
U.S. and Chinese policy makers will meet for our fourth Strategic Economic
Dialogue in June. We will focus on defining a vision for sustainable economic
growth. This theme invokes a transcendent challenge: to sustain economic
development while also enhancing energy security and environmental quality - a
vision which relies on a strategy of economic openness, especially free trade and
open investment policies.
While progress on these issues may be difficult, both our countries gain when we
share our capabilities and experiences. We share a commitment to allow our
people to prosper and our natural environment to thrive. Our cooperation here is
just one powerful step in managing these issues for the future, Thank you,
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[P-904: Under Secretary for Domestic Finance Robert K. Steel Testimony <br>Before the Senate Com...

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April 3, 2008
HP-904
Under Secretary for Domestic Finance Robert K. Steel Testimony
Before the Senate Committee on Banking, Housing and Urban Affairs
Washington - Chairman Dodd, Ranking Member Shelby, Members of the
Committee, good morning. I very much appreciate the opportunity to appear before
you today to represent Secretary Paulson and the U.S Treasury Department, and
to join the independent regulators leading the Board of Governors of the Federal
Reserve System, the Securities and Exchange Commission, and the Federal
Reserve Bank of New York. As you know Secretary Paulson is on a long-scheduled
trip to China.
You have invited Treasury here today to discuss the ongoing challenges in our
credit markets, and specifically the agreement between JPMorgan Chase & Co.
and the Bear Stearns Companies Inc. The Treasury Department continues to
closely monitor the global capital markets, and the past several months have
presented to us many important issues and situations to evaluate and address.
As Secretary Paulson stated earlier this week, a strong financial system is vitally
important - not only for Wall Street, not only for bankers, but for all Americans.
When our markets work, people throughout our economy benefit - Americans
seeking to buy a car or buy a home, families borrowing to pay for college,
innovators borrowing on the strength of a good idea for a new product or
technology, and businesses financing investments that create new jobs. And when
our financial system is under stress, all Americans bear the consequences.
Mr. Chairman, as you appropriately noted in your letter to Secretary Paulson, "it is
important to maintain liquidity, stability, and investor confidence in the markets."
The recent events in the credit and mortgage markets are of considerable interest
to this Committee, other Members of Congress, and most importantly, the citizens
of this country.
For several months, our financial markets have gone through periods of turbulence,
followed by periods of improvement. A great deal of de-leveraging is occurring,
which has created liquidity challenges for financial institutions and thereby
compromised our credit markets' ability to help be an engine of economic growth.
It took a long time to build up the excesses in our markets, and we are now working
through the consequences. Market participants are adjusting, making disclosures,
raising capital, and re-pricing assets.
We have continued to engage with our fellow regulators and market participants, so
that collectively, we work through these challenges to limit the spillover effects to
our economy and make our markets even stronger.
During times of market stress, certain issues may hold the potential to spill over to
the broader markets and cause harm to the American economy. This was the case
with the events surrounding the funding capability of Bear Stearns between March
13, 2008 and March 24, 2008.
The funding condition of Bear Stearns had deteriorated rapidly, and by March 13,
2008 had reached such a critical stage that the company would have faced a
bankruptcy filing on March 14,2008 absent an extraordinary infusion of liquidity.
During this period, regulators were continuously communicating with one another,
working collaboratively, and keeping each other apprised of the changing
circumstances.
Our focus was not on this specific institution, but on the more strategic concern of

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P-904: Under Secretary for Dumestic Finance Robert K. Steel Testimony <br>Before the Senate Com...

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the implications of a bankruptcy. The failure of a firm that was connected to so
many corners of our markets would have caused financial disruptions beyond Wall
Street. We weighed the multiple risks, such as the potential disruption to
counterparties, other financial institutions, the markets, and the market
infrastructure. These risks warranted a very careful review and thorough
consideration of potential implications and responses
Our role at the Treasury Department was to support the independent regulators and
their efforts with private parties as credit markets were operating under
considerable stress, and we believed that certain prudent actions would help to
mitigate systemic risk, enhance liquidity, facilitate more orderly markets, and
minimize risks to the taxpayers.
The Treasury Department supports the actions taken by the Federal Reserve Bank
of New York and the Federal Reserve. We believe the agreements reached were
necessary and appropriate to maintain stability in our financial system during this
critical time.
Obviously, each independent regulator had to make its own individual assessment
and determination as to what actions it would or would not take. While the Treasury
Department was not a party to any agreements, we have a great deal of respect for
the leadership of each regulator and appreCiate their efforts during this
extraordinary time.
Upon assessing the Bear Stearns' situation, the Federal Reserve decided to take
the very important and consequential action of authorizing the Federal Reserve
Bank of New York to institute a temporary program for providing liquidity to primary
dealers. Recent market turmoil has required the Federal Reserve to adjust some of
the mechanisms by which it provides liquidity to the financial system. Its response
in the face of new challenges deserves praise.
At the Treasury Department, we will continue to monitor market developments. We
remain focused on the issues surrounding the recent developments, including the
important responsibility of safeguarding government funds.
Recent events underscore the need for strong market discipline, prudent regulatory
policies, and robust risk management. The Treasury Department and our
colleagues compriSing the President's Working Group on Financial Markets are
addressing the current and strategiC challenges, and are doing all we can to ensure
high quality, competitive, and orderly capital markets. We seek to strengthen
market discipline, mitigate systemic risk, enhance investor confidence and market
stability, as well as facilitate stable economic growth.
Thank you and I am pleased to take your questions.
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Page 1 of2

P-905: Treasury Economic Update 4.4.08

PRESS ROOM
.
-

-

-

April 4, 2008
HP-905

Treasury Economic Update 4.4.08
"The rebate checks and investment incentives in the stimulus package will
provide important support to family and business spending at a time when a
broad range of indicators, including today's employment report, point to a
slowing economy."
Assistant Secretary Phillip Swagel, April 4, 2008
Employment Fell in March:
Job Growth: Payroll employment fell by 80,000 In March, following a decrease of
76,000 jobs in February, The United States has added 8,0 million Jobs since August
2003, Employment increased in 43 states and the District of Columbia over the
year ending in February, (Last updated April 4, 2008)
Low Unemployment: The unemployment rate rose to 5,1 percent in March from
4,8 percent In February, Unemployment rates declined or remained steady in 24
states over the year ending in February, (Last updated April 4,2008)
Signs of Economic Strength Include Exports and Low Inflation:
Exports Strong global growth is boosting US exports, which grew by 8A percent
over the past 4 quarters, (Last updated March 27, 2008)
Inflation' Core inflation remains contained, The consumer price index excluding
food and energy rose 2,3 percent over the 12 months ending in February, (Last
updated March 14, 2008)
The Economic Stimulus Package Will Provide a Temporary Boost to Our
Economy:
The package will help our economy weather the housing correction and other
challenges, The Economic Stimulus Act of 2008, signed into law by President
Bush has two main elements--temporary individual tax relief so that working
Americans have more money to spend and temporary tax incentives for businesses
to invest and grow, Together, the legislation will provide about $150 billion of tax
relief for the economy In 2008, leading to the creation of over half a million
additional Jobs by the end of thiS year, (Last updated February 29,2008)
Pro-Growth Policies Will Enhance Long-Term U.S. Economic Strength:
We are on track to make significant further progress on the deficit. The FY07
budget defiCit was down to 1,2 percent of GOP, from 1,9 percent in FY06, Much of
the improvement in the defiCit reflects strong revenue growth, which In turn reflects
strong economic growth, Looking ahead, higher spending on entitlement programs
dominates the future fiscal situation; we must squarely face up to the challenge of
reforming these programs,
WW'N,II'eclS cJov/eC0r10nllc-pl':1rI

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P-906: Treasure} Anna E~cubedo Cabral Remarks<br>as Prepared for Delivery <br>at the Inter-Ameri... Page 1 of 2

April 4, 2008
HP-906
Treasurer Anna Escobedo Cabral Remarks
as Prepared for Delivery
at the Inter-American Development Bank Board of Governors Meeting
Miami Beach, Fla.- Thank you, President Mosbacher, for the kind introduction and
for your tremendous leadership. OPIC, lOB, and the Department of the Treasury
are strong partners. I look forward to our continued efforts in the future.
President Moreno, Don Terry, Sandra Darville, and the entire team at lOB: thank
you for organizing this terrific annual meeting in beautiful Miami. I know we are all
pleased to join you in your efforts to 'improve quality of life for those in latin
America, the Caribbean, and across the globe. I am honored to conclude today's
seminar.
I would like to thank the distinguished panelists -Elizabeth Littlefield, Rafael Llosa
Barrios, Arnaud Ventura, Kurt Koenigsfest, Paul Dileo, Martin Redrado, Helen
Alexander and Fernando Pozo - for joining in today's discussion. I know everyone
here today has benefited from your insightful words and ideas. I admire your
commitment to lOB and to helping small businesses throughout the Americas gain
access to financial services that will help them grow and flourish.
Financial inclusion is a very important issue to me. In February, I hosted a
workshop on financial inclusion in the Americas, which was the first of its kind at the
Department of the Treasury. I was very pleased that Sandra and Don could attend,
as well as representatives from many financial institutions and government
agencies in Mexico, Honduras, EI Salvador, and the U.S. Out of this workshop
came some great discussion - and even greater action. Currently, we have a team
in Guatemala on a World Bank Mission working with the government to assess and
develop priorities for action. This is the first of many initiatives which will come from
the conference.
As you know, inclusion in the financial mainstream is essential for a country's longterm economic growth and financial stability. In many latin American countries,
where up to 70 percent of the population functions entirely outside of the financial
system, this is especially important. By providing families with the opportunity to
safely save, borrow, and invest, we can empower individuals with the ability to take
advantage of economic opportunities and build financial security.
As we wrap up today's activities, I want to leave you with a few broad, final thoughts
on the importance on financial inclusion, its challenges, and what the Department of
the Treasury is doing to help.
We must have a financial system that works for everyone. Growth and development
depend critically on the ability of a/l residents to use the financial system. Banks
cannot simply serve the wealthy. They must also serve those in the middle class the up and coming, the entrepreneurs, and the innovators - and those at the low
end of the spectrum - those struggling to make ends meet. These are the people
for whom a dry season could spell destitution, or for whom schooling for their
children is out of reach.
We must ensure that a robust financial infrastructure is in place. Secure, effective,
and accessible payment systems playa critical role in expanding financial inclusion.
Also important is getting people access not just to loans, but to savings, penSion
funds, and other services. Some studies indicate that one of the greatest, if not the
greatest, financial need of the underserved is insurance. The more people active in
the mainstream financial sector, the bigger the investment we make in our
communities.

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Barriers that financially exclude people vary by country. We must address barriers
throughout Latin America- improving on physical access, language issues, financial
literacy, and lack of trust.
Financial education is a critical part of financial inclusion. Here in the U.S., we
struggle with financial education issues. The President has formed a Council to
address these issues for students, workers, and families in our country. It is vital
that people not only need access to services, but must understand how to use
those services. Without this knowledge, these folks can become the victims of
financial abuse and predatory practices. We unfortunately saw this play out in some
cases in the U.S. housing industry. We need to develop and launch effective
financial education programs that can reach even our most isolated communities.
Micro, small, and medium enterprises have the potential to be the powerhouses of
our economies, but many entrepreneurs are intimidated by formal bank settings and
requirements for opening accounts. Instead these entrepreneurs turn to informal
lenders who increase their cost of doing business. Opening the formal system to
these business owners will make them more competitive and increase their
opportunities for growth.
As many of you are aware, Treasury has been deeply involved in financial inclusion
and remittance issues for years both at home and abroad. These are very important
issues to President Bush and to Secretary Paulson. Over the past year, the
Secretary has launched several initiatives with our Latin American counterparts to
strengthen the region's economic infrastructure, enhance access to finance and
markets, and advance the benefits from trade. He has traveled to Columbia,
Guatemala, Peru, Mexico, Brazil, Chile, Uruguay, and Canada to support
Treasury's initiatives in these countries.
We know that small business creation is important to decreasing poverty,
expanding social mobility, and creating a strong middle class. Last June, to facilitate
greater access to finance, Secretary Paulson announced a small business finance
initiative. This initiative encourages market-based bank lending to small businesses
in Latin America by combining the capabilities of the lOB, OPIC, and the U.S.
Treasury. With this initiative, small businesses will get the financial support they
need to flourish. I know many Treasury officials will be joining you in the days to
come to continue these important discussions, including Secretary Paulson.
At the end of the day, our success in fostering a dynamic and stable economy will
depend on our ability to establish an environment in which a competitive, flexible,
inclusive, efficient, and resilient financial system can flourish. I hope the meaningful
exchange of ideas between the international group of panelists and guests here
today will provide a springboard toward those efforts throughout the world. By
creating a financial system that works for everyone, and that everyone knows how
to use, we can ensure that a/l people benefit from the Americas growing prosperity.
Thank you.
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P-907: Remarks by Secretary Henry M. Paulson, lr.<br>at the Inaugural Session of the Inter-American ... Page 1 of 4

PRES.~ ROO~

April 7, 2008
HP-907
Remarks by Secretary Henry M. Paulson, Jr.
at the Inaugural Session of the Inter-American
Development Bank Annual Meeting
It is an honor to receive the Chairman's gavel on behalf of the United States of
America. It is most appropriate that we are here in Miami, a city which is rightly
known as the U.S. gateway to Latin America. Thank you, Minister Fuentes and the
government of Guatemala, for your leadership of the Inter-American Development
Bank this past year. And thank you President Moreno for making the Bank more
nimble and effective in creating economic opportunity and reducing poverty
throughout the Western Hemisphere. We believe that we should measure success
by demonstrable results that show the lOB's operations are building and
strengthening foundations for sustainable and widespread economic growth in the
region.
A number of you have asked about the current challenges facing the U.S. economy.
We are going through a difficult housing correction that is also impacting our capital
markets. We are taking a number of aggressive measures to minimize the
downturn's effect - including helping homeowners avoid preventable foreclosures,
and enacting a stimulus package to provide a boost to our economy and create jobs
this year. U.S. long-run economic fundamentals remain sound, and the good news
is that Latin American economies and financial markets have proven more resilient
to the recent global financial turmoil than many might have expected. I believe we
will work through this period as we have worked through past periods. And we will,
as we always do, return to robust growth that benefits the American people and our
neighbors in the Americas.
We share aspirations for a Western Hemisphere growing in liberty and prosperity
and, as President Bush has stated, we have witnessed great achievements. Most
recently, this includes the work by many of your countries to shore up public
finances, reduce debt and open markets. This has resulted in real incomes
increasing by 26 percent over the past five years. The region, as the IMF has
recently noted, is now "reaping the rewards from a decade of investment in
reducing vulnerabilities."
World Trade and Economic Integration Drive Growth
President Bush also knows well that stronger neighbors, who collaborate and work
together, build a stronger neighborhood for us all. I share his view, and all of us in
the Administration work hard to make sure the American people understand that we
benefit from healthy, prosperous neighbors. If we are to achieve our goal of
reducing poverty and creating opportunity, economic integration and trade are
dynamic vehicles for growth and Job creation. Certainly, history has shown that
those countries that open themselves to trade and investment prosper, while those
that don't are left behind. One of the most disturbing trends I see in the United
States is an inclination against openness, a desire to retreat from world markets.
I have great confidence in America's workers and in the workers of all the Americas
to compete and succeed in global markets. Yet, there is no doubt that we are in a
time of rapid economic change. In some instances and in some industries this
creates hardships and job losses, in your countries as in mine. What we need to do
is figure out how to deal with the Job losses that come from trade and make sure
that we do not turn isolationist. Isolation limits prospects, limits prosperity, and
dampens hope. This Administration is committed to pushing back on the rising tide
of protectionism.
The United States welcomes the opportunity to work with countries in the region in
building the financial, physical and market infrastructures that will help all of our

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P-907: Remarb by Secretary Henry M. Paulson, lr.<br>at the Inaugural Session of the Inter-American... Page 2 of 4
people prosper. We share the goal of inclusive economic prosperity that spreads
your impressive top-line economic growth more broadly through your societies,
reaching those who traditionally have been left behind.
The United States remains firmly committed to expanded world and regional trade
as a powerful path to inclusive prosperity. This means that international
development efforts need to link many more people to the opportunities that are
created by trade. Resources and policies need to empower small businesses and
farmers, particularly historically excluded groups.
Promoting Economic Integration
Our efforts, therefore, must focus on financing infrastructure to build and strengthen
the connections between national and regional markets, and on reducing or
eliminating barriers that hinder regional industrial, agriculture and services trade.
The World Bank finds that it takes on average over 22 days for a Latin American
exporter to move product from warehouse to port; in the United States this takes six
days. To be viable suppliers to world markets, our region's companies need to
move goods quickly and efficiently. Efficient customs procedures and harmonization
of rules across borders would further reduce trading costs and delivery times --helping both buyers and sellers of goods. We must also extend these efforts to
developing and exchanging best practices within the region.
Finally, we must re-commit to building the capacity for trade, which helps small and
remote businesses gain access to world markets and become exporters. The lOB
has been a leader and set the standard for other donors in emphasizing trade
capacity, as has the United States. Trade capacity building has been an integral
part of U.S. free trade agreements in the region. Enhancing regional cooperation
and involving the private sector and civil society will also deepen understanding and
trust, which can lead to greater gains.
Economic integration makes industries throughout the region more dynamic, more
innovative and more competitive. Companies will have greater access to capital
and to larger regional and global markets, giving consumers more choices. Global
competition reduces the prices of goods and services, which is particularly
beneficial to those with lower incomes.
lOB and U.S. Efforts
Since lOB governors gathered in Guatemala City a year ago, both the lOB and the
U.S. government have launched positive new initiatives in the region, often in close
collaboration. The lOB's renewed emphasis on private sector activity through the
Integrated Business Plan is most welcome and we urge its continued expansion.
We applaud the Bank's renewed efforts to reach the poorest segments of the
region's society through the Opportunities for the Majority Initiative. The Sustainable
Energy and Climate Change Initiative rightly focuses on the region's need to
address the challenges of renewable and efficient energy and climate change.
In these and all activities, we urge the Bank to continue to focus on concrete results
that demonstrate achievements towards its core mission of economic growth and
poverty reduction. We should measure the quality of the assistance, not just the
quantity.
Let me also take this opportunity to acknowledge the tremendous achievements of
the Multilateral Investment Fund (MIF) over its first fifteen years and to thank Don
Terry for his great leadership during that time. We will miss Don but know that the
MIF's important work promoting private-sector jobs and growth will continue, with
our strong support.
The U.S. Treasury Department has launched several initiatives to promote
economic integration within and between nations in our hemisphere. We are
focused on specific areas where we can support the region's efforts to spread
opportunity through all levels of society, to reduce poverty and help the poor move
into the middle class. Specifically, we are working to help build the physical and
financial infrastructure that facilitates economic mobility and integration.
Financial services are the backbone of any modern economy, and access to capital

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[P-907: Remarks by Secretary Henry M. Paulson, lr.<br>at the Inaugural Session of the Inter-American... Page 3 of 4
can mean the difference between a people who thrive rather than merely survive.
The Small Business Finance Initiative was launched last summer for just that
reason. Treasury, the Overseas Private Investment Corporation, the Multilateral
Investment Fund, and the Inter-American Investment Corporation are encouraging
market-based bank lending to small and medium sized enterprises in the region.
This initiative has introduced new lending models to fit smaller firms. It offers risksharing guarantees and loans to eligible banks so that they will broaden their
lending base, and identifies regulatory changes that can increase credit available to
small businesses. The initiative also finances technical assistance so local banks
can develop the "know-how" needed for small business lending.
In just nine months, over $50 million has been committed to Latin American banks
to expand their operations in the small business sector. An additional $165 million is
in the pipeline, a portion of which will be dedicated to small business lending. Think
about this vision --- new businesses all across the land and entrepreneurs closer to
achieving their dreams.
We also know that financial inclusion is vital. Effective access to financial services
can enable even the poorest households to manage their financial resources. This
impacts small businesses, too, because often the money to start a business comes
from personal savings or personal loans .. Treasury, especially through the good
work of our Treasurer Anna Cabral, is actively working with several countries in the
region to lower barriers to financial inclusion.
Once a business has the capital base to build and grow, it must have a means to
get its goods and services to markets. In partnership with the International Finance
Corporation (IFC), Treasury also began the Infrastructure Development Program of
the Americas (IDPA) last year. The IDPA assists in identifying, structuring and
launching sustainable infrastructure projects based on private sector partnerships.
Together, the United States, Brazil, the IFC, the lOB and other partners have
contributed $12 million, with an additional $8 million expected in the next one to two
years.
To date, twelve IDPA projects, committing $1.3 million, are signed or in advance
negotiations. These projects are in Brazil, Colombia, Haiti, Jamaica, Mexico and St.
Lucia. They include airport and telecom projects in Haiti, and a major road project in
Colombia. Overall, this $1.3 million will be leveraged for an additional, estimated
$2.6 billion in private investment; $450 million of that will be greenfield investment.
Estimates are that these transactions will bring improved basic services to 500,000
people and save local governments a minimum of $200 million. Savings by these
local governments should mean they can use that money to build schools, roads
and offer other services.

Latin American Free Trade Agreements
The United States welcomes two-way trade with the Americas, and we have a
record of success. Our two-way trade flows, including Canada, topped $1 trillion in
2007 and two-way investment was also more than $1 trillion. Workers employed in
the United States sent an estimated $45 billion home to their families in 2006.
Free Trade Agreements with nine Latin American countries have been approved by
Congress and agreements with Colombia and Panama are pending. Two-way trade
with existing regional FT A-partner countries was more than $400 billion in 2007, or
75 percent of our trade with Latin America.
Over the last few decades positive change has swept throughout the Western
Hemisphere, expanding democracy, the rule of law and economic reforms. While
some would turn back the clock to an undemocratic past of restricted freedoms and
stunted economies, the vast majority of people in the Americas live in democracy,
peace and increasing opportunity. Not surprisingly, they like it this way.
We see this in Colombia, where President Uribe has succeeded in transforming his
country into one of the most stable and strong democracies in the region. Dramatic
economic improvements have followed increased safety and security --- Colombia
has one of the highest growth rates in the region, and poverty and unemployment
are at ten-year lows. Congressional approval of the Colombian free trade
agreement will reinforce democracy in Latin America by showing support for a key
ally, an ally who has made significant advancements to combat violence and

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instability.
In December, Congress approved the trade promotion agreement with Peru, which
is basically the same agreement we have reached with Colombia. I calion the U.S.
Congress to show support for the Colombian people and provide greater hope for
their future by passing the Colombian trade agreement without further delay.
Immediately after approving the Colombia FT A, Congress should turn to the
pending agreement with Panama to further build the existing trade relationship with
another U.S. ally.
One of the many things I have learned since moving to Washington is that no trade
bill is an easy bill. You are all aware of how hard-fought these agreements are, and
also aware of their positive long term economic gains that benefit your people. The
Bush Administration remains committed to fight for these gains and welcomes your
support as we do so.
Conclusion
Closer economic ties between nations create common interests and common goals
that tend to lead to solutions rather than conflicts. We have made great progress
within our hemisphere. While we gather here, let's share this good news and know
that our work is far from done. While millions have been lifted from poverty, millions
more still look for a hand up and a way out. The United States looks ahead to the
future with you, at the same time we stand beside you to help ensure we achieve all
that we plan, and all that we can.
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IP-908: Fact Sheet: Latin America Infrastructure Development Program Update

Page 1 of 1

April 7, 2008
HP-908
Fact Sheet: Latin America Infrastructure Development Program Update
In July 2007, Secretary Paulson announced the creation of an infrastructure
development program to increase investment in infrastructure projects in
Latin America and the Caribbean
(http://www.ustreasgov/press/releases/hp482.htm).TheUnitedStates.in
partnership with the International Finance Corporation (IFC), a member of the
World Bank Group, is working to catalyze private investment in infrastructure in
Latin America.
The goal of the program is to partner with the private sector to identify,
structure and launch sustainable infrastructure projects. The United States,
Brazil, the IFC and the Inter-American Development Bank and other partners have
contributed a combined $12 million (the U.S. contributed $4.6 million) to date, with
additional contributions of at least $8 million envisaged in the next 1-2 years. The
contributions will be used to:
•

•

Help governments and private sector sponsors conduct market, technical,
legal, and financial analyses in order to prioritize and design projects for
development;
Help governments manage transparent and competitive bidding processes.

Results To Date:
•

•
•
•
•

Twelve projects are signed or under advanced negotiations, with $1.3
million committed from the initiative. The projects are located in Mexico,
Brazil, Haiti, Colombia, Jamaica, and St. Lucia.
$2.6 billion (estimated) in additional investment will be leveraged across all
twelve projects, $450 million of which is greenfield investment.
Fiscal savings to local governments from these transactions are estimated
at a minimum of $200 million.
Number of people expected to receive improved basic services from these
transaction are estimated at 500,000.
Eight advisory transactions are under execution; additional investment to be
leveraged is estimated at $2.3 billion.
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'P-909: Fact Sheet: Status or Latin America Small Business Lending Initiative

Page 1 of2

PRESS ROOM .',

April 7, 2008
HP-909
Fact Sheet: Status of Latin America Small Business Lending Initiative
In June of 2007 the Treasury Department launched an initiative to expand and
Improve access for small businesses in Latin America to commercial financing
(http://wwwtreasgov/press/releases/hp452htm). The three-part Initiative is jOintly
supported by the U.S Treasury Department, the Inter-American Development Bank
(lOB), and the Overseas Private Investment Corporation (OPIC) as follows
1.

2.
3.

Through its Multilateral Investment Fund (MIF) and its Inter-American
Investment Corporation (IIC), the lOB provides technical cooperation grants
and loans to local banks to strengthen their capacity in lending to the small
business sector:
OPIC offers guarantees and loans to banks that commit to initiating or
expanding tilelr small business lending: and
The Treasury Department's Office of Technical Assistance assists targeted
Latin American countries in the design and implementation of regulations
and oversight of credit providers to small businesses.

Progress to Date - Since ItS launch. the Initiative has been very active in
advancing the three goals onglnally established by Secretary Paulson
(1) Introduce new lending models that fit the unique characteristics of smaller
firms,
•

•

•

In September 2007, the M IF committed $10 million to the Initiative and has
sillce been actively promoting the Initiative among financial institutions In
Latin America and the Caribbean.
In November 2007, the MIF Signed the first Technical Cooperation
agreement With BanCentro In Nicaragua. approving a $500,000 grant for a
$1 million capacity building project to develop new financial products for
small businesses, expand ItS small business loan portfolio, strengthen
capacity of its human resources in the analysis and management of risks
speCifiC to the small business sector and adopt international best practices
In Implementing and expanding its small business program,
In the first quarter of 2008, the MIF started to receive applications from
financial Institutions throughout the region, and is currently analyzing
requests from banks in MexIco, Central America and the Caribbean.

(2) Assume a portion of the risk associated with small business lending.
•

•

•

In September 2007. OPIC committed $150 million to the Initiative to provide
finanCing and guarantees for small business loans In Latin America and the
Caribbean
Already, OPIC has approved over $52 million In loans to banks In Honduras,
Costa Rica, Ecuador, Paraguay, and Peru to expand their operations in the
small business sector
Typically, OPIC assumes between 50-80% of the commercial risk attached
to each loan and in some cases provides additional Inconvertibility of
currency coverage as well

(3) Ensure that small business lending is not unnecessarily constrained by
burdensome regulations or bureaucracy.
•

•

In Peru, OPIC and Treasury department officials have discussed ways to
reduce the regulatory burden on banks operating in the small and mediumsized business sectors,
Treasury's Office of Technical Assistance (OTA) met With Salvadoran

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P-909: Fact Sheet: Stntus of Lalin America Small Business Lending Initiative

•

Page 2 of2

officials in February 2008 to discuss technical assistance in designing and
implementing regulations, and oversight of credit providers to small
business borrowers.
MIF met with Latin American bank regulators in early 2008 to identify the
critical challenges that they confront in setting up prudential frameworks for
an evolving financing landscape. Specific areas of collaboration were
identified, with proposals for follow-up action forthcoming.

Plans for 2008 - Over the coming months. follow-on activities will include:
•

Pending approval. four to six new technical assistance projects could begin
operations in mid-late 2008. MIF grants will be used to help banks
strengthen their capacity to lend to the small business sector.
• It is estimated that about $3 million in MIF grants will be approved in 2008,
with matching funds from the recipient banks.
• OTA plans to visit EI Salvador, Guatemala. and Honduras in the coming
months to further discussions on legal and regulatory roadblocks to small
business lending and on implementing appropriate regulations and
oversight of credit providers to deepen credit access to small businesses.
• OTA also plans to reach out to countries that have banks with MIF technical
cooperation programs under the Initiative.
• OPIC has $165 million in loans in the pipeline to banks in Paraguay, Peru
and Central America. A portion, to be determined, of each loan will be
dedicated to small business lending.
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P-910: Treasury Secretary Paulson To Hold Press <br>Availability With Colombian Finance Minister ...

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PRESS ROOM

April 7, 2008
HP-910

Treasury Secretary Paulson To Hold Press
Availability With Colombian Finance Minister Zuluaga

u.s. Treasury Secretary Henry M. Paulson, Jr. and Colombian Finance Minister
Oscar Zuluaga will hold a brief press availability following their bilateral meeting
Monday during the annual meeting of the Inter-American Development Bank.
Who
U.S. Treasury Secretary Henry M. Paulson. Jr.
Colombian Finance Minister Oscar Zuluaga
What
Joint Press Availability
When
Monday, April 7, 2:00-215 p.m. EST
Where
Miami Beach Convention Center
1901 Convention Center Drive
Room C228
Miami Beach, Fla.

http://www.treas.gov/press/releasesihp91 O.ht~n

5112/2008

IP-91l: Paulson Statement on ColombIan Free Trade Agreement

Page 1 of 1

PRESS ROOM

April 7, 2008
HP-911

Paulson Statement on Colombian Free Trade Agreement
"I urge the U.S. Congress to show support for the Colombian people and provide
greater hope for their future by passing the Colombian free trade agreement without
further delay. Congressional approval of the Colombian free trade agreement will
reinforce democracy in Latin America by showing support for a key ally who has
made significant advancements to combat violence and instability. Leveling the
playing field for American farmers, ranchers, and the more than 9,000 U.S.
companies exporting to Colombia will also help strengthen our nation's economy."

http://www.treas.gov/press/releases!hp911.rt~ul

5112/2008

-912: Treasury Releases Schedule for Spring G-7 Meeting

Page 1 of2

PRESS}AOOM

April 4, 2008
HP-912

Treasury Releases Schedule for Spring G-? Meeting
U.S. Treasury Secretary Henry M. Paulson, Jr. will host a meeting of the G-7
Finance Ministers and Central Bank Governors at the Treasury Department on
Friday, April 11, in Washington, D.C.
At the conclusion of the meeting, the Treasury Department will host a dinner that
will include the G-7 Finance Ministers, Central Bank Governors, and
representatives from several financial services companies. Secretary Paulson will
lead a discussion of the causes and consequences of the recent financial market
turmoil and how leaders in the private and public sectors are responding to this
challenge.
Following is a schedule of events:

Who
Under Secretary for International Affairs David McCormick
What
Pre-G-7 Press Conference
When
Wednesday, April 9, 3 p.m. EDT
Where
Treasury Department
Media Room (Room 4121)
1500 Pennsylvania Ave., NW
Washington, D.C.
Note
Media without Treasury press credentials should contact Frances Anderson at
(202) 622-2960 or Frances.Anderson@do.treas.gov with full name, Social
Security number, and date of birth.

Who
G-7 Finance Ministers and Central Bank Governors
What
Ministerial Meeting-Photos at the Top
When
Friday, April 11, 2 p.m. EDT
Where
Treasury Department
Cash Room
1500 Pennsylvania Ave., NW
Washington, D.C.
Note
This is a pooled photo event - photographers wishing to participate should contact
Courtney Forsell at (202) 622-2591 or
Courtney Fors811~;id(] IrE'~IS (J!l'J for more information.

Who
G-7 Finance Ministers and Central Bank Governors
What
Family Photo
When
Friday, April 11, 5 p.m. EDT
Where

http://www.treas.gov/press/releases/hp912.ri~tJl

5/12/2008

1-912: Treasury Releases Scheuule for Spring G-7 Meeting

Page 2 of2

Treasury Department
Bell Entrance Steps (West Side of Building)
1500 Pennsylvania Ave., NW
Washington, D.C.
Note
Photographers wishing to participate should contact Frances Anderson at (202)
622-2960 or Frances.Anderson@do.treas.gov with full name, Social Security
number, and date of birth. Photographers may begin setting up at 3:45 p.m.
Photographers must be in place no later than 4:30 p.m.

Who
Treasury Secretary Henry M. Paulson, Jr.
What
Press Conference
When
Friday, April 11, 6:45 p.m. EDT
Where
Office of Thrift Supervision
Auditorium, 2nd Floor
1700 G Street, NW
Washington, D.C.
Note
Media may begin setting up at 5:30 p.m. Treasury, White House, and IMFlWorld
Bank Spring Meeting press credentials will be accepted - no other clearance is
needed.

http://www.treas.gov/press/releases!hp912.1.~rll

5112/2008

Page 1 of 4

April 7, 2008
2008-4-7 -16-56-50-1309

U.S. International Reserve Position

The Treasury Department today released U,S. reserve assets data for the latest week. As indicated in this table, U.S.
reserve assets totaled $75,293 million as of the end of that week, compared to $75,840 million as of the end of the
prior week.
I. Official reserve assets and other foreign currency assets (approximate market value, in US millions)

I

II
IIApril 4, 2008

I
IA. Official reserve assets (in US millions unless otherwise specified)

IIEuro

liVen

IITotal

II
11 12 ,043

11 75 ,293

I(a) Securities

II
11 15 ,719

lof which: issuer headquartered in reporting country but located abroad

II

II

11 0

I(b) total currency and deposits with:

II

1(1) Foreign currency reserves (in convertible foreign currencies)

II
15,610

I(i) other national central banks, BIS and IMF

6,744

Iii) banks headquartered in the reporting country

11 27 ,762

II
11 22 ,354
11 0
11 0

lof which: located abroad

11 0
11 0

I(iii) banks headquartered outside the reporting country
lof which: located in the reporting country
1(2) IMF reserve position

11 4 ,284

1(3) SDRs

11 9 ,852

1(4) gold (including gold deposits and, if appropriate, gold swapped)

11 11 ,041

I--volume in millions of fine troy ounces

11 261 .499
0

1(5) other reserve assets (specify)
I--financial derivatives
I--Ioans to nonbank nonresidents
I--other
lB. Other foreign currency assets (specify)
--securities not included in official reserve assets
--deposits not included in official reserve assets
--loans not included in official reserve assets
--financial derivatives not included in official reserve assets
--gold not included in official reserve assets

II
JI
I
II
JI

[-other

II

II

II. Predetermined short-term net drains on foreign currency assets (nominal value)

~~============~II====~!~I====~!rl====~"======~"====~!I
http://www.treas.gov!press/releases!20084>r~{j56501309.htm

5/1212008

Page 2 of 4

II

I

IIMaturity breakdown (residual maturity)
Total

I
11. Foreign currency loans, securities, and deposits
I--outflows (-)

Ilprincipal

I
I--inflows (+)

IIlnterest

I

IIlnterest

More than 1 and
up to 3 months

Up to 1 month

II

II
II
II
II

II

II

Ilprincipal

I

More than 3
months and up to
1 year

2. Aggregate short and long positions in forwards and
futures in foreign currencies vis-a-vis the domestic
currency (including the forward leg of currency swaps)
(a) Short positions ( - )
(b) Long positions (+)
3. Other (specify)
--outflows related to repos (-)
--inflows related to reverse repos (+)
--trade credit (-)
--trade credit (+)
--other accounts payable (-)
--other accounts receivable (+)

III. Contingent short-term net drains on foreign currency assets (nominal value)

I

II

I

II

II

I

applicable)
Total

I

I

I Maturity breakdown (residual maturity, where
Up to 1 month

More than 1 and
up to 3 months

More than 3
months and up to
1 year

11. Contingent liabilities in foreign currency
II;a) Collateral guarantees on debt falling due within 1
year

I

\(b) Other contingent liabilities
2. Foreign currency securities issued with embedded
options (puttable bonds)

13. Undrawn,

I!

unconditional credit lines provided by:

(a) other national monetary authorities, 81S, IMF, and
other international organizations

II

I--other national monetary authorities (+)
I--BIS (+)
\--IMF (+)
(b) with banks and other financial institutions
headquartered in the reporting country (+)

11

(c) with banks and other financial institutions
headquartered outside the reporting country (+)

II

[Undrawn, unconditional credit lines provided to:
(a) other national monetary authorities, BIS, IMF, and
other international organizations

II

t-other national monetary authorities (-)

t- BIS (-)

r-

http://www.treas.gov/press/releases/200841~1656501309.htm

5112/2008

Page 3 of 4
I--IMF (-)
(b) banks and other financial institutions headquartered
in reporting country (- )
(c) banks and other financial institutions headquartered
outside the reporting country ( - )

4. Aggregate short and long positions of options in
foreign currencies vis-a-vis the domestic currency

I

I
I

I
I

I

I(a) Short positions
I(i) Bought puts
I(ii) Written calls
I(b) Long positions
I(i) Bought calls
I(ii) Written puts
IPRO MEMORIA: In-the-money options

II

1(1) At current exchange rate
I(a) Short position
I(b) Long position
1(2) + 5 % (depreciation of 5%)
I(a) Short position
I(b) Long position
1(3) - 5 % (appreciation of 5%)
I(a) Short position
I(b) Long position

1(4) +10 % (depreciation of 10%)
I(a) Short position
I(b) Long position
1(5) - 10 % (appreciation of 10%)
I(a) Short position
I(b) Long position

1(6) Other (specify)
I(a) Short position
I(b) Long position

IV. Memo items

1
1(1) To be reported with standard periodicity and timeliness:

I(a) short-term domestic currency debt indexed to the exchange rate
(b) financial instruments denominated in foreign currency and settled by other means (e.g., in domestic
currency)

I'

I--nondeliverable forwards
I --short positions
I --long positions
I--other instruments
I(C) pledged assets
[--included in reserve assets
--included in other foreign currency assets

I

ITd) securities lent and on repo
--lent or repoed and included in Section I

http://www.treas.gov!press/releases!20084;:j 65650 1309.htrn

I
5112/2008

Page 4 of 4
I--Ient or repoed but not included in Section I
I--borrowed or acquired and included in Section I
I--borrowed or acquired but not included in Section I
I(e) financial derivative assets (net, marked to market)

I
I
I

I--forwards
I--futures
I--swaps
I--options

I

I--other

I

(f) derivatives (forward, futures, or options contracts) that have a residual maturity greater than one
year, which are subject to margin calls.

I
I

I

II

--aggregate short and long positions in forwards and futures in foreign currencies vis-a-vis the domestic
currency (including the forward leg of currency swaps)
I(a) short positions ( - )
I(b) long positions (+)
I--aggregate short and long positions of options in foreign currencies vis-a-vis the domestic currency
I(a) short positions
l(i) bought puts

I(ii) written calls
I(b) long positions
I(i) bought calls
I(ii) written puts

I

1(2) To be disclosed less frequently:
I(a) currency composition of reserves (by groups of currencies)

11 75,293

I--currencies in SDR basket

11 75,293

I--currencies not in SDR basket

II

I--by individual currencies (optional)

II

I

II

"

Notes:
1/ Includes holdings of the Treasury's Exchange Stabilization Fund (ESF) and the Federal Reserve's System Open Market
Account (SOMA), valued at current market exchange rates. Foreign currency holdings listed as securities reflect markedto-market values, and deposits reflect carrying values.

2/ The items, "2. IMF Reserve Position" and "3. Special Drawing Rights (SDRs)," are based on data provided by the IMF
and are valued in dollar terms at the official SDR/dollar exchange rate for the reporting date. The entries for the latest
week reflect any necessary adjustments, including revaluation, by the U.S. Treasury to IMF data for the prior month
end.
3/ Gold stock is valued monthly at $42.2222 per fine troy ounce.

http://www.treas.gov/press/releases/20084.j 1 656501309.htm

5112/2008

IP-913: Treasury To Host llricfil'\g

CII

Financial Restatement Study

Page 1 of 1

April 8, 2008
HP-913
Treasury To Host Briefing on Financial Restatement Study
U.S. Treasury officials will host a pen-and-pad briefing to discuss the Treasurycommissioned study The Changing Nature and Consequences of Public Company
Financial Restatements. Secretary Paulson requested the study, conducted by
University of Kansas professor Susan Scholz, as part of his capital markets
competitiveness initiatives announced in May 2007. No cameras will be admitted to
the briefing. The following event is open to the press:
Who
Assistant Secretary for Financial Institutions David G. Nason
University of Kansas Professor Sue Scholz
What
Briefing on Financial Restatement Study
When
Wednesday, April 9, 2008, 11 :30 a.m. (EDT)
Where
U.S. Treasury Department
Grant Room (Room 2127)
1500 Pennsylvania Ave.
Washington, D.C.
Note
Media without Treasury press credentials should contact Frances Anderson at
(202) 622-2960, or Frances.Anderson@do.treas.gov with the following information:
full name, Social Security Number and date of birth. (No cameras will be permitted
into the briefing.)

http://www.treas.gov/press/releases/hp913.rr~.111

5112/2008

P-914: Trea~ury R~leuGc8 Competitiveness Study <br>on the Changing Nature and Consequences of Fi ... Page 1 of 1

10 view or pnnt tne /-,ut- content on tnlS page, aown/oaa the Tree Aaooe® Acrooat® l-<eaae(\R).

April 9, 2008
HP-914
Treasury Releases Competitiveness Study
on the Changing Nature and Consequences of Financial Restatements
Washington - Secretary Paulson announced today the completion of the Treasurycommissioned study, The Changing Nature and Consequences of Public Company
Financial Restatements, as part of his efforts announced in May 2007 to encourage
U.S. capital markets competitiveness.
"Many respected voices at Treasury's Capital Markets Competitiveness Conference
last year noted the drastic increase in financial restatements over the last decade, It
is important to take a hard look at the facts behind this rise," said Treasury
Secretary Henry M. Paulson, Jr. "The information in this study should complement
the work underway at the Securities and Exchange Commission and the Financial
Accounting Standards Board to improve financial reporting for investors."
The study, conducted by University of Kansas Professor Susan Scholz, provides
one of the most in-depth looks at the soaring number of financial restatements in
the years before and after the Sarbanes-Oxley Act. Financial restatements grew
nearly eighteen-fold in this time, from 90 in 1997 to 1,577 in 2006 with acceleration
in restatement activity occurring in 2001 before the implementation of the
Sarbanes-Oxley Act.
However, restatements associated with fraud and revenue declined after 2001,
Fraud was a factor in 29 percent of all 1997 restatements, but only 2 percent of
2006 restatements. The proportion of revenue-related restatements also decreased
from 41 percent in 1997 to 11 percent in 2006,
Market reactions to the restatements dampened over the decade study period,
while the number of restatements grew. Market reaction to financial restatements
tended to be more negative when the restatement involved fraud or revenue errors,
Additionally, the study noted that restating companies are typically unprofitable
even before the restatement. In the year prior to announcing a restatement, more
than half of restating companies reported a net loss.
Treasury did not ask the study's author to develop policy recommendations. The
study was intended to inform federal regulators and advisory committees, such as
the SEC's Advisory Committee on Improvements to Financial Reporting. The goal
was to take a clear look at figures often used when discussing U.S. companies'
competitiveness and investor confidence in financial reporting.
- 30 LINKS

•

The Changing Nature and Consequences of Public Company Financial
Restatements

http://www.treas.gov/press/releasesihp914.flm

5112/2008

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

TABLE OF CONTENTS
I. Executive SUlnlnary ................................................................................................. 1
A. Restatement Announcement frequency ......................................................................................................... 2

B. Market Reaction to Restatement Announcements ......................................................................................... 3

C. Restatement Characteristics - Changes and Market Reactions ...................................................................... 4
D. Characteristics of Restating Companies ......................................................................................................... 6

II. Purpose and Scope ................................................................................................. 7
A. Definition ofa Restatement Event ................................................................................................................. 7
B. Data Sources and Limitations ........................................................................................................................ 8
C. Sample and Data Availability ......................................................................................................................... 8

III. Restatement Trends and Characteristics ........................................................... 10
A.
B.
C.
D.

Restatement Trends and Related Events .......................................................................................................
Restaten1ent Severity ....................................................................................................................................
Accounting Issues .........................................................................................................................................
Number of Periods Restated .........................................................................................................................

10

12

14
18

IV. Characteristics of Restating Companies .............................................................. 19
A. Profile of Restatements Lacking Financial Data ...........................................................................................
B. Industry Membership ...................................................................................................................................
C. Exchange, S&P 500 Membership and Accelerated Filer Status ....................................................................
D. Size and Profitability .....................................................................................................................................

19
20
21
22

V. Analysis of Market Reactions to Restatements .... .................................. .............. 28
A. Profile of Restatements Lacking Return Data ............................................................................................... 28
B. Stock Market Returns at Announcement ..................................................................................................... 29
C. Post-Restatement Returns ............................................................................................................................ 36

VI. Appendices ............................................................................................................ 39
A. Accounting Issues Taxonomy .......................................................................................................................
B. Industry Membership Tables ........................................................................................................................
C. Restatements and SOX Section 404 Internal Control Reporting .................................................................
D. Restating Company Revenues ......................................................................................................................
E. Restatements and Debt Ratings ...................................................................................................................
F. Limited Analysis of SEC Staff Accounting Bulletin No. 99: Materiality and Net Income Effects ...............
G. Restatements with Most Negative Announcement Returns in Each Year ....................................................

39
42
44
46
47
49

51

VII. Acknowledgments ............................................................................................... 54
The

Depllrtlllellt

of tIll'

Tr('(/sllrlj

I .4pril :w()8

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I.

I

1997-.2006

EXECUTIVE SUMMARY

The U.S. Treasury Department commissioned this study to investigate the increase in public company restatement
activity over the decade from 1997 to 2006. The purpose is to understand characteristics and consequences of financial
Generally Accepted Accounting Principles (GAAP) over this decade. The
statement restatements for violations of
study analyzes 6,633 restatements of financial results announced over this period. These are the broad findings:

u.s.

• It is well-known that restatements increased in recent years; over the decade, they grew nearly eighteen-fold,
from 90 in 1997 to 1,577 in 2006. However, the increase is largely driven by companies that do not trade
on the major stock exchanges. 1 Non-exchange-listed companies account for only 23% of all restatements in
1997, but increase to 62% by 2006. (See Figure 1.)
• Restatement frequencies begin to accelerate in 200 I-well in advance of the passage of the Sarbanes-Oxley Act
of2002 (SOX). This acceleration is likely due in part to the economic downturn about this time.
• The average market reaction to restatement announcements is negative throughout the study period.
However, beginning in 2001, the magnitude of market reactions declines notably. This decline coincides with
an increase in the number of restatements between 2001 and 2006. (See Figure 2.)
• In particular years, restatement frequencies and market reactions are associated with several disparate factors.
These include overall market returns and volatility, regulatory activities, and changes in the mix of underlying
accounting issues. Regarding the shift in accounting issues:
Restatements attributed to fraud and those affecting revenues tend to have more negative market reactions.
However, the percentages of both fraud and revenue restatements decline over the decade. Fraud is a
factor in 29% of all 1997 restatements, but only 2% of 2006 restatements. 2 The proportion of revenue
restatements also decreases, from 41 % in 1997 to I 1% in 2006.
On the other hand, restatements related to accounting for non-operating expenses, non-recurring events
and reclassifications typically do not have discernibly negative market reactions. Together, these groups
represent about 24% of all 1997 restatements, increasing to nearly half at the end of the study period.
• Across the decade, the average restating company increases in size, but remains similar to a comparison
group of non-restating companies. 1 Companies of differing sizes tend to restate different accounting issues,
and several of the distinctions are consistent with expected variations in the activities of larger versus smaller
companies.
• Finally, restating companies are typically unprofitable even before the restatement. In the year prior to
announcing a restatement, more than half of restating companies report a net loss.

or

I Major exchanges are the New York S(()ck Exchange (NYSE). AmericJn Stock Exch.tnge (AM EX). or the NASDAQ National M,trket. Identification
tll.tjor exchange (or
exchange-listed) companies is ba~ed Illainl~' on the .1vJilahility of annOLlIKL'IllCIH d.HC returns in the Univcrsity of ChiclgO',\ CC1lter/or Rrscllrch in Security Prices (CRSP)
daub.lst, the market dJtaba.\c Illo . . r commonly u.\cd in .lC.1dcmic . . wdiL's (h([p:/lwww.(f~p.c{)ml). It prim.lrily tr.tcks . . 11.1n:5 li.\tt'J III tho . . (' .\)".\('111 .....
2 IdenrificJtion of fraud relics ill P,lrt on Securitie.'\ and Exch,mge C()mmis~ion (SEC) Accounting and Audiring Enforcement Rck.lSCS (AAER.\), so numher.\ flUY inuc.l.\C
some for later yeJrs of thc decade as tht' SEC'..., enforcement invc.\tig.uioll\ conclude.

3 The compari.\on group is all U.S. comp,mic.\ includcd in Sr.IIH1.1rd & Poor\ Compu.\t.tt uataba.\c, thc financial informatioll oarab,\.\c 1110.\( commonly ll~eJ in ;lc.lucmic studies.
On average. Compusr:H includes asset dard for more rh.m 9,000 comp.lIlies (,Jeh year.
---------

The Department ofthc Treas1lry I AJiril zooS

1

I

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

1997-.2006

A. Restatement Announcement Frequency
Over the decade, restatement frequency grew nearly eighteen-fold, from 90 in 1997 to 1,577 in 2006." Figure 1 shows
the total number of restatements reported each year, with the solid portion of each bar representing restatements by exchangelisted companies. Exchange-listed company restatements total 3,310, or slightly less than half of the 6,633 total restatements.

_

Figure

1

Number of Restatements: 1997 - 2006
1,577

1,600

1,46S

1,400
1,200
979

1,000

X47

XOO
640
6QO
400
200
0

0~
4X4

224

119

[;J ~

90

00

~

1997

199X

20S

1999

2000

2001

2002

o Total restatemcnts by exchange-listed companies = 3,310

386

507

753

594

2003

2004

2005

2006

0 Total restatements annollnced = 6,633

Restatements begin to accelerate in 200 I-prior to the corporate accounting scandals and the passage of SOX.) The
acceleration is particularly prevalent for companies that do not trade on major exchanges. For these firms, restatements
increase 380% from 2000 to 2001, while exchange-listed company restatements increase only 55%.6 Because the
occurrence and/or disclosure of misstatements may be more likely for companies experiencing financial difficulties,
increases in 2001 and 2002 are likely associated in part with the economic downturn beginning with the implosion of
the technology bubble in March 2000. Those resulting restatements would begin to appear in 2001.
7

Nonetheless, even as the overall market and economy improve in later years, restatement frequency continues to
increase, due in part to regulatory changes. For example, the implementation of internal control reporting under sox
Section 404 appears to be associated with an increase in restatements beginning in 2003, particularly among large
s
companies. The size of restating companies appears to diminish in 2006, after larger companies implemented SOX
Section 404.~ Finally, two specific accounting issues, leases in 2005 and stock options backdating in 2006, contribute

4 Restatement.'! in (hi . . .sway afC ddlflco .1 . . uniquc rc . . rarl..'m<:l1( evellts that correct ,lccoullring errors ,ltlO irn.:gularirie . . madc by compJnic\ reponing under U.S. CAAP. Sec
Section II.A ofrhc . . rudy f(H rhe definition ofa rc.lota(CIllC'llt event ,1I1d Section 11.13 for (iJra source.'!.
5 See Section 1II.A for a timcline of re . . tatemenr trends and reLHed eVeIH\.
G From 1997

to

2006. restatemerH frequency for non-exc!1Jnge-listed companies incrcases J.lmosr fony-hve-fo[J. Re\t.Hcmeflt\

by major exchange-listed companies increa . . t:

about eight-fold and actually decrease by 21 % from 200') to 2006.
7 See Mark L. Defond and Jere R. Francis, Audit Rl'search after Sflr/;,zrm-Oxiry, 24 AUDITING: A JOURNAL OF PRACTICE & THEORY 'i (2005) and Zoe-Vonna Palmrose, Litigation dnd Ind''/'''nr/f'nt Allditors. 'Ihe Rulr o/Bu"ifll'" 1';lIlurl's fllld MIlI/(/gcli/l'I/{ Fraud, (, AUDITING: A JOURNAL OF PRACTICE & THEORY 90 (I ')87).
8 See Appendix C for an analysis of" the effects of SOX Seer ion 404 reporting upon restatements.
9 Median statistics for

asset~

and

revenlle~

indicate statistically significant decreases

to

prc-200 1 size ..... Average as\l't\ anJ revenues decline only slightly.
---~-----

The Department (if tlie Treasury I A/iril2oo8

-

-----

2

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

to higher numbers in later years. However, even after eliminating announcements for these two issues, the number of

restatements is higher in 2005 and 2006 compared to 2004.

B. Market Reaction to Restatement Announcements
The market typically views restatements negatively, based on returns at the time of a restatement announcement. 10
However, there is a large difference in average reaction magnitudes between the years 1997-2000, when average
announcement returns are -9.5%, and the years 2001-2006, when average announcement returns are -1.3%. This
pattern is clear in Figure 2. II l11Lls, as the frequency of restatements increases beginning in 2001, the average reaction to
restatement announcements lessens. 12

_

Figure

2

Restatement Announcement Returns and Market Returns Over the Decade
1l)l)X

1997

1999

2000

2001

2002

2003

2004

2005

2006

:Jon.\)

20{~'()

10%
30%
DOl

"0

-10°:;)

I

-Xli;,

I

-Ilfyu

25o/t,

22%

I I

-I O()~;)

- I I (~,

.....
-

-II(~)

101
/0

-2JC'l(,

•
-4~/()

33%
_IO,~

13%
-I ~'u

-7%

_2lyo

16%

-2(~'1)

(J

-lY~'o
-20~;)

-30(~()

_

!\nnOUllcenlCllt retum:--

Market [etum, -+- VIX Index

The generally down market beginning in March 2000 and continuing through 2002 coincides with this dampening. Ll
However, returns continue to be muted even as the market recovers in later years. This appears to be associated with a
reduction in market volatility, as shown by the VIX index in Figure 2, and a shift away from more severe restatements,
such as restatements involving fraud and revenue accounts.

As shown in Figure 3, returns tend

be more negative when the restatement involves fraud or revenue accounting.
Restatements involving fraud decrease as a proportion of all restatements from 29% in 1997 to 2% in 2006, while
restatements affecting revenues decline from 41 % in 1997 to 11 % in 2006. This accounts for some of the reduction in
the overall average market reaction. However, even reactions to fraud and revenue accounting are not as severe in the
later part of the ten-year period under study.
to

lI'iCS m,lrket-adjusrcd returns combined over J two-Jay return window beginning 011 the announcement Jate.
other neW3, good Of b,ld, ti1Jt ,l(.comp,mies the restatemenr announcement. A complete de~Cfiptioll of [he cdlculation i . . in

10 Following standard return analy<;is techniques, this study
Thc3e rerurn3 do not LIke inro account

lily

Section VB.
II The VIX index is the Chicago Board Option; Exchange's voi.nility index. It is sc.ded to fit chart dimensions. Percentages on the ,lXis do not applY to iL
the increase in restatements by non-exd1.lllge-listed companies, becJllse . . rock price d.nJ is <wailable primafily for exchange-listed companies.

12 The shifr cannot be anfibuted

to

13 The overJII r('tufn is simil,lriy
three months of the year. II;

1l("'.itIVl'

(or 2000 Jlld 2001, hur in 200D the downwJrd trend dncs nor bchin until M~lIch. RestJtcments tend to be conccnrr.lfeJ

2000, 37(Yc) of restJ.(ements Jfe anllounced in the first quarter.

Market rerurns .Ife obtJined from CRSP

~--~-.------

The Departlllent of tIll' Treasury I Aeril 2001)

ill

rhe first

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

_

Figure 3

I

1997-.2006

Average Returns for Fraud and Revenue Restatement Announcements
1997

199X

1999

2000

2001

2002

2(0)

2004

2005

2006

: - FmuJ restatemellts 0 Revellue restatemellts 0 All restatemellts

C. Restatement Characteristics - Changes and Market Reactions
The percentages of restatements associated with other accounting issues increased as the proportion of revenue
restatements decreased. Figure 4 shows the relative proportions of restatements related to four classifications of
accounting issues across the decade. Definitions of the categories are in the following bullets. t1

-

Figure 4

Accounting Issues Associated with Restatements
1,600
1.400
1.200
1,000

xoo
600
400
200
0

~

Iiiiiii

~

~

1997

199X

1999

2000

2001

• Revellue total = 1.314

o Non-core expense total = 2,202

2002

2003

2004

2005

2006

o Core expcnses total = 2,639
o Reelass and disclosure total = 4 n

In order of severity, based on market reactions, they are:
• Revenue - These are restatements involving revenue, The number of revenue restatements increases each
year except 2006, but decreases as a proportion of overall restatements, The shift is most noticeable in

14 Sec Appendix A for compicrL' dc~cripri()ns and Fn.:'LJucllcic.\ or ,lCCOllfl[ing i,l,sucs.

The Departllwllt I{ the Treasllry

April

200&

4

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

! 1991-Zoo6

2001: the percentage of revenue restatements drops from 44% of all 2000 restatements to 25% of all 2001
restatements. l ) Revenue restatements are consistently associated with more negative market returns.
• Core Expenses - Restatements related to core expenses, i.e., on-going operating expenses, increase over
twenty-fold across the decade: from about 30% of all restatements in early years to approximately 40% of all
restatements in later years. Market reactions to core expense restatements are typically negative. However,
there are two clusters of these restatements that do not elicit negative announcement returns:
Companies required to provide SOX Section 404 internal control reports (accelerated filers) and restating
during the 2003-2005 SOX Section 404 implementation period.
Companies restating lease accounting in 2005.
The lack of market response to these restatements may be due to anticipation of these restatements, or because
they are viewed as arising from clarification of accounting principles or tightening of the financial reporting
environment, rather than financial reporting lapses of individual companies.
• Non-Core Expenses - Restatements of non-core expenses, i.e., non-operating or non-recurring expenses,
increase greatly in both number and proportion. Non-core expense restatements represent 20% of
restatements in 1997 and nearly 40% at the end of the ten-year study period. Growth in this category is due
to several accounting issues, including more misstatements of impairment charges, derivatives, taxes and
convertible debt interest. There is not a significant market reaction to accounting issues in this category.
• Reclassifications and Disclosures - Restatements involving reclassification and disclosure issues also increase in
number and proportion, but remain a relatively small percentage of all restatements, totaling 10% at the end of
the study. Market reactions to these restatements tend to be less negative than the other types of restatements.
These are particularly benign restatements since they typically do not affect previously reported income.

Other Restatemellf Characteristics and Consequences
The proportion of restatements that decrease reported income increases from about 80% to nearly 90% over the
decade. Whether a restatement reduces income is generally not associated with negative announcement returns. Further,
more than half of all restating companies report a net loss in the year prior to the restatement announcement.
The average number of fiscal years corrected by a restatement increases from about 1.25 years in 1997 to nearly 2.00
years in 2006. Concurrently, the proportion of restatements affecting annual, audited financial statements (rather than
only quarterly, unaudited financial statements) increases from about 50% to 70%. The increase in restated periods is
influenced by lease restatements, and larger company restatements during the SOX Section 404 implementation period.
Both of these sets of restatements tend to correct relatively long time periods. Typically, returns are less negative when
restatements correct longer time periods, even apart from these two groups. Perhaps, on average, misstatements ofless
recent financial statements are not as salient to current investors.
Subsequent to a restatement announcement, one-year market returns average -4%. (See Section Vc.) Average debt
ratings also tend to be lower in the year following a restatement. Prior to a restatement, the median debt rating for a
restating company is BB, slightly below the lowest investment grade of BBB. This median rating decreases to BB- in the
year after an announcement. (See Appendix E.)

15 This is subsequent to the SEC"' i'5u"nce of StaflAccoulltlllg !Julletill: No. /0/ - RevCrlue RCCOg1lit1U1i in fllldncitli StdtCIi/Cli/J (Dec. 3, 1999), .lv"ilabk at http://www.sec.gov/
intcrps/account/sab I 0 I.htm.

The Departmellt oj thc Trc({slIrl;

A,Jril 200H

5

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

D. Characteristics of Restating Companies
Restating companies' size increases steadily across the decade, except in 2006. However, it is typically similar to the
average size of all companies in the Compustat database. If>
Restatements by relatively larger companies tend to: 17
• have a smaller market reaction;
• restate more years and decrease reported income;
• involve fraud and revenue recognition issues - although the latter is true only when size is measured using
assets, not reven ues; I Hand
• involve more complex accounting issues, such as derivatives, asset valuations, taxes, foreign subsidiaries and
consolidations.
These last accounting issues are consistent with expected activities oflarger companies. For example, larger companies
are more likely to have complicated transactions involving foreign subsidiaries and consolidations.
On the other hand, restatements by relatively smaller firms are more likely to involve:
• on-going operating expenses;
• stock-based compensation; and
• debt-related problems-particularly imputed interest on convertible debt.
Again, these last two items are consistent with activities of smaller, growth-oriented organizations which are likely to
rely heavily on stock-based compensation and convertible debt finanCing.
Industry representation among restating companies remains fairly consistent across the decade. The technology
industry is an exception, as it announces fewer restatements in later years. The decline is most noticeable in 2001,
follOWing the end of the technology bubble.

16 Compusrac is the main source of financial

J,ltJ

lI!'1cJ in (hi.'. -"rudy. Sec ilO«: 3 for JddiriOl1JI infornl.lrion.

17 "Larger companie,," refers {O an Jso;;oLiarion with incrc.1o;;ing company .;,;in:, not compallle<; of Jny p,utiLuiar <;ize. 'TI1ere i . . no CLIt-Oft' point or rhre"holJ for larger vs. \IllJller
companies in the regression analyse . . from which these resulrs arc drawn. Reedll, up to SO'Yb of all re . . taring comp.lIlics ,lfe not available for -",ome of these analyse, beclUse
unavailable data, TI,ese companies, without dat.!, ,'ppea" to be quite sillali. (See Section IVA,),

or

18 Again, this association with f"JUd may be partly due to the way f(,lUd is identified leH thi,s "uJy,

The Departmellt oj tlie Tre(/sllry I A/Jril 2008

6

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

II.

! 1991-Zoo6

PURPOSE AND SCOPE

u.s.

The
Treasury Department commissioned this study to analyze public company financial restatements from 1997
2006. 1he purpose is to understand characteristics and consequences of financial statement restatements for violations
of U.S. GAAP over this decade. An important focus is the change in restatement activity over this time. To do this, the
srudy analyzes restatement characteristics, including the underlying accounting issues associated with restatements, in
each year and over the ten-year period. It also describes the companies making restatements. In terms of consequences,
the study examines the impact of the restatements on short and longer-term market returns, as well as changes in debt
ratings surrounding the announcement year. The study is intended to provide an analysis of restatements, not to provide
recommendations derived from the analysis.
to

A. Definition of a Restatement Event
This study focuses on the correction of errors and irregularities in public company financial statements filed with the
Securities and Exchange Commission (SEC) in accordance with U.S. GAAP Every attempt is made to include only
restatements to correct misstated financial statements and to exclude other financial statement changes. For example, some
companies use the term restatement when reporting events such as a pooling-of-interest merger before the elimination
of the pooling option in 2001. Also, companies adopting new accounting standards sometimes provide restated results
to enhance the consistency of their financial information. All data sources used in this study attempt to eliminate such
restatemen ts.
The analysis focuses on misapplication of U.S. GAAP, so restatements by companies that do not report primarily under
U.S. GAAP are excluded. These are mainly identified by the type of SEC form that is amended by the restatement. In
particular, restatements amending SEC Form 6-K and Form 20-F are not included.l~
For purposes of this study, a restatement event begins with the announcement of an accounting problem or potential
accounting problem and concludes with the filing of the amended results. The initial revelation of the problem may be
included in a press release or on a Form 8-K (Current Report), Form lO-K (Annual Report), or Form 10-Q (Quarterly
Report) that amends the originally filed results. The amended results are typically filed on Form 10-KlA or Form 10QjA. 20 Although not necessarily intended under SEC rules in place during the time of this study, some companies did
not file amended financial statements to correct past results, but rather presented revised results on a current Form 10-K
or Form 10-Q.
When there is a time lag between the initial announcement and an amended filing, the sequence of events between
these dates varies greatly. It may include a lengthy investigation and a series of updates by company management, or
simply a speedy filing of the amended results. In some cases, investigations expand the scope of the initially reported
problems and extend the time periods to be restated. In these cases, this study attempts to combine all periods finally
restated and all accounting issues involved to create one restatement event. Companies rarely discover additional
misstatements after their revised results are filed with the SEC. A restatement of a re-filed report is considered a separate
restatement event. However, if a company provides expected revision amounts that differ from final amended results filed
on the 10-KlA or 10-QlA, the additional changes are not considered a separate event.

19 Form 6-K is the current report of foreign private issuers and Form 20-F is the Jnnual or tramition report of foreign private issuer>.
20 Companies sometime.\, file dfficnded results on Form 8-K, or if regi~trJ(ion srJtement.'-. Jre involveJ, on Jll1ended S-serie.\ form.\,

The Departmellt oj the Treaslln; I AJ)ril 2008

7

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1991-.2006

B. Data Sources and Limitations
The analysis focuses on restatements announced from January 1, 1997 through December 31, 2006. The information
used for this study is drawn from several sources. In earlier years (I 997-2003), restatements are mainly identified through
Lexis-Nexis key-word searches of press releases and Form 8-K filings. Additional restatements during this period are found
by comparing the search results to restatements listed in the Government Accountability Office (GAO) study and Audit
Analytics (M) restatement database for relevant years (GAO for 1997-2002 and M' for 2001-2003).21 Comparison
of data sources for overlapping periods indicates that M includes nearly all restatements captured in the GAO lists and
Lexis-Nexis searches, and some that are not identified through these methods. Therefore, restatements in later years (20042006) are obtained only from M. As noted above, restatements by foreign flIers and restatements that are not due to
misapplications of U.S. GMP are eliminated from all sources. 22

c. Sample and Data Availability
The initial analysis focuses on 6,633 restatements. Based on an analysis of SEC Central Index Key (CIK) codes, these
6,633 restatements are made by 4,786 unique flIers, with 1,660 flIers reported to have multiple restatements. The number of
restatements for flIers with multiple restatements ranges from two restatements for 1,066 flIers, to eight restatements for six flIers.
These 6,633 restatements are identified from a set of7,398 possible restatements drawn from all sources noted above.
The difference arises mainly because M deflnes a restatement somewhat differently than this study. If the accounting
issues underlying a restatement change from the initial announcement to the flling of amended results, M may count
both the announcement and the amended flling as a restatement. That is, M focuses on announcements of accounts
restated, while this study focuses on overall restatement events. To address this deflnitional difference, it is assumed that
restatements with announcement dates within ninety days of each other are duplicate announcements of the same event.
Deleting likely duplicate announcements does not eliminate any restating company from the analysis, it only reduces the
number of times a company appears.
Based on a comparison of announcement dates, about 10% (765) of the 7,398 possible events are likely not unique
restatements. That is, the announcement dates are within ninety days of each otherY Thus, there are 6,633 restatements
(7,398 - 765) likely to be corrections of unique misstatements. These 6,633 restatements are used to analyze restatement
trends across the sample period. They are also used to analyze restatement characteristics such as the underlying
accounting issues and the presence of fraud.
Many restating companies are quite small, or othelwise unusual, and so do not appear in the flnancial and market
databases used in this study. These restatements are eliminated from later analysis due to unavailable data. The second
stage of the analysis focuses on characteristics of restating companies, such as size, profltability, and exchange membership.
For this analysis, necessary data are available for 4,923 (74%) of the initial 6,633 restatements. The third stage studies
stock market returns at the time of the restatement. Announcement returns are mainly available for companies listed
on major exchanges 24 , or 3,310 companies, (67% of 4,923 and 50% of 6,633). Subsequent sections provide additional
information about data availability and eliminated restatements.
21 The GAO list of InrarelT1ents from 1,)'J7 ro June .lO, 20D2 is ,1V,lilahle:H illrp://www.g.lO.gov/new.items/dO.l.l95r.pdf. An upddted GAO Ii" is available dt hrrp://www.g,lO.
gov/cgi-hin/gcrrpt'CAO-OG-1 D7'.1Sr AA is ,I collllT1e1'ciJI Jat,lhase. More ini()[[n,l[ion is ,lv,lil.lblc ,It h"p:/ Iwww.,luditJn:llyrics.eoll1.
22 In wtaI, approximately 550 resrJrements provided by AA or rhe GAO ,Ir( deleted in this initial ;rep. Over hJlf ,Ire elimin.lted beCluse they Jrc i()reign filers; that is, they
restattd on Form 6-K Of 20-F The re,l,{ ;Hc.:: e1imin,ltt:J OC:CclU'iC:, upon c1o~n eX.lmin;ltion, dH·:Y do not appt:Jr to ot: rl's[Jtemenb to (orn:cr u.s. CAAP rni.<,st.ltcrnent').
23 If ,he window is expanded to 1HO dJ)'s, only another 1Y; p(lS.,ihk duplicates arc identified.
24 These major exeh.rnges .m the NYSE, the AM EX, and ,he NASDAQ N:rtion:li M,trket.

The Department oft!/(' Tn:asllrlj I AIJril2oo8

8

HE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Three caveats apply to all analyses in this study. First, restatements deemed to be U.S. GMP-compliant (e.g., a change
from one acceptable method to another) are not included in this analysis. However, knowledgeable observers might
disagree on a few of the distinctions between U.S. GMP-compliant restatements and the correction of a misstatement.
Second, it is possible that some restatement events with restatement dates outside the ninety-day window are also
duplicates. Third, some restatements excluded by the ninety-day window may not be duplicates. All results should be
considered with these possibilities in mind.

- - - - --------

The DcparflnclIt (if tlie

Trcasllrt;

I April 2008

9

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

III. RESTATEMENT TRENDS AND CHARACTERISTICS
A. Restatement Trends and Related Events
The distributions of restatements and likely duplicates over the years of the study are shown in Figure 5 below:

_

Figure 5

Restatement Frequencies 1997-2006
1,577
1,46g

979
R47
640
4R4
224
90

•

1997

119

•

I

1999

205

I

1999

2000

I~
2001

• Unique restatcmcnts totul = 6,633

L
2002

145

2003

2004

2005

2006

0 Duplicate announcements totul = 765

This figure clearly illustrates the oft-remarked increase in restatement activity, particularly in recent years. A brief history
of financial reporting and market developments over this time provides context for understanding some of the trends.
• In August 1999, the SEC issued Staff Accounting Bulletin (SAB) 99. It emphasized that materiality
considerations should include qualitative as well as quantitative factors. 2,) To the degree SAB 99 expanded the
number of misstatements deemed material, the number of restatements would have increased. Presumably,
if these additional restatements were due to qualitative factors rather than the dollar amounts involved, there
would have been an overall reduction in the impact of restatements on reported net income. However, the
available data do not show income effects to be discernibly smaller in the year after SAB 99 was issued. 26
• The SEC issued SAB 101 in December 1999. SAB 101 clarified a series of recurring revenue recognition
issues, possibly reducing the number of revenue restatements in later yearsY
• Much of the increase in restatements in 1999 is due to the SEC's identification of issues associated with
determining amounts written off as acquired in-process research and development (IPR&D) costsY
25 SEC. StaflA((lI/tntillf, Blilletin: No. 99 - Mr/tl'rialiry (Aug. 12, I ')')')) , available at http://www.sec.gov/ilHerps/accoulH/;ab.!9.htm.
26 See Appendix F for further discussion and analy.sis of the limited data.
2? SEC, StafjAccolintillf, Blilletin: No. /0/ - Rel'olllc Rccognitioll ill Fllla",,,,1 StrltoncnlJ (Dec. .'l. 199')), available at http://www.sec.gov/interp.s/accountisabIOI.htlll.

28 The Chief Accountant of the SEC issued a letter on this topic

to

the American Institute of Certified Public Accountants SEC Regulations Committee. Discussion of SEC

actions surrounding IPR&D are discussed in the Lmerftom the Ojjice a/the Chu/Acwul/trlllt RCf,!lrdillf, /998-/999 Audit Risk Alerts (Ocr. 9, 199H), available at Imp:!/
WWW.sec.gov/info/accountan .. /staftlerrers/aeirI009.ht m.

The Department oj the Tre(/sury I April

2008

10

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

This allocation and write-off is a typical step in accounting for acquisitions. Of the 224 restatements
announced in 1999,32% (71) were only to reduce the amount of purchased IPR&D written off, thereby
increasing previously reported income. IPR&D also accounts for 9% of 1998 restatements. The total number
of restatements decreased from 1999 to 2000, but excluding IPR&D-only restatements, they increased each
year from 1997 to 2000 (20% from 1997 to 1998,42% from 1998 to 1999, and 34% from 1999 to 2000).
• Restatements continue to increase after 2000. The following events occurred about this time.
There was a significant downturn in the American economy beginning in March 2000 with the end of the
technology bubble. 111is was exacerbated in the third quarter of2001 by 9/1l. The major market indices
did not begin to recover until early 2003. The occurrence and discovery of misstatements are associated with
economic downturns. 29
- Enton announced its restatement in November 2001. This began a period of intense focus on accounting
issues and turmoil in the accounting profession. Other well-known restatements around the time are
Adelphia, in April 2002, and Worldcom, in June 2002.
The AA database commenced in 2001. AJ\s software crawls all Edgar filings, allowing more efficient
identification of restatements filed without announcement on Form 8-K or in a press release, particularly
restatements noted only on Form 10-K and Form lO-Q. While this would not lead to an increase in the
number of restatements, it may lead to an increase in the number of restatements identified for analysis.
• The SOX was enacted July 30,2002. This affected restatement activity in several ways.
SOX Section 302 required corporate officers to provide formal assurance that internal controls were
adequate and financial statements were Elirly presented. Combined with SOX Section 404 reporting,
discussed below, the focus on internal control attestation and reporting appears to have increased
restatements announced during 2003-2005.
Beginning with financial statements for fiscal years ending on or after November 15, 2004, SOX Section
404 regulations required U.S. accelerated filers to document, test and report on internal controls over
financial reporting (ICFR). Auditors were also required to attest to management's ICFR assertions. Efforts to
implement these requirements began as early as 2003, intensifYing in 2004 and culminating in the first ICFR
reports in early 2005.,1I Implementation ofICFR processes sometimes identified on-going misstatements.
Additional detail regarding restatement activity and ICFR reporting is provided in Appendix C.
In addition to internal control provisions, other elements of SOX also increased the attention on financial
reporting quality. This includes the establishment of the Public Company Accounting Oversight Board
(PCAOB) as the public company auditor regulator with an inspection process and enforcement authority.
• The SEC's February 2, 2005 letter clarifYing GAAP for lease accounting added to restatements announced in
2005. About 15% to 20% of restatements announced this year include lease issues.

29 See Mark L. DeFond and jere R. Francis. Audit RI'.rcarch afier Sar!}(/IICJ-Oxley. 24 AUDITING: A JOURNAL OF PRACTICE & THEORY 5 (2005), and Zoe-Vanna Palmrose, Litigation and Indepmdmt Auditors. !he Rolr ofBwil1l'sS Failures ill1d Management Fraud, 6 AUDITING: A JOURNAL OF PRACTICE & THEORY 90 (1987).
30 For example, GlIllapalli reports rhat in 200.,-2004, I'ricew:1terhouseCoopers incre:lSed its Section 404 compliance staff by 20%
'Jllternal Controls', WALL STREET JOURNAL, Nov. .3, 2004, at CI.

to

8,000. See Diya GlIllapalli, Gmspillg

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The Department of the Treasury I April

2008

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11

CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

• Restatements to correct stock options backdating are reported beginning in 2006, and are a factor in about 6%
of that year's restatements.

B. Restatement Severity
Past research suggests financial statement users react more negatively to restatements involving fraud, core earnings
accounts (mainly revenue) and larger decreases in net incomelincreases in net losses. 51 Therefore, measures of these or
similar characteristics are used in this study as indicators of restatement severity.
Fraudulent restatements are identified in three ways: 1) the SEC issues an Accounting and Auditing Enforcement Release
(MER), 2) the company admits to fraud or irregularities in its press releases or filings or 3) company officers are indicted.
Restatements of core earnings accounts include those that affect revenues or on-going operating expense items.32
Measuring a restatement's dollar impact upon net income requires inspection of each restated report. If multiple periods
are involved, it also requires calculation of the overall effect. Given the large number of restatements analyzed in this
study, it is not feasible to obtain this information for analysis. Instead, an indicator for restatements that decrease
previously reported income is used. 53
Figure 6 and Table 1 compare the frequency of restatements with each of these severity measures to the overall number
of restatements in each year.

-

Figllre 6

Incidence of Restatements with Severe Characteristics
1,800
1,600
1,400
1,200
1.000
800
600
400
200

o
1997

1998

o All restatements = 6,633

1999

:2000

2001

2002

2003

2004

2005

2006

0 Income decreasing total = 5,806 0 Core earnings total = 3,953 I!l Fraud total = 350

3i See Zoe-Von n" Palrnrose and Susan Scholz, 1he Cimlll/StrJllCl'S find Legrll CO!l.f!'qllfllCl'S 0fNon-GAAI' Reporting' El'irimccf;mn Rfstrztemnw, 2i CONTEMPORARY ACCOUNTING RESEARCH i39 (S,>ring 2(04), Zoe-Vonna Palml'Ose, Vernon J. Richardson and Susan Scholz, Detfnnillrlllts ofj\lrlrket ReactiollS to RestatemCllt Anno/lllcemolls, 37 JOURNAL Of' ACCOUNTiNC AND ECONOMICS ')9 (Feb. 2004), and Cristi A. GILlSon, Nicole 'Ihorne Jenkin; ,md W. Bruce John;"n, 1/,,, CfJ/ltrlgiOIl
Ejji'cts ofACCOlllltillg Resldtemmts, 83 ACCOUNTiNG REV. 83 (Jan. 2(08).
32 See additional detail on accounting issue categories and classific.ltions in Section III.C and in Appendix A.
33 M is working ro l:xpand their d,lf,lba~e w include ncr income cft(:((~. Preliminary Jata for companil',) rr.lJing on major
years of this study. However these darJ were nor av,\ilahll' at the rim<: th<:,\c Jn~dyse,\ were perf()ff1lcd.
.--------~-.

The Department of tIll' Treasury

April 2008

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----

exchang<.:~ arc reccnrly av,lilablc f'or the last two

-~

-

--

--._-._-------

12

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

_

Table

1

I

1997-.2006

Incidence of Restatements with Severe Characteristics

All restatements:

1997
90

1998
119

1999
224

2000
205

2001
484

2002
640

2003
847

2004
979

2005
1,468

2006
1,577

Total

71
79%

84
71%

117
52%

159
78%

435
90%

570
89%

755
89%

865
88%

1,353
92%

1,397
89%

5,806
88%

79
66%

110
49%

158
77%

304
63%

426
67%

540
64%

570
58%

889
61%

809
51%

3,953
60%

30
25%

33
15%

50
24%

39
8%

59
9%

28
3%

18
2%

36
2%

31
2%

350
5%

Restatement characteristic:
count
Incomedecreasing
percent

6,633

Core
earnings

count
percent

68
76%

Fraud

count
percent

26
29%

Any severe
characteristic

count
percent

78

95

139

185

465

614

818

922

1,405

1,491

6,212

87%

80%

62%

90%

96%

96%

97%

94%

96%

95%

94%

Core earnings
or fraud

count

68
76%

80
67%

120
54%

164
80%

307
63%

435
68%

545
64%

571
58%

895
61%

813
52%

3,998
60%

percent

Overall, 88% of restatements reduce income, the others either increase previously reported income or have no income
effect. The latter includes reclassifications, footnote disclosures or EPS calculations. In early years of the study, more than
70% of restatements decrease income, except for a dip in 1999. Recall, restatements of improper IPR&D write-offs in
this year increased reported income. Beginning in 2001, the percentage climbs to about 90% where it remains for the
rest of the study period. l4
Fraud restatements have an overall frequency of 5%. Although the number of frauds has remained fairly consistent
across time, significant growth in the number of non-fraud restatements means that fraud restatements have declined as
a percentage of all restatements across the study period. However, identification of fraudulent misstatements depends to
some degree on SEC AAERs. So, it is likely that the number of known frauds will eventually increase for later years, as
on-going enforcement actions are concluded. This is particularly true for restatements due to stock options backdating,
which are mainly announced in 2006. Nonetheless, this may not have much effect on the overall percentage trend. 35
Sixty percent of restatements affect core earnings accounts. The number of restatements involving core earnings has
increased more than ten-fold over the decade; however, the percentage decreased in later years of the study, particularly in
2006. Accounting issues are addressed in greater detail in Section m.e and in Appendix A.
Since a high percentage of restatements decrease net income, the overall percentage of restatements with anyone severe
characteristic is 94%. This percentage is higher in later years of the study as the number of income-decreasing restatements
increases. However, if only fraud and core earnings restatements are considered, the overall percentage with either one of

34 The frequency ofincomc-dc(n:"l~ing rc-,,{arl'mCIH~ ditfcr~ \ignillc<Intly acro~~ years, ,mJ i~ ,'o,igniMCJllrly lower from 1997-2000 than in later yean, even excluding IPR&D
rest'temenrs (Chi-square p-values < .00 I J.
35 As ofJ,nuaty 2008, rhe SEC web sire lists less than twenty companies with AAERs related ro stock options hackdaring. See hrrp://www.sec.govlsporlight/optionsb.lckdating.htm.
A few of these do nor appear to be rebted to restatements announced In 2006. In 2006, 100 res('![emenrs involved stock options backdJting. fraud frequency differs signihcanrly
across study years (Chi-squ,lfe p-y,lluc < .00 I J.

The Departl/lent oftllc

Tre(/Sllrlj

I April 2008

1.3

I 1991-Zoo6

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

these items is 60%. Furthermore, this percentage has decreased significantly, although not consistently, over the years of
the study. For example, in 1997, 76% of all restatements involved fraud or core earnings; by 2006, the percentage was
only 52%}(' This decrease in the relative number of restatements involving fraud and core earnings accounts suggests the
frequency of severe restatements has declined even as the total number of restatements has increased.

c. Accounting Issues
Ascertaining the accounting issues underlying these restatements can be difficult. Some companies describe errors
by account (e.g., revenue is overstated), others by the nature of the error (e.g., improper accounting for employee stock
options). It is often unclear how the latter descriptions tie to specific financial statement elements, and thus it is not
possible to consistently code by specific account. Also, most restatements correct multiple errors across several financial
statement e1ements. r Finally, the 1997-2000 restatements are classified using a somewhat different scheme than that
provided by M. The following analysis should be considered with these caveats in mind.

Accollllting Isslle CI([ss{fic([tiolls
Restatements are classified into four groups based on their relation to financial statement elements and expected
significance to financial statement users. Appendix A provides greater detail on the categories and classifications used in
the study. The groups, in order of expected significance to users, are:
• Revenue Recognition: These are restatements involving revenue. Revenue restatements are associated with
more severe consequences in prior research, suggesting they are highly significant to financial statement users.lX
• Core Expenses: Core expense restatements correct accounting related to companies' on-going operating
expenses. These include restatements involving cost of sales, compensation (including stock-based), lease and
depreciation costs, selling, general and administrative expenses, and research and development costs. Together,
revenues and core expenses determine a company's core earnings, which are thought to be more relevant to
users than non-core earnings. l ')
• Non-Core Expenses: Non-core expense restatements correct items that affect net income, but do not arise
from on-going operating activities. They include accounting for interest, taxes and derivatives. This group
also includes corrections of non-recurring transactions or special items. Examples are misstated impairments,
contingencies, gains and losses. Restatements arising from consolidations, acquisitions, reorganizations and
activities of foreign subsidiaries are also included here, if the specific accounts affected are not identified. 40

36 The frequency of restatements with any severe chdracrerisric differs significantly across years, whether con~iderillg all three characteristic-. or just core earnings and fraud

(Chi-sgu.Jre p-values < .0(1).
37 Often one issue trigger\) the restatement decision, and other miS~[dtemerH.\ arc identifled d.IlJ corrected during the invc.;;tig.ltion. It Illay he dldr a ponion of thc.\c .\uh"cquendy
identified corrections would nor have individually warrJIHed rcs(a(emellt. In faer, some companie~ explicirly ~rJ(e as much. However. i( is often not possible
(he driving issue, and it cenainly is

!l0{

feasible for such

.1

to

confidently iJenrif).'

large numher of resr.Hcmen(s. For funher analysis of underlying accounting issues during rhe Iarer period of [he I)(udy, see

Marlene Plumlee and Tni Lombardi Yohn. All AII"IYJL< ojthe Undcr/YlIIg CawcJ a/Restfl/l'Il/ems, (Working Paper Series, 2008), avaibble at htrr:ii"rn.comiabstra([~ II 0418,) .

.,8 Sec Cristi A. (;le3son, Nicole -nlOrne Jenkin; and W. Bruce John;on. flie Conttlgion Elfi·c!.< oj'A((rl/tl/tilig ReJtatmll'Ylts. 83 ACCOUNTINC REV. 83 (jan. 200S). ZoeVo nna Palmrose and Susan Scholz, The C.iYClIrmtfltu{·s dlld Legal COlISeqlll'nCl's oj'i\rlll-GAAI' ReportillX: Evidewe /rom Restatements, 21 CONTEMPORARY ACCOUNTING RESEARCH J.)') (Spring 20(4). Zoe-Vonna Palmrose, Vernon J. Richardson and Susan Scholz, DctCTnllllflllts rJ/Market RefictiollS to RNatemertt AnnolmalJu'lIts, 37
JOURNAL OF ACCOUNTINC AND ECONOMICS )') (Feb. 2004).

39 See Joseph H. Golec, K.miaryna Salavei and John P Harding, Do Investo/1 SCI' lhrollgli Mistakes 111 Reportcd Earn;nxs' (Working Paper Series, 2008), available at http://ssfll.com/
abstract= I 092256.
40 Restating

to

correcr the ,lCcotlIlting for cOllsolid;.niofls, acqui'd(ions, reorgani7.ations and Jclivirirs of foreign suhsidiaries

accounting issue is identihed for abollt 500 rc.'>tatemenrs Jrtrihurcd

The Departmellt oj the Tre(/sury I April 2008

(0

Olll' of rhe.l.c re.lsoI1S.

I1Ul'

JHcct nlJny accounts. However, no other

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

• Reclassification and Disclosure Issues: Reclassification and disclosure restatements likely do not affect net
income at all. They include restatements to reposition balance sheet, income or cash flow statement line
items. This category includes reclassification of debt as long-term or current. Disclosure restatements rypically
revise footnote information. Corrections of earnings per share due to problems other than net income are also
included here.
In Figure 7 and Table 2, each restatement is assigned to one of these four groups according to the most severe element
of the misstatement. That is, any restatement involving revenue is classified as a revenue restatement whether or not any
other accounts are affected. A restatement involving core expenses, but not revenue, is included with the core expense
group, and so forth. Figure 7 shows the distribution of these four types of restatements across the study period.

•

Figure 7

Financial Statement Elements Affected by Restatements
I,XOO
1,600
1,400
1.200
1,000
800
600
400
200
0

~

iiiiI

~

~

1997

199X

1999

2000

• Revenue total

=

1.314

0 Core expenses total

=

2001

2002

2003

2,639 0 Non-core expense total

=

2004

2005

2006

2,202 0 Reclass & disclosure total

=

478

Numbers and percentages underlying Figure 7 are provided in Table 2, along with selected sub-groups. Sub-groups
are restricted to restatements within each classification. That is, a lease restatement noted in this table may also affect
other core expenses, but it cannot affect revenue. Percentages are based on total restatements reported in the bottom line
of each column. Additional sub-groups are reported in Appendix A.

The Department of the Treasury I April

2008

15

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

•

Table

2

I

1997-.2006

2006

Total

Financial Statement Elements Affected by Restatements
1997

Revenue
Percent of total

1998

1999

2000

2001

2002

2003

2004

2005

37

56

56

90

123

154

208

204

213

173

1,314

41%

47%

25%

44%

25%

24%

25%

21%

15%

11%

20%

Core expenses

31

23

54

68

181

272

332

366

676

636

2,639

Percent of total

34%

19%

24%

33%

37%

43%

39%

37%

46%

40%

40%

0

2

3

I

23

47

83

80

293

86

618

0%

2%

1%

0%

5%

7%

10%

8%

20%

5%

9%

5

0

4

4

48

67

85

94

159

254

720

Percent of total

6%

0%

2%

2%

10%

10%

10%

10%

11%

16%

11%

Non-core expenses

18

38

112

40

155

181

246

326

474

612

2,202

20%

32%

50%

20%

32%

28%

29%

33%

32%

39%

33%

9

9

6

9

48

55

64

91

179

262

732

10%

8%

3%

4%

10%

9%

8%

9%

12%

17%

11%

I

4

II

6

24

32

53

60

81

84

356

1%

3%

5%

3%

5%

5%

6%

6%

6%

5%

5%

I

I

2

3

19

17

53

66

99

89

350

1%

1%

1%

1%

4%

3%

6%

7%

7%

6%

5%

0

0

0

0

14

19

10

18

37

49

147

0%

0%

0%

0%

3%

3%

1%

2%

3%

3%

2%

4

2

2

7

25

33

61

83

105

156

478

Leases
Percent of total
Employee options

Percent of total
Debt and interest
Percent of total
Asset valuation
Percent of total
Taxes
Percent of total
Derivatives
Percent of total

Reclass & Disclosure

4%

2%

1%

3%

5%

5%

7%

8%

7%

10%

7%

Balance sheet

0

I

I

3

13

20

30

36

36

46

186

Percent of total

0%

1%

0%

1%

3%

3%

4%

4%

2%

3%

3%

0

0

0

0

2

I

8

25

45

86

167

0%

0%

1%

3%

3%

5%

3%

484

640

847

979

1,468

1,577

6,633

Percent of total

Cash flows
Percent of total

0%

0%

0%

0%

Total restatements

90

119

224

205

Revellue
Revenue recognition is a factor in 20% of all restatements over the study period. However, the relative frequency
of revenue restatements has declined from about 40% in the early years of the study to 15% in 2005 and 11 % in
2006. Other than 1999, with its high percentage ofIPR&D restatements, the most noticeable shift is from 2000
to 2001, when the percentage of revenue restatements drops from 44% to 25%. This is after the technology bubble
ended, and not long after SAB 101 was issued in December 1999. As technology companies tend to disproportionally
restate revenue, and SAB 101 clarified acceptable revenue recognition practices, it is likely that both played a role in the
reduction.

Core Expel/ses
On the other hand, the frequency of restatements affecting core expenses has remained more consistent over the
study period. The latter years of the period are fairly close to the overall average of 40%. But in absolute numbers, these
restatements have increased dramatically, from 31 in the first year of the study to the mid-600s in both 2005 and 2006.
Thus, a significant portion of the increase in overall restatements is due to corrections of these accounts.

The Department of the Treosurlj I A/Jril 2008

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

As noted previously, some of the increase in 2005 and 2006 is due to two specific issues: accounting for leases and
employee stock options. In 2005, roughly 20% of the core expense restatements involve lease accounting. 4l In 2006,
16% involve stock-based compensation. Of these 254 stock-based compensation restatements, only 72 (28%) are
attributed solely to stock options backdating.

Non-Core Earnings Isslles
Non-core expense restatements have an average frequency of 33% for the study period. Again, the absolute number in
this group has increased dramatically in the last few years of the study. The sum of such restatements in 2005 and 2006
(1,086) is nearly equal to the sum over all the other eight years (1,116). The increase is attributable to several issues. Debtrelated restatements grew to 12% of all 2005 restatements and 17% of all 2006 restatements. 42 Restatements involving
asset valuation issues, including misstatements of impairments of goodwill, intangible and other assets, have also increased
in recent years, as have restatements related to taxes. Each of these represents about 5% of all restatements. Derivative
restatements are a recent development, and appear to account for a relatively low percentage of restatements overallY
However, some of the interest-related restatements noted above may involve derivative instruments.

Reclassifications ({nd Disclosll re
The incidence of reclassification and disclosure restatements began to increase in 2003. There is an additional jump in
2006, which appears to be related to an uptick in cash flow statement reclassifications.

Underlying CirCltlllstallces
Data also indicate if misstatements arise from a few specific underlying events or circumstances, including consolidations,
acquisitions, reorganizations or activities of foreign subsidiaries. These restatements can affect numerous accounts, and where
possible are classified with the affected financial statement elements. Therefore, they are not broken out separately in Table 2.
Acquisitionslreorganizations are noted as a factor in 17% (1,127) of all restatements over the study period. These
issues tend to be found in the earlier years, particularly the IPR&D year of 1999. It appears that about 39% of these
restatements affect core earnings (revenues or core expenses).
Consolidation errors are noted as a factor in 8% (514) of all restatements. Consolidation issues are more likely to be
found in 2003-2005. This concentration is likely associated with misstatements associated with accounting for variable
interest entities. Financial Accounting Standards Board (FASB) guidelines related to these entities became effective in
44
2003. Following adoption, some companies did not apply these guidelines correctly. About 32% of restatements
arising from problems with consolidation affect core earnings. 4 )
M data indicate that accounting for foreign subsidiaries is an underlying factor in 8% (509) of all restatements from
2001-2006. These issues are more equally divided between core and non-core items: 54% affect core earnings. This category
is not available for 1997-2000 restatements, but it appears to be fairly evenly distributed across other years of the study.

41 The frequency for

IC,I'iC n.'SlJlCIlH.'I1{S

depends

Oil

how dcprcci,lIioJl

I"C"i(JrClllcfltl)

Jrc cLlssiflcd. As notcd in Appendix A, AA 'ipcciflcs that

Il1JIlY

of the

rCS[,I(cmCI1(~

iT c1ds-

sifles as depreciation related Jfe due [0 the depn:ciJtion effects of (.orn.:'C(ing ll'a~e <lCtounring. lhe lower end of the rangt: (14<:>;0 of all 2005 restatements) Jssumes none in
the depreciarion c.negory .In.: ICl~e reLw:d; rhe higher end, lI\cd here, aSSllme~ ,Ill arc.

42 This does nor include reciassifi(Jtions of debr between currell[ ,mo long-term. It ooe\ include inrereq is~ue\ associated with hcnefici.Il features of cnnverrihlc srock.
43 FASB Statement No. 13.3. A(colilltingjor lJ/'riIJdtiv{' IlIStrumclits fllld Hedgillg Activitin, fin,llly became dfective for fivcal quarrel" beginning after June .10. 2000, available
at http://72.3.243.42/'t/sratm/;r,ltpgI53.vhrml.

44 Sec FASB Intcrpretation No. 46, Como/id,ztwn oflltmllb/e Iml'reJ't
45 FrequenCies differ significantly horh across years and between

- - - - - - - - - ------

COfC

EII/ille;

(revived Dec. 20031. available at hrrp:llwww.fJ.b.org/fin4Gr.pdf.

and non-core earnings itenv.. f<')r consolidations and

acqlli~irionlreorganizJ.tions (Chi-square.: p-vJlue,.., < .0(1).

---

The Department oj the Tre({sury I April

2008

17

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1991-.2006

Accollntillg ISSllCS SUlIlIIwry
The absolute number of all four financial statement elements (revenue, core expenses, non-core expenses and
reclassification and disclosure issues) has increased over the study period. However, the increase is not evenly distributed.
While the number of revenue restatements reported in 2006 is more than four times the number reported in 1997, the
number of core expense restatements is more than twenty times higher, non-core expenses thirty-four times higher, and
reclassification and disclosure issues are thirty-nine times higher, although only four such restatements were noted in 1997.
Thus, the proportion of accounting issues has shifted across the decade. Most noticeably, the proportion of revenue
restatements decreased in recent years, while the proportion of non-core expense restatements has increased. 4(, Again,
these data are consistent with a shift to less severe restatements in later years of the study.

D. Number of Periods Restated
The period of time corrected by the restatements varies from one quarter to over sixteen years. The overall average
is just under one year and three quarters, 1.71 years, where a quarter = .25. The median is one year. Table 3 shows the
average number of years corrected in a restatement increased from less than 1.50 years through 2001 to more than 1.50
years from 2004 to 2006. The intervening years of 2002 and 2003 average approximately 1.50 misstated years.
The year with the longest average restated period is 2005, at 2.02 years. This is largely due to lease restatements, which
tend to correct long-standing accounting practices, and so involve significantly more years than other accounting issues. 47

-

Tablc 3

Years Restated per Restatement Event

Number of restatements

1997
90

1998
119

1999
224

2000
205

2001
484

2002
640

2003
847

2004
979

2005
1,468

2006
1,577

6,633

Years restated:
Average
Median

1.35
1.00

1.43
1.25

1.40
0.75

1.26
0.75

1.28
1.00

1.47
1.00

1.52
1.00

1.67
1.00

2.02
1.75

1.92
1.00

1.71
1.00

Quarterly-onlyfinancials:
Percent of total

44
49%

46
39%

118
53%

109
53%

179
37%

213
33%

260
31%

281
29%

306
21%

461
29%

2,017
30%

Total

Overall, 30% of restatements affect less than one year. That is, only quarterly (interim) financial statements are
affected. This is important because auditors review interim financial statements but do not audit them. As might be
expected from the increase in restated periods noted above, the proportion of quarterly-only restatements has declined.
It is about half of all restatements through 2000, and drops to about 30% by 2003. The lowest percentage is found in
2005 (21 %). Again, this is due to the lease restatements in that year.

46 FreqUCIlcies differ significantly aeros; ye,m for ali f()lIr cLmificarions (Chi-s'lll,l[e p-vailles < .001).
·or
47 Mean d Irrerences
across

year~

. '/i"Jllr , ,'1lld Ie <.Ise I'esr'l[emenrs
affeer •sianifi(Jntiy
(t-test p-values <
,Ire slgnl....
.,
.
b
- more periods rhan other tvpes
,

The Department of tlie Trcosrtrl; I April

2008

.001 J.

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

IV.

I

1997-.2006

CHARACTERISTICS OF RESTATING COMPANIES

The next stage of the analysis requires information about the restating company including exchange, industry, and basic
financial data (assets, revenue and net income) around the year of the restatement announcement. These data are obtained
mainly from the Compustat database. AA also provides this information for many companies in its database (AA obtains
its data from Edgar On-Line). Basic financial data are available for 4,923 (74%) of the initial 6,633 restatements studied
in the first stage of the analysis. 4x
The distribution of companies with and without available financial data is shown in Figure 8. Most restatements lacking
basic financial information are found in later years of the sample. Financial data are available for over 90% of restatements
from 1997-2000, decreasing to 63% in 2006. The 4,923 restatements remaining in the analysis are made by 3,464 unique
companies. The number of restatements per company ranges from one (2,427 companies) to seven (two companies).

_

Figure 8

Distribution of Restatements with Basic Data Across Study Years
I,ROO
1.577

1.600

1.46X

1.400
1.200

1,10

1,000

X47
750

800

640

600

4X4

4(X)
200
0

9lJ2

979

216224
90

114119

DO

DO

1997

199X

~I

IX7205

DO DO
1999

o Restatements" lth

2000

DO DU
2001

2002

~~ ~
2003

2004

2005

2006

financial data total - 4,923 0 All restatements - 6,633

A. Profile of Restatements Lacking Financial Data
Exchange membership is unknown for 90% of the 1,710 restatements lacking sufficient data for further analysis,
suggesting these companies may not have been publicly traded at the time of the restatement. This may be pardy due
to the nature of the entities; they include a number oflimited liability corporations, limited partnerships, private equity
holding companies, funds and trusts. Some of these restatements amended pre-effective date, or S-Series, forms.49
Companies that exit the analysis tend to be very small. For the limited number with asset data available, the
median asset balance is only $2,2 million. These restatements tend to correct shorter periods and involve fewer revenue
restatements than those remaining in the analysis. '11

48 CompusrJr

i~ a produ({ of SundarJ & Poor\;. It is rhe primary .0000UfC(, of fill,tncial inform,uion for most rC'lcarch in

Jcc()ullring ,lnd finance. It include'! oYer 20,000

companies - both currently J([ive companks Jnd rho~c no longer extant. On Jverage, CompustJ.t has asset information for over <J,DDO U.S. companies
the srudy. Companies not included in the Compu~tat (btJ.ba~e tend ro he very '1null Of otherwise unusual.

OVef

public

the years of

49 These are the SEC f'lrm, filed by companies prior to their initl,ll public offering.

50 The study uses data available from either Compustat or AA. 11,e medi,lIl asset b,li.lIlce is based on 694 comp,lIlies that exit the an,llvsis due to unav,lilable exchange ,bta.
Tht: mean fCStJrcJ pcrioJ fOf comp<lnic!:l with hnanciJI J,n,l b signihclI1tly longer, 1.82 ),CJfS. cornp.1n:~ to 1.3H )'C'l~~ for.rhu!:Ic w~rh.ollt (t-~(J.ti.'1tic p-v,tluc < .(01). 'Ihe frequency of revenue restJtements is significantly higher for compallie~ with datJ, 22 0/0, compared

The Depart/IIGllt ({the

Trc({sllrlj

April 2008

to

13<J'o for COmpal1le~ wlthollt (CI1l-square p-value < .00 I).

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

B. Industry Membership
Focusing on the 4,923 companies with basic financial data, Figure 9 shows the proportion of restatements reported by
each industry across the decadeY Figure 10 shows the accounting issue classifications for the five industries with the most
restatements, plus all others. In Figure 10, non-core expenses and reclassification and disclosures issues are combined due
to relatively low frequencies in the latter group.

_

Figure 9

Industry Membership of Restating Companies Across Study Years
100':;',
90~/o
~O(!;J

o Unk.nown

70%

10 Biotechnology
• Service

60%

o FIIl<IIl(" l<l I

50°/;)
I

40°;;,

OlJtllJll(:S
I . ComlTIullu.:atioll

30%

10 TnlllspurtatJOn

20%

'0 Technology

10%
0'"10

'-

1997

-

Figure

10

I!J WhuicsJ.h.:/Rl'tad

199X

1999

2000

200 I

2002

2(0)

2004

2005

iii

Manul~lcluring

o

AgliculLun:

2006

Accounting Issue Classification Frequency by Industry
1,600
1,400

1,200
1.000
44°1t1

xoo
600

311~,;.

42%

51f%

400

39%

304%

34%

56(%

29%

200

40%

19%

o
Manufacturing

Technology

o Revenue

33%
16%

27%

Financial

Service

140/.

Wholesale/Retail

37%

19%

Other

0 Core expenses 0 Non-core expenses & reclass itications

Figure 9 shows industry proportions tend to be fairly consistent across the study period, The technology industry is an
exception, as it declines from 20%-30% of restatements in early years to around 10% in later years. As shown in Figure
10, the technology industry tends ro have a higher proportion of revenue restatements, 40% compared to 22% overall.
The decreases in both revenue and technology industry restatements in 2001 occur at the end of the technology bubble,
This is also subsequent to the issuance of SAB 101, which was issued in December 1999 to clarifY revenue reporting rules.

51 Standard rndu~(rial Classificarion (SIC) codes underlying {hc\c inJu\(ry groups ,1I1Q rable. . reporting the counts and percenrages underlying the figures arc presented in Appendix B.

The Departllte1/t of the Treasury

A/lril 2008

20

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1991-.2006

Another industry with inconsistent proportions is the wholesale/retail industry, whose restatements spiked in 2005 due
to lease restatements. This is also reflected in the relatively high proportion of core expense restatements for wholesalelretail

in Figure 10. Another distinction is found in the financial industry, which has a higher proportion of non-core expense/
reclassification restatements. 1hese are driven by derivative-related issues, most announced in the last two years of the
study. Of course, it is possible that for financial industry companies, some of these derivatives pertain to core, rather than
non-core, operations.
Considering other restatement characteristics, utilities, wholesale/retail and services tend to report more incomedecreasing restatements, while technology companies report more income-increasing restatements than expected. IPR&D
restatements are largely responsible for this association. Fraud also varies across industries. The technology industry tends
to have more fraudulent restatements; the financial industry, fewer. 52

C. Exchange, S&P 500 Membership and Accelerated Filer Status
Sixty percent of the restating companies with basic financial data trade on a major exchange, as shown in Table 4. This
percentage is fairly consistent over the years. The years with highest percentages, 65% in 1999 and 66% in 2005, coincide
with the IPR&D and lease restatement years. The higher percentage in 2005 is also associated with accelerated filers
issuing initial ICFR reports. 51

-

Exchange and S&P 500 Membership of Restating Companies

Table 4

1997

1998

1999

2000

81

114

216

187

NYSE

13

16

49

AMEX

5

4

4

24

34

88

Total number of
restatements

2001

2002

2003

2004

386

468

623

750

1,106

992

4,923

26

70

108

143

173

298

185

1,081

5

20

21

45

56

79

77

316

62

106

142

186

236

357

333

1,568

2005

2006

Overall

Excham!e:

NASDAQ Nat'l Mkt.
Total maior exchange
% Major exchange
OTe

42

54

141

93

196

271

374

465

734

595

2,965

52%

47%

65%

50%

51%

58%

60%

62%

66%

60%

60%

9

22

22

30

81

77

110

119

193

257

920

Other

30

38

53

64

109

120

139

166

179

140

1,038

Total non-major exchange

39

60

75

94

190

197

249

285

372

397

1,958

48%

53%

35%

50%

49%

42%

40%

38%

34%

40%

40%

3

3

18

7

18

37

26

41

68

58

279

4%

5%

8%

4%

5%

6%

6%

6%

1%

4%

7%

5%

8%

14%

12%

nla

54

% Non-major exchange

In S&P 500:

Percent of restating

4%

3%

8%

Percent of 500

1%

1%

4%

52 Djfferences across industries be(Wcen accounting issue GHegories. Income increasing vs. income decrt'.l:..ing and fraud JfC all .'!t~lti~(ically significant (Chi-::.qu:uc p-values < .0(1).
53 Acceleratcd filers and companie" restaring lease ~lcc()uJHing Jnd corrcuing IPR&D wrire-off" are significandy more

likely [() trade on a major exchange than are other

companies (all Chi-square p-values < "DOl)"
"d
1 tot"11
54 Co mpames
rfa"mg over t h"
c.: counter (0"1"")
L '""l"lud". . ,
.

()f"

Regional exchanges afe included in the "other" category.

------------------------

The Department oj the Treasury I April 2o()8

'64 .'"oml,"nics
cla;;ihcd b\'
....
. AA as NASOA('
-<- Small Cap" "Ihis cltc"orv
t'I
' is not l,rovidcd b\'
• Compllstat.

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

As another indication of company size and influence, Table 4 indicates the number of restating companies that are
members of the S&P 500. Overall, 6% are members. The highest percentages of restating S&P 500 companies are in 2005
(14%) and 2006 (12%). Higher numbers in 2005 appear to be partly due to restatements by accelerated filers implementing
SOX Section 404 ICFR. 1he higher percentage in 2006 is related to companies restating for stock options backdating. 55
Results for exchange and S&P membership suggests ICFR-accelerated filers alter the profile of restating companies
during years they implement SOX Section 404 reporting. To assess the ICFR implementation effect, Table 5 compares
the frequency of restatements announced by companies identified as accelerated filers during the ICFR era, 2003-2005,
to the years before and after the ICFR implementation period. Fifty percent of all restatements in the analysis (2,479 of
4,923) are announced during the ICFR implementation period, and accelerated filers file nearly half of the restatements
during the ICFR implementation period. By comparison, the companies that were later designated accelerated filers were
responsible for only 33% of restatements prior to the ICFR implementation period, and 40% the year after the ICFR
implementation period.)I, See Appendix C for additional analysis of the ICFR effects.

-

Table 5

Comparison of Accelerated Filer Restatement Rates

All restatements announced
Accelerated filer in 2005
Percent of restatements by accelerated filers

Pre-ICFR
Implementation
1997-2002
1,452
481
33%

ICFR
Implementation
2003-2005
2,479
1,156
47%

Post-ICFR
Implementation
2006
992
396
40%

Overall, these data indicate that typically; very few of the companies that restate are members of the S&P 500, and about
half do not trade on the major exchanges. The exceptions to these generalizations occur when there is a focus on a specific
accounting issue (i.e., IPR&D and leases) or when larger companies are under particular scrutiny (i.e., ICFR implementation).

D. Size and Profitability
For restating companies, average assets are $5.25 billion. As shown in Figure 11, average assets for restating companies
increase each year through 2005, leveling off in 2006. To provide context, average assets for all Compustat companies in
each year of the study are also provided. 57 Restating companies are a little smaller than Compustat companies from 19962001; and a little larger than the average Compustat company each year thereafter. However, differences between restating
and Compustat averages are not statistically significant in any year. 58

te,r

55 Accelerated filers and companies restating
stock option; b.lckdating arc signifiCJntly more likely than other restJting companies to he l11embers of the S&P SOO (Chisquare p-valut's < .00 I). However, compJnie~ res[aring icJ.sc accounting are nor.
56 Accderated filer restatement rates during ICI'R implementation are significantly higher than both hefore and after this period. (Chi-square p-values < .001.) See Appendix
C for additional aluiysis of ICFR implementJtion effects.
57 When possible,
announcemenr.

J.~S.C[S Jfe meJsured ,I( the fl ...,cli yell' end prior [0 (he announcement, to provide the ~Jme perspective on the company that invc\)tors had
If rhi.\! is not JVJil,lhlt:. ,l~~er..., frum the f()llowing yc,lr arc suhstirut<:d.

Jt

the time of the

58 T-tcsts comparing average assets br Compust.H and restJting comp,lllic'l .Ire not I)ignificallt J( ~hc .10 p-valuc level.. Slight c~Jng~s in rhc c.omposirion of eJch group
change the pattern in Figure II. Cornpustat cornpanic, identified J' Arneriun deposiw"y receipts (ADRs) are not IIlcludcd Itl thIS cornpaflSon. If ADRs are added, average assets of restating companies are smaller than Compusr.lt comp,lIlies each year. Re~rJtlng company averages ,ue al~o smaller If the 694 restating compamc.\ tor which
assets are known. hut other OJsic data arc unavailable, J.rc included.
- - - - - - - - -

The Departmellt of the Treasury I AJiril2oo8

-----

~~------------

22

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

_

Figure

I

1997-.2006

Average Assets for Restating and Compustat Companies ($B)

11
$R
$7

6.0

$6

5.5

$5
$4

$3

...

1.9

$2

U
.8

$1

$0
1997

199X

1999

~

2000

2001

2002

2003

2004

2005

2006

Restating C==:J Compustat - - Restating Trendline - - - ,Compustat Trendline

Median assets for restating companies are $177 million. Trends across study years are shown in Figure 12. Years when the
difference between the median restating and Compustat companies are statistically significant are indicated with an asterisk. 59
Through 2001, restating companies are typically smaller than Compustat companies, except for the IPR&D year of
1999. Beginning with 2002, median assets of restating companies increase, and are similar to Compustat companies
through 2005. This period of increasing restating company size begins the year of well-known accounting scandals, the
enactment of SOX and intense focus on the accounting profession. It continues through the ICFR implementation period
(2003·2005) and lease restatement year (2005), as companies involved in ICFR implementation and lease restatements tend
to be relatively large. By 2006, restating companies' median assets drop to nearly pre-2002 levels, while Compustat assets
continue to climb.

-

Figure

12

Median Assets for Restating and Compustat Companies ($M)
S300

274
24R

S250

237

l30

235

..

19R
196 171

S200
156

SI50

177 156
._

130

113

o 0 .~ ~~ 0
110

96

SIOO
$50
$0

67

- - - iX-

1997

1998

1999*

lOOO

2001 *

2003

2004

2005

2006'

c=:::J Restating c=:::J Compustat --Restating Trendline - - - ·Compustat Trcndlinc

59 Differences between resrating Jnd Compustat companies assets ate statistically significant in 1999 ,1Od 2002, when rest,tting companies ,He significantly larger, and in 2001
and 2006, when restating companies aft' ~ignihcJnrly ,)In,tller. -nle.'!e re~lIlr~ dre ba~t'd on non-r·lramerric rests. Z-:;,core p-v,llucs for ... ignincanr year.'! are < .001, excepr 20()2
where the p-valuc is .06.

The Department oj the Treas1lry I A/Jril

200f)

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Average revenues for restating companies are $1.65 billion and median revenues for restating companies are $127
million. Patterns and inferences from revenue trends across the study period are similar to assets. (See Appendix D.) Like
assets, median revenues for companies announcing restatements drop to pre-2002 levels in 2006.
Regression analyses are reported in Table 6. They test for significant associations between restating company assets (first
column) or revenues (second column) and restatement characteristics.('() Statistically significant restatement characteristics and
their relation with restating company assets or revenues are noted in the "significant association" column with these symbols:

• As restating company size increases, the characteristic tends to increase or appear: +
• As restating company size decreases, the characteristic tends

to

decrease or disappear: -

If the restatement characteristic is not associated with differently sized companies, the cell is left blank. In considering
these results, it is important to remember that nearly one-quarter of all restatements cannot be analyzed here because of
unavailable data, and the companies lacking available data tend to be much smaller than those remaining in the analysis.

-

Table 6

Regression Analysis of Restating Company Size and Restatement Characteristics
Restating company assets
Significant
association
Coef.
p-value
t-stat.

Number of years restated

+
+

Income decreased
Revenue restated

+

Fraud

Core expenses restated:
Cost of sales
Leases
Stock-based compo
Other operating expenses
Non-core items restated
Debt and interest
Derivatives
Asset valuation
Taxes
Reclass / disclosure
Underlying circumstances
Acquisition / reorg.
Foreign subsidiaries
Consolidation

.85
.38
-.43
.19

5.78
16.71
-4.13
2.07

.00
.00
.00
.04

.04

.37

.71

-

.42
-.33
-.23

3.53
-2.90
-3.06

.00
.00
.00

-

-1.70

-17.41

+
+
+
+

1.48
.35
.63
.36

7.86
3.14
5.35
4.13

.00
.00
.00
.00

-.12
.36

-1.24
2.76

.22
.01

.35

2.58

.01

-

+
-

+
+

Restating company revenues
Significant
association
Coef.
t-stat.
p-value
+
.81
6.02
.00
+
.35
16.94
.00
-.31
-3.30
.00
.10
1.16
.24

.00

+
+

-

-

+
+
+
+

+
+

.29

2.76

.01

.33
-.33
-.15

3.06
-3.28
-2.21

.00
.00
.03

-1.60
1.16
.24
.57
.27

-18.02
6.78
2.35
5.34

.00
.00
.02
.00

3.47

.00

-.13
.40

-1.45
3.43

.15
.00

.28

2.33

.02

60 The narurallog of ,lssers and revenues n1t\lSUres is lIsed in rhe regression, (0 bettcr conform Wid: d,ltJ distribution JssUmprioIl: o~ ~he ()L~ reg~cs.sion methodology. A
constant and year and industry indicator variable; arc included in the model. but not reported In the table. Both models are "gndicant: ~-stamtJcs > 50.0, p-values < .00 I.
111<: adjustcd-R~ is .29 for assets and .21 for revenues. Stari . . rical signiflcmce for regres\ion codflcic.:IHS 1<'; oaseJ on p-VJllleS < .10.
~~~~~~~~-

The Department (iftlte Tre(/sury I April

2008

.. -

-

.-~~-----~---

24

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1991-.2006

Whether company size is measured by assets or revenues, relatively larger restating companies are more likely to restate
more years, and the restatement is less likely to reduce income. Larger restating companies also tend to have a higher
incidence of fraud, at least as fraud is measured in this study.
Revenue restatements are associated with increasing size when size is measured by assets, but not when measured by
revenues. On the other hand, cost of sales is associated with increasing size only when measured by revenues. Larger
companies are also more likely to correct their accounting for:
• leases;
• derivatives;
• asset valuation;
• taxes; and
• reclassification and disclosure issues.
Finally, restatements by relatively large companies are more likely to arise from problems with foreign subsidiaries and
consolidations. Several of these associations are consistent with expected activities of larger versus smaller companies. For
example, larger companies are more likely to have complicated transactions involving derivatives, foreign subsidiaries and
consolidations.
On the other hand, smaller companies are more likely to have problems involving other operating expenses, stock-based
compensation and debt/interest. Again, this is consistent with the expected activities of smaller firms, as growth-oriented
organizations are more likely to rely heavily on stock-based compensation and convertible debt financing.

Restating Compol1y Profitability
Restating companies typically are not profitable, even prior to the restatement. Table 7 shows that more than half of all
restating companies report net losses, rather than income in the year prior to the restatement announcement. This effect is
particularly pronounced during 2001 and 2002, the years of economic downturn.

-

Table 7

Restating Companies Reporting Losses for the Year Prior to a Restatement Announcement

All restating companies
Net loss prior to restating
Percent reporting net loss

1997
81
34
42%

1998
114
60
53%

1999
216
118
55%

2000
187
106
57%

2001
386
243
63%

2002
468
291
62%

2003
623
341
55%

2004
750
393
52%

2005
1,106
486
44%

2006
992
500
50%

Total

4,923
2,572
52%

fu shown in Figures 13 and 14, restating companies typically report lower return on assets (ROA) than the average or
median Com pus tat company. There is a steep decrease in ROA for restating companies beginning with the economic
downturn in 2001. The average ROA is particularly low for companies restating in 2006. In Figure 14, the median
Compustat company is profitable each year, but only companies restating in 1997 and 2005 (the lease restatement year)
are profitable. In 2006, the median restating company breaks even despite the very negative average ROA.

The Departlltc1/t iif'the Tre{/surlj

A/Jril 200&

2,5

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

_

Figure 13

I

1997-.2006

Average Return on Assets for Restating and Compustat Companies
1997

0%

199X

~(xJO

DD ~D

DO
-14%15"0

19W

S?,D

_~5(),;.20n;)

-J I '~'O

-37""

~002

2001 '

2003

2004

2005

g
u UQU UQ ~~

2006'

W

I (J6(~'n

-122"-;,

-150~';)

o RCSIJlmg

_

Figure 14

0 CompUS[JI

Median Return on Assets for Restating and Compustat Companies
1997

1998'

ll)l)l)*

2000'

2001 '

2002'

2003'

1004*

2005*

1"-"

1% 1%

1%

DO DO

0%0

2006'

4%
2°u 2"<)

2"1"
OI~,O

2~'lJ

-.flJ,

DO

2~

U

DD
'"

1"-;,

1',-;,

oD

OD

-I""

-2 n,u

1°'0

D0""

U

oC]
0""

-I";,

-1%

-3"-;,

"

-()~'o

-7%

-xo/I)

o Rcstntll1g

o CompllstJt

Regression analyses testing associations between profitability and restatement characteristics indicate that profitability is
not consistently associated with most restatement characteristics. OI

Sllmlllary

4 Size and Profitability Analysis

The average size of restating companies increases from 1997 through 2005. All measures suggest a leveling off or
decrease in restating company size in 2006, relative to both prior years and Compustat companies. In most years, the
average restating company is similar in size to the average Compustat company, whether measured by assets or revenue.
Similar to the analysis of exchange membership and accelerated filer status, years when restating companies are significantly
larger are characterized by specific restatement issues, IPR&D and leases, or the well-known accounting scandal year of
2002. However, by 2006, median results suggest restating company size has reverted to pre-2002Ievels, and are much
smaller than the median Compustat company.
Slightly more than half of all restating companies report a net loss in the year prior to the restatement announcement.
Both average and median return on assets show restating companies tend to be less profitable than Compustat companies.
Few restatement characteristics are associated with profitability.

61 The models rest the restatemenr ch.ltacterisrics shown in Table 6_ Two measures of profitability are considered: ROA, and nct income versus net loss_ Using ROA, no
resrart'menr cl1J.racrerisrio are associated with profitability. Using a logisitic n:gre~~ion model and nct loss
companies {end ro restatc opcr~Hillg expenses, deht/inrcfe.\( ,md asset valuation",.

The Department oj the Treasllnj I April

2()of-j

V.'I.

ncr income, income companies tend

to re~t;lte

more year~, lo~~

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

On the other hand, there are several regularities between the size measures and restatement characteristics. Larger
restating companies are associated with fraudulent restatements and restatements oflonger time periods. In addition,
most accounting issues appear to be associated with company size, some with smaller companies and others with larger.
This suggests that accounting challenges vary with different levels of complexity and scope.

The Department oj the Treasury I April 200H

27

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

V. ANALYSIS

I

1997-.2006

OF MARKET REACTIONS TO RESTATEMENTS

This stage of the analysis focuses on the market reaction to the announcement of a restatement. The market return
in the year following the announcement is analyzed later in this section. To be included in the return analysis, the
company must appear in the CRSP database, and returns must be available at the restatement announcement date. 62
Only 3,310 restatement announcements have return data available, 67% of the 4,923 restatements with basic financial
data and 50% of the initial sample of 6,633. The number of restatement announcements per company ranges from one
(1,786 companies) to seven (one company).
The distribution of available returns and attrition across study years is shown in Figure 15. Again, most of the
attrition is in later years of the study. Returns are available for more than 80% of restatements announced from 19972000, and for 60% to 70% for the remaining years.

-

Figure 15

Distribution of Restatements with Market Returns Across Study Period
1.200
1.106
992

1.000

XOO

750
623

600
46H
3X6

400
20(;216
200
0

69 XI

99 114

~

ILJ

1997

1998

1541~7

IJ IJ
1999

2000

iJ ~
2001

2002

2003

2004

2005

• Rcstatcn~nh with allnounccm:nt n:tums total = 3.310 0 Rcstatcl11Cols with basIc financial data tOlal

2006
=

4.923

A. Profile of Restatements Lacking Return Data
Restating companies lacking announcement returns are significantly smaller than those remaining in the analysis,
whether measured by assets or revenues. They also report smaller profits or greater losses prior to the restatement.
Restatements lacking return data are less likely to involve fraud or affect revenue. However, they are more likely to
decrease reported income. 63

62 CRSP is a database of seemities prices proJucnj by the Univctsity of Chiugo', GraduJte School of Busine". CRSI' is the srock price Jatahase used in most accounting and
finance research. It includes daily prices of all listed NYSE. AMEX and NASDAQ National Market common srocb. More information is availahle at htrp:l/www.crsp.com.
Returns in this analysis are estimated using the Eventlls program; see hrrp://'v\'WW.cvenrstudy.com.

63 Median assets (revenues) for restating companies without return data are $17.4 (S 12.6) million. 11'is (Ompdre,

to medi'lIl assets (revenues) of $3., 1.8 (£224.8) million f()[ the
remaining restating companies. All t-\taristic and Chi-liqudre p-\'J!ue\ for comparisons noted between res(J,ting companies with Jnd without return datJ an: Ie')') than .00 I.

The Departlllellt of the Treasury I April

2008

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

B. Stock Market Returns at Announcement
All returns analyzed in this study are market-adjusted returns estimated over a two-day announcement window,
where the window is the announcement date and the following trading day. For simplicity, this measure is called
"returns."!" Figure 16 shows average and median announcement returns by year.

•

Figure 16

Average and Median Announcement Returns Across Study Period

-lOX'!"

-12%
_ [2 1°"

0;\ vcrage = -2.6(io 0 Median

= -.9(1'0

On average, returns are negative each year, statistically less than zero every year except 2003. However, returns are
much less negative beginning in 2001. Average returns for restatements announced from 1997-2000 are -9.5%, but only
-1.3% for those announced from 2001-2006. (,) To some degree, this may be attributable to relatively fewer restatements
with severe characteristics, as noted in previous sections. However, Figure 17 shows the market reaction to fraud and
income-decreasing restatements also attenuates in 2001. Still, returns are statistically negative for restatements involving
fraud every year except 2004, and for income-decreasing restatements all years except 2001 and 2003. 66

64 Cumulative abnormal returns (CARs) afC calcul.ltcd by subtracting an equally-weighted market rcrufll from rhe individual company's return on each day of rhe: .1Il1l0UllCCmcnt window. 111is gives .H1 csril11.lrL' of the Jaily .lbnornLlI return for rhL' company. 111c abnormal relUrIlS for rhe two <.i.I)'S .lre summed to obtain rhe CAR for rhe
announcement window. '111<: winduw dut'.') nor include rh<: day prior (0 thL' <lI1nuuncement, becaLlse there appear~ to be relarively lirtle reaction on thi~ day, ~uggesting little
news leakage prior ro rhe announcemenr. The window does include rhe Jay after bccllIse announcements arc ofren made afrer market clOlit', so reactions are recorded in
prices the following trading day. 111e window ,lnd methodology ,If(..' con~i'iten{ with prior rescarch in thi~ are,I. RdW return~ .1I1d ahnormal returns e . . . timated u~ing valueweighted market averages arc similar to the CARs analyzed here.

65 T-tests for each year except 200.) indicate returns are significantly less than zero (p-values < .05). Returns from 1997-2000 announcements differ significantly from those
announced from 2001-2006 ((-[cst p-value < .00 I).

GG T-res[s indicate returns for fraud and income-decreasing restatements ,He significantly less than zero in all YCJ.rs except those noted J.oove (one-tailed p-v,llues < .10).
Returns for fraud in 2006 include rdatively few stock options backdating rest.ltements. That is, to d,lte there is no indictment, SEC AAER, or admission of fraud by the
Company for most of these restatements. If all 2006 stock options backdating rest,ltements are assumed to be fraudulent, the average return for fraud restatemelm in 2006
is ~.1%; less severe than the -BIVo average shown here. lllis Illay be due ro the Illarket anticipating some of rhese reSLHemeIHO;; prior to ,1Ilflounccmenr.

The Deparflnellt of tIl(' Tre({s1lry I llpril 2008

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

_

Ficrure 17

I

1997-.2006

Average Returns for Fraud and Income-Decreasing Restatements

b

1997

199H

1999

2000

2001

2002

2003

2004

2005

2006

-15%

• Fraud 0 Incol1lC-dccn:a~ing ,

Figure 18 presents announcement returns for revenue, core expense and all other restatements. Non-core expenses
and reclassification and disclosure issues are combined here, due to small numbers of restatements for the latter group
in some years. The figure shows the market reaction to revenue and core expense restatements is less severe beginning
in 2001. Smaller reactions continue through the end of the study period, although responses to revenue and fraud
restatements appear to increase again in 2006.1>7 Note that in Figures 16-18, the shift in the market response occurs
prior to the well-known accounting scandals and the enactment of SOX in July 2002. This suggests the change may be
attributable to overall economic and market conditions.

-

Figure 18

Average Announcement Returns for Accounting Issue Classifications
1997

-3 '"

/()

DD

19l)X

~D

1999

~D

2000

~D

2001

2002

rD IDD

2003

_DO

2004

10

=

2005

1=0

2006

1

00

• Rcvl.'lltlc 0 COfe expenses 0 NOll-core expenses and rcciass/dlscioslIrcs

Table 8 provides detail behind the returns charted in Figures 16-18. It also provides the median return in each category.
In nearly every year and category, median returns are less pronounced than averages. The most negative returns for each year
and category are also given in Table 8. The restatement with the most negative return affected revenues and fraud in seven of
the ten years, although the years are not the same for each. The overall most negative return, -93%, is the Worldcom fraud
announced in 2002. Although a primary Worldcom problem was accounting for core expenses, the final restatement also decreased revenue. See more detail of restatements with the most negative announcement returns in each year in Appendix G.
67 The average ,lbnornul return en <lnl1ounct'menr for !e.l.l.t' r('\taremc:nrs in 2005 i\ +.002°;i), which i\ nor <.,r.niqically Jifferenr from zero. 111is Ill,})' be reInly due ({) Illdrkt.:t ,1IHicip,niofl

effects.

The Departllwllt of the Treasury I April200H

,30

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

The final rows of the table show that for a minority of companies, returns are positive at the time of the restatement
announcement. About one-third of the returns are positive from 1997-2000, while during the latter years of the study period,
over 40% of the returns are positive. It is unlikely that a restatement is good news, so it is probable that these cases have some
combination of other good news released at the same time and relatively benign restatement characteristics. Without these
positive-return restatements, the average return is -8% overall, -16% from 1997-2000, and -6% from 2001-2006.

_

Table 8 -

Average, Median and Most Negative Returns for Restatement Characteristics Across Sample Period

1997
1998
1999
All restatements with announcement returns
Number
69
200
99
Average
-.08
-.12
-.08
-.05
Median
-.07
-.02
Most negative
-.80
-.92
-.81
Fraud restatements:
20
Number
27
28
-.15
Average
-.27
-.16
Median
-.13
-.19
-.03
Most negative
-.59
-.92
-.76
Income-decreasing restatements:
Number
53
72
98
Average
-.10
-.16
-.12
-.05
Median
-.09
-.04
-.80
-.92
Most negative
-.81
Accounting issue classifications:
Revenue
45
Number
27
48
-.14
-.14
Average
-.20
-.14
-.05
Median
-.15
-.92
-.81
Most negative
-.59
Core Expenses
46
21
Number
27
-.05
-.06
-.09
Average
-.02
-.02
-.03
Median
-.21
-.67
-.80
Most negative
Non-core expenses and other
109
Number
15
30
-.05
-.04
-.04
Average
-.02
-.02
-.05
Median
-.41
-.24
-.52
Most negative
Positive return at announcement
66
19
22
Number
33%
28%
22%
Percent
.06
.06
.07
Average
.05
.03
.05
Median

The Departmellt of the Treaslln; I April

2008

2000

2001

2002

2003

2004

2005

2006

Overall

154
-.11
-.07
-.79

239
-.01
-.01
-.70

309
-.04
-.01
-.93

386
.00
-.01
-.75

507
-.01
.00
-.53

753
-.01
.00
-.64

594
-.01
-.01
-.50

3,310
-.03
-.01
-.93

42
-.17
-.08
-.79

29
-.06
-.02
-.70

39
-.13
-.09
-.93

21
-.10
-.05
-.75

12
-.06
-.03
-.53

25
-.05
-.04
-.64

21
-.08
-.04
-.28

264
-.13
-.06
-.93

122
-.12
-.07
-.79

220
-.01
-.01
-.70

274
-.03
-.01
-.93

338
.00
.00
-.75

429
-.01
.00
-.53

684
-.01
.00
-.64

499
-.02
-.01
-.50

2,789
-.03
-.01
-.93

75
-.16
-.12
-.76

76
-.05
-.02
-.70

98
-.05
-.01
-.93

118
-.01
.00
-.75

125
-.02
-.01
-.53

130
-.03
-.01
-.64

72
-.05
-.03
-.38

814
-.06
-.02
-.93

48
-.08
-.01
-.79

81
-.0 I
.00
-.44

120
-.04
-.01
-.51

135
-.01
-.01
-.65

172
-.01
-.01
-.48

361
-.01
.00
-.21

240
-.01
-.01
-.31

1,251
-.02
-.01
-.80

31
-.02
.00
-.35

82
.02
.00
-.23

91
-.02
.00
-.55

133
.01
-.01
-.57

210
.00
.00
-.26

262
-.01
.00
-.41

282
-.01
-.01
-.50

1,245
-.01
-.01
-.57

44

108
45%
.07
.03

132
43%
.06
.04

170
44%
.08
.03

224
44%
.05
.02

321
43%
.03
.02

231

1,337
40%
.05
.03

29%
.07
.06

39%
.04
.02

31

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

RC(1rt'ssioll
Alloll/sis
of All 1101/ lIet'IIIi'lIt Rctll rIIS
r
..
Regression anal)'sis assesses which restatemenr and compan)' characteristics are associated with more negative
announcemenr returns, while controlling for market trends. Restatemenr characteristics include fraud, whether
reported income decreased, number of years restated, and which financial statemenr elemenrs are affected. Company
characteristics include size, measured by total assets, and profitability, measured by return on assets. Also, there is a
variable that notes if a compan).'s stock price was less than 55.00 the da)' prior to announcemenr."s This is [0 capture
possible liquidity effects, as companies with small share prices are more likely to be thinly traded.
The model also includes a variable to idenrif:' companies that both issued ICFR reportS and restated in 20032005 (SOX Section 404 accelerated filers). This is [0 assess market reaction to restatements that may be due [0 ICFR
implemenration,
Negative reactions may be less pronounced in down markets and more pronounced in periods of greater market
\,olatility."" Figure 19 shows the NASDAQ began a sharp decline in March 2000, not leveling off unril October
2002. The :\YSE began a long decline about January 2001. Therefore, the model idenrifies 0JASDAQ companies
announcing restatemenrs from ~farch 2000 through October 2002 and NYSE companies announcing restatemenrs
from January 2001 through February 2003.

-

NYSE and NASDAQ Indices

Figllre 19

lU.O()()

9.000
~.OOO

Jon-OJ

,"

~.OOO

A.OOO
~Iar-OO

- 'Feb-03

5.000

2.000
OC1-02

JJXXl

u

- - - - :\YSE

:\ASDAQ

Fiome
20 shows the Chicaoo
Board Options Exchange's volatility• index (VIX) over the stud\'• period. It indicates
b
t>
market volatility varied widely over the study period, and is also included in the model.

6S Thcn~ are I.O-t- res[J.[c'nlc'nr5 in [his ~roup L~2('(I ot- .1.3\ 0 '. :\s mifhr he' c'\.pe'Lted. rhesc' (omfunies are signitlclnrl:" \llui!c:r The nleLii,ln rri((' [he JJ;" prior ro the In-

nouncemenr is

S~.2-.i.

69 :\egarive returns may be JrrenuJ.(cd in J down l11Jrkc( hec.lu"e rhe rc:rurn" .',.[udied here Jre .ldju5(cd for m.ukc[ rccurn"
-------~-

The Departlllent (if thc

TrC(/lll

n;

April 2006

~~---

---~.

---

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

There is no control for concurrent news. This approach is consistent with prior research, and is mainly due to
problems with identifYing and categorizing the wide variety of information that might or might not be included in a
restatement announcement or in contemporaneous commentary.711

_

Figure

20

Chicago Board Options Exchange's Volatility Index (VIX) 1997-2006
50
45
40

35
30
25

20
15
10

5
0
r-

r-

OC

OC

..:0:

..=:

t:

oc

oc

x

0-

..:0:

..=:

OC
~

oc
t:

0-

OC

..=:

0

9

]

0

9
::l
~

~

..:0:

9

..=:

<"',
9

9'"

..:0:

..=:

t:

r')

C",

-q-

<r,

9

9

9

9

..:0:

..=:

..=:

..:0:

t:

"

5:
..=:

-0

'5:
~

-0

9
~

Results of the regression model are shown in Table 9. Statistically significant associations are indicated in the
"significant associations" column with these symbols:
• Item is associated with more negative returns: -

• Item is associated with less negative returns: +

The cell is left blank if an item is not statistically associated with announcement returns. 71

70 Market reanion,,,, to restatcment annOUllccmenL<., .lfC fairly similar \vh('(h('r they were revealed in earnings announcements Of not. Sec Zoc- VOl1nJ Paimfosc, Vernon J. Richardson and Susan Scholz, D"tcrminrlllts ofMurkcl Re({ctiof!.( to Rotd/CfIIl'fIl AmIOUrtll'l/IC/1/s, 3710URNAL OF ACCOUNTING AND ECONOMICS 'i'J (Feb. 2(04).
For another swdy that specifically .lddres~e~ the conn:nr of prc\;., annOUIlCeJT1eIH\, set' Eliz,lherh A. Cordon, Elaine Henry, l\.1.1rieru Peyrcheva .InJ Lili SUIl, f)LSdmuft' Credibility lind Markel Rmctuli/ 10 Res/,lIm/t11ls (Working Paper. 20(7).

71 The model is highly signifiCint (F-statistic
counting issue categories Jre relarive

{O

=

2'5.7, p-,alue < .00 I. The adjusted R' is .OH9. A constant is included in the model; it is not significant. Re"dts f'H the ac-

re~ta(cmcnt~ involving only reclassifications ,1Ild disclosures. which ;}n: u~ed ;}.\ the baseline. Inference.'} are not changed by u~ing

faw returns, substituting company revenue (In(rcvenue)) for assets, substituting a net loss indicator for ROA, or adding indicator vJ.riablcs for industry groups. None of
the industry indicator.) i.\ significant. If abnormal return.) for rhe thirty day.., prior (0 (he annOll11cement arc includt'd. WOf.\C prior returns arc a\ . . ociatcd with more .\cvcre
announcement returns, but other results do not change.

The Departlllellt of the Treasury I April 2008

33

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

_

Table 9

I

1997-.2006

Restatement and Company Characteristics Associated with Returns
Significant
associations
Restatement characteristics
Fraud involved
Income-decreasing
Years restated
Revenue restated
Core expenses restated
Non-core expenses restated
Company characteristics
Company_ assets (In)
Company ROA
Stock price less than $5.00
SOX Section 404 accelerated
filers
Timim! effects
NYSE down market
NASDAQ down market
Volatility Index (VIX)

Coefficient

t-statistic

p-value

-.096
-.003
.003
-.050
-.017
-.012

-12.05
-.54
2.48
-5.84
-2.07
-1.47

.00
.59
.01
.00
.04
.14

+

.002
.001
.017

1.79
.28
3.18

.07
.78
.00

+

.024

4.79

.00

+
+

.023
.022

2.25
2.58

.02
.01

-

-.001

-2.46

.01

-

+

-

+

The model confirms returns are more severe when the restatement involves fraud. Restatements of revenue or
core expenses are more negative, relative to the baseline group of reclassification and disclosure restatements, but
restatements of non-core expenses are not significantly different.
Larger companies typically experience less negative reactions, particularly accelerated filers announcing restatements
during the ICFR implementation period. However, companies with quite small share prices, and presumably less
liquidity, also have less severe reactions.
Inrerestingly, restatements of longer time periods tend to have less of a reaction. Both lease restatements and ICFR
restatements tend to affect longer time periods and have less negative reactions. However, longer time periods still tend
to have less negative reactions even if these two groups are excluded from the analysis. It may be that the reversing
nature of accrual accounting causes smaller net income effects over more time. It may also be that errors that persist for
a long period before being detected and corrected are relatively small in anyone of the restated periods, and therefore of
less concern to current investors at the restatement announcement.
Finally, the market variables confirm that reactions tend to be less negative during down markets and more negative
in periods of greater volatility. The remaining factors in the model (whether the restatement decreases income and
72
company profitability) are not associated with announcement returns.

72 The model i, al,o estimated using announcements partitioned into two groups: pre-2001 and 2001 and beyond. In the earlier time period, fraud and income-decreasing
restatements are negatively amJCiated with returns. IndicatoLs for accelerated filers and the NYSE down market ate nO( applicable during this period. In the later period,
fraud dnd the accounting issue indicators .Ire associated with mocl' neg,Hive return,'), and accelerated filer!:> Jfe associated with le~,') negative returns. Although ROA is not
associated with rerurns in Table 9, in the pre-200 1 period, less profitahle companies tend to have less negative returns, while in the later period, less profitahle companies
tend to have more n~g,HiYe rt"tllrn~. lllc e;ulin effect m.1Y be associ:ncd wich th~ tI.:chno!ogy bubb!", .1:' proh(Jbility WJS not ~mph3~ized during that period. In cuntLbt,
post-2000, investors seem to have less tolerance for misstatements hy unprofitable companics.
-----------------------------.

The Departmellt (if the Treasury I April 2008

34

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

AI1/wllncemL'nt Retllms alld S,Jec!fi.c Accollnting Isslles

Table 10 provides more detail about the relationship between various accounting issues and returns. These results are a
summary based on a series of iterations of the regression model in Table 9. As there are a variety of ways to break out sub-groups
of components, this table aggregates results for eight regressions with different combinations of accounting issue groups and
sub-groups."5 Statistically significant associations are indicated in the "association with returns" column with these symbols:
• Item is associated with more negative returns: -

• Item is associated with less negative returns: +

To give an indication of how consistent the statistical relations are, the percentage of times the item is statistically significant
when included in one of the eight regressions is noted in the last column.
The cell in the first column is left blank if an item is not statistically associated with announcement returns in any of the
regressions.

_

Table

10

Summary of Regression Results for Various Accounting Issues
Association
with returns

Percent
significant

-

100%

Cost of sales

-

67%

Reserve and accrual failures

-

100%

Expense capitalization

-

100%

Lease expenses (includes depreciation)

+

67%

Revenue recognition
Core earnings components:

Other expense recording issues

0%

Stock-based and deferred compensation

0%

Non-core earnings components:
80%

Intercompany/investment in subsidiaries

-

80%

Legal, contingency and commitment

+

40%

Debt, interest and equity issues

Financial derivatives

0%

Asset valuation or impairment

0%

Gain or loss recognition

0%

Tax issues

0%
-

Other

40%

Classification and disclosure issues:
Balance sheet classifications

0%

Income statement classifications & EPS

0%

Cash flow statement classifications

75%
0%

Disclosures
73 Results for other variables in the model arc consistently _similar

+

to

Tlblc 9. See Appendix A f,lt additional explanation of- the categories.
-----------

The Department

of the Treasury

, A/iril

2008

35

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Revenue restatements are consistently associated with negative returns. Several components of core expenses are also
associated with more negative announcement returns: cost of sales, reserve and accrual failures and capitalization issues.
However, reactions to lease restatements tend to be less negative. 111ere is no association between returns and stockbased compensation restatements.
Among non-core earnings components, only debt and intercompany investment and "other" restatements tend
4
to have more negative returns/ while problems with contingencies and commitments tend to have less negative
returns. Two issues attracting recent attention, taxes and derivatives, are not associated with returns. Finally, among
classification and footnote disclosure problems, cash flow statement reclassifications tend to have less negative returns."5
Overall, it appears that in general, the market views restatements of core earnings accounts negatively, except
for clusters of specific accounting issues that are corrected within a condensed period of time. On the other hand,
corrections of non-core earnings generally do not appear to elicit negative market returns.

C. Post-Restatement Returns
The post-announcement period is measured from trading day +2 to +250, representing approximately one calendar
year. This analysis focuses on the years from 1997-2005, because returns for a full year following the 2006 restatement
announcements are not available at the time this study was conducted. 76

Attritio/l
From 1997-2005, there are 2,714 restatements with announcement returns. One-year returns are available for
2,287, or 84%. The 427 companies without one-year returns are significantly smaller and less profitable than those
with available returns. 77 Their restatements are more likely to involve fraud and revenue accounts, and the average
announcement return is -7%, compared to -2% for the 2,287 restatements with one-year returns.
Compustat provides some information about the eventual outcomes for about half of these 427 companies. At least 39%
appear to be acquired or merge with another company. This is particularly likely for restatements announced in 1999 and
2005. Another 7% are noted as entering bankruptcy or liquidation. These are more frequent in early years of the sample.
Two percent went private and nearly all of the privatizations are associated with 2004 restatements. The remaining 52% are
either attributed to "other" reasons, or no indication is provided. As a caveat, specific dates for the events noted above are
not given, and so they do not necessarily occur during the year following the restatement announcement.
There are no post-announcement returns at all for 22 of these 427 companies. The remaining 405 have some
post-announcement returns which cease at some point during the year. On average, companies in the latter group
have return information for 119 days, a little less than half a year. The average return for these available days is -24%
(median is -25%), not including any delisting return.
74 Debt includes i~sues stich as bcneficlal cOllversioll fC,lIlJH.'S or convertihle deht. It docs lint include ]ong-tcrlll/clIrn:nt debt ciJssificuioll isslles. rillcy Jrc included wilh b,dance sheet classihcJtion i~sun.
75 None of rhe undnlying iSSl1<:'<' - con . . oiioJrion, foreign )uh:-.iJi.uic)
changes from pooling ro purcl1.lsc Jccollnring fo[ acqlli.\iliol1s tI.:nd
76 All of the 2006 resLuing

c()mp.Hlie~

have at

Ica~t ~()ll1e

age is 138 days. l1H:~e rerurn~ range from -.WY\;()

to

Of

to

acqui\ition - is J,I,,I,ociJteo with return ... in either direction. However, in Luly ycar . . of the . . rudy,
have neg,Hive returns.

return d,l[J for the post<mlloullcellH'llt period.

2.H()(X), wirh

,Hl

111(' numbe[

or return~ aV.1ibble range from .1 [0249 days, the ,Iver-

average of-l(Vu .md a median of-.vX). On ,werage, thne return", <ire not ,')ignihrantly diffe[ent from

zero (t-statistic p-value = .37).
77 Median assets for restating companies without one-year returns are $ I 31 million, compared ro $376 million for
loss fOf rest.Hing companics without une-ye.lf returns is $').48 million, with

with one-year returns, and only 41 % reporting losses.

The Department oj tlie TreaSllrlj I A/iril 2008

6G(~/u

reponing

los~e~.

re~tating companies

'Ihis comp,lfes to

IlC{

with one-yeaf

feturn~.

income o{$2.'5,) million reponed

Median net

hy

comp.mics

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Olle-Year Post-AIlIIO/Ulcement Refilms

Figure 21 shows average and median one-year returns for restating companies. The average one-year return is
-4%, and the median is _17%.7x Median returns are negative each year. Average one-year returns are positive for
restatements announced in 1999 and 2003.

_

Figllre

21

Average and Median Returns for the Year After a Restatement Announcement
1997

199X

1999

2000

2001

2002

2003

2004

2005

~

LJ

1]

20°;;,
10%
0 0/
,'U

~

-30%

-40'Yo

~

-50%
-60%

A regression model for the one-year returns is reported in Table 11. This model is the same as the model in Table 9,
except it also includes announcement returns. This is to assess the association between announcement and subsequent
returns. Again, statistically significant associations are indicated in the "significant associations" column with these
symbols:
• Item is associated with more negative one-year returns: • Item is associated with less negative one-year returns: +
The cell is left blank if an item is not statistically associated with one-year returns. 79

78 Both average and median returns are statistically negative with p-values < ,001,

79 The overall model is significant (F-statistic

< ,001, adjusted-R'
,OJ), -nle model also includes a constant (negative) and variables noting the year of the
control for prevailing economic conditions. Indicators are significantly positive for cOl11panic.I! announcing re)(arcmcnt~
in 1999 and 2001-2005, rciative to the baseline year of 1997, Significance for model variables is based on two-tail p-values < ,10,
0

4,1)9, p-v,duc

restatement JnnOlIIlCemeI1t. Year indica[Qr~ <He

0

to

The Department oj the Treasllry I April

2008

37

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

_

Table

11

I

1997-.2006

Restatement and Company Characteristics Associated with Subsequent Returns
Significant
associations
More negative announcement return
Restatement characteristics
Fraud-involved
Income-decreasing
Years restated
Revenue restated
Core expenses restated
Non-core expenses
Company characteristics
Company assets (In)
Company ROA
Stock price less than $5.00
SOX Section 404 accelerated filer

-

-

+
+

Coefficient
0.365

t-statistic
2.003

p-value
.05

0.014
-0.126
0.014
-0.033
-0.066
-0.006

0.178
-2.175
0.964
-0.396
-0.833
-0.069

.86
.03
.34

-0.010
0.000
0.250

-0.889
-0.002
4.912
2.244

.37
1.00
.00

0.130

.69
.40
.95

.02

When a restatement triggers a more negative return, the company tends to continue to have more negative returns
in the following year. Accounting issues are not directly associated with one-year returns. In particular, neither fraud
nor revenue restatements are directly associated with one-year returns, despite their consistent association with more
negative announcement returns. HO However, restatements that decrease reported income do tend to have more negative
one-year returns. This is interesting, since income-decreasing restatements are not associated with announcement
returns.
Companies likely to be restating due to SOX Section 404 ICFR implementation have less negative one-year returns.
This is consistent with the benign effects noted for these restatements throughout the study. Companies with stock
prices less than $5.00 at announcement also tend to have less negative one-year returns, although the reason for this
is unclear. Overall, it appears that the announcement return captures the market effect of restatement and restating
company characteristics rather than future returns. This result is not as obvious as it may seem, since all information
about a restatement is not always released on the announcement date. For example, fraud is often formally revealed
after a company or SEC investigation. Nonetheless, the market reaction to these restatement characteristics appears to
occur mainly at announcement, rather than later dates.

80 Using more derailed accounting issues, reciassihc.Hiolls and IPR&l) wrife-off's have le\s negarive one-year rC[l(rns. No orher group is .;;ignihc<lllt.

The Departlllellt cif tlte Treasury I April 2008

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

VI. ApPENDICES
Appendix A: Accounting Issues Taxonomy
Accounting issues are classified into four groups, based on the classification scheme developed by Palmrose and
Scholz (2004).sl The groups are:
• Revenue Recognition: These are restatements involving revenue. Revenue restatements are considered
separately because they are consistently associated with more serious outcomes in prior research.~2
• Core Expenses: These are restatements of companies' on-going operating expenses. They include cost of
sales, compensation expense (including stock-based), lease and depreciation costs, selling, general and
administrative expenses, and research and development costs.
• Non-Core Expenses: These are restatements of items that typically affect net income, but do not arise from
on-going operating activities. The group includes accounting for interest, taxes and derivatives. It also
includes misstatements arising from accounting for non-recurring events or special items.
• Reclassifications and Disclosures: These likely do not affect net income at all. They include restatements to
reposition balance sheet, income, cash flow statement line items or changes in earnings per share. Disclosure
restatements typically revise footnote information.
Specific issues included in each of the four classifications are listed below. The descriptions are lightly edited from
information provided by AA. The table also provides the total number and percentage of restatements identified with
each issue. sl Because companies usually restate multiple issues, the sum of the sub-classification frequencies exceeds
both classification and overall totals. ~4 The table also provides an indication of the association between each issue and
market returns at announcement and in the subsequent year. These codes are used:
• The category is associated with a less negative market return: +
• The category is associated with a more negative market return: • The category is not associated with market returns: none. x)

81 See Zoe·Vonna Palmrose and Susan Scholz. fhe Circunts/fll/cej and Legal CO/ljequC//cl'J o/No/l·GMf' Repor/illg: EvidcncejTont Res/a/elf/Oi/s. 21 CONTEMPORARY AC·
COUNTING RESEARCH 139 (Sprin~ 2004).
82 For example. see Cri;ri A. Gleason. Nicole 1l1Orne Jenkin> and W. Bruce Johnson. the Contagio/l Ej]ects

ofAccou/lting Restfltelllmts. 83 ACCOUNTING REVS} (Jan.

2008), in addition to Palmrose and Scholz (2004). noted "hove.
83 Coding for 1997·2000 re"atements is b"ed on categories identified by Palmrose and Scholz (2004). citation above. Coding for 200]·2006 is based primarily on AA's
identification of i~~u<: ..... "n1(: two ,l,chemes .lre 'iimilclr, bur nor idcndc.ll. All t'.lrlier elJ.:.:.ifiCHion:. .Ire marched with .In AA gruup, but a few cltegorit . . include only re~r,lte­
ments from later years of the study. Both AA ,lOd Palm rose and Scholz (2004) define each c.ltegory to include all errors. irregul.trities or omissions in the accoullting area
described.
84 'lh<..:51: Fn:llLH;ncic~ Jif"ll'r Frolll thu.'Ic in S...:crion II I.e bl'C1U~l' rhl' cuunr.'l in this t.Ible include .111 rl'.\(.HI.:mcnr . . idl'nrihcJ wirh each i~ . . uc. 'Ihat is. n: . . rJtclllcnt.\ with Tllulnple
issues are included muhiple time",. -Ole clJssincJ.tion (OUIU.\ in Scuion III.C limit eJch restatement to its mo,q . . erious cld .... ,Sificuion.

8S AI; market re(urns are available for only about half of the 6,633 restatements. the association tests Jre based on a smaller sample. An a;sociation ( '+' or '.') is noted only if
the cJrcgory is signif1cJfHly JssocLncd wirh returns when includ .... d in the regression model ill Section V. -Ihat is, lhcy JfC included if" theY,ll"(' incrcmCnl.l\\Y signiflc.lIH ;lfrcr
controlling For other restatemenr J.nd restating company characrt'fi~tic.\ sllch.1.\ fr.1ud. Statistical signihc,lOce is nasl'd nn p-vJlues < .10.

The Departlllellt of the Treasury I April

2008

39

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

Classification / Category
Revenue recognition

Core expenses
Cost of sales
(inventory,
vendor)

Expense recording
(payroll, SG&A,
other)

Liabilities,
payables, reserves
and accrual
estimate failures

Capitalization of
expenditures
Deferred, sharebased and/or
executive
compensation

Lease, leasehold
and FASB 13 and 98
Depreciation,
depletion or
amortization
errors

Non-core expenses

Debt, quasi-debt,
warrants & equity
secu rity issues
(including
beneficial
conversion
features)
Derivatives /
hedging (FAS 133)

Gain or loss
recognition

Inter-company /
investment in
subsidiaries and
affiliates.
Legal, contingency
and commitments

Description
Any restatement involving revenue. Includes
timing of, and fictitious revenue recognition.
May originate from a failure to properly interpret
sales contracts for hidden rebate, return, barter or
resale clauses. May relate to sales returns,
credits and allowances.
Any restatement involving correction of onl!Oin~ ooeratinu expenses.
Transactions affecting inventory, vendors
(including rebates) and/or cost of sales. Such
errors primarily are related to inventory
capitalization or the calculation of balances at
vear end.
Expensing assets or understatement of liabilities.
These issues include failure to record certain
expenses, reconcile certain accounts or record
certain payables on a timely basis. Issues with
payroll expenses or SG&A expenses are
identified with this category.
Accrual or identification of liabilities on the
balance sheet. These could range from failures
to record pension obligations, to problems with
establishing the correct amount of liabilities for
leases, capital leases and other. This category
could also include failures to record deferred
revenue obli~ations or normal accruals.
Capitalized expenditures related to leases,
inventory, construction, intangible assets, R&D,
product development and other purposes.
Recording of deferred, share-based or executive
compensation. The majority of these errors are
associated with the valuation of options or
similar derivative securities or rights granted to
key executives. Stock options backdating is
included here.
Lease-related issues.
Depreciation of assets, amortization of assets
and/or amortization of debt premiums or
discounts. A significant number of these items
can be attributed to the recalculation of
depreciatIOn associated with revised leasehold
improvements and the revised lease accounting
rules.
Any restatement including correction of expense
(or income) items that arise from accounting for
non-ooerating or non-recurring activities.
These restatements are often due to errors in the
calculation of balances arising from debt, equity
or quasi-debt instruments with conversion
options (including beneficial conversion
features). In addition, certain debt instruments
may be erroneously valued.
Valuation of financial instruments such as
hedges on currency swings, interest rate swaps,
purchases of foreign goods, guarantees on future
sales and many other examples.
Recording sales of assets, interests, entities or
liabilities. Errors in these areas often result from
calculating an inappropriate basis for items that
were sold, or the proper sales amount from
barters.
These restatements often arise when intercompany balances are not recognized or income
figures are misstated by affiliates (foreign or
U.S. based). Also includes investment
valuations or transactions.
[ssues associated with the disclosure or accrual
of legal exposures.

The DepartlllClIt of the Treasury I April 2008

I 1991-2006

Count

Percent
of6,633

Association with returns:
Announce.
One-year

1,314

20%

3,316

50%

-

None

625

9%

-

None

948

14%

None

None

942

14%

467

7%

-

None

793

12%

None

None

360

5%

+

None

515

8%

(see Lease,
leasehold
and FASB
13 and 98)

(see Lease,
leasehold
and FASB
13 and 98)

3,111

47%

None

None

1,280

19%

-

None

231

3%

None

None

321

5%

None

None

88

1%

-

None

149

2%

+

None

None

None

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

Classification I Category
PPE or intangible
asset valuation or
impairment

Tax expense I
benefit I deferral I
other FAS 109
issues
Unspecified
adjustments
(Other)
Reclassification and
disclosure
Accountslloans
receivable,
investments &
cash
Balance sheet
classification of
assets
EPS, ratio and
classification of
income statement
issues
Cash flow
statement
classification
Footnote &
segment
disclosures issues
Underlying events
Accounting for
acquisitions,
mergers,
disposals and reorganizations

Consolidation
issues (including
Fin 46 variable
interest & offbalance sheet
entities)
Foreign, related
party, affiliated,
or subsidiary
issues

Description
Recording of assets that arc required to be valued
or assessed for diminution in value on a periodic
basis. Examples include: intangible assets,
goodwill, buildings, securities, investments,
leasehold improvements, etc. The IPR&D
restatements (95) arc includcd here.
Accounting for tax obi igations or benefits. Many
of these restatements relate to foreign tax,
spccialty taxes or tax planning issues. Some deal
with failures to idcntify appropriate differcnces
between tax and book adiustments.
The company does not identify what arcas of
accounting or financial reporting the actual
restatements affcct.
Any restatement including reclassification or
disclosure issues. These typically do not affect
reported income.
Includes investments, allowance for bad debts,
notes receivables andlor related reserves. These
mistakes often manifest themselves in balance
sheet and income statement errors or
misclassifications.
This includes how assets were classified as short
termllong term, how they were described or
whether they should have been netted against
some other liabilitv.
Disclosure of financial/operational ratios or
margins and earnings per share calculation
issues. Also income statement item
misciassification, often bctween COS and
SG&A.
These misclassifications can affect cash flow
from operations, financing, non-cash and other.
Financial statement, footnote andlor segment
reporting information.
Circumstances underlvin~ some misstatements
Mergers, acquisitions, disposals, reorganizations
or discontinued operation accounting issues.
Restatements in this category can be varied but
they all arise from a company's failure to
properly record an acquisition (such as valuation
issues) or a failure to properly record a disposal
(such as discontinued operations) or
reorganization (such as in bankruptcy). It can
also include failures to properly revalue assets
and liabilities associated with fresh start rules.
This can include mistakes in how joint ventures,
off-balance sheet entities or minority interests are
recorded or manifested. It can also include issues
associated with foreign currency translations of
foreign affiliates.
The most prevalent issues in this category arise
from problems with foreign affiliates and their
related accounting or financial reporting. They
include disclosures about related, alliance,
affiliated andlor subsidiary entities.

The Department of the Treas1try I April

2008

Count

Percent
of 6,633

Announce.

874

13%

None

None

585

9%

None

None

92

1%

None

None

1,502

23%

+

+

480

7%

None

+

438

7%

273

4%

None

None

360

5%

+

None

III

20/0

None

None

1127

17%

None

None

514

8%

None

None

509

8%

None

None

I

1997-.2006

Association with returns
One-year

None

+

41

I

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

1997-.2006

Appendix B: Industry Membership Tables
Industry membership is defined by SIC code as follows:
Industry

SIC Codes

Agriculture, construction, mining

0000 - 1999

Manufacturing

2000 - 3999 (except Technology and Biotechnology)

Biotechnology

2834 - 2836

Technology

3570 - 3579 & 7370 - 7379

Transportation

4000 - 4799

Communication

4800 - 4899

Utilities

4900 -4999

Wholesale/Retail

5000 - 5999

Financial

6000 - 6999

Services

7000 - 8999 (except Technology)

These tables show restatement activity by industry across study years. See Section IV.B., Figure 9 in the main text,
for a discussion of this restatement activity. These frequencies and percentages are based on the 4,923 companies with
basic financial data.
Restatement activity by industry
Count per year
Agriculture
Manufacturing
Technology
Transportation
Communication
Utilities
Wholesale/Retail
Financial
Service
Biotechnology
Unknown
Total

Percent per year
Agriculture
Manufacturing

1997

1998

2
24

4
30

6
62

15

40

61

0
2
2

0
3
1

11
10
10

11
18
6
1

0

0

5
5
6
16
20
30
5
0

81

114

216

1997

1998

5

2%
30%
19%

4%
26%
35%

Wholesale/Retail
Financial
Service

0%
2%
2%
14%

0%
3%
1%
10%

12%
12%

16%

Biotechnology
Unknown

Technology
Tran~ortation

Commun ication
Utilities

Total

1999

1999

2000

2001

2003

2004

2005

2006

Total
319
1,372

34
114

41
163

50
197

69
307

67
9
21
23
53
63
61
23

86
17
50
43
74
93
95
39

197
147
121
34

2

2

0

77
15
34
48
57
83
80
24
1

109
17
55
46

9
18
19
11

57
7
25
10
33
41
51
18

6

4

3

18

187

386

468

623

750

1,106

992

4,923

2001

2002

2003

8
8
6

2000

2004

7%
26%
12%
2%
5%
8%
9%

7%
26%
11%

2%
6%
3%
9%

7%
24%
14%
2%
4%
5%
11%

29%
28%
2%
2%
3%
7%

4%
28%
25%
4%
4%
3%
5%

8%
29%
15%

3%

2002

31
111

7
53
46

2%
7%
6%
10%

2005

75
311
110
19
48
29
104
124
130
39

2006

668
97
251
214
565
617
603
199

6%
28%
10%
2%
5%
4%
18%

8%
31%
11%
2%
5%
3%
10%
13%
13%
4%
>1%

Total
6%
28%
14%
2%
5%
4%
11%
13%
12%
4%
>1%

100%

100%

9%
14%

10%
10%

11%
13%

13%
13%

13%
13%

12%
13%

6%
>1%

5%
1%
>1%

2%
>1%

6%
1%

5%
1%

5%
>1%

4%
>1%

5%
1%

13%
11%
3%
>1%

100%

100%

100%

100%

100%

100%

100%

100%

100%

----------

The Department oj tftc Treasury I April

200f)

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

This table of accounting issues by industry provides the frequencies and percentages underlying Section IY.B., Figure 10
in the main text. Industries with statistically higher proportions of each accounting issue are shown in bold.

Manufacturing
Technology
Financial
Service
Wholesale/Retail
Other
Overall

Accounting issue classifications by industry
Core
Non-core
Revenue
%
Exoenses
%
& Reclass.
261
19%
583
42%
528

271

40%

101
164
82
208

16%
27%
14%
19%

1,087

22%

192
203
207

29%
33%
34%

314

56%

411
1,910

205

%
39%
31%

313

51%

617

37%

232
169
479

39%
30%
44%

603
565
1,098

39%

1,926

39%

4,923

~------

The Departmellt oj tlte Treasurlj I April

2008

Total
1,372
668

------------

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Appendix C: Restatements and SOX Section 404 Internal Control Reporting
Section 404 of the Sarbanes-Oxley Act (SOX) requires companies to report on the effectiveness of their internal
controls over financial reporting (ICFR). Briefly, management is required to assess the company's internal controls and
report whether they believe the controls are effective or ineffective in preventing material misstatements. The company's
auditor is required to attest to management's assertion. SOX Section 404 reporting was mandated in July 2002, and
the initial ICFR reports for accelerated filers were required for fiscal years ending on or after November 15, 2004. These
reports would typically be filed beginning in early 2005. However, due to documentation and testing required under
SOX Section 404, most accelerated filers began ICFR implementation fairly soon after the enactment of SOX. S6 Thus,
misstatements attributable to ICFR implementation are most likely to be identified in 2003-2005.
During the study period, ICFR implementation is required only for companies meeting accelerated filer criteria. A
primary criterion for accelerated filer status is related to market capitalization ($75 million and greater), so accelerated
filers are typically larger companies. AA provides data indicating which companies asserted their controls were effective
or ineffective at the first fiscal year ofICFR reporting. These reports were typically issued in early 2005, and report on
controls in place at the end of the 2004 fiscal year. For this analysis, companies noted by AA as providing either type of
assertion in 2005 are identified as accelerated filers, and this status is assumed to be constant for the entire study period.
The chart and table below show the percentage of restatements announced by accelerated filers in the preimplementation, implementation and post-implementation periods.
Percentage of Restatements Announced by Accelerated Filers

.-.--

pre-implementat ion
( 1997-2(02)

2003

2004

All restatements announced
Company filed ICFR r~ort in 2005
Percent of restatements by 2005 1CFR companies

2005

Pre-ICFR
Implementation
1997-2002
1,452
481
33%

ICFR
Implementation
2003-2005
2,479
1,156
47%

pos t-implementat ion
(2006)

Post-ICFR
Implementation
2006
992
396
40%

86 For example, see Diya Gullapalli, Grasping 'Internal Controls', WALL STREET] ' Nov. 3,2004, at C I, C3.
~~~~

The Department of the Treasury I AI!ril 2008

~

..

-~-----

----------~--~-~~-

44

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

There is a significant increase in restatements by 2005 accelerated filers during the 2003-2005 ICFR implementation
period. During this time, accelerated filers announce 47% of restatements. In contrast, in the pre-2003 period,
companies destined to be classified as accelerated filers for 2005 are responsible for 33% of all restatements. The
percentage drops to 40% in 2006. H7
Although surely some accelerated filers would have announced restatements absent ICFR implementation, nearly a
quarter of all 4,923 restatements (1997-2006) are made by 2005 accelerated filers during ICFR implementation (20032005). Further, if pre-implementation ratios berween non-accelerated and accelerated filers had held steady through 20032005, about 500 fewer restatements by the 2005 accelerated filers would have been expected during this period. xx
M data indicates about 3,700 companies issued ICFR reports in the first year of required reporting. This suggests
approximately 31 % (1,156 of 3,700) of accelerated filers restated their financial reports over the three-year period.
Not all restating accelerated filers reported ineffective controls. Of the 349 accelerated filers restating in 2004, only
137 (39%) reported ineffective controls in their initial report for fiscal year end 2004, typically filed in early 2005. Of
the 527 companies announcing restatements in 2005, 263 (50%) initially reported ineffective controls. This count
was later revised upward, presumably because companies later discovered misstatements. Thus, the final percentage of
accelerated filers both restating in 2005 and reporting ineffective controls is 59% (309 of 527). Of the 396 restatements
by accelerated filers announced in 2006, only 93 (23%) reported ineffective controls in their 2005 report.

Restatement Characteristics (~f Accelerated vs. NOll-Accelerated Filers
Logistic regression analysis is used to compare restatements announced by accelerated and non-accelerated filers during
the ICFR implementation period. It indicates accelerated filers are more likely to restate accounting issues involving:
• revenues;
• leases;
• stock-based compensation;
• expense capitalization; and
• cash Row statement reclassifications.
Upon further examination, the higher frequency of revenue restatements is mainly due to the sub-set of accelerated
filers both restating and reporting ineffective ICFR. No other restatement characteristics differ berween the rwo groups.

87 Comparison.') betwecn accclcr,J[cd flkr announcelllent frc{jucncic<, Juring

JCrR implcmcll(Jrion, pre-JerR impiem<:l1rJtiol1 ,wJ po~t-rCrR implementation pcrioJ.\ are

statistically significant (p-values < .00 I J.

rC~(Jrclllcnt) in (he pre-implementation period, the 1,323 re...,r<lrcmel1rs hy non-accelerated filers during
2003-2005 suggests about 654 total restatements expected tt,r accelerated filer" wmp.lred to the I, 156 Jnnounced. However,. this period Jbo include, the lease re"atements, whieh disproportionJtely involved accelerated file", '0 the number would likely have been higher dun the (,54 othcrw"e expeered.

88 Based on a ratio of nearly 2: I non-accelerated to Jcct:lcrarcd filL[

The Departll!ClIt (if' tIl(: Treasury I AJ!ril 200S

45

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Appendix D: Restating Company Revenues
Average revenues for the 4,923 restating companies with basic data are $l.65 billion. Restating companies report
lower revenues than the Compustat average except in 1999 (IPR&D restatements), 2002 (accounting scandals and
the enactment of SOX) and 2005 (lease restatements). The only significant difference in the averages of restating and
Compustat companies is in 2002, noted with an asterisk in the figures below.~')
Average Revenue for Restating and Compustat Companies ($B)
$2.5

2.2

2.0
$2.0

S1.0

14 1.4

1.4

$1.5
1.0

.9

$0.5

$0.0

1997

199X

1999

2000

2001

2002*

2003

2004

2005

2006

c=::::J Restating c=::::J Campus tat - - Restating TrenJline - - - 'Campust"t Trencthne

Median revenues for restating companies are $127 million. Similar to previously noted patterns, median revenues
are significantly higher for restating than Compustat companies in 1999 (IPR&D), and 2005 (lease restatements).
Again, restating companies' median revenues drop dramatically in 2006, both in absolute dollars and relative to the
Compustat median.
Median Revenues for Restating and Compustat Companies ($M)
$250
204

-

$200

161

155

150

-

$150

-

134

132
r-

_ 514•

- - •

II~I -

-

-~..

. ~ - -.

~

96

$100

$50

$0

199X

1997

1999*

2000

2001*

'-----'-----

-'-----

-'-----

-'-----

'-----'-----

2(X)2

2003

2004

2005*

2006*

c=::::J Restating c=::::J ('omplistat - - Restating TrenJlme - - - 'COl11pllstat TrcnJlmc

89 Srarislical significance for ,lVcragcs is bJscd Oil {-(CSL'-,. McdiJIl ."Iigninc.lllcc is bJ,\cd on non-par<ulll...'[[ic 7-.<,corc.<.. Srari."Iricai signinCdTlCC is indicared for p-valucs
------

The Departmellt of the Treasury

April

2008

~~

.~~-~

~~-------~--~-

<

.10.

------~--

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Appendix E: Restatements and Debt Ratings
Compustat's debt ratings are based on the Standard & Poor's rating system, which assigns lower numbers to
companies assessed as better credit risks. The highest ranking, MA, is coded "2" by Compustat. The lowest ranking,
D, is coded "27." This is applied when payment is in default. Rankings ofBBB and better are considered investment
grade. BBB corresponds with an "11" in the Compustat ratings code.
For restating companies with financial data, analyzed in Section IV, announcement year debt rankings are
available for 1,283 restating companies (26% of 4,923). Of these, ratings are available for 1,188 the year before the
announcement and 957 the year after the announcement. The average rating for the year prior to, of and after the
restatement announcement is shown across the study years in the figure below. Median, highest and lowest ratings for
each year are provided in the table.

Average debt ratings in years surrounding restatements
17

16
16

15

15
15

14

15

15 14

14

15

15

14

14

14

14

14

14

14 14 14

14

14

14

1997

1999

199X

cOIiO

2001

2002

2003

o Pre-ann YCM{aVCrJgc = D 7) 1m Annollth:clTll"nt yeJr(avcragc

Announcement year
Number
Highest rating
Lowest rating

2004

2005

= 14.3) 0 PO;-,\-ilnn. year (i.\vcragc

Debt ratings around restatement, ears
2000
2001
2002
2003
1999

2004

=

2006

14.3)

2005

2006

Overall

316

218

AAA

AA-

1,286
AAA

D

D

D

13.9
14.3
14.3

13.6
14.0

13.7
14.3

16.0

14.3

1997

1998

12

24
A+

61

39

85

133

174

224

AA

AAA

AA-

AAA

AAA

AAA

CCC

D

D

A
D

D

D

D

D

13.5
14.7

13.0
14.1

14.2
14.8

14.4

14.5

14.4

14.0
14.5
14.2

14

14
14

14

15

15

15

14

15
15

15
15

15
15

15
16

15
15

Avera,!?e debt rating[or years surrounding restatement
13.7
12.5
Pre-announcement
12.4
12.4
15.3
13.6
Announcement year
12.7
14.2
14.9
13.5
15.1
Post-announcement
14.3
Median debt rating for years surrounding restatement
14
12
Pre-announcement
12
13
15
15
15
Announcement
14
15
15
Post-announcement
14
15

14
14

15

----------------------------~--~--------"-

The Departmellt of the Tre{/surlj I April 2008

47

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Debt ratings for restating companies range from AM to D. However for nearly half of the years, the highest rating
for restating companies is only AA (5) to A (8). The lowest rating for restating companies every year except 1997 is D.
Average and median debt ratings are in the BBB- (12) to B+ (16) range, below investment grade.
Debt ratings decline significantly around the time of a restatement announcement whether the change is measured
between the pre-announcement and announcement years or the pre-announcement to post-announcement years. The
average rating decreases .59 from the pre-announcement to the announcement year, a little more than half a rating
category. The average rating decreases .79 between the pre-announcement and post-announcement years.9()
In regression analysis, debt ratings are more likely to be lowered from the pre-announcement to post-announcement
years if the restatement:
• involves fraud;
• affects a shorter time period;
• affects revenue or core expenses; and
• generates a negative announcement rerum.
Results are similar if rating changes are measured from the pre-restatement announcement to the end of the
announcement year, except the length of the restated period and core expenses are not associated with lowered ratings.
For restating company characteristics, rating reductions are associated with:
• large companies;
• less profitable companies; and
• companies with share prices less than $5.00. 91
In summary, debt ratings worsen around the time of a restatement. As many restating companies are otherwise
troubled and often unprofitable, it is not clear that a restatement itself is a reason for a downgrade. However,
downgrades are associated with restatement characteristics that are also often associated with more negative stock
returns; this suggests that the ratings agencies may be sensitive to similar issues. n

90 Paired t-(csr~ require dJtJ. For hoth YCJfS, '111(,'>(, results arc ha<;cd on 1,1 XX Jlld H9() pJlr";, rc . . pculvcly ((-statistiL p-v.llU(:~ < ,001.) J\1Jrkc(-bJscd rcgre . . . . ioll modd v.niJhlc'i
Jre available- for some companies, and post-3nJlOUllu::m<:nr year rarings ,1fL' not yct .lyailablc for 2006 announcements. Therefore, regression results arc b.lscd on s,lInpk'S of
909 and 692 observatiom.
91 Both models are significant (F-statistic > 5.0, p-values < .001, adjusted-R' > .14). 'The models include year indicators
variables does not change these results.

n

to

control for economiL conditions. Adding indll;(ry

This analysis focuses on restatement effects on public debt rdtings. ror a study of restatement effects on privote loans during the e.lrly year; of this study. sec John R. Graham. Si Li
and Jiaping Qui, Corpomle /.-16 reporting and Bank Lo(/n Conlmeting, j<)lIRNAI. 01' F1NANC1AI. ECONOM1CS (forrhcoming).

----~~----------------~ ... --.--~---

The Department of the Treasury I April

2008

..

---.--.---~ - - - . - -

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Appendix F: Limited Analysis of SEC Staff Accounting Bulletin No. 99:
Materiality and Net Income Effects
The SEC issued Staff Accounting Bulletin 99 (SAB 99) in August 1999, which emphasized that materiality
considerations should include qualitative as well as quantitative factors.'!l SAB 99 may have led to an increase in
restatements if it caused companies and auditors to begin formally restating errors that otherwise did not meet assessed
quantitative materiality thresholds. That is, to the degree SAB 99 expanded the number of misstatements deemed to
be material, because of qualitative characteristics, the number of restatements would have increased. If these additional
qualitative-based restatements affected reported income relatively less, the overall magnitude of income effects would
likely decrease. Comparing changes from original to reported income pre- and post-SAB 99 provides some evidence
regarding possible shifts in the magnitude of restatement income effects.
Information about the effect of restatements on net income is unavailable for a meaningful percentage of
restatements past 2000, but data from 1997-2000 is presented here to provide a limited analysis. Pre-SAB 99 (19971999), the change from originally reported to restated net income is available for 340 restating companies. For 2000, it
is available for 185 restating companies. 94
Two measures of the change in reported income are compared pre- and post-SAB 99 in the figure below. The first
measure is the change from original to restated net income divided by company revenue (change in profit margin). The
second is the percentage change in net income. Medians of both these measures are shown.
In the pre-SAB 99 period, the median restatement effect on profit margin is -1.6%. This is slightly reduced in 2000,
when the median is -1.3%. On the other hand, the median effect on the percentage change in net income became
larger in 2000, as the median increased from -22% to -26%.

Median Changes in Net Income Pre- and Post-SAB 99
Net income change/revenue

Percent change in net income

0%
-5%

-1.6%

-1.3%

-10%
-15%
-20%
-22.3%

-25%

-26.1%

-30%
101997-1999020001

93 SEC, Stl1fjAC(Oltntilig Bulletin: No. 99 - Materiality (Aug. 12, I ')')~), available at hup:!/www.,,,c.gov/intcrp,/account/,ab')').hun.

94 These include on Iv non-IPR&D restatements. As discussed previously. a number of 1999 reStatemems were to reduce amounts previously written off as IPR&D alioCltions. ThcSt re~ra'temt'nf~ uniformly increased pn:viollsiy rcporteu incol1l<:. If IPR&D res(,w:mcnt:-, ,\rc includt'J, the pn.:-SAB 99 percentage chJnge in nt't income i\ -12%
instead of -22%.

The Departmellt oj the Treasury I April

2008

49

THE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

I

1997-.2006

Medians are presenred in the figure because the inHuence of extreme values on the averages makes medians a
preferable statistic for eV~llllating these dte-cts. However. averages fiJr both of the income change measures are also
provided in the table below. Showing patterns opposite to the analysis of medians, the average profit margin change
grows much larger post-SAB 99, but the average percent change in net income is smaller. However, none of these
diffe-rences is statisticlllv, signit1cant.
~

Changes in restatement effects on net income pre- to post-SAB 99
Change in net income / revenues

1997-1999
2000

Median

Average

-1.6%
-1.3%

-17%
-128%

Percent change in net income
Average
Median

-22%
-26%

-191%
-102%

Overall, this limited analysis does not indicate any consistent effect of SAB 99 on the magnitude of the income
eWeets of restatements in the year following SAB 99's issuance.

The

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3.75
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·12.8
·10.7
4.0
-9.0
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-0.1

Percent
Cha...

·26%
<·1000%
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1.75
3.75
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3.50
1.75
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-18.4
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2g..Mar

.25
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2.75

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l.Qct
29-Nov

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-22.5
5.6
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19.2
43.8
53.3
·2.9
232.9
-9.8
46.7

·28.3
205
-2.6
10.3
26.5
39.4
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·13.9
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·68%
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12.8
15.2
·10.1
·28.8
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·18.4
-8.6
-27.1
16.1

-6.6
-19.7
-10.5
-41.1
·5.3
-68.6
-12.0

·151%
-230%
-4%
-67%
·70%
-272%
-40%

3-Mar

22-1an
II·Dec
24-Feb
I6-J..
I-Jun

3-Feb
IO-A.~

I6-Ma,
7.Jon
I-Feb

.

-48%
-227%
·310%
·160%
·293%
<-1000%

-21%
·311%
-7%
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Income
to loss
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I
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·67%
·55%
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2.41
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68%
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·37%
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82%

23
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12
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13.19
9.91
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·56%
·53%
-52%
-51%
-48%
-45%

5.69
113.00
1.00
3.38
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17%
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12
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I4-Nov
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12-Ao,
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-131.4
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3.3
-433.6
536.0
1.8
101.8
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·2.5
112.8

·139.4
-17.5
·2.1
-535.6
440.4
1.5
91.8
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-6%
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·164%
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·18%
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2%
0%
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ves

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16.65
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yes

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yes

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50%

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IDv"...
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Nicor
~jC81 Resources
1003
ClearOne Communications
Fleminl Comoanies
BAM! Entenainment
T~paz Group
Sinl.i1l2 Machine Compan\!
Aerosonic Com

Te<:h
Te<:h
Finance
Service
~Mi .... C _

ManuC
Util
_Biotech

Manuf
WhlslReti

Te<:h
Manuf
Manuf
Manuf

_S~rtsline.Com

Tech

AFC Enterorises
Elite Pharmaceuticals

WhlslRetl
Biotech
Service

Beari~()int

1004
Trinath TechnoloRV. Inc
Global Crossinl
AaiPharma
IntelliRrOuD
OmniVision Technologies
StonePath GrouP
Asconi Comoralion
Auto~1

Soureecorp
Ouality Distribution

1005
Orthodontic Centers of America
Anchor Glass Container
Napster
Aaipharma
America Service Group
CkNetwork
Collins & Aikman
Continucare
ParmaNet Deyelooment GrouD
Hi Shear Technology
1006
Sea Containers Ltd.
Simclar
Astea International
Caraustar Industries
Vitesse Semiconductor
Par Pharmaceutical
GMH Communities Trust
Ta~ It Pacific
Infosonies
WI communications

~

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Tech
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Manuf

No. of

Restates
3
I
2
2
2
2
2
2
2
2

Date

Ann.
25-1uD
14-Mar
6oM.v
I-Feb

25-1ul
20-Mar
25-AJ1I"
I-AJlf
18-luI
19-Feh

2
I
I
I
I
2
I
2
I
2

IS-Ian
28-Mar

I
3
2
2
I
4
I
I
I
I

22.()cl
27-"""

29-S..

20-Aug
27-Iun
17-Mar
26-S-",,-

24-Mar
IS-lui
14-AUIl

I-Mar
24-SeD

9-Iun
21-Sep
23-Mar
21-Ocl
27-Oct
30-Apr

2
2
2
2
2
I
3
I
I
I

7-Iun

I
I
I
I
I
2
I
I
2
I

24-Mar
IS-Aua
31-Mar
3-Noy

5-Aug
II-M.v
15-AD'

24-Oct
28-S..

17-Mar
Il-M.y

3-Noy
14-AD'

26-AD'

S-Iul
13-Mar
3-AD'

9-Iun
2-Nov

Original

Restated

2.25
.75
2.75
1.50
2.25
1.75
3.00
3.25
.25
4.00

NI($M)
5709.0
-58.6
-1555.0
-954.6
9.5
-3.0
1301.0
-939.4
39.9
11.7

NI($M)
-64 979.0
-60.7
-2318.8
-1188.9
9.0
-8.3
10Jl.0
-1012.9
35.5
16.4

2.25
1.75
.25
.25
.25
4.75
2.50
2.5
2.00
.75

13.7
29.3
-1l.4
-0.4
12.2
2.4
-1l1.6
77.7
-15.7
44.0

-7.4
-57.7
-13.4
-0.6
10.0
1.0
-145.3
50.3
-15.7
31.0

-154%
-297%
0%
-42%
-18%
-60010
10%
35%

.25
1.00
1.75
3.25
.75
1.50
1.75
2.50
3.50
5.75

-1.9
-107.0
41.4
-27.2
35.2
-8.2
3.0
-10.0
82.9
_-).09.4

-2.6
-174.0
4.7
-34.1
37.9
-24.9
-37.7
-13.1
67.3

-40%
63%
-89%
-26%
8%
-204%
>1000%
-31%
-19%
_ -14%

.75
4.25
.25
.25
4.50
.50
.75
1.50
.50
.50

-68.7
-179.5
12.8
-33.8
-5.2
-1.1
-108.6
9.7
12.6
1.2

.75
1.25
.75
.50
3.25
5.25
.75
.50
.25
.50

-58.5
2.0
2.7
72.4
-341.1
285.3
5.1
-23.3
1.7
-3.8

Yean
Restated

-12~

Income
to 1011

Percent
Cbange
-1000%
-4%
-49%
-25%
-6%
-174%
-21%
-8%
-11%
400Al

yes

Dlscovered
by
comoanv
company

auditor
~ator

regulator
comoaRv
~Iator

_

regulator

yes
yes

regulator
reRulator
comoany
company
COmDany
auditor
company

0%

-29%

.

yes

auditor
c0rm?ny
company
company
comoany
company
regulator

_ '----_.

comoanY
CQIDpany
comnany

-188.911.

-5%

12.8
-36.0
-7.2
-1.1

0%

-6%
-40'10

company

-120.611.

0%
11%

auditor
comnany

8.3
12.1
0.9

15%
-4%
-27%

-65.2·
1.5
2.5
64.021

-26%
-9%

.

231.8
2.2
_24.4
1.2
-4.3

-11%
comnanv

-12%
-19%
-56%
-5%

-32%
-15%

COmDany
comnanv

Acct'lol
Issues
1234
1234
12
123
3
123
234
123
3
13

Shllre prices and mums:
Price
Mkl-adJ
Day-I
AD"
(5)
Return
0.83
-93%
-80%
1.20
2.57
-69%
-61%
11.02
13.40
-55%
2.30
-52%
27.30
-51%
14.79
-40'10
-38%
38.44
25.84
-38%

Oth~,:

Price

08y+5

Mkl-adJ
Longer

(5)

Reluns

0.09
0.38
1.58
4.63
7.13
1.15
15.08
10.65
23.74
17.15

yes
-92%
-29%
-58%
-144%
-47%
-76%
-60%
13%
112%

--,,-es'
yes
yes'

I

yes

I

-50%
-14%
-92%
-13%
-22%
-21%

yes

1.29
7.93
10.00
1.78
15.31
0.86
6.65
17.09
15.01

-48%
15%
-60%

1234
I
4
I
12
4
12
12
I
3

4.03
0.45
6.35
0.63
18.16
0.21
1.63
3.14
37.89
4.85

-64%
-48%

1.44
0.16
3.88

3
12
2
3
12
1234
123
I
3
2

12.06
8.92
16.50
10.11
2.53
18.75
16.83
0.81
23.60
2.33

-50%
-38%
-30%

-22%

128
I

...Y~

'jes

-53%
-48%
-36%
-35%
-33%
-29%
-26%
-23%
-23%
-22%

-28%
-28%
-28%
-25%
-24%

Yes'

New.

6

-120%
12%
-44%
-48%
-23%

1.58
18.20
15.28
1.73
25.47
1.59
6.64
8.75
22.21
19.98

-31%

yes
yes

-yes
yes
ves

yes'
ves'

I
2
12
1234
I
12
3
1234
12
2

-31%
-26%
-25%
-21%

yes

Other

Cb.l1I
DeH"

yes
ves

-75%
-65%
-57%
-44%
-40%
-39%
-28%
-26%
-26%
-26%

-32%

-.Y....

YCS'
ves
yes'
ves'
ves

3.96
1.14
2.24
0.82
5.40
15.12
1.76
18.04
3.60
10.31

-41%
-38%
-32%

Lilia'"

ves
yes
ves

123
2
4
2
3
12
1234
123
4
123

1.51
0.57
3.20
10.01
1.25
13.46
2.43
8.48

Fraud

-95%
-39%

yes

I
I
I

YCS
ves
-yes
yes

12

-128%

yes
ves
ves'
-'y'es
yes
Yes
Yes

-65%

yes

yes
yes

vcs

-yes
Yes

-52%
-45%
-27%

yes

yes

15.43
0.18
1.36
2.40
30.70
3.51

2%
-26%
-28%
-12%
-45%

yes

7.21
5.31
9.78
7.19
1.84
14.32
11.55
0.62
15.49
1.96

Yes'

yes'
ves

ves
ves
yes

ycs'

-82%
-9%

yes

YCS

-49%
7%

ves

-.20%

5
I
8
I
I

ves
yes

-26%
55%
-23%
59%
-58%

4

yes

ves

69%

378
13

-"cs

235
9
I
9

I
I

-_.

yes

ves'
yes
yes

56
2
I

yes
15
ves

yes
6

....,
0=r,:

t;

-;;:,

-!.

'~

~

-'

::;
~
~

~
t~

52

~

;Voles and definitions:
Industry group
:\0. of restates
Date Ann.
Years restated
Original :\1
Restated :\1
Percent change
Income to loss
Discovered b~
Acc'ting Issues
Price Day-l
I\1kt-adj ann return
Price Da~ +5
Mkt-adj longer returns
Fraud
Litigate
Ch.IIIDelist
Other ne\H

Addl/wl/v! ]Onl-:!()()] notes

See AppendIx B for Industry dd'inltlons.
Total number afre-statements announced by the company dUring the study pcnod

Date restatement is announced
Number of years restated. where one quarter;=o .25
Originally reported net Income summed O\cT all restated pen ods.
Re:-.tated net income summed over all restated pCflods. * IIldlcatcs company did not file amended reports: If an amount 1:-. prO\ Ide-d. it 1:-' e:-.tIInatcd from rrc~s announcements
Percent change from originally reported to restated net income. Truncated at -1,000° °
"Yes" means origmally reported net mcollle changed to a restated net loss. Blank means it did not
"Auditor" means the misstatementlOeed for a restatement IS discovered by the auditor m press releases or filings. Company means company management Regulator usually means the SEC
Revenue affected = I, core expenses = 2, non-core expenses = 3. reclassifications and disclosure = 4 See AppendiX A for further detad
Stock pnce at close of tradmg on the day prior to restatement announcement.
Market-adjusted return summed over announcement day and day follo\"mg announcement.
Stock price at close of tradmg five days after announcement.
Buy and hold market-adjusted returns for the year followmg the announcement, or until delistmg
"Yes" means an AAER was issued, the company admitted to fraud or Irregularities or officers \\ere indicted. Blank means none of these \\ere found
"Ye~" means the company was sued over thiS restatements. "*" means the auditor was sued too. Blank ifno litigation.
"Yes" means the company either filed for bankruptcy or was delisted in Ihe followmg year or two Blank If not.
Ne\\ s announced on the same day as the restatement: I: earnings-related Information, 2: filmg delayed. 3: executives terminated or suspended,
auditor resigned dismissed,
5: financing needed/covenant \"Iolatlons. 6. restructuring, 7: going concern likely 8: SEC Investigating, 9: Bankruptcy or delIstmg.
Enron return at November 8 restatement announcement date IS -5°(0.
Adelphia return al April 16 restatement announcement date IS _6° 0.
Global Crossmg In Chapter II by restalement announcement on October 21

/\ Company had not filed amended results at the lime of this study. Any amount is estlInaled from press releases or 8-K reports.

CIl
W

TilE CHANGING NATURE AND CONSEQUENCES OF PUBLIC COMPANY FINANCIAL RESTATEMENTS

VII.

I 1997-2006

ACKNOWLEDGMENTS

. These colleagues provided careful critiques and thoughtful comments on the analyses and exposition of this study.
I appreciate their considerable time and efforts greatly. In particular, Bill Kinney commented on several drafts. Any
remaining errors and infelicities are my own.

Joseph v. Carcello, Ph.D., CPA, CMA, CIA
Ernst & Young Professor and Director of Research - Corporate Governance Center
College of Business Administration
University of Tennessee

Mark DeFond
Joseph A. DeBell Professor of Business Administration
Leventhal School of Accounting
Marshall School of Business
University of Southern California

William Kinney
Charles & Elizabeth Prothro Regents Chair in Business and Price Waterhouse Fellow in Auditing
McCombs School of Business
University of Texas

Mark Ne1son
Eleanora and George Landew Professor of Management and Professor of Accounting
Johnson Graduate School of Management
Cornell University

The Department of the Treasury I April 2008

54

IP-915:

Prepar~ct

Statement by Treasury Under ::-;ecretary DavId H. McCormick <br>in Advance of G-7... Page 1 of 3

April 9, 200B
HP-915
Prepared Statement by Treasury Under Secretary David H. McCormick
in Advance of G-7 Finance Ministers and Central Bank Governors Meeting
Washington - Good afternoon. The G-7 Finance Ministers and Central Bank
Governors will hold their next meeting here at the Treasury Department on April 11,
against the backdrop of the IMF and World Bank Spring meetings. A good part of
the G-7 meeting will be devoted to current economic conditions, financial market
developments, and the policy response to recent financial market turmoil. They will
also discuss progress on the reform of the International Monetary Fund among
other topics.
Our G-7 colleagues will be keenly interested in hearing first hand about the U.S.
economic outlook, and Secretary Paulson will tell them that the housing correction,
financial market turmoil, and high energy prices are weighing on U.S. economic
growth. There are significant downside risks to the outlook, and we are taking
action to support the economy as we work through these challenges. The economic
stimulus package passed in February will provide over $150 billion of individual and
business tax relief in 200B, leading to the creation of over half a million additional
jobs by the end of the year. In addition, the Administration has taken a number of
steps specifically designed to ease the strain from the housing downturn, such as
convening the HOPE NOW alliance and implementing the FHASecure program.
I share Secretary Paulson's confidence in the resiliency, flexibility and strength of
our economy and our capital markets. Since last August, markets have been repriCing and reassessing risk and there will be more bumps in the road. As we work
through this period, our highest priority is limiting its impact on the real economy.
We are focused on maintaining efficient and liquid financial markets and ensuring
that our banks are able to continue supporting the economy by making credit
available to consumers and businesses.
In addition to measures to bolster the economy in the near term, the Administration
is taking steps to enhance the functioning and stability of the U.S. financial system
going forward. The President's Working Group on Financial Markets (PWG)
reviewed policy issues and issued its policy statement on March 13. The PWG
recommendations include steps to improve market transparency and disclosure,
risk awareness and risk management, capital and regulatory policies, practices
regarding the use of credit ratings, and market infrastructure for over-the-counter
derivatives products. Implementation of these recommendations can strengthen
market discipline, enhance risk management, and improve the efficiency and
stability of our capital markets We expect that the PWG will report on progress
towards implementation in the fourth quarter of 200B and consider whether further
steps are needed to address weaknesses in financial markets, institutions and
related supervisory policies. The PWG is working with foreign regulators, finance
ministries, and central banks through the international Financial Stability Forum
(FSF) to address these challen~es globally.
At our upcoming meeting, Mario Draghi, head of the Financial Stability Forum, will
brief the ministers and governors on the FSF's work on assessing underlying
weaknesses and formulating policy recommendations. As the G-7 requested, the
FSF has focused its efforts on risk management; transparency, accounting, and
valuation of structured products; credit rating agencies; and cooperation among
supervisors and authorities. We look forward to discussing the rapid and effective
implementation of the FSF findings with our colleagues. We will urge that FSF
member organizations, including the Basel Committee on Banking Supervision, the
International Organization of Securities Commissions, the International Accounting
Standards Board, and the Joint Forum of banking, securities, and insurance
supervisors, accelerate their timetables to conclude their efforts by end-200B. We
look forward to a report by the FSF on progress implementing the policy
recommendations at the G-7 Ministerial meeting in October. These efforts are a

http·llwww.treas gov/pressireleases/hp,915.lJtm

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[P-915: Prepa{p,ct Sttltement by Treasury Under Secretary David H. McCormick <br>in Advance ofG-7 ... Page 2 of3
critical example of cooperation among the G-7.
You will be aware that the Secretary recently announced a blueprint for
modernizing financial regulation. Some may view these recommendations as a
response to the circumstances of the day; yet this report is the culmination of a
year's worth of work at the Department. Our first and most urgent priority is working
through this capital market turmoil and housing downturn, and that will be our
priority until this situation is resolved. With few exceptions, the recommendations in
this Blueprint should not and will not be implemented until after the present market
difficulties are past.
The United States is the world leader in financial services. We recognize that a
competitive market requires regulation, investor protection and market stability. But
our financial regulatory structure has not kept pace with innovations in the markets.
The blueprint takes an expansive look at financial regulation in the United States,
making recommendations for short, intermediate and long term improvements to
our system.
Turning to the global outlook, as you know, the global economy was exceptionally
strong the last four years, averaging nearly 5 percent growth annually. It was
perhaps inevitable that some slowdown would occur but the financial headwinds
and other adjustments underway pose significant challenges to the outlook for
2008. The extent to which particular economies will be affected varies; some
commodity producers and emerging market economies are likely to continue to
enjoy robust economic growth. Others face downside risks and will need to be more
attentive to measures that can support growth. In particular, downside risks persist
in view of the ongoing weakness of U.S. residential housing markets, stressed
global financial market conditions, continued high oil and commodity prices, and
consequent inflation pressures. That said we remain positive about the long-term
resilience of the global economy, as well as the long-term resilience of the U.S.
economy, and we believe that the IMF's latest WEO projections are unduly
pessimistic.
While the bulk of the meeting will undoubtedly center on the global economic
situation and financial turmoil, the G-7 will also discuss a range of issues pertaining
to the IMF. The U.S. will underscore that the IMF must vigorously reform itself to
remain legitimate and relevant and resemble today's world economy. We will
emphasize the need for firm implementation of the IMF's new framework for
exchange rate surveillance. To date, the Fund has strengthened its focus on
eXChange rate analytics, but implementation of the new framework is a work in
progress and there is clearly far more progress to be made.
The U.S. will also back the recent agreement on IMF quota and voice reform, which
- though not as ambitious as we would have liked - represents an improvement on
the status quo and a first step in recognizing the growing role of dynamic emerging
market economies in the global system. The Secretary will also underscore his
support for the approved work plan to deliver a final set of best practices for
sovereign wealth funds by the IMF Annual Meetings in October. We will discuss the
progress made toward putting the IMF's finances on a more sustainable footing by
tackling both expenditures and revenues. In this regard, we commend the
Managing Director for putting a concrete plan on the table to tackle the IMF's
administrative expenses and the Secretary will reaffirm our intention to support
limited gold sales to create a stable revenue base.
After the G-7 meeting, Secretary Paulson will host a dinner that will bring together
the G-7 Finance Ministers and Central Bank Governors and leaders from several
leading financial services companies to have a further discussion on the causes
and consequences of the recent financial market turmoil, and how leaders in the
private and public sectors are responding to this challenge.
Secretary Paulson will also be meeting bilaterally with a number of his counterparts
from within and outside the G-7. He will be attending a breakfast meeting of the
International Monetary and Financial Committee of the IMF, a Ministerial meeting of
the Financial Action Task Force, and a meeting of the World Bank's Development
Committee. Secretary Paulson will also host a roundtable meeting with the Finance
Ministers from a number of sub-Saharan African countries with demonstrated
commitment to economic reform. Following up on his trip to Africa last November,
Secretary Paulson will discuss with the Ministers options for addressing critical
challenges to sustainable, private-sector led growth including financing basic

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5112/2008

IP-915: Prepa!"~ct Stfltement by Treosury Under Secretary David H. McCormick <br>in Advance ofG-7 ... Page 3 of3
infrastructure and improving the investment climate.
Thank you for coming this morning, and I look forward to answering your questions.
-30-

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5112/2008

p-916: Secretary Paulson Statemellt on House Trade Vote

Page 1 of 1

April 10, 2008
hp-916
Secretary Paulson Statement on House Trade Vote
Washington, DC -- Treasury Secretary Henry M. Paulson, Jr. today issued the
following statement on the House of Representatives vote to change Trade
Promotion Authority rules:
"The Trade Promotion Authority process has served America well, enabling us to
open markets around the world to U.S. exports. And today, exports are the bright
spot in our economy. I can't recall another time when trade has played such a vital
role in creating Jobs for American workers. Changing the rules in the middle of the
game is fundamentally unfair to Colombia, a good friend of the United States, and
to all those in the region who have stood with Colombia as it has created stability
and opportunity for its people. Changing the TPA process could have lasting
impact, undermining our country's ability going forward to open foreign markets to
American goods and services. It also sends an unwelcomed signal to global
markets at an economically sensitive time. I urge the Congress not to chip away at
an agreed process, and in so doing isolate US workers from opportunities around
the globe."

-30-

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5112/2008

IP.917: Opt~ing Stat.emf:nt by Secretary Henry M. Paulson, lr.<br>before the House Committee on Ap... Page 1 of 2

April 10, 2008
HP-917
Opening Statement by Secretary Henry M. Paulson, Jr.
before the House Committee on Appropriations
Subcommittee on State, Foreign Operations and Related Programs
on the FY 2009 International Programs Budget
Washington - Chairwoman Lowey, Congressman Wolf, Members of the
Committee: Thank you for the opportunity to discuss the President's FY 2009
Budget request for the Department of the Treasury's International Programs. This
Budget request of approximately $2.241 billion reflects the Bush Administration's
commitment to promote economic growth and reduce poverty in the developing
world. The Budget request provides support for the on-going efforts of the
multilateral development banks (MOBs), debt restructuring programs and technical
assistance, In providing these resources, the United States invests in economic,
social and political stability around the world. Our support for these programs helps
countries establish the policies and programs necessary to create the conditions for
long-term private sector-led growth.
The FY 2009 Budget request also includes funding for a new, multilateral clean
technology fund that will help major developing countries move towards a low
carbon growth path. I will talk about this new initiative first.
International Clean Technology Fund
In September 2007, President Bush proposed the creation of the international clean
technology fund (CTF) to help developing countries adopt clean energy
technologies. As these countries build infrastructure that will exist for 30 years or
more, we need to assist them to take advantage of cleaner, more advanced
technologies. Otherwise, developing countries may be locked into a legacy of
highly-polluting, less efficient - though less expensive - technologies. The
proposed CTF would help cover the cost difference between older, dirtier
technologies and cleaner, more advanced technologies. It would be created as a
multilateral trust fund administered by the World Bank, and implemented through
the MOBs. This fund represents a truly international approach to reduce rapid
greenhouse gas emission growth in major developing countries.
The FY 2009 budget request includes $400 million for the first installment of a total
U.S. pledge of $2 billion over three years. With additional funding from other
countries, we will help finance clean energy projects in the developing world, which
will benefit people around the world.
Multilateral Development Banks
In addition to this new initiative, the President's FY 2009 Budget requests a total of
$2.071 billion for MOB funding, including $42 million to pay a portion of outstanding
U.S. arrears to the International Development Association. The Budget request also
includes U.S. contributions to replenish the International Development Association
and the African Development Fund. This replenishment pledge will cover the U.S.
contribution to the Multilateral Debt Relief Initiative from FY 2009 to 2011.
Through U.S. leadership, the MOBs are reforming their business practices. We
have seen important progress in how the banks measure results. They are better at
encouraging private sector development and business climate reforms. The MOBs
are also showing improvements in transparency, anti-corruption systems and
strengthening performance-based allocation systems to ensure that countries with
stronger policies receive higher funding priority.
This progress is reflected in the new replenishment agreements that require policies

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lP-917: Ope,~ing St::ltement by Secretary Henry M. Paulson, lr.<br>before the House Committee on Ap... Page 2 of 2
which should deliver results for the world's poorest people and improve the Banks'
effectiveness as it works with fragile slates such as Afghanistan and Liberia. These
measures will also expand the MOB work on anti-corruption policies, regional
economic integration, and climate change initiatives.
In response to U.S. urging, the MOBs have made substantial progress to improve
the debt sustainability of many developing countries. This includes the 2005
Multilateral Debt Relief Initiative (MDRI) and last year's agreement by the InterAmerican Development Bank to provide 100 percent debt relief to the bank's five
poorest borrowing countries. To ensure the gains from debt relief are not lost, all
MOBs now use the World Bank/iMF debt sustainability framework to determine the
appropriate mix of grants and concessional loans.
While efforts to make the MOBs more effective must continue, the banks are more
accountable, transparent and results-oriented today than when President Bush took
office in 2001 .

Debt Restructuring Programs
This request also includes $141 million for debt restructuring programs. These
funds will meet U.S. commitments for bilateral debt reduction for Heavily Indebted
Poor Countries (HIPCs) and U.S. pledges for contributions to the HIPC Trust Fund.
This request also includes $20 million for the Tropical Forest Conservation Act. The
HIPC initiative is lifting crippling debt burdens off many of the world's poorest
countries, freeing resources for poverty reduction, when those countries have
demonstrated both sound economic policy and a commitment to fighting poverty.

Technical Assistance
The third component of this request includes $29 million for Treasury's Technical
Assistance program. This is a small program that never makes the headlines. But
from my travels around the world I know that it is both cost effective and valuable.
Treasury's financial experts help countries strengthen their capacity to manage
public finances, lay the financial groundwork for private sector led growth, and
combat money laundering and terrorist financing. Building that capacity is also a
vital complement to investments in other areas - debt relief, for example - and to
the effectiveness of development assistance generally. If developing countries'
fiscal houses are not well managed, our investments in schools, hospitals, roads
and other critical infrastructure will not be sustained, or will have to be sustained by
us indefinitely.

Conclusion
Overall, we believe that full funding of these international programs will allow
Treasury to work with and support developing countries throughout the world as
they strive to lift their people out of poverty and provide greater opportunities for
prosperity and security.
Thank you for your past support and for your current consideration of these
programs. I look forward to working with you during your deliberations and welcome
your questions.
- 30 -

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5112/2008

HP-918: Tre2Sury, IRS

ISS1W,

Funding Guidance for Single-Employer Defined Benefit Plans

Page 1 of 1

10 vIew or prmt tne puJ- content on tnlS page, aOwn/oaa tne tree AClOOe',I') AcrOIJat"'J Keaael','').

April 11, 2008
HP-918
Treasury, IRS Issue Funding Guidance for Single-Employer Defined Benefit
Plans
Washington, DC--The Treasury Department and the Internal Revenue Service
issued today proposed regulations under section 430 of the Internal Revenue Code
that provide employers sponsoring single-employer defined benefit plans with
guidance regarding the determination of minimum required contributions under the
new funding rules enacted as part of the Pension Protection Act of 2006.
The proposed regulations, together with three earlier sets of proposed regulations,
enable plan sponsors to determine the contribution requirements that apply to their
defined benefit plans under the new funding regime, including the application of the
quarterly contribution requirements.
Although the new funding rules are generally effective for plan years beginning on
or after January 1, 2008, these regulations are proposed to be effective for plan
years beginning on or after January 1, 2009. Plan sponsors, however, can rely on
the proposed regulations for purposes of satisfying the minimum funding
requirements for plan years beginning in 2008.
On December 19, 2007, the Senate passed an amended version of the Pension
Protection Technical Corrections Act of 2007 and on March 13, 2008, the House of
Representatives passed similar legislation. These proposed regulations, like the
earlier proposed regulations, do not reflect those technical corrections. After
technical corrections are enacted, the regulations will be modified to reflect the new
provisions.
A copy of the proposed regulations is attached.
-30-

REPORTS
•

REG 108508-08

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!P-919: Statemrnt of G. 7 Finance Ministers and Central Bank Governors

Page 1 of3

April 11, 2008
HP-919
Statement of G-? Finance Ministers and Central Bank Governors
Washington, DC - We met today amid ongoing challenges to the world economy
and international financial system.
The global economy continues to face a difficult period. We remain positive about
the long-term resilience of our economies, but near-term global economic prospects
have weakened. While economic conditions differ in our countries, downside risks
to the outlook persist in view of the ongoing weakness in U.S. residential housing
markets, stressed global financial market conditions, the international impact of high
oil and commodity prices, and consequent inflation pressures. The performance of
emerging markets has been a bright spot, but these countries as well are not
immune from global forces.
The turmoil in global financial markets remains challenging and more protracted
than we had anticipated. In the context of a weaker economic outlook, financial
markets confront the interrelated issues of: re-pricing of risk and significant deleveraging; managing counterparty risks; accommodating balance sheet
adjustments; raising capital; improving the liquidity and functioning of key markets.
We welcome efforts by many financial institutions to improve disclosure of
exposures to structured products and related risks, and raise significant new
capital.
We reaffirmed our strong commitment to continue working closely together to
restore sustained growth, maintain price stability, and ensure the smooth and
orderly functioning of our financial systems. We welcome the coordination by major
central banks to address liquidity pressures in funding markets and recognize the
importance of their coordinated actions to address disruptions in global financial
markets. In particular, the recent steps taken by some central banks to expand
access to central bank lending facilities and expand the range of collateral that they
will accept is providing liquidity to financial institutions and helping to support
improved market functioning. In addition, we welcome other measures that have
been taken including monetary and fiscal policy that aim to give support to
underlying economic activity and ensure price stability. Each of us remains
committed to taking action, individually and collectively as appropriate, consistent
with our respective domestic circumstances.
We reaffirm our shared interest in a strong and stable international financial system.
Since our last meeting, there have been at times sharp fluctuations in major
currencies, and we are concerned about their possible implications for economic
and financial stability. We continue to monitor exchange markets closely, and
cooperate as appropriate. We welcome China's decision to increase the flexibility of
its currency, but in view of its rising current account surplus and domestic inflation,
we encourage accelerated appreciation of its effective exchange rate.
Last fall we tasked the Financial Stability Forum (FSF) for a report identifying the
underlying causes and weaknesses in the international financial system that
contributed to the financial market turmoil. We thank Mario Draghi, the chairman of
the Financial Stability Forum, and FSF members, for the report that sets out
detailed recommendations to enhance market and institutional resilience. We, the
G-7, strongly endorse the report and commit to implementing its recommendations.
Rapid implementation of the FSF report will not only enhance the resilience of the
global financial system for the longer term but should help to support confidence
and improve the functioning of the markets.
The FSF report presents a specific and substantive set of recommendations across
five major areas. We have identified the following recommendations among the
immediate priorities for implementation within the next 100 days:

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•

•

•

•

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Firms should fully and promptly disclose their risk exposures, write-downs,
and fair value estimates for complex and illiquid instruments. We strongly
encourage financial institutions to make robust risk disclosures in their
upcoming mid-year reporting consistent with leading disclosure practices as
set out in the FSF's report.
The International Accounting Standards Board (IASB) and other relevant
standard setters should initiate urgent action to improve the accounting and
disclosure standards for off-balance sheet entities and enhance its guidance
on fair value accounting, particularly on valuing financial instruments in
periods of stress.
Firms should strengthen their risk management practices, supported by
supervisors' oversight, including rigorous stress testing. Firms also should
strengthen their capital positions as needed.
By July 2008, the Basel Committee should issue revised liquidity risk
management guidelines and IOSCO should revise its code of conduct
fundamentals for credit rating agencies.

We endorse the following FSF proposals for implementation by end-2008:
•

•

•

•

•

Strengthening prudential oversight of capital, liquidity, and risk
management: The Basel II capital framework needs timely implementation.
The Basel Committee should raise capital requirements for complex
structured credit instruments and off-balance sheet vehicles, require
additional stress testing, and enhance their monitoring.
Enhancing transparency and valuation: The Basel Committee should issue
further guidance to enhance the supervisory assessment of banks' valuation
processes to strengthen disclosures for off-balance sheet entities,
securitization exposures, and liquidity commitments.
Changing the role and uses of credit ratings: Investors need to improve their
due diligence in the use of ratings. Credit rating agencies should take
effective action (consistent with IOSCO's revised code of conduct) to
address the potential for conflicts of interest in their activities, clearly
differentiate the ratings for structured products, improve their disclosure of
rating methodologies, and assess the quality of information provided by
originators, arrangers, and issuers of structured products.
Strengthening the authorities' responsiveness to risk: Supervisors and
central banks should further strengthen cooperation and exchange of
information, including the assessment of financial stability risks. It is
important that an "international college of supervisors" be established for
each of the largest global financial institutions. Market authorities also
should act cooperatively and swiftly to investigate and penalize fraud,
market abuse, and manipulation.
Implementing robust arrangements for dealing with stress in the financial
system: Central banks should be able to supply liquidity effectively during
financial system stress, and authorities should review and where necessary
strengthen their arrangements for dealing with weak and failing banks,
domestically and cross-border.

We ask the FSF and its working group to monitor actively the implementation of the
report's recommendations It is important that member bodies of the FSF, including
the Basel Committee, IOSCO, the IASB, and the Joint Forum, accelerate their
timetables of work to conclude their efforts by end-2008 and that the
recommendations of the FSF be fully and effectively implemented. We look forward
to an update at the Osaka meeting in June and a comprehensive follow-up report
by the FSF at our meeting in the fall. We welcome the strengthened cooperation
between the FSF and IMF, which should enhance the early warning capabilities of
key risks to financial stability.
We also welcome efforts by private-sector participants to develop proposals to
contribute to a better functioning of the financial system.
The current financial market turmoil also has raised broad policy issues about the
appropriate regulatory frameworks of our financial sectors. We have reaffirmed the
importance of reviewing regulatory frameworks to consider whether changes are
necessary to ensure that our financial systems are as efficient and stable as
possible in the future.
We reaffirm the important role for the IMF in securing global financial stability. In
this light we endorse the significant progress on IMF reform:

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•

We welcome the agreement on quota and voice reform in the IMF as an
important step to recognize the greater global weight of dynamic
economies, many of which are emerging markets, and increasing the voice
of low income countries.
• We reiterate the importance we place on the IMF's new framework for
surveillance, including for exchange rates, and urge its firm and evenhanded implementation.
• We welcome progress toward putting the IMF's finances on a more
sustainable footing, including a $100 million annual reduction in
administrative expenses. Ongoing budget discipline will be required. We
support new sources of income, including an endowment financed by a
limited sale of IMF gold.

Taken together, these important reforms will boost the IMF's legitimacy,
effectiveness, and credibility.
Upholding open trade and investment regimes is critical to realizing global
prosperity and fighting protectionism. We highlight the urgent need for a successful
conclusion to the Doha Development Round. We also commend the OEeD work on
open investment and the IMF's commitment to deliver a set of best practices for
Sovereign Wealth Funds by the IMF Annual Meetings in October. The policy
principles put forward by Abu Dhabi, Singapore, and the United States should be
helpful inputs into these processes.

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IP.920: StattDlt>.nt hy Secretary Pauhon<br>Following Meeting ofG7 Finance Ministers And Central B ... Page 1 of2

April 11, 2008
HP-920
Statement by Secretary Paulson
Following Meeting of G7 Finance Ministers And Central Bank Governors
Washington, DC-- Today G-7 Finance Ministers and Central Bank Governors met
in Washington at a time of slowing global growth and increased downside risks to
the global economy. As you might expect, most of our discussion focused on the
ongoing challenges in the global economy and the international financial system,
and the policy responses to these challenges.
I am confident in the long-term economic prospects of the United States. However,
the housing correction, together with high energy prices and financial market
turmoil, are weighing on U.S. economic growth. Given the significant short-term
downside risks, we are taking action. The economic stimulus package passed in
February will provide over $150 billion of individual and business tax relief in 2008,
leading to the creation of over half a million additional jobs by the end of the year.
The Administration has taken a number of steps specifically designed to minimize
the spillover from the housing sector to the real economy, such as convening the
HOPE NOW alliance and implementing the FHASecure program. The
Administration continues to push for legislative action on FHA modernization and
reform of Government-Sponsored Enterprises as well.
I have the greatest confidence in the resiliency, flexibility and strength of our
economy and our capital markets. We have been undergoing a period of financial
market stress since last August. Markets are pricing and reassessing risk and there
are always difficulties during periods such as this. There may be more bumps in the
road. As we work through this period, our highest priority is limiting its impact on the
real economy. We are focused on maintaining stable, orderly and liquid financial
markets and ensuring that our banks continue to support the economy by raising
capital when necessary and making credit available to consumers and businesses.
The financial market turmoil and its impact on global growth underscore the need
for all countries to remain open to trade and investment. I reiterated the United
States' commitment to open investment policies and to combating rising
protectionism. Protectionist pressures threaten to deprive countries of the
significant benefits generated by foreign investment. I support the work of the IMF
to develop best practices for sovereign wealth funds (SWFs) and look fOlWard to a
final set of best practices by the IMF Annual Meetings in October. I encourage the
OECD to continue its work, and to identify this year, best practices for the inward
investment regimes of countries that receive government-controlled investment,
including from SWFs. We agreed that a successful completion of Doha is also
critical to this effort.
Many actions across the globe are being taken to address the financial market
turmoil. International cooperation and coordination has been excellent. We have
worked, and will continue to work, closely to address global challenges and take
concrete actions. Here in the United States, the Administration is taking steps to
enhance the functioning and stability of the U.S. financial system going fOlWard. I
briefed my colleagues on the work of the President's Working Group on Financial
Markets (PWG) and Treasury's analysis on an optimal financial regulatory structure
for the United States, which benefited from comments that we sought from around
the globe. The PWG issued a policy statement in mid-March, with
recommendations to improve market transparency and disclosure, risk awareness
and risk management, capital and regulatory policies, practices regarding and use
of credit ratings, and market infrastructure for over-the-counter derivatives products.
Implementation of these recommendations can strengthen market discipline,
enhance risk management, and improve the efficiency and stability of our capital
markets. Later this year the PWG will report on progress towards implementation of
its recommendations. The PWG is working closely with foreign regulators, finance
ministries, and central banks through the Financial Stability Forum (FSF) on

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financial market issues. Working together, we can strengthen market discipline,
enhance risk management and improve the efficiency and stability of our capital
markets.
I welcomed the update from Mario Draghi, Chairman of the Financial Stability
Forum, on the Forum's report identifying the underlying causes and weaknesses in
the international financial system that have contributed to the financial market
turmoil, and formulating detailed policy recommendations to enhance market and
institutional resilience. The FSF report presents recommendations in several key
areas: risk management; transparency, accounting, and valuation of structured
products; credit rating agencies; dealing with stress in the financial system; and
strengthening cooperation among supervisors and authorities. We discussed the
importance of rapid and effective implementation of the FSF findings, and I support
efforts encouraging the FSF member organizations, including the Basel Committee
on Banking Supervision, the International Organization of Securities Commissions,
the International Accounting Standards Board, and the Joint Forum of banking,
securities, and insurance supervisors, to accelerate their timetables to conclude
their efforts by the end of the year. The broadly consistent recommendations of the
FSF and those of the PWG complement each other and strengthen the
effectiveness of our response. The G-7 will review an update on the implementation
of the FSF policy recommendations at its October Ministerial.
Following our extensive discussion on the global economy and international
financial markets, we discussed several key issues of IMF reform. I stressed that
the IMF must vigorously reform itself in order to remain legitimate and relevant in
today's global economy. I underscored the need for firm implementation of the
IMF's new framework for exchange rate surveillance. The Fund has worked to
strengthen its focus on exchange rate analytics, but there is clearly a great deal
more progress to be made on implementation of the new framework. The Fund has
an important role to play in surveillance and its success moving forward as an
institution will depend critically on its ability to demonstrate this.
The United States supports the recent agreement on IMF quota and voice reform. It
is a modest, but important, step forward in realigning the distribution of IMF quota
shares to be more reflective of the current global economy. The deal is not as
ambitious as we would have liked, but we were impressed that many dynamic
emerging markets consider it an improvement on the status quo and a first step in
recognizing their growing role in the international monetary system. I welcomed the
progress that has been made toward putting IMF finances on a more sustainable
footing, which includes a significant downsizing of IMF staff. I am pleased that both
expenditures and revenues are being addressed, and I commend Dominique
Strauss-Kahn, the Managing Director, for putting a concrete plan on the table to
deal with the IMF's administrative expenses. As part of this reform, I explained to
my colleagues that the U.S. will seek Congressional authorization for a limited gold
sale for an IMF endowment.
Finally, we reaffirmed our commitment to vigorously counter money laundering,
terrorist and proliferation financing in order to safeguard the integrity of the global
financial system. We remain particularly concerned about the ongoing risks of illicit
finance emanating from Iran and urge all countries to urgently and fully implement
the financial provisions of UN Security Council resolutions 1737,1747, and 1803.
We strongly support the public actions of the Financial Action Task Force (FATF) to
protect the international financial system from these risks, as well as the risks
arising from substantial jurisdictional deficiencies in Iran's anti-money laundering
and counter-terrorist financing regime. We agreed that FATF should continue its
important work in identifying and responding to emerging illicit financing threats to
the international financial system. We also agreed that FATF should continue to
apply its expertise in providing guidance to assist states in implementing their
financial obligations under U.N. Security Council resolutions to combat WMD
proliferation. We strongly support the continued cooperation of the IMF and World
Bank with the FATF to combat money laundering and terrorist financing worldwide.
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IP.921:

Staten~.cnt by Secretary Henry

f\i. Paulson, lr.<br>at the International Monetary and Financial...

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April 12, 2008
HP-921

Statement by Secretary Henry M. Paulson, Jr.
at the International Monetary and Financial Committee Meeting
Washington, DC - Today's meeting takes place against the backdrop of
considerable challenges to the global economy. In recent years, global economic
conditions have been quite favorable, with growth averaging nearly 5% per year.
2008 will be a more difficult year, with headwinds coming from adjustments in the
U.S. economy, financial market stress, higher commOdity prices, and higher than
desirable inflation. Downside risks will vary, and many European and emerging
market economies have stood up relatively well so far to the recent financial turmoil,
but no economy is entirely immune from global forces. In this context, it is critical
for policy makers to put in place sound policy frameworks that support growth and
enhance economic resilience.
Following several years of what, in retrospect, was unsustainable home price
appreciation, the U.S. economy is undergoing a significant housing correction. The
weak housing market, together with high energy prices and stress in financial
markets is penalizing U.S. economic growth. While I am confident in the long-term
economic prospects of the United States, clearly for the moment, the risks facing
the U.S. economy are to the downside. We are responding vigorously. First, we
have adjusted macroeconomic policy to support the broad U.S. economy while the
corrections take place in the housing and credit markets. The President and
Congress responded with a bipartisan fiscal stimulus package that will inject more
than $150 billion into our economy in the near term and boost GOP growth this
year. Second, the Administration has supported a number of initiatives - both
private-sector led and public-sector initiatives - in response to the housing
correction, designed to prevent avoidable foreclosures and maintain viable credit
markets while allowing the needed adjustment to proceed.
Since last August, financial markets have been reassessing risk, re-pricing assets
and de-leveraging. It took time to build up recent excesses and it will take time to
work through the consequences. We must expect more bumps in the road. Global
financial institutions are making progress, with some announcing write-downs and
acting to raise capital. Additional disclosures of risks and material conditions and
sound capitalization continue to be important, as does the ability of financial market
participants to provide liquidity and of banks to extend credit. I have confidence in
our capital markets and in their resilience, flexibility, and strength.
In the United States, the President's Working Group on Financial Markets (PWG)
released recommendations in mid-March to improve market transparency and
disclosure, risk awareness and risk management, capital and regulatory policies,
practices regarding and use of credit ratings, and market infrastructure for over-thecounter derivatives products. We are working closely through the G-7 and the
Financial Stability Forum (FSF) to address global challenges and take concrete
actions. We support the recommendations of the FSF, which are broadly
consistent and complementary to PWG recommendations. The FSF has focused
its efforts on risk management; transparency, accounting, and valuation of
structured products; credit rating agencies, prudential oversight and arrangements
for dealing with stress in the financial system. While no silver bullet exists to
prevent the excesses of the past from re-occurring, working together we can
strengthen market discipline, enhance risk management and improve the efficiency
and stability of our capital markets.
The IMF, as a member body of the FSF, has an important role to play in providing
analytic support and conducting financial surveillance of its member countries. We
support complementary roles, with the IMF reporting findings from its monitoring of
financial stability risks to FSF meetings, and in turn incorporating FSF conclusions
into its surveillance work.

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Openness to trade and investment helps underpin global growth and has been a
source of strength for the U.S. economy. We remain committed to opposing
protectionist sentiment wherever it may be found and to advancing greater
openness globally. The Doha Development Round is at a critical juncture if
negotiations are to be completed by the end of the year The United States is
willing to step forward with the necessary leadership - however, a significant
contribution by the advanced developing countries is critical to Doha's success
Doha's development promise can only be met through agreement to significantly
open markets, including financial services markets.
IMF Reform
In today's rapidly evolving global economy, the IMF must reform to retain its
relevance and legitimacy. Strong international cooperation - and an effective IMF
at the center of such cooperation-- remains as important as ever to global growth
and financial stability. But to meet today's challenges, the Fund must sprint quickly
and far to adapt to rapid technological change, the rise of dynamic emerging market
economies, and the increasing internationalization of financial markets. In this
context, the IMF needs to sharpen its focus on: 1) exchange rate surveillance; 2)
openness to international investment, particularly meeting policy challenges posed
by sovereign wealth funds; and 3) supporting global financial market stability. The
Fund must also maintain its capacity to provide balance of payments support to
countries in crisis, and to promote macroeconomic stability in low-income countries,
while avoiding straying into the World Bank's development mandate.
Fundamental to the IMF's relevance is the vigor with which it carries out its core
mission of surveillance over members' exchange rate policies. The Fund's
surveillance work on fiscal, monetary policy and financial sector issues is strong.
The new exchange rate surveillance decision provides an improved framework, but
more important is how IMF staff carries out its day-to-day work in this area. We
believe surveillance discussions have become more focused on key exchange rate
issues, but staff must follow through conSistently with strong analytics and clear
views and judgments on exchange rate policies, particularly where currencies are
not set by market forces in deep, liquid markets. The IMF's implementation of the
new surveillance decision is still a work in progress. Strengthened implementation
of this core mandate is integral to IMF legitimacy; insufficient progress would put
success of the broader modernization effort at risk.
Last October, the IMFC recognized the systemic importance of rapidly growing
sovereign wealth funds. The IMF has responded to the international community's
call for analytic work on sovereign wealth fund best practices by setting forth a
broad framework and process to guide work going forward. We welcome these
steps. and look forward to a timely and credible set of sovereign wealth fund best
practices ahead of the Annual Meetings this fall. It will be important for the Fund to
work closely with both sovereign wealth fund countries and recipient countries to
ensure a comprehensive, high-quality product.
Reform of the IMF's governance structure is overdue. I welcome the opportunity to
join emerging market countries and the broader IMF membership in supporting a
quota reform package. While we would have preferred a more ambitious reform
package, this reform is a first step forward in the right direction, which boosts the
weight of dynamic emerging markets and will result in a governance structure that
better reflects the realities of the global economy. It improves on the status quo. We
are particularly pleased that GDP will have a stronger weight in the quota formula,
which will position dynamic emerging markets to see their voice in the IMF rise in
the years to come. The voice of the poorest countries will also be protected.
Achieving consensus on an issue of this kind was not easy, as political realities
posed significant constraints and headwinds. But this package has gained the
broad support of emerging market and developing countries, and represents a
consensual first step forward. With this package, the Fund cannot rest on its
laurels, however. Its governance structure will need to continue evolving in the
years ahead, and in particular the Fund must refine the new quota formula to better
reflect the realities of trade among countries.
As part of governance reform, we call on other IMF members to Join us in
supporting a smaller, more strategically focused Board. The Board is simply too
costly and a smaller and more streamlined Board could focus more strategically on
the management of the institution and less on the voluminous crush of papers. In
this regard, we favor reducing the number of Board chairs from 24 seats presently

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to 22 seats by 2010 and 20 seats by 2012. To facilitate consolidation of seats, we
also favor eliminating the current practice of permitting the five largest shareholders
to appoint their own directors, and instead believe all Board chairs should be
elected.
We welcome progress toward putting IMF finances on a sustainable footing. We
support Managing Director Strauss-Kahn's proposal for staff cuts on the order of
10% and a $100 million reduction in the medium-term administrative budget, in real
terms, to meet a medium-term budget gap estimated at $400 million. For our part,
we recognize that new sources of income are also necessary and we are
committed to seeking Congressional authorization for a limited sale of IMF gold to
finance an endowment. Looking forward, on-going budget discipline will be critical
to ensure that savings are not eroded.

Other Key Issues
We must continue to apply vigorous efforts to combat money laundering, terrorist
financing and other forms of illicit finance, in order to protect the international
financial system from abuse and to support global financial stability and economic
development. To this end, we have revised the mandate of the Financial Action
Task Force (FATF) to include in its important work combating the financing of WMD
proliferation, in addition to other forms of illicit financing. We commend the ongoing
close cooperation between the FATF, the IMF and the World Bank. We emphasize
the importance of preserving the IMF's capacity to provide assistance in
implementing international standards to countries that are systemically important to
the global financial system.
We urge all nations to vigorously implement the financial provisions of UNSCR
1803, particularly with respect to the financial institutions identified in the
resolution. We further underscore the recent statements by the FATF highlighting
the money laundering and terror financing risks to the international financial system
emanating from Iran. Accordingly, we urge all nations to advise their financial
institutions of these risks of dealing with Iranian commercial banks, and the Central
Bank of Iran. and we recommend increased vigilance towards all Iranian
commercial and financial relationships.
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April 13, 2008
HP-922
Statement by U,S. Treasury Secretary Henry M. Paulson, Jr.
at the Development Committee Meeting
Washington. DC -While the long-run economic fundamentals remain sound, the
US economy faces challenges. The housing correction, credit market turmoil, and
high oil prices are all weighing on growth and short-term risks are to the downside.
However, the fundamental drivers that make the US economy healthy over the
long term are sound, Including the flexibility, innovation, and entrepreneurship that
characterize our country.
These risks notwithstanding, it IS important to remember that developing countries
are on track to record tileir sixth consecutive year of average GOP growth in excess
of 6%, an accomplishment unparalleled in recent history. Stronger macroeconomic
policies, buoyant external demand, low real interest rates, and increased access to
private capital markets - over $600 billion in net private inflows in 2007 - are major
factors for strong growth performance
Recent Market Developments - Challenges and Opportunities Resulting from
Higher Commodity Prices
The strong upward movements in world commodity prices in recent years have
generally produced large beneficial shifts in the terms of trade for many developing
countries. For these countries, we support the recommendations contained in this
year's Global Monitoring Report (GMR) that sound management of these windfall
revenues is essential to translate this boom into the foundations for higher
sustainable growth. This will require establishing and maintaining sound
institutions, combined with good governance and public finance management to
ensure quality spending.
Governments of countries that are experiencing severe negative shifts in the terms
of trade due to higher commodity prices, including higher food prices, may need to
implement better energy demand policies and targeted safety net programs while
conSidering longer term measures, such as promoting sustainable energy
development and agricultural growth EXisting international facilities can also help
mitigate the impacts of negative terms of trade movements when appropriate.
Governments, however, need to resist the temptation of pnce controls and
consumption subSidies that are generally not effective and efficient methods of
protecting vulnerable groups. They tend to create fiscal burdens and economic
distortions while often prOViding aid to higher-income consumers or commercial
interests other than the intended beneficiaries.
Challenges and Opportunities for Low and Middle Income Countries
Despite impressive advances In most developing countries, the World Bank and
other development partners have a large unfinished agenda. While many
developing countnes have been able to capitalize on the opportunities offered by
increased globalization and a favorable export environment, a key challenge for the
international finanCial institutions is to assist those countries whose growth is
lagging We agree with the assessment in the GMR that three broad areas
emerge as major factors necessary for strong growth: sound macroeconomic
policies, favorable pnvate investment climates, and good governance.
We also agree with the conclusion in the GMR that the relationship between trade
expansion and economic growth is positive and that trade reforms are critical
means to lifting people out of poverty. Reducing barriers to trade in goods and
services enables local firms to access low-cost and high-quality services such as
telecommunications, transport and distribution services and financial Intermediation,
thus enhancing their ability to compete more effectively in international markets.

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Overcoming Poverty in Fragile States and Post-Conflict Countries
The development challenges are all the more formidable in fragile and post-conflict
states. It is increasingly becoming apparent that the international development
community needs to be more effective in its efforts to lay the groundwork for
economic growth and employment so that the people living in these states believe
they have a stake in the future.
The development programs for these countries, which are mostly located in subSaharan Africa, will require a challenging mixture of security enhancement, political
reform and consolidation, capacity building, and actions to build private sector
growth opportunities. While international aid flows are an important element for
successful development, establishment of basic government capacity is required to
ensure that aid is used effectively. The Bank Group, working with other members
of the international community, has done much in the last year - including in IDA 15
- to develop a more effective strategy for promoting development in these countries
and we urge swift implementation of these measures.

Environmental Sustainability and Climate Change
The World Bank and its sister institutions face multiple and growing challenges in
incorporating environmental sustainability into their development and anti-poverty
mandates. For instance, the MOBs are generally financing a shrinking share of
investment projects relative to other lenders (especially in International Bank for
Reconstruction and Development countries), which reflects positively on these
countries economic development and access to private markets but dilutes MOB
leverage with respect to the overall environmental performance of projects in those
countries.
The Bank needs to continue to emphasize its core mandate while becoming more
creative in utilizing the linkages between environmental trends and poverty.
Potential areas for this include leveraging its own tools - for example safeguard
policies, environmental capacity-building, payments for ecological services,
techniques for adaptation to climate change, and monitoring trends in natural
capital. Second, the bank should maximize the global as well as local benefits of its
work in the areas of environment and climate change.
We welcome the Bank's increasing focus on climate change as it becomes clear
that the issue must be addressed in the context of development efforts. However,
we realize that addressing climate change is also technically and financially
challenging. In this vein we applaud the Bank's work to create the Climate
Investment Funds, which we intend to support with a $2 billion contribution over the
next three years through the Clean Technology Fund that will help developing
countries invest in a clean energy future.

Conclusion
President Zoellick outlined six strategic themes for the World Bank Group at the
Development Committee meeting last fall. As these strategic themes evolve and
are incorporated into a strategic framework, the Bank Group will need to make key
decisions on where it will focus its resources and how to best coordinate and lead
activities with other development partners. We look forward to working with
President Zoellick as this strategy unfolds.
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IP-923: Paulson tn Deliver Remarks ~ur>as PWG Hedge Fund Committees Release Industry Best Pract... Page 1 of 1

April 14, 2008
HP-923
Paulson to Deliver Remarks
as PWG Hedge Fund Committees Release Industry Best Practices
The two private sector committees created by the President's Working Group on
Financial Markets will release their separate sets of best practices for hedge fund
investors and asset managers tomorrow. U.S. Treasury Secretary Henry M.
Paulson, Jr. will deliver remarks with Eric Mindich, chairman of the Asset Managers'
Committee, and Russell Read, chairman of the Investors' Committee. Treasury
Assistant Secretary for Financial Markets Anthony W. Ryan will answer questions
with the committee chairmen following their opening remarks.
The following event is open to credentialed media:
Who
U.S. Treasury Secretary Henry M. Paulson, Jr.
Assistant Secretary Anthony W. Ryan
What
Release of PWG Private Sector Committees' Best Practices
When
Tuesday, April 15, 11 :30 a.m. (EDT)
Where
Treasury Department
Media Room (Room 4121)
1500 Pennsylvania Avenue, NW
Washington, D.C.
Note
Media without Treasury press credentials should contact Frances Anderson at
(202) 622-2960, or Frances.Anderson@do.treas.gov with the following information:
full name, Social Security Number and date of birth.

http·//www.treasgov/press/releases/hp92}.htm

5/12/2008

IP-924: Treasury International Capital (TIC) Data for Febraury

Page 1 of3

PRESS ROOM

FROM THE OFFICE OF PUBLIC AFFAIRS
We recommend printing this release uSing the PDF file below.
To view or print the PDF content on this page, download the free, 1(/(}/)("

J\c1!.1), 1/' I,,,, I( I,

'I

April 15, 2008
HP-924

Treasury International Capital (TIC) Data for February
Treasury International Capital (TIC) data for February 2008 are released today and posted on the U.S. Treasury web site
release, which will report on data for March, is scheduled for May 15,2008.

if,

t'I',

Net foreign purchases of long-term securities were $72.5 billion .
• Net foreign purchases of long-term U.S. securities were $82.8 billion. Of this, net purchases by foreign official institutions were
purchases by private foreign investors were $76.6 billion .

S

• U.S. residents purchased a net $10.2 billion of long-term foreign securities.
Net foreign acquisition of long-term securities, taking into account adjustments, is estimated to have been $60.1 billion.
Foreign holdings of dollar-denominated short-term U.S. securities, including Treasury bills, and other custody liabilities increased $3.4 t
ofTreasury bills increased $14.6 billion.
Banks' own net dollar-denominated liabilities to foreign residents increased $0.5 billion.
Monthly net TIC flows were positive $64.1 billion. Of this, net foreign private flows were $73.1 billion, and net foreign official flows were
-30-

TIC Monthly Reports on Cross-Border Financial Flows
(Billions of dollars, not seasonally adjusted)
2006

2007

12 Months Through
Feb-07
Feb-08 Noy-07

Dec-I

Foreigners' Acquisitions of Long-term Securities
1

2
3

Gross Purchases of Domestic U.S. Securities
Gross Sales of Domestic U.S. Securities
Domestic Securities Purchased, net (line 1 less line 2) 11

21077.1 29729.8
19933.9 28724.9
1143.2 1004.8

21750.9
20589.5
1161.4

3198l.5
31026.1
955.4

2902.5
2831.5
71.0

2314
2244
69

4
5
6
7
8

Private, net /2
Treasury Bonds & Notes, net
GOy't Agency Bonds, net
Corporate Bonds, net
Equities, net

946.6
125.9
193.8
482.2
144.6

817.1
198.2
107.0
331.5
180.4

978.7
161.8
168.2
511.7
137.0

732.8
185.7
140.8
255.3
150.9

59.2
24.4
20.6
9.9
4.3

33

9
10
II
12
13

Official, net /3
Treasury Bonds & Notes, net
GOy't Agency Bonds, net
Corporate Bonds, net
Equities, net

196.6
69.6
92.6
28.6
5.8

187.7
3.0
119.1
50.6
15.1

182.6
46.4
100.5
30.4
5.3

222.7
38.2
100.0
51.0
33.5

11.8
0.4
6.0
4.9
0.5

3~

http·llwww.treasgov/press/releases/hp~n4.htm

-s
-/

25
21

1I
4
~

12

511212008

Page 2 of3

IP-924: Treasl'.ry lntemation<ll Capital (TIC) Data for Febraury
14
15
16

Gross Purchases of Foreign Securities from U.S. Residents
Gross Sales of Foreign Securities to U.S. Residents
Foreign Securities Purchased, net (line 14 less line 15) 14

17
18

Foreign Bonds Purchased, net
Foreign Equities Purchased, net

19

Net Long-Term Securities Transactions (line 3 plus line

20

Other Acquisitions of Long-term Securities, net 15

21

Net Foreign Acquisition of Long-Term Securities
(lines 19 and 20):

5515.9
5766.8
-250.9

8187.2
8410.0
-222.8

5816.7
6072.3
-255.6

8514.1
8735.8
-221.7

731.7
711.1
20.6

595
611
-12

-144.5
-106.5

-128.0
-94.8

-145.2
-110.4

-135.0
-86.7

11.0
9.6

-12

892.3

782.0

905.8

733.7

91.6

57

-169.9

-188.9

-178.9

-181.8

-13.6

-11

722.4

593.1

726.8

552.0

78.0

4~

(

146.2
-9.0
16.1
-25.0

215.5
48.8
29.3
19.5

181.3
-18.8
14.7
-33.5

253.3
68.6
46.2
22.3

37.2
15.6
10.8
4.8

33

27
28

Increase in Foreign Holdings of Dollar-denominated ShortU.S. Securities and Other Custody Liabilities: 16
U.S. Treasury Bills
Private, net
Official, net
Other Negotiable Instruments
and Selected Other Liabilities: 17
Private, net
Official, net

155.1
174.9
-19.8

166.7
90.6
76.1

200.1
204.7
-4.6

184.7
104.5
80.2

21.5
4.3
17.3

U
Ii
1

29

Change in Banks' Own Net Dollar-Denominated Liabilities

198.0

-108.6

8.8

-196.1

21.2

-4

1066.5

699.9

917.0

609.1

136.3

7~

926.2
140.3

401.9
298.0

746.0
171.0

299.8
309.3

91.3
45.0

23
51

22
23
24
25
26

30 Monthly Net TIC Flows (lines 21,22,29) 18
of which
31
Private, net
32
Official, net

II
/2
/3

/4

/5

/6

17
/8

1~

4
11

Net foreign purchases of U.S. securities (+)
Includes international and regional organizations
The reported division of net purchases of long-term securities between net purchases by foreign official institutions and r
of other foreign investors is subject to a "transaction bias" described in Frequently Asked Questions 7 and 10.a.4 on tl
Net transactions in foreign securities by U.S. residents. Foreign purchases offoreign securities = U.S. sales offoreign se
Thus negative entries indicate net U.S. purchases of foreign securities, or an outflow of capital from the United States
indicate net U.S. sales of foreign securities.
Minus estimated unrecorded principal repayments to foreigners on domestic corporate and agency asset-backed securitie:
estimated foreign acquisitions of U.S. equity through stock swapsestimated U.S. acquisitions of foreign equity through stock swaps +
increase in nonmarketable Treasury Bonds and Notes Issued to Official Institutions and Other Residents of Foreign C
These are primarily data on monthly changes in banks' and broker/dealers' custody liabilities. Data on custody claims an
quarterly and published in the Treasury Bulletin and the TIC web site.
"Selected Other Liabilities" are primarily the foreign liabilities of U.S. customers that are managed by U.S. banks or bro1
TIC data cover most components of international financial flows, but do not include data on direct investment flows, whi
and published by the Department of Commerce's Bureau of Economic Analysis. In addition to the monthly data surr
TIC collects quarterly data on some banking and nonbanking assets and liabilities. Frequently Asked Question 1 on t
site describes the scope of TIC data collection.

REPORTS
• (PDF) TIC Monthly Reports on Cross-Border Financial Flows (Billions of dollars, not seasonally adjusted)

hl4)'//WWW.treas gov/press/reJeases/hp914.htll1

5112/2008

hp-924: Treasurj International \'(lpital (TIC) Data for Febraury

Page 3 of3

http·/lwww.treasgov/press/reJeases/hp924.htl11

5112/2008

u.s. TREASURY DEPARTMENT OFFICE OF PUBLIC AFFAIRS
9 a.m. (EDT), April 15, 2008
CONTACT Brookly McLaughlin, (202) 622-2920

EMBARGOED UNTIL

TREASURY INTERNATIONAL CAPITAL DATA FOR FEBRUARY
Treasury International Capital (TIC) data for February 2008 are released today and posted on the
U.S. Treasury web site (www.treas.gov/tic). The next release, which will report on data for March,
is scheduled for May 15, 2008.
Net foreign purchases oflong-term securities were $72.5 billion.
•

Net foreign purchases oflong-term U.S. securities were $82.8 billion. Of this, net purchases
by foreign official institutions were $6.1 billion, and net purchases by private foreign
investors were $76.6 billion.

•

U.S. residents purchased a net $10.2 billion oflong-term foreign securities.

Net foreign acquisition of long-term securities, taking into account adjustments, is estimated to have
been $60.1 billion.
Foreign holdings of dollar-denominated short-term U.S. securities, including Treasury bills, and
other custody liabilities increased $3.4 billion. Foreign holdings of Treasury bills increased $14.6
billion.
Banks' own net dollar-denominated liabilities to foreign residents increased $0.5 billion.
Monthly net TIC flows were positive $64.1 billion. Of this, net foreign private flows were $73.1
billion, and net foreign official flows were negative $9.0 billion.

TIC Monthly Reports on Cross-Border Financial Flows
(Billions of dollars, not seasonally adjusted)
2006

2007

12 Months Through
Feb-07
Feb-08

Nov-07

Dec-07

Jan-08

Feb-08

Foreigners' Aequisitions of Long-term Seeurities
I
2
3

Gross Purchases of Domestic U.S. Securities
Gross Sales of Domestic U.S. Securities
Domestie Seeurities Purehased, net (line I less line 2) /1

21077.1 29729.8
19933.9 28724.9
1143.2 1004.8

21750.9
20589.5
1161.4

31981.5
31026.1
955.4

2902.5
2831.5
71.0

2314.1
2244.5
69.6

3140.1
3062.8
77.2

2992.8
2910.1
82.8

4
5
6
7
8

Private, net /2
Treasury Bonds & Notes, net
Gov't Agency Bonds, net
Corporate Bonds, net
Equities, net

946.6
125.9
193.8
482.2
144.6

817.1
198.2
107.0
331.5
180.4

978.7
161.8
168.2
511.7
137.0

732.8
185.7
140.8
255.3
150.9

59.2
2404
20.6
9.9
4.3

33.8
-9.1
-704
29.3
21.0

23.9
-0.1
20.0
0.2
3.8

76.6
24.2
35.7
14.9
1.8

9
10
11
12
13

Offidal, net /3
Treasury Bonds & Notes, net
Gov't Agency Bonds, net
Corporate Bonds, net
Equities, net

196.6
69.6
92.6
28.6
5.8

187.7
3.0
119.1
50.6
15.1

182.6
4604
100.5
3004
5.3

222.7
38.2
100.0
51.0
33.5

11.8
004
6.0
4.9
0.5

35.8
il.O
4.1
8.2
12.5

53.4
36.1
-0.6
3.9
13.9

6.1
-3.6
1.2
404
4.2

5515.9
5766.8
-250.9

8187.2
8410.0
-222.8

5816.7
6072.3
-255.6

8514.1
8735.8
-221.7

731.7
711.1
20.6

599.2
611.2
-12.0

769.8
789.9
-20.2

693.7
703.9
-10.2

-144.5
-106.5

-128.0
-94.8

-145.2
-11004

-135.0
-86.7

11.0
9.6

-12.5
0.5

-17.2
-2.9

5.6
-15.8

892.3

782.0

905.8

733.7

91.6

57.5

57.1

72.5

-169.9

-188.9

-178.9

-181.8

-13.6

-11.3

-14.8

-12.4

722.4

593.1

726.8

552.0

78.0

46.3

42.2

60.1

146.2
-9.0
16.1
-25.0

215.5
48.8
29.3
19.5

181.3
-18.8
14.7
-33.5

253.3
68.6
46.2
22.3

37.2
15.6
10.8
4.8

33.3
15.1
4.0
11.1

73.8
11.6
0.8
10.8

3.4
14.6
1704
-2.8

155.1
174.9
-19.8

166.7
90.6
76.1

200.1
204.7
-4.6

184.7
104.5
80.2

21.5
4.3
17.3

18.2
17.1
1.0

62.3
55.3
6.9

-11.2
-5.6
-5.6

198.0

-108.6

8.8

-196.1

21.2

-4.6

-80.3

0.5

1066.5

699.9

917.0

609.1

136.3

75.0

35.7

64.1

926.2
140.3

401.9
298.0

746.0
171.0

299.8
309.3

91.3
45.0

23.2
51.7

-42.5
78.3

73.1
-9.0

14
IS
16
17
18

Gross Purchases of Foreign Securities from U.S. Residents
Gross Sales of Foreign Securities to U.S. Residents
Foreign Seeurities Purehased, net (line 14 less line 15) /4
Foreign Bonds Purchased, net
Foreign Equities Purchased, net

19

Net Long-Term Seeurities Transactions (line 3 plus line 16):

20

Other Aequisitions of Long-term Seeurities, net /5

21

22

Net Foreign Aequisition of Long-Term Seeurities
(lines 19 and 20):

27
28

Inerease in Foreign Holdings of Dollar-denominated Short-term
U.S. Seeurities and Other Custody Liabilities: /6
U.S. Treasury Bills
Private, net
Official, net
Other Negotiable Instruments
and Seleded Other Liabilities: n
Private, net
Official, net

29

Change in Banks' Own Net Dollar-Denominated Liabilities

23
24
25
26

30 Monthly Net TIC Flows (lines 21,22,29) /8
ofwhieh
31
Private, net
32
Official, net

11
/2
/3
/4

/5

/6

17
/8

Net foreign purchases of U.S. securities (+)
Includes international and regional organizations
The reported division of net purchases of long-term securities between net purchases by foreign official institutions and net purchases
of other foreign investors is subject to a "transaction bias" described in Frequently Asked Questions 7 and 10.a.4 on the TIC web site.
Net transactions in foreign securities by U.S. residents. Foreign purchases of foreign securities = U.S. sales of foreign securities to foreigners:
Thus negative entries indicate net U.S. purchases of foreign securities, or an outflow of capital from the United States; positive entries
indicate net U.S. sales of foreign securities.
Minus estimated unrecorded principal repayments to foreigners on domestic corporate and agency asset-backed securities +
estimated foreign acquisitions of U.S. equity through stock swaps estimated U.S. acquisitions of foreign equity through stock swaps +
increase in nonmarketable Treasury Bonds and Notes Issued to Official Institutions and Other Residents of Foreign Countries.
These are primarily data on monthly changes in banks' and broker/dealers' custody liabilities. Data on custody claims are collected
quarterly and published in the Treasury Bulletin and the TIC web site.
"Selected Other Liabilities" are primarily the foreign liabilities of U.S. customers that are managed by U.S. banks or broker/dealers.
TIC data cover most components of international financial flows, but do not include data on direct investment flows, which are collected
and published by the Department of Commerce's Bureau of Economic Analysis. In addition to the monthly data summarized here, the
TIC collects quarterly data on some banking and nonbanking assets and liabilities. Frequently Asked Question 1 on the TIC web
site describes the scope of TIC data collection.

2

IP-92S: Testimvny of U.S. Treu9urcr Anna Escobedo Cabral <BR>before the House Committee on Fina ... Page 1 of7

/0 vIew or pnnt tne /-,ut- content

on tnlS page, Gown/oaG tne tree

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HC'ilrl')(

April 15, 2008
HP-925

Testimony of U.S. Treasurer Anna Escobedo Cabral
before the House Committee on Financial Services
Washington- Good morning. Thank you, Chairman (Barney) Frank. I want to thank
you Ranking Member (Spencer) Bachus, and the members of the committee for this
opportunity to appear today.
Also, I would like to thank the Committee and the House for their leadership on
financial literacy, including the Congressional resolution declaring April as Financial
Literacy Month. I commend you for focusing a national spotlight on this issue.
The attention is timely. Today, many Americans are struggling - we have young
adults struggling with debt, families struggling to understand the terms of their
mortgages, and older Americans struggling with retirement issues. These are
complex problems and there are no simple solutions. But what we can do to make a
difference - and what is greatly needed in this country - is a little preventative
medicine. That is, to teach all Americans how to make smart, sound financial
choices.
During this financial literacy month, it is appropriate that we step back, assess our
efforts, and enhance our financial literacy outreach. But be assured, our
assessment and promotion of financial literacy doesn't begin on the 15t and end on
the 30 th of April. It is a 365-day effort every year.
During my term in office as Treasurer, I have traveled across the country from the
Bay Area to the Boroughs of New York to cities and towns in between spreading
the financial literacy message to as many Americans as I can. This is more than
just a message to me. I am the daughter of farm workers who grew up in
communities where being unbanked was common, where saving for college was a
rarity, and where financial education was oftentimes nonexistent. So for me,
promoting financial literacy isn't Just good policy. It's personal.
The President and Secretary Paulson are equally committed to their beliefs in the
value of financial literacy. The President's new USA Freedom Corps Financial
Literacy Volunteer Initiative, established just last month, provided more proof of this
commitment. This initiative will encourage everyday Americans to volunteer to
teach financial education in their communities.
I want to talk about three ways that we are addressing financial literacy. The most
recent of these efforts is an advisory group created by the President.

The President's Advisory Council
The President's AdviSOry Council was launched on January 22, 2008. The Council
is comprised mostly of financial education leaders from the private sector, with one
state government representative. It is chaired by Charles Schwab.
This private-sector group, in addition to the federal efforts of the Financial Literacy
and Education Commission, will increase the level of our nation's resources
dedicated to financial literacy. To ensure close coordination with the Financial
Literacy and Education Commission, the Council recently named a liaison to the
Commission who will attend Commission meetings and report on them to the
Council.

Ittp:11www.treas.gov/presslreleases/ho925 ,[tfm

5112/2008

!p-925: Testimol1Y of U.S. Treasurer Alina Escobedo Cabral <BR>before the House Committee on Fina... Page 2 of 7
The Financial Literacy and Education Commission
An abundance of our financial literacy efforts are through the Financial Literacy and
Education Commission. This 20-agency group was established by the Fair and
Accurate Credit Transactions (FACT) Act of 2003. The FACT Act named the
Secretary of the Treasury as chair of the Commission and gave the Commission
and Treasury four mandates: a Web site, a hotline, a multimedia campaign and a
national strategy.
I am pleased to provide progress on each of these projects.
1. Web Site
In October 2004, the Commission launched MyMoney.gov, a Web site designed to
be a one-stop shop for federal financial education information. The Website is
available in English and Spanish and is operated by the General Services
Administration (GSA). It is organized intuitively by topic rather than by agency.
Web site topics include "Paying for Education," "Saving and Investing," "Home
Ownership," "Privacy," and "Frauds and Scams."
MyMoney.gov also provides links to financial education grants offered by different
Commission member agencies. The site has 402 links and has had more than 2
million hits. Visitors can access an interactive, instructional quiz on financial literacy,
view a public service announcement promoting MyMoney.gov and get information
on the activities of the Commission.
The Commission works to ensure that the topics are timely and relevant. For
example, during hurricane season it features information on how to financially
prepare for a weather-related emergency. More recently, the Commission has
added a link explaining the economic stimulus payments, and the front-page
features information on how to avoid foreclosure rescue scams.
2. Toll Free Hotline
In October 2004. the Commission also launched a toll-free hotline called 1-888MyMoney. Operated by the GSA. the hotline is available in English and Spanish
and permits callers to order a free MyMoney toolkit. The English language toolkit
contains eight federal publications covering topics from savings to investing to
understanding the Social Security system. The Spanish language toolkit has seven
publications. Since its launch in October 2004. the MyMoney hotline has received
more than 20.200 calls.
3.

Multimedia Campaign

The Treasury is working with the Ad Council on the production of a campaign that
will address the topic of credit literacy. emphasizing the impact of one's credit
score. The project has progressed through the research. focus grouP. and creative
stages, and is now in production. The campaign is scheduled to launch in the
summer of 2008. It will feature television spots. radio spots. and a new Web site.
4.

National Strategy

The FACT Act also required the Commission to develop a national strategy for
financial literacy. In April of 2006. the Commission released Taking Ownership of
the Future: The National Strategy for Financial Literacy The Strategy is a
comprehensive blueprint for improving financial literacy in America, covering 13
areas of financial education in 13 chapters. Approximately 7.600 copies of the
Strategy have been distributed, and the Strategy has been downloaded an
additional 102.860 times.
This month the Commission submitted its third annual Strategy for Assuring
Financial E'mpowerment Report. The report contains updated information regarding
the implementation of the Commission's principal duties and provides further details
of current and future activities in which the Commission IS or Will be Involved.

GAO Report

Itlp://www .treas.g0v/press/releases/hp925.ht m

5112/2008

.JP-925: Testil1'wny of U.S. Treasurer Anna Escobedo Cabral <BR>before the House Committee on Fina... Page 3 of 7
A December 2006 Government Accountability Office (GAO) report on the
Commission's activities made several recommendations. The Commission
welcomed the insights of GAO on how we could better accomplish our important
mission on behalf of the American people.
The Commission incorporated many of the GAO recommendations into its 2007
revisions to the Strategy. For instance, GAO recommended that definitions to
"financial education" and "financial literacy" be added to the Strategy, and the
Commission defined and incorporated both terms. GAO recommended more of a
focus on partnerships, and the Commission is highlighting agency partnerships with
the private sector on its Web site. In response to a GAO recommendation, the
Commission is also planning to conduct usability testing of and measure customer
satisfaction with MyMoney.gov.
Additionally, GAO suggested an independent review of federal financial education
programs and resources. Although the FACT Act does not require an independent
review of such programs and resources, the Commission decided to pursue such a
review, with the first series of assessments to be completed in 2009.
The GAO also recommended that the Commission work closely with private entities
and state and local governments to improve financial literacy. In response, on April
17, 2007 Treasury and the Office of Personnel Management co-hosted the
Commission's inaugural meeting of the "National Financial Education Network" of
federal, state and local governments at Treasury. This network will facilitate
precisely the type of cooperation called for in the GAO report.
We continue to work to respond to the GAO recommendations.
Calls to Action
At the end of each chapter of the Strategy are specific, numbered Calls to Action.
Most of the actions are assigned to the federal government. but some of the
activities are recommendations for the private sector or for individuals. Since the
launch of the Strategy two years ago, the Commission has been hard at work
implementing these calls. The Calls to Action are milestones for the Commission,
and allow it to measure performance on many initiatives that would not be possible
without the cooperation of all 20 member agencies.
I am pleased to provide a summary of progress on the Strategy's Calls to Action:
Chapter 1: General Saving
1-1 In April of 2007, Treasury and the American Savings Education Council
launched a public service announcement (PSA) on the importance of saving. The
PSA promotes the Web site, MyMoney.gov and toll-free hotline, 1-888-MyMoney.
This ad can be viewed on MyMoney.gov.
Chapter 2: Homeownership
2-1 In July of 2006, the Department of Housing and Urban Development (HUD)
and Treasury co-hosted a roundtable which highlighted successful partnerships that
have advanced homeownership. During the meeting, the complexity of identifying
partners to advance homeownership was discussed at length. Participants cited
best practices which have helped with foreclosure prevention, non-traditional
mortgage products, and the identification of a variety of hidden costs to consumers.
In July of 2007 in Boston, Massachusetts, HUD, in partnership with the Treasury
Department, hosted the second meeting highlighting successful partnerships that
have advanced homeownership. The discussion was focused on how publlc-pnvate
sector partnerships can better deliver grassroots counseling and training programs.
The Federal Deposit Insurance Corporation and the Federal Reserve Bank of
Boston also contributed to the dialogue.
Chapter 3: Retirement Saving
3-1

In 2008. the Treasury Department and the Department of Labor (DOL) will co-

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host a roundtable with large employers on retirement saving. Topics will include
successful strategies in integrating the delivery of financial education into the
workplace and other options for increasing participation and contributions in private
pensions, such as automatic enrollment.
An agenda is being developed. The roundtable is planned for the summer of 2008
in Washington, D.C.
3-2 In April 2006, the Small Business Administration (SBA) linked its online
retirement training tools for small businesses to MyMoney.gov. In addition, the
Department of Labor and the Internal Revenue Service (IRS) developed and
released a new publication, Payroll Deduction IRAs, to complement a series on
retirement plan options for small employers. DOL, as part of its ongoing Fiduciary
Education Campaign, Getting It Right - Know Your Fiduciary Responsibilities,
conducted 27 Fiduciary Compliance Assistance Seminars, in coordination with the
IRS, the American Institute of Certified Public Accountants, and the Society of
Human Resources Management.
3-3 DOL, working in partnership with a national non-profit organization and the
IRS, has implemented the multi-faceted campaign to educate small businesses and
their accountants about options for employee retirement plans. The DOL and its
national non-profit organization partner created a DVD that provides first-hand
observations from small employers and their employees as well as the accountants
for the businesses on the benefits of their retirement plans. The DOL and the IRS
are working on a new publication on the automatic enrollment 401 (k) plan which will
be published this spring and are updating the popular publication, 401(k) Plans for
Your Small Business. The DOL and its national non-profit organization partner are
completing work on an interactive Web site that will help small businesses and their
accountants find the retirement plan options that are appropriate for their business.
This site will be available to the public later this spring.
Chapter 4: Credit
4-1 Through an agreement with the Ad Council, Treasury has been working to
develop and execute a multimedia public service announcement campaign on
credit literacy for young adults, emphasizing the impact of one's credit score. The
project has progressed through the research, focus group, and creative stages, and
is now in production. The campaign is scheduled to launch in the summer of 2008.
It will feature television spots, radio spots, and a new Web site. Some elements of
the Web site will also be available in Spanish.
Chapter 5: Consumer Protection
5-2 In April of 2006, Treasury released the DVD, Identity Theft: Outsmarting the
Crooks, and made it available to the public through MyMoney.gov and 1-888-My
Money.
All copies of the DVD, which totaled 60,750, were distributed. A transcript of the
DVD can be found online at http /dIP;1S Cjov/officesirJomestlc-firlanceifinallclalIIlstltlitlon.'cl [J/[Jrjf/lllJr~IIY .trrlllSCIlpt. pel f.
Chapter 6: Taxpayer Rights
6-2 The Department of the Treasury and a Federal Reserve Bank have continued
the national public education campaign, "Go Direct." The campaign is designed to
encourage Americans who receive federal benefit payments, particularly Social
Security, to use direct deposit. From the start of the pilot program in September,
2004, through February 8, 2008, there were more than 1,670,000 conversions of
paper check recipients to direct deposit enrollees. The U.S. Senate declared
February 2008 as "Go Direct Month" to motivate more Americans to select direct
deposit for their Social Security and other federal benefit payments.
6-3 As a result of the Department of Health and Human Services' (HHS) public
awareness campaign on the new Medicare drug benefit that encourages seniors
and people with disabilities to take a look at their prescription drug coverage
options, over 90 percent of those with Medicare have some form of drug coverage.
Of those, almost 24 million have prescription drug coverage through the new

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Medicare Part 0 benefit. HHS worked with 40,000 partners and conducted more
than 12,000 events to educate taxpayers and beneficiaries on enrolling in the Part
o program. More than 1.4 million beneficiaries have enrolled in Medicare's Part 0
program since June of 2006, bringing the total number of people with Medicare
receiving comprehensive prescription drug coverage to more than 39 million.
Chapter 8: The Unbanked
8-1 Four regional conferences have been held on how to reach the unbanked. The
conferences were held in Chicago, IL in May 2006; Edinburg, TX in December
2006; Seattle, WA in March 2007; and New York, NY in October 2007. The
conferences have touched on topics such as building partnerships and identifying
solutions, serving immigrant communities, reaching young customers, providing
financial education to help new and potential bank customers, and what can be
learned from alternative lenders. The conferences were accomplished by the
Treasury along with the Federal Deposit Insurance Corporation (FDIC), National
Credit Union Administration (NCUA), the Office of the Comptroller of the Currency
(OCC), the Office of Thrift Supervision ,the Federal Reserve Banks of Chicago,
Dallas, New York, Philadelphia, Richmond, and San Francisco, and with assistance
from HUD, the Washington State Department of Financial Institutions and the New
York City Department of Consumer Affairs, Office of Financial Empowerment.
These conferences brought together a wide range of attendees on the topic of
serving the unbanked population.
Chapter 9: Multilingual/Multicultural Populations
9-1 The Department of the Treasury has held three roundtable discussions on
financial education topics of special concern to specific communities. In March of
2007, the first roundtable took place at Treasury and was focused on American
Indian or Alaskan Native populations. Topics included public and private
partnerships, access to financial institutions and services, and public awareness
events on reservations.
In July of 2007, the second conference on multicultural and multilingual
communities took place at Treasury. The focus was Asian and Native Hawaiian or
other Pacific Islander communities. The main topics covered were financial
education programs and partnerships that have successfully promoted financial
education in the Asian and Native Hawaiian or other Pacific Islander communities.
Representatives from the business world, from nonprofits and from government
participated in the discussion.
In March of 2008, the third conference took place and focused on Black or African
American communities. The main topics covered were using media to reach Black
or African American markets, credit literacy, youth and higher education, and
preparing for retirement.
On June 10, 2008, the fourth and final conference, which will focus on Hispanic or
Latino communities, is expected to be held at the Treasury.
Chapter 10: Kindergarten - Postsecondary Financial Education
10-1 In February of 2007, the Department of Education (ED) and Treasury cohosted a two-day summit on kindergarten through postsecondary financial
education. The summit brought together teachers, students, program providers and
researchers from across the country to discuss the role of financial education at
school, non-school venues and college-level programs. As part of this summit, a
request for comments was published in the Federal Register on the topic of raiSing
the financial literacy levels of kindergarten through postsecondary students. The
findings from this summit and the request for comment are currently being
reviewed. The findings are expected to be made available by June of 2008.
Chapter 11: Academic Research and Program Evaluation

11-1 The Treasury Department, along with the Department of Agriculture's
Cooperative State Research, Education and Extension Service, will convene a
symposium of researchers who specialize in financial education. The goal of the
symposium is to raise awareness of existing academic research and to define

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questions that require additional analysis. The symposium will result in a white
paper that will survey current financial education research and will also identify
areas of potential future research. The symposium is scheduled for the fourth
quarter of 2008.
Chapter 12: Coordination
12-1 The Commission has continued to update the Web site to make available the
most current information on federal resources as well as federal financial education
grant programs. In the past year, the My Money Web site has added a new
feature: a calculator resource page. There are calculators for mortgage
computations, home buying, college planning, savings bonds, and tax withholding.
In 2008, a new link was added that takes users to the Money Math Lessons for Life
curriculum. Currently, all Commission members have links to MyMoney.gov from
their agencies' Web sites.
The Commission continues to enhance MyMoney.gov. In 2006, the "Money 20"
interactive quiz was added to the Web site, where visitors can test their knowledge
with a 20-question online quiz which covers a variety of personal finance issues.
The quiz has proven to be popular. Since its inception in fiscal year 2006 through
the end of March 2008, 60,051 people have taken the quiz.
12-2 In August of 2006, GSA and Treasury completed the first survey of federal
financial education programs and resources. Findings have shown very little
overlap or duplication among federal financial education efforts. The overlap noted
was found to be minor and necessary to the completeness of a particular resource
or topic. Subsequent surveys have produced similar results.
12-4 The Web site Subcommittee developed criteria and features existing
partnerships on MyMoney.gov. The Commission also encourages new partnerships
through MyMoney.gov.
12-5 In April of 2007, Treasury and the Office of Personnel Management (OPM)
hosted the inaugural meeting of the "National Financial Education Network" of
federal, state and local governments. The Network, which brings together
representatives from different areas and levels of government across the nation to
advance financial education efforts, will meet regularly to discuss topics related to
financial education.
The Commission, in partnership with the Washington State Department of Financial
Institutions and Washington Mutual, hosted the West Coast Summit of the National
Financial Education Network on October 30 and 31,2007.
One of the accomplishments of the Network is the creation of a Web site. A nonprofit organization, in consultation with the Financial Literacy and Education
Commission and the Network developed a Web site (':vww.fI8CllC1tlondlr1Eciv/Urk ()r(])
which is comprised of materials submitted by the members of the Network to
provide resources on financial literacy to the general public. The Web site
addresses various topics including credit, retirement, financial planning and savings
among others. To date, the Network is comprised of over 60 members and
continues to broaden its membership.
Chapter 13: International Perspective
13-1 The Treasury Department will host an international summit on financial
education. To bring about this multinational discussion the Treasury Department
will invite the central government authorities responsible for financial literacy in their
respective nations to convene and discuss recent developments, innovative
methods, and successful strategies for improving financial literacy in their home
countries. Treasury is partnering with the Organization for Economic Cooperation
and Development to co-host an international summit on financial literacy in May
2008, in Washington, D.C.
Department of the Treasury
The third and final way we implement financial literacy initiatives is through
Treasury's own outreach and education efforts.

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Within Treasury, several bureaus and offices work in the field of financial
education. These include the Bureau of Public Debt (BPD), the IRS, the U.S. Mint,
the Office of the Comptroller of the Currency, the Office of Thrift Supervision, and,
at department headquarters, my office and the Office of Financial Education.
While all of these offices perform important tasks in financial education, the bulk of
Treasury's efforts in the field are conducted by its Office of Financial Education.
This office was designated by Congress to lend its expertise and provides primary
support to the Financial Literacy and Education Commission.
Since its establishment in 2002, the Office of Financial Education has undertaken a
tremendous outreach effort. The staff has traveled to 47 states, plus the District of
Columbia and Puerto Rico, has held 369 financial education sessions reaching
more than 30,000 people. The office produces and disseminates guidelines for
quality financial education, provides technical assistance to local programs in
English and Spanish, forms partnerships with groups nationwide to connect them
with resources, and coordinates the activities across the federal government
through the Financial Literacy and Education Commission.
Conclusion
I hope this discussion has given a useful overview of our work.
As Americans, we share the desire to provide for our families, achieve financial
security, and have a comfortable retirement. Being financially literate makes those
goals more attainable. We hope that through our efforts to increase financial literacy
people will lead better, more prosperous lives.
Through our continued outreach and education effort, as well as through the
ongoing work of both the Financial Literacy and Education Commission and the
President's new Advisory Council on Financial Literacy, Treasury can help more
Americans become financially literate.
Now, I will be happy to answer any questions from the Committee concerning
financial literacy.
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1P-926: Secretary Paulson Opening Remarks at Release <BR>ofBest Practice Recommendations by P ...

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April 15, 2008
HP-926
Secretary Paulson Opening Remarks at Release
of Best Practice Recommendations by PWG Private Sector Committees
Washington- Thank you all for coming this morning. Assistant Secretary for
Financial Markets, Tony Ryan, is on stage with me, as are Eric Mindich and Russell
Read. A special thank you to Eric and Russell for your leadership and the good
work done by you and your committee members. I will say a few words about the
origin of these private sector committees on private pools of capital and then Eric
and Russell will discuss their work.
In February of 2007, the President's Working Group on Financial Markets, the
PWG, released principles and guidelines for private pools of capital to guide market
participants and regulators. The PWG principles and guidelines were not at the
time, nor are they today, an endorsement of the status quo. When the Treasury
Department and key independent financial regulators come together and speak with
a unified voice, it sends a strong message that heightened vigilance is necessary
and appropriate and that all stakeholders have an important role to play.
The PWG principles have already been put into practice, and today's release
reinforces our belief that a combination of robust market discipline and regulatory
policies best protect investors and mitigate systemic risk. For over a year,
regulators have been implementing these principles for public policy objectives.
Likewise, lenders, counterparties and creditors are also using them to strengthen
their practices. To complement and further improve the effectiveness of these
efforts, the PWG called on a diverse set of leaders from both the asset
management and investment communities to review and significantly enhance their
respective market practices.
Last September, experienced industry professionals from some of the most
respected institutions agreed to serve on two new committees to address market
issues and develop "best practices" for private pools of capital - one from the
perspective of investors and one from the perspective of asset managers. The
President's Working Group encouraged the committees to use the PWG principles
and guidelines as the foundation for their best practices, and they have done so. As
we said when announcing these committees --- we want the world's highest
investor protection standards; we want to guard against systemic risk and keep the
United States the most competitive financial marketplace in the world.
As these committees were formed, their Chairmen and the PWG believed that
markets benefit when experienced and respected participants develop best
practices and new accountability standards. The committees have received input
from many others within the financial community, and now present their
comprehensive recommendations for public comment.
These are important issues, and these recommendations represent tangible steps
towards our goals. Both market and regulatory practices will evolve from here, but
this is certainly a logical step at this time. All stakeholders, including regulators,
must remain on top of these issues. We must implement best practices and
continually seek to strengthen our market and regulatory practices.
We were fortunate that so many able and experienced industry members agreed to
serve, particularly given the capital market challenges of the past seven months.
With the two distinct sets of practices released today, we now have a
comprehensive approach to implementing the principles and guidelines put forth by
the PWG in February, 2007. Also, given the global nature of the asset management
industry, I should add that these best practices are consistent with the work recently
completed in the United Kingdom by Sir Andrew Large's Hedge Fund Working
Group.

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These best practices are coming at the height of robust discussions about the need
for stronger market discipline. While they are aimed at specific market participants,
and obviously not intended as a policy response to specifically address current,
broader financial market issues, the practices are consistent with the spirit and
intent of the PWG's recommendations for enhancing market transparency and risk
management that I announced three weeks ago. As those recommendations are
implemented and these best practices are adopted by market participants, we are
taking further steps to support the process of normalizing our financial markets
today and to protect against future systemic risk.
The two committees have gone about their work efficiently, effectively and quickly.
The process leading to today began over one year ago; after the public comment
period ends in 60 days, we will have final recommendations. And these committees
will continue to work on raising the bar for industry standards.
Again, I want to thank all members for offering their time for this effort. Now, I will
turn to the committee chairmen to provide details. Thank you.

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IP-927: PWG PrivatewSector Commitrees Release Best Practices for Hedge Fund Participants

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April 15, 2008
HP-927

PWG Private-Sector Committees Release Best Practices for Hedge Fund
Participants
Washington- Two blue-ribbon private-sector committees established by the
President's Working Group released separate yet complementary sets of best
practices for hedge fund investors and asset managers today, in the most
comprehensive public-private effort to increase accountability for participants in this
industry.
"As we said when announcing these committees --- we want the world's highest
investor protection standards; we want to guard against systemic risk and keep the
United States the most competitive financial marketplace in the world. As these
committees were formed, their Chairmen and the PWG believed that markets
benefit when experienced and respected participants develop best practices and
new accountability standards," said Treasury Secretary Henry M. Paulson, Jr" who
chairs the PWG. "These are important issues, and these recommendations
represent tangible steps towards our goals."
The PWG tasked the committees, sl"lcctcc[ III Scptcmhcr 2UU7 and comprised of
well-respected asset managers and investors, with collaborating on industry issues
and developing a set of best practices for their respective groups of stakeholders.
Their work was based on the [.JING's F.lrillcipies ,-mel C;ulllciines Regilldllig ~'rlvatE~
Pools 01 C:lpiliJllSSlIecl 111 FfCllfll,JrY 2007, which sought to enhance investor
protections and systemic risk safeguards. The best practices may be viewed at the
committees' websites,
dllUICtlile OICJ.
The PWG includes the heads of the U.S. Treasury Department, the Federal
Reserve, the Securities and Exchange Commission and the Commodity Futures
Trading Commission.
The best practices for the asset managers call on hedge funds to adopt
comprehensive best practices in all aspects of their business, including the critical
areas of disclosure, valuation of assets, risk management, business operations,
compliance and conflicts of interest. Eric Mindich, CEO of Eton Park Capital
Management, chairs the Asset Managers' Committee.
The best practices for investors include a Fiduciary's Guide and an Investor's
Guide. The Fiduciary's Guide provides recommendations to individuals charged
with evaluating the appropriateness of hedge funds as a component of an
investment portfolio. The Investor's Guide provides recommendations to those
charged with executing and administering a hedge fund program once a hedge fund
has been added to the investment portfolio. Russell Read, Chief Investment Officer
of the California Public Employees' Retirement System, leads the Investors'
Committee.
Both best practices documents recommend innovative and far-reaching practices
that exceed existing industry standards. The recommendations complement each
other by encouraging both types of market participants to hold the other more
accountable. Given the global nature of financial markets, the best practices were
designed to be consistent with the work that was done in the United Kingdom to
improve hedge fund oversight.
The PWG Principles and Guidelines Regarding Private Pools of Capital issued in
early 2007 provided a clear but flexible approach to address issues presented by
the growth and dynamism of these investment vehicles. The PWG designed the
principles to endure as financi<'ll markets evolved and identified four stakeholders

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JP-927: pWG Private-Sector Committees Release Best Practices for Hedge Fund Participants

Page 2 of2

who contribute to hedge fund vigilance: asset managers, creditors, investors and
regulators.
Regulators moved to implement these principles and worked to encourage the
industry to adopt the principles. Secretary Paulson III Jllllf} 2007 announced that
the PWG would call upon experienced industry participants who could lead the
charge to raise standards for improving transparency and accountability. The group
selected chairmen to lead two private-sector committees to develop the best
practices.
The PWG and the committee chairmen sought a range of experience and
leadership when considering committee members. The Investors' Committee
included representatives from labor organizations, endowments, foundations,
corporate and public pension funds, investment consultants, and non-U.S.
investors. The Asset Managers' Committee includes representatives from a diverse
group of hedge fund managers representing many different investment strategies.
The recommendations will be open for public comment for 60 days. The
committees then will review and, as necessary, revise these best practices and
standards. Comments may be submitted at the Committees' website. The
committees will continue to meet to discuss raising the standards for industry
participants after the best practices are complete.

-30-

REPORTS
•
•
•
•

Fact Sheet: Asset Managers' Committee Best Practices Summary
Asset Managers' Committee Best Practices
Fact Sheet: Investors' Committee Best Practices Summary
Investors' Committee Best Practices

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September 25, 2007
HP-575
PWG Announces Private Sector Groups
to Address Market Issues for Private Pools of Capital
Washington - The President's Working Group on Financial Markets announced the
chairs, members and mission statements for two private sector committees, one
comprised of investors and the other comprised of asset managers. These private
sector committees will assess and foster a private sector dialogue on issues of
significance to their industry and the market. The first task of the committees will be
to develop best practices using the I JW(~'s pllr1Clples-i)ds(-;[1 gllid~lIlce released in
February. The committees will create and publicly release the best practices so
market participants may enhance investor protection and systemic risk safeguards
consistent with the PWG principles and guidelines.
"These groups are drawn from among the industry's finest in their respective
areas," said Treasury Secretary and PWG Chairman Henry M. Paulson, Jr. "The
market will benefit if experienced participants develop and implement best
practices."
The President's Working Group IS encouraging market participants to move beyond
the status quo as they work to strengthen market discipJine. The committees
represent a milestone toward a more competitive US. marketplace with the world's
highest standards for protecting investors and safeguarding against systemic risks.
Russell Read, Chief Investment Officer of the California Public Employees
Retirement System, will serve as the chair of the Investors' Committee. Eric
Mindich, CEO of Eton Park Capital Management, will serve as the chair of the
Asset Managers' Committee.
The PWG and the committee chairmen sought a broad range of experienced
members, listed below, to participate on the Committees. The Investors' Committee
includes representatives from labor organizations, endowments, foundations,
corporate and public pension funds, investment consultants, and non-U.S.
investors. The Asset Managers' Committee includes representatives from a diverse
group of hedge fund managers representing many different strategies.
The groups Will make the best practices available for public comment before they
are finalized.
The PWG first discussed the establishment of these groups in June, with the
announcement of the second stage of Treasury's capital markets competitiveness
plan. The PWG created the groups to complement the work underway between the
global regulators and the financial institutions they regulate that serve as creditors,
lenders and counterparties to these private pools of capital.

Asset Manaqers' Committee
Mission Statement 0

Investors' Committee
Mission Statement 0

Eric Mindich, Chair
Eton Park Capital Management

Russell Read, Chair
CalPERS

Anne Casscells

Sandra Urie, Vice-Chair

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Page 2 of2
AETOS Capital, LLC

Cambridge Associates, LLC

James S. Chanos
Kynikos Associates LP

Gary Bruebaker
Washington State Investment Board

Anne Dinning
D. E. Shaw & Co., L.P.

Myra Drucker
Commonfund

Jonathon S. Jacobson
Highfields Capital Management

Tom Dunn
New Holland Capital

Marc Lasry
Avenue Capital Group

Peter Gilbert
Lehigh University Endowment Fund

Edward A. Mule
Silver Point Capital

Andrew Golden
Princeton University Investment
Company

Daniel S. Och
Och-Ziff Capital Management

George Main
Diversified Global Asset
Management Corporation

Daniel H. Stern
Reservoir Capital Group

Ellen Shuman
Carnegie Corporation of New York

William Von Mueffling
Cantillon Capital
Michael Vranos
Ellington Management Group LLC

Damon Silvers
AFL-CIO
Greg Williamson
BP America Inc.

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ASSET MANAGERS' COMMITTEE RELEASES
COMPREHENSIVE REPORT ON BEST PRACTICES
Report Sets New Standards for Hedge Fund Industry
Today, the Asset Managers' Committee (AMC), formed by the President's Working
Group on Financial Markets in September 2007, released "Best Practices for the Hedge
Fund Industry," a comprehensive report that sets new standards to reduce systemic risk
and foster investor protection. The AMC report:

~

Calls on hedge funds to adopt comprehensive best practices in all aspects of their
business, including the critical areas of disclosure, valuation of assets, risk
management, business operations, compliance and conflicts of interest.

~

Recommends innovative and far-reaching practices that exceed existing industrywide standards.

~

Increases accountability for hedge fund managers: This is the first time that an
industry best practices report is being released with a separate Investor report that
will promote accountability and help ensure these best practices are adopted.

The first task of the AMC was to develop best practices for the hedge fund industry. The
AMC includes representatives from a diverse group of hedge fund managers representing
many different strategies. All authors oftoday's report, firms with over $140 billion in
assets under management, will implement this report.
"The hedge fund industry has a critical responsibility to adopt strong business practices
that reflect both its growth and the important role it plays in global financial markets,"
said Eric Mindich, Chair of the AMC and CEO of Eton Park Capital Management.
CONTEXT FOR THIS REPORT: This report comes at a critical time in the hedge
fund industry. Over the past three decades, the hedge fund industry has grown to 8,000
funds with close to $2 trillion in assets and has become an important participant in the
financial markets. As hedge funds have expanded in scope by investing and trading in
markets and products all over the world and as sophisticated institutional investors have
committed more of their portfolios to hedge funds, there is a need for more robust
business practices.
This report is also being released at a time when financial markets are facing considerable
stress. It is clear that a substantial debate is underway among policymakers on how to
address these challenges. The current stress on our financial infrastructure underscores
the need for hedge funds, along with other market participants, to evaluate and implement
strong practices to better manage their businesses and reduce systemic risk. No set of
best practices can provide solutions to all of the complex issues facing the financial
industry. However, we believe that regardless of the outcome of the broader policy

debate, the robust practices set forth in this report will be critical to and consistent with
the goal of reducing systemic risk.
KEY FEATURES OF THE REPORT
I. Calls on Hedge Funds to take a Comprehensive Approach to Strengthening
Business Practices: Today's report asks hedge funds to accept that they play an
important role in the financial marketplace and therefore must take a
comprehensive approach to best practices in all phases of their business. This
report emphasizes controls and enhanced procedures in five critical areas:
o Disclosure: Strong disclosure practices that provide investors with the
information they need to determine whether to invest in a fund, to monitor
an investment, and to make a decision to redeem their investment.
o Valuation: Robust valuation procedures that call for a segregation of
responsibilities, thorough written policies, oversight and other measures
for the valuation of assets, including a specific emphasis on hard-to-value
assets.
o Risk management: Comprehensive risk management that emphasizes
measuring, monitoring and managing risk, including stress testing of
portfolios for market and liquidity risk management.
o Trading and business operations: Sound and controlled operations and
infrastructure, supported by adequate resources and checks and balances in
operations and systems to enable a manager to achieve best industry
practice in all of the other areas.
o Compliance, conflicts, and business practices: Specific practices, such
as a written code of ethics and compliance manual, to address conflicts of
interest and promote the highest standards of professionalism and a culture
of compliance.
II. Recommends Innovative and Far-Reaching Protections That Exceed Current
Industry Practices. These include:
o

Disclosing Hard-to-Value Assets: Some of the challenges financial
institutions have faced in the past several months relate to the valuation of
hard-to-value financial products, such as complex derivatives. There will
soon be new accounting standards in place that require financial
institutions to categorize assets in three levels based on how difficult they
are to value. This report calls on hedge funds both to implement these
new standards and then go beyond them by disclosing, on a quarterly
basis, the portion of their assets and profit (or loss) attributable to assets in
each of the three levels.

o

Comprehensive Investor Disclosure Based on Public Company Model:
Each year, public companies provide investors with an annual summary of
their performance; qualitative and quantitative quarterly reports; and
timely updates of significant events. This report, for the first time, draws

from the key principles of the public company disclosure regime and calIs
for hedge funds to:
• Provide investors with a comprehensive summary of their
performance, including a qualitative discussion of hedge fund
performance and annual and quarterly reports;
• Make timely disclosures of material events; and
• Produce independently audited, GAAP-compliant financial
statements so investors get accurate, independently verified
financial information.
o

Segregating Duties to Minimize Conflicts of Interest: Having a system
of checks and balances where key functions are segregated to minimize
conflicts of interests is critical to all complex financial institutions. As
such, we developed new practices to:

•

•

o

Address conflicts: Because it is impossible to anticipate every
potential conflict of interest relevant to the hedge fund industry,
the report recommends managers establish a Conflicts Committee
to review potential conflicts and address them as they arise.
Segregate functions: This report recommends segregating
functions between portfolio managers and non-trading personnel
who are responsible for implementing the valuation process.

Assessing Counterparty Risk: Recognizing the extent to which hedge
funds deal with many counterparties, the report recommends managers
assess the creditworthiness of counterparties and understand the complex
legal relationships they may have with these counterparties.

III. Increases Accountability for Hedge Fund Managers: This report is released
together with a separate report authored by some of the leading institutional
investors, including pension funds, foundations, and labor organizations. These
reports underscore that both the investor and the hedge fund manager are
accountable and must implement appropriate practices to maintain strong controls
and infrastructure. This is the first time investors and managers have come
together to achieve this goal. The Investor report, which is designed to help
investors considering hedge fund investments, recommends that investors use the
AMC best practices as a guide to conduct due diligence reviews of hedge funds.
As a result, taken together, these reports will provide a new kind of
accountability, help ensure better managed hedge funds and better educated
investors and help ensure these best practices are adopted.

The full Report can be found at www.amaicmte.org.

***
THE ASSET MANAGERS' COMMITTEE
Eric Mindich, Chair (Eton Park Capital Management)
Anne Casscells (Aetos Capital, LLC)
Marc Lasry (Avenue Capital Group)
William Von Mueffling (Cantillon Capital Management)
Anne Dinning (D. E. Shaw & Co., L.P.)
Jonathon S. Jacobson (Highfields Capital Management)
James S. Chanos (Kynikos Associates LP)
Daniel S. Och (Och-Ziff Capital Management)
Daniel H. Stem (Reservoir Capital Group)
Ed Mule (Silver Point Capital)

COUNSEL TO THE ASSET MANAGERS' COMMITTEE
Sullivan & Cromwell LLP
Schulte Roth & Zabel LLP

***

INVESTORS' COMMITTEE RELEASES
COMPREHENSIVE REPORT ON BEST PRACTICES
Report Sets New Standards for Fiduciaries and Investors in Hedge Funds
Today, the Investors' Committee (IC), formed by the President's Working Group on
Financial Markets in September 2007, released "Principles and Practices for Hedge Fund
Investors," a report that sets new standards to address the decision to invest in hedge
funds, and the management and oversight of hedge fund investments. The IC report:

~

Includes both a Fiduciary's Guide and an Investor's Guide. The Fiduciary's Guide
provides recommendations to individuals charged with evaluating the
appropriateness of hedge funds as a component of an investment portfolio. The
Investor's Guide provides recommendations to those charged with executing and
administering a hedge fund program once a fiduciary has decided to add hedge
funds to the investment portfolio.

~

Recommends best practices that offer a guide for responsible investment in hedge
funds.

~

Increases accountability for hedge fund investors and managers: This is the first
time that an industry best practices report is being released with a separate Asset
Managers' report that is geared to promote the adoption of healthy practices for
both the management of and investment in hedge funds.

The first task of the IC was to develop best practices for hedge fund investors and those
with fiduciary responsibilities for investment portfolios. The IC includes representatives
from a broad array of investors and investor advocates. The committee members include
public and private pension funds, endowments, foundations, hedge funds, labor
organizations and hedge fund consultants. All authors of today's report strongly endorse
the widespread adoption of these best practices for fiduciaries and investors who are
considering or are already invested in hedge funds.
"Not only are we trying to provide the very best practices recommendations, our goal is
to have those practices be accepted by both investors and hedge fund managers and
perhaps most importantly, to have those recommendations become common practice
throughout the industry," said Russell Read, Chair of the IC and CIO of the California
Public Employees' Retirement System.
CONTEXT FOR THIS REPORT: This report comes at a critical time in the hedge
fund industry. Over the past three decades, the hedge fund industry has grown to 8,000
funds with close to $2 trillion in assets and has become an important participant in the
financial markets. As hedge funds have expanded in scope by investing and trading in
markets and products all over the world and as sophisticated institutional investors have

committed more of their portfolios to hedge funds, there
business practices.

IS

a need for more robust

This report is also being released at a time when financial markets are facing considerable
stress. It is clear that a substantial debate is underway among policymakers on how to
address these challenges. The current stress on our financial infrastructure underscores
the need for hedge funds, along with other market participants, to evaluate and implement
strong practices to better manage their businesses and reduce systemic risk. No set of
best practices can provide solutions to all of the complex issues facing the financial
industry. However, we believe that regardless of the outcome of the broader policy
debate, the robust practices set forth in this report will be critical to, and consistent with,
the goal of responsible investing in hedge funds.
KEY FEATURES OF THE REPORT
I. Provides a Fiduciary's Guide defining a set of practice standards and

guidelines for fiduciaries considering or already investing in hedge funds on
behalf of qualified individuals and institutions. Today's report asks hedge fund
fiduciaries to accept that they play an important role and therefore must take a
comprehensive approach to investing in hedge funds. This section of the report
emphasizes the following areas:
o Hedge fund investment and allocation: The report lists the questions that
should be addressed to determine if a hedge fund program is appropriate
for their investment portfolio.
o Hedge fund investment policy: Fiduciaries should develop explicit
policies that define the key features and objectives of the hedge fund
investment program.
o Due diligence process: The report provides a framework for
understanding and assessing the appropriateness of hedge fund
investments.
o Conclusion: Prior to embarking on a hedge fund program fiduciaries
should be satisfied that incorporating hedge funds into a portfolio would
improve its risk and reward profile, and increase the probability of
meeting the applicable investment objectives.
II. Recommends best practices for investors in hedge funds. These include:
o Due diligence process: Proper due diligence needs to be tailored to the
circumstances and objectives of each investor and to the particular risk
and reward character of each hedge fund investment.
o Comprehensive Investor Risk Management: This overview proposes
best practices for establishing the investor's own risk management
framework and best practices for evaluating the risk management
framework employed by a hedge fund manager.

o Legal and Regulatory: This section provides best practices on investment
structure, assessing the domicile of hedge fund investments, understanding
the terms, establishing fiduciary duties of the hedge fund manager,
assessing the regulators, and understanding the rights of other investors.
o

Valuation: A full understanding of valuation can be the key to deciding
whether to make an investment and for assessing properly the returns from
that investment over time.

o

Fees and expenses: Each investor should develop a comprehensive
philosophy regarding the payment of fees and expenses for all investment
management services contracted, relative to the returns sought and risk
taken by an investment strategy.

o

Reporting: Reporting is a key concern for investors particularly with
regard to the type of transparency needed to assess risk exposures
properly. Investors should seek sufficient reporting to allow them to make
informed investment decisions.

o Taxation: This section recognizes the extent to which hedge fund
disclosures explain all tax considerations that may impact a hedge fund's
returns.
o

Conclusion: Hedge funds are a legal construct and represent a wide range
of strategies. They are not an asset class in the traditional sense. More than
many other investment vehicles, hedge funds require in-depth and
continuous oversight by their investors.

III. Increases Accountability for Hedge Fund Investors and Managers Alike:
This report is released together with a separate report authored by some of the
leading hedge fund managers, representing many different strategies. These
reports underscore that both the investor and the hedge fund manager are
accountable and must implement appropriate practices to maintain strong controls
and infrastructure. This is the first time investors and managers have come
together to achieve this goal. The Asset Managers' report is designed to help set
forth best practices that will be critical and consistent with the goal of reducing
systemic risk. As a result, taken together, these reports are intended to provide a
new kind of accountability to promote better managed hedge funds and better
educated investors, and to help ensure these best practices can become widely
adopted.

INVESTORS' COMMITTEE RELEASES
COMPREHENSIVE REPORT ON BEST PRACTICES

Report Sets New Standards for Fiduciaries and Investors in Hedge Funds
Today, the Investors' Committee (IC), formed by the President's Working Group on
Financial Markets in September 2007, released "Principles and Practices for Hedge Fund
Investors," a report that sets new standards to address the decision to invest in hedge
funds, and the management and oversight of hedge fund investments. The IC report:

~

Includes both a Fiduciary's Guide and an Investor's Guide. The Fiduciary's Guide
provides recommendations to individuals charged with evaluating the
appropriateness of hedge funds as a component of an investment portfolio. The
Investor's Guide provides recommendations to those charged with executing and
administering a hedge fund program once a fiduciary has decided to add hedge
funds to the investment portfolio.

~

Recommends best practices that offer a guide for responsible investment in hedge
funds.

~

Increases accountability for hedge fund investors and managers: This is the first
time that an industry best practices report is being released with a separate Asset
Managers' report that is geared to promote the adoption of healthy practices for
both the management of and investment in hedge funds.

The first task of the IC was to develop best practices for hedge fund investors and those
with fiduciary responsibilities for investment portfolios. The IC includes representatives
from a broad array of investors and investor advocates. The committee members include
public and private pension funds, endowments, foundations, hedge funds, labor
organizations and hedge fund consultants. All authors of today's report strongly endorse
the widespread adoption of these best practices for fiduciaries and investors who are
considering or are already invested in hedge funds.
"Not only are we trying to provide the very best practices recommendations, our goal is
to have those practices be accepted by both investors and hedge fund managers and
perhaps most importantly, to have those recommendations become common practice
throughout the industry," said Russell Read, Chair of the IC and CIO of the California
Public Employees' Retirement System.
CONTEXT FOR THIS REPORT: This report comes at a critical time in the hedge
fund industry. Over the past three decades, the hedge fund industry has grown to 8,000
funds with close to $2 trillion in assets and has become an important participant in the
financial markets. As hedge funds have expanded in scope by investing and trading in
markets and products all over the world and as sophisticated institutional investors have

committed more of their portfolios to hedge funds, there
business practices.

IS

a need for more robust

This report is also being released at a time when financial markets are facing considerable
stress. It is clear that a substantial debate is underway among policymakers on how to
address these challenges. The current stress on our financial infrastructure underscores
the need for hedge funds, along with other market participants, to evaluate and implement
strong practices to better manage their businesses and reduce systemic risk. No set of
best practices can provide solutions to all of the complex issues facing the financial
industry. However, we believe that regardless of the outcome of the broader policy
debate, the robust practices set forth in this report will be critical to, and consistent with,
the goal of responsible investing in hedge funds.
KEY FEATURES OF THE REPORT
I. Provides a Fiduciary's Guide defining a set of practice standards and
guidelines for fiduciaries considering or already investing in hedge funds on
behalf of qualified individuals and institutions. Today's report asks hedge fund
fiduciaries to accept that they play an important role and therefore must take a
comprehensive approach to investing in hedge funds. This section of the report
emphasizes the following areas:
o Hedge fund investment and allocation: The report lists the questions that
should be addressed to determine if a hedge fund program is appropriate
for their investment portfolio.
o Hedge fund investment policy: Fiduciaries should develop explicit
policies that define the key features and objectives of the hedge fund
investment program.
o Due diligence process: The report provides a framework for
understanding and assessing the appropriateness of hedge fund
investments.
o Conclusion: Prior to embarking on a hedge fund program fiduciaries
should be satisfied that incorporating hedge funds into a portfolio would
improve its risk and reward profile, and increase the probability of
meeting the applicable investment objectives.
II. Recommends best practices for investors in hedge funds. These include:
o Due diligence process: Proper due diligence needs to be tailored to the
circumstances and objectives of each investor and to the particular risk
and reward character of each hedge fund investment.
o

Comprehensive Investor Risk Management: This overview proposes
best practices for establishing the investor's own risk management
framework and best practices for evaluating the risk management
framework employed by a hedge fund manager.

o Legal and Regulatory: This section provides best practices on investment
structure, assessing the domicile of hedge fund investments, understanding
the terms, establishing fiduciary duties of the hedge fund manager,
assessing the regulators, and understanding the rights of other investors.
o

Valuation: A full understanding of valuation can be the key to deciding
whether to make an investment and for assessing properly the returns from
that investment over time.

o Fees and expenses: Each investor should develop a comprehensive
philosophy regarding the payment of fees and expenses for all investment
management services contracted, relative to the returns sought and risk
taken by an investment strategy.
o Reporting: Reporting is a key concern for investors particularly with
regard to the type of transparency needed to assess risk exposures
properly. Investors should seek sufficient reporting to allow them to make
informed investment decisions.
o Taxation: This section recognizes the extent to which hedge fund
disclosures explain all tax considerations that may impact a hedge fund's
returns.
o Conclusion: Hedge funds are a legal construct and represent a wide range
of strategies. They are not an asset class in the traditional sense. More than
many other investment vehicles, hedge funds require in-depth and
continuous oversight by their investors.
III. Increases Accountability for Hedge Fund Investors and Managers Alike:
This report is released together with a separate report authored by some of the
leading hedge fund managers, representing many different strategies. These
reports underscore that both the investor and the hedge fund manager are
accountable and must implement appropriate practices to maintain strong controls
and infrastructure. This is the first time investors and managers have come
together to achieve this goal. The Asset Managers' report is designed to help set
forth best practices that will be critical and consistent with the goal of reducing
systemic risk. As a result, taken together, these reports are intended to provide a
new kind of accountability to promote better managed hedge funds and better
educated investors, and to help ensure these best practices can become widely
adopted.

IP-928: OFAC Again Tnre;ets Network of Colombian Drug Trafficker

Page 10f2

10 vIew or print tne /-'Ur content on tnlS page, Oownloao tne free ACJobe1.1J AcrObaW) KeaCJer'!IJ.

April 15. 2008
HP-928
OFAC Again Targets Network of Colombian Drug Trafficker
Washington - The Department of the Treasury's Office of Foreign Assets Control
(OFAC) today added nine individuals and fifteen companies to its list of Specially
Designated Narcotics Traffickers. These OFAC designations target two long-time
associates of Carlos Alberto Renteria Mantilla - Carlos Currea Correa (a.k.a.
"Cucu") and Ramiro Rengifo Puentes (a.k.a. "William Torrijos"). Carlos Alberto
Renteria Mantilla ("Beto Renteria") is the only remaining leader of Colombia's North
Valle drug cartel, and the U.S. Department of State is offering up to $5 million for
information leading to his capture.
"Yesterday, Ramiro Rengifo Puentes was masquerading as a 0 ~emingly legitimate
businessman with an extensive financial network," said Adam J. Szubin, Director of
OFAC. "OFAC's financial strike today exposes him for who he really is - a
significant drug trafficker known in the underworld as William Torrijos."
The individuals designated today are two of Beto Renteria's closest drug trafficking
associates. Ramiro Rengfio Puentes controls an extensive corporate network in
Colombia and Spain that includes Miracana Inmobiliaria Quilichao S.A. & Cia.
S.C.A., a sugar cane company in Cali, Colombia; Frontera Virtual S.A., a business
services company in Bogota, Colombia; Red de Servicios Inmobiliario
Profesionales S.A. (RIPSA), a real estate company in Bogota, Colombia; Ruiz de
Alarcon 12 S.L., a real estate development company in Madrid, Spain; and several
construction and real estate development companies located in Cali, Colombia Constructora Umbria S.A., Agroganadera La Isabela S.A., Centro Comercial Guss
S.A., Construcciones La Reserva S.A., Constructora Juanambu S.A., and
Constructora Loma Linda S.A. Also designated today are seven other individuals
who work for and on behalf of Ramiro Rengifo Puentes, including Edwin Amir
Rengifo Ospina and Monica Moreno Fernandez.
Today's designation is OFAC's seventh action against the financial network of Beto
Renteria since 2005. In March 2005, OFAC named Beto Renteria as a principal
individual under the Specially Designated Narcotics Trafficker program pursuant to
Executive Order 12978. Beto Renteria is the subject of two U.S. criminal
indictments. He was indicted in the Southern District of Florida in 1994 on narcotics
trafficking charges and in the District of Columbia in 2004 on Racketeer Influenced
and Corrupt Organizations Act (RICO) charges, stemming from his role as a leader
of Colombia's North Valle drug cartel.
This designation is part of the ongoing interagency effort by the Departments of the
Treasury, Justice, State and Homeland Security and others to implement Executive
Order 12978 of October 21, 1995, which applies economic sanctions against
Colombia's drug cartels. Today's designation action freezes any assets the
designees may have that are subject to U.S. jurisdiction and prohibits all financial
and commercial transactions by any U.S. person with the designated companies
and individuals.
A detailed look at the program against Colombian drug organizations is provided in
OFAC's March 2007 Impact Report on Economic Sanctions Against Colombian
Drug Cartels.
http://www .treasury.gov/offices/enforcementlofac/reports/narcoi mpact_report_05042007. pdf
-30-

http·/lwww.treasgov/press/reJeases/hp928.htm

5112/2008

IP-928: OF AC Ag(lin Targets Netwo(k of Colombian Drug Trafficker

Page 2 of2

REPORTS
•

6elo RClllelkl's DllI(1 NC~I'ivrllk

http·/lwww.treasgov/press/releases/hp9ZS.htm

5112/2008

RENTERIA MANTILLA Organization

Department of the Treasury
Office of Foreign Assets Control

April 2008

C.~ Albert~:1REA
..

~I

CORREA

I

L--_ _ _ _ _ _ _ _ _ _ _ _ _ _

Key Individuals

~

~

Monica
MORENO FERNANDEZ
c.c. 31903968

,-,~

Miracana Inmobiliaria
Quilichao S.A.&CiaS.C.A.
cali
NIT # 805017200-1

,~

,-

Centro Commercial Guss S.A.
Cali
NIT # 900105460-1

,~

.-

If~:J

Carlos Alberto RENTERIA MANTILLA
"Beto" RENTERIA
DOB 11 Mar 1945

a.k.a. "Cucu"
C.C. 16347900

Ramiro RENGIFO PUENTES
a.k.a. "William Torrijos"
DOB 18 Nov 1950
C.C. 19187359

I

"La Llaveria"

.. .. ..

\11

n

~

~
- -

Edwin Amir
RENGIFO OSPINA
c.c. 79696032

~

James
NARVAEZ PUENTES
c.c. 16634261

Jefferson
RENGIFO OSPINA
c.c.94511007

--

~

~

Una
~
RENGIFO OSPINA
Maria OSPINA PRADA c.c.52965678
c.c.41700627

..
~

Harvy Ramiro
RENGIFO AMAYA
C.c. 80201385

,~

;:~

;:~

;:~

Constructora Umbria S.A.
cali
NIT # 900100194-4

Ruiz de Alarcon 12 S.L.
Madrid, Spain
VAT/CIF ES B83031682

Red de Servicios Inmobiliario
Profesionales S.A.
Bogota
NIT # 830065743-4

Frontera Virtual S.A.
Bogota
NIT # 830118496-9

,--

,~

;'"'~

)1

Agroganadera
La Isabela S.A.
cali
NIT # 900100335-6

Venecia Inmobiliaria
QuilichaoS.A.&Cia S.C.A.
Cali
NIT # 800026554-3

Inversiones Inmobiliaria
Quilichao S.A. y Cia S.C.A.
cali
NIT # 800132909-8

,-

-~

,--

Constructora Juanambu S.A. Rengifo O.A.M. y Cia S.C.A.
Bogota
Cali
NIT # 900110717-9
NIT # 900100334-9

,~

,-

Rengifo Mancera & Cia S.c.A.
Bogota
NIT # 800138803-3

;:~

,~

,'-

Constructora
Loma Unda S.A.
cali
NIT # 900100191-2

,,~

,'-

Construcciones La Reserva S.A. Inmobiliaria Quilichao S.
cali
cali
NIT # 900100336-3
NIT # 817002547-1

lp-929: Paut:l1n Approves Puerto Rico Plan to Distribute Stimulus Payments

/ a vIew or pnnt tne

Page 1 of 1

/-'Ur content on tnlS page, Gown/oaG tne tree AClolJelJ') AcroIJat® Keaae{\R).

April 16, 2008
hp-929

Paulson Approves Puerto Rico Plan to Distribute Stimulus Payments
Treasury Secretary Henry M. Paulson, Jr. this morning approved a stimulus
payment distribution plan submitted by the Commonwealth of Puerto Rico detailing
how the Puerto Rican government would send payments to residents of the island.
As required by the Economic Stimulus Act of 2008, Puerto Rico had to submit a
plan outlining how the government would distribute "recovery rebates" before a one
time payment could be made from the U.S Treasury to the Puerto Rico Treasury
Department. The final distribution plan, along with the signed approval letter is
attached.
-30-

REPORTS
•
•

Puerto Rico Rebate Distribution Plan
Paulson Approval Letter

http·//www.treasgov/press/releases/hp929.{;.1.p1

5112/2008

DEP ARTMENT OF THE TREASURY
OF THE
COMMONWEALTH OF PUERTO RICO

Commonwealth of Puerto Rico
Plan for Distribution of Recovery Rebates
Enacted by Pub. L. 110-185

April 8, 2008

Commonwealth of Puerto Rico
Department of the Treasury

Plan for the Distribution
Recovery Rebates

Page 2 of29

Commonwealth of Puerto Rico
Department of the Treasury

Plan for the Distribution
Recovery Rebates

Table of Contents
1
2
3

4

5

6

7

Introduction ................................................................................................................ 5
Definitions .................................................................................................................... 6
Determination of Eligibility and Amount of Recovery Rebate ........................... 7
3.1
Eligible Individuals ................................................................................................ 7
3.1.1
Identification requirement .......................................................................... 7
3.1.2 Exemption from tax filing requirement for recipients of social security
and veterans benefits and combat zone pay ..................................................... 7
3.2 Basic Recovery Rebate ...................................................................................... 8
3.2.1
Amount ........................................................................................................... 8
3.3 Child Recovery Rebate ...................................................................................... 8
3.3.1
Eligibility .......................................................................................................... 8
3.3.2 Amount ........................................................................................................... 8
3.3.3 Qualifying child ............................................................................................. 8
3.4 Limitation on Recovery Rebates ....................................................................... 9
3.5 Special Rules ........................................................................................................ 9
3.5.1
Exclusion from income ................................................................................. 9
3.5.2 Joint returns .................................................................................................... 9
3.5.3 Federally funded programs ........................................................................ 9
3.5.4 No offsets by PRDT for debts to PRDT ......................................................... 9
3.5.5 No offsets by taxpayers ............................................................................... 9
3.5.6 Fraud or mistake ........................................................................................... 9
Advance Payment of Recovery Rebates ........................................................... 11
4.1
Determination of Advance Payment ............................................................ 11
4.2 Treatment of combat zone pay ..................................................................... 11
4.3 Timing of Payment ............................................................................................. 11
Final Payment of Recovery Rebates .................................................................... 12
5.1
Determination of Final Payment Amount ...................................................... 12
5.2 Social security and veterans benefits and combat zone pay ................... 12
5.3 Filing obligation .................................................................................................. 12
5.4 Timing of Payment ............................................................................................. 12
5.4.1
Timely returns ............................................................................................... 12
5.4.2 Late returns .................................................................................................. 13
Coordination with U.S. Government ..................................................................... 14
6.1
Dual Filers ............................................................................................................ 14
6.2 Information Sharing ........................................................................................... 14
Recovery Rebate Fund .................................... ·....... ······ ......................................... 15
7.1
Establishment of Trust Fund .............................................................................. 15
7.2 Return of Unused Amounts .............................................................................. 16
7.3 Liability of the Commonwealth of Puerto Rico ............................................. 16

Page 3 of29

Commonwealth of Puerto Rico
Department of the Treasury

Plan for the Distribution
Recovery Rebates

7.4 Liability of the United States ............................................................................. 16
Claims and Disputes ................................................................................................ 17
8.1
Claims .................................................................................................................. 17
8.2 Administrative Review of PRDT's Determination Regarding Claims .......... 17
8.3 Best Effort ............................................................................................................ 18
8.4 No interest ........................................................................................................... 18
9 Functional Plan ........................................................................................................ 19
9.1
Confirmation of the Eligibility Rules and Basic Recovery Rebate .............. 19
9.2 Selection Testing and Validation .................................................................... 19
9.3 Process and Procedures Documentation ..................................................... 19
9.4 Issues and Risk Management Plan ................................................................. 20
9.5 Disbursement Control and Financial Reporting ............................................ 20
10
Information Technology Plan .............................................................................. 21
10.1
Summary .......................................................................................................... 21
10.2
Identification Strategy ................................................................................... 21
10.3
Production Strategy ....................................................................................... 22
10.4
Data Management Strategy ....................................................................... 23
10.5
Control Strategy ........................................................................:.................... 23
10.6
Reporting Strategy ......................................................................................... 23
10.7
Support to the Functional Areas Strategy .................................................. 24
11
Support Plan .......................................................................................................... 25
11.1
Communications Plan ................................................................................... 25
11.2
Orientations and Trainings ............................................................................ 25
11 .3
Call Center ...................................................................................................... 25
11.4
Exception Handling ....................................................................................... 26
Appendix 1 Identification of Prospects Process ......................................................... 27
Appendix 2. Production Process Tentative Schedule ............................................... 28

8

Page 4 of29

Commonwealth of Puerto Rico
Department of the Treasury

Plan for the Distribution
Recovery Rebates

1 Introduction
This Plan for the Distribution of Recovery Rebates has been developed by the
Puerto Rico Department of the Treasury ("PRDT") and approved by the U.S.
Secretary of the Treasury, pursuant to the requirements in Section 101 (c) of the
Economic Stimulus Act of 2008, Pub. L. 110-185 ("Act"). The Act establishes that
in order for the Commonwealth of Puerto Rico ("Commonwealth") to be able to
receive funds from the U.S. Department of the Treasury for the distribution to its
residents of the recovery rebates authorized in the Act, the Commonwealth
must have a plan, approved by the Secretary of the Treasury, under which the
Commonwealth will promptly distribute the recovery rebates to its residents.
Section 101 (c) (1) (B) of the Act establishes that the payment to be made by the
U.S. Secretary of the Treasury to the Commonwealth will be "in an amount
estimated by [him/her] as being equal to the aggregate benefits that would
have been provided to residents of [the Commonwealth] by reason of the
amendments made by this section if a mirror code tax system had been in
effect in such possession." The Act does not prescribe any specific rules as to
how the funds are to be distributed to residents of the Commonwealth. The Act
simply states that funds have to be distributed "promptly," keeping in line with
the overall economic stimulus purposes of the legislation. It is in the interest of
both the Commonwealth and the U.S. Department of the Treasury that all funds
made available to the Commonwealth be distributed promptly through rebate
payments.
The U.S. Department of the Treasury and the Commonwealth recognize that
there are various differences between the Puerto Rico Internal Revenue Code
of 1994, as amended ("P.R. Code") and the U.S. Internal Revenue Code of 1986,
as amended ("U.S. Code"), as well as administrative differences that affect the
ability of the Commonwealth to distribute funds. In the Commonwealth, close
to fifty percent of all taxpayers file their tax returns on April 15 and the
overwhelming majority do so in paper format; consequently, the PRDT is unable
to process the 2007 income tax returns as quickly as the Internal Revenue
Service ("IRS"). Accordingly, this Plan establishes a procedure for the distribution
of an advance payment of rebates using information from 2006 income tax
returns that were filed in 2007. PRDT will use 2007 income tax returns filed in 2008
to make final rebate payments to eligible individuals. It is the intention of the
Commonwealth to make advance and final rebate payments for timely filed
returns in calendar year 2008 and to resolve all claims and disputes with respect
to these rebates by the end of calendar year 2010.

Page 5 of29

Commonwealth of Puerto Rico
Department of the Treasury

Plan for the Distribution
Recovery Rebates

All tax references in the Plan are to the P.R. Code, unless otherwise specified.

2 Definitions
For purposes of recovery rebates, the following definitions apply:
a. Net income tax liability. The term " net income tax liability" means the
excess of the taxpayer's individual income tax liability over nonrefundable
credits allowed under the P.R. Code or other Puerto Rico statutes.
b. Earned income. The term "earned income" means wages, salaries, tips
and other employee compensation included in gross income, the amount
of net income from self employment reported in Schedules K, Land M of
the Puerto Rico income tax return, and combat zone pay excluded from
Puerto Rico gross income, but reported in a W-2 form filed with the
taxpayer's Special Rebate Qualification Form.
c. Social Security benefit. The term "social security benefit" means any
amount received by the individual as a monthly benefit under title II of the
Social Security Act or a tier 1 railroad retirement benefit. The term "social
security benefit" does not include any benefits as a result of the
Supplemental Security Income ("SSI") or Aid to the Aged, Blind and
Disabled ("AABD") programs.
d. Veterans benefit. The term "veterans benefit" means any disability,
pension, or survivor's benefit received under chapters 11, 13, or 15 of the
title 38 of the United States Code.
e. Joint return. The term "joint return" means a tax return or a Special Rebate
Qualification Form (as described in Section 3.1.2 herein) filed with the PROT
by married taxpayers using the "Married living with spouse and filing
jointly" filing status as defined in the P.R. Code.
f. Combat zone pay. The term "combat zone pay" means remuneration for
serving in the U.S. Armed Forces in a combat zone, which is any area that
the President of the United States designates by Executive Order as an
area in which the U.S. Armed Forces are engaging or have engaged in
combat.

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3 Determination of Eligibility and Amount of Recovery Rebate
3.1 Eligible Individuals
In general. Any individual who is a resident of Puerto Rico, under the P.R. Code,
other than:
a. An estate or trust, or
b. An individual who is eligible to be claimed as a dependent on another
Puerto Rico income tax return or a U.S. income tax return.

3.1.1 Identification requirement.
To be eligible for the basic recovery rebate, an individual must file a tax return
with a valid social security number issued by the Social Security Administration
("SSA") for said individual, the spouse if a joint return is filed, and any children for
whom a Child Recovery Rebate will be paid. The absence of valid social
security numbers for qualifying children, as defined in Section 3.3.3., will not
disqualify the individual from receiving the basic rebate to which he or she is
entitled.

3.1.2 Exemption from tax filing requirement for recipients of social security
and veterans benefits and combat zone pay.
Eligible individuals who received social security and/or veterans benefits in 2007,
but are not otherwise required to file a Puerto Rico income tax return and do not
file a return, will receive a basic rebate with the Advance Payments, as
described in Section 4, without the need to file any additional documents.
Eligible individuals who received combat zone pay in 2007, but are not
otherwise required to file a Puerto Rico income tax return and do not file a
return, are eligible to receive a recovery rebate with the Final Payments, as
described in Section 5, without filing a tax return, but must instead file a special
form created by the PRDT for this purpose ("Special Rebate Qualification Form")
that will allow the individual to demonstrate that he or she received combat
zone pay and evidence the name and social security of his or her spouse and
qualifying children. Eligible individuals who received social security and/or
veterans benefits and received an Advance Payment from the PRDT for their
basic rebate may also file a Special Rebate Qualification Form to receive any
child recovery rebate to which they are entitled based on their 2007 eligibility.
Individuals who are required to file a Puerto Rico income tax return for 2007 and

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on that basis would be eligible for a basic rebate of less than $300 ($600 if filing a
joint return) may also file a Special Rebate Qualification Form if their social
security and/or veterans benefits and/or combat zone pay would entitle them
to a larger basic rebate.

3.2 Basic Recovery Rebate
3.2.1 Amount
The basic recovery rebate for an eligible individual is equal to the greater of:
a. Net income tax liability up to $600 ($1,200 for a joint return); or
b. $300 ($600 for a joint return) if the individual satisfies one of the following
criteria:
i. The sum of earned income, social security benefits and veterans
benefits is at least $3,000, or
ii. Net income tax liability is greater than zero and gross income
determined under the P.R. Code is greater than the sum of the
applicable Puerto Rico standard deduction and personal exemption.

3.3 Child Recovery Rebate

3.3.1 Eligibility
The Child Recovery Rebate may be claimed only by an individual eligible to
receive a Basic Recovery Rebate greater than zero.

3.3.2 Amount
The amount of the child recovery rebate is equal to $300 for each qualifying
child of the taxpayer.

3.3.3 Qualifying child
For purposes of the Child Recovery Rebate, the term "qualifying child" means a
dependent who was born after December 31, 1989, but before January 1, 2008.

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3.4 Limitation on Recovery Rebates
The combined amount of the Basic and Child Recovery Rebates shall be
reduced, but not below zero, by five percent of the taxpayer's adjusted gross
income as determined under the P.R. Code that exceeds $75,000 ($150,000 in
the case of a joint return).

3.5 Special Rules.
3.5.1 Exclusion from income
Any payment attributable to recovery rebates shall not be taken into account
as taxable income.

3.5.2 Joint returns
In the case of an Advance Payment made with respect to a joint return, half of
the amount shall be treated as having been made or allowed to each
individual filing such return.

3.5.3 Federally funded programs
Any payment attributable to recovery rebates shall not be taken into account
as resources for the month of receipt and the following 2 months, for purposes of
determining the eligibility of any individual for benefits or assistance, or the
amount or extent of benefits or assistance, under any Federal program or any
program financed in whole or in part with Federal funds.

3.5.4 No offsets by PRDT for debts to PRDT
Regardless of the status of tax liability of a taxpayer to the PROT, the PROT shall
not deduct or offset from the rebate payments any amounts owed to the PROT.
Pursuant to the requirements of the Act, rebate payments will be subject to
offsets as a result of any past due child support obligations.

3.5.5 No offsets by taxpayers
Taxpayers filing 2006 or 2007 tax returns shall not deduct any anticipated rebate
amounts from their tax liability to the PROT.

3.5.6 Fraud or mistake
If any taxpayer receives a rebate from the PROT based on incorrect information
provided by the taxpayer or information omitted by the taxpayer as a result of
either fraud or mistake, or if the taxpayer is otherwise not eligible for a rebate
paid to him or her by the PROT, the PROT may claim such incorrectly paid rebate
from the taxpayer through any method available to the PROT to collect debts

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Department of the Treasury

from taxpayers, and any amount recovered from the taxpayer, except interests
and penalties, shall be deposited in the Recovery Rebate Fund described
below. The IRS may also claim any incorrectly paid rebate from the taxpayer
through any method available to the IRS to collect debts from taxpayers.

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4 Advance Payment of Recovery Rebates
4.1 Determination of Advance Payment
PRDT shall determine, based on valid 2006 Puerto Rico individual income tax
return information available as of December 31, 2007, the amount of recovery
rebate that each individual would have been allowed if the recovery rebate
were effective for tax year 2006 ("Advance Payment"). The PRDT shall make an
Advance Payment to eligible individuals who filed a 2006 Puerto Rico income
tax returns on or before December 31, 2007 and an Advance Payment for the
basic rebate of individuals who received social security and/or veterans benefits
in 2007. For purposes of the Advance Payment, a qualifying child means a child
who is less than 17 as of December 31, 2006, and the PR Code for tax year 2006
shall be used to determine the amount of the basic recovery rebate.

4.2 Treatment of combat zone pay.
Qualifying income from combat zone pay will not be included in the calculation
of the Advance Payment, but will instead be included in the Final Payment.

4.3 Timing of Payment
Advance Payments based on 2006 tax returns filed on or before December 31,
2007 and on 2007 social security and/or veterans benefits will be paid by the
PRDT between May 1, 2008 (but not before the Commonwealth receives the
payment for the estimated aggregate recovery rebate benefits from the u.s.
Department of the Treasury) and July 31, 2008.

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5 Final Payment of Recovery Rebates
5.1 Determination of Final Payment Amount
The PROT shall make a Final Rebate Payment ("Final Payment") to eligible
individuals who file 2007 Puerto Rico income tax returns on or before October 15,
2008 (or later in the case of eligible military personnel, as described in Section
5.4.2). The Final Payment will be the difference between the amount for which
the individual is eligible based on his 2007 information (including social security
and veterans benefits) minus the amount the taxpayer was paid as an Advance
Payment. Individuals who were eligible for a higher rebate based on their 2006
information (compared to what they would be eligible for based on their 2007
information) will not be required to return any funds.

5.2 Social security and veterans benefits and combat zone pay
Qualifying income from social security and veterans benefits and combat zone
pay will be included in the calculation of the Final Payment of individuals that
file the Special Rebate Qualification Form.

5.3 Filing obligation
In order to be eligible to receive a Final Payment, eligible individuals are
required to file a 2007 individual income tax return. This filing obligation does not
apply to individuals who are using only their social security and veterans benefits
and/or their combat zone pay to determine their qualifying income and who file
the Special Rebate Qualification Form.

5.4 Timing of Payment
5.4.1 Timely returns
Final Payments based on 2007 individual income tax returns filed on or before
May 15, 2008 (or June 15, 2008 in the case of individuals filing a Special Rebate
Qualification Form) will be processed for payment by the PROT between August
1, 2008 (but not before the Commonwealth receives the payment for the
estimated aggregate recovery rebate benefits from the U.S. Department of the
Treasury) and October 31, 2008.

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5.4.2 Late returns
Final Payments based on 2007 individual income tax returns filed after May 15,
2008 (June 15, 2008 in the case of individuals filing a Special Rebate
Qualification Form) will be handled on a first come, first serve basis until funds
made available by the U.S. Department of the Treasury for the recovery rebates
are exhausted. However, the PRDT will first pay any Final Payments associated
with individual income tax returns filed after May 15, 2008 by individuals serving
in the military outside of the United States and a reserve will be created to pay
any rebates that can be claimed by individuals that are permitted to file their
2007 tax returns after October 15, 2008 because they are serving in the military in
active duty outside of the United States as provided by the P.R. Code.
Individuals with combat zone pay otherwise not required to file a 2007 income
tax return may file a Special Rebate Qualification Form on or before the date by
which they would have been required to file a 2007 income tax return as a result
of their military service. Final Payments based on 2007 individual income tax
returns filed after May 15, 2008 (or Special Rebate Qualification Forms filed after
June 15, 2008) will be paid by the PRDT after February 1,2009. The PRDT will not
make any Final Payments based on individual income tax returns or Special
Rebate Qualification Forms filed after October 15, 2008, except in the case of
individuals eligible to file a 2007 income tax return after such date because of
their military service.

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6 Coordination with U.S. Government
6.1 Dual Filers
Individuals eligible to receive a recovery rebate from the PRDT are not eligible to
receive a recovery rebate from the U.S. Department of the Treasury.

6.2 Information Sharing
This exchange of taxpayer information between PRDT and the IRS will be
conducted under the Tax Coordination Agreement Between the United States
and the Commonwealth of Puerto Rico dated May 26, 1989 or as otherwise
authorized by law.
The PRDT shall provide to the U.S. Secretary of the Treasury, on a monthly basis
once it begins to issue recovery rebates, information regarding the taxpayer
identification numbers of individuals receiving recovery rebates from the PRDT
during the previous month.

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7 Recovery Rebate Fund
7.1 Establishment of Trust Fund
The Secretary of the PRDT shall establish a trust fund at the Government
Development Bank for Puerto Rico herein referred to as the "Recovery Rebate
Fund."
a. Amounts received from the U.S. Secretary of the Department of the
Treasury to cover the estimated aggregate cost of the recovery rebates
paid by the PRDT shall be deposited in the Recovery Rebate Fund.
b. The balance of the Recovery Rebate Fund shall be reduced by
withdrawals equivalent to payments made by the PRDT of recovery
rebates.
c. Overpayments of recovery rebates reclaimed by the PRDT shall be
deposited in the Recovery Rebate Fund.
d. The Recovery Rebate Fund shall have no authority to borrow.
e. The funds received by the PRDT from the U.S. Department of the Treasury
shall be used exclusively for the payment of recovery rebates, and not for
administrative expenses.
f.

Any interest generated by funds in the Recovery Rebate Fund shall not
be credited to the Recovery Rebate Fund and may be deposited in a
separate account of the PRDT at the Government Development Bank for
Puerto Rico. If the funds in the Recovery Rebate Fund are extinguished,
however, and there are individuals eligible to receive recovery rebates
that have not received the amount to which they are entitled under this
Plan, the PRDT shall deposit into the Recovery Rebate Fund any interest
earned on the amount received from the U.S. Department of the Treasury
that would be necessary to pay rebates that cannot otherwise be paid
with the funds remaining in the Recovery Rebate Fund.

g. The PRDT shall submit to the U.S. Department of the Treasury quarterly
reports indicating the amount of funds in the Recovery Rebate Fund, the
amount of funds paid in rebates during such quarter and any interest
earned on the amount received from the U.S. Department of the Treasury
for recovery rebates. Quarterly reports shall be submitted within 45 days

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of the end of a quarter. Quarters will be January to March, April to June,
July to September and October to December.

7.2 Return of Unused Amounts
The balance of the Recover Rebate Fund as of December 31, 2010, if any, shall
be returned the U.S. Secretary of the Department of the Treasury without
interest.

7.3 Liability of the Commonwealth of Puerto Rico
Liability of the Commonwealth for making or allowing recovery rebates is limited
to funds available in the Recovery Rebate Fund.

7.4 Liability of the United States
Consistent with Section 101 (c) of the Act, the U.S. Department of the Treasury will
make one estimated payment to the Commonwealth; the U.S. Department of
the Treasury will not be liable for any payments or adjustments beyond the single
estimated amount. The PRDT recognizes that the United States has not waived
its sovereign immunity for a suit by either the Commonwealth or the residents of
the Commonwealth in connection with recovery rebates paid or payable to
either the Commonwealth or its residents.

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8 Claims and Disputes
8.1 Claims
Any individual who believes that he or she has not received a rebate in
accordance to this Plan may file a written claim with the PRDT addressed to the
Assistant Secretary for Internal Revenue, PO Box 9024140, San Juan, PR 009024140 or in person at Office 620, Intendente Ramirez Building, 10 Paseo
Covadonga, San Juan, PR 00901. Claims for Advance Payments must be filed
on or before October 15, 2008, but not before the later of either the date in
which the taxpayer received an Advance Payment that is lower than what he
or she claims or September 15, 2008. Claims for Final Payment based on 2007
social security and veterans benefits or on Puerto Rico income tax returns filed
on or before May 15, 2008 must be filed on or before December 15, 2008, but
not before the later of either the date in which the taxpayer received a Final
Payment that is lower than what he or she claims or November, 15, 2008. Claims
on Final Payments based on Puerto Rico income tax returns filed after May 15,
2008 must be filed on or before September 30, 2009, but not before the later of
either the date in which the taxpayer received a Final Payment that is lower
than what he or she claims or June 30, 2009. In the case of individuals eligible to
file their 2007 tax returns after October 15,2008 as a result of their military service,
claims for a Final Payment based on their 2007 income tax return or on a Special
Rebate Qualification Form must be filed on or before the later of either three
months after they file their 2007 income tax return or Special Rebate
Qualification Form or two months after the taxpayer received a Final Payment
that is lower than what he or she claims.
The PRDT will issue a written final
decision on each properly filed claim.

8.2 Administrative Review of PRDT's Determination Regarding Claims
An individual who disagrees with PRDT's final decision on a claim pursuant to
Section 8.1 of this Plan may file a request for hearing and administrative review
before the Secretary of Adjudicative Procedures of the PRDT, pursuant to Puerto
Rico Act No. 170 of August 12, 1988, as amended. This request must be made in
writing, within thirty days from the date PRDT's final decision is notified to the
individual, pursuant to Puerto Rico Regulation No. 7389 of July 13, 2007.
Requests may be filed in person at PRDT's offices located at Intendente Ramfrez
Building, 10 Paseo Covadonga; 6th floor, Office 611, San Juan, PR 00901 or by
mail at Department of Treasury, Attn. Office 611, P.O. Box 9024140, San Juan, PR
00902-4140.

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8.3 Best Effort.
The dates included in this Plan for distribution of Advance Payments and Final
Payments are target dates, but given the accelerated schedule for the same, it
is understood that there are various circumstances, unforeseen at the time of
approval of this Plan, that could affect the timing of payments. Accordingly,
these dates represent the estimated dates for distribution of rebates based on
best efforts as can calculated in advance of this first time ever program. There
shall be no liability or claim for interest against the PRDT for failure to meet the
target dates established herein.

8.4 No interest
No individual shall be entitled to receive any kind of interest by reason of
receiving a rebate as a result of a claim or otherwise.

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9 Functional Plan
The PRDT will establish a functional group that will be accountable and
responsible for the following activities of the Plan:

9.1

Confirmation of the Eligibility Rules and Basic Recovery Rebate

Once the Plan is approved, the Functional Group will evaluate final
determinations and will prepare adequate documentation to the PRDT's
Information Technology Area. This documentation will be essential for the
proper identification, data extract and selection of eligible taxpayers. This will
also include the rules for the recipients of social security and veterans benefits.

9.2

Selection Testing and Validation

Based on the defined rules provided to the Information Technology Area, the
Functional Group will test and validate data extract and basic recovery rebate.
The possible scenarios of amounts of wages combined with social security and
veteran benefits will be tested between the possibilities of married with children,
married with no children, head of household with children and single with no
children.
After an initial data extract is provided from the Information Technology Area, a
testing of the basic recovery rebate will be computed for those taxpayers
identified in the cross reference report as beneficiaries of one of the benefits
and reported wages.
Additional validation will be made between PRDT and the U.S. Department of
the Treasury for the data received for the social security and veteran benefits.
This validation will help to address further claims related to those benefit
recipients.

9.3

Process and Procedures Documentation

The Functional Group will be in charge of preparing the supporting processes
and procedures documentation of the Plan. Procedures will include:
•
•
•
•

Data Test and Validation
Production Control
Printing Process
ACH Transmissions

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•
•
•

9.4

Plan for the Distribution
Recovery Rebates

Claims Procedures
Return Mail Management
Sharing Information with the U.S. Treasury

Issues and Risk Management Plan

The purpose of an Issue Management Plan is to outline the appropriate followup and escalation procedures that will ensure Distribution Plan issues are
addressed by the appropriate decision makers and resolved in a timely matter.
The Risk Management Plan will help in the identification of mitigation activities
that will minimize the potential occurrence of a risk and mitigate the effects if
the risk occurs.

9.5

Disbursement Control and Financial Reporting

The proper establishment of disbursement controls will be and important part of
the Functional Group responsibilities. Additionally, the Functional Group will be
responsible for control and reporting of the administrative costs incurred that will
be assigned to the PROT.

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10 Information Technology Plan
10.1 Summary
This section of the plan covers the areas of Identification Strategy, Production
Strategy, Data Management Strategy, Control Strategy, Reporting Strategy and
Support to the Functional and Support Areas. It is the PRDT's intention to reutilize as many readily available resources as possible. Another objective of this
plan is to create a processing operation that would result non invasive to our
regular seasonal objectives, especially the individual tax filing process.

10.2 Identification Strategy
The initial phase of the proposed Processing Strategy consists of the extraction of
the 2006 individual tax filings into an image copy database to be used as the
baseline to all of the processes that are going to be implemented during this
initiative. It is the PRDT's intention to use this database as the main resource for
most of its processing.
A set of eligibility business rules to be prepared by the functional group will be
translated into application code and applied against the database. The result
will be validated by the functional group and streamlined as necessary until all
of the selection criteria have been met. After successful validation, a live
production run will produce a record set of tax filings containing the prospects
that qualify for the Advance or Final Payments described in sections 4 and 5.
A parallel effort to the initial identification of prospects should be on its way in
order to load data acquired from SSA and DVA into the same database. When
the data from SSA and DVA is available, the PRDT should start the process of
identification of prospects that have records in at least two of the data sources
(PR Tax Filers 2006, SSA and DVA). Cross reference reports should be generated
to identify new prospects, e.g. "A filer with an income too low to qualify for the
rebates in excess of net income tax liability as per the tax records but has
sufficient income from SSA and/or VA to qualify for rebates in excess of net
income tax liability".
The result of the Cross Reference Report should be the identification of new
prospects for the initial advance. Following this second round of prospect
identification, a validation process should be in place to insure that all prospects
have been included. After this final validation is completed, it could be said
that most recipients of the Advance Payment have been identified. The PRDT
at this point should be ready to share this information with the U.S. Department

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of the Treasury. At this point all estimates for the Advance Payment can be
revised.
After conclusion of the extraction and prospect identification phase, begins the
Production Phase. See Appendix 1 Identification of Prospects Process. A similar
process will be performed with 2007 data for the Final Payments.

10.3 Production Strategy
During this phase, payments will be issued for all those prospects that have been
validated as prospects. The first part of this phase will be to create the
production groups. These groups or batches will be processed during daily
processes that will create the payments, for each group or batch the system
should assign a production date and a printing date entry.
It is the PROT's
intention to process all of the Advance Payments in a period no longer than six
weeks, but the Plan provides for twelve weeks to account for unanticipated
delays.
Before check payments are issued, a process will be invoked to validate the
prospect's address. All addresses must adhere to the U.S. Post Office standards
that include the Zip+4, address structure and pre-sort standards. Exceptions of
the standardization process will be sent to an address correction process,
payments for the exceptions will be held until a compliant address is produced.
Electronic payments will be issued without address verification.
All successful payment transactions will be logged into a payment table or
subsidiary, a check emission file will be generated and transmitted to the bank,
so that whenever those checks or payments are presented for clearing the bank
already knows its origin. Electronic payments will be processed into an
Automatic Clearing House (ACH) file and transmitted to the ACH network on a
daily basis.
A spool file will be generated for printing; the printing process will run six days of
the week on a sixteen hour window. An off-day would be provided within the
production schedule with the intention of providing an equipment maintenance
window and would also provide for printing or processing of any extraordinary
items. At the end of the printing process, all payment transactions will be
marked as paid and the check number will be added to that record.
At the end of the daily processing cycle, all checks will be registered by the
Treasury Area of the PROT and will be delivered to the Central Post Office for
public distribution. Finalized check registers will be issued and stored as
supporting documents. For a more detailed production schedule, please see

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10.4 Data Management Strategy
All information related to this process will be managed and stored utilizing
relational databases created and designed exclusively for this purpose. The
relational database will provide the process with referential integrity, security
and audit ability to support the process.
This database will also provide means for supporting the tax payers, reporting
and data exchange capabilities. The database will be initially loaded with 2006
Individual Tax Filings, SSA beneficiaries and VA beneficiaries.
Database will also contain security, audit and transaction logs.

10.5 Control Strategy
General controls relate to the environment within which automated application
systems are developed, maintained and operated and which are, therefore,
applicable to all the applications. They ensure the proper development,
implementation and maintenance of all automated applications, and the
integrity of program and data files and of computer operations.
The Control Strategy consists in the establishment of control procedures. These
procedures should follow best practices from the industry as adopted by
organizations like ISACA (Information Systems Audit and Control Association).
After the implementation of the controls, the PRDT will solicit the service of
internal and external auditors to test the controls. Auditor's reports will be used
to add strength to the controls already in place.
Some of the controls to be established include, but are not limited to, access
controls, run controls, output controls, reporting controls, hashing controls and
reconciliation processes.

10.6 Reporting Strategy
PRDT's intention is to provide the U.S. Department of the Treasury with all
required information and data relative to the disbursement process. The U.S.
Department of the Treasury and PRDT should agree on the information and data
required as well as the reporting schedule and formats.

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10.7 Support to the Functional Areas Strategy
Besides the previously mentioned operation's strategy, PROT believes that
support to the taxpayers and the functional officers (Internal Revenue Area
Personnel), is critical to the success of the initiative.
The Information Technology Area proposes a support approach based on the
use of dynamic information. To accomplish this goal, it has been identified the
need to provide an internet portal that will provide the information needed to
assist taxpayers during the process.
This portal will be used to provide
information to the taxpayers via online access or through the planned Call
Center. The list of resources that should be available at the portal includes:
•
•
•
•
•
•
•
•

General information about the process
Links to content produced by the IRS, PROT, SSA and the OVA
Verification of eligibility
Qualifying payment amount
Estimated date of pay
Request payment type (check or electronic payment)
Update address information
Obtain status of checks returned by the post office

The portal shall have an English and Spanish version suited to accommodate
most of the island's taxpayers, social security and veterans beneficiaries.

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11 Support Plan
The support personnel executing this plan will be accountable and responsible
for the management of interactions between the recovery rebate beneficiaries
and the operational areas of the PRDT.

11.1 Communications Plan
An effective communication plan in the written media, radio and internet will
contribute to a better understanding of the primary intention of the recovery
rebate. Simple language, clear and easily explainable concepts are important
factors for the success of the communications plan.
Definitions of the determination of eligibility, amount of recovery rebate, special
rule for the recipients of social security and veterans benefits, child recovery
rebate, limitation on recovery rebates and other special rules are part of the
concepts that will be included in the different media strategies. Additional
topics will be the explanation of the Advance Payment and Final payment
computations and range of dates to file claims.
The Communications Plan will start on April 2008 and will cover the periods of
Advance Payments, Final Payments and Claims.

11.2 Orientations and Trainings
Adequately trained and oriented employees will support the efforts of the
Communications Plan. PRDT will provide a complete training to the PRDT
Taxpayer Service Bureau in order for its personnel to manage frequently asked
questions.
Orientation materials with different scenarios and frequently asked questions will
be available at the Taxpayer Services Regional Offices to all employees and
recovery rebate beneficiaries. Trainers will also be in charge of training and
support of Call Center personnel.

11.3 Call Center
A dedicated Call Center will be established for recovery rebate recipients. This
will be the main tool to manage the interactions between the recipients and the
operational areas of the PRDT. The following information will be available
through the Call Center:

Page 25 0/29

Commonwealth of Puerto Rico
Department of the Treasury

1.
2.
3.
4.
5.
6.
7.
8.

Plan for the Distribution
Recovery Rebates

General information about the process
Verification of eligibility
Qualifying payment amount
Payment Status
Request payment type (check or electronic payment)
Update address information
Obtain status of checks returned by the post office
Claims management

11.4 Exception Handling
It is expected that after address standardization, ten percent of all checks
(approximately 100,000) will be returned by the post office.
When the
telephone information is available, an effort will be made to contact
beneficiaries. We will direct the effort to the Call Center and they will update
the address information. Once the address is updated, the Call Center will
notify the procedure to receive the rebate.
A procedure will be established for the claims of checks not received within the
expected date that were not returned by mail. Identification protocols and
verification of checks already exchanged at the bank will be made before any
type of re-impression.
This will manage the double payment and
misappropriation of funds.

Page 260/29

Commonwealth of Puerto Rico
Department of the Treasury

Plan for the Distribution
Recovery Rebates

Appendix 1 Identification of Prospects Process

Year 2006
Tax Filings

Social
Security
Adm.

Extraction
Process

Dept. of
Veterans
Affairs
! 4 - - - - - - ' "_

'
-

-.. -----+- ....
Business Rules

.•

,
--~

Eligibility
Prospects

-

-

-

Tests
--- •.Validation
- ...•..

-----~

No

Successful
Valldallon Rec:ord

r

•.

.--

..

_--+
"

-Yes

Payment Records
---_
... - _-----

PRODUCTION

- - - - - -- -- - -

-

- -- -.

~

Page 27 of29

r---

.-------'m
-

Year 2006
Tax Filings Copy

Exception Verification

..
J

Commonwealth of Puerto Rico
Department of the Treasury

Plan for the Distribution
Recovery Rebates

Appendix 2. Production Process Tentative Schedule
Distribution of ~covery ~bates- Advanced PaYJ:l1ent Cleek Produdion Plan
Production System

May 4 - ..lme 10, 2008
9lift
1
2
3
Daily Total
Weekly Cumulative

Monday

50,000
50000

Tuesday Wednesday Thursday

50,000
100,000

50,000
150,000

50,000
200,000

Slturday

0
200,000

Smday

25,000
25,000
25,000

25,000
25,000
25,000

75000
275,000

75000
350,000

Success
Rate@
100%

Success Success
Rate@
Rate@
75%
50%

350,000

262,500

175,000

700,000

525,000

350,000

25,000 1,050,000
75,000
350,000

787,500

525,000

843,750

562,500

900,000

600,000

May 11- May 17,2008
9lift
1
2
3
Daily Total
Weekly Cumulative

Slturday

50,000
50,000

50,000
150,000

50,000
200,000

0
200,000

s'mday

25,000
25,000
25,000

25,000
25,000
25,000

75000
275000

75000
350000

May 18 - May 24,2008
9lift
1
2
3
Daily Total
Weekly Cumulative

Monday

Tuesday Wednesday Thursday

Friday

Slturday

25,000
25,000
25,000
50,000
50,000

50,000
100,000

50,000
150,000

50,000
200,000

0
200,000

75,000
275,000

SJnday

25,000
25,000

May 25 - May 31,2008
9lift
1
2
3
Daily Total
Weekly Cumulative

Slturday

25,000
25,000
25,000
50,000
50,000

50,000
100,000

50,000
150,000

50,000
200,000

0
200,000

75,000
275,000

SJnday

25,000
25,000 1,125,000
25,000
75,000
350,000

Jme 1-..lme 7,2008
Slturday

9lift
2
3
Daily Total
Weekly Cumulative

50,000
100,000

50,000
150,000

50,000
200,000

0
200,000

SJnday

25,000

25,000
25,000
25,000

25,000

75,000
275,000

75,000
350,000

25,000 1,200,000

'Success rate will vary depending on the total number of payments based on the eligibility process; production plan is
based on actual capacity not on the estimates of eligible beneficiaries.

Page 28 of29

Commonwealth of Puerto Rico
Department of the Treasury

Plan for the Distribution
Recovery Rebates

•• Produclion schedules are considering a weekly 24 hour equipment maintenance window. Additional unplanned
maintenance might be necessary depending on actual circumstances.

Page 29 of29

DEPARTMENT OF THE TREASURY
WASHINGTON, D.C
SECRETARY OF THE TREASURY

April 16, 2008

The Honorable Allibal Acevedo Vila
Governor of Puerto Rico
La Fortaleza
San Juan, PR 00901
Dear Governor Acevedo Vila:
Thank you for your letter of April 9, 2008, submitting the Plan for Distribution of Recovery
Rebates in the Commonwealth of Puerto Rico. The Economic Stimulus Act of2008, P.L. 110185 (the Act), requires that I approve the Commonwealth's plan for distIibuting stimulus
payments to residents of Puerto Rico. The Act also requires that once such a plan is approved,
the Treasury Department make a payment to the Commonwealth in an amount estimated as
being equal to the aggregate benefits that would have been provided to residents of Puerto Rico
by reason of the amendments made to the Internal Revenue Code by section 101 ofthe Act if a
"mirror code" tax system had been in effect in Puerto Rico
In accordance with the Act, I approve the Plan for Distribution of Recovery Rebates in the
Commonwealth of Puerto Rico dated April 8, 2008, a copy of which is enclosed. Also, we have
estimated the aggregate benefits that would have been provided to residents of Puerto Rico by
reason of section 101(c) of the Act if a mirror code tax system had been in effect in Puerto Rico
at $1.282 billion. A payment in this amount will be made by the Treasury Department to· the
Commonwealth to fund the prompt distribution of stimulus payments to residents of Puerto Rico
pursuant to the Commonwealth's plan.
Sincerely,

He&p~~
Enclosure

,-930: Trea:ury Releases Fourth in A Series of Social Security Papers

Page 1 of 1

/0 vIew or prmt tne put- content on thIS page, aown/oaa tne tree IIc/OIJfJ0.0I1croIJatll<j HeaCler,il<j.

April 16, 2008
hp-930

Treasury Releases Fourth in A Series of Social Security Papers
Washington - Treasury today released the fourth in a series of papers on Social
Security. Issue Brief No.4 is entitled Social Security Reform: Mechanisms for
Achieving True Pre-Funding.

-30REPORTS
•

Issue Brief NO.4: Social Security Reform: Mechanisms for Achieving True
Pre-Funding

http·/lwww.treasgov/press/reJeases/hp930.htm

S1l2/200R

ISSUE BRIEF NO.4

SOCIAL SECURITY REFORM:
MECHANISMS FOR ACHIEVING
TRUE PRE-FUNDING
INTRODUCTION
This is the fourth in a series of Treasury issue briefs on Social Security reform. It expands on a point
introduced in the second issue brief; namely, that making Social Security reform fair to future generations
requires bUilding up and safeguarding resources in the near term that can be used to fund future benefits
as the number of retirees per worker increases. As was discussed in the second brief, there is nothing
currently in place to prevent current contributions in excess of current benefits from being unwound by
larger deficits in the non-Social Security portion of the federal budget. This brief reviews the need for
true pre-funding and its implications for reforms that achieve a financially sustainable Social Security
system. The brief then analyzes possible mechanisms to help ensure that attempted pre-funding is in fact
real pre-funding.
The institutional reforms considered in this issue brief, including several variants of personal accounts, are
discussed solely in terms of the contribution they make to ensuring that attempts to pre-fund Social Security actually result in an accumulation of resources to fund future benefits. Accordingly, elements of these
reforms that do not directly bear on the question of pre-funding-for example, the inheritability of personal accounts-are not discussed. In addition, it should be emphasized at the outset that none of the
mechanisms for pre-funding considered here involve the privatization of any function of Social Security.

FAIR REFORM REQUIRES SUBSTANTIAL PRE-FUNDING
The connection between fairness and the need for pre-funding is straightforward. As shown in
Figure 1, the old-age dependency ratio-the ratio of retirees to workers-is expected to rise rapidly over
the next thirty years and then to rise slowly but steadily in every year thereafter. This pattern reflects the
imminent retirement of the relatively large baby-boomer birth cohorts together with projected sustained
improvements in longeVity. This demographic shift has important implications for Social Security, since
the revenues of the system take the form of contributions paid by workers while expenditures go largely
to retirees (as in previous briefs, the discussion here focuses on the retirement portion of Social Security
rather than on disability benefits).

2

Percent
45
40
35

Figure 1: Persons Aged 66 and Over
per 100 Persons Aged 15 to 65

i 2005 Trustees Report Projections

~

1

30
25
20
15
10

5

o +---,----,---+--~----~--~--~--~--~--~--~--__- 1975 1985 1995 2005 2015 2025 2035 2045 2055 2065 2075 2085 2095
Year

Source: Social Security Administration

In these circumstances, any reform of Social Security that makes the system permanently solvent and that
seeks to maintain contributions and benefits at some stable fraction of people's wages while working
must accumulate resources in the near term when there are relatively more workers (that is, when the oIdage dependency rate is relatively low) so as to help finance benefit payments in later years when there
are relatively more retirees (that is, when the old-age dependency rate is relatively high). This accumulation of resources is known as "pre-funding," and is accomplished by having current revenues exceed
expenditures and by safeguarding the resulting surpluses so that they prOVide resources with which to
fund future benefits If instead no attempt is made to pre-fund future benefits, then it will be necessary in
a solvent system to reduce benefits for the cohorts of retirees that are relatively large and/or to require
higher contributions from the later, relatively small cohorts of workers who are paying for the retirement
benefits of the earlier cohorts. Either outcome would be viewed as unfair by most people because it
causes the net value of Social Security to vary across birth cohorts depending on their size.
The amount of pre-funding that is needed depends on both demographics and the size of benefits to
be afforded to future retirees. A convenient reference point for assessing the rough magnitude of prefunding that would occur under a fair Social Security reform plan is given by the amount of planned
pre-funding under the "Nonpartisan Reform Plan" that was recently proposed by Jeffrey Liebman, Maya
MacGuineas, and Andrew Samwick. 1 That plan calls for cuts to defined benefits that are partly made
up by benefits payable from mandatory personal retirement accounts, and brings more revenue into the
system by raising the maximum taxable earnings threshold and requiring that individuals make some outof-pocket contributions to their retirement accounts.

For a description of the Nonpartisan Reform Plan and a link to the Social Security Administration's scoring of it, see
http//www.nonpartisanssplancom/pages/l/lndex.htm The plan IS used here strictly for illustrative purposes; this
discussion does not represent an endorsement or a policy proposal
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SOCIAL SECURITY REFORM MECHANISMS FO~ AO--IIEVIi'~G TRUE PRl:rUI"-JDING • ISSUE BRIEF 1',10 4

The Nonpartisan Reform Plan involves significant planned pre-funding, This can be seen from
Figure 2, which gives the projected time profile of contributions in excess of benefit payments (expressed
as a share of GDP) implied by the plan, (Both contributions and benefits include the contributions and
benefits that are attributable to the plan's personal retirement accounts,) Annual planned pre-funding
under the plan would be about 1 percent of GDP between 2008 and 2018 and would slowly decline
thereafter, with negative pre-funding starting in 2034 as resources are used to pay benefits, To put the
magnitude of this planned pre-funding in perspective, note that it is equivalent to putting aside lS5 percent of GDP in 2007 to help pay benefits after 2034; by comparison, past attempted pre-funding from
the inception of Social Security to 2007-the accumulated value of all past Social Security surplusescorresponds to 16A percent of 2007 GDP,
Figure 2: Annual AHempted Prefunding Under the Nonpartisan Reform Plan
(Current Contributions in Excess of Current Benefits Paid As Share of GDP,
Based on 2005 Trustees Report Assumptions)
Percent

L5
LO

0.5
0.0

... _ _ _ _

Nonpartisan Reform Plan
(Budget Surplus + Personal Account Surplus)

" "

...., ...I '-.

'',

" "- ............

------~'.'~.--------~~~~~-~-~--------------------------

---- ---

-0.5

--- ---

-

-

,I

-LO
-L5
-2.0

Current-Law Scheduled
Benefits and Taxes

-2.5 - 1 - - - - , - - - - - , - - - , - - - - - , - - - - - , - - - - - . - - - - . - 2005

2015

2025

Source: Social Security Administration

2035

2045

2055

2065

2075

Year

Other Social Security reform plans call for less planned pre-funding than the Nonpartisan Reform Plan;
this can be done by redUCing benefits and/or increasing contributions relatively more gradually, In both
cases, the effect is to impose a larger share of the Social Security reform burden on distant future generations, To assess whether the Nonpartisan Reform Plan provides a reasonable gUide to the appropriate
level of pre-funding, therefore, Figure 3 shows how the plan distributes Social Security's reform burden
across birth cohorts as measured by the lifetime net benefit rate. As is explained in Treasury's second
and third issue briefs, the lifetime net benefit rate is defined as the present value of net lifetime Social
Security benefits (benefits less taxes) as a percentage of the present value of the individual's lifetime
wages. The lifetime net benefit rate for a birth cohort is the same as that for an individual except that
the numerator (net Social Security benefits) and the denominator (lifetime wages) are sums computed
over all members of the birth cohort.

u.s

DH'/~PTMENT

4

OF THE TREASURY

SOCIAL SECURITY REFORM MECHANISMS F()f~ ACHI~VING

Tf;l)[ r)pr:.rLII'~Dlr·I(; •

ISSIJE i:\IW:F rio 4

Figure 3: Lifetime Net Benefit Rates by Birth Cohort
Under Current Law and Nonpartisan Reform Plan

Percent

o ,----------------------------------------------------,
Current-law

Scheduled
_.~'""--~.~ ... ,,,~,~,._,.-.---~.--~--

Benefits and Taxes

-2
-3

\

,
.... ....

-4

.... ....

--- -----'---- ---

--- ---

Nonpartisan Reform Plan

-5

1940

1960

1980

2000

2020

2040

2060

2080

2100

Year of Birth
Source: Department of the Treasury

Figure 3 shows that the Nonpartisan Reform Plan's provisions are fully phased in beginning with the
1995 birth cohort. 2 After the 1995 birth cohort, the lifetime net benefit rate creeps upward as life expectancies rise for successive birth cohorts, which results in their receiving benefits over a longer period
of time. On this score, it is noteworthy that the plan probably does not achieve permanent solvency,
but likely would do so if it were modified to include benefit reductions that offset the effect of increasing
longevity on the value of lifetime benefits beginning with the 1996 birth cohort. Such a modification
would not change the amount of planned pre-funding under the plan, but would result in a flat lifetime
net benefit rate starting with the 1995 birth cohort. As was discussed in Treasury's third issue brief, a
lifetime net benefit profile that is flat in the long run is arguably fairer than one that forever rises.
Whether pre-funding under this plan is too small or too large depends on one's judgment as to how
qUickly a Social Security reform should be phased in. This particular plan is fully phased in starting with
the 1995 birth cohort, whose members are 13 years old when the plan's reforms are assumed to begin.
If a more rapid phase-in were desired, then planned pre-funding would be larger and future generations
would be made better off at the expense of current generations; similarly, if a less rapid phase-in were
desired, then planned pre-funding would be smaller and current generations would be made better off
at the expense of future generations.

WHAT HAPPENS WHEN PLANNED PRE-FUNDING IS NOT REAL?
Pre-funding is an effective financing strategy provided that the near-term surplus revenues are safeguarded in a way that allows them to be used to pay for future benefits. The present Social Security system
has its surpluses accumulate in the trust fund. These surpluses will increase the government's capacity

2

The Nonpartisan Reform Plan's benefit reductions end with the 1988 birth cohort, but rules concerning the share of personal account contributions that are made out-of-pocket make the accounts decreasingly generous for birth cohorts born
between 1986 and 1997

5

SOCIAL SECURITY REI-(Jr,zl\l\ (viti I i/V~I:j/\;'" c! If: /,(: III

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to pay benefits in the future only to the extent that they result in smaller amounts of public debt issuance
than would occur if there were no surpluses. This is because reducing near-term public debt issuance
would increase the government's capacity to issue debt in the future to help poy benefits when the
bonds in the trust fund are redeemed.
Many analysts believe that Social Security surpluses under the present system do not increase the
government's capacity to pay future Social Security benefits. Under this view, Social Security surpluses
are offset in the rest of the federal budget by some combination of higher non-Social Security spending
and/or lower non-Social Security taxes. To the extent that this is true, Social Security's surpluses do not
increase the government's capacity to pay future Social Security benefits. The future benefit payments
that would have been financed with public debt issuance had Social Security surpluses truly been saved
must instead be financed with lower non-Social Security spending and/or higher non-Social Security
taxes. In this case, the existence of the near-term Social Security surplus causes the non-Social Security
budget to be mare profligate, and the future Social Security cash deficit will require future non-Social
Security budgets to have either higher taxes or lower spending than would have been the case had
today's surpluses resulted in true pre funding Under this scenario, an attempt to make Social Security
fair to future generations by accumulating near-term surpluses in the trust fund would be undone by a
non-Social Security policy that is less fair to future generations. Rather than resulting in resources that
provide future benefits, running a Social Security surplus today would instead lead to mare debt outside
the trust fund that must be paid off by future generations, leaving them with no net gain

WHAT NEEDS TO BE UNDERSTOOD FOR SOCIAL SECURITY
SURPLUSES TO BE SAVED?
In order for Social Security surpluses to be saved, taxes and spending in the non-Social Security portion
of the budget must be set with the recognition that the special-issue government securities held by the
trust fund represent liabilities that are every bit as real and important as debt held by the public. While
the non-Social Security budget must ultimately redeem those special-issue securities in any case, it is only
when they are recognized as equivalent to publicly held debt that the non-Social Security budget will
plan in advance for their redemption by using Social Security surpluses to reduce public debt issuance.
When used to lower publicly held debt today, the surpluses increase the government's capacity to issue
publicly held debt to pay for Social Security benefits in the future. Otherwise, those future benefits must
be financed with lower non-Social Security spending ar higher non-Social Security revenues.
The meaning of this can be illustrated using actual budget numbers for a particular year. Table 1 shows
how federal finances in the 2006 fiscal year can be divided into a Social Security component and
a non-Social Security component In that year, the unified budget deficit was $248 billion, and was
comprised of a $185 billion Social Security surplus and a $433 billion non-Social Security deficit Debt
held by the public at the beginning of the year was $4.6 trillion, and was comprised of a $6.4 trillion
non-Social Security obligation and a $1.8 trillion Social Security credit Interest on the non-Social Security obligation puts its size in perspective; in the year shown, it was $324 billion, which is 18 percent as
large as non-interest non-Social Security outlays.
When looking at Table 1, the pertinent question is whether the $109 billion non-Social Security deficit
excluding interest (the primary deficit) was entered into with the full understanding that a $64 trillion
debt was outstanding that must be serviced exclusively with non-Social Security revenues, or whether the
$185 billion loan made by Social Security to the non-Social Security budget was viewed as an ongoing unconditional grant, with grants of that magnitude assumed to persist into the indefinite future

6

SOCIAL SECURITY REFORM M[CIINJISMS I (If.:

/\(~HIEVING

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In the latter case, the non-Social Security deficit is larger than it would have been had the Social Security surpluses not eXisted; Social Security surpluses are therefore not wholly saved.

Table 1

Fiscal Year 2006 Federal Finances
In Billions of Dollars
Social Securi

Non-Social Securi

Unified

Primary Surplus

87

Interest Received*

98

-324 ,

-227

185

-433

-248

End of Fiscal 2005

-1,809

6,401

4,592

End of Fiscal 2006

-1,994

6,823

4,829

Total Surplus

-22
1

Debt Held by Public

• Interest received is entered as a positive number; interest paid is entered as a negative number.
Source: Historical Tables, Budget of the u.s. Government.

FOUR STRATEGIES TO INCREASE THE LIKELIHOOD THAT PLANNED SOCIAL
SECURITY PRE-FUNDING REPRESENTS REAL PRE-FUNDING
This section analyzes four strategies to help ensure that planned Social Security pre-funding is in fact real
pre-funding. Ordered from most aggressive and most likely to work to least aggressive and least likely
to work, the strategies are as follows.

Strategy 1.

Pre-fund in full-service personal accounts.

Strategy 2.

Pre-fund in bare-bones accounts administered by a quasi-governmental entity.

Strategy 3.

Invest the Social Security trust fund in private-sector assets.

Strategy 4.

Invest the Social Security trust fund in marketable federal debt.

STRATEGY 1: PRE-FUf'JD IN FULL-SERVICE PERSONAL ACCOUNTS
If current trust fund accumulations do not represent true saving, it is because the special-issue government
securities that are held by the trust fund are not regarded as liabilities to the non-Social Security budget
that are as real and important as debt held by the public, despite the fact that these securities will ultimately be redeemed. In that case, introducing personal accounts to Social Security would remedy this
problem by effectively converting the special-issue government securities into publicly held debt.
To see how this occurs, consider the following simple exercise. Start from any Social Security reform
without accounts that makes Social Security permanently solvent, and imagine modifying the plan to

U::;

DErARfMENT OF THE

7

TPl:t,~:IJRY

SOCIAL SECURITY REFORM MECHAI'~ISMS FOR ACHIEVING TRUE PRE-FU~Dlr--JG • IS::,UE eRIEF 1'.10 4

allow one individual to direct $1,000 of his or her payroll tax payments to a personal account in exchange for redUcing his or her future defined benefits in an actuarially fair manner. For this simple case,
it will be shown that 1) the personal account will have no direct effect on the government's underlying
fiscal condition; and 2) the account would better reveal the true state of fiscal policy and might thereby
result in smaller non-Social Security deficits being chosen.

The Personal Account's Direct Effect on the Government's Fiscal Condition
The personal account's effects on the time profile of publicly held federal debt and the unified deficit are
shown in Figures 4 and 5, respectively3 The example assumes that the individual is 45 years old at the
time of the personal account contribution, begins collecting benefits as a Single person at age 65, and
is certain to die at age 85; and that the real government borrowing rate is always 3 percent. In this
case, then, the actuarially fair reduction in defined benefits is $121 per year.

Figure 4: Effect on Publicly Held Debt of a One-Time $1000 Contribution
to an Actuarially Fair Personal Account at Age 45
Real Dollars

2000
1800

//'.

1600
1400
1200
1000
800
600
......,.......

400

'.

200

..

'\

O+,,-~,,,-~,,~-,~,,-,,,~,-~,,,-,,~~-,~,,~

45

50

55

60

65

70

75

80

85

Age of Participant
Source: Department of the Treasury

3

The profile for the unified deficit shown in Figure 5 is the annual change in the level of publicly held debt shown in
Figure 4.

u.s

DEPARTMENT OF THE

8

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SOCIAL SECURITY REFORM MECHANISMS ~(W /\c-llrY!['\;(J TRUE rRE+Ui'-JUII'K; • i':;SUE [:"RIlr I~IO. 4

Figure 5: EHect on the Unified Deficit of a One-Time $1000 Contribution
to an Actuarially Fair PRA at Age 45
Real Dollars

1000

I

800
600
400
200

o
-200
45

50

55

75

70

65

60

80

85

Age of Partidpant
Source: Department of the Treasury

At the time of the $1,000 account contribution, when the contributor is age 45, government outlays are
increased by $1,000 and government revenues are unchanged, so the increment to publicly held debt is
$1,000. Between the ages of 45 and 65, the increment to real publicly held debt rises at a 3 percent
rate (the assumed real government borrowing rate) because the incremental debt must be continually rolled
over. After the contributor retires at age 65, annual defined benefit payments are reduced by $121 (this
amount is made up by the benefits paid from the personal account); this reduction in defined benefits
results in a smaller unified deficit (Figure 5), which in turn causes the increment to publicly held debt to
steadily decline (Figure 4). When the person dies at age 85, the increment to publicly held debt is precisely zero, which is what it means in this context for the defined benefit reductions to be actuarially fair.
Figure 4 demonstrates that adding actuarially fair personal accounts to a reform plan that is permanently
solvent results in a plan that is also permanently solvent. But while actuarially fair accounts do not compromise permanent solvency, they do cause near-term unified deficits and publicly held debt to increase.
The presence of this increment to near-term debt levels-which is often referred to as transition debt-is
sometimes enlisted as an argument against instituting personal accounts. 4 In fact, "transition debt" does
not represent a new obligation of the government, it merely substitutes publicly held debt for an existing
implicit debt-namely, the obligation to pay defined benefits. Total government obligations are left unchanged at every point in time, which implies that the incremental public debt profile shown in Figure 4
is exactly matched by the time profile of reductions in the present value of defined benefit promises. (It
is also true that the increase in publicly held debt is exactly matched by a reduction in the special-issue
government securities held by the trust fund.)

4

While transition debt associated with each individual's account is ultimately zero, total transition debt would always be
positive for an ongoing Social Security system with personal accounts. In the hypothetical situation where accounts are
invested exclusively in government debt, transition debt is simply equal to aggregate account balances; in an ongoing
Social Security system, such balances will always be positive. Hence, the term "transition debt" is a misnomer for two
reasons: It does not represent an addition to government liabilities, and it is not merely transitory.

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Substituting explicit public debt for an existing implicit debt should in principle have little impact on
financial markets. This is most obvious in the case where personal accounts are invested in federal
government bonds and are paid out as actuarially fair real annuities, and where the accounts' administrative costs are kept low. In that case, introducing actuarially fair accounts as described here leaves
total benefit levels essentially unchanged; all that occurs is that participants hold federal debt, an explicit
government obligation, in lieu of defined benefit promises, an implicit government obligation. Because
the accounts are invested in federal debt, they absorb all the increment to publicly held debt and there is
no pressure for market interest rates to change.
The story is more complicated if personal accounts are invested in assets other than federal debt. In that
case, the annual increase in purchases of private assets (equal to the account contributions) is precisely
matched by the annual increase in public debt, so accounts increase the supply and demand for financial assets by precisely the same amounts. Any effect on interest rates should therefore be modest. 5
These conclusions have been arrived at for what might seem to be a special case-one in which personal
accounts are an actuarially fair modification to a permanently solvent plan that includes no accounts. As
Box 1 explains, however, these conclusions in fact apply to any plan that includes personal accounts.

BOX 1
A CONCEPTUAL FRAMEWORK FOR UNDERSTA~JDIi'~G THE
EFFECTS OF PERSONAL ACCOUNTS
This brief isolates the effects of personal accounts on solvency and benefit levels by beginning with a Social
Security system without accounts and then introducing actuarially fair personal accounts. This analytical framework
clearly applies to reform plans whose personal accounts are described as actuarially fair. For example, plans with
voluntary personal accounts that are funded with payroll tax revenues have two components: (1) defined benefits
if there were no personal accounts; and (2) diversions of payroll tax revenues to personal accounts and offsets to
defined benefits for those choosing a personal account. These plans conform to the analytical framework used
here to analyze the effects of personal accounts if the defined benefit offsets are actuarially fair.
But the effects of personal accounts that are derived using this framework and discussed in the body of the brief
apply to any plan that includes personal accounts, not just those that describe the accounts as being actuarially fair.
To see that this is true, consider the hypothetical example given by the table below. The first two columns of figures
(labeled columns 1 and 2) relate to "Plan A," in which a worker has the option of putting some of his or her payroll
taxes into a personal account. If a personal account is not elected, column 1 indicates that defined benefits are $95
and payroll taxes are $100. Alternatively, if a personal account is elected, column 2 indicates that $10 of payroll
taxes are diverted to a personal account and defined benefits are reduced by $5. Because the defined benefit offset is less than the payroll tax diverSion, the personal account as described is more than fair to the worker. To focus
on the effects of personal accounts, assume that the personal account is elected (this could equally describe a hypothetical plan with a mandatory account as in column 2). With the account chosen, Plan A is described in column 2:
defined benefits are $90, payroll taxes are $100, and $10 of payroll taxes are diverted to a personal account.

5

The point here is that the economic fundamentals determining interest rates are not changed when explicit public debt
is substituted for implicit obligations to pay defined benefits. That said, if market partiCipants fail to understand this-for
example, if they were to believe that changes in publicly held debt have a larger effect on interest rates than do
changes in implicit debt-then such a policy change would temporarily affect asset prices and interest rates. Eventually,
however, market perceptions must come into alignment with underlying economic reality-deviations of market rates
from fundamentals will not be permanent.

10

SOCIAL SECURITY REFORM MECHt"INISMS FOr; ACHII::VING TRUE PRE-FU"JDII¥:J • is'JUE GRIEF !JO 4

The effect of personal accounts in Plan A is the difference between the effects of that plan and the effects of a
comparable plan that includes only defined benefits. For this purpose, the comparable defined-benefit-only plan
is a modification of Plan A that diverts each person's $10 personal account contribution to the trust fund and
increases their defined benefits by the maximum amount possible while keeping the plan's long-run actuarial balance unchanged. The resulting plan, "Plan B," is shown in the third column of the table; it boosts defined benefits
by $10 relative to Plan A. It is apparent, therefore, that Plan A with accounts selected lor mandatory) is just Plan B
plus actuarially fair personal accounts. So the effect of Plan As personal accounts is found by comparing a plan
without personal accounts-Plan B-with the same plan modified to include actuarially fair personal accountsPlan A. This is precisely the analytical framework utilized in the brief.
Some analysts mistakenly infer the effects of personal accounts by comparing columns 1 and 2 in the table. The
reasoning is that within the context of how the plan is described, electing an account moves an individual from
column 1 to column 2, so the effect of the accounts is naturally associated with the effect of moving between these
two columns. Under this way of thinking, the personal account increases total benefits Idefined benefits plus benefits payable from personal accounts) by $5 and worsens Social Security's long-run actuarial balance by $5. But
the same outcome could be achieved simply by boosting defined benefits by $5; hence, this interpretation does
not properly isolate the effects of the accounts as they differ from the effects of a defined benefit change that costs
the same amount.

Table 2
Isolating the Effects of Personal Accounts for a Plan
That Describes Them as Being More Than Fair
Plan with Personal Accounts (Plan A)
- - - - - - - . . . . . , . - - - - - - - - - - - - - - - -........1 Comparable Plan
i
If Personal
If Personal
I Without Personal
I Account Not Elected
Account Is Elected Accounts (Plan B)
Item
(1)
(2)
i
(3)

95

Defined Benefits

100

100

100

Payroll Taxes
Diversion of
Payroll Tax to
Personal Account

100

10

Memo:
Implied Defined
Benefit Offset

-5

It should be noted that because any Social Security reform plan with personal accounts can be conceptualized as
a defined-benefit-only plan combined with actuarially fair personal accounts, it is not really meaningful to assess
the degree to which personal accounts contribute to making Social Security permanently solvent as traditionally
measured. True solvency requires the system's inflow and outflow over the indefinite future to be in balance in
present-value terms Ithe traditional solvency measure), and also requires attempted pre-funding to be real pre-funding. Personal accounts do not help to improve the traditional solvency measure, but they would help to ensure that
attempted pre-funding is real.

U 'j

I)

I: I' A f: r iv\ 'e N' C) 1-\ '--,: 1 f' _ ,L

,',

',J ~(

SOCIAL SECURITY REFORM MECHANISMS FOR ACHIEVING Tf(UE f)fiE FI.NDIl j(3 • ISSUE

~)RIEF

!'JO 4

The Effect of Personal Accounts on the Conduct of Fiscal Policy
The discussion thus far suggests that introducing actuarially fair, conservatively invested personal
accounts to a permanently solvent Social Security system in which accounts are initially absent carries
no important consequences: Accounts do not directly change the time profile of the government's total
liabilities; they should have little or no direct impact on financial markets; and they would have little
effect on benefit levels.
However, the essential point of making personal accounts part of Social Security is to better reveal the
state of the government's budget so that more prudent fiscal policy decisions are made outside of Social
Security. Specifically, by transforming implicit promises to pay future Social Security benefits into explicit
quantities of publicly held debt, personal accounts could result in smaller non-Social Security fiscal deficits today. To the extent that this is true, personal accounts are beneficial rather than merely benign as
they would indirectly reduce the time profile of total government liabilities, thereby improving the well-being of future generations and putting downward pressure on interest rates.

What Role Does the Equity Premium Pla y 2
Some analysts argue that personal accounts would also make Social Security more generous by giving
participants access to equity returns that are normally higher than the returns earned on trust fund investments. This argument is flawed for two reasons, however. First, while equities do have an expected
return that is greater than that offered by government bonds, the additional expected return (the socalled "equity premium") comes at the cost of assuming a larger amount of risk. To the extent that the
equity premium merely compensates for this additional risk, cashing in a bond and buying equities does
not make an investor any better off. In this case, the value of personal accounts is well approximated
by their value when they are invested exclusively in government debt; hence, the presence of accounts
would make Social Security no more or no less generous. A second and perhaps more compelling
point concerns aggregate private-sector portfolio returns. Because personal accounts have no direct
effect on national saving (as opposed to the indirect effect that they might have through fostering greater
fiscal discipline), equities held in the accounts simply displace equities that would otherwise be held
elsewhere in the consolidated portfolio of the private sector. Thus, accounts can only change the distribution of equity returns across the population, not total equity returns in the economy.
Equity returns do nevertheless have some relevance for assessing the advantages of personal accounts.
First, to the extent that the accounts lead to smaller non-Social Security deficits, they result in an increase
in government saving that boosts national saving and national wealth. The returns that would be earned
on the additional national wealth are closely connected to the return on equities. Second, while the
direct effect of personal accounts is to merely redistribute aggregate equity returns across the population,
that redistribution could itself be beneficial. Although it is true that investors who wish to accumulate safe
assets at a pace at least as rapid as the rate at which Social Security's defined benefit accrues should
be indifferent to whether their personal accounts are invested in equities or bonds, young individuals
with little financial wealth probably do not fit that description. Because many young people's primary
access to equity investments would come through their personal accounts, their financial well-being
would suffer if their personal account investments were restricted to bonds alone.

12

SOCIAL SECURITY REFORM MECHANISMS FOR ACHIEVING TRUE rRE-FUNDIi'J(; • ISSUE ERIEF t'K} 4

Administrative Costs Under Full-Service Personal Accounts
An important downside of full-service personal accounts is that they would substantially increase the
costs of administering Social Security. Even if such accounts could be administered as efficiently as the
current defined contribution plan for federal employees (the Thrift Savings Plan), a recent CBO study
estimated that annual administrative costs would be $25 per participant (in 2004 dollars), which would
raise the overall cost of administering Social Security to about three times its current level 6 If accounts
were to receive contributions equal to 2 percent of wages, the study estimated that administrative costs
of this magnitude would reduce account balances at retirement by about 5 percent.

STRATEGY 2: PRE-FUND IN ACCOUNTS OFFERING NO INVESTMENT CHOICES AND
ADMINISTERED BY A QUASI-GOVERNMENTAL ENTITY
In order to keep the administrative costs of accounts very low, it would be possible to create bare-bones
accounts administered by a quasi-governmental entity like the Federal Reserve System. Such accounts
might be invested exclusively in federal debt, or might include private-sector assets, but in either case
investments would be pooled and no investment choice would be permitted. Without any investment
choice, administrative costs would be very low because customer service would be limited to an annual
account statement and a payout determination at retirement.7
A Social Security system consisting of bare-bones accounts and an ordinary defined benefit component
could be designed to closely match benefit payments made by a defined-benefit-only system. Again,
it is useful to imagine starting from a defined-benefit-only system that is permanently solvent-call this
System A-and then introducing actuarially fair accounts (as in the discussion above) to arrive at a new
system, System B. The System B accounts would be invested exclusively in government debt and would
be paid out as real annuities. Because there would be no investment or payout choice, administrative
costs would be very small and total benefits could be essentially the same as in System A. With such
accounts, it should be clear that contributions made to the accounts are not available to finance nonSocial Security programs. Similarly, it should be clear that the debt held by the accounts' administrator
represents claims on the non-Social Security budget that are no different than other publicly held debt.
Investing accounts exclusively in federal debt would reduce risk and ensure that a reform plan that
includes accounts could pay benefits that closely match the benefits that would be paid by any given
defined-benefit-only system. Some, however, might prefer the higher expected returns offered by a
riskier portfolio, even though there would be some chance that the portfolio's return would be lower than
that offered by federal debt. 8

6

Congressional Budget Office, "Administrative Costs

of Private Accounts

in Social Security," March 2004.

7

Another advantage of accounts with no investment choice is that the current time lag between when employers make
payroll tax payments and when those payments are allocated to individuals (which can be as long as 18 monthsl
would be of no consequence, as allocated and unallocated funds would be invested in the same way.

8

A possible disadvantage of investing accounts exclusively in federal debt is that policymakers would perceive that
the accounts' administrator is a captive buyer of federal debt whose existence reduces the cost of issuing public debt.
However,. a contrary view is that what matters to policymakers when deciding deficit levels is the government borrowing
rate; as discussed In the text, that rate should be little affected by how the accounts are invested.

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SOCIAL SECURITY REFORM MECHANISMS FOf; !\C!IIEVING TRUr: PRE-FIY~I)II'~C; • ISSUr: SPIEF 1,10 4

Budgetory Treatment Issues
How personal accounts would affect official measures of deficits and debt depends on whether the
accounts are judged to be owned by individuals or by the government. The Office of Management
and Budget (OMB) would determine the status of accounts based on the source of funds, legal terms of
ownership, and control over use and disposition of the accounts. One important criterion for the privateproperty designation under current budgeting rules would be that an individual's defined benefits not
be too closely linked to the individual's personal account balance. This would rule out the possibility
that the reduction in each individual's ordinary defined benefits would be set equal to the annuity value
of his or her account balance at retirement, as was assumed in the illustration given above of actuarially fair accounts? If that possibility is ruled out, it would not be possible for a system with accounts to
exactly mimic benefit levels payable from any given defined-benefit-only plan. But provided account
administrative costs are kept very low, it would be possible for a Social Security system with accounts to
pay the same benefits on average as does any given defined-benefit-only plan. lO
If the accounts were determined to be government owned and if they were invested in federal government debt, they would be treated very much like the current trust fund. Account contributions would be
treated as an outlay of the general fund and an offsetting receipt by the accounts, while the accounts' investments in federal securities would not be recorded as an outlay. Hence, there would be no effect on
the unified deficit, and any pre-funding for Social Security would continue to mask the size of the nonSocial Security deficit. In that case, the accounts would offer only one advantage: The governmentowned account balances would be exactly offset by an easily identifiable offsetting obligation (benefits
payable from the account balances). This would be analogous to specifying the current $2 trillion trust
fund balance as the financing source for some portion of defined benefits going forward. It is not clear
that this would have a material effect on the conduct of fiscal policy.
If the accounts were determined to be government owned and if they were invested in private assets,
then they would be accounted for like the current trust fund would be if it were invested in private assets.
In both cases, the purchase of private-sector assets by a government account would be recorded as
an outlay, so the unified deficit and publicly held debt would both increase. lI Compared to investing
the trust fund in private-sector assets (an option that is discussed belowl, introdUcing government-owned
accounts that were invested in private assets would have one advantage-they would result in an easily
identifiable obligation (benefits payable from the account balances) that exactly offsets the value of the
government-owned account balances. This situation would be analogous to investing the trust fund in
private-sector assets and specifying the trust fund balance to be the financing source for some portion
of defined benefits going forward. As before, the key question is whether this would lead to a material
change in the conduct of fiscal policy.

9

In this case, any increase in account balances would result in a reduction in ordinary defined benefits that leaves account owners with no net gain and leaves the government with no net change in its fiscal position. Hence, it is reasonable to rule that the account is not really private property.

10

An offset to defined benefits might depend on a hypothetical account balance at retirement computed using specific
prospective assumptions about earned rates of return. While these offsets can be defined so that expected benefit
levels are unchanged, actual benefit levels would change depending on how actual rates of return compare with expected returns. Also, essentially similar benefits could be defined directly without explicit reference to account balances.

11

It is possible that current budgeting conventions might be modified if government-owned accounts were to purchase
private assets so that the asset purchases would not be recorded as outlays.

14

SOCIAL SECURITY REFORM: MECHANISMS FOR ACHIEVING TRUE PRE·FUNDING • ISSUE 8RIEF I~O 4

Other Possibilities for Administering Bare-Bones Accounts
Thus far, it has been assumed that the bare-bones accounts would be administered by a quasi-governmental entity. This would presumably allow some of the actual operations to be performed by private
companies. For example, if accounts were invested in private assets, then the buying and selling of
those assets would almost certainly be contracted out to a private company. Recordkeeping could also
be contracted out, but that would probably be uneconomical given the amount of government oversight
that would be necessary to assure privacy and accuracy.
The bare-bones accounts could also be administered by a government agency, with the Social Security Administration being an obvious choice. In that case, cash flows to and from the accounts would
be scored the sam