[House Hearing, 110 Congress]
[From the U.S. Government Publishing Office]





   FINANCIAL SERVICES AND GENERAL GOVERNMENT APPROPRIATIONS FOR 2009
_______________________________________________________________________

                                HEARINGS

                                BEFORE A

                           SUBCOMMITTEE OF THE

                       COMMITTEE ON APPROPRIATIONS

                         HOUSE OF REPRESENTATIVES

                       ONE HUNDRED TENTH CONGRESS

                             SECOND SESSION
                                ________

       SUBCOMMITTEE ON FINANCIAL SERVICES AND GENERAL GOVERNMENT 
                             APPROPRIATIONS



                  JOSE' E. SERRANO, New York, Chairman


CAROLYN C. KILPATRICK, Michigan           RALPH REGULA, Ohio
C.A. ``DUTCH'' RUPPERSBERGER, Maryland    MARK STEVEN KIRK, Illinois
DEBBIE WASSERMAN SCHULTZ, Florida         RODNEY ALEXANDER, Louisiana
PETER J. VISCLOSKY, Indiana               VIRGIL H. GOODE, Jr., Virginia
ROBERT E. ``BUD'' CRAMER, Jr., Alabama    JO BONNER, Alabama
MAURICE D. HINCHEY, New York              
ADAM SCHIFF, California            


 NOTE: Under Committee Rules, Mr. Obey, as Chairman of the Full 
Committee, and Mr. Lewis, as Ranking Minority Member of the Full 
Committee, are authorized to sit as Members of all Subcommittees.

      Dale Oak, Bob Bonner, Karyn Kendall, and Francisco Carrillo,
                           Subcommittee Staff

                                ________

                                 PART 7
                                                                   Page
 Department of the Treasury.......................................    1
 Office of Management and Budget..................................   55
 Internal Revenue Service.........................................  127
 Securities and Exchange Commission...............................  261


     
                                ________


                     U.S. GOVERNMENT PRINTING OFFICE
 42-831                     WASHINGTON : 2008


























                                  COMMITTEE ON APPROPRIATIONS

                   DAVID R. OBEY, Wisconsin, Chairman

 JOHN P. MURTHA, Pennsylvania            JERRY LEWIS, California
 NORMAN D. DICKS, Washington             C. W. BILL YOUNG, Florida
 ALAN B. MOLLOHAN, West Virginia         RALPH REGULA, Ohio
 MARCY KAPTUR, Ohio                      HAROLD ROGERS, Kentucky
 PETER J. VISCLOSKY, Indiana             FRANK R. WOLF, Virginia
 NITA M. LOWEY, New York                 JAMES T. WALSH, New York0
 JOSE'1 E. SERRANO, New York             DAVID L. HOBSON, Ohio
 ROSA L. DeLAURO, Connecticut            JOE KNOLLENBERG, Michigan
 JAMES P. MORAN, Virginia                JACK KINGSTON, Georgia
 JOHN W. OLVER, Massachusetts            RODNEY P. FRELINGHUYSEN, New Jersey
 ED PASTOR, Arizona                      TODD TIAHRT, Kansas
 DAVID E. PRICE, North Carolina          ZACH WAMP, Tennessee
 CHET EDWARDS, Texas                     TOM LATHAM, Iowa
 ROBERT E. ``BUD'' CRAMER, Jr., Alabama  ROBERT B. ADERHOLT, Alabama
 PATRICK J. KENNEDY, Rhode Island        JO ANN EMERSON, Missouri
 MAURICE D. HINCHEY, New York            KAY GRANGER, Texas
 LUCILLE ROYBAL-ALLARD, California       JOHN E. PETERSON, Pennsylvania
 SAM FARR, California                    VIRGIL H. GOODE, Jr., Virginia
 JESSE L. JACKSON, Jr., Illinois         RAY LaHOOD, Illinois
 CAROLYN C. KILPATRICK, Michigan         DAVE WELDON, Florida
 ALLEN BOYD, Florida                     MICHAEL K. SIMPSON, Idaho
 CHAKA FATTAH, Pennsylvania              JOHN ABNEY CULBERSON, Texas
 STEVEN R. ROTHMAN, New Jersey           MARK STEVEN KIRK, Illinois
 SANFORD D. BISHOP, Jr., Georgia         ANDER CRENSHAW, Florida
 MARION BERRY, Arkansas                  DENNIS R. REHBERG, Montana
 BARBARA LEE, California                 JOHN R. CARTER, Texas
 TOM UDALL, New Mexico                   RODNEY ALEXANDER, Louisiana
 ADAM SCHIFF, California                 KEN CALVERT, California
 MICHAEL HONDA, California               JO BONNER, Alabama
 BETTY McCOLLUM, Minnesota               
 STEVE ISRAEL, New York                  
 TIM RYAN, Ohio                            
 C.A. ``DUTCH'' RUPPERSBERGER, Maryland    
 BEN CHANDLER, Kentucky                    
 DEBBIE WASSERMAN SCHULTZ, Florida         
 CIRO RODRIGUEZ, Texas              

                  Rob Nabors, Clerk and Staff Director

                                  (ii)

























 
   FINANCIAL SERVICES AND GENERAL GOVERNMENT APPROPRIATIONS FOR 2009

                              ----------                              

                                          Wednesday, March 5, 2008.

                       DEPARTMENT OF THE TREASURY

                                WITNESS

HON. HENRY M. PAULSON, JR., SECRETARY OF THE TREASURY

                  Chairman Serrano's Opening Statement

    Mr. Serrano. Good morning. The subcommittee will now come 
to order. Today the subcommittee is pleased to welcome Henry 
Paulson, Secretary of the Treasury, for his annual appearance 
before our subcommittee. We all know that the Secretary of the 
Treasury occupies an important position in the Federal 
Government, serving as a policy advisor to the President on a 
broad range of domestic and international economic issues.
    In addition, the Secretary's responsibilities as Department 
head cover a range of important functions: administering the 
U.S. public debt, issuing Federal Government payments, 
collecting the vast majority of the Federal Government's 
revenue, working to prevent money laundering and many other 
important responsibilities.
    Some examples of the Secretary's recent work include 
helping to formulate and administer the economic stimulus 
package and working to counter the rise of foreclosures 
associated with the subprime mortgages. I look forward to 
discussing these issues today.
    The issue of subprime mortgages, which this subcommittee 
addressed at a hearing last week, is a huge concern not only in 
my particular district, but throughout the country. While 
subprime loans have in many cases allowed low- to moderate-
income families to experience home ownership for the first 
time, it is also apparent that in a great many cases, borrowers 
were not fully informed about the terms of the loans.
    All consumers are at risk of being victimized by financial 
predators. However, it is often our most vulnerable populations 
who bear the brunt of these crimes. Each year, countless 
working-class parents who are struggling to achieve the 
American dream tragically have their hopes of upward mobility 
crushed by the practices of dishonest businesses. While their 
plight often goes unrecognized, the enduring housing crisis has 
opened the eyes of many Americans to their struggles and made 
us all aware of the devastating effects such exploitation can 
have on the strength of our economy. Hundreds of thousands of 
subprime loans have already reset to much higher interest 
rates, and approximately 2 million subprime loans will reset 
over the next 2 years.
    Foreclosures and late payments rose in January to the 
highest level on record and the medium price of a single family 
home fell in 2007 for the first time in at least 4 decades. The 
rise in foreclosures has had an impact not just on families who 
have lost their homes. Whole neighborhoods across the country 
have seen declines in property values and tax bases as a result 
of being near foreclosed homes.
    In New York City, my city, as I noted last week, 400,000 
homes are experiencing or will experience devaluation as a 
result of being located near foreclosed homes. In addition, 
minority communities have been and will continue to be the 
hardest hit by the foreclosure crisis, since these communities 
receive a disproportionate share of subprime loans.
    In 2006, 52 percent of the home loans that went to African 
American families and 41 percent of the home loans that went to 
Latino families were subprime loans. As I expressed also last 
week, I am deeply concerned that many borrowers in these 
communities were steered specifically towards subprime loans 
even though the borrowers in many cases were fully qualified to 
receive conventional loans.
    The Treasury Department has begun to address the issue of 
foreclosures, most notably in the Hope Now Initiative. Under 
this voluntary initiative, participating mortgage loan 
companies are agreeing to institute a 5-year delay in interest 
rate resets for certain families faced with the prospect of 
foreclosure.
    While I truly appreciate the efforts, Mr. Secretary, that 
you and others in the Department have put into this initiative, 
I still have significant concerns, as I have pointed out 
before. Specifically I am concerned that, one, the proposal is 
still a voluntary initiative and, two, a great many borrowers 
who are facing foreclosure are not eligible.
    While any progress in preventing foreclosures is to be 
welcomed, I have concerns about just how many people will be 
helped compared to the number of families who will face the 
loss of their homes. Indeed, the Secretary himself has stated 
recently that we have not yet seen the worst of the foreclosure 
crisis. I hope that we can continue to work together to explore 
ways to minimize the number of foreclosures.
    We thank you, Mr. Secretary, for being here today. We 
assure you that this committee stands ready to support you in 
all the work that you do and we know that we probably will take 
a little more time than usual at this hearing with the issue of 
the mortgage issue, but it is the number one situation in this 
country which is really concerning and scaring a lot of folks 
very seriously.
    Mr. Serrano. So we welcome you, and I also welcome my 
partner and my friend, Congressman Regula. From Ohio, right?
    Mr. Regula. From Ohio. A rather significant State today.
    Mr. Serrano. Especially last night, yes.
    Mr. Regula. Even more so than Texas, which is not easy.
    Mr. Serrano. At least you had just one election. They had 
an election and a caucus.
    Mr. Regula. Yes. It takes them two times to do as much as 
we do in one.
    Mr. Serrano. Be nice to the Ranking Member.

                     Mr. Regula's Opening Statement

    Mr. Regula. Well, Mr. Chairman, you have done an excellent 
job of outlining the challenges that confront the Secretary and 
I want to say, Mr. Secretary, that as a citizen of the United 
States, I appreciate the fact that you are willing to come to 
this city and accept the challenge of leading the Treasury 
Department. It is an extremely important responsibility in 
terms of the economic development of the country. I think 
sometimes we don't fully understand the role of Treasury.
    But when you look back in history, it was Alexander 
Hamilton who pushed the development of the Treasury Department. 
It is so vital to a nation's success to have a good financial 
system. And you are the leader of that and we thank you for 
taking on that responsibility. I look forward to your 
testimony.
    As the Chairman has said, we want to help in any way 
possible. You have some requested funding increase because of 
the IRS. You have a multiplicity of responsibilities: coinage, 
managing the Federal debt, which is a challenge. We appreciate 
what you have done by way of leadership in these 
responsibilities. So we welcome you here this morning.
    Mr. Serrano. Yes. And before we hear your testimony, Mr. 
Secretary, once again I want to thank you very much on your 
work on the stimulus package. I particularly want to thank you 
on your work to include the territories in the stimulus 
package, which we thought was something that was great.
    And last but not least, we thank you for the fact that you 
helped us so much in getting five more quarters, starting with 
the District of Columbia, which will be added to the program. 
Mr. Secretary, please.

                     Secretary Paulson's Testimony

    Secretary Paulson. Is this on now? Okay.
    First of all, thank you for your gracious comments and 
thank you for all your leadership on the stimulus, and 
particularly as it relates to Puerto Rico and the territories 
where you were a real leader, and they should be very grateful.
    Now, let me say to you and to Congressman Regula and 
members of the committee, I very much appreciate the 
opportunity to discuss the Treasury Department's proposed 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 will have plenty of time for your questions.
    Treasury has an important role to play as steward of the 
U.S. economy, and our office provides technical analysis, 
economic forecasting and policy guidance on issues ranging from 
Federal financing to domestic and global financing 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 
nearly as rapidly as in recent years.
    In response to economic signals early this year, the 
administration and 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 FMS to administer the stimulus check rebate program 
under that act, thank you.
    As you know, the stimulus payments to households and 
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 the 
economy, and it wouldn't be possible without your leadership.
    Treasury's Office of Terrorism and Financial Intelligence, 
TFI, uses financial intelligence, sanctions and regulatory 
authority to track and combat threats to our national security 
and safeguard the U.S. Government financial system from abuse 
by terrorists, proliferators of weapons of mass destruction, 
and other illicit actors.
    To continue to build on our efforts to combat these 
threats, we are requesting an $11 million increase for TFI, 
including $5\1/2\ million for the Financial Crimes Enforcement 
Network to ensure effective management of the Bank Secrecy Act.
    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 priority and have 
taken several significant steps to strengthen our systems and 
oversight.
    Treasury is committed to managing the Nation's finances 
effectively, ensuring the most efficient use of taxpayer 
dollars in collecting the revenue due to the Federal 
Government. The Internal Revenue Service, of course, plays an 
integral role in this. The budget requests a 4.3 percent 
increase in IRS funding to expand IRS enforcement activities, 
improve compliance, enforce the tax gap, and continue 
improvements in taxpayer service.
    In addition, we are asking your colleagues on the State 
Foreign Operations Subcommittee to support funding for the 
multilateral development banks, noticeably new replenishment 
for the World Bank's International Development Association, 
IDA, and African Development Fund and a $400 million request 
for the first installment of a $2 billion clean technology fund 
that, with additional funding from other donors around the 
world, will help to finance clean energy products in the 
developing world and make strides towards addressing a global 
climate change.
    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 the financial system's 
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.
    [The information follows:]


     
    
    Mr. Serrano. Thank you, Mr. Secretary.

                  STIMULUS CHECKS AND THE TERRITORIES

    I want to ask you first a question on the issue of the 
territories because as you well said, we worked long hours, the 
leadership of both parties and your office and my office, to 
make sure that territories were included. As you know, there is 
one difference. In the 50 States, checks will go directly to 
individuals. In the territories, a dollar amount is going to go 
to the central government, the territorial government, in the 
case of Puerto Rico the commonwealth government, which then 
will distribute dollars based on their tax rolls to the folks 
who will qualify, which is all the folks, a lot of the folks in 
the territories.
    The concern, the fear by some folks as expressed to me and 
expressed in the press is that the local government in the 
territories, because the money is coming in a lump sum, could 
either use the money to sit there for a while and look like 
they are balancing their local budgets and/or would take local 
tax liabilities.
    Let's say Mr. Rodriguez in San Juan owes $300 to the local 
tax department. From the $600 that he was supposed to get, he 
will only get $300 because $300 will be taken out for that.
    Two problems with that. First of all, that is not really 
the intent. The intent was to get dollars into people's pockets 
so they could spend it and stimulate the economy. And secondly, 
unlike if you do it here, where you take from the stimulus 
check, from the rebate check to pay for a tax liability, over 
there you would be taking Federal dollars to pay for a State 
debt, if you will, or a debt to the State that hasn't been 
approved by Congress.
    So what are the negotiations going like to make sure that 
the intent of this committee and this Congress for those 
dollars to go directly do take place?
    Secretary Paulson. Mr. Chairman, first of all, I appreciate 
your strong interest and your familiarity with the details and 
your concern here. I had a briefing on this earlier this week 
as I am getting continual briefings on the implementation of 
the stimulus package. And you are right to indicate that there 
is a significant difference, that we are working with the local 
authorities and through their tax system. And we are in the 
middle of these negotiations right now and there are a lot of 
technical issues and difficult issues we are working through. I 
am optimistic we are going to work through them.
    And I guess what I would say to you, you flagged an 
important issue and one we are sensitive to. So we are just 
going to keep working on it and we will work with you and your 
staff on this, and come out with the best outcome possible.
    Mr. Serrano. I appreciate that. And let me just say on the 
record that it was our intent when we put this together in a 
bipartisan fashion that the dollars go directly to the folks 
and not be used for any local options or needs.
    Lastly, as you know, just for the record, some folks 
commented about dollars going to the territories and said why 
would that money be going--some folks said overseas. We remind 
everybody that those folks would take that money and go spend 
it, and they would spend it in places called Kmart, Wal-Mart, 
J.C. Penney, Costco and Sam's and other places. In other words, 
it is the same economy, it is the same retailers who operate in 
the territories that operate in the 50 States.
    Secretary Paulson. Thank you for continually reminding us 
of that because, again, the people in the territories owe a 
debt of gratitude to you.
    Mr. Serrano. Thank you.

                             SUBPRIME LOANS

    Mr. Secretary, one of the organizations that testified 
before the subcommittee last week, the Center for Responsible 
Lending, has argued that the subprime situation escalated 
because Wall Street, as a purchaser of subprime loans on the 
secondary market, encouraged subprime lenders to abandon 
reasonable, qualifying standards and ignore whether their 
customers could actually afford the loan.
    In addition, the Federal Reserve Chairman was quoted last 
August as saying that the failure of investors to provide 
adequate oversight of originations and to ensure that 
originators' incentives were properly aligned was a major cause 
of the problems that we see today in the subprime mortgage 
market.
    Mr. Secretary, do you agree with these comments that are 
being made and how should this particular problem be addressed?
    Secretary Paulson. Yes. Again, thank you for that question 
because it is very timely. And as I have thought about this 
problem, I see two major focuses. The first was the one you 
mentioned in your initial remarks which is, let us figure out 
how to get help to the people who need it right now and get 
through this problem with as little individual stress and 
stress to the overall economy as possible. In other words, so 
that is--that is number one.
    And then, second, is what is the right policy response to 
this? How do we respond to minimize the likelihood that 
something like this will happen again? And part of this is law 
enforcement and that doesn't fall under my responsibility. But 
again, we are seeing aggressive law enforcement activities at 
the Federal and the State level to go after people who 
committed crimes.
    And then there is the question of the right policy 
response. And there I am really working on a daily basis on 
helping to formulate the policy response for the President's 
Working Group on Financial Markets. I chair that group. It has 
the chairman of the Fed, the chairman of the SEC, CFTC, and 
other regulators. There are efforts going on globally. And 
here, when we come up with this response, we are going to be 
looking at the mortgage origination process, the writing issues 
and issues surrounding the writing agency, the issues you 
mentioned on securitization and all of those issues, 
disclosure, valuation issues, so there are a good number of 
ones.
    And then, separately, Treasury has been working now for 
almost a year on a regulatory blueprint, because we have a good 
regulatory system in the U.S. But it is not perfect and it is a 
patchwork quilt that has developed over many years, and it can 
be improved upon, and there are some gaping holes in it.
    So you are right and both of the issues you have raised are 
the right ones: How do we mitigate the harm and then how do we 
reduce the likelihood we will have this problem again?

                              SPECULATORS

    Mr. Serrano. Something that I brought up last week and 
maybe you would like to comment on it. And very few times do we 
have an opportunity to look to both sides of a committee room 
and say we are all interested in making sure that this crisis 
doesn't get any deeper and that we help Americans keep their 
homes. But I suspect that we are talking about two sets of 
folks here, the vast majority, people who bought a house and 
now find themselves in a very difficult situation. But then 
there is the possibility that some were speculating on a very 
good market opportunity, and others who bought a second home 
perhaps that they knew they couldn't fully afford.
    In preparing a response, how do we protect those that we 
need to and not necessarily bail out folks we don't need to 
bail out?
    Secretary Paulson. Again, Mr. Chairman, you and I are 
thinking about this very similarly. First of all, let's talk 
about the people we really need to help, because you rightfully 
singled out subprime mortgages where there is going to be a 
reset. There have been resets and there is a wave of them 
coming.
    And if we look at foreclosures in the third quarter, there 
are 55 million mortgages held in the U.S.; 93 percent of those, 
51 million, are making their payments every month on time. Then 
when you look at that pool, 13 percent are subprime. That was 
40 percent of the foreclosures in the third quarter. Then if 
you look at the adjustable rate mortgages those where there was 
a product problem, you had 6\1/2\ percent of the mortgages and 
40 percent of those that entered the foreclosure process. So we 
have a huge effort in getting to those people and coming up 
with programs to deal with the mortgage reset and to deal with 
the issues that they are going to face.
    Then as you have said, I have seen these news reports about 
Moody's put out numbers, 8.8 million mortgages are under water 
that have zero to negative equity. Well, many of those are 
people who can afford their mortgage payment. And a good number 
of those are ones that put no money down on a home, speculated 
on a housing market and the idea that other taxpayers of the 
government should pay for their losses. If they can make their 
mortgage payments, my view is they should honor their mortgage 
payment. If they can not, they are speculators and they 
shouldn't be the focus of what we are doing and we should be 
concentrating our efforts on those who want to stay in their 
house, willing to talk to someone about it, and have a real 
problem, either an income problem or a product problem. We try 
to get at the income problem with the stimulus program. And the 
product problem, we are working on that very hard with the Hope 
Now Alliance. And there is always more that can be done.
    Mr. Serrano. Well, we thank you for your response and you 
are right, we are on the same track. On that, we don't bail 
people out who make bad investments. In other areas of the 
economy, we have to be careful that we balance that properly.
    Secretary Paulson. Yeah.
    Mr. Serrano. I will now recognize Mr. Regula. I remind 
Members that I will alternate, obviously, between two sides 
based on what time you showed up, you came to the hearing. And 
once Mr. Regula is finished, this gavel is pretty strict on the 
5-minute rule. Mr. Regula.
    Mr. Regula. Thank you, Mr. Chairman.

                         SOVEREIGN WEALTH FUNDS

    Mr. Secretary, I would like to discuss the role of 
sovereign wealth funds in the United States financial markets. 
Do you think that the prevalence of these funds will change 
U.S. equity markets in the long term? Some commentators are 
saying that governments in the Middle East and Asia are now the 
largest net investors in the U.S. equity and bond market. Is 
this true and should we be concerned? We go back to the Dubai 
thing which got everybody alarmed some years ago. And do you 
think that sovereign wealth funds could come to substitute for 
central banks?
    Secretary Paulson. First of all, Congressman, thank you for 
the question because this is very topical now, and let me also 
say that we benefit and have for a long time in this country 
greatly from foreign investment. The greatest compliment 
another government can pay to the U.S. economy is to make a 
direct investment. Foreign governments, a wide variety of them 
invest in our Treasury securities. And as you have also said, 
there are sovereign wealth funds from around the world, 
including the Middle East. And they have been around the world 
for a long time.
    Now, I would say that the absolute size of sovereign wealth 
funds has gone up dramatically. But as a percentage of global 
wealth, it hasn't really increased that dramatically. The 
projections are--and I am always a bit skeptical of projections 
because they always assume that a trend is just going to 
continue ad infinitum. But again, I think we need to assume 
that they are going to be bigger and more important.
    And the way we think about these investors at Treasury is, 
first of all, it is important that no one would question their 
investment if there was a belief and an understanding and some 
assurance that their investments were going to be driven by 
commercial or economic means by those objectives, as opposed to 
strategic objectives, political objectives, whatever. And as 
far as we know, the vast majority of these investments, and 
maybe all, are driven by economic objectives. But what our role 
at Treasury has been is to say we welcome the investment, but 
then to have an active dialogue at Treasury, an active dialogue 
with a good number of these sovereign wealth funds. And we are 
encouraging them to develop a code of best practices as it 
relates to governance, as it relates to transparency, to work 
with the IMF and others, and to be more clear and more 
transparent about what their objectives are, so those countries 
that will be the recipients of those investments will be more 
comfortable.
    Then we are also working with OECD countries, the 
developing countries that will be recipients of so many of 
these investments, to again come up with some practices so they 
won't use sovereign wealth funds as an excuse to be 
protectionists and to try to screen out investment.

                         SANCTIONS AGAINST IRAN

    Mr. Regula. As a follow-up to that, is the ability of the 
Treasury to freeze funds--and I think in particular I read 
somewhere that if we were to freeze economic activity of the 
Government of Iran, that this would be some measure of leverage 
in getting favorable foreign policy initiatives with them. Is 
that ability an important element in our foreign policy as a 
Nation?
    Secretary Paulson. Yes, Congressman. What you are referring 
to is the fact that now the responsibility of the Treasury 
Secretary is not just the safety and soundness of the financial 
system, it is the safety, soundness and security of the 
financial system. And Treasury is on the cutting edge of 
looking at financial abuse anywhere in the financial system. 
And one of the countries that we are monitoring and taking 
action against in the financial system is Iran, because they 
use Iranian banks, state-owned banks to engage in their weapons 
proliferation and acquisition of missile systems. They are 
continuing to enrich nuclear fuel. We see all kinds of 
deceptive practices by Iranian banks.
    So we have been quite aggressive in terms of singling out 
different Iranian banks for sanctions on the part of the U.S. 
Government and encouraging organizations like the U.N. The U.N. 
just took action where a very recent resolution called upon the 
world to carefully scrutinize Iranian banks, be very careful of 
their dealings with them, and singled out a couple of banks 
specifically. So again this is a very important role of 
Treasury.

                           THE TREASURY ANNEX

    Mr. Regula. Last question. The Treasury Annex was 
constructed in 1918 and 1919 and I understand it is in need of 
some modernization. The fiscal year 2009 budget requests $11.8 
million for repair and renovations of the Treasury Annex. I 
assume this will be a multiyear project, most things in this 
town are, and require additional funds in future years. Would 
you tell the Committee why the renovation is needed and do you 
have any idea how long this will take?
    Secretary Paulson. Well, I would say if you walk through 
the building, you would recognize it is more than a renovation; 
that these are repairs and they are critical repairs to the 
infrastructure and all of the basic infrastructure in the 
building. It goes way beyond renovation. And this part of the 
building houses 320 people. And by coincidence, you know, you 
just asked about the Office of Terrorism and Financial 
Intelligence at Treasury. Those people are housed there. So it 
is a very critical, and as you said, that our budget request is 
$11\1/2\ million and this will go on, obviously, for a number 
of years. Thank you.
    Mr. Regula. Thank you, Mr. Chairman.
    Mr. Serrano. Thank you, Mr. Regula.
    Mr. Secretary, when Mr. Hinchey and I were first sworn into 
the New York State Assembly in 1975, we were immediately hit 
with the possibility of New York City going bankrupt, then New 
York State going bankrupt, then the infamous Financial Control 
Board, then the running out of the bond market. So we quickly 
learned about some of the work you do. Not at your level, but 
we were quickly indoctrinated. Mr. Hinchey, what an 
introduction.
    Mr. Hinchey. Yeah. It is quite an introduction. Thank you 
very much, Mr. Chairman, for reminding us of that. That was 
quite an event.

                               RECESSION

    Mr. Secretary, thank you very much for joining us and I 
very much appreciate your being here. As you mentioned in your 
testimony, the Treasury has a very important role to play as a 
steward of the United States economy, and I appreciate the work 
that you do in that regard. Last week, President Bush said that 
the economy was not in recession. But all the indicators are 
that we are in recession. I believe fully that we are in 
recession. It is only a matter of how deep this recession is 
going to be and how long it is going to last. If you look at 
all the indicators, you see that I think very, very clearly. 
The value of the dollar, for example, is now at a very low rate 
compared to the rate of the euro and it is falling with regard 
to virtually every other essential currency around the world, 
including the yen and others.
    The price of oil has now more than doubled, in fact much 
more than doubled. But the price at the pump has more than 
doubled. The price of food has gone up dramatically. The cost 
of living for the American people is now at a higher and more 
difficult rate than it has been in a long, long time. Some 
people say not since 1929.
    The disparity of income, the concentration of wealth in the 
hands of the wealthiest 1 percent of Americans, is now at the 
highest rate since 1929. In January, we saw an increase of more 
than 1 million Americans who are without work for a lengthy 
work period, and a whole host of other issues that are facing 
the American families across the country.
    We have now essentially doubled the nonmortgage debt. It 
has gone from $1\1/4\ trillion to up above $2\1/2\ trillion. 
The credit card debt in November rose at an annual rate of 8.5 
percent--rather in October, at an annual rate of 8.5 percent. 
And then one month later it was up to 11.3 percent.
    Americans are now paying double the price at the pump that 
they paid. U.S. manufacturing has shrunk at its fastest rate in 
almost 5 years while construction spending is down below where 
it was in 1994. We have lost now over the course of the last 6 
years about 1.3 million manufacturing jobs.
    You mentioned the proliferation of weapons of mass 
destruction in your testimony. I think that these are the 
examples of the proliferation of weapons of mass destruction 
against the economy.
    So although we have passed the stimulus package, and I 
think it is a good stimulus package, it is going to be 
marginally effective only for a short period of time. There are 
so many other things that we should be doing. We should be 
reinvesting in our country, reinvesting in the infrastructure, 
putting more money into health care, for example, opposing what 
the President did in vetoing that health care program for 
children. What are we going to do to eliminate the 
proliferation of these weapons of mass destruction against our 
economy?
    For corporations, and even in individuals, the bankruptcy 
rate has gone up to record levels. You had another hedge fund 
this morning, a big $1 billion hedge fund just go into 
bankruptcy. What are we going to do, Mr. Secretary, to deal 
with this dire situation that we are confronting? Because if we 
don't deal with it effectively, this recession is going to get 
worse and last longer.
    Secretary Paulson. Congressman, I am very, very focused on 
the economy. Let me begin by saying to you that we had an 
economy that has grown for 6 years. I have said that I believe 
it is going to continue to grow this year. Okay? But whether I 
am right or whether you are right about whether it is going to 
grow this year, we recognize that the risks are to the 
downside. And that is why we moved as quickly as we did, with 
the help of Congress, to put a stimulus package in place. And 
that is why I get a briefing every day from the IRS or someone 
at Treasury in terms of what we are doing to get those checks 
out quickly and get them out in early May.
    Now, in terms of the employment situation, I would just 
remind you that there are some positives here--unemployment, 
the last number was 4.9 percent. By any historical standards--I 
will just remind you that in 1929 it was 25 percent or 
whatever. So we have an economy that has grown for a long time. 
The underlying structure is very healthy. The long-term 
fundamentals of our economy are healthy.
    We are facing the head winds that you cited. We are facing 
high oil prices. We have got this housing downturn. And we have 
the capital markets turmoil. And I think we are working our way 
through that with regard to the capital markets and what is 
going on with our major institutions. I believe all of our 
major institutions are fundamentally healthy.
    But, again, whether it is the GSEs who are going to need to 
continue to play their countercyclical role or we need GSE 
reform and need them to raise capital, I am urging all 
financial institutions that think they are going to need 
capital, to raise capital so they can keep lending and playing 
an active role in the U.S. economy.
    Mr. Hinchey. I appreciate what you are saying and I respect 
everything that you just said. But if I may just take another 
second, Mr. Chairman.
    The things that you mentioned are very vague. It is true 
that the economy has grown to some extent over the course of 
the last several years, but the number of jobs increase have 
been averaging about 95,000 when the normal necessary increase 
in jobs is 150,000 a year. Now we have just seen a reduction of 
17,000. In other words, we haven't increased jobs, we have lost 
17,000 in the last month. So the consequences are very dire for 
working people, working families, cost of living going up, the 
value of their income--now the average value of the American 
family's income has dropped by almost $1,000. They are not able 
to deal with the situation. That is why their debt has gone up 
so much. Particularly credit card debt. People are borrowing 10 
percent more than they are taking in every day.
    So I would just ask deeply if you as a Secretary of the 
Treasury would consult with this administration more closely 
and help us in the Congress get legislation signed by the 
President that is going to effectively stimulate this economy 
and get people back on the right economic track, because these 
are the proliferation of economic weapons of mass destruction 
that we are confronting.
    Mr. Serrano. Mr. Kirk.

                            NEGATIVE EQUITY

    Mr. Kirk. Thank you, Mr. Chairman. And, Mr. Secretary, when 
you came out of Barrington and accepted this job, I thought 
maybe the Secretary of Defense seat was the hot seat in the 
Cabinet, but I now think you are it as far as big jobs. I just 
would note Chairman Bernanke yesterday before the Independent 
Banker's Association talked about the negative equity position 
of many mortgage holders, and I think the quote was principal 
reductions would be a more effective means, he felt of 
preventing widespread foreclosures. The back of the envelope 
numbers I have is the value of homes in America, 20 trillion, 
value of mortgages in America, 10. What we thought was subprime 
under stress was 1 trillion, but today's ``Wall Street 
Journal'' has that $2.6 trillion number, meaning the problem 
would be 2\1/2\ times worse than estimates in December.
    In America we have about 650,000 foreclosures a year in a 
good year. Now I think at the current rate we are at around 1.2 
million per year. And so I don't know if you ever worked with 
Alex Pollack, the former president of the Chicago Home Loan 
Bank Board before. But at AEI, he is talking about restarting 
the Homeowners Loan Corporation, which is a different concept 
than Chairman Frank's concept of boosting up the FHA, because 
the hulk, by definition, is a 3-year institution only and then 
it gets out; whereas a permanent expansion of the bureaucracy I 
think might be--so I hope you would be looking--I know your 
team is working with Alex and talking to him and----
    Secretary Paulson. Well, I would say we--just to be very 
straightforward, Congressman, we are looking at a lot of ideas. 
I don't think that is a good idea. I think that idea does a lot 
more harm than good because, you know, something like that was 
done at the time of the Depression. Then foreclosures were 50 
percent. Today they are 2 percent. Unemployment was 25 percent. 
Today it is at 4.9 percent. We now have the GSEs, Fannie and 
Freddie. We have the FHA. We have the Federal Home Loan Banks. 
And so we have--and even when you look at these--and I do agree 
that foreclosures are very expensive for everyone. And one of 
the things that--one of the tools that banks have when looking 
to work with homeowners that are facing difficulty making a 
mortgage payment is in addition to modifying other terms, 
another thing to be, you know, considered is reducing the 
principal on the mortgage.
    But again, as I look at this, and I very much agree with 
what Chairman Serrano said, there are a fair number of people 
in this country, I mean even last year 30 percent of those who 
bought homes put no money down. And I think investors are going 
to be demanding in lenders' different practices in tightening 
up their standards. But I really don't think if somebody can 
afford to make a mortgage payment on their own and they choose 
not to--and I think the vast majority will, because I think the 
vast majority will say, ``I may have negative equity in my 
home, but I put my roots down here, I am going to continue to 
live here.'' But if they say, ``I am just going to walk away 
from it and not honor my obligations unless somebody else pays 
for my losses,'' I certainly don't think other taxpayers should 
pay for their losses.
    So, again, we are really focused on this. We have a program 
to deal with it--which some people have criticized and said it 
is not perfect. And it isn't perfect. But it is a tangible idea 
that has been translated into action. There have been a million 
people since inception that have received a workout or a 
modification. So we are going to keep driving that. We are 
going to keep pushing for GSE reform so that the GSEs can get 
out there and raise the capital they need to play a 
countercyclical role. We need FHA modernization. We need the 
tax-exempt financing----
    Mr. Kirk. Let me just hope that if it gets worse, you are 
still open-minded.

                      WORLD BANK FUNDING FOR IRAN

    I want to raise one other issue which is World Bank funding 
for Iran. You have a request for $1.2 billion to the 
Appropriations Committee. World Bank funding for Iran is 
totaling about 1.3 billion. You said that the IRGC is so deeply 
entrenched in Iran's economy in commercial enterprises, that it 
is increasingly likely that if you are doing business with 
Iran, you are doing business with the Iranian Revolutionary 
Guard Corps. And the Treasury did designate the largest foreign 
bank of Iran, Bank Melli, as a terrorist financing institution. 
Problem: That was the conduit that the World Bank was using to 
provide U.S. taxpayer dollars to Iran through the World Bank. 
And so they then had to find a new financial intermediary--I am 
not exactly sure that the President of the United States knows 
that three blocks from the White House an institution is 
providing funding directly to the Government of Iran. But if 
that policy is maintained, as it appears it has, my office 
asked the U.S. executive director, Who is the new financial 
intermediary that the World Bank is paying to give money to the 
Government of Iran? And they said, We don't know and you don't 
have a right to that information. And I would hope that you 
would be able to tell us who that financial intermediary is.
    Secondly, yesterday, the world--sorry--the U.N. passed a 
new sanctions resolution in section 10 calls upon States to 
exercise vigilance over the activities of financial 
institutions and their territories with all banks domiciled in 
Iran. So in conjunction with section 10 of the U.N. resolution 
which just passed unanimously in the Security Council, we ought 
to know who is the intermediary that U.S. taxpayer dollars are 
flowing through to Iran. And I would just ask you if you--it 
didn't make a lot of sense to me that the World Bank is funding 
the Iranian Government. But if that is the administration's 
policy, then who is the intermediary that we are using?
    You just I think received a letter from half of the Senate 
calling for us to sanction the Central Bank of Iran. And so if 
we follow that policy, the question further becomes: What 
financial institution is the World Bank using to pay the 
Iranian Finance Ministry?
    Secretary Paulson. Congressman, let me first of all address 
your concerns, and I appreciate them because I think we at the 
Treasury have been as aggressive as anyone could be in terms of 
going----
    Mr. Kirk. And Stuart Levey did an outstanding job.
    Secretary Paulson. In terms of the central bank, I have 
cited them myself on remarks, and what we are doing is very 
contact based. Now, in terms of----
    Mr. Serrano. Secretary, is your mike off?
    Secretary Paulson. Is it?
    Mr. Serrano. Now it is on.
    Secretary Paulson. Now in terms----
    Mr. Serrano. I can hear you but the camera wanted----
    Secretary Paulson. In terms of the World Bank, again these 
votes predated my arrival at Treasury. But I understand the 
Treasury voted against every one of these--the U.S. Government 
voted against every one of these loans and these guarantees.
    So we clearly voted against them. There haven't been any 
new programs that have been put in place since I have been down 
here. I know this is something that Bob Zoellick is very much 
focused on and he has got his own governance and his own rules 
to deal with.
    I do believe actions like those that the U.N. took, in 
terms of that sanction, are only helpful to him and others as 
we carry this on, and I appreciate you being the strong 
advocate you are for being tough there.
    Mr. Kirk. I have to support the appropriations request. I 
just hope with regard to Iran, we know who we are dealing with. 
Thank you.
    Mr. Serrano. Thank you. Mr. Schiff.
    Mr. Schiff. Thank you, Mr. Chairman.

                          IRAN'S CENTRAL BANK

    I want to follow up on the Iran situation because while we 
have taken action to deal with some of these private banks in 
Iran, it is now very clear, I think, that the central bank has 
become the new conduit for some of these private banks to 
funnel money through and evade the sanctions.
    The Governor of the Bank Markazi, the central bank, 
Tahmaseb Mazaheri, admitted on February 5th that the central 
bank, quote, assists Iranian private and state-owned banks to 
do their commitments regardless of the pressure on them. And I 
think he is referring to the sanctions regime. So here the 
central bank pretty much acknowledges that they have stepped in 
to help these private banks that we have been trying to shut 
down in funneling money to Hezbollah and other terrorist 
activities.
    As Mr. Kirk mentioned, Mr. Levey is doing a good job, 
identified banks like Bank Saderat that facilitated hundreds of 
millions of dollars going to Hezbollah. But now the central 
bank is accomplishing the same function. And I guess very 
similar to the sentiment expressed in the Senate letter, what 
are we doing to shut down the central bank's ability to launder 
this money?
    And a further question is, in light of the U.N. sanctions, 
what efforts are we making to deal with banks in countries like 
Austria that have picked up some of the slack where other 
European banks have stopped doing business with Iran in ways 
that facilitate their terrorist financing. It appears Austrian 
banks have stepped into the lurch. What kind of communications 
have we had with Austria to try to curb that practice?
    So those are two questions I would like to ask you vis-a-
vis Iran, and then I have one domestic question.
    Secretary Paulson. Okay. In terms of Iran, you are focused 
on the right issue, that almost a year ago, I singled out a 
number of remarks, Markazi for the work they have been doing 
with some of the other state-owned banks. We are focused on the 
issue. As we are working, we work to bring others along with 
us, because one of the things we have learned that when we have 
these conduct-based and we very much are a Treasury, we look 
very carefully at the law. We look at conduct. We look at 
having very good intelligence and we look at bringing others 
along with us, because I think these make the actions we take 
much more effective. But I hear you, I appreciate the letter. 
This is an issue and an issue we are focused on.
    Now, in terms of banks around the world, one of the things 
that I did upon arrival at Treasury is work very closely with 
Stuart Levey and others to go not just to the governments, but 
to go directly to the heads of many banks around the world. 
Because I knew that if they saw what was going on, they would 
be even more proactive than their governments. They weren't 
going to want to be unwittingly abusing the system, helping to 
finance terrorists, helping to finance weapons acquisitions and 
so on. And we have done that pretty successfully.
    So as we have done that, what we found is that the Iranians 
have been forced to open up new relationships with new banks in 
other parts of the world. And one of the things we do is we 
just--Stuart Levey just got back from a trip. So we are 
continuing to work and work in every country where there are 
banks that have business. But remember, it isn't--all business 
with Iran is not illegal under these sanctions. It is business 
with the sanctioned entities. So we are pointing out the risks. 
But we are all over this.

                  UNDERLYING STRUCTURE OF THE ECONOMY

    Mr. Schiff. I am going to follow-up with you and Mr. Levey 
if I could on the central bank issue, as well as on Austria. 
But I do want to get to the one domestic question before I run 
out of time. And that is, you mentioned in your testimony that 
the underlying structure of the economy was still sound in your 
view. The question that I get asked most by my constituents in 
town halls or telephone conversations, it always comes out in 
slightly different fashion, but it raises a question about that 
very presumption about the underlying structure of our economy. 
And what people in my district say to me is they say, I am 
working harder than ever, my spouse is working harder than 
ever, and we are finding it more and more difficult every year 
to get by, to pay our bills, to pay our mortgage, to pay our 
rent, to pay our gas prices, what have you. They look at their 
parents' generation where the model was one head-of-household 
income earner. They seemed to have an easier standard of life, 
less worry about being able to pay for health care, losing 
their home because of a catastrophic illness.
    What do we tell these families about what the 
administration is doing? What do we tell them about the 
underlying structure of our economy? Because they look at it 
and they wonder whether the underlying structure of the economy 
is such that they are going to get squeezed and squeezed every 
year until something gives. And what do we tell those folks?
    Secretary Paulson. First of all, I get a chance to talk to 
a fair number of them, too, and I do understand there are a 
number of families that are working hard and struggling, and 
you raised a number of important issues.
    To begin with, I always begin with telling them that the 
most important thing--first of all, we have to keep this 
economy growing because whatever their issues and problems are, 
they will be more significant if we weren't growing and if we 
weren't open to foreign investment and if we weren't active 
world traders, and right now exports are driving a lot of our 
growth.
    And then on health care, I really do agree with you when 
you cited that. I think that is--if we weren't going through 
this current downturn and mortgage problem, by far the 
overwhelming issue in our economy would be health care. And 
there I really do believe we are going to need some dramatic 
solutions and entitlement reform is going to be a big part of 
it. Medicaid and Medicare reform is going to be a very big part 
of it, and work to make private insurance more affordable and 
more available. And I don't think we have time right here. But 
I will talk to you off line. We have made some proposals at 
Treasury. And this isn't right in the middle of our lane at 
Treasury but we have had some proposals that deal with the Tax 
Code that would help--at least help jump-start the creation of 
a stronger and broader private health care insurance market.
    Mr. Schiff. Thank you, Mr. Chairman.
    Mr. Serrano. Thank you.
    I thank Mr. Goode for allowing us to break the order here. 
It is his turn to allow Ms. Kilpatrick to make a few comments 
before she returns to a hearing across the hallway.
    Ms. Kilpatrick. Thank you, Mr. Chairman. First let me thank 
my gentleman friend from Virginia. Thank you very much. Mr. 
Secretary, let me apologize for my absence. And the Chair 
understands we have Homeland Security at the same time across 
the hall and Admiral Allen is testifying. So I wanted to make 
sure first I came to say hello.
    Secretary Paulson. Why, thank you very much for coming.
    Ms. Kilpatrick. Thank you very much. And for your call 
during the stimulus package discussion and I hope we can 
continue that as well.

                               CDFI FUND

    I want to just bring up, just briefly, community 
development in financial institutions. This committee worked 
real hard last year to put some of the money back in to kind of 
help our communities who are struggling to get back. In the 
President's recommendation, he is recommending that we cut that 
appropriation some 70 percent. It is 69.6 to be exact, which 
means there will still be another deepening hit for the 
communities across America. And I won't begin to ask you in 
terms of will you support an increase in that. That is our job 
to do that.
    How did you arrive at that? Is it something that you can 
help us with? I am going to be pushing hard to have it----
    Secretary Paulson. First of all, Congresswoman, that is a 
very good program, it is an effective program. We have good 
leadership. I was in Chicago last year at NeighborWorks which 
is a housing counseling, making a CDFI award. We have got good 
leadership in the program. We put funding in at the same level 
that we had requested last year. You funded it at a higher 
level. We have executed the program I think well. There are 
just tough trade-offs. And we had some very tough trade-offs to 
make in putting together any budget. But I just want to assure 
you that we are doing everything we can to execute that program 
well and it has got strong leadership and I am committed to the 
program.
    Ms. Kilpatrick. That will be one of my requests, that we 
work together to try do what we can.
    Secretary Paulson. We look forward to working with you on 
this.

                          SUMMER JOBS PROGRAM

    Ms. Kilpatrick. My only other question was summer job 
programs. That is one of the things that we proposed in the 
first stimulus package that we did not get.
    Secretary Paulson. Right.
    Ms. Kilpatrick. We always try do a youth program, but we 
are now looking for a summer jobs program for the parents of 
the youth who find themselves unemployed or now laid off. We 
lost 350,000 jobs in Michigan over the last decade or so. It is 
really important to us that we try to put a summer jobs program 
in place.
    There are mechanisms already set up. We just need the money 
to be put in. I am advocating a billion or 2 that would put 
tens of thousands of people back to work during this time. It 
is not a long, full-term, forever job but something so that the 
children can feel more secure in their homes. I hope we can 
work and talk to you on that.
    Secretary Paulson. Well, I would say thank you, and you 
have been a real leader in that area. I know how important 
summer jobs are for everyone, and particularly our youth. Thank 
you for your comment, and I will look forward to talking with 
you and others about that.
    Ms. Kilpatrick. Thank you, sir.
    Thank you, Mr. Chairman.
    Mr. Serrano. Thank you.
    The distinguished gentleman from the Bronx, New York, Mr. 
Goode. That is not a Bronx accent?
    Mr. Goode. It is Bronx just south of Martinsville.
    Mr. Serrano. Thank you.
    Mr. Goode. Thank you, Mr. Chairman.

                              HEALTH CARE

    I heard a previous question comment on our health care 
system and how many changes it has needed and really how bad it 
is. I have listened to the debates on the Presidential 
candidates and heard the candidates comment on how bad it is. I 
have got a letter here from somebody who is in this country 
that came either from Pakistan or India, and they want their 
sister to come over here, and now they want their niece to come 
over because they claim the health care system--and I don't 
know whether it is Pakistan or India--can't handle what they 
have got. They want to come over to this country.
    Secretary Paulson. Yeah.
    Mr. Goode. And that is repeated about every week in my 
office, of people who want to come here from other countries to 
get the health care.
    What I am going to do--and maybe you can correct me if I am 
wrong. You need to listen to the Presidential debates. I won't 
be able to help you because you are in a socialized medicine 
country and you ought to stay there. Because, you know, 
everybody in this country--not everyone but a lot of the 
candidates are saying how bad our system is. So you have gotten 
wrong information. You need to stay in the socialized medicine 
system. That is how I am going to respond to that.
    But, Mr. Secretary, you have to stay where the candidates 
say it is the best. Stay in India and Pakistan and don't come 
over here. I don't know which country they were from. I can't 
tell by the name.
    But let us go on to another question I have got here.

                        TAXING CARRIED INTEREST

    Carried interest, I know there have been proposals in bills 
to say that that should be taxed at ordinary income rate 
instead of capital gain rate. We had that as an offset I 
believe in H.R. 2834. Can you explain how that, not for the 
hedge fund managers but say for real estate partners, what the 
impact would be if that change were made?
    Secretary Paulson. Well, it would--I think it would have a 
negative impact. Because--let me just tell you how I think 
about this. Because in our Tax Code we tax businesses in 
different forms. We tax corporations, partnerships, sole 
proprietorships and so on. And the way we tax partnerships 
with, you know, the carried interest or mechanisms similar to 
carried interest, impacts--we have energy partnerships, we have 
real estate partnerships, and we have a variety of industries, 
not just finance and asset management. And this has been a big 
driver of entrepreneurial behavior and activity. So, again, I 
think it is difficult to just pick one industry out.
    Part of the problem we have in our Tax Code is we have so 
much complexity as it is, and we get where we are by sort of 
singling out one industry or something for special treatment. 
So, again, I think we need to look at it more broadly and look 
at it and say, what is going on here? And we have benefited for 
a long time for the way in which we have encouraged 
entrepreneurial activity and partnerships.
    Mr. Goode. So then would it be fair to say then that you 
think this would discourage, if you changed it from capital 
gains rate to ordinary income rate, real estate investment, 
energy investment?
    Secretary Paulson. Yeah, I'd be very careful before I did 
that. I just think I wouldn't single that out, and that has 
been part of a tax code that has worked well for sometime.
    Mr. Goode. All right.

                               U.S. MINT

    Last thing, I know the Mint is under your jurisdiction.
    Secretary Paulson. What did you say?
    Mr. Goode. The U.S. Mint. Are you all melting down the Gold 
First Spouse Coins if they don't sell out or have you melted 
them down? Because I know the price of gold is right much 
higher now than it was when you first started the program.
    Secretary Paulson. That is a successful program, and it is 
a profitable operation, and we are working hard to sell those 
coins.
    Mr. Goode. So you--it is 40,000, I believe. It is 20,000 
for the proof, 20,000 uncirculated. You are not melting any of 
them down? You are going to try to sell them all?
    Secretary Paulson. Not that I know of.
    Mr. Goode. But you are going to sell--if you had one, say, 
from James Madison, Dolly Madison, that you didn't sell, but 
the price of gold is up, you are going to sell it at the cost 
for James Monroe First Spouse and not--as the price goes up, 
you raise the price? Or can you?
    Secretary Paulson. I don't believe we do. If I am wrong on 
this, I will get back to you.
    You know, there are a number of things that we are focused 
on where we would like to make a difference in the cost and 
save money for the taxpayers. I have been really focused on 
legislation we have which would let us change the metal content 
of pennies and nickels to make those more cost efficient.
    Mr. Goode. Thank you, Mr. Chairman.
    Mr. Serrano. So you want to get rid of the penny, hey?
    Secretary Paulson. No, I have got no intent to----
    Mr. Serrano. Are you familiar with the program in New York 
where they collect pennies and they turn it over to charity? It 
is amazing.
    Secretary Paulson. Yeah, it is a great program, great 
program.
    Mr. Serrano. Speaking of greatness, Mr. Ruppersberger.
    Mr. Ruppersberger. Well, thank you. That was a very nice 
introduction.
    First thing, thank you for being here.
    As we are talking about the U.S. Mint I am going through a 
process now to try to direct the Mint to create a commemorative 
coin in 2012 to celebrate the Star Spangled Banner. The war of 
1812, the 200th anniversary, is in 2 years. I never realized 
the process where you have to get 290 co-sponsors. I have been 
working the floor for a while. We have 251. We then go to the 
next step. There are two commemorative coins produced by the 
Mint a year. The good news, it is budget neutral.
    So it is not a question, just a statement.
    Secretary Paulson. Okay.

             OFFICE OF TERRORISM AND FINANCIAL INTELLIGENCE

    Mr. Ruppersberger. I am on the House Select Intelligence 
Committee, so a lot of what we do is in the area of 
intelligence. I just want to talk to you about your role in 
helping us with respect to fighting global terrorism.
    The Office of Terrorism and Financial Intelligence was 
created I believe in 2005. We call it TFI, yes?
    Secretary Paulson. TFI.
    Mr. Ruppersberger. TFI, okay. So many acronyms in the 
field. It basically provides intelligence analysts, combats 
money laundering, which is very important, and it enforces U.S. 
Government sanctions.
    Now you have asked for an $11 million increase for the TFI 
in fiscal year '09. This is on top of the 29 percent from 
fiscal year '07 and '08. I am asking a question--I am probably 
going to be in favor of this, based on my role. It is so 
important that we have this component and this resource of 
fighting global terrorism. Could you explain why the increase 
and why it is needed?
    Secretary Paulson. Yeah. Well, I would say, first of all, 
you need to understand that we are the only office in the U.S. 
Government with TFI solely devoted to using financial means to 
track, degrade and disrupt our enemies; and so our budget is 
the smallest really of any of the U.S. intelligence agencies; 
and it is less than 1 percent of the overall U.S. intelligence 
budget. And I guess the way I would describe it to you, 
Congressman, is, in today's world, the global financial system 
is so prevalent that it is very difficult for terrorists to 
operate without using the financial system in some way. And so 
that is a weakness, but it is a strength, because it gives us a 
way to track what the terrorists are doing, and it gives us a 
way to disrupt what they are doing and to--so it helps us from 
that perspective.
    Then, as has been pointed out, those countries that are 
global renegades, as it were, those countries that are pursuing 
their weapons of mass destruction, the weapons proliferation, 
Iranians, for instance, are--again attempt to use the financial 
system to help them pursue their objectives, abuse the system. 
And we at Treasury are able to have an impact and--have an 
impact and drive behavior. So, again, I would argue that this 
is money very well spent and very necessary.
    Mr. Ruppersberger. You know, fighting terrorism is a team 
effort. That is why the Office of Director of National 
Intelligence came together so all agencies can work together to 
connect the dots. I do know in my role on the Intelligence 
Committee dealing with the CIA and NSA and FBI and all those 
groups that they very much feel very strongly about what you 
just said.
    Now following the money is clearly a big priority as it 
relates to terrorists. At some point they have to bring their 
heads up into the open to get the money; and we have been very 
effective in catching them. Some of our allied countries, some 
of our quasi-allied countries, they are still working with us 
on the money laundering phase.
    I also know that the sanctions--we talked about Iran, but, 
as an example, in North Korea, we have been very effective. 
That bank was Banco Delta Asia. We have put them out of 
business.
    Secretary Paulson. Correct.
    Mr. Ruppersberger. Sometimes they work; sometimes they 
don't. I think that is one of the main reasons why the North 
Koreans came back to the table, because we really put them in a 
position where they could not really do much as it related to 
money. Could you comment on the success there?
    Secretary Paulson. Yeah, I would just simply say you are 
right, that I think when Treasury and the U.S. Government 
sanctions banks, it has a big impact, and I think that it can 
change behavior. And I do think the world states that want to, 
if they understand they need to change their behavior to become 
part of the world financial system, I think that is a big 
inducement. And so we----
    I think the other thing that makes a big difference is we 
base our sanctions on evidence, strong intelligence. It is 
conduct based, and we seek to enlist others to work along with 
us.
    Mr. Ruppersberger. They have just imposed sanctions on 
Burma now----
    Secretary Paulson. Yes, right. And, again, bad actors in 
Burma, right.
    Mr. Ruppersberger [continuing]. Appropriations process.
    And I do want--Mr. Chairman, this is important. Because 
sometimes when you ask for an increase of over 30 percent, our 
staff and our people will look at that and say, why the 
increase? I would really hope that this committee look very 
strongly at the need for what we do on money laundering. It is 
a really effective tool.
    Do you also have the resources to continue to do what you 
are doing in the money laundering phase? Do you have the 
expertise and the ability to train the people that are 
following the money working with the other intelligence 
agencies?
    Secretary Paulson. I think we do. I think we have got 
really excellent people. And even more important than how many, 
it is the quality of the people, as you have pointed out.
    Mr. Ruppersberger. And these people have to go all over the 
world, too.
    Secretary Paulson. We have excellent people. They work 
hard. Their leader just got back. Stuart Levey just returned 
from a trip to the Middle East, gone for a whole week, got back 
on a Saturday. And so we are going wherever we need to go and 
doing what we need to do.

                        INTEREST RATE REDUCTIONS

    Mr. Ruppersberger. Switching domestically, just a couple of 
issues. I think if you look in the past, until we have had this 
crisis now, a lot of what has helped our economy was the lower 
interest rates, which allowed people to refinance, use the 
equity in their homes to have money that we use for spending. 
It seems that some of the moves that we have made now through 
the Federal Reserve just haven't really done a lot to bring the 
actual residential mortgage rates down. Do you have an opinion 
of where you think that--what we need to do to let the banks 
understand--I mean, I think the banks want to keep taking the 
profit in, but sooner or later we will need to--are you hitting 
the--I think you can answer it, but I can't ask any more.
    Secretary Paulson. Should I answer it?
    Mr. Serrano. Sure, go ahead.
    Secretary Paulson. I would say that, as helpful as the 
Fed's interest rate reductions have been, and they have been 
quite helpful to the overall economy, they alone won't be 
sufficient to work through some of the excesses that have taken 
place in the credit market and in the housing markets. So we 
are making progress, but there is still stress in a number of 
these markets; and it is going to take a while for some of them 
to perform as normal.
    But one thing I will say that has been a help is, when you 
look at the adjustable rate subprime market, that those 
mortgages were facing resets. If you take an average mortgage 
before the recent Fed cuts, the reset would have gone from 8.5 
to maybe 10.8 percent. On a $200,000 mortgage, that is more 
than $300 a month. After the Feds cut, the reset goes from 8.5 
to 9 percent, which is about $70 a month. So there is 
definitely help, and it is very tangible help for those people 
facing resets. But you are right. In and of itself, it will 
take more time and more----
    Mr. Ruppersberger. Do you anticipate the rates to go down?
    Secretary Paulson. It is not my job to anticipate what the 
chairman of the Fed is going to do. Thanks.
    Mr. Serrano. Thank you.

                  IRS PRIVATE DEBT COLLECTION PROGRAM

    Mr. Secretary, at this time last year--first of all, you 
know of the opposition of many Members of Congress to the IRS, 
to private debt collectors. We feel that, as scary as it has 
been in the past to see an IRS agent at your door, you would 
rather have that than a private company, I believe, getting 
paid $0.25 on the dollar to collect. Because, eventually, we 
will start hearing more horror stories about tactics used to 
collect those debts.
    At this time last year, there was talk of expanding the 
program to include, at the minimum---- To include ten more 
private debt collection companies. Now it seems like you are 
going keep the same two. Now does this indicate that the 
department is losing confidence in the private debt collection 
program or you are just trying to make the chairman of this 
committee somewhat happy? Notwithstanding the last----
    Secretary Paulson. Mr. Chairman, listen, your views are 
well-known; and I would say we are very focused on making this 
program work and work whereby protecting taxpayer rights. And 
so we have been careful in the implementation. We have, as you 
say, two contractors we are working with; and so we are really 
focused on enforcing the law and making this program work and 
work properly.
    Mr. Serrano. So it is basically not that you want to expand 
it as you are being careful about how to expand it?
    Secretary Paulson. We are maintaining the activities but 
being very careful here and implementing it, and these are the 
contractors that have measured up, and we are proceeding with 
this in I think a responsible, careful way.

                          RESPONSE OF LENDERS

    Mr. Serrano. Thank you.
    Going back to the mortgage issue, it would seem to so many 
of us that it is in the best interest of the lenders to make 
sure that things work out properly. Yet it also appears to us 
that the lenders themselves did very little to try to deal with 
this problem when it became a problem, that it took you 
personally, your agency, your department, government to be 
involved. Why did it take them so long to rule? Why did they 
not want to move when it was in their best interest? It is not 
just the folks who own the home that run the risk of losing it, 
but they are losing money, too.
    Secretary Paulson. Mr. Chairman, a very good point. I would 
say a number of them did and were moving, but what we needed to 
do was get the whole industry to come together and let me tell 
you why.
    Because, if you go back many years ago, a homeowner would 
have a mortgage from a bank. If there was a problem, the 
homeowner would go to the bank. And if the homeowner was able 
to afford to stay in the home, the bank would make some 
modification, and they would work something out. Because 
foreclosures are very expensive for lenders.
    But now, as a result of a securitization process, we have 
investors spread all over the world. It is highly complex. 
There are various tranches of the same loan with different 
interests.
    So what it took to get this program up and going was to 
have, first of all--to get through a number of technical 
issues, technological issues, to get guidance from the SEC on 
accounting. So we got that guidance in early January, support 
from the investors, legal support. And so what has happened 
here, I think that there have been certain lenders, I think, 
that would have done something here without the government 
getting involved, but the beauty of this is we now have 
servicers covering 90 percent of the subprime market. And some 
firms have been doing the right things very quickly. Others 
have been slower to follow.
    But, again, I think there are different levels of 
sophistication, different levels of resources. And there were 
some huge technical issues, legal issues, accounting issues 
that we have worked through; and now I think we are in a 
position where we have got this up and going at a time when we 
are going to be having the biggest wave of resets coming.
    Mr. Serrano. Thank you.
    Let me ask you one last question, because we need to finish 
up so that you can go resolve all these problems; and we also 
have to give up this wonderful room in a little while.

                             TRAVEL TO CUBA

    One of my favorite subjects that we always discuss in 
private and public, travel to Cuba. I know that Treasury is 
bound by certain White House regulations, orders that are put 
in place and law. But within the law and within regulations 
there are also decisions made on what travel is allowed and 
what travel is not allowed.
    And it would seem to many that lately, the last year or so, 
travel to Cuba has tightened to the point where even people 
like Jose Basulto, a veteran of the Bay of Pigs and founder of 
the Brothers to the Rescue and the gentleman who was involved 
in the shooting down of the two airplanes by the Cuban 
government, even he has done a total turnaround and said the 
current type of tightening hurts individual victims more than 
it damages the government of Cuba.
    Why the feeling by most folks that Treasury has actually 
tightened the ability of people to travel to Cuba?
    Secretary Paulson. Mr. Chairman, I don't believe at least 
the facts I look at bear that out when I look at the huge 
number, you know, of over 50,000 licenses that are being 
processed for travelers to Cuba. So, again, we clearly are 
going to enforce the law until the behavior changes there, 
which is odious behavior. But in terms of the way that--there 
are licenses being processed all the time for people with 
legitimate reasons to go to the country. So, again, I'd be 
happy to talk to you about that off-line.
    Mr. Serrano. Okay. I would like to do that. Because one 
week doesn't pass when our office, either here or in the Bronx, 
gets calls from what we would consider legitimate groups--you 
know, church groups, people involved with technology, 
educators, Little League baseball teams--who are having such a 
hard time traveling to Cuba.
    Secretary Paulson. There are a lot of church groups going 
to Cuba. There have been some groups that have gone and it 
looks like they use the church as a bit of a shield to pave the 
way for other forms of travel. But you probably don't hear from 
all those that are able to get their licenses approved quickly.
    But, again, I think the data that I look at looks like we 
are not tightening it up, but we are administering an important 
program.
    Mr. Serrano. Well, that may be true. I am open to that 
discussion about not knowing about the other groups. In fact, 
Mr. Regula and I off-line, as you would say, were discussing 
immigration a moment ago. He says we get a lot of calls about 
people who want to bring relatives into the country. We don't 
remember a call about somebody who wants to get out of the 
country.
    Mr. Regula.

                       FINANCIAL LITERACY PROGRAM

    Mr. Regula. How is the financial education program working? 
Are you having some degree of success? The fact that so many 
people got into financial instruments that they didn't fully 
understand the implication of, illustrates the need to improve 
financial education for young people.
    Secretary Paulson. Oh, you are so right; and we have a 
quite active financial literacy program where we outreach to 
not just schools but to communities and to workplaces. We 
have--our Treasurer, Anna Cabral, who provides great leadership 
there. There is much going on, but it is a huge need and will 
be a need in this country for a long time, including having 
disclosure that is simple and easy to understand, for consumers 
to understand, rather than consumer disclosure written by some 
lawyer that no one can understand. And so there is--you are 
very right to highlight the need for more work there.

                        BANKRUPTCY COURT REFORM

    Mr. Regula. I know that the Senate has kicked around the 
proposal that bankruptcy judges could alter the terms of the 
contracts. It seems to me it is getting into treacherous ground 
when you begin to allow a third party to order what is an 
agreed set of conditions on a mortgage or any financial 
instrument.
    Secretary Paulson. Right. Congressman, I think you are 
right.
    First of all, a lot of people are focused on this and a lot 
of people who are working with the same objective we have, 
which is to keep people in their home that have--some of whom 
have been abused by being put into financings they don't 
understand.
    But, as I thought about it, it is a slippery slope. First 
of all, property rights are key to our country; and changing a 
contract retroactively is something you shouldn't do without an 
awful lot of thought. And it can also dry up financing in the 
future for those you want to help.
    And then, secondly, our focus is on getting to people who 
want to stay in their home and we want them to pick up the 
phone and call a lender and do a workout, as opposed to slowing 
up the process and bogging down the court system. That is how I 
have thought about it.
    Mr. Serrano. Thank you.
    Mr. Hinchey.

                              THE ECONOMY

    Mr. Hinchey. Thank you very much, Mr. Chairman.
    I don't mean to press you on this, Mr. Secretary, but your 
role as steward of the economy is very important to all of us; 
and the situation that we are confronting nationally is getting 
worse and worse.
    A few moments ago, we talked about the situation of 
unemployment; and you rightly said it wasn't nearly as high as 
it was in the 1930s.
    Secretary Paulson. It is way below--it is 4.9 percent. The 
average has been 6 percent. Forget about the '30s. This is 
about as good as it gets in terms of unemployment.
    Mr. Hinchey. Not really, because what we have seen over the 
course of the last few years is a dramatic increase in the 
number of people experiencing long-term unemployment, more than 
26 weeks. It has gone from a little--just under 1.4 million to 
now more than 2.5 million people who are experiencing long-term 
unemployment, more than 26 weeks.
    As a result of that, they are not included in the 
unemployment list. They and other people who are struggling and 
looking for jobs, may be working a day or two a week, they are 
not included, either. When you bring all of those people in, 
the unemployment rate in our country now is about 9 percent. 
That is the real unemployment rate, the real number of 
unemployed people looking for work.
    So I am deeply concerned about this recession that we are 
experiencing and what appears to be the way in which important 
people who have the responsibility to deal with the economy are 
avoiding it.
    Let me just read you a couple of in things that showed up 
in the newspaper headlines today. One says, productivity growth 
slows sharply; and another says, unexpected drop in private 
sector jobs reported. We are seeing this kind of thing every 
single day. More and more, the experts are telling us that 
there is a recession. We had individuals from two major Wall 
Street firms, Merrill Lynch and your old company Goldman Sachs, 
indicate we are in a recession. Now Warren Buffett echoed that 
same statement.
    So I just think that we have got to do more. I don't think 
it--I think it is very clear. Talk to anybody across the 
country. They will say the same thing. They are struggling.
    What are we going to do? When are we going to face up to 
the fact that the economy is in recession? What are we going to 
do it prevent it from getting worse?
    Secretary Paulson. Congressman, I don't mean to sound 
defensive, but I think this administration and I have been 
really focused on the economy, and as soon as we saw it slowing 
down in December we began work on a stimulus package.
    Whether I turn out to be right when I say I think the 
economy is going to grow this year or others that say we are in 
a recession are right, we both agree the economy is slowing 
down significantly. We agree that's the resurge of the 
downside, and we are focused on them.
    And, as I said, my focus has been right now sort of a 
three-part focus. It is getting the stimulus package out. 
Obviously, we don't want to raise taxes, so I would just urge 
Members of Congress let us get the AMT patch done early this 
year and reduce that uncertainty. But that is one focus.
    Another focus is on minimizing the impact of the housing 
decline, and we have got a variety of programs, and we really--
I would like to see FHA modernization. You know, the House has 
passed it. The Senate has passed it. I would like to get it out 
of Congress and get it signed into law.
    I would like to see GSE reforms. The GSEs can play their 
countercyclical role in housing. I think that is the second 
part.
    And the third part is I am concerned that the financial 
institutions who are so key to keeping our economy going and 
needing to lend and make money available to consumers and 
businesses that they are able to continue to do that, so I am 
pressing them to raise capital.
    But those are my big focuses.
    Mr. Hinchey. I think they are appropriate focuses, but I 
don't think they will do the job that really needs to be done.
    You mentioned the idea of no taxes, but the fact of the 
matter is that one of the ways in which people have pretended 
that the economy is doing well is borrowing and spending, 
borrowing more and more and spending more and more. The 
national debt now has gotten close to double over the course of 
the last 7 years. We are now well above $9 trillion. And so 
much money is being spent in ways that border on corruption, 
particularly in the situation in Iraq, if you look at the 
hundreds of billions of dollars that have been spent there.

                  IRS PRIVATE DEBT COLLECTION PROGRAM

    One of the issues that is much more smaller than that I 
would like to ask you as my last question has to do with the 
IRS and the way in which the privatization of collection has 
been instituted by this administration, in other words, 
bringing in private companies to collect money owed to the 
Internal Revenue Service in taxes.
    The way in which that has been done has been so terribly 
ineffective. In fact, the analysis indicates that we have lost 
more than $50 million over the course of the last couple of 
years by investing in these private companies to go out and 
collect taxes. They are spending more than they are taking in. 
It just doesn't make any sense. Is there any way that we are 
going to deal with this ineffective, inefficient, bordering on 
corruption privatization of the responsibilities of our 
government?
    Secretary Paulson. Well, in terms of the PCA as a private 
collection agency--your chairman asked me about that earlier--
that was a program that I inherited. I think as I have looked 
at it we have got two contractors, and the money that they are 
raising is money we wouldn't get if we didn't have the program, 
and so it is more than paying for itself now.
    In terms of what happened in the past, as you look at now 
that is pretty much a sunk cost; and right now they are 
operating efficiently and are raising money that wouldn't be 
raised if they weren't there. Thank you.
    Mr. Hinchey. Thank you.
    Secretary Paulson. Saved by the bell.
    Mr. Hinchey. I can hear the tap.
    Mr. Serrano. You guys are never through.
    Mr. Goode.
    Mr. Goode. Just a couple quick questions, Mr. Chairman.
    Mr. Hinchey mentioned the debt. How much is the national 
debt right now?
    Secretary Paulson. It is around $9 trillion.
    Mr. Goode. All right. And your deficit in the budget you 
submitted is what, $400 billion?
    Secretary Paulson. Yeah, it was 162 at the end of last 
year, and it will be a bit over $400 billion in the coming year 
because--to a large extent because of the stimulus program.
    Mr. Goode. The stimulus, is that a--this year, it is 125.
    Secretary Paulson. This year, it is 125; next year, 20, 
roughly.
    Mr. Goode. That will go down, because some of the tax 
things will bring money in.
    Secretary Paulson. You are correct.

                           EX POST FACTO LAWS

    Mr. Goode. All right. On the issue raised by Mr. Regula, 
some States in their constitutions have provisions against ex 
post facto laws. Would those provisions--I am not sure whether 
this one there is one in the U.S. Constitution or not. Would 
those provisions come into play if you empowered the bankruptcy 
judge in his example to go in and reform an existing contract?
    Secretary Paulson. Congressman, you would have to ask a 
very good lawyer or the Justice Department that question. I 
just looked at it, and the way I answered the question, I said 
I don't like to change contracts retroactively.
    Mr. Goode. So you are not going to say yes and you are not 
going to say no?
    Secretary Paulson. No, I am just going to say----
    Mr. Goode. Possibility?
    Secretary Paulson. I am not even saying a possibility, I am 
just saying someone else is going to answer it. I don't even 
need to answer it, because I think it is the wrong policy.
    Mr. Goode. Okay, thank you.
    That is it, Mr. Chairman.
    Mr. Serrano. Wow, I am recommending you for baseball 
commissioner.
    Secretary Paulson. Thank you. Thank you. But take care of 
this steroid scandal before I get there.
    Mr. Serrano. Yeah, that is tougher than anything you 
inherited here.
    Mr. Secretary, we are going to thank you for your 
testimony, for spending time with us today, for the work that 
you do. We don't always agree on some of the policies, but we 
respect the work that you are doing and the fact that you want 
the best for our country and economy, and we respect that and 
appreciate that.
    Secretary Paulson. Well, Mr. Chairman, thank you for all 
the support your committee gives Treasury in supporting our 
initiatives with the funding. It is very important, and it is 
very important to our country.
    Mr. Serrano. So, remember, get the Puerto Rico quarter out 
as soon as possible, solve the territory's dollars directly, 
ease travel to Cuba and make Mr. Hinchey happy. If you do all 
of that----
    Thank you so much, and the meeting is adjourned.
    Secretary Paulson. Thank you.

     
    
                                           Thursday, March 6, 2008.

                    OFFICE OF MANAGEMENT AND BUDGET

                                WITNESS

HON. JIM NUSSLE, DIRECTOR, OFFICE OF MANAGEMENT AND BUDGET

                  Chairman Serrano's Opening Statement

    Mr. Serrano. The Subcommittee will come to order. Welcome 
to this hearing of the Financial Services and General 
Government Subcommittee. Today, the Subcommittee will hear from 
an old friend and former colleague, director of the Office of 
Management and Budget, the Honorable Jim Nussle, my locker 
mate. We will explain that later. The locker is still there. 
    Mr. Nussle. Does this all have to be on the record, Mr. 
Chairman?
    Mr. Serrano. Well, before the fireworks start, we should 
let people know that we actually like each other. Remember, it 
is all about the meanness.
    Mr. Nussle. It is. It is.
    Mr. Serrano. Good morning, Mr. Director. We do welcome you. 
This is your first appearance before the Appropriations 
Committee as OMB director, and we are pleased to have you.
    Today's hearing has a dual purpose. Our Subcommittee has 
jurisdiction over OMB's budget, and we will be interested in 
your presentation on that budget.
    The hearing will also delve into government-wide budget and 
management issues at OMB overseas.
    With respect to OMB's budget, the Fiscal Year 2009 request 
is about $5 million below the enacted Fiscal Year 2008 level, 
but that decrease is due to a proposed shift of rent costs from 
OMB's budget to the White House Office of Administration. The 
actual proposed change from the current year is an increase of 
nearly $2 million, or about 2.5 percent. This will allow you to 
maintain your current staffing levels. The Subcommittee will 
continue to take a close look at your budget proposals, and we 
look forward to working with you on that.
    I would also like to make a few comments regarding the 
bigger budget picture.
    The president's Fiscal Year 2009 budget proposes $991.6 
billion in nonemergency discretionary spending, according to 
the Congressional Budget Office. While this is a substantial 
increase over Fiscal Year 2008, the increase is for defense and 
other security spending. Nondefense, nonsecurity spending for 
the basic operations of government would actually decline by 
1.6 percent, even before accounting for inflation, based on CBO 
estimates.
    This budget continues to squeeze on the programs that 
provide essential government services to the people who need 
them most. These include programs to protect the environment, 
educate our children, provide medical research and health care, 
retrain jobless, support law enforcement, revitalize 
communities, and offer social services to the most needy. Cuts 
to these programs hurt the most disadvantaged of the 
population, and they concern me deeply.
    The total proposed cut to domestic discretionary programs, 
according to nonpartisan Center on Budget and Policy 
Priorities, is around $15 billion. As a share of the economy, 
nondefense, discretionary programs have declined from 5.2 
percent of gross domestic product in 1980 to 3.7 percent today, 
and further declines in coming years are anticipated under this 
budget.
    But talking about these raw numbers does not do justice to 
the millions of Americans who are affected by these cuts. Take, 
for example, the proposed cuts to the Community Services Block 
Grant and the Social Services Block Grant, a combined $1.2 
billion cut from the current funding level. This will affect 
services for low-income seniors, children, the unemployed, and 
disabled. The Social Services Block Grant touches the lives of 
nearly 17 million people, most of whom are children.
    The Community Services Block Grant supported services to 
about 21 percent of people living under poverty in 2005, or 
about five million people. There is a significant human cost to 
making the kind of cuts to these programs that are envisioned.
    It is my hope that, over the next several months, the 
Appropriations Committee will play a key part in restoring 
balance and fairness to the budget, and while we may not see 
eye to eye on all matters, I am hoping to work closely with 
Director Nussle on the issues relating to the Subcommittee, and 
I want to reiterate what I said before.
    We have this wonderful, two-party system, and the times 
that you were in the House, we disagreed on many issues. We did 
not disagree, however, on being friends, and it is always 
exciting to see a former Member come back.
    I will say that Mr. Regula will say wonderful things. But 
it is always nice to see a former Member and a friend. Mr. 
Regula?

                     Mr. Regula's Opening Statement

    Mr. Regula. Well, I think the best thing about the Director 
is he comes from a state where they make John Deere tractors, 
so that is my likely slight prejudice here.
    We are happy to welcome Director Nussle. It must be kind of 
a new experience because you chaired the Budget Committee, and 
you proposed a budget, which we kind of tended to ignore in the 
appropriations process. Now you have got a little more clout as 
Director than you did as chairman of the Budget Committee.
    I really think that we do not realize the important role 
that OMB plays in our governmental structure, because in effect 
your budget sets forth the priorities of the administration, 
which is a partner with the Congress in ultimately setting 
national priorities and the way in which we commit our 
resources and priorities as a nation. I have often said that 
Appropriations is a great committee because policy follows the 
money, and you, as director of OMB, at least, outlined where 
the administration wants to go, and we, in turn, have to react 
as appropriators on behalf of the people that we represent, and 
we have different sets of priorities, depending on the makeup 
of our districts.
    This is a wonderful system we live in. I said to somebody 
the other day, and I was eight years in the state legislature 
and 36 years here, and if somebody gave me a clean sheet of 
paper and said, ``Design a governmental system,'' I would not 
change a whole lot. I think the genius of the Founding Fathers 
is remarkable in how they put together the Constitution. Well, 
so much for my sermon.
    I notice you want to eliminate the deficit by 2012. I have 
been here 36 years, and every administration wants to eliminate 
the deficit. It is a standard refrain, and Members do the same 
thing. We go out and give speeches about how terrible it is 
that we do not balance the budget.
    I am pleased that you believe that the economy will not 
fall into recession. Yesterday, I was with the Secretary of 
Treasury, who takes the same position that we are not that bad 
off. I notice, out in my area, the traffic is as heavy as it 
has ever been, and we are an area tied to heavy industry. So if 
we had this huge recession, there would not be a lot of people 
on the road, but they are out there, going to the marketplace 
or wherever. I do not know if you have the same experience up 
your way, but there are a lot of cars on the road.
    Mr. Serrano. Up my way, there are always a lot of people on 
the road.
    Mr. Regula. Well, I think that perhaps things were going a 
little too much boom town, and we needed to take a deep breath.
    I noticed that you take a little whack at congressional 
earmarks, which is a very popular topic at the moment, but it 
is less than one percent of the overall budget. My feeling is 
that transparency is the way. I have never had an earmark that 
I would not be happy to have an interview by the press as to 
what happened to it because, in many cases, the local people 
call them the ``Good Housekeeping Seal of Approval.'' I have 
one university that got a million dollars, raised five, and has 
one of the top science classrooms in our area in a small 
school.
    So there can be positive things, and I noticed that, while 
you do not call it ``earmarks,'' you have put in a number of 
things like West Wing construction projects, new port-of-entry 
facilities, federal courthouse renovations, science labs, 
veterans' hospitals, dams, and levees. Now, they are a form of 
earmark, maybe not classified as such.
    One last comment: You devote about the same amount of space 
to earmarks in your testimony as you do to the funding requests 
that involve the mandatories. There is a world of difference. I 
think the mandatories are going to be an enormous challenge 
down the road, when the baby boomers hit. We had testimony from 
the Office of Personnel Management the other day that, in 10 
years, 60 percent of the federal workforce will retire, and 
probably the same thing applies to the private sector. That is 
going to put a huge challenge on the mandatories, and I think 
perhaps it deserves a little more attention than earmarks, in 
terms of your long-term thinking.
    So I will have a few questions, but I think OMB, the role 
it has in government is not given the visibility it should have 
because you set, at OMB, the priorities for the administration, 
which is half of this equation, and that is a pretty important 
challenge.
    Mr. Serrano. Thank you, Mr. Regula.
    Let me, before you begin your testimony, Mr. Director, just 
make a quick observation. Mr. Regula did bring up the issue of 
earmarks, and that is an issue that is not going to go away.
    As we have discussed on many occasions, you and I, on a 
very friendly basis, I am in a unique situation. I represent 
the poorest congressional district in our country, which is 
located within the richest city on earth, which is within 
walking distance of the wealthiest congressional district in 
the United States: the south Bronx to the east side of 
Manhattan.
    Earmarks, to me, is simply a way to tell a federal agency 
that they should pay attention to some of the needs of my 
district. Traditionally, it did not happen. The people did not 
vote. The people were poorer. Therefore, as part of that 
behavior, they did not vote. They were not a political force. 
Now, we have even more folks who are not citizens, whereas, 
before, it was just folks that did not get involved.
    So I am a big believer that the issue is, as Mr. Regula has 
said, to make sure that that system is tightened up properly so 
that the waste factor does not become the overriding factor. 
But the idea that only an agency head knows how to spend money 
in any congressional district is really absurd to me.
    Lastly, no one ever really complains about an agency head 
sending grants to a district that may not be working, but 
everybody complains about a Member of Congress sending an 
earmark to a district if it runs into any kinds of problems, so 
just that point.
    My last point to you is there are 10 subcommittee hearings 
going on right now on appropriations, so do not look at the 
attendance here today as a sign of how we feel about you or 
OMB. Everybody is running on to different hearings.
    Thank you so much. We are glad to hear your testimony. All 
of your testimony, as you know, will go into the record. We 
hope you stay within five minutes so that we can ask you 1,375 
questions.

                      Director Nussle's Testimony

    Mr. Nussle. I am happy to, Mr. Chairman, and I am probably 
the least that you have to explain to when it comes to being 
pulled in many directions here on the Hill. I am aware of that, 
and I appreciate it.
    First of all, thank you. It is nice to be back. It is a 
real honor to be before you, as a friend and a former colleague 
and still a colleague, as well as my friend, Ralph Regula, who 
has been chair, as well as a colleague of mine for many years. 
Just while I have the microphone and the opportunity, let me 
thank you both for your service, but particularly you, Ralph, 
because you made a decision to retire, and that is a tough 
decision, but you have served your communities so well, and you 
have been a good friend and a great colleague, so thank you for 
your service.
    I guess, a couple of things. First, you are right. On the 
testimony, because you are before this Subcommittee, the 
testimony is focused on appropriations, on OMB and on 
appropriations, and those things that would be important, I 
thought, for the Appropriations Committee to be mindful of, or 
that I was hoping you would be mindful of.
    But I take it very seriously your admonition, and I have, 
in my testimony, in a more macro way to the Budget Committees, 
as well as speeches that I have given, as well as my tenure 
here in the Congress, to quickly point out that now 62 percent 
of the budget is on automatic pilot and has nothing to do with 
the appropriations process, and that is where most of the big 
bucks and the highest rates of growth and the most 
uncontrollable, unsustainable spending occurs.
    So all I can say is, ``amen, you are right.'' We, 
unfortunately, get wrapped around the axle over, you are right, 
one percent, whether it is earmarks. We get wrapped around the 
axle of discretionary spending very often. That does not mean 
that those dollars are not important, so I am not here to 
suggest that we do not care about the nickels and the dimes 
because they do add up to dollars, but you are correct, and it 
has always been something that I thought I, at least, had some 
standing. Even though there is a natural tension between Budget 
Committees and Appropriation Committees, I always felt I had, 
at least, some standing with your chairs and ranking members 
because I did take on the issue of mandatory spending.
    To focus first on what I wanted to make sure I touched on, 
because this is the reason for the hearing, is to talk a little 
bit about the funding request for OMB. Our request this year, 
and the Chairman rightfully stated it, is $72.8 million, and if 
you compare that, because we now are excluding rent that goes 
over to GSA through the Office of Administration, if you 
compare that to recent amounts, we are asking for a 2.60 
percent increase. That is a requested increase in order to deal 
with and fund 489 staff people and FTEs. The 489 for 2009 is a 
slight increase to cover GSA rental costs.
    The requested funding also includes budget savings, 
including reductions and information technology support and 
transfer of GSA rent to OA. For the last seven years, we 
believe that OMB has submitted a disciplined budget. It is a 
small agency. It is an important agency, as you have suggested, 
or, at least, I think it is. I think you do, too. We have got 
some great people who work there. But over the seven years of 
those requests, our request has only grown by 13 percent. We 
believe that is a very disciplined approach toward management 
of the agency and fiscal management of the agency.
    It is a great team, and there is a lot of cross-
pollination, I am told, both from the Appropriations Committee 
and OMB, and a few alumni are here in the room today.
    It is a great team. They work with professionalism and 
dedication. They do not work in a partisan way. They work for 
the public good and for the public service, and I am proud of 
the job that they do.
    Before I began as Director, I had a healthy respect for 
them, but I can tell you, having had a chance to get to know 
them on that kind of professional basis, it has only grown.
    I would like to, if I can, just touch on a couple of things 
with regard to the President's Budget overall, and then I am 
pleased to take your questions and comments.
    First of all, the President asked me to do five things when 
he asked me to write the budget. He wanted me to make sure that 
we addressed the initial economic concerns that the country was 
facing, and we have done that in a bipartisan way, and that is 
included in the budget. The fiscal stimulus and growth package 
that we have already passed was included in the budget as we 
prepared that, at $150 billion, one percent of GDP, but, 
nonetheless, we included that in the projections.
    Second, we wanted to ensure sustained prosperity, which the 
President believes is not only important but is required if, in 
fact, we are going to tackle so many challenges that are laid 
before us. Economic growth is very important, and he believes 
that is best done by keeping taxes low and by making sure that 
the tax relief is permanent and that the tax code is 
predictable. So tax relief continues in this budget.
    He wanted to make sure we kept the country safe. That was 
obviously a very high priority because, as the Chairman knows, 
if the country is not safe, the rest of this conversation does 
not matter. It is so important, both from the standpoint of 
national security and homeland security, that that is 
accomplished.
    He wanted to get the balance, as the Ranking Member said, 
by 2012. I view that not as the destination, however, which 
brings me to my last point, and that is he also wanted us to 
tackle the long-term spending challenges, which are, what I 
would suggest, out-of-control, mandatory, fiscal obligations 
that we are creating and continue to create, and we begin to 
address that in this budget, too.
    So, if I may, let me just cover a couple of things and do 
so. We believe spending continues to be the challenge, and we 
have done a number of things here in order to address that. 
Revenue, to our mind, is not the challenge. Even when we cut 
taxes, more revenue came into the federal government. It is our 
view that getting more revenue to come, except through economic 
growth, is really not what we ought to be working on.
    We ought to be working on the spending challenge, and we 
see it, certainly, as two parts.
    The first part is on the discretionary side. We have sent 
up another package of programs, totaling about $18 billion, 
that we believe either should be eliminated or significantly 
reduced, and I commend the Appropriations Committee for looking 
through that list very seriously and, over the years, has taken 
that list very seriously and has reduced or eliminated programs 
from that list.
    I can understand how there will be some who say, ``That 
list is getting too long,'' or ``something is appearing on the 
list that we have not approached in the past. Why is it still 
on the list?'' But I will tell you that I think we have worked 
together in a good fashion to cull through many of those 
programs and try and either improve them or eliminate them 
where they are duplicative, or they are not meeting the 
objectives.
    As far as earmarks, having been a Member of Congress and 
understanding that process, I would again agree with you both 
that transparency, I think, is probably the biggest issue that 
concerns the Administration and the American people. Certainly, 
that is why the President wanted them to be reduced in half and 
to be put in bill text, as opposed to having report language 
earmarks, which are often difficult for the Administration to 
define or understand without more follow up from the Committee 
or from staff or, for that matter, earmarks that are phoned in 
that are done later on in some fashion.
    Having more transparency in this process, as the Ranking 
Member has suggested, for those that we are proud and for those 
that you are proud of, there should not be a problem, and we 
are not suggesting that the Article 1 responsibility of 
determining that spending is wrong at all. It is exactly the 
way it should go, but it should be done in the open, and the 
Administration, where it has designated funding, has done so in 
the open, and those dollars and requests are put in the budget 
a year in advance.
    We put the justifications with them. We assume that you are 
going the work through them and not take them all, eliminate 
some, complain about others. But they are our requests, and 
most of them, if not all, are done in a competitive way that, 
we believe, is a better way of approaching it than in the past.
    Finally, on the mandatory spending, as I said, 62 percent 
now is on autopilot, and, in the next 35 years alone, there 
will be no money left for discretionary spending, given the 
rate of growth in revenues. There just will not be anything for 
national defense, homeland security, any of the other 
priorities that are within discretionary spending with the 
automatic spending trends that we find.
    So the President has said, Look, let us try and deal with 
this long-term problem in bite-sized pieces, and we look back 
at some of the ways this has been done before.
    In 1997, in a bipartisan way, the Administration and the 
Congress, Clinton and a Republican Congress, in this instance, 
worked together on a package that is actually larger than the 
package that we are putting up. The package that we are putting 
up is a smaller package than the one we were able to agree on 
in 1997, where we dipped the growth curve of mandatory spending 
for one of the first times, and we propose that again here.
    We are saying, instead of, for instance, Medicare growing 
at 7.2 percent, let us allow it to grow. It should grow. There 
is natural inflation that is in there, but it should grow at 
five percent, not at 7.2 percent, and we find savings in that 
as a way of accomplishing a bending of the growth curve and 
dealing with one-third of the mandatory challenge that is out 
there. It does not address all of it. It does not solve the 
problem, but, as true in any situation, you have got to take 
this in steps.
    We know that. Congress, I think, recognizes that as well. 
Hopefully, we are not going to come to a situation where it has 
to be dealt with all in one big bite. So we are saying, let us 
take it in bite-sized pieces. We are proposing that first bite 
to be one-third of the problem, and we do put that in there, 
and we are asking Congress to consider it.
    But, as this Committee, as the Appropriations Committee, 
well knows, the fights, unfortunately, will be about the 
discretionary package, and it appears thus far, at least from 
what we have seen from the Budget Committees, that they will 
not consider mandatory savings, and I think that is a missed 
opportunity, given the fact that we have this looming challenge 
and that if we do not begin to address it in bite-sized pieces, 
it will come up to bite us.
    So that is what I wanted to come and present to you. I am 
pleased to try and answer your questions, and if you stump me 
in an area, I have got some good people from OMB behind me who 
might have the answer, and if we cannot do it, we will get it 
to you in writing. Mr. Chairman, thank you.
    [The information follows:]

     
    
    Mr. Serrano. Thank you so much. I know you have folks from 
OMB behind you, and we have folks formerly from OMB all around 
us.
    Mr. Nussle. I know. So I cannot hide. I realize that.
    Mr. Serrano. In fact, I just came from a hearing of the 
Homeland Security Subcommittee, and when I said that I was 
coming here to spend time with you, half of the staff said, 
``We were there also.''
    Before I get to my first question, which has to do with 
that subject, let me just ask you a question, based on what you 
have said.

                                MEDICARE

    So Medicare, for instance, is naturally going to grow to 
seven percent, and the Administration would want to see a 
growth of five percent. Is that understood to mean that the 
natural growth would cover people in need, and the reduced 
growth would then leave out some people who are in need? When 
we deal with numbers, we are also dealing with people, so how 
do we cut in those areas where we know we can cut and not hurt 
an individual's need but not cut in the areas where the person 
or a group of people will be served?
    Mr. Nussle. We have tried to go through and take proposals 
from MEDPAC, which provides the proposals and alternatives, for 
ways that we can reform these programs, Medicare and Medicaid, 
and we have asked them, you know, what is the best way to 
approach this? We have tried to take proposals that they have 
come up with that go toward efficiencies, improving the system, 
and saving money, as opposed to, as you say, cutting into 
beneficiaries.
    So, yes, we have tried, in those instances, to work on 
program changes for efficiencies and not to, as some might say, 
go after beneficiaries. In fact, we are trying to improve the 
program constantly. That is what Part D was for. That is what 
Medicare Advantage was for, was to try and expand the program 
in ways that can better serve the beneficiaries and provide 
them with access to quality health care.
    Mr. Serrano. I think that any time any administration--this 
one, the next one, a Democratic or Republican administration--
talks about reductions, if they mean, or they are interpreted 
to mean, that they will leave people out, beneficiaries out, 
then you are going to run into that trouble. You know that, and 
that is what we have to deal with here.

                     OMB RECRUITMENT AND RETENTION

    But you did mention folks from OMB. That is my first 
question, which is, last year, Director Portman told this 
Committee that OMB had a very aggressive recruitment program, 
but we also know that OMB loses a lot of very talented people 
to go elsewhere. How do you keep doing the job properly? How 
does the agency do what it is supposed to do when you are 
losing people, and what is the rate of turnover?
    Mr. Nussle. We were just talking about this on the way over 
because we are in the middle of a recruiting period right now. 
We have been in a number of schools. We are reaching out to 
schools, in particular, where we have alumni that are at OMB, 
and we actually use them, ask them to go and talk to the people 
in their colleges and universities in order to try to 
accomplish that. We have already covered 27 schools during 
February, as an example, to try and build on that recruitment.
    But you are right, and we talked about this in your office 
privately as well, that there is this concern, not only about 
recruitment but also retention. Once you get some good folks, 
you want to make sure you hold onto them because it is tough to 
train them. Obviously, we are talking about public service, and 
this is not the highest-paid jobs in the world on either side 
of Pennsylvania Avenue, but I think some recognition of that is 
something that we have tried to build into the budget, as well 
as recognizing that there are ways within the agency to improve 
the work.
    One of the biggest complaints I had when I got in was about 
the trade-off. We do surveys within OMB, and they said it was 
one of the best places in the federal government to work but 
some of the heaviest workload. So we have been trying to work 
on workload. It is not just a matter of hiring more people, but 
it is also making sure that the work is distributed 
appropriately.
    So we are working on a number of areas, but, specifically 
to recruitment, we have been in 27 schools in February, and we 
hope that that, as well as a number of other things, pays off.
    Mr. Serrano. You know, speaking on that issue, I have often 
said that when a person becomes chairman of a committee in 
Congress, you do X amount of what needs to be done by any 
chairman. And X amount is what you bring to it, and so part of 
my rallying cry is always to remind folks that we have American 
territories that are not states. So I hope that the 27 schools 
could include some schools in the territories.
    In fact, I wish there was a way that OMB could help us in 
putting forth a notice throughout the federal government that 
when it comes to recruiting from schools, there are territories 
that prepare fine English-speaking folks. In fact, NASA started 
recruiting--we do not know how--20 years ago or so, at the 
University of Puerto Rico at Mayaguez campus, Mayaguez being 
the hometown--I will spell that later--my hometown in Puerto 
Rico. Now whenever NASA sends up a flight, you would be 
surprised at the number of people who graduated from that 
university who work at NASA.
    So one way to score great points with this chairman is to 
either let me know that within the 27, there are some in the 
territories, and, if not, they will increase it to 35 or 
whatever.
    Mr. Nussle. I will confess to you, Mr. Chairman, I cannot 
make you happy today, but I already have one volunteer who 
wants to go to Puerto Rico and do some recruiting, and I may 
go, too.

                            CUTS TO SERVICES

    Mr. Serrano. Good job. Now, let me ask you a question. The 
President's Budget request would make deep cuts in inflation-
adjusted, domestic discretionary spending. As I said in my 
opening statement, this affects needed services for many 
Americans, including low-income seniors, children, the 
unemployed, and the disabled.
    How can a budget that makes deep cuts to the domestic 
discretionary side of the budget provide essential services to 
those Americans who are most in need, especially at a time 
when, if indeed this economy is where many of us feel it is 
already, and where it may head to, some of these folks will be 
even hit harder? Is this the time to make cuts there, which 
will affect them?
    Mr. Nussle. Well, that is always a challenge, and it is 
particularly a challenge, given the fact that now 62 percent of 
our choices are basically off the table for discussion. We are 
only working with a certain pot of money that we can work from.
    So you are right. Whenever there is a budget document that 
is put together, first and foremost, those choices typically 
come from discretionary spending. We have tried to balance 
that, but recognizing what Congress might be willing to do, 
that balance, most likely, will not occur this year.
    Second, we also do a job to try and rate all of the 
programs and to do it as objectively as possible so that we can 
see whether or not the programs are actually meeting the goals 
that you and I and others have intended for the programs to 
meet and to address the needs of the people that they were 
intended to meet.
    Some do an excellent job, some are duplicative, some need 
to be improved, and some need to be eliminated. So we have gone 
through and tried to rate them in that way and make choices 
between some that are doing a good job and some that are not 
doing as good a job or need to be reformed. So you will see 
those in the budget as well.
    Then, finally, and I am not going to pretend I know your 
community. I know the communities that I served, and I can tell 
you that, at least in my instance, most of those communities 
were not waiting for the federal government, or most of the 
people there were not waiting for the federal government, in a 
program or in an earmark, in order to solve their problems.
    Most Americans know that the problems are going to be 
solved around their kitchen table, around their neighborhood, 
around their community, first and foremost, before anybody from 
Washington is actually going to be able to help them, and I 
think so much of what we try and do in this is recognize that 
and to make sure that they have the resources to accomplish 
those solutions.
    So that is the direction that we have when try and put 
together a budget.
    Mr. Serrano. Well, we do not disagree on that comment. I am 
glad to say, and I am impressed, that you have not changed your 
line of presentation for a long time. We have discussed this in 
the past. But there are services that, whether people are 
waiting for them or not, do come from Washington: educational 
services, services to the hospital, dollars that come to their 
local hospital, dollars that come for programs in their 
community.
    They may not be waiting for them, but it is part of what 
happens to them on a daily basis, whether they mention it or 
not, called to their attention or not, it is there. When we cut 
that, we run into a problem.

                              VETO THREATS

    One last question before I turn to Mr. Regula, as a follow 
up. You wrote recently, I think, last week, to the Chairman and 
Ranking Member of the House Budget Committee, saying that the 
President would veto any appropriations bill that exceeds his 
request. That is fine. We understand that statement. We went 
through that last year. That is why we had one large bill in 
December.
    But how could you be offering veto threats if you have not 
even seen a plan for what we hope to present to you? Is that 
kind of a declaration of some sort of government war before we 
even begin? We are still holding hearings here. I have no clue 
what this bill will look like, and you are already telling me 
that if it exceeds what the President asked for, not knowing 
where the amount may be that exceeds what he asked for, and you 
are listening to the Chairman, who, last year, started off 
under the President's request, did not get me a gold star or a 
nickname. I do not want a nickname. How do we offer so early 
veto threats?
    Mr. Nussle. I think the challenge here, as the Chairman is 
well aware, is that we are, unfortunately, not just talking 
about the 302[b] allocations to the subcommittees and where you 
will be writing your bills; it was a signal that suggests that, 
at least from the discretionary top line, the President has set 
a number, realizing that Congress will have puts and takes, 
will add and subtract, will decide within its committees how to 
distribute those resources.
    But we wanted to send a signal early on that we thought 
that it was a reasonable amount that the President was 
requesting and that that should be the number that we all work 
from because if we do not work from that number, if we do not 
start with that top-line number in mind, then we know from the 
beginning, as soon as those allocations are given, that there 
is going to be a fight, that there is going to be a problem.
    Last year, that signal, in my view, was not given clear 
enough maybe as early as it could have been, and so we wanted 
to give that signal early this year, and we got a signal back 
from the leadership that said, maybe we will wait for the next 
administration.
    So I think it sets up the discussion early on, and, 
hopefully, it gives some guidance, as you are looking through 
it, about what the Administration is interested in working 
together on.
    Mr. Serrano. Well, as I turn to Mr. Regula, it is nice to 
see that the President has become a fiscal conservative in the 
last year. Mr. Regula.
    Mr. Regula. That was a gratuitous comment.
    Mr. Serrano. It was off the record. It was just between you 
and I.

                         BUDGET PRIORITIZATION

    Mr. Regula. Right. Following up on that, how do you 
establish your priorities? Do you sit down and consult with 
Josh Bolten or the President? Because, without any question, 
the document you present here does clearly establish the 
priorities, as they are viewed by the Administration, for the 
expenditure of all of the discretionary money, and, as such, 
they obviously influence the way in which we have programmatic 
direction of the federal government. How do you go about this?
    Mr. Nussle. It is an amazing process, I would say to you, 
having not been part of it until this year. It starts very 
early in the year. Usually, probably in the months coming up 
now, the agencies and the departments will begin formulating 
their requests, and it starts in that process, and then it goes 
through a review process at OMB where we include not only the 
President's advisers but also recommendations from those 
department heads and agency heads and folks, and we go through 
a very rigorous process of trade-offs, of what is working and 
what is not, asking, hopefully, some very tough questions about 
the programs.
    We do not just look at how much money is being spent. We 
look at whether the program is working and how effective it is. 
Certainly, everyone, including the President's chief of staff 
and former OMB director, as well as the President, is consulted 
for their views. But it starts with the President. That is why 
I outlined the goals that he wanted me to consider as I was 
trying to put a budget together for him.
    So it starts with him, at the principal level. It flows 
through a very complicated process back up to the President for 
final recommendation and final approval, and it is a 
fascinating process to go through. But there are many trade-
offs within there as you go through it, obviously.

                          DISTRICT OF COLUMBIA

    Mr. Regula. I was pleased to see that you increased the 
federal payment to the District of Columbia. I think Mayor 
Fenty and Chancellor Rhee are making a real effort to deal with 
the challenges of the education program in D.C., and I think 
that, by putting the amount you did in the budget on that, it 
gives a stamp of approval to their effort, and it certainly is 
well overdue for the city to become what President Reagan 
called the ``shining city on the hill.'' We need to address the 
education challenges.
    Mr. Nussle. Well, we see this as a package deal, too, and 
one that was worked on--it is very delicate--in order for 
improvement, not only in the public schools but education in 
general in D.C., so we hope that the Appropriations Committee 
will take a look at that.
    Mr. Regula. I hope so, too. Also, I had put language in on 
HIV/AIDS, which the Subcommittee did, and report language 
asking the Administration to help the city address this 
epidemic, and it is an epidemic in this city. I have been 
disappointed that you have not acted on the report language. 
Any reason? What do you propose to do in the future?
    Mr. Nussle. As far as that goes, I certainly would take 
that into consideration and your concerns in mind at this point 
in time, but you are right. There is some controversy 
surrounding the proposals. We understand that and the policy, 
but I certainly would keep that concern in mind.
    Mr. Regula. Well, it is a real challenge in this city----
    Mr. Nussle. Yes.
    Mr. Regula [continuing]. Because the incidence of cases is 
very high, and it has to be part of what you are trying to do 
with education and so on to make this a better place for 
everybody.

              TREASURY DEPARTMENT FUNDING IN STIMULUS BILL

    I noticed that you put $250 million to the Treasury 
Department in the stimulus bill that was done at kind of the 
last minute, and it was a form of administration earmark to 
carry out the stimulus bill. It seemed to me that maybe that 
should have had some scrutiny before it was made part of the 
package.
    Mr. Nussle. Did you have an opportunity to ask Secretary of 
Treasury Paulson about that? I believe, if I am not mistaken, 
that is the amount to actually do the checks----
    Mr. Regula. I know.
    Mr. Nussle [continuing]. Because it is outside the normal 
process for the IRS. I may be mistaken about it, but I think 
that is what it was.
    Mr. Regula. I think that is right. It was just an arbitrary 
figure that went in at the last minute, without any scrutiny on 
the part of the Congress.
    Mr. Nussle. This may not be enough scrutiny for your 
liking, but we did scrutinize it at OMB before we approved it.
    Mr. Regula. So you thought it was a legitimate figure.
    Mr. Nussle. Yes, we did. In order to accomplish it and get 
the checks out as quickly as possible, which, we believe, will 
be the first couple of weeks of May. We thought it was 
important, you know, to get those out the door, if, in fact, 
they were going to have the stimulative effect that was 
required.
    [Discussion held off the record.]
    Mr. Serrano. Before we leave, we have a few minutes we can 
take.
    Mr. Visclosky. Mr. Chairman, thank you, and I appreciate 
your courtesy, Mr. Regula's, and, particularly, Mr. Cramer's 
for coming in late. Mr. Nussle, very good to see you.

                           LAKE COUNTY HIDTA

    I have a serious concern and dispute with the Office of 
National Drug Control Policy, and, given your testimony today, 
you are the closest administration official I can get on the 
record, so I appreciate your attendance.
    Lake County, Indiana, was declared a HIDTA in 1997, High-
Intensity Drug Trafficking Area.
    In 2006, $3,022,000 were appropriated. I would point out 
that, in August of last year, ONDCP approached me in my office 
and suggested that there are problems with the HIDTA in Lake 
County, Indiana, from their perspective.
    I would point out for the record that, subsequent to last 
August, there was a change in the chairmanship of the executive 
board, and you now have an official from the Federal Bureau of 
Investigation who chairs that HIDTA. There was a change at the 
request by the agency of the fiduciary.
    There were multiple changes in the budget process and also 
in elimination of what was declared unnecessary spending, all 
at the request of the Administration.
    The HIDTA is also in the process of physically moving their 
operation to another location, again, at the request of the 
Administration.
    When the Administration came in in August, they suggested 
that, given their concerns, they wanted to move the 
jurisdiction and the money and the resources to the Chicago 
HIDTA. I suggested that we were willing to work with the 
administration to make the necessary changes and, again, would 
point out for the record that it is now headed by someone from 
the Federal Bureau of Investigation.
    The Administration's budget this year cut the Lake County 
HIDTA by $1,272,000. I find it very interesting that the 
Chicago HIDTA was increased by $1,200,000. So, from my 
perspective, the administration, in a very cavalier fashion, 
did exactly what they threatened to do in August, despite what 
I think was significant cooperation in changes and reforms of 
the HIDTA.
    In reading why there was a decrease, there was an 
indication of poor performance. I have acknowledged there that 
the changes were apparently necessary and were made subsequent 
to last August. There is a decrease due to small geographical 
area. I think that is subject to definition. Lake County is the 
size it is, and I cannot change that.
    But, finally, I am particularly disturbed that the 
justification was there is a diminished threat compared to 
other areas of the country. The largest city in Lake County, 
Indiana, is Gary, Indiana. In 2006, there were 55 homicides in 
Gary. In 2007, as of December 18th, there were 71. Homicides in 
Gary, Indiana, went up 40 percent last year. It was, on a per 
capita basis for communities in excess of 100,000, declared the 
murder capital of the United States of America. The county in 
which Lake County resides had their homicide rate increase by 
32 percent.
    So I hate to see what the threats in some other communities 
are if that is a diminishment of the problem that we are 
facing. I certainly would ask for your intervention and 
investigation of this matter because, again, people went to 
great pains and much cooperation to make the necessary changes, 
and, from my perspective, most importantly, looking ahead to 
the people I represent, there is a huge threat, given the fact 
that homicides increased by 40 percent in Gary.
    With that, Mr. Chairman, I just wanted to pour my heart out 
and suggest that I am very unhappy with that decision.
    Mr. Nussle. May I get back to you? This is not something I 
have----
    Mr. Visclosky. No. I understand that.
    Mr. Nussle [continuing]. Personal familiarity with, so let 
me do some digging and checking and get you a response rather 
than trying to do it off the cuff.
    Mr. Visclosky. I would appreciate that very much.
    Mr. Serrano. We have just a few minutes to vote, so we 
shall break right now. When we come back, Mr. Cramer will be 
our first speaker.
    [Whereupon, at 10:50 a.m., a recess was taken.]
    Mr. Serrano. I do not know, Mr. Director, if you saw those 
power rankings that came out recently, these things called 
``power rankings'' on Members of Congress. Mr. Cramer was way 
up there.
    Mr. Cramer. I was?
    Mr. Serrano. You were certainly ahead of me. You were in 
the top 20 or something, yes.
    Mr. Cramer. Really?
    Mr. Serrano. Right after Pelosi. It is incredible.
    Mr. Cramer. Twenty-six.
    Mr. Serrano. Twenty-six out of 435 is not bad. Mr. Cramer.
    Mr. Cramer. I am sure that makes you tremble there.
    Jim Nussle, I said to you before I left, welcome back.

                               FARM BILL

    We know you, and we are glad you are here today, and you 
have got a tough job under tough circumstances. I wanted to 
talk to you about the Farm Bill, and you live and breathe farm 
issues just like we live and breathe farm issues, kind of where 
we are and why we are where we are.
    With talks ongoing, the Administration recently released 
the parameters for a successful Farm Bill. It stated that a 
Farm Bill final product must not include any tax increases.
    What I wanted to know is what would be acceptable as 
offsets to the Administration? I understand we need to get $10 
billion above the baseline that we now have. What do you see 
happening, or can you look down the road, with a March 15th 
expiration date or deadline for the bill?
    Mr. Nussle. At this point in time, it is difficult to 
project what will happen because we are closing in on a 
deadline, and just the physical production of a Farm Bill 
during the next basically week before recess is going to be 
pretty difficult to do.
    As far as what is acceptable, we have been--when I say 
``we,'' I say the Administration, the royal ``we''--have been 
in many conversations and negotiations and meetings about what 
that might entail. We have provided lists to USDA, as far as 
different things that might be acceptable. We draw from the 
budget, obviously, as a starting point of spending offsets that 
we think might be acceptable, that we have floated, if you 
will, as part of it.
    But I think the offsets are probably just one of a number 
of challenges. There is separation still on how much money the 
Farm Bill should spend. There is separation still on how much 
reform could be entailed in the bill. So I think there is still 
a lot of separation that only coming to some agreement on 
offsets probably would not necessarily be the final resolution 
of.
    I have been in a couple of the meetings. I have not been in 
all of them. Most of this is being led by our new Secretary of 
Agriculture and his deputy, and I have been invited to a few of 
the meetings but have not participated in all of them.
    Mr. Cramer. All right. Well, thank you for that insight, 
and, Mr. Chairman, that is what I wanted to bring up. Thank 
you.
    Mr. Serrano. Thank you. Boy, people are treating you well 
today.
    Mr. Nussle. Bud and I came in----
    Mr. Cramer. We were classmates.
    Mr. Serrano. We were locker mates.
    Mr. Nussle. It is old home week. Does that not mean 
anything? I have thought of a nickname, Mr. Chairman, but I 
will have to share it with you later.
    Mr. Serrano. Ahead. I think ``commandate'' would be a 
little too much for the President, do you not think?

                          OMB INPUT IN BUDGET

    Let me ask you a question a little off the path here. 
Obviously, your office and you, personally, get involved in all 
of the fiscal issues of presenting the budget, but the budget 
also carries language issues, visions that the administration 
has, and I single out, for instance, this whole issue with the 
needle exchange program in Washington, D.C., something that I 
worked hard to get rid of--the ban on using local funds.
    Now it appears in the budget again. Does your office get 
involved in that kind of thing, or does OMB get involved in 
that kind of thing, at all, or is that other folks' input into 
the budget?
    Mr. Nussle. Well, there are many other folks who have input 
into the budget. We have policy councils, as you know, that 
help make determinations of what should be and what should not 
be the official administration policy, and, obviously, the 
President has the final decision of what those policies should 
be. But there is an entirely separate, from just the budgetary 
aspect, an entirely separate policy process that different 
policy counsels control within the Administration.
    Mr. Serrano. That particular issue is one that is going to 
stir up some issues again around here, some feelings, because 
it was believed, strongly by many Members, that D.C. should be 
able to spend its own money on this particular program. We were 
able to accomplish this. They are very happy. They allocated 
dollars to it. They have a serious problem with the HIV virus 
issues in the city, in the District, and we would just hope 
that the Administration would have left that alone.

                           FEDERAL CONTRACTS

    On this whole issue of the value of federal contracts, 
which have increased significantly during the Bush 
Administration to around $400 billion, about 40 cents of every 
discretionary dollar is going into contracts. At the same time, 
the Administration has pressed for reduction in the federal 
workforce, with many responsibilities being shifted away from 
federal employees and toward contractors.
    What is most troubling, however, is the increase in the 
amount of noncompetitive contracting under this Administration. 
Noncompetitive contracting doubled, to about $145 billion in 
2005.
    So the question is, how does this Administration justify 
the enormous expansion of contracting and, in particular, 
noncompetitive contracting, over the past eight years? Do you 
think the federal government relies too much on contractors, 
and how should we define inherently governmental functions?
    Mr. Nussle. First, on the contracting in general, we have 
gone through a process. I have not been here for much of it, 
but, as I understand it, a process of reviewing those contracts 
with an eye toward making them competitive in those instances 
where a sole-source contract is not either appropriate, or 
there are obviously more entities that could compete for them.
    So there has been a process undergoing that has attempted 
to try and improve on that. Some very good improvements have 
been made. The amount of dollars, however, is probably not the 
only comparison. When you say it has doubled in 2005, doubling 
from when, that is?
    Mr. Serrano. From 2000 and 2001.
    Mr. Nussle. Okay. I mean, I think there is some comparison 
here that is important. We have tried to scrutinize those sole-
source contracts in a new way to ensure that those situations 
where there are sole-source contracts are only in those 
situations where there is no competition available, that there 
is usually one entity that does the kind of work that we are 
looking for.
    Within the agencies themselves, that kind of competitive 
process is one that, frankly, when you allow the workforce to 
compete for a contract that is put out for bid, we see that it 
not only improves the work that the agencies are doing in those 
entities that have been put out for bid, but, in many 
instances, the government workers themselves are the ones who 
win the contract.
    So we think this has improved the system. More improvements 
certainly can be made. I think all of those contracts should be 
scrutinized. That is why we have gone through that process. We 
believe some improvements have been made in this area. It is 
not just a matter of looking at how much money is being spent 
in these areas as the only comparison.
    Mr. Serrano. One of the issues that comes up, Mr. Director, 
is the fact that, under contracting, you will have, or already 
have, situations where a person under a contract is working in 
the same workplace, sitting next to a person who is a federal 
employee covered, we understand, under different rules at 
times, ethics rules, and so on. One is covered by the people 
they work for, and one is covered by the rules that you and I 
are covered by. Does that not create a problem, and is that not 
a dangerous situation that you could have in the workplace?
    Mr. Nussle. It may. It may be more circumstantial. Right 
off the cuff, this is not an issues that has been brought to my 
attention. I appreciate you doing that. So, I guess what I 
would like to do is explore those instances where you feel it 
would be a problem.
    My gut reaction is that there may be some reason why those 
differences are there and that those differences may very well 
be appropriate, but you are obviously singling out some areas 
where they may not be.
    I would be happy to work with you and investigate that a 
little bit further.
    Mr. Serrano. We would like you to look at that and see if 
there is a way of dealing with that.
    Let me go to Mr. Regula now.
    Mr. Regula. I have no questions. I am okay.
    Mr. Serrano. Mr. Hinchey.
    Mr. Hinchey. Thank you, Mr. Chairman. Mr. Director, it is 
nice to see you.
    Mr. Nussle. Good to see you.

                   FOOD SAFETY AND INSPECTION SERVICE

    Mr. Hinchey. It is reminiscent of old times. I wanted to 
ask you a question about the Agriculture Department.
    Mr. Nussle. Yes.
    Mr. Hinchey. We were just at a hearing with the Food Safety 
and Inspection Services, and there is a very good man, a man by 
the name of Raymond, I think, who is very good. He heads that 
program up, and I think he does a very good job.
    In the context of the discussion with him, we made the 
observation that the number of inspectors for food safety 
across the country has gone down by about 10 percent. It was 
unclear as to why that was happening. I would not expect you to 
be able to answer anything like this now, but I wonder if you 
would not mind taking a look at this and seeing why that number 
has dropped down.
    The reason I asked that question about the Food Safety and 
Inspection Service is now, in the context of these lesser and 
lesser people out there doing inspections, is the fact that 
recently we saw, in fact, last month, the largest withdrawal of 
food from the market in the history of the country. It was beef 
products.
    In the context of that withdrawal, the Agriculture 
Department, particularly the Food Safety and Services operation 
within the Agriculture Department, was not permitted to reveal 
the name of the companies or the stores from which this adverse 
product had been sold, and a lot of it had been sold. A lot of 
people had bought the stuff.
    So that just does not make any sense to me. So I would like 
very much to try to figure out and be told, frankly, where 
those products are being sold from so that we could get a 
better idea as to what the consequences were, and if that 
information is put out, we are less likely to see something 
like this happening in the future.
    So if your excellent staff here would not mind taking a 
look at that, and if you would not mind giving us that 
information, we would appreciate it.
    Mr. Nussle. I am sorry to ask you the question, but you 
stated a number. Do you remember what they said? How many 
inspectors were less than the year before?
    Mr. Hinchey. Yes. The number of inspectors that is supposed 
to be out there is 8,000, and that number, I think, has been 
standard for quite a while, but the actual number that is out 
there now, I believe, is 7,310.
    Mr. Nussle. Okay. The reason I am asking that--I do not 
mean to ask you the questions--the answer that I immediately go 
to is, well, let us see if there has been less money 
appropriated. You have increased our request, and we have 
increased your request every year.
    I think there has been a steady increase here. In fact, 
this year, we are asking for a seven-percent increase in that 
area, so there may be a deeper issue here that I would be happy 
to look into and that you obviously are looking into as well. 
But it is probably not as a direct result of cuts as much as 
maybe something else that is going on. But I would be happy to 
look into it.
    Mr. Hinchey. Well, your conclusion is exactly the same as 
the one that I came to, based not upon all of the information 
but based upon the amount of information that we have. So I 
would appreciate it if you would.
    Any more time, Mr. Chairman, or is my five minutes up?
    Mr. Serrano. For you?
    Mr. Hinchey. For me.
    Mr. Serrano. You can take a little more time. Do not push 
it, though.
    Mr. Hinchey. Absolutely not. If you are a guy originally 
from Manhattan, and you have to deal with a guy from the Bronx, 
you know, there is always that little bit of tension.

                          PRIVATE CONTRACTORS

    I think the issues that were raised earlier, and I was not 
here, unfortunately, because of the other committee hearing, 
having to do with these contracts, the contractual situations 
that are out there, we know, for example, that with regard to 
the private contracts that have been engaged in Iraq, they have 
been very, very expensive. I think the largest one is something 
in the neighborhood of $122 billion--that is Kellogg, Brown & 
Root--and there are others that are in the multiple billions of 
dollars, many of them in the tens of billions, some of them up 
close to 100 billions of dollars.
    Huge amounts of money have been spent on these private 
contractors, and I think that this is something that really 
needs to be overseen much more carefully. I think a lot of that 
money, frankly, has been spent corruptly, corruptly in the 
sense that the reason for which that money was sent to these 
contractors did not result in the expectation that should be 
coming from it as a result of it.
    This is something that is bad on two counts: It is costing 
us a lot of money and not giving us the results.
    On a smaller scale, there is now a contracting operation 
engaged in security at West Point, and I am wondering why that 
is. Why is it that the Army, and I assume this is happening at 
Annapolis and the Air Force Academy--I do not know for sure, 
but I think it probably is--why is it that the military is not 
continuing to be allowed to provide the security for itself? 
Why are we bringing in private contractors? I do not like it. 
It makes me very uncomfortable.
    So I would appreciate it if this is something that you 
would not mind taking a look at.
    Mr. Nussle. This is an instance, again, where West Point is 
providing security to the campus using a private contractor, is 
what you discovered.
    Mr. Hinchey. Yes. Right.
    Mr. Nussle. Okay.
    Mr. Hinchey. So when you come into the campus of West 
Point, you have to go through a security operation, of course. 
All of the cars are checked, et cetera, stopped. I am just 
wondering what the policy was. How did it get initiated? Why is 
it being carried out, so that the military does not provide 
their own security at these bases? Instead, we have a private 
corporation providing that security.
    Mr. Nussle. Okay.
    Mr. Hinchey. I would appreciate it very much.
    Mr. Nussle. Thank you.
    Mr. Hinchey. Thank you.
    Mr. Serrano. Mr. Regula.

                  AMERICAN COMPETITIVENESS INITIATIVE

    Mr. Regula. A couple of quick ones. I noticed you request 
$12.2 billion for the American Competitiveness Initiative to 
support basic research in world-leading facilities. Tell me how 
you see this being achieved. How are we going to use that 
money, and how are we going to achieve competitiveness?
    Mr. Nussle. Well, giving you this answer--I should ask you 
because you have been a leader in this area. Basic research is 
vitally important to our country.
    Mr. Regula. Well, do you see this money going out to 
schools, for example?
    Mr. Nussle. Well, there are some instances, yes, where that 
is how it could be done. It should be awarded in a competitive 
way, and it should be done for basic research, and that is the 
basis surrounding this initiative.
    Mr. Regula. I like the idea. Do not misunderstand me. Are 
you telling me that a university that has a program that will 
enhance the competitiveness of the United States through the 
students that they educate would be able to apply for a grant 
or put a program in place? Would that be the way?
    Mr. Nussle. Yes.
    Mr. Regula. Well, it will be interesting. Are there defined 
guidelines?
    Mr. Nussle. Well, we assume, and we will be happy to work 
with the Congress on those kinds of guidelines. Our intent is 
to try and provide the incentive and the seed money for that 
basic research, and there are a number of ways that that could 
be handled, some of which have been tried before, and, 
certainly, Congress has experience in this area of setting up 
these kinds of initiatives, but this is one that the President 
felt was an important one.
    Mr. Regula. I think so. I agree.
    Mr. Nussle. He mentioned this in his 2006 State of the 
Union, and it was set up for that purpose. But it was, as you 
say, a way to try and get ahead of the curve when it comes to 
some of the basic research that we need in order to make sure 
that we stay on a competitive edge with not only our partners 
but also our competitors around the world.
    Mr. Regula. Well, should Members be telling higher 
education facilities in their districts, you ought to look into 
this?
    Mr. Nussle. Well, not until we get it up and funded and 
everything else.
    Mr. Regula. So you do not have guidelines.
    Mr. Nussle. I will trust you on your communication with 
your universities, I am sure, but, at this point in time, most 
of those are going to be through the agencies that are already 
established that, I think, have become partners in this 
initiative, or could be partners in this initiative, including 
the National Science Foundation and the Department of Energy 
and the National Institutes of Standards and Technology Labs. 
Those are the ones that we see.
    So there are ways that we can formulate this. That is the 
way we suggest it being done, and we also suggest that it 
should receive a pretty healthy amount. Congress did not see 
that last year and cut it back from the request, but we believe 
that this is a worthwhile priority that can give us the edge 
that we need.

                                EARMARKS

    Mr. Regula. One other question. How would you define a 
congressionally mandated earmark, euphemistically known as an 
``earmark''? How would you define it?
    Mr. Nussle. How would I define it? Well, how I define it is 
I think it is any time the Congress designates dollars to a 
particular project or program in a noncompetitive way, and the 
ones, again, that we believe are the onerous ones are the ones 
that are not found in bill language but are in the report 
language or within funding that is then phoned in to the 
different agencies or departments. Those are the ones that we 
find concerning. So that is how I would define it.
    Mr. Regula. Would you concede that there are good, useful 
earmarks?
    Mr. Nussle. Oh, sure, and that is why the President does 
not say, you know, get rid of all of them. But I think, too, 
what we have tried to do is to shine the light on the problem. 
Not only are there situations where they are not all good; they 
are not all bad. You are right. Both sides of that coin are 
true.
    But any time that they are not transparent, when they are 
air dropped in at the last minute in a conference report, when 
it does not receive the scrutiny of this Committee or the 
Congress, that is when I think you start running into trouble, 
and that is the reason why I think we have the controversy set 
up the way we do right now.
    Mr. Regula. Thank you, Mr. Chairman.
    Mr. Serrano. Thank you. Mr. Director, our newest Member of 
the Committee, Mr. Bonner, who has got nine questions for you.
    Mr. Bonner. Mr. Chairman, I am sorry I was absent 
yesterday.
    Mr. Serrano. It was noted.
    Mr. Bonner. My perfect attendance has already been 
blemished, and I apologize.
    Mr. Serrano. That is okay.
    Mr. Bonner. But, in fairness, the Director can probably 
appreciate more than some why we were not here. I hope you had 
a good, restful night's sleep last night, Mr. Director. Where 
were you at twelve-thirty in the morning?
    Mr. Nussle. At twelve-thirty in the morning?
    Mr. Bonner. Yes, sir.
    Mr. Nussle. I hate to admit this. I was in bed.
    Mr. Bonner. Well, your former colleagues on the Budget 
Committee were not.
    Mr. Nussle. I did have an eye on the goings on and was 
amazed that it took them so long to get a budget out. We were 
always able to do it before midnight.
    Mr. Bonner. And you gave us a blueprint that we could have 
just rubber stamped, if we had only taken your offer.

                                  JOBS

    Mr. Chairman, thank you. I do have one question because 
there has been a lot of conversation around the country. Some 
television celebrities who pretend to be journalists talk a lot 
about the outsourcing of jobs in our country. It is a 
legitimate question, and, in some parts of the country, we have 
seen tremendous job losses in states like Michigan, who have 
seen literally tens of thousands, if not hundreds of thousands, 
of people who have to leave because the economy in some states 
is not doing as well as it is in other states.
    Let me give you quick example of where I am going with my 
question, and then I will get to the question.
    Fifteen years ago, in my home state of Alabama, we did not 
make a single automobile. Despite the image that some might 
have about Alabama, we knew how to spell ``automobile,'' but we 
did not make an automobile.
    Then, about 15 years ago, our leadership in our state went 
out, borrowed money in a bond issue, and incentivized a 
company, Mercedes Benz, to come to the United States and to 
locate in Alabama. Today, that $250 million investment has 
created 50,000 jobs in the state of Alabama alone, and Honda, 
who is in the Ranking Member's state, and Hyundai, the Korean 
company, and Toyota--many foreign companies have invested, have 
followed the lead that Mercedes had--BMW is in South Carolina.
    So I know it gets to be a tricky question, especially when 
people like Lou Dobbs get on TV and talk about all of the 
outsourcing of jobs. In your position as director of the 
budget, how important is it, would you say, that we also 
consider in-sourcing of jobs, foreign investment coming into 
this country and creating job opportunities, many times making 
two or three times what previous job opportunities were in 
those districts and those communities and those states?
    Mr. Nussle. That is a huge opportunity and factor in our 
growing economy, that we are attractive to capital and that we 
continue to promote that kind of investment, whether it is 
investment here in the United States or investment from abroad. 
All of that is very important to not only job creation and 
retention but to the future job growth and economic growth of 
our country.
    As you know, you do not solve a lot of the budgetary 
problems and the fiscal problems with growth alone, but growth 
is extremely important, having people who have good-paying jobs 
that are able to pay their taxes and to deal with some of the 
challenges at the local, state, and federal level is an 
important part of how we deal with these things, from a fiscal 
standpoint.
    So I would view that as a very important component in our 
continuing economic growth.
    Mr. Bonner. And a positive one?
    Mr. Nussle. Yes, sir.

                           FOREIGN INVESTMENT

    Mr. Bonner. Just a quick follow up. Some have said, some of 
the critics, have said that, by allowing foreign corporations 
to invest in the United States and employ U.S. workers, we are, 
in fact, providing an economic stimulus plan to that foreign 
country. What role does foreign investment play in support of 
the President's economic stimulus plan and plans going forward?
    We will have a new president next year, but what role, in 
your view, does it play going forward?
    Mr. Nussle. Other than just generally answering that, that 
I believe it is an important role, and it is a vital part of 
our economic growth, I think those are probably questions that 
are better asked of the Secretary of the Treasury, who probably 
has a little bit more of a handle on all of those different 
component parts. But I view it, and I think the Administration 
continues to view that, as a very important component of our 
continuing economic growth and our success in the future.
    Mr. Bonner. Again, we missed you last night and yesterday 
in the budget, but we appreciate you coming to this Committee 
today.
    Mr. Nussle. Congratulations on your committee assignment, 
too.
    Mr. Bonner. Thank you very much. I not only got on a great 
committee, but a great chairman to work with. I said, last 
week, that he was handsome, debonair, smart, and he is not 
listening to anything I am saying now, but I stand by all of 
those comments. Thank you for being with us.
    Mr. Serrano. You must be referring to Ralph Regula.
    Mr. Bonner. Thank you, Mr. Chairman.
    Mr. Serrano. Thank you. Should we read back the record?
    Mr. Nussle. It was all good things.
    Mr. Serrano. Yes, I understand. I am going to just ask you 
a couple of more things. We do not want to keep you here much 
longer.

                         A-76 AND OMB DIRECTION

    On this outsourcing issue, OMB has been very aggressive in 
telling agencies how and when to use the A-76 process. OMB's A-
76 direction to agencies has taken the form of everything, from 
numerical quotas to quarterly PMA score cards. This has 
generated bipartisan congressional concern.
    The 2008 Financial Services Bill from this Committee 
included a government-wide prohibition, 739[d], against, one, 
OMB directing or requiring agencies to prepare for, undertake, 
continue, or complete any A-76 activity; two, any agency 
following OMB's direction or requirements to prepare for, 
undertake, continue, or complete any A-76 activity.
    On February 20th, OMB issued guidance to ensure compliance 
with several A-76 related provisions in the bill, but absent 
from the OMB guidance was any discussion of 739[d].
    So the first question is, has OMB implemented 739[d]? If 
so, how has that happened? Has OMB issued guidance that makes 
it clear that OMB will not force agencies to meet privatization 
goals if the agencies determine that it is inconsistent with 
their missions?
    Please provide the Subcommittee with copies of that 
direction to agencies and show me how agencies' A-76 schedules 
have changed, and, if not, is it reasonable to expect that the 
Congress will allow the Administration to pursue its A-76 
agenda if OMB cannot follow the law? Should A-76 activity, as 
of the date of enactment of 739[d], be suspended 
administratively or legislatively until the prohibition is 
satisfactorily implemented?
    Mr. Nussle. I guess, to start with, Mr. Chairman, I think 
it might be good for me to provide this answer in writing for 
you and be very direct to your very direct question.
    Generally speaking, we believe we are following the law. We 
believe we are not giving direction to the agencies on any kind 
of specificity of how they should handle this, and we believe 
we have followed that directive. But I am sure there is a 
difference of opinion on that score, from what I understand, 
and so rather than to try and do it here verbally, I would 
recommend or suggest that I take that question and give it a 
very serious answer, in writing, to the Committee so that you 
can review that.
    Mr. Serrano. Well, we would appreciate that, but I still 
would like to know, if you can tell me, why there was no 
mention of 739[d] in the directive.
    Mr. Nussle. We thought it was covered within the directive. 
That is why I say, I think there may be a difference here in 
interpretation. We thought it was covered, would be my answer.
    Mr. Serrano. All right. Okay. So we will get that in 
writing from you.

                         PRESIDENTIAL EARMARKS

    Last question: Does the President submit earmarks, and, if 
so, how much?
    Mr. Nussle. The President does not submit earmarks. We 
believe that the difference here is that, and I understand 
there is a difference of opinion as to what is an 
administration earmark and what is not, I think the big 
difference here, if I may say, is that, first of all, anything 
we propose, as far as spending, was submitted in February and 
will be laying out there for the entire world to see, including 
justifications for the next however many months it takes for 
any of those to be considered before they may be put into 
possibly an appropriation bill as much as nine months to a year 
later, and they are based on what we think is a meritorious 
process.
    Often, if they are directed spending, they are directed in 
order to complete a task that has been part of a bill for some 
time, or part of a spending measure for some time, and in those 
instances where they are not, where there are pools of money, 
they are meant to be done in a competitive way.
    In fact, I went through the budget this year in a specific 
way to try and root out any of those that were not done, based 
on merit or based in a competitive process.
    Mr. Serrano. But here is where we may have the difference, 
and here is where you may want to answer later on.
    If the president says, ``I want X amount of billions for 
education,'' that is no different than if we say, ``We are 
allocating, appropriating, X amount of billions to education.'' 
But if we say, within the bill, ``and with that X amount of 
billions, $2 million are going to go to Serrano's district to 
build a particular school,'' that is an earmark.
    So when the President says, ``I want this from Congress for 
a particular program,'' that is fine, but when the president 
says, ``And within that, I am going to create a program in your 
district for so much,'' is that not an earmark?
    Mr. Nussle. You will not find those in our budget. Let me 
go back to your----
    Mr. Serrano. You do not find in your budgets, for instance, 
on the HIDTA, certain amounts of money going directly to 
certain communities?
    Mr. Nussle. But those are already competitively done as 
part of the process. They are based on merit and criteria that 
determine that. It is not a decision that was made arbitrarily, 
where I say, for instance, for Mr. Visclosky's district, that 
it goes specifically to Lake County and Gary, Indiana, based on 
only my judgment, as the OMB Director.
    Mr. Serrano. Well, that is basically the whole argument 
about earmarks. Remember, I started off by saying that I do not 
think only someone at an agency level understands what my 
district needs. That is where I think the basic difference 
comes in.
    Mr. Nussle. Sure.
    Mr. Serrano. I do not see a difference between me sending 
dollars to clean up the Bronx River because, otherwise, that 
agency would have never sent dollars to clean up the Bronx 
River, or the President, within an environmental dollar 
expenditure, sending dollars to clean up a particular river in 
California, Texas, Ohio, wherever. To me, that is an earmark, 
too. Anyway, to be continued.
    Mr. Hinchey. Mr. Chairman, one last question.
    Mr. Serrano. I was pointing to my right.
    Mr. Hinchey. I am usually to your left, Mr. Chairman.
    Mr. Serrano. Anyway, Mr. Hinchey will end our hearing.
    Mr. Hinchey. Thank you, Mr. Chairman.
    Mr. Serrano. All right.

                      TCE RISK ASSESSMENT PROGRAM

    Mr. Hinchey. I just wanted to ask you about one question 
involving the EPA, which is a critical question in a lot of 
communities across the country, and it involves a substance 
called trichloroethylene, TCE. TCE was used abundantly by a lot 
of manufacturing corporations up to a decade or two ago, and a 
lot of it is in ground water and is being absorbed by breathing 
into homes and businesses in various places. A lot of attention 
has been paid to it.
    In July of 2006, the National Academy of Sciences, their 
National Research Council, came out with a report that said 
that the health impacts of TCE were severe in terms of things 
like kidney cancer, neurological problems, heart defects, and 
that they were particularly severe on women and children, 
particularly women with pregnancies.
    The EPA went to work on that, and they began to develop a 
risk-assessment program. Actually, they revised what they had. 
That risk-assessment program now has been essentially 
completed, but I understand that putting it into effect, is now 
being held up by the information and regulatory affairs 
operation of OMB.
    Now, if that can be overcome rapidly, it would be in the 
very direct and important interest of hundreds of thousands, 
maybe millions, of people across the country because there are 
thousands of these pollution sites all over the country.
    So I would appreciate it, Mr. Director, if you----
    Mr. Nussle. I will look into that.
    Mr. Hinchey. Thank you.
    Mr. Nussle. I am not familiar with where that is in 
process, so let me look into that.
    Mr. Hinchey. Okay. Would you get back to me on that?
    Mr. Nussle. I can, yes, sir.
    Mr. Hinchey. I would appreciate it.
    Mr. Nussle. Okay.
    Mr. Hinchey. Thank you very much. Thank you very much, Mr. 
Chairman.
    Mr. Serrano. Thank you. Mr. Bonner, you have no further 
questions?
    Mr. Bonner. No. Thank you.
    Mr. Serrano. Mr. Director, we thank you so much for your 
testimony and for being here with us today.
    Mr. Nussle. Thank you, Mr. Chairman.
    Mr. Serrano. We thank you for agreeing with us on earmarks.
    Mr. Nussle. That is the way I heard it.
    Mr. Serrano. We thank you for the fact that you will now 
start recruiting in Puerto Rico and the territories.
    Mr. Nussle. I am leaving this afternoon.
    Mr. Serrano. We really do. We look forward to working with 
you for the benefit of the American people, and I thank you. 
And this meeting is adjourned.

     

                                           Tuesday, April 15, 2008.

                        INTERNAL REVENUE SERVICE

                               WITNESSES

DOUGLAS SHULMAN, COMMISSIONER OF INTERNAL REVENUE
LINDA STIFF, DEPUTY COMMISSIONER FOR SERVICES AND ENFORCEMENT

                  Chairman Serrano's Opening Statement

    Mr. Serrano. Good morning to all.
    For those who may wonder, although there shouldn't be 
anyone who wonders, the 42 in front of my nameplate is a 
tribute to number 42 for the Brooklyn Dodgers, Jackie Robinson. 
Today is Jackie Robinson Day throughout baseball. It is the day 
when all baseball players are being asked to wear 42, or at 
least a couple of members on each team.
    Of course, my beloved Yankees have the only person 
grandfathered with 42, Mariano Rivera. As soon as he retires, 
that number will not be used any longer.
    And it is just a small way for me to pay tribute to a 
person who not just integrated baseball, but in my opinion, he 
integrated our country. I don't think our country has been the 
same since that 1947 season, and it has been for the good.
    And just an aside, Mr. Regula. We claimed that we work a 
lot of times under pressure, and we do. I can't imagine what it 
must have been like to play that first season under that 
pressure and still perform at Rookie of the Year quality. This 
is a special person.
    The National Archives, one of the agencies in our portfolio 
of agencies, just published a document about Lieutenant Jackie 
Robinson and his refusal to sit in the wrong bus as an officer 
of the military. There was a bus for African American soldiers, 
there was a bus for white soldiers, and there was a bus for 
officers. So he went into the officers' bus, and he was sent 
into the bus for African American soldiers. And he said, ``I am 
an officer, and officers go in that bus.'' He was court-
martialed. They didn't get too far with it, but it just shows 
you, especially if you are younger than some of us on this 
panel, what an incredible person that he was. And so today we 
honor, at least this Chairman, and I know this committee joins 
me, in honoring number 42.
    We would like to welcome our guests today.
    The subcommittee will now come to order.
    And today is April 15th, not only the day when we honor 
Jackie Robinson but it is also the day when we pay our taxes. 
And I hope everybody did. I filed, e-filed, and my 22-cent 
return came back immediately.
    It is fitting that the subcommittee is meeting today to 
hear testimony from the Internal Revenue Service on its budget 
request for fiscal year 2009. As the largest component of the 
Financial Services and General Government Appropriations bill, 
comprising more than half the total amount of funds provided by 
our subcommittee in fiscal year 2008, the IRS is clearly a 
major focus of our work.
    In addition, as the collector of approximately $2.4 
trillion in Federal revenue each year and as an employer of 
more than 100,000 people, the IRS is an important presence in 
the Federal Government.
    The IRS plays a very public role as a representative of our 
Federal Government in the lives of most Americans. In many 
cases, it is one of the few contacts many Americans have with 
the Federal Government. It is up to all of us to ensure that 
the IRS is able to perform its functions in a fair, competent 
manner and to ensure that the IRS has the resources to do so.
    Today the IRS is involved in numerous activities, including 
explaining tax law, answering taxpayers' questions, assisting 
with tax return preparation, processing returns, conducting 
criminal investigations and much more. At the same time, the 
IRS is working to improve its business processes and computer 
systems through the multiyear business systems modernization 
program.
    Currently the IRS is playing a vital role in helping to 
implement the Economic Stimulus Act of 2008 and the rebate 
program, in addition to processing nearly 140 million 
individual tax returns.
    We look forward today to discussing some of the issues 
facing the IRS.
    In the area of taxpayer service, the IRS is in the midst of 
implementing the Taxpayer Assistance Blueprint, a 5-year plan 
for improving IRS taxpayer services. At the same time, however, 
I am concerned that the IRS budget request freezes funding for 
taxpayer services at last year's level, even as funding for tax 
enforcement is proposed for a 7 percent increase. I look 
forward to discussing the IRS budget request today.
    Another major concern is the ongoing private debt 
collection program at the IRS. If you hear any hissing in the 
background, it is not by any Members of Congress; it is just 
the general feeling. I continue to oppose the private debt 
collection program, as many other people do. The program allows 
private companies to collect unpaid taxes and to pocket up to 
24 percent of the tax revenue they help collect.
    This issue was raised at the Commissioner's Senate 
confirmation hearing as well as at this subcommittee's recent 
hearing with Secretary Paulson. And I look forward to 
discussing the issue again today, as well. It is my hope that 
although he has just begun in his new position, the new 
Commissioner will have come to the same conclusion as many in 
Congress--that this program should not be continued.
    On March 13th, Douglas Shulman was confirmed by the United 
States Senate to be the 47th Commissioner of Internal Revenue.
    We thank you for your service. We thank you for joining us 
today. We thank you for accepting this important position in 
our Government, this 5-year appointment.
    And we look forward to your testimony. We remind you that 
your testimony should be held to 5 minutes. Your full statement 
will go in the record, and then we will have a chance, as 
taxpayers, to get even with you on this special day.
    And now a man who has always paid his taxes on time--in 
fact, he asks the Government to take more, just to be a great 
American--there he is, Mr. Regula.

                     Mr. Regula's Opening Statement

    Mr. Regula. I think I saw somewhere that there is a 
proposal for legislation that would allow those who feel that 
taxes aren't high enough to add an additional amount to the 
taxes they pay. I believe that is a legislative proposal 
floating around here somewhere along those lines.
    Mr. Serrano. Well, I send an extra bunch of money to New 
York every month, but that is because they don't take out city 
taxes.
    Mr. Regula. Right.
    Well, you covered this topic pretty well. I think what the 
taxpayers really want is to feel a sense that everyone is 
paying their fair share. They understand that you need taxes to 
operate Government, but when they read in the paper that $300-
plus billion are not collected that should be, that is always a 
little bit distressing to the average taxpayer, because he or 
she thinks, ``Well, I am paying my fair share and filing a 
return. Why doesn't everybody else have to?''
    And I just saw an article--I think it was in Time or 
Newsweek, one of them--where a number of corporations aren't 
paying all the taxes they owe. And those are the kinds of 
things that distress the public.
    And I see that, in our budget, we have an additional $358 
million to enhance your collection procedures. And I hope that 
in your role as the Commissioner that you do push hard to 
ensure that we have fair and adequate enforcement of the tax 
laws so that everybody is paying their fair share.
    One other comment. I think you have done a remarkable job 
of adapting to Congress's constant changes of the tax law. And 
this year, particularly with the requirement for the extra 
funding for citizens and also the changes in the AMT, that you 
have had challenges in getting forms out. I am sure this was 
quite a difficult problem, to get everything out on time for 
taxpayers who wanted to file and were required to file. So we 
will be as supportive as possible of programs that ensure 
fairness and ensure prompt information to the taxpayers so they 
can make the right decisions in filing their own tax returns.
    And it has to be a challenging assignment, to say the 
least, because going back to biblical times, tax collectors 
were not the most popular people in town, when you read about 
their role in ancient history. And so we wish you well in your 
new assignment.
    Mr. Shulman. Thank you.
    Mr. Serrano. Thank you, Mr. Regula.
    You know, Mr. Regula and I were discussing the other day--
of course, he is leaving Congress, much to the loss of the 
Nation. He is leaving Congress, but next year at this time, 
what do we do about hearings and about conversations with a new 
President, new administration and a lot of new folks that, at 
this point next year, may not even know what their budgets 
should be like, you know. And we just had a comment from Mr. 
Nussle, where he said they would not prepare a budget.
    And yet you are one of the few--you, I believe the 
Archivist and just a couple of other people--in the Government 
who don't have to leave. And so we hope to establish a 
relationship with you that will carry over to the next 
administration at the White House.
    So we welcome you once again, and we welcome your 
testimony.

                    Commissioner Shulman's Testimony

    Mr. Shulman. Thank you, Chairman Serrano and Ranking Member 
Regula, and thank you to all the members of the subcommittee 
for having me be here today.
    I have been Commissioner for 3 weeks, as you said. And I 
would like to reiterate to all the members what I have assured 
the Chairman and Ranking Member in private conversations: that 
I look forward to working with this Subcommittee for the years 
to come, and to address all the critical issues facing the IRS.
    I would also like to introduce the two Deputy Commissioners 
of the IRS, Richard Spires and Linda Stiff, and really commend 
them for doing an excellent job running the agency for the last 
6 months while I was going through the confirmation process--
Linda, as Acting Commissioner; Richard, as Deputy. They helped 
guide the agency through a difficult filing season and the 
stimulus payment process, which is ongoing.
    This morning what I would like to do is touch on the filing 
season, stimulus payments and the 2009 budget, take a minute or 
two to discuss a few important issues to me as IRS 
Commissioner, and then I'd be happy to take your questions.
    We are completing what, by all measures, looks like a 
successful filing season. I have some statistics from April 5th 
that I would like to share with you.
    One is the substantial increase in the number of electronic 
filers, a substantial--up 10 percent from a year ago. Mr. 
Chairman, I was heartened to hear that you are an electronic 
filer. And I know, Mr. Regula, you prepare your own taxes.
    The number of returns prepared by volunteers through our 
VITA program and tax-counseling-for-the-elderly program is up 
26 percent year-to-date. Our usage of the Free File program, 
which allows 70 percent of Americans to prepare and file their 
returns electronically, is up almost 20 percent. And the IRS 
Web site, which is really designed to give assistance to 
taxpayers, has seen the usage increase 21 percent.
    We are also having what looks like a successful filing 
season, despite the late enactment of the AMT patch and the 
fact that we have been simultaneously preparing to send out 
economic stimulus payments to millions of Americans.
    Regarding economic stimulus, we conducted extensive 
outreach to make sure that the American public understands this 
program. And we have put special emphasis on the group of 
Americans who normally wouldn't have to file their tax returns, 
but need to file a tax return this year to get the stimulus 
payment. That group includes people on Social Security, people 
getting veterans benefits, low-income workers.
    I also want to urge this subcommittee to support full 
funding of the IRS's proposed 2009 budget. The budget will 
allow us to continue our strong focus on both taxpayer service 
and enforcement.
    During my confirmation process, I was asked the question 
that I think all IRS Commissioners are asked: ``Are you going 
to focus on service or enforcement?'' What I told the Senate 
Finance Committee and what I tell you is I actually believe 
this is a false choice. I fervently believe that, in order for 
the IRS to achieve its compliance goals, it needs to focus on 
both.
    If I state that another way, in my own language, the IRS 
should do everything it can to make it as seamless and easy as 
possible for those taxpayers who are trying to pay the right 
amount of taxes navigate our organization, get their questions 
answered, pay their taxes and get on their way.
    But for those who understand their Federal tax obligations 
but fail to comply, we must have an aggressive enforcement 
program. The IRS has been very active in its compliance 
programs in recent years. We collected $59 billion in 
additional revenue through enforcement activities last year, 
which is a substantial increase over the last 5 years. And that 
is only direct revenue attributable to specific enforcement 
actions, not taking into account the deterrent effect of 
enforcement programs.
    Another area of focus during my tenure will be maximizing 
the effectiveness of IRS's technology and systems. The 
evolution of technology has profoundly altered the way that 
both business and Government operate. The IRS is continuing to 
adapt to this changing world. And our goal is pretty simple: It 
is to get the right information into the right hands of the 
right people at the right time.
    My vision for modernization starts at a fundamental place, 
which is that the expectations of taxpayers are high and only 
getting higher, and we owe it to them to do everything we can 
to meet those expectations.
    And finally, during my tenure as IRS Commissioner, we--like 
other Federal agencies and other private-sector industries that 
are facing a retiring workforce, a change in the demographics 
of the workforce--are going to need to continue to focus on our 
leadership development and our workforce. A talented, dedicated 
workforce will form the foundation of what we do in the future.
    Thank you again, Mr. Chairman, for the opportunity to 
appear this morning before this Subcommittee. In my short 
tenure, I have found the issues complex at the IRS, but the 
people and the professionals who lead the IRS and work at the 
IRS to be professional, hard-working and dedicated.
    You have my commitment to show up every day and try to 
provide taxpayers the high level of service that they deserve 
and to pursue enforcement actions against those unwilling to 
meet their tax obligations. Of course we need resources to 
execute our plan. I hope this Subcommittee will support full 
funding of the Administration's 2009 budget proposal.
    Thanks again for having me here, and I am happy to respond 
to questions.
    [The information follows:]

     
    
                    ECONOMIC STIMULUS REBATE CHECKS

    Mr. Serrano. Well, I thank you.
    And I want to echo momentarily what Mr. Regula said. If 
there is ever a problem, it is the belief by many Americans--
for our purposes, say some Americans--that some folks are not 
meeting their obligations. And sometimes, for instance, when we 
see in the budget or we read that there is more emphasis being 
made on lower-income or Earned Income Tax Credit folks in terms 
of auditing them and that corporate America is getting less and 
less audits, that adds to that perception that Mr. Regula 
speaks about.
    Let me talk to you briefly about the economic stimulus 
rebate checks. As we all know, the IRS is working with the 
Financial Management Service on getting out the rebate checks 
for taxpayers as part of the Economic Stimulus Act.
    One thing I would just like to clarify with you: As long as 
an individual files a tax return and fits the income 
qualifications for getting a rebate check, they will, in fact, 
get the check as long as they don't owe back taxes, Federal 
taxes--am I correct?--or have outstanding debts like student 
loan debt or overdue child support. Is that correct?
    And my understanding of outstanding student loan debt means 
not that they are ongoing in their payments but that they are 
behind in their payments.
    Mr. Shulman. That is correct.
    Mr. Serrano. So a person who has a student loan outstanding 
is not in trouble here, just a person who hasn't made their 
payments.
    Mr. Shulman. That is correct.
    Mr. Serrano. Okay. Now, does that include also child 
support issues?
    Mr. Shulman. I believe so. Yes, I believe so. It is about 
if they are behind in payments, not just that they have child 
support payments, student loan payments. And you are correct, 
as we had a chance to discuss, regarding Federal taxes.
    Mr. Serrano. Okay. Now, do States get into the act?
    Mr. Shulman. No. This is a Federal program, not involved 
with State----
    Mr. Serrano. So if you owe State taxes, this does not 
affect your ability to get the check?
    Mr. Shulman. Correct.
    Mr. Serrano. Have you clarified with the territories--one 
of my favorite subjects--how those checks will go out to the 
territories?
    You know, our big victory was including the territories in 
the rebate. Now, we know that they don't have Federal tax lists 
for you to work off, so the money has to go--the funds have to 
go to the local government. Can the local government then say, 
``You owe us, the Commonwealth of Puerto Rico, you owe Guam 
money; therefore, we are going to take that out of these''? 
Because then technically what we would be doing is using 
Federal dollars to subsidize a local issue.
    Do we have a reading on that?
    Mr. Shulman. Well----
    Mr. Serrano. And I don't think we should, just for the 
record.
    Mr. Shulman. As you know, the territories were included in 
this stimulus program that the Congress passed and the 
President signed. We do not administer the tax laws in 
jurisdictions of the territories. Actually, we are working with 
the territories now--it is in the hands of the Treasury 
Department--to work out exactly how we will be refunding them 
their payments. The final details of those are not settled yet, 
but my understanding is, the talks are going very well, and 
that these discussions--that a decision is relatively imminent. 
It should happen soon.
    Mr. Serrano. But these are more Treasury discussions than 
IRS discussions, is what you are saying?
    Mr. Shulman. Correct.
    Mr. Serrano. But if it comes by your desk, it wouldn't make 
any of us unhappy if you reminded the territories that this is 
not to pay for any local debt.
    Mr. Shulman. Understood.
    Mr. Serrano. The idea is for them to go spend that money 
and stimulate the economy. That was the purpose.

                      IRS PRIVATE DEBT COLLECTION

    Mr. Serrano. Let's turn to something more controversial, 
the private debt collectors or, as I have said on a couple of 
occasions here, a wonderful idea for a ``Sopranos'' episode, 
collecting debt.
    The Commissioner doesn't get it.
    Any time you give somebody an incentive of 24 percent on 
the dollar, the behavior could be something that we live to 
regret.
    I asked this question of Secretary Paulson, and I would 
like to ask it today as well. This time last year, the IRS was 
planning to greatly expand the number of private companies 
conducting IRS collection work, but now you are planning on 
sticking with just the current two companies.
    What are your thoughts on the program? Do you believe it 
should continue? Does this change in plans indicate that the 
IRS is starting to have the same doubts about the usefulness of 
this program? Or is it an IRS reaction to the many people in 
Congress who disagree that this program should continue?
    Mr. Shulman. I am well aware of this program. I had a 
number of conversations with Senators about this program 
throughout my confirmation process.
    If I can step back just a little bit, with the topic of the 
hearing being the budget and resource allocation, it is very 
clear to me that one of the most important parts of my job is 
going to be getting my arms around all of the activities of the 
IRS, both the service activities that help taxpayers 
voluntarily send in their money and provide services to them, 
as well as all of our enforcement tools, whether it be 
collection--our internal systems or this private debt 
collection--our audit program, our enforcement program, our 
criminal investigation resources. And how we choose to fund and 
focus those resources will be some of the most important 
decisions I make.
    This program specifically, like a lot of programs, I am 
just getting my arms around it. I make a commitment to all 
members of this Committee that this program is one I will focus 
on, understand better and come to my conclusions about whether 
it is meeting its purpose.
    A couple of things I have seen. One is, it is my 
understanding it has been authorized by Congress, and I know 
that the people at the Service are doing their best to run it 
well. ``Run it well'' means to meet the intent of bringing in 
taxes that otherwise wouldn't be collected, as well as making 
sure that taxpayer rights and data privacy are protected and 
that there is proper oversight.
    I think it is too early in my tenure to really have a lot 
more opinions about the program, but I understand the concerns 
that you and others have expressed, Mr. Chairman. And you have 
my commitment to get my arms around the program and come back 
for more conversations.
    Mr. Serrano. Sure. Thank you for that answer.
    And let me just clarify something for you in a very 
friendly way. You made an interesting point and a right, 
correct point. You said this is a budget hearing. There are two 
things you should know about the appropriations process. One is 
we are not supposed to legislate on appropriations bills, but 
it happens all the time. And secondly, we are only supposed to 
discuss budget at these hearings, but most of the time we end 
up also discussing issues that are not necessarily just budget 
issues, although they all have dollars attached to it. So this 
stopped being, really, a discussion of dollars a long time ago 
and just of the process.
    But speaking of dollars, the IRS taxpayer advocate noted in 
a hearing last month that the IRS projects that the program 
will generate gross revenue averaging about $23 million this 
year and next year. At the same time, it is costing $7.6 
million a year in appropriated funds, as well as roughly $4.6 
million in tax collections that the companies get to keep for 
themselves, the 24 percent.
    If these two expenditures, the $7.6 million and the $4.6 
million in lost revenue, were instead invested in IRS employees 
to work these same cases, how much revenue do you believe could 
be collected?
    Mr. Shulman. Again, I am still getting my arms around these 
issues. I have seen a lot of the numbers, and I need to 
understand them better.
    And if I can just make the point, by no means was I giving 
a broad budget update. Any discussion, of course, this 
Committee wants to have, I am happy to have.
    Mr. Serrano. It was a very friendly comment. Nothing that 
is nasty on Jackie Robinson Day, trust me.
    I have many more questions, but we will move on now to Mr. 
Regula, our Ranking Member.
    Mr. Regula. Well, as I said earlier, what most taxpayers 
want to have is a sense that everyone else is paying their fair 
share. And the question then arises on private debt collection 
whether or not that does enhance the ability of the Government 
to ensure that that number, whatever it is, $300 billion or so, 
is collected.
    And they estimate that this increases revenue by $600 
million over 10 years. And I know there are other agencies who 
have successfully used private contractors, such as Education, 
Health and Human Services. And there is some concern that this 
takes away from employees, but I think it really provides 
assistance to them.
    What do you see--and I realize it is early in the program--
as the benefits of this program?
    Mr. Shulman. Well, my understanding is that it was 
authorized specifically as money to go toward collection 
efforts for cases that otherwise wouldn't be pursued by the 
IRS. And I know, again, there is a lot of debate about both 
sides of this. And so, to the extent it is money that we 
wouldn't otherwise get and to the extent it is going after 
cases we wouldn't otherwise get to, I think that is the obvious 
benefit.
    Mr. Regula. Well, if the private debt collectors can 
collect, why can't agents of the IRS do the same?
    Mr. Shulman. Well, again, I am still getting my arms around 
it, and I apologize to the Committee to come so early and that 
I still have to get my arms around it. But I want to make sure 
that any conversation I have with you is fully informed.
    My understanding is that, because these are private 
contractors, there are some limitations on the kinds of cases 
that they can work. And they clearly can't use some of the 
tools that the IRS has, like liens and levies and other things.
    So these are cases where there is clearly debt owed, some 
lower-dollar-amount cases. The IRS only has so many resources. 
It can't pursue every single case and every single time that we 
think that there is money that ought to be coming. We have to 
allocate our resources appropriately. And so these are cases 
that otherwise weren't being worked, that meet those criteria, 
and the IRS can pursue these cases with these----
    Mr. Regula. I don't think the public would believe that you 
can't pursue some cases. If they have dealt with the IRS, they 
have been convinced that you do, just like the FBI or whatever. 
There isn't any place to hide.
    It seems to me you ought to at least take a good look at 
whether your collection procedures are adequate, and if 
therefore you would not need private debt collectors. They 
certainly can't have any magic, as to how they get it done, as 
opposed to what could be done by your own agents.
    But, again, this is part of ensuring the public that 
everybody is paying their fair share.
    I have a number of questions for the record, a couple of 
things.

                         IRS TAXPAYER SERVICES

    Do you let the public know about your taxpayer services 
adequately, like the Taxpayer Advocate Service, Voluntary 
Income Tax Assistance and so on? I am not sure the public 
realizes that these services are available, and maybe there 
ought to be some enhancement of letting people know.
    Mr. Shulman. Yes, you know, people have asked me. One of 
the main reasons I took this job is because this agency touches 
and has interaction with every single individual adult in the 
country, as well as every business and every nonprofit group. 
It has a profound effect on the way that Americans view their 
Government.
    And I believe--again, I am still getting my arms around our 
exact outreach, et cetera. I am very committed to making sure 
our service programs are effective when people come to us and 
people understand that the IRS can help.
    Because I happened to take this job right around April 
15th, which in addition to Jackie Robinson Day is a big day for 
us, I had the opportunity to go out and talk with a variety of 
people and some media outlets. And one of the interesting 
questions that came to me was, ``if someone just can't pay, 
what should they do?'' And my notion--you should reach out to 
us, you shouldn't disappear, you shouldn't go dark, you should 
call us and we have people who will help you work through those 
issues--I think a lot of people don't recognize.
    And under my tenure, I am going to make sure, it is a major 
focus of ours to make sure our services are excellent and let 
everybody know that those services are available.
    Mr. Regula. Well, I am always struck when I see the TV ads 
from the professionals who say, ``Got a problem with IRS? Call 
us.'' And they imply that their services will result in your 
tax bill being substantially reduced. Now, I question that. The 
law is the law, and they don't have any magic understanding of 
the law. But at least, if you have the services I have just 
described, they ought to be available to taxpayers, in lieu of 
having to pay these professionals to do the job.

                        SIMPLIFYING THE TAX CODE

    Tax complexity, we always--that is a very popular thing on 
the campaign circuit, is to say, well, we are going to reduce 
the tax code and so on. But, of course, so long as you don't 
reduce any preference that I might have, why, it is a good idea 
to simplify the tax code--1,395,000 words.
    I was really struck by the fact that Tom Friedman, in his 
book, ``The World is Flat,'' said that 400,000 U.S. tax returns 
were done in India last year. I find that rather appalling, in 
a way, that people have to send their tax returns to India to 
be done and that we can't do that in this country. And there is 
an increase in the use of tax consultants, if you will. I know 
it is not your responsibility. In a way, it is up to the 
Congress to deal with the complexity in the tax code. And we 
usually end up adding instead of subtracting.
    But do you have any capability in the agency to reduce the 
number of outsiders that do tax returns? Is there any 
simplification that you can build into the returns themselves?
    Mr. Shulman. Well, it is a good question. It is one that I 
have asked myself.
    What I would say is, I am on the record, I think the tax 
code is complex. And as the representative of the Government 
trying to interact with the American people getting their taxes 
done, the simpler we can make the tax code, the better.
    With that said, I am going to stay out of tax policy 
questions, leave that to Congress, the Treasury and people who 
are more engaged in tax policy than I am.
    I think to the extent we can make life easier for people 
and simplify things, we should. I actually did some surfing on 
our Web site as I was preparing for this hearing and through my 
confirmation process. I think we have done a pretty good job of 
posting frequently asked questions, having the ability to get 
questions answered. I think the more we can do to get good 
information out there, the better.
    Regarding tax preparers and who prepares people's taxes, 
what I will tell you is I want to make sure--you know, they are 
a vital part of the system. Whether we like it or not, a lot of 
people use professionals to prepare their taxes--sure we have 
good information for individuals, we make it as easy and cheap 
as possible for them to comply, and we support the professional 
community so that their costs are low for people using them.
    Mr. Regula. I was in a bookstore, and I saw a whole array 
of volumes, and they looked like a telephone book, of how to 
prepare your taxes, ``J.K. Lasser'' just one of many. And it 
must be sort of overwhelming to the average citizen to go in 
there and see all these different volumes of information on how 
to do your taxes. And I suppose simplification lies somewhere 
out in the far distant future.
    Thank you, Mr. Chairman.
    Mr. Serrano. Thank you.
    I must tell you, Mr. Commissioner, that I know some of 
these questions seem leading to some difficulty in the future, 
some tough issues. But the good news is that when Mr. Hinchey 
and I started out in politics on the same day in 1975, elected 
office, the two most disliked agencies in my district were the 
IRS and Immigration. Well, since September 11th, you are not 
even an issue; Immigration outweighs you. They are highly 
disliked in my district, trust me.
    And, you know, the Commissioner has a connection to both of 
our States. He is from Dayton, Ohio, and he was a school 
teacher in my congressional district.
    Mr. Regula. Teach for America?
    Mr. Shulman. I was involved in the starting of it, Teach 
for America. And I taught at Bronx Regional High School off of 
Prospect Avenue for a while.
    Mr. Serrano. There you go.
    Mr. Regula. As someone very interested in education, if you 
will permit me, Teach for America I think is a terrific 
program. And you were involved in starting it?
    Mr. Shulman. I was one of the first few staff members who 
put it together. So I am one of the original co-founders.
    Mr. Regula. I congratulate you.
    Mr. Serrano. You served how many years on the Ed and Labor 
Committee?
    Mr. Regula. Oh, well, I was Chairman for 6 years, where we 
had labor and education and so on.
    And I know last year Teach for America had 20,000 
applications, with something like 2,000 slots. Terrific 
program.
    Mr. Shulman. Yes, it is an amazing thing, what they have 
done. Wendy Kopp, who runs it, has done a phenomenal job over 
the years.
    Mr. Serrano. Mr. Hinchey.
    Mr. Hinchey. Thank you, Mr. Chairman.
    Mr. Shulman, it is a great pleasure seeing you, and thank 
you very much for being here. Meeting you has been very 
comforting and instilling in confidence. I think that we are 
very fortunate to have someone as intelligent and wise and 
committed as you are working on this very important job. As you 
said, it is the one aspect of Government with which people have 
the most contact, and stays in their minds more than any other 
aspect of this Federal Government.
    And I very much appreciate our Chairman for the questions 
he asked and the opening statements that he made. I think they 
were really right on target. As he said, we have been friends 
and associated for a long time. The only difference now is 
immigration is not as big a problem in my district as it is in 
his. It is a little bit different situation in upstate New York 
as it is in the Bronx.
    Mr. Serrano. It was a couple hundred years ago.
    Mr. Hinchey. Yeah, it was, I know. When you are having fun, 
time flies.

                      OUTSOURCING DEBT COLLECTION

    There is an interesting story in the Post today about--the 
headline is, ``Collectors Cost IRS More Than They Raise,'' 
which was an important question that was raised by the 
Chairman. I know it isn't anything that you have been involved 
in, but it is something that you have to deal with.
    And the interesting part of the story is that we are paying 
more for the outsourcing of this activity, almost twice as much 
as is being taken in. So it doesn't seem to me to make an awful 
lot of sense, and I think it is something that the Congress 
really has to address its attention to, as to whether or not 
this is the best way for the Internal Revenue Service to have 
to function.
    I think that it has always functioned best when the work 
was done here, locally, internally, within our own country. And 
the idea of sending some of this work out to countries in other 
parts of the world, particularly as far away as India, just 
doesn't make any sense whatsoever. The outsourcing of that work 
is, I think, a big mistake.
    It is something that was done intentionally, I think, and 
it began back in 1995 when a new Congress came into effect. And 
the results of what they put into place has reduced the number 
of IRS employees by--I think the number is more than 27,000, 
reduction in IRS employees.
    I think that needs to be corrected. I think we need to 
change this set of circumstances and bring back the Internal 
Revenue Service wholly within our country and wholly within the 
Government. That is the best way that we can make sure that it 
operates effectively and in accordance with the law. I think 
there are a whole host of potential problems that arise by the 
privatization of this kind of work, including the potential 
exploitation of people who could have that kind of situation 
inflicted upon them as a result of the privatization.
    So I just raise these issues, knowing that this isn't 
anything that you have had anything to do with. You are just 
coming into a situation where you have to confront these 
issues. But over time, I would greatly appreciate it if you 
would consult with us and provide us with information that you 
accumulate as a result of your ongoing experience here, to let 
us know what you think about this situation, the outsourcing of 
this work, the downgrading in the number of employees.
    There is some legislation now which is pending. In fact, 
the bill in the House here, I believe, has recently passed 
through the Ways and Means Committee, which would change the 
privatization and the outsourcing of this work and bring it 
wholly back within our own country, within our own Government, 
so that I think it works in a much better way.
    So I just want to express to you my appreciation and 
gratitude. I know you have only been here a few weeks, but you 
are going to be here hopefully for a good number of years. What 
is it, 10 years?
    Mr. Shulman. Five.
    Mr. Hinchey. Five. Well, maybe it will be 10. At least 5, 
because I have a great sense of confidence in the way in which 
you will be able to carry out this very, very important job.
    And as I have asked, if you wouldn't mind keeping in touch 
with us and letting us know what you see, insightfully from 
your position as the Commissioner now, about how this 
outsourcing is working, what we need to do about this cutting 
back on 27,000 people to make the IRS weaker. And I think a lot 
of that weakness was intentionally focused on the highest 
potential taxpayers in the country. But that is my own 
observation based upon the legislation that was passed back in 
1995, something that I opposed then and continue to oppose, 
because I believe that this is an issue that the Government 
should be involved in, and it should be held accountable to the 
people of the country. And I think that is the best way to do 
it.
    So other than that, I don't have any questions. But I just 
want to say again, I am very grateful to you for being here. I 
have a lot of confidence in the way in which you are going to 
operate the situation. And I hope that you will provide us with 
the insightful information that you acquire over the course of 
the next few years.
    Thank you very much, Mr. Shulman.
    Mr. Shulman. Thank you. I appreciate the confidence. And as 
I said, I am looking forward to an ongoing dialogue with you 
and other members of the Committee.
    Mr. Hinchey. Thank you.
    Mr. Serrano. Thank you.
    Say, are movie stars allowed to claim clothing and other 
things? Does anybody know? Because we are on stage a lot.
    Mr. Shulman. Somebody does, not me.
    Mr. Serrano. Let's find out if they do. Because, you know, 
Mr. Hinchey has to keep up an appearance and all that.
    Mr. Regula. Deduct our suits?
    Mr. Serrano. Why not? We are on stage most of the time.
    The gentleman who is never on stage but always performing 
properly, Mr. Bonner.
    Mr. Bonner. Thank you, Mr. Chairman. I wondered if you 
thought about seizing this opportunity with the Commissioner 
and asking for the Internal Revenue Service to look into that 
dastardly act of some Red Sox fan trying to plant a jersey at 
the new Yankees stadium. That seems to be a case worthy of the 
IRS's attention.
    Mr. Serrano. Let me tell you what almost happened to me, 
and I was saved by something wonderful from up above. I was 
going to put out a statement saying, ``The nerve of these 
outsiders who come and work in the Bronx, work in a poor 
community, make a lot of money, and then leave and go upstate 
or Long Island and insult us.'' Turns out, the guy lives in the 
Bronx, who did that.
    But we took it out of there, at the cost to the management 
company, to the construction company. And in typical New York 
fashion, we kind of gave it back to them. We took the shirt and 
sent it to The Jimmy Fund, and The Jimmy Fund will auction it 
off in Boston. And it will probably get more than the Barry 
Bonds baseball.
    Mr. Schiff. Will the Chairman yield?
    Mr. Serrano. Only if you say something pro-The Bronx.
    Mr. Schiff. I just want to say, go Red Sox. So I yield back 
to the Chair.
    Mr. Hinchey. Not after the last two days.
    Mr. Serrano. Does the phrase ``no earmarks'' sound 
familiar?
    Mr. Bonner.

                   IRS SCRUTINY OF POLITICAL ACTIVITY

    Mr. Bonner. Mr. Chairman, thank you.
    I think each of us represents somewhere in the neighborhood 
of 635,000, 640,000, 650,000 Americans as part of the privilege 
of serving in Congress. And so I can imagine at least the 
635,000 people in my district would probably love to have the 
chance I have to question, on tax day, the tax man.
    So, Commissioner, as you have heard from others, we thank 
you for your willingness to serve in this important position 
and certainly look forward to working with you.
    Let me ask a couple of questions. Yesterday I don't know if 
you had a chance to see Roll Call, which is the Capitol Hill 
newspaper, but there was an article on the front page entitled, 
``IRS Scrutinizing Political Activity.'' And it went on to say 
that the Service has focused on charities and churches in the 
past to ensure that they don't violate the tax code by 
participating in excessive political activity.
    How, in your judgment, would you like to see the Service 
intensify its scrutiny of social welfare groups in addition to 
charities and churches?
    And the article also indicates that the IRS may believe 
that its strong arm could be more effective than, say, the 
Federal Elections Commission in reeling in nonprofits. And I 
was just curious if you had any thoughts about how the IRS 
could provide more effective enforcement.
    Mr. Shulman. Let me say a few things at a philosophical 
level around this issue.
    Again, like many programs, this is one that I am going to 
need to gain more familiarity about, but I did discuss the 
general issue of nonprofits and political activities with the 
Senate Finance Committee, and I will repeat here a couple of 
things I said here.
    One is I think it is very important that we be viewed as a 
nonpartisan institution that is administering our laws in a 
fair and equitable fashion. And you have my commitment that 
will be a focus of ours as long as I am Commissioner of the 
IRS, and I have every indication to believe that is what we do.
    Second, anyone who gets tax-exempt status gets a privilege 
from the Government and gets some monetary relief from the 
Government and, therefore, has to abide by the rules. And so my 
belief is that the group in the IRS, the professional staff who 
has year-in, year-out responsibilities to oversee the tax-
exempt groups--and this will include their political activities 
or any other things that fall within the rules--owes it to the 
American people to make sure we are fair, we are even-handed, 
we give clear guidance. Anyone who is abusing the law, we are 
there. For people who aren't abusing the law, we are out of 
their way.
    And so I will look into it more, but I think the most 
important thing we can do is be very nonpartisan, by-the-book, 
and administer the law clearly and fairly in this area.

               IRS CUSTOMER SERVICE CALL CENTER ACCURACY

    Mr. Bonner. Separately, I will give you the example upon 
which I am basing this next question. But in your testimony and 
in your answer to the first question, talking about the 
importance of a group maintaining its tax-exempt status in a 
legal way, in your written testimony you provide several 
highlights of the IRS's 2007 accomplishments, one of which is 
that your customer assistance call centers last year provided a 
91.2 percent accuracy rate on tax law questions.
    While that number is pretty high, I think a question--and I 
will give to your staff the example that I have in mind. How 
would you like to see the Service respond to cases where the 
taxpayer is given inaccurate information from the IRS, bases 
their actions on that information and then brings in a Member 
of Congress to try to resolve a dispute with the Service? Is 
there a way that we can get that 91 percent up?
    Mr. Shulman. Well, my hope would be--and I can't tell you 
the resources we have, the skill sets we have, et cetera--that 
when anyone has a question, we answer it in a timely and 
accurate manner. So that would be my guiding principle.
    I think any time there is a mistake by a Government agency, 
we should do everything we can to right that mistake. I would 
be happy to follow up on specific issues, so I can understand 
your question a little better.
    Mr. Bonner. All right.

                                FAIRNESS

    And then the last question--the ranking member and the 
Chairman both talked about that fairness. And I know you were 
not on the job at the time, but last year there was a pretty 
high-profile case involving a Hollywood actor who many 
taxpayers, at least in my district, were shocked when he was 
found not guilty of Federal tax fraud. It sent a public message 
to some that you can fail to file a tax return for 6 years, 
making millions of dollars during that time, and that you may 
not have to pay taxes.
    Since we are talking about fairness, does that create a 
problem for you and your tens of thousands of employees when 
yesterday's USA Today had three other high-profile citizens of 
this country who have had tax problems?
    We may all one day come into that situation. But does a 
situation like the Wesley Snipes case, not to focus 
specifically on that gentleman, but just--does that create a 
problem, when average Americans who don't make that kind of 
money file their tax returns and feel some sense of frustration 
that the system is not fair?
    Mr. Shulman. As I have gotten a little bit of a look at our 
statistics, there are some interesting trends. One is, for 
individuals, our audit coverage has increased at the highest 
rate for million-dollar-plus incomes. And so we now audit one 
of every 11 people who make over $1 million a year. I think 
that is a good signal for the IRS to send out, that people who 
have a high income must pay their taxes.
    The next highest rate is above $200,000, and then we have 
some increases for other areas. But we have been putting more 
and more emphasis on high-income individuals, which I think is 
appropriate. And so I think those statistics that I have seen, 
that I support, speak to your question.
    Mr. Bonner. Okay.
    Thank you, Mr. Chairman.
    Mr. Serrano. Thank you.
    Now I would like to recognize my former friend, Mr. Schiff.

                     ALL SAINTS CHURCH OF PASADENA

    Mr. Schiff. Thank you, Mr. Chairman.
    Commissioner, I want to follow up on Mr. Bonner's first 
question and familiarize you with a case out in Pasadena that 
you may not have had a chance to become acquainted with yet.
    On June 9th, back in 2005, the IRS notified All Saints 
Church of Pasadena that it was being investigated for violating 
rules regulating political speech for tax-exempt charitable and 
religious organizations. An investigation was launched in 
response to a sermon delivered by Pastor Emeritus George Regas 
in 2004 criticizing the President's policy in Iraq.
    All Saints is a large and historic congregation of Pasadena 
with a long history of commitment to social justice and peace 
values which are deeply rooted in the theology of All Saints. 
Pastor Regas's speech specifically declined to make any 
endorsement, saying, quote, ``good people of profound faith,'' 
unquote, may support either candidate.
    In its complaint, the IRS relied on a subjective 
characterization of the sermon's content from an LA Times 
article as a, quote, ``searing indictment,'' unquote, of the 
administration's policies in Iraq and at no point provided a 
contextual analysis of the sermon to explain why that 
investigation was warranted. Indeed, the impression was that 
the article, written by someone who I don't think was even 
present in the church, and its characterization of the sermon 
was more important to the IRS than the actual sermon that was 
given.
    Over the next 2 years, the IRS and All Saints exchanged 
extended correspondence, including an offer from the IRS to 
consider the matter closed if All Saints would only admit 
wrongdoing. All Saints refused. Finally, in 2007 the IRS sent a 
letter to All Saints stating that the investigation had been 
closed, yet, in a very self-serving way, still stating that All 
Saints had violated the rules against electioneering.
    So the IRS couldn't prove its case. All Saints never 
admitted wrongdoing. And so the IRS closes the case and says, 
``Well, you still did wrong,'' effectively slurring All Saints 
without ever giving All Saints the opportunity to clear its 
good name.
    I am deeply concerned, Commissioner, that nearly 2\1/2\ 
years after the first notice of a church tax inquiry and after 
hundreds of pages of correspondence, All Saints and every other 
church or tax-exempt entity in the Nation has no better 
understanding of why the IRS found them to be in violation of 
their responsibilities as a 501(c)(3) organization. The lack of 
guidance from the IRS on tax-exempt organizations and of a 
standard of political interference creates the risk that 
legitimate political speech, and speech that relates to the 
theological roots of a religious organization to the present 
world, will be discouraged and shilled.
    I have advocated for some time that we develop a brighter 
line. I don't support having religious or charitable 
organizations get involved in electioneering. They should not. 
But I do think that they should have the ability to speak from 
the pulpit about issues like war and peace, justice and 
poverty, without risking losing their tax-exempt status.
    And I think that the line that we have now is so vague, it 
is very hard for religious organizations to know what they can 
and cannot say. And when the IRS treats a church like All 
Saints the way they did, saying, effectively, ``We think you 
violated the prohibition, but we won't tell you why, and we 
can't prove it sufficiently, so we are going to close the case, 
but we are still going to make the declaration that somehow you 
violated the law,'' that I think not only disserves that 
church, but also the broader community doesn't have any 
guidance from that about what it should think.
    All Saints wrote a letter to the Acting Commissioner, Linda 
Stiff, back in September of 2007 after the IRS closed the case, 
posing several significant issues with how the IRS conducted 
the investigation and also posing, I think, some very 
legitimate questions.
    One took issue with the fact that a threshold 7611 
determination was never made by a high-level official, as 
required by law. Second, pointing out that the IRS had 
discussions with the Department of Justice prior to initiating 
the investigation and may have violated the privacy rights of 
the church, in violation of existing law as well, and asking, I 
think, several legitimate questions about the nature of the 
investigation.
    It has been 6 months since the church made this request of 
the IRS. It has not heard back on any of these points. I have 
the church's letter, Mr. Chairman, as well as a consent to the 
disclosure of tax information, a waiver by the church, so that 
you could both speak today about the case if you know any facts 
of the case or respond to this committee as well.
    And I would ask that both of these be admitted for the 
record.
    And I will provide them to you, Mr. Commissioner.
    Mr. Serrano. Without objection.
    [The information follows:]

     
    
    Mr. Schiff. What I would ask is that, number one, the 
church has been waiting 6 months to have legitimate questions 
answered. I would ask that in 30 days that you give the church 
and this committee a response to the legitimate questions the 
church has asked. Seven months ought to be a sufficient time to 
answer these questions. So that is my first request.
    And beyond that, I would like to know, if you can, with 
greater specificity, how you think religious organizations can 
be guided, what do you advise a church that wants to talk about 
war and peace, that doesn't want to just talk about it maybe 
certain times of the year or during certain years but has to 
forgo discussing it around elections, what kind of advice do 
you give a religious institution?
    So if you could answer both those questions. Will you 
commit to responding within 30 days? And could you give us your 
thoughts on how a religious organization is supposed to know, 
based on this kind of track record, what it can and cannot say?
    Mr. Serrano. The Chair will note that the gentleman's 5 
minutes are up. However, this merits an answer, and so we will 
take the answer.
    Mr. Shulman. Let me make a couple of brief comments.
    One is, as I told you, I am 3 weeks on the job, and am not 
familiar with the details of this case. I don't want to speak 
about anything that I can't speak about on a specific 
investigation. And so I really don't know where this case is 
and where the request is.
    And so I can make a commitment to you that I will go back 
and look into this and come back in what I view is a prompt 
fashion. Thirty days, I just--I don't know where this is in the 
pipeline and most of the information I have about this case 
comes from you.
    Mr. Schiff. Let me ask you for this commitment. The church 
has been waiting 6 months for an answer to this letter. Will 
you commit to giving a response to this committee in 30 days 
either to the questions or tell us in 30 days why you can't 
answer the questions yet?
    Mr. Shulman. I will commit to come back to you within 30 
days and have a discussion.
    As a general principle, whether it be for this kind of 
guidance or other guidance, I think we are well-served as an 
agency to be as clear as we can with individual taxpayers, 
corporate taxpayers, nonprofit taxpayers, churches, about what 
are our rules, how do you stay on the right side of the line, 
so that there is not confusion.
    I have made public statements about that. I have talked to 
the staff about it, that during my tenure at the IRS I plan to 
push to have clear guidance. I think in this area, it is 
especially important that we have clear guidance because it is 
a sensitive area for churches, for politics, et cetera. It is 
also incredibly important that we be a nonpolitical, 
nonpartisan agency. The more we can be clear up front, the more 
that there is never any question of perception about that.
    And so I can't speak to the specific guidance to churches 
now. I am still getting my arms around a variety of issues. I 
can tell you, on a general level, I truly do believe that clear 
guidance is a good thing. This is something that I think is a 
valid point. And I will definitely be happy to come talk to you 
and talk to other members of the nonprofit community and church 
community about this going forward.
    [Clerk's note.--Upon completion of the hearing, 
Commissioner Shulman informed Congressman Schiff there had been 
additional correspondence with All Saints Church in Pasadena, 
and pursuant to the disclosure waiver, provided the Congressman 
with a copy. The correspondence is included for the record.]

     

    Mr. Schiff. I thank the chairman for his indulgence of 
someone from Boston; and I look forward to, within 30 days, 
hearing back from you either in writing or if you want to meet 
instead.
    I would like to have the church involved, since it has most 
directly impacted them; and I will provide you with a waiver 
that they provided as well as their written request. And I 
thank you.
    Mr. Serrano. Thank you. The problem is not indulging over 
the 5 minutes. It is that Boston comment that keeps haunting 
me.
    Mr. Schiff. I realize that, Mr. Chairman. You are Mets, not 
Yankees, right? Or you are Yankees, not Mets?
    Mr. Serrano. I really think, Mr. Schiff, that you should 
talk to Mr. Hinchey and cut your losses just about now.
    Mr. Alexander.

                    ECONOMIC STIMULUS REBATE CHECKS

    Mr. Alexander. Thank you, Mr. Chairman.
    Commissioner, I don't know if this will come as comfort to 
you, but in my congressional district you are still just like a 
lot more than immigration.
    When you say one has filed their tax statement, that 
doesn't necessarily mean that they owe money; is that correct?
    Mr. Shulman. I----
    Mr. Alexander. There were many people who filed income 
taxes but don't owe anything?
    Mr. Shulman. Oh, absolutely.
    Mr. Alexander. So of this number of people that have filed, 
if some owe money but have not yet paid, do we still expect 
them to get a stimulus check? The rule is you have to file a 
return.
    Mr. Shulman. Yes, we do. I think until you are delinquent 
on your taxes and it is clear that you owe us, that once you 
file you get a stimulus check, unless you are in dispute and it 
has not been established that you owe us money.
    Mr. Serrano. That is a good question. If someone files an 
extension and we still don't know at that point if they owe, 
does that hold up their ability to get a check or does that 
take them out of the running to get a check?
    Mr. Shulman. Well, it doesn't take you out of the running. 
You actually have to file your return to get your stimulus 
payment. So if you file an extension, the government owes you a 
stimulus payment once you file your return.
    Mr. Serrano. Your return?
    Mr. Shulman. Your return.
    Mr. Serrano. This answers another question. So not 
everybody well get a check at the end of May?
    Mr. Shulman. What is that? Oh, no, you need to file.
    Mr. Serrano. So some checks will go out throughout the 
year?
    Mr. Shulman. Absolutely.
    Mr. Serrano. Okay, that is good to know. There is hope for 
all of us here. We don't qualify.

                      IRS TAXPAYER SRVICES FUNDING

    The fiscal year '09 budget proposes to increase funding for 
enforcement by 7.1 percent. But funding for taxpayer services 
is flat. Why is this, Mr. Commissioner? If services plus 
enforcement equals compliance, why shouldn't both categories be 
increased, especially as the tax-paying population continues to 
increase? Couldn't the IRS make use of an increase in taxpayer 
services funding, especially as it continues to implement a 
taxpayer-assistance blueprint?
    Mr. Shulman. I know that the people at the IRS have been 
continuing to work on the taxpayer-assistance blueprint.
    Another thing I should point out is modernization funding 
isn't for widgets and servers and guys with propellers on their 
heads. It is to support enforcement and services. So part of 
the modernization funding actually supports services.
    I think the most important thing happening in modernization 
is trying to get real-time information into the hands of the 
people at the IRS who are helping people on the phone. So when 
you send in information in a real-time fashion you have to have 
the right information in their hand.
    And so, again, I am still getting my arms around the budget 
issues. I would say some of the modernization budget really is 
going to help with services. I think on the enforcement and 
services I would really need to understand better.
    This is a budget I inherited. I support full funding of it 
because our team has said it would help move the IRS forward. I 
think some of the very specific issues are trying to target 
areas where we know there is noncompliance. There is only so 
much money in the pot, and we needed to adjust it and make 
resource allocation decisions accordingly. And so my belief, 
from what I know now, is this budget will move us forward and 
will allow us to focus on both service and enforcement.
    I think there is always room for a very legitimate debate 
about how much you are putting in one till or the other. My 
goal is to get the right amount of money for both service and 
enforcement year in and year out to pursue our dual mission.
    Mr. Serrano. This makes me think about my initial comment 
about you having something in common with the Immigration 
Department. Mr. Hinchey can attest to this. There are many 
people who support border protection; and there are others who 
feel like we do, that, yes, border protection is important but 
also make it easier for those people waiting in line to become 
citizens who have been waiting for years to become citizens, 
balance it off.
    Here is the same thing. We want enforcement, but we also 
want you to supply tax services so that there is a balance, so 
it doesn't look only that you are going after a problem but 
rather helping people figure out the system. And that is where 
the discussion will always be on what money we are allocating, 
what you are asking for and what you are putting into it.

                    EARNED INCOME TAX CREDIT DELAYS

    Let's talk a little bit about the Earned Income Tax Credit 
delays. At previous hearings I have raised the issue of IRS 
delays in processing many Earned Income Tax Credit refunds. 
This hurts those hard-working, low-income Americans who 
legitimately claim a credit. Do you have updated data on, one, 
the number of legitimate EITC claims that experience delays 
each year; two, how long, on average, are these delays; and, 
three, what is the IRS doing to further minimize the number of 
the legitimate EITC claims that experience delays?
    Mr. Shulman. If you would let me come back to you with the 
data, I don't have it at my fingertips.
    I will tell you I have sat down and talked with our team 
about the Earned Income Tax Credit. I think everyone at the IRS 
recognizes it is an incredibly important program for the 
Federal Government and for the taxpayers it serves. We have an 
extensive outreach program on the Earned Income Tax Credit.
    I think, regarding the delays, my understanding is new 
procedures were put in place to expedite getting out legitimate 
Earned Income Taxpayer Credit refunds. Anytime there is a 
question about it being a questionable claim, we apply due 
process to quickly resolve issues and avoid delaying legitimate 
payments.
    When I met with the team, it was very clear to me that they 
were trying to balance fraud prevention and fairly 
administering a refundable credit, which is susceptible to 
fraud, with making sure that low-income taxpayers, who often 
don't have the same resources to wrestle with their government, 
are getting very quick service.
    They are trying to balance both of these issues. I know the 
people are very dedicated to that, and I will remain dedicated 
to it. And if you let me come back to you with the numbers, I'd 
appreciate it.
    [The information follows:]

   Questionable Refund Program (QRP), Earned Income Tax Credit (EITC)

    April 8, 2008--Response to GAO's question about our proceses to 
ensure that legitimate EITC claims are given to the taxpayer 
expeditiously if selected for QRP.
    The IRS makes every effort to ensure legitimate refunds are not 
unnecessarily delayed. Improvements to the Questionable Refund Program 
since 2006 include notification to taxpayers when refunds are held and 
implementation of a systemic release of refunds when the IRS has been 
unable to verify the refund is false within 70 days.
    Criminal Investigation (CI) uses the Electronic Fraud Detection 
System (EFDS) to identify returns claiming false income and credits, 
i.e., withholding and Earned Income Tax Credit (EITC), and where 
appropriate criminally investigates perpetrators who create the 
schemes. Last year more than 200,000 returns were verified as false 
with refunds claiming $1.4 billion.
    EFDS screens all refund returns and flags suspicious returns for 
review. Refunds on approximately 400-500 thousand (includes both EITC 
and non-EITC returns) of the 100 million refund returns filed (\1/2\%) 
are delayed up to two weeks while CI reviews the returns. CI completes 
the verification within 14 days on average and remaining refunds (not 
verified false) are systemically released at 70 days. When income is 
verified as false, IRS disallows the income and resulting false 
credits, including EITC.

                             TAX PREPARERS

    Mr. Serrano. Okay. Let me ask you a related question. Some 
folks, like the ranking member, prepare their own taxes, but 
the folks who do the EITC for the most part go to someone, and 
at times it may be a tax service. That is totally legitimate. 
It seems that around this time of the year I see, in 
neighborhoods like the South Bronx, every store front that is 
empty has a tax place open up. When you look at these alleged 
claims of abuse and fraud, is there anything within your power, 
the agency's power, to look at the folks preparing those 
returns, also?
    Mr. Shulman. Well, some of the fraud that you see, from 
what I understand, is people processing lots of returns and 
sending in false information, et cetera.
    Mr. Serrano. When you say ``people,'' you mean like a tax 
place?
    Mr. Shulman. Well, there are two types of preparer issues I 
am trying to get to. There is the preparer who doesn't sign the 
return, and the circular--I think it is 230--that oversees 
activities of certain preparers. So we do have some outreach 
there. And then there are people who are just preparing returns 
and claiming to be the taxpayer in order to get refunds, and 
perpetrating clear fraud that we can easily and obviously reach 
into.
    I think this is one of the discussions I had with the 
Finance Committee about our ability to enforce the law vis-a-
vis preparers, not just taxpayers. I think, given the number of 
people that avail themselves of preparers, it is clearly an 
issue we are spending more time on now, seeing what our options 
are, to make sure the taxpayer and the person they work with 
are----
    Mr. Serrano. Do you have the ability to enforce law there?
    Mr. Shulman. We do with accountants, lawyers, enrolled 
agents, but not with all preparers; and that is the ongoing 
discussion.
    Mr. Serrano. Because the law doesn't cover all preparers? 
Is that the reason?
    Ms. Stiff. We actually do have a program that allows us to 
screen preparers for IT concerns.
    Mr. Serrano. But is there a law that allows you to go after 
these storefront operations, with all due respect to them, that 
open up in the poorer neighborhoods?
    Ms. Stiff. If there is tax fraud, the law does give us the 
ability; and we do that every year. We actually prosecute 
several hundreds of these a year.
    Mr. Shulman. We will come back with the statistics.
    Mr. Serrano. Okay. One of the advantages of having a tax 
accountant, if you will, is that if I have a problem he's going 
to go with me. But Mrs. Rivera, who went to a place and she 
might have been given some information as to what was available 
to her that actually wasn't available to her, now she's alone 
because these places don't show up to give her support when she 
has to go face you folks; and that is something that we have to 
keep a look on.
    Mr. Shulman. As you know, I come from----
    Mr. Serrano. Mrs. Rivera is just a name I picked out. It is 
like Jones. I don't want anybody to go look for Mrs. Rivera.
    Mr. Shulman. I come from an agency responsible for 
regulating an industry, the financial industry, so I am pretty 
familiar with overseeing professionals who deal with ordinary 
Americans; and so this is something that I am committed to 
really grappling with.
    Mr. Serrano. I would like us to stay in touch about that. 
That is an issue that concerns me.
    I have no proof of any wrongdoing, in all honesty, but I 
just see that in every available storefront in my district, 
somebody opens up a tax preparer office, and people stand 
outside handing out fliers for customers to come in. The whole 
thing about the payday loans--there is just something that 
doesn't feel right to me. It may be that everything is fine, 
but I would like to stay in touch to see if everything is, in 
fact, fine.

                        COORDINATED CASE AUDITS

    Let me ask one last question before I turn it over to my 
colleagues. Audits of larger corporations--now you know that 
liberals like me have to finally ask this question, right? A 
new study released by the Transactional Records Access 
Clearinghouse at Syracuse University and reported in the New 
York Times shows that the number of coordinated industry case 
audits, the in-depth audits of the largest corporations, 
declined from 428 in fiscal year 2002 to 353 in fiscal year 
2007. This is despite the fact that coordinated industry case 
audits uncovered $24 billion in unpaid taxes in 2007. Why such 
a sharp decline in coordinated case audits?
    Mr. Shulman. I looked at the TRAC data and had a chance to 
discuss this with our large business division. Let me make a 
couple comments, if I could, about this.
    First, I have made it very clear, and said this in the only 
speech I have given and in statements, that focusing on large 
corporate taxpayers, making sure that they pay their fair due, 
is going to be a focus of mine as Commissioner. I really think, 
for the integrity of our system, that Americans expect large 
corporations to be good corporate citizens, which means paying 
the amount of taxes due.
    Regarding the TRAC data, I think it is one view and an 
interesting view for me to see as a new person coming in, but 
it doesn't paint the full picture of what has happened in the 
large corporate area. Enforcement revenue is up, which means 
the IRS has been doing something right in the large corporate 
area.
    Second, and it is a program that I support, the IRS has 
taken a number of large corporations, like 70 some odd 
corporations, and moved them to a program called the Compliance 
Assurance Program, which means they are in with the large 
corporation before they file their return negotiating all of 
the taxes due so that when the number goes in there is not 
going to be an audit and there is not going to be a dispute. 
And a lot of the CAP data was showing the disputed amount. This 
brings in money to the FISC, and so that is not reflected in 
the TRAC data.
    Mr. Serrano. It sounds like a preemptive rehab program.
    Mr. Shulman. Well, I think it is along the lines that I 
mentioned to Mr. Schiff. The more we can be clear up front, 
that is a good way to administer the tax law and be clear with 
our guidance. And so we are trying to do some innovative 
things, which I applaud.
    Third, there was a conscious decision to shift some of the 
people who can deal with sophisticated large business audits to 
tax shelters, promoters of tax shelters, and to get some more 
coverage in the mid market.
    So those are management decisions that are made every day 
at the IRS. I am not going to tell you that everyone got it 
right in the past or I am always going to get it right, but 
trying to get that balance right was important, and those 
decisions were made.
    And then, finally, just around large cases, I would be 
remiss if I didn't say this. I talked in my opening statement 
about the fight for talent that we are going to have with the 
private sector and on having to work on our workforce. In a 
Sarbanes-Oxley environment, in a pretty heavy regulatory 
environment, the people working large cases are very attractive 
to people in the private sector; and I think we are going to 
have to stay focused on keeping our best people here. It is not 
going to be the easiest thing in the world for us to do. And so 
I think this was one slice. I think we will be focused on large 
corporations, and we will use a variety of tools to do that.
    Mr. Serrano. Well, that is very encouraging, and I thank 
you for those comments, and I thank you for that initiative. We 
will stay in touch on that, but it is encouraging to know that 
you understand the issues here for what they are and want to do 
something about them.
    Mr. Regula.
    Mr. Regula. I thought about how I went by an auto dealer 
the other day. They had a sign out: We will do your tax 
returns. Obviously, what they want to do is do the tax returns 
so they get the refund and sell you an automobile while they 
get that refund for you.
    Mr. Serrano. Really?
    Mr. Regula. I assume they have somebody doing it at the 
dealership. But it is interesting that they are into tax 
returns.
    Mr. Serrano. Don't ever get your tax returns done by your 
auto dealer. That is the only advice I can give.

                         NARCOTICS TRAFFICKING

    Mr. Regula. A couple questions. I notice the oversight 
board recommended a $24 million increase to enhance 
investigations of narcotics trafficking, and I think back that 
Al Capone was convicted by using the IRS code, rather than for 
killing people or whatever else he was involved in. Are you 
doing an adequate job of using the tools that you have on 
narcotics, in the narcotics area?
    Mr. Shulman. You know, I am not familiar with the narcotics 
area. Our Criminal Investigation division works on everything 
from counterterrorism to anti money laundering to narcotics to 
pursuing all of the criminal tax violations. I think we are 
asking for sustained funding for that division. I think that is 
important.

                        PROTECTING TAXPAYER DATA

    Mr. Regula. Another area of concern is identity theft. I 
think with the use of credit cards there's a growing problem 
with that. Do you feel that the IRS is adequate in its 
protection of very sensitive information that is contained on 
tax returns?
    Mr. Shulman. Um----
    Mr. Regula. And that is, again, a subject I assume is 
somewhat new to you at this point.
    Mr. Shulman. Protecting taxpayer data or protecting 
personal data is new to me at the IRS. We did examinations of 
brokerage firms in the past, and we had brokerage firm 
information, sensitive information. So I am familiar with the 
issues of data protection.
    What I would say is the IRS doesn't do it perfectly. There 
have been some recent reports that have pointed that out. This 
is hard for everyone to do. I know the IRS has made some 
progress. It has encrypted all laptops, which is a step 
forward. It is in the process of centralizing all of its 
information technology access, which will allow us to have 
clear protection, and we are reviewing everyone inside the 
agency who has access control.
    So we are basically saying, the presumption is you don't 
have access to a system until you prove that you need it; and 
every division is working through that right now.
    I also have a strong belief that data protection is as much 
about a culture as it is about firewalls and encryption and all 
the sophisticated language that we use.
    And something I am proud of, which we are launching right 
now, is Operation RED. We are taking every single IRS employee, 
all 100,000 plus, off-line for at least 2 hours so they may 
have discussions with their managers about what data comes in. 
What are you doing about it to protect it every day? It's not 
just about the procedures, because everyone is always getting 
e-mails about procedures, but to have a real discussion about 
it and to try to make it top of mind for every employee. They 
have a sacred trust with the American people and need to 
protect this data.
    My second week I actually filmed a video that every single 
employee is going to see, with me talking about how seriously I 
take this issue. I actually think that the IRS has a long 
tradition, because of taxpayer privacy rights, thinking about 
this issue, but since technology has changed we just need to be 
all over this.
    So I have every indication to believe when I came in Linda 
and Richard understood this issue and were focused on it and we 
are going to keep pushing. It is very hard to do. The private 
sector and the government are wrestling with these issues, but 
we are going to do what we can to make sure we are taking very 
seriously the protection of taxpayer data.
    Mr. Regula. Thank you.

                   TAXPAYER ADVOCATE SERVICE FUNDING

    The taxpayer advocate program has worked in Ohio in my area 
very effectively on behalf of people that use the service, and 
I notice there is a proposed reduction of $7.5 million below 
the current year. Do you think, in your opinion, the budget 
request is adequate to do the job on the Taxpayer Advocate 
Service?
    Mr. Shulman. Let me say a couple of things. One, I think 
the Taxpayer Advocate Service is an asset to the IRS and a good 
thing for the American people. I met twice with the current 
Taxpayer Advocate and plan to work with her going forward.
    I think these budgets are always a balance. The IRS has 
billions of dollars focused on taxpayer service. We do a lot of 
taxpayer service. The Taxpayer Advocate does some things. I 
wasn't there when this budget was put forward, but that balance 
was trying to be met.
    What I do know is over the last 2 years the Taxpayer 
Advocate Service budget has risen 9 percent. The IRS budget as 
a whole has risen about 7 percent. So I think it is important 
that we fund it well. I can't speak to the specifics beyond 
that.
    Mr. Regula. Well, I can only say my experience in Ohio 
works very well. It does provide the taxpayers a place to go 
for help if needed.
    Thank you, Mr. Chairman.
    Mr. Serrano. Thank you.
    Mr. Hinchey.
    Mr. Hinchey. Thank you very much Mr. Chairman.
    Mr. Shulman, thank you very much. It has been an 
interesting session here; and I very much appreciate the candor 
and the way in which you are effectively trying to deal with 
the situation, even though you have only been there a short 
period of time.
    One of the things I want to say, again, in gratitude and 
appreciation, is the way that the IRS has set up these helping 
operations, these offices, phone operations, to help people, 
particularly senior citizens, retired people who are interested 
in trying to qualify for the help that is coming in as a result 
of the stimulus package--my understanding is that just in New 
York alone there were 37 operations set up across the State. I 
think that was a very good thing to do, and I very much 
appreciate that being done.

        TAXPAYER COMPLAINTS AGAINST PRIVATE COLLECTION AGENCIES

    I want to talk a little bit more about the privatization 
action that is taking place; and I know that this is going to 
be the major focus of your attention, to make sure that it is 
working right and to even consider excluding it, as some of us 
have recommended.
    There were, according to my understanding, something in the 
neighborhood of five dozen taxpayer complaints against private 
collection agencies, including violations of taxpayer privacy 
laws. So there is a certain amount of uncertainty or 
unhappiness about that.
    I wonder if, not now but as a result of maybe some of the 
people who are with you here, they might be able to give us the 
number of actual complaints that came in as a result of the 
privacy operations and maybe even the amount of fines imposed, 
if there were any, on private collection agencies for taxpayer 
violations and the number of validated penalty cases and the 
overall number of taxpayer complaints that were filed against 
the private collection agencies.
    [The information follows:]

    Of the 108,905 cased placed with the private collection agencies 
(PCA's) though March 2008, the IRS has received 102 complaints, with 17 
of these received from or on behalf of taxpayers and the remainder 
self-reported by the PCA's. All complaints are investigated by both the 
IRS and the PCA's, with a validity determination made by a Contract 
Concerns Review Panel. There have been 5 validated complaints (0.005%). 
There are three categories of complaints, classified based upon the 
severity of the incident. Type One validated complaints involve 
inappropriate PCA employee behavior (rudeness, poor attitude). Type Two 
complaints involve intimidation, heavy-handed behavior, or similar 
activity rising above the level of a Type One complaint and bordering 
on a statutory violation. Type Three complaints involve a violation of 
statute or applicable law.
    There have been two validated Type One complaints which were not 
serious enough to warrant monetary fines; however, corrective actions 
were implemented. Three validated Type Three complaints have resulted 
in monetary fines totaling $10,000.
    Any validated complaint, IRS or contractor, is one too many. We are 
committed to improving the protection of taxpayer rights throughout all 
IRS programs.

                  AUTOMATED COLLECTION SYSTEM FUNDING

    Mr. Hinchey. Also, the Appropriations Act of '08, this 
appropriations bill requires the IRS to spend $7,350,000 to 
increase personnel in the automated collections system. I 
wonder if--I don't expect it now, but if you could look into 
that and inform us where the IRS is in implementing that 
provision and whether or not the managers statement which 
accompanied the bill urging the IRS to take the $7.35 million 
in funding from the private tax collection program, whether or 
not that actually occurred. That was in the managers amendment 
asking that that $7.35 million, which was put in the 
appropriations bill to upgrade the automated collection system, 
if that could be taken out of the private collection system.
    [The information follows:]

    We are on track to spend the $7.35 million increase for the 
Automated Collection System (ACS) functions as required by the FY 2008 
Consolidated Appropriations Act. We allocated the funding evenly 
between our Wage and Investment (W&I) and Small Business Self-Employed 
(SB/SE) functions and will be spent on new hires, overtime and support 
costs.
    In total, this funding equates to 126.5 FTE for ACS operations. We 
allocated 83.8 FTE to ACS and ACS Support hiring, and 42.7 FTE to 
overtime. We hired in eleven of the fourteen call sites and three of 
the four support sites. We started hiring in February 2008 and will 
complete the remaining hires June 2008. We based the new hire 
allocation on the sites' capacity levels and ability to recruit and 
deliver the training. We are using the overtime to provide training 
support and to work ACS inventory and correspondence.
    The following worksheet provides a breakdown by FTE and Dollars.


--------------------------------------------------------------------------------------------------------------------------------------------------------
                                FTE new hire        New hire cost          Overtime          Overtime cost          Total FTE         Total dollars
--------------------------------------------------------------------------------------------------------------------------------------------------------
SBSE ACS.....................            37.2            $2,008,800.00              12              $873,600.00            49.2            $2,882,400.00
SBSE ACS Support.............             9.3               502,200.00               4               291,200.00            13.3               793,400.00
                              --------------------------------------------------------------------------------------------------------------------------
                                         46.5             2,511,000.00              16             1,164,800.00            62.5             3,675,800.00
WI ACS.......................            29.8             1,442,863.00            21.4             1,498,000.00            51.2             2,940,863.00
WI ACS Support...............             7.5               363,137.00             5.3               371,000.00            12.8               734,137.00
                              --------------------------------------------------------------------------------------------------------------------------
    WI Subtotal..............            37.3             1,806,000.00            26.7             1,869,000.00            64.0             3,675,000.00
        Grand Total..........            83.8             4,317,000.00            42.7             3,033,800.00           126.5             7,350,800.00
--------------------------------------------------------------------------------------------------------------------------------------------------------

                              EXXON MOBIL

    Mr. Hinchey. And just finally, I would be very interested 
to learn what the tax amount was on the $40.6 billion that was 
earned by Exxon Mobil last year. I don't expect the answer now, 
Mr. Chairman, but if that number could be provided to us at 
some point soon we would appreciate it.
    [The information follows:]

    The Congressman is referring to the earnings reported by ExxonMobil 
for the year ending 12-31-07. Returns for last year won't be filed 
until September 2008, so the IRS does not have the data requested at 
this time. In addition, the IRS cannot respond to the request at the 
present time, since the IRS is prohibited from disclosing taxpayer 
information requested without proper authorization, pursuant to 
disclosure rules and privacy laws.

    Mr. Hinchey. Again, I want to thank you very much for doing 
this job and the confidence that we have in how much better 
this operation is going to work. Thank you very much.
    Mr. Shulman. Thank you.
    Mr. Serrano. On a personal note, I bet you that it was a 
large amount that they paid but probably a lower percentage 
than Mrs. Rivera paid in my district on her $25,000, maybe.
    One of the dangerous things, Commissioner, to do at a 
hearing like this is to praise you as much as we have.
    Mr. Shulman. It feels dangerous.
    Mr. Serrano. But there seems to be a sense in this 
committee that you are very interested in doing this in a very 
fair and balanced way. Does that sounds like a news station or 
something? And we appreciate that, and we hope that that 
continues. And we also commit ourselves to trying to help you 
in any way we can to do your job. And so I have a few questions 
that I will submit for the record.
    Mr. Regula. Same here.
    Mr. Serrano. And so will you and so will you.
    And we thank you for your testimony today. We thank you for 
taking Mr. Hinchey's tax return personally to handle for him, 
and we stay committed to helping you. And I personally thank 
you for no Boston Red Sox comments, as my colleagues like to 
make.
    Thank you so much. The hearing is adjourned.

     
    
                                         Wednesday, April 16, 2008.

                   SECURITIES AND EXCHANGE COMMISSION

                                WITNESS

CHRISTOPHER COX, CHAIRMAN

                  Chairman Serrano's Opening Statement

    Mr. Serrano. Good morning. The subcommittee will come to 
order.
    But before I do, Mr. Regula, I would like to ask you a 
question in public because you have been a chairman much longer 
than I have.
    When the Pope calls a meeting of Cardinals, am I supposed 
to show up?
    Mr. Regula. Absolutely.
    Mr. Serrano. Just checking.
    Mr. Regula. Let him know ahead of time, so he can deal with 
the problem.
    Mr. Serrano. Get used to me, right?
    I welcome you to this hearing on the Financial Services and 
General Government Subcommittee. Today the subcommittee will 
hear from the Chairman of the Securities and Exchange 
Commission, the Honorable Christopher Cox. Always nice to see a 
former colleague with us.
    Chairman Cox, welcome to the hearing. We are pleased to 
have this opportunity to discuss the fiscal year 2009 budget 
with you.
    The SEC is responsible for promoting investor protection 
and education as well as for overseeing the integrity of 
capital markets. These responsibilities are essential so that 
businesses have access to capital so they can grow, add jobs 
and contribute to the Nation's economic strength.
    The Commission's budget request for fiscal year 2009 is 
$913 million, which is $7 million above the enacted fiscal year 
2008 spending authority level. Part of this funding will be 
provided through $42 million of prior year balances, resulting 
in an appropriated level of $871 million. This modest funding 
increase is allocated toward the 2009 Federal pay raise as well 
as promotions and merit pay increases.
    However, this funding increase will not be enough to pay 
for all of the agency's salary needs at its authorized 
personnel level. To meet its salary requirements, the 
Commission is proposing to decrease its authorized number of 
full-time employees down to its actual fiscal year 2007 levels.
    This troubles me, as recent market trends have raised 
legitimate questions about the overall integrity of the market. 
It seems that a reduction in workforce at the SEC would send a 
signal that the government is not committed to the important 
goals of improving market structure and transparency. We want 
to be sure that you have enough people to accomplish your 
mission, and I will be interested in your comments on the 
staffing at the Commission.
    The SEC has been in the news a lot recently resulting from 
the Treasury plan for regulatory reform. This plan would 
dramatically change the structure of the SEC by merging it with 
the Commodity Futures Trading Commission. The subcommittee 
looks forward to hearing the Commission's response to this 
plan.
    And we welcome you today it, and we will remind you that 
your statement will be fully put in the record. You have said 
this yourself so many times, and we ask you to keep your verbal 
comments to 5 minutes so that we can drill you and grill you 
and put you through all kinds of terrible things.
    But a man who has never put anyone through anything 
terrible is Mr. Regula, our ranking member.

                     Mr. Regula's Opening Statement

    Mr. Regula. Thank you, Mr. Chairman.
    And as you know, Chairman Cox, recent events have put you 
in the eye of the storm. And people are having some misgivings 
as to whether there is adequate regulation in the market to 
protect the average investor. Bear Stearns of course is a 
classic where you go to $172 a share--thousand a share down to 
$2, ultimately $10.
    But I am sure you are challenged always to strike a 
somewhat delicate balance between regulating and letting the 
market work in a free way, which historically we have done. So 
I will be interested in your insights as to how we address that 
problem. I know that you have a somewhat limited budget number.
    And how do we go about restoring confidence? We went 
through this with Enron, Global Crossing, Arthur Andersen; the 
result was a doubling of your budget.
    As people understood it, the fragility of these 
institutions and now the temptation is to say, okay, we will 
just double the budget, and somehow this solves subprime and 
all the other problems go with it. So I am very interested in 
your comments. I think the chairman did a good job of 
summarizing the challenges that confront the Subcommittee.
    Mr. Serrano. Thank you. You are on.

                        Chairman Cox's Testimony

    Mr. Cox. Thank you very much, Chairman Serrano.
    Ranking Member Regula, Representative Kilpatrick, members 
of the subcommittee who are not here but represented 
undoubtedly by staff. I want to thank you for the opportunity 
to testify today about the President's 2009 budget request for 
the SEC.
    To answer directly your question, in return for the SEC's 
not quite $1 billion budget, the taxpaying public is getting 
significant value. The SEC oversees the nearly $44 trillion in 
securities trading every year on America's public equity 
markets; the disclosures of almost 13,000 public companies; the 
activities about 11,000 investment advisors; nearly 1,000 fund 
complexes and 5,700 broker dealers. And the Commission is 
active on a number of other fronts: working to protect 
investors, promote capital formation and foster healthy 
markets.
    The SEC is pursuing wrongdoers in all corners of the 
securities markets while applying enforcement resources to the 
areas of greatest risk for investors. The Enforcement 
Division's subprime working group is aggressively investigating 
possible fraud market manipulation and breaches of fiduciary 
duty. The SEC is also investigating insider trading; wrongdoing 
in the municipal bond market, Internet and microcap; fraud and 
scams against seniors.
    In our most recent year, we brought the highest number of 
corporate penalty cases and the second highest number of all 
enforcement cases in the agency's 74-year history. In the 
current fiscal year, the Commission has already broken the 
record for the largest penalty ever assessed against an 
individual defendant when the former CEO of United Health paid 
over $600 million to settle charges related to options 
backdating.
    Through our Office of Compliance, Inspections and 
Examination, the SEC is aggressively using a risk-based 
approach to our program of regular examination of securities 
firms. Those examinations are focused on the firms' controls 
over valuations; their controls to prevent insider trading; the 
procedures they have in place to protect seniors in our 
markets; and the adequacy of the firms' compliance programs to 
prevent violations of the securities laws.
    The SEC is also working closely with our fellow regulators 
to promote the fairness and stability of the markets. Under a 
recently concluded Memorandum of Understanding with the CFTC, 
we have established a formal cooperative process to better 
regulate today's increasingly interconnected markets.
    The SEC has immediately acted to implement the new 
authority from Congress in the Credit Rating Agency Act. Under 
this new authority, the Commission is conducting inspections of 
rating agencies to evaluate whether they are adhering to their 
published methodologies for determining ratings and managing 
conflicts at interest. Very soon this year, the Commission will 
formally consider new rules to regulate credit rating agencies 
that build on the lessons learned from the subprime market 
turmoil.
    To anticipate future problems, we are more than doubling 
the size of the SEC's Office of Risk Assessment. It will help 
staff throughout the Commission look around corners and over 
the horizon to identify potentially dangerous practices before 
they impact large numbers of investors and the economy as a 
whole.
    The failure of Bear Stearns has brought to the fore the 
regulatory gap in the supervision of investment banks. Although 
Federal law provides for the supervision of commercial banks, 
no such scheme exists for the largest investment banks. The 
Commission created the Consolidated Supervised Entities program 
to fill this gap. Without this voluntary program, there would 
have been no consolidated information available to regulators, 
including the New York Fed, when Bear Stearns precipitously 
lost liquidity in mid-March. While the CSC program is at 
present voluntary and receives no dedicated funding from 
Congress, we understand that Congress may be acting to fill 
this gap.
    The Commission has also taken additional steps to safeguard 
investors and protect the integrity of the markets in short 
selling transactions, by proposing a rule that would specify 
that abusive naked short selling is a fraud.
    Since the SEC first received authority under the Sarbanes-
Oxley Act to use Fair Funds, we have returned a total of more 
than $3.7 billion to wronged investors. We expect to distribute 
another $1 billion in the next 6 months alone.
    The SEC is also building on its growing success in 
returning funds to harmed investors by creating the Office of 
Collections and Distributions to professionalize this task. We 
are also using a new computer tracking system, called Phoenix, 
to speed up the return of funds to investors and a new agency-
wide enforcement database called The Hub.
    The SEC's efforts in the international arena have by 
necessity been a key focus of my chairmanship. The world's 
regulatory and enforcement authorities are finding that we have 
to collaborate if we hope to protect our own investors. 
Accordingly, the SEC is working closely with our international 
counterparts to monitor the markets and pursue fraudsters 
wherever they may run. We are also exploring the idea of mutual 
recognition among a very few high-standards countries with 
robust regulatory and enforcement regimes.
    In recognition of the interconnectedness of global markets, 
the SEC will continue to expand our own expertise in IFRS and 
explore additional ways that U.S. investors might benefit from 
increased comparability using a high-quality international 
standard.
    After years of experience through the SEC's voluntary 
interactive data pilot program, the Commission will consider a 
rule in 2008 that requires the use of interactive data to give 
investors the ability to easily find and compare key data about 
the companies and the funds in which they invest.
    There are other investor-friendly improvements in store for 
mutual fund disclosure. In the coming months, the SEC will 
consider authorizing mutual funds to issue a summary prospectus 
that will present key facts about the fund up front with more 
detailed information available for investors on the Internet or 
in paper on request. These improvements build on the resounding 
success of our comprehensive enhancements to the disclosure of 
executive compensation, which took effect last year.
    Mr. Chairman, these are only some of the highlights of what 
the SEC has recently been focused on and what we have planned 
for the coming year. The agency's mandate is as broad as it is 
important to America's investors and to our markets.
    The budget request for fiscal year 2009 will allow the SEC 
to continue to aggressively pursue each of these ongoing 
initiatives on behalf of investors as well as to address new 
risk areas as they emerge. The request will allow the SEC to 
fully maintain our current program of strong enforcement; of 
risk-based examinations and inspections; our disclosure review 
program for America's public companies and mutual funds; and 
our extensive rulemaking agenda across a wide array of 
regulatory topics.
    I want to thank you for this opportunity to discuss the 
SEC's appropriation for fiscal year 2009, and, on behalf of the 
over 3,600 men and women at the SEC, I want to thank you and 
this subcommittee for the support that you have so well 
provided over so many years for these vital efforts.
    I look forward to continuing to work with you. And I would 
be happy to answer your questions.
    [The information follows:]

     
    
                    TREASURY REGULATORY REFORM PLAN

    Mr. Serrano. Thank you so much for your testimony.
    As we all know, Chairman Cox, last month the Treasury 
Department issued its plan to dramatically overhaul the entire 
financial regulatory structure. One of the key proposals 
highlighted in this plan is the merging of the SEC and the 
Commodity Futures Trading Commission, CFTC.
    Chairman Cox, was the Commission consulted during the 
development of this plan? Has your agency developed an official 
response in favor or against the Treasury plan?
    Mr. Cox. The Treasury plan was the Treasury plan. It was 
not a product of the President's Working Group on Financial 
Markets, of which the SEC is a member. It was, rather, the 
effort of the Department, and I think the Secretary personally, 
to set out a vision for how things might be different in the 
future and to challenge the status quo. I think, in part to 
achieve that objective, it was deliberately not a consultative 
process. It was not a committee process. The SEC was certainly 
aware that this was going on. And we have discussed in other 
fora the possibility of better integrating the balkanized 
financial regulatory structure in the United States. But, to 
directly answer your question, this was a Treasury product, and 
the SEC was not part of its preparation.
    With respect to the specifics of a CFTC-SEC combination, it 
has been advanced by people over a number of years. For 
example, former Chairman Arthur Levitt wrote an op-ed in The 
Wall Street Journal, I believe it was last year, urging this 
combination. Since the Treasury report, he has said that there 
is a right way and a wrong way in his view to do this and that 
it matters greatly how it is done. But I would simply observe, 
as a former Member here, that there are serious jurisdictional 
challenges for Congress in what is obviously a legislative and 
not an executive initiative. If that merger were to occur, it 
would have to be done by legislation.
    From an authorizing standpoint, jurisdiction over the SEC 
rests with the Financial Services Committee in the House. 
Jurisdiction over the CFTC has existed with the Agriculture 
Committee for many years through many administrations. That 
jurisdictional divide has presented a significant barrier to 
consideration of legislation of that kind.
    Mr. Serrano. So you feel that it has to be a congressional 
decision?
    Mr. Cox. Indeed, I would say that about the entirety of the 
Treasury proposal. There is one item in the entire blueprint 
that is susceptible of being accomplished by executive action, 
and that is an initiative of the President's Working Group. 
That can be done by executive order. Everything else is 
entirely a legislative proposal.
    Mr. Serrano. All right. It is interesting, just for the 
information of the members of the committee--Mr. Regula knows 
this already--but the only difference between the Senate 
Financial Services Appropriations subcommittee and our 
subcommittee is that the commodities in our jurisdiction exists 
in the Agriculture Subcommittee of Appropriations. Whereas Mr. 
Durbin's committee, Senator Durbin's committee in the Senate 
includes it already. That is the main difference. So it has an 
effect on this subcommittee. But certainly that is not what we 
should base the decision on.
    So unless I didn't hear right, you didn't tell me you are 
supporting the merger.
    Mr. Cox. Well, I think----
    Mr. Serrano. Or has it reached that point yet? It has been 
presented by Treasury.
    Mr. Cox. Well, I think, first, the merger of the CFTC and 
the SEC is something that is far beyond the capacity of the 
Chairman of the SEC or the SEC as an agency or the executive 
branch in its entirety to accomplish. It is solely up to the 
Congress to do that. So, I mean, I suppose I can tell you that 
I think it would be very wise for the Congress to take a look 
at how better to integrate our financial services regulation. 
But beyond that, unless the Congress wants to initiate this, it 
is not possible for me, as Chairman, to undertake it.
    I will tell you that I have recently executed a Memorandum 
of Understanding with the CFTC that takes the landscape as it 
presently exists and makes it work. It puts a little grease in 
the gears so that, while they do their job under their 
statutes, their rules and their approach, and we do ours under 
ours, it makes sense. But as you know, options and derivatives 
can compete head to head.
    Mr. Serrano. Right. But just one last comment on this. If 
it reaches a point where it is before Congress and you are 
asked about this, what would be your answer?
    Mr. Cox. It would be entirely dependent on the how. But I 
would be at a very broad level supportive of closer 
integration, not just of regulations and derivatives and 
options, but commercial and investment banking across the 
board. We have in this Nation a lot of different regulators for 
things in the marketplace that become very much intertwined.

                         FTE ISSUES AT THE SEC

    Mr. Serrano. Chairman Cox, since fiscal year 2008, the SEC 
has had some form of performance-based pay system. The goal of 
these performance-based systems is to stimulate retention and 
recruitment so that the highly qualified workers at the SEC and 
the best and brightest college graduates that the Commission 
recruits are not as enticed by the greener pastures of the 
private sector.
    In recent years, however, the SEC has not fully budgeted 
for the increases needed to adequately pay the salary increases 
that were earned by their employees. In fact, the SEC has seen 
an uptick in attrition during this time period. This year's 
budget request only includes a 2 percent increase over what was 
approved in 2008. It is very unlikely that this level will 
provide the Commission's employees the pay increase they 
deserve.
    So my question is, at a time when we need a strong 
workforce at the SEC to maintain and improve the integrity of 
the securities markets, why is the agency putting itself in the 
difficult situation of risking the loss of its best employees 
in order to save a few dollars?
    Mr. Cox. Mr. Chairman, for the coming year, the budget that 
we are submitting assumes that the SEC will offer merit raises 
and COLAs equal to an average of about 4.5 percent. And that 
puts us at parity with other financial regulators against whom 
we compete in the Federal Government.
    We also offer a competitive compensation package across the 
board. We offer some things that others don't. We provide 
health and vision and dental benefits, the latter two which the 
SEC pays for in its entirety, that others do not. We just 
opened a Cadillac of a child care center, which I am very proud 
of. It has been one of my initiatives as Chairman. That really 
contributes to the quality of life for employees with families 
at the SEC. And we have currently been rated one of the top 
places to work in the Federal Government, number three in the 
last year.
    So I think that we are doing everything necessary to make 
sure that the SEC continues to set the pace for being the best 
place to work in the Federal Government.
    Mr. Serrano. Well, obviously, we respect your comments and 
your knowledge on the issue. But I have to tell you that on 
this side of where we are sitting today, there seems to be a 
sense that maybe not enough is being done to protect your 
workforce and to retain the folks you have now and to make sure 
you can recruit the people you need. And again, as we get into 
this situation that we are already in to a certain extent, you 
will be looked at, the Commission will be looked at, to provide 
assistance and commentary in how we deal with this crisis. I 
was going to say looming crisis, but the crisis may be here 
already. So please understand that it is not our intent to 
banter you about the issue, but there is a sense on this side 
of the table that we are running the risk of losing good people 
and not getting the opportunity to bring some bright folks into 
the Commission.
    Mr. Cox. Well, that is why you have me here to ask me 
questions and share the data. I will just start by observing 
that we are, in terms of turnover, at 25 percent lower rates of 
turnover than were common during the 1990s. Turnover is now, 
you know, historically low. And from 2006 to 2007, the most 
recent year, it went down. So I think we are in very, very good 
shape. Experientially, in terms of whom one can attract to work 
at the SEC, the quality of people that come to our agency and 
that dedicate their lives and their careers to it is just 
absolutely striking and extraordinary. So we have absolutely 
the best people at the SEC that the country can offer. And you 
know, this is sometimes not the case in the Federal Government 
where you have to compete against the private sector. But, not 
only do we go toe to toe with the private sector, but when 
people do leave the SEC, they are recruited to the very top 
ranks of the private sector and not because of their contacts 
with government but because of their skill and experience.
    Mr. Serrano. Thank you.
    Mr. Regula.
    Mr. Regula. Thank you, Mr. Chairman.
    And I do note that you have been rated very high as a 
desirable place to work. And I think you have some unique 
authority on matters of benefits and wages as compared to other 
government agencies, which has enabled the SEC to attract top-
rate employees.

                           SUBPRIME MORTGAGES

    Question, what was the role, if any, of the SEC in the 
recent meltdown of the subprime activities which caused bank 
stocks to take a real hit? And it certainly has, to some 
extent, eroded investor confidence. Was there an SEC role? If 
so, what was it?
    Mr. Cox. Most certainly. We are not the frontline 
regulators for lenders, of course. And that is where the 
problem started, with a deterioration in underwriting standards 
for loans, which you are all too familiar with from your work.
    Mr. Regula. But that started at the root. The cause was a 
collateralization of these subprime mortgages were made into 
financial instruments.
    Mr. Cox. Yes, the securitization of those loans then had 
that problem bleed into the securities markets. The rating of 
the packages by the rating agencies was a contributor to this 
problem. Congress wisely, with uncommon foresight--usually we 
find that we are passing remedial legislation after the fact 
when it is too late--just completed work on the Credit Rating 
Agency Act and gave the SEC the authority to go in and 
regulate. So we don't need to write new legislation. We have 
brand-new legislation. We worked very, very fast so that, at 
the first opportunity, we put rules in place and then started 
inspecting these rating agencies. We have been in with the 
credit rating agencies examining them for some months now. That 
will inform our rule writing this year. So that is a piece of 
it that the SEC did not have but now does, and we are using 
that authority very, very aggressively.
    With respect to the large investment banks, as I mentioned, 
our Consolidated Supervised Entities program was being put 
together when I first came to the Commission. It is a voluntary 
program. It doesn't exist in law. I believe it should. But 
thank God that that program existed because then, when the Fed 
needed to go into Bear Stearns and look at what was going on, 
there was a history of at least a few years of Bear Stearns 
having to compute at the consolidated level for the whole 
entity, not just the regulated broker-dealer subsidiary that we 
have authority over, their Basel capital ratios and so on.

                  SEC AND FEDERAL RESERVE AUTHORITIES

    Mr. Regula. Does the Fed and SEC have corollary authority? 
Or do they each have a niche in this regulatory structure?
    Mr. Cox. Well, the Fed is traditionally a bank regulator.
    Mr. Regula. Right.
    Mr. Cox. And post-Gramm-Leach-Bliley, we have a regulatory 
gap. We don't have in law a program of consolidated supervision 
for investment banks, and we need one.
    Mr. Regula. You will in the future?
    Mr. Cox. That is up to the Congress. We have a program, 
just to be very clear, at the SEC, the Consolidated Supervised 
Entities program, that we created as it were out of thin air. 
It is built on the slender reed of an exemption from the net 
capital rule. The reason that I think there was largely take-up 
among the major investment banks in this voluntary program is 
that, if the United States did not offer something like this, 
Europe was going to. Probably what the firms would have done, 
although we won't know for sure, in that circumstance is that 
they would have perhaps ring-fenced their operations in 
Europe--separately set up European operations and consolidated 
supervision by the European regulators, and then we would have 
had no consolidated supervision whatsoever of the consolidated 
entity.
    So I think it is vitally important that there be 
consolidated supervision of the large investment banks, and it 
is something that, post-Bear Stearns, has gotten your attention 
in Congress.

                         BEAR STEARNS COLLAPSE

    Mr. Regula. Are we gaining understanding as a result of 
Bear Stearns, which was the most visible evidence of this, as 
to preventing these things from happening in the future?
    Mr. Cox. No. There is no question that an important lesson 
was learned in the Bear Stearns debacle. And that is that 
short-term secured funding can be a significant risk factor.

                         SOVEREIGN WEALTH FUNDS

    Mr. Regula. A couple of other things. What is the role of 
sovereign wealth funds as investors in the U.S. financial 
markets, and they are more and more in our marketplace? Is this 
a cause for concern? And will it affect governance and 
corporate governance in the United States?
    Mr. Cox. Sovereign wealth funds and other large private 
investors that are generally lacking in transparency challenge 
our regulatory system in a number of ways. As a matter of 
national policy, the Treasury just made it very clear that the 
United States welcomes this type of investment. Our markets are 
open to all forms of foreign investment.
    At the same time, at the Securities and Exchange 
Commission, our approach is to treat sovereign wealth funds the 
same way in which we would treat any large nonpublic investor. 
We have challenges that are somewhat unique in the case of 
sovereign wealth funds, however, such as the fact that, whereas 
normally we would ask for enforcement cooperation from the 
sovereign, if the investor that we might have an enforcement 
concern with and the sovereign from whom we have asked for 
enforcement assistance are one and the same, you can see the 
conflict of interest.

                   U.S. FINANCIAL MARKETS CHALLENGES

    Mr. Regula. What do you see as the biggest challenges 
facing U.S. financial markets? And how do you see the SEC 
adapting to build future investor confidence.
    Mr. Cox. Well, the SEC comes at that question from the 
investor standpoint. It probably matters where you get on the 
circle. They are all related answers. But if one tackles that 
question from the investor standpoint, then the rest of your 
question is extremely relevant. It is all about market 
confidence. People, not just in this country but around the 
world, put their money where they think it is going to be safe, 
first, and, second, where it can earn a fair or perhaps an 
impressive return. They want to make sure that they have the 
rule of law, predictability, sound and orderly markets and so 
on. That is the part that the SEC provides. So it is vitally 
important, as our markets become increasingly interconnected, 
that the United States play to its strengths, that we align 
ourselves with other high-standard countries and that we not 
join in a race to the bottom because that is not America's 
comparative advantage, and we would lose that race.

                             PENSION FUNDS

    Mr. Regula. Well, obviously a great chunk of pension funds 
are invested in the market, and therefore, the individuals who 
are depending on the financial security of their pension funds 
ultimately tracks back to SEC, I think, in ensuring that these 
funds are invested in what would be a stable market. Is this a 
concern? And is this something that is part of SEC's mission, 
to give the John Q. Public a sense of security that his pension 
fund is going to be there when he needs it?
    Mr. Cox. Orderly markets are at the center of the SEC's 
mission.

                            ORDERLY MARKETS

    Mr. Regula. The SEC was created in the absence of orderly 
markets, wasn't it, back in the 1930s?
    Mr. Cox. Yes.
    Mr. Regula. I think Franklin Roosevelt said we have to do 
something about this.
    Mr. Cox. In fact, our three missions are investor 
protection, orderly markets and capital formation. Those three 
are highly complementary.

                     MARKET SECURITY AND STABILITY

    Mr. Regula. Well, I have a lot of questions for the record, 
but is the present environment conducive to capital investment 
and a sense of security? Because moneys have to flow from many 
different sources to build our industrial and our business 
structure.
    Mr. Cox. Well, I think it is a testament to the strength of 
the U.S. market and the resiliency of our economy that, despite 
all of the shocks that we have been through, including record 
high oil prices and other commodities prices, tax increases on 
the horizon and subprime crises and so on, equity values, 
although there is a great deal of volatility in the market, are 
remaining fairly constant.
    Mr. Regula. Well, I see the Dow Jones keeps kind of 
fluctuating where they are trying to decide whether the market 
is stable.
    Mr. Cox. Well, that is right. There is a good deal of 
volatility now. And, of course, the market is off significantly 
this year. So while we are stable, I think, from a standpoint 
of investors, the best investor protection is a rising market.
    Mr. Regula. A lot of 401(k)s riding on that.
    Thank you, Mr. Chairman.
    I will have some questions for the record.
    Mr. Serrano. Thank you.
    I was going to ask the Chairman if the Yankees were still a 
better investment than the Red Sox. But I don't want him to 
break my heart on national television. So I won't ask.
    Ms. Kilpatrick.

                SEC'S RELATIONSHIP WITH OTHER REGULATORS

    Ms. Kilpatrick. Thank you, Mr. Chairman.
    Good to see you again, Chairman Cox.
    Interesting discussion, and you are very calm in light of 
what I see as a very unstable financial market. Probably in the 
world because we do contribute to much of that, everyone looks 
at the U.S. in terms of the world market and how we are doing, 
which is why I see much of the instability that we are 
witnessing today. I have a couple of questions, and I love the 
ranking member's dialogue as he was taking us through it 
because one of the things, when he talked about Bear Stearns 
originally, early March, and JP Morgan buying them out, $30 
billion by the Fed, and then it ended up at the end of March at 
$2 a share. I think they settled at $10 and that JP would take 
$1 billion of that loss, and the Fed would take $29 billion, 
give or take something, still the $30 billion.
    It is amazing to me, and I am a retired investor in much of 
that system, so I watch it regularly. Thought I could retire 
early, and I will have to work 5 or 10 more years, as it goes, 
as it is spiraling. I am concerned that we have helped Bear 
Stearns. I believe that--I used to be a high school teacher 
many years ago--and taught how stable it was and how it kept 
the rest of the country strong. Today I am not so sure. And 
with some of the other financial institutions having the 
problems that they are having and then going to the market and 
having China and India and Singapore and others buy them or 
save them--save them would be better--I am concerned about what 
that means for our children and my grandchildren as well as our 
economy as a whole. And as the SEC looks at it, and you talked 
about the regulatory gap, and I honestly believe there is one, 
I am not sure what it ought to be and how we can bring it 
together to make it more sound and perfect and healthy for our 
nation as well as for our investors. And I hope you will come 
to that.
    You also talked about a race to the bottom, which I don't 
want to put in the universe right now because we are not there; 
we are not going to be there, and we are going to stay up high. 
I believe that because we are the strong country that we are.
    But with foreign investment buying up much of our, not only 
real estate and housing, you also mentioned short-term secured 
funding, which is what a lot of Bear Stearns and other banks 
rely on, mortgages in this instance. What do we see? Give us a 
picture. I want to hear from you. You are the professional on 
this. And as we go back and talk to our institutions as well as 
our constituents, they really want to know. And I know you 
don't have a crystal ball. You can't really predict this. But 
as it goes now and as we have been seeing all of this year and 
really at the end of last year, what can the SEC do in 
partnership with the Fed? And what is that relationship between 
the Fed and the SEC? Separate of course, both in Treasury. How 
do you work together? How do you save America's financial 
institutions and investors at the same time? By doing what?
    Mr. Cox. Well, increasingly, as commercial banking and 
investment banking, and as securities products and derivatives 
products all start to become of interest to investors from an 
economic standpoint and compete against one another to be 
substitutable, regulators that decades ago used to have very 
well-defined, if you will, stovepipe functions are now forced 
into one another's arms. And I should add that this isn't just 
true in the United States. It is also true overseas. Almost 
everyone here today, if you have any kind of a mutual fund or a 
retirement plan of any kind, probably is invested in foreign 
equities and foreign securities as well as domestic ones in 
that way, and you might have chosen to do that even directly on 
your own.
    The fact that there is so much cross-border trading now has 
forced the United States and regulatory counterparts overseas 
also into one another's arms. We have to work together and 
collaborate as never before. What will provide the confidence 
that every single individual investor needs to put their money 
in the market is a sense that in this country and abroad--it is 
increasingly necessary abroad--there is a rule of law and there 
is a certainty and a predictability to the rules that they can 
rely upon. We will never erase the risk that is inherent in 
what we call a security because the prices will go up and down. 
That is part of the arrangement. But we can take away the risk, 
or at least we can minimize it, that the system itself is 
somehow not on the level. And we want people to be very, very 
highly confident that the system is set up to protect them.
    And that also extends, I should add, to disclosure. The SEC 
administers a rather elaborate system of disclosure to put 
information out there so people can make up their own minds. 
That is really important for the market to work. Information is 
really the oil that greases the wheels in the market.
    Increasingly over the last many decades, I think that 
disclosure has been junked up with a lot of people writing, as 
it were, an insurance contract for themselves to cover their 
own assets but not with a view to inform investors and making 
the information accessible to them. So a lot of our initiatives 
at the SEC are aimed at making that big investment that public 
companies make in disclosure more useful for individual 
investors and for the marketplace.

                    BUDGETARY AND LEGISLATIVE NEEDS

    Ms. Kilpatrick. So does the SEC have what it needs to do 
what you just described? Or are you recommending or will you 
recommend that Congress take further action? It is a global 
market. It has been heading that way for the last couple 
decades. We seem to be spiraling down; others spiraling up. Do 
you have what you need in terms of law and policy, 
administrative rule that will keep us strong?
    Mr. Cox. The budget that we are proposing this year for the 
SEC will be the largest in the agency's history, and it will be 
the second year of rising budgets after 3 years of flat 
budgets.
    Ms. Kilpatrick. Sometimes it is not budgetary, because you 
get most of your operating money from fees. So if we are just 
giving you under a million, you will handle the $44 trillion in 
securities. Do you have enough wherewithal, legislative power 
as well as other things, with the world market changing, should 
we be doing something different than we did in 1930 or 1940? Is 
the market now--because it is different and you are the 
professional here, we need some help.
    That click there, one last question, sir, may I?
    Mr. Cox. Just to be clear, I want to say that our budget is 
entirely appropriated. We do not get to use the fees that we 
collect. So the budget that I am submitting to you, the just 
under $1 billion budget.
    Ms. Kilpatrick. $913 million.
    Mr. Cox. That is the real number.
    Ms. Kilpatrick. All right. So you didn't understand my 
question then. Is SEC as strong as it possibly can be in terms 
of the global economy and the world that we live in?
    Mr. Cox. The SEC is exceptionally strong. We are doing the 
job I think better than ever before. There is nearly unlimited 
opportunity for us to do more. The markets are vast. But, given 
that we are making choices and we operate in a world of finite 
resources, by asking for the largest budget that the SEC has 
ever had, I think we are putting ourselves in a position to do 
the job well.
    Ms. Kilpatrick. Thank you.
    Mr. Serrano. Thank you.
    Mr. Bonner.

               IMPACT OF SARBANES-OXLEY ON SMALL BUSINESS

    Mr. Bonner. Thank you, Mr. Chairman.
    Chairman Cox, welcome. I must confess that I was telling my 
10-year-old son, who lives in Alabama, that I was coming to 
this hearing today, this morning when I was wishing him well as 
he went off to school. And he said, ``Well, who is coming 
before the committee?'' And I said, ``Well, the Chairman of the 
SEC.'' And while this is a baseball, and Yankees predominantly, 
committee, in Alabama, he was thinking I was talking about the 
commissioner of the Southeastern Conference. So he will be 
disappointed that I don't have that opportunity.
    Mr. Cox. You won't be surprised to know the same thing has 
happened to me.
    Mr. Bonner. We all recognize the need for the reforms that 
came about as a result of Sarbanes-Oxley. But there are many 
small- and medium-sized public companies that have been hit 
with unnecessary and expensive regulatory requirements as a 
result of that legislation. What steps could the Commission 
take to address some of these problems? And how quickly do you 
think that it could be done?
    And also, if it were to require legislation, would you be 
willing to submit that or work with Congress to help enact such 
legislation?
    Mr. Cox. When I first came to the Commission 3 years ago, 
compliance with Sarbanes-Oxley, section 404, was a major 
irritant across, in particular, the smaller public company 
regulated community, but really across the markets as a whole. 
And there was great concern, not only in this country but also 
abroad.
    I have met extensively with Members of Congress to 
formulate a plan of attack to solve that problem. And, with a 
great deal of support in the House and in the Senate, we 
overhauled completely the audit standard that the Public 
Company Accounting Oversight Board was using for 404 
compliance. We also introduced the first ever management 
guidance so that the companies in their own assessments would 
not have to rely on the very elaborate, extensive and 
complicated guidance that had been given for auditors. That new 
guidance and the new audit standard are now in place. So this 
will be the first year that we will see whether or not the 404 
process is efficient as we expect it to be.
    When Congress wrote that provision of Sarbanes-Oxley, as I 
well recall because I was a Member of the House-Senate 
conference committee, no one expected that it would be a poster 
child for waste and inefficiency. Everyone wanted to get the 
benefits of strong internal controls for the benefit of 
investors. So that is the object.
    We want to get the benefits that were intended by Congress 
but not all of the waste. And to make sure that smaller public 
companies don't have to be a guinea pig as we try out what we 
would expect to be the vastly different, more efficient 
approach, we have postponed for another year their compliance 
with the audit portion of section 404(b). And the SEC has 
undertaken a very formal study of the costs this year, in the 
first year of the new procedure. That will then inform our 
determination of how to proceed at the end of this year.

                         CURRENT MARKET STATUS

    Mr. Bonner. Thank you. To follow up on the line of 
questioning the vice chairwoman and the ranking member had for 
you, I noted in your biography that when you served in 
President Reagan's administration, one of the things that you 
advised the President on was the 1987 stock market crash. And 
since there is so much concern about consumer confidence is not 
strong and there is a lot of concern about the economy, I know 
you are not the Chairman of the Federal Reserve or the 
Secretary of the Treasury, but from the position you sit on and 
with your historical perspective and knowledge, fundamentally 
is the market strong, weak, sound? How would you describe it?
    Mr. Cox. Well, long ago, it was appropriately noted that 
the market will fluctuate. In these days, it is fluctuating. I 
think that is going to continue. The question of the market's 
strength ultimately is and should be connected to the Nation's 
economic strength. I think our market should be and generally 
is a good reflection of that at any moment because I strongly 
believe in the overall sustenance of the American economy. I 
think it is a good bet for the long term to invest.
    What the SEC is responsible for, however, is not the 
prevailing price level in the market but rather the rules of 
the road so that the price discovery works. And we are 
doubling, as you might imagine, our efforts on the enforcement 
side, on the regulatory side. I mentioned credit rating 
agencies here, and there are other important initiatives 
relating to these current topics, so that everyone can take 
away confidence that the rules of the road are sound and 
security will be enforced.

                             FTE REDUCTION

    Mr. Bonner. And the chairman and the vice chairwoman both 
focused on whether you have the staff and the tools that you 
needed to do the work. And I noted that the SEC budget more 
than doubled since fiscal year 2001. But what considerations 
led to your decision to request a less than 1 percent increase, 
eliminating 97 positions? And what positions would be 
eliminated? And how were those chosen?
    Mr. Cox. Well, first, you need to understand that we are 
talking about FTEs, full-time equivalents. In real life, what 
happens is that we don't have FTEs working for us. We have real 
people. And so as always there is a difference between the 
authorized level, the number of slots and actual people that 
you have working. There is normal turnover. People, some of 
them sometimes die. Sometimes they leave and go on to other 
things. New people join and so on.
    What we are talking about doing in real life is actually 
slightly increasing the number of human beings that work at the 
SEC compared to last year.
    Mr. Bonner. Thank you, Mr. Chairman.
    Mr. Serrano. Thank you.
    Mr. Cramer.

                    TREASURY REGULATORY REFORM PLAN

    Mr. Cramer. Thank you, Mr. Chairman.
    Welcome back, Chairman Cox. We are glad to see you here. We 
have enormous respect for your role there at the SEC.
    I want to make reference to, Secretary Paulson a few weeks 
ago announced the biggest overhaul of the financial regulations 
since the Depression, and there has been reaction and 
commentary. I am referring right now to an AP story that looked 
or reacted to that plan, that proposal. And it seemed to be 
evaluating whether the power and authority of the SEC could 
diminish as a result of that plan. So I would be curious, I 
know Kathy Casey is one of your Commissioners for whom I have a 
lot of respect, and I have known her since she was at the 
Senate Banking Committee, seemed to be carefully defensive or 
clear to say that your regulations would not be affected and 
that investors would be protected under this planned plan and 
that your regulatory approach is really not different from the 
principles-based philosophy recommended in Paulson's proposal. 
So, for the benefit of investors, particularly small investors, 
I would like for you to give us some insight as to your 
reaction of that plan, your participation in that plan, and if 
in fact the SEC's role could be diminished.
    Mr. Cox. Let me pick up where I left off. We had a brief 
discussion in my colloquy with the Chairman on this topic. As I 
mentioned, the Treasury proposal is a Treasury proposal. It is 
meant I think to stimulate discussion and thought. And it has 
as its major premise the notion that there is a balkanization 
of regulation of financial services in the United States today. 
I agree with that major premise. I think we can do a much 
better job. And in this respect, I may be wearing my U.S. 
Government hat or my former Congressman hat as much as my SEC 
hat.
    But if you are looking government-wide, there is a better 
job that we can do at coordinating the regulation of the 
financial services and products that today are much more 
integrated than when we first came up with these legislative 
schemes. One of the things that we do at the SEC is try to 
stretch the Investment Company Act of 1940 to cover today's 
mutual funds and their competition with ETFs. None of this was 
really imagined when the law was written, and it gets 
increasingly harder with every passing year.
    But with respect to the particulars, it is important to 
recognize not only that this is a Treasury proposal, not an SEC 
proposal or Fed proposal or anything collaborative in that 
sense, but also that it is 100 percent a legislative proposal. 
So whether you go with the three-pot approach in that blueprint 
or twin peaks approach that others have adopted or the unified 
approach that some have recommended, there is an awful lot 
there for the Congress to chew on. And it would be entirely 
your choice how to do it.
    Then you get into some of the fine print, the detail, such 
as, do we want to be more principles-based or rules based? And 
that discussion to me has always reminded me of the old beer 
commercial, ``Tastes great. Less filling.'' How one comes down 
on the question of whether you want to be more principles-based 
or more rules-based is something of a Rorschach test. In a 
principles-based system, or at least a system that wishes to be 
called that, such as the U.K.'s system, they actually have a 
big rule book that sits behind their principles. We, on the 
other hand, have a lot of detailed rules that everyone is aware 
of, but we also have some pretty broad principles that we like 
to put into effect. We start out with very sturdy notions of 
investor protection and orderly markets and the promotion of 
capital formation that I hope that ultimately our rules always 
build towards.
    So I don't know that calling yourself one or the other is 
going to help resolve what ultimately would be very difficult 
questions of implementation. There are different marginal rules 
that apply for derivative products on the one hand and options 
on the other. At some point, whether you call it principles-
based or rules-based, somebody in Congress, if you were going 
to merge those things, will have to say, here's how it is going 
to be done. Those are tough questions. And apart from the 
jurisdictional divide that I mentioned earlier, if some day 
there is a conference committee hammering those things out, you 
are going to need the future Kathy Caseys of the world to sort 
this out.
    Mr. Cramer. Thank you. I think that is part of my point. 
This is a little overwhelming, and it is extremely important 
that we get this right, especially in the context of the 
problems of today. So I appreciate that comment and further 
information.
    Thank you, Mr. Chairman.
    Mr. Serrano. Thank you.
    Sen'6or Kirk, por favor.
    Mr. Kirk. Mi jefe supremo.
    Mr. Serrano. Comandante.

                         CREDIT RATING AGENCIES

    Mr. Kirk. Mr. Chairman, I want to thank you for all you 
have done on Sarbanes-Oxley 404 for the small companies. I know 
we are in a new delay for small companies, and my hope is maybe 
we just permanently extend that to relieve what was a huge 
unintended burden on the most dynamic part of our economy.
    I want to turn to another topic raised in your testimony. 
With the Credit Rating Agency Reform Act, we eventually gave 
you the power to look at these agencies. You started operation 
in June of 2007. Just 4 months later, the price of non-agency 
asset-backed securities plunged. Assets declined. Investors 
lost confidence. We then entered into a decline in the U.S. 
market and a severe liquidity crisis. And did you do that?
    Mr. Cox. Well, I want to congratulate, once again, 
Congress. I don't know that Congress had a crystal ball, but it 
is always better to legislate authority ahead of time rather 
than after the fact. The statute got enacted towards the end of 
2006. We put our rules out lickety split. You know, under the 
Administrative Procedure Act, there has to be notice and 
comment and so on and so forth. So, by June 26, 2007, we had 
the opportunity then to go out and start our program.
    Mr. Kirk. It is a bad timeline that you got there.
    Mr. Cox. Well, I wish that it had been a year earlier. That 
would have made a big difference.
    Mr. Kirk. Absolutely.
    Mr. Cox. But the good news is that we are going to be able 
to put sturdy rules in place this year based on what we learned 
without having to come to you and ask for legislation.
    Mr. Kirk. So here is the appropriations question I have 
though. The Consolidated Supervised Entities program, which is 
voluntary, and we don't have a dedicated funding stream by the 
Congress, let me ask you the direct question, would you support 
this committee providing that dedicated stream so that we 
have----
    Mr. Cox. Yes.
    Mr. Kirk. Which is the correct answer I think for us. And 
secondly, you know the legislation limited the operations of 
your staff and operations so that we can't rewrite credit and 
agency reports. We can just expose them. But I am wondering, do 
we have a long-term problem with market concentration of credit 
rating agencies? Because if there is too much power in just 
three firms, then an arrogance and concentration and market 
ability to have customers with no other place to go means that 
this committee would have to appropriate an enormous amount of 
resources.
    On the other hand, if there were not three powerhouses but 
say seven or eight, a credit rating agency that poorly advised 
its clients would quickly lose--well, officially but really we 
are talking three. And I am thinking of it like a Justice 
Department antitrust lawyer would look at it. You just look at 
the HHI index and see, do we have real market power here? 
Obviously, that is a similar problem with the big four and a 
half accounting firms. What do you think of that? With a 
dedicated stream, do we also need to look at market power of 
the agencies themselves?
    Mr. Cox. Yes, and I think that that is one of the two main 
purposes of the Credit Rating Agency Reform Act. It went after 
conflicts of interest, and it went after the problem of 
competition or the lack of it. So what we have been able to do 
with new standards for NRSRO rules that are in place under the 
new law is to start and grant registrations for new 
competitors. And I think that with the rules that we will put 
in place later this year, we will have even more grounds for 
fair competition because you will have some data to be able to 
compare and contrast the performance of others. And if a firm 
is routinely putting out bad ratings, then it will be in the 
interest of the other competitors, just as Coke goes against 
Pepsi, to point out why they are better and others are not.
    Mr. Kirk. Bud raised the point that the Secretary raised, 
which is the systemic risk which is not your purview; you don't 
have that portfolio yet. He made some proposals here. But for 
me, let me nail you down further.
    Could you get back to us on what your recommended funding 
line-item for the CSE would be?
    Mr. Cox. Yes, and in fact, I would endorse the same thing 
for CRAs, because when that new authority was given to the SEC 
regarding credit rating agencies, it was without any specific 
allocation of resources to it.

    [Clerk's note.--The Securities and Exchange Commission 
provided the following in response to the question:]

    Below is proposed report language for the Subcommittee's 
consideration:

                   Proposed Committee Report Language

  related to sec's consolidated supervised entities (cse) and credit 
                        rating agencies programs
    ``The Committee's recommendation assumes that no less than 
$5,750,000 will be obligated for the personnel compensation expenses of 
the Consolidated Supervised Entities (CSE) program and that no less 
than $2,200,000 will be obligated for the personnel compensation 
expenses of the oversight of nationally recognized statistical rating 
organizations (NRSROs).''

    Mr. Kirk. Yeah. I would just say, Mr. Chairman, I mean you 
are presiding over the implementation of Basel II, FASB 157 and 
now which are giving you tools to look at these agencies. 
Obviously, if they had got it right, the market would have 
corrected itself without this huge jolt. And so I want to make 
sure that you have the resources to create much greater 
transparency within at least these three agencies and maybe 
give some opportunities to the competition, which would also 
help.
    Mr. Cox. But I think there is great reward for a very small 
investment relatively speaking of money and people in these 
areas.
    Mr. Kirk. Yes.
    Thank you, Mr. Chairman.
    Mr. Serrano. Thank you. I was getting a little nervous 
where you were going with that line of questioning, when you 
asked him what he had to do with something at the beginning 
there. Because just a day or two I was announced--it was 
announced that I would be chairing this committee, the market 
crashed in New York. I hope----
    Mr. Kirk. The Havana stock market went up.
    Mr. Serrano. Oh, that went up big. Chavez was very happy. 
The whole socialist world was very happy.
    Mr. Hinchey.

                              HEDGE FUNDS

    Mr. Hinchey. Thank you very much, Mr. Chairman. I must say, 
this is the most entertaining subcommittee on the 
Appropriations Committee.
    Mr. Serrano. In more ways than one.
    Mr. Hinchey. Mr. Cox, great to see you. And thanks very 
much for the job you are doing. I think you are involved 
currently in what appears to be a very complex set of 
circumstances. And I think that that is primarily associated 
with the hedge funds and the way in which they are behaving. 
Hedge funds apparently have been around for a long time. I 
think they go back to 1949. But I don't think they have ever 
been anywhere near as prominent as they are today. And I think 
the main reason for that is the deregulation legislation which 
was passed by this Congress and which opened up the ability for 
a number of financial operations to engage in practices which 
are not overseen by the government, and that is particularly 
true of hedge funds.
    I agree with what you said; I think the investor should 
have some confidence in their investment. But the confidence 
that they should have in their investment doesn't come about 
without the regulation, the oversight of these investment 
operations. So the deregulation of investment I think has had a 
major impact on the way these hedge funds operate. And right 
now, they are very, very prominent. They control something in 
excess of $2 trillion of investment capital out there in the 
economy.
    So my first question I think is, what do you think we 
should do? There is a speculation out there now that calls for 
internal monitoring. All of the people involved in hedge funds 
should now start behaving in a different way. This is what we 
are recommending. But there is no guarantee that they are going 
to do that, even though the most responsible people involved in 
hedge funds are saying that, yes, this is the way it should 
happen. I think that we need is to go back to regulation. 
Senator Grassley has introduced a piece of legislation in the 
Senate which would begin to move us in that direction.
    A lot of people around the country now are blaming the 
subprime mortgage, subprime market, rather, and the fact that 
people unable to pay their mortgages for the decline in the 
economy that we are experiencing. But I don't think that that 
is exactly accurate. I think that that is more a result of the 
decline in the economy. And I think a decline in the economy is 
primarily driven by the manipulative way in which investments 
have been engaged in, including the incorporation of large 
amounts of these mortgages into these hedge fund investments. 
So I would be very interested to hear what you think about that 
and how quickly you think we should go back to a system of 
complete regulation of this operation.
    Mr. Cox. Well, two points. First, the term hedge fund 
covers a variety of animals, as you know.
    Mr. Hinchey. Yes.
    Mr. Cox. And I think we would all agree, given the breadth 
of the definition, that there is a lot of good that goes on in 
that space and there is a lot that goes on to be concerned 
about or to be suspicious of. Based on the fact that we are 
primarily a law enforcement agency, we are bringing scores of 
enforcement actions against hedge funds, 71 since I have been 
the Chairman, focused on a number of areas, including fraud and 
insider trading.
    Mr. Hinchey. Yes. Well, that is a good point, what you are 
making right now. The kind of fraud that is being engaged in by 
investment practices is becoming more and more obvious. I mean, 
things like money laundering, for example, the hedge funds are 
not exempt from money laundering. They can bring all kinds of 
money in from any place; nobody knows where it came from, what 
were the circumstances, how legal it may have been, how corrupt 
it may have been, how it may have been involved in the 
importation of narcotics, for example, and things of that 
nature. None of that is being overseen.
    Mr. Cox. Well, I am not sure that is the case. I think----
    Mr. Hinchey. No. It is specifically the case. There is no--
there is no monitoring of the introduction of money. So money 
laundering is fully capable within the operation of hedge funds 
if there are some hedge funds who want to engage in that kind 
of activity.
    Mr. Cox. Well, the AML surveillance that is conducted 
routinely, since it is directed, among other things, at 
notorious felons and so on, does not require that it be set up 
in any specific way in order for it to work. And I know that, 
to the extent that anyone suspects that a particular hedge fund 
were engaged in that, law enforcement would be interested, and 
we have tools, and the SEC does civil work of course. But we 
have the Department of Justice and many other authorities that 
are interested in that.
    Mr. Hinchey. Yes. Well, I am not suggesting that the SEC is 
at fault there. Because the SEC can only engage in the kind of 
oversight examination, insight that they are allowed to under 
the law.
    Mr. Cox. That is right. And that is the second point that I 
want to make. As you know, shortly after I became Chairman, we 
went effective with a rule requiring a registration of hedge 
fund advisors which was then thrown out by a court. And there 
was a good deal of concern at the time that that meant the end 
of the SEC's program of registering hedge fund advisors. What 
has happened--in fact, we now have a good experiential base to 
look at--is that nearly 2,000 hedge fund advisors representing 
over $2.5 trillion, the number that you quoted, are registered 
with the Commission voluntarily. And so, in addition to the 
anti-fraud authority that we have with respect to any hedge 
fund, whether it is registered or not, we also then have the 
opportunity to go in and examine those hedge funds and to 
subject them to our regulatory regime.
    Mr. Hinchey. How frequently has that been done?
    Mr. Cox. We do that as a matter of course through our 
Office of Compliance, Inspections and Examinations.
    Mr. Hinchey. But how frequently has it been done? What is 
the major head hedge fund that has been examined in great 
detail recently?
    Mr. Cox. I would be happy, in response to your question, to 
submit a detailed answer for the record.
    Mr. Hinchey. Okay.
    Any more time? My time is up?

                           INVESTOR EDUCATION

    Mr. Serrano. Thank you.
    It is not the practice of any committee to mention folks 
that come into a hearing. But it is interesting that my next 
question relates to the fact that some young folks walked into 
our audience a few minutes ago. The Fiscal year 2009 budget 
requests states repeatedly that the SEC Office of Investor 
Education and Advocacy will continue to focus on educating 
seniors and retirees about ways to assess investment commonly 
marketed to them and detect and avoid potential frauds and 
scams. This is clearly an admirable goal that the subcommittee 
fully supports.
    However, this subcommittee is concerned because no other 
demographics are mentioned in the request when there are 
clearly additional groups in need of investor education. For 
example, for many young investors and recent immigrants, the 
recent market downturn is the first time that they have seen 
their investments negatively impacted by market conditions.
    Are there any other demographics that the office is trying 
to actively reach, such as minorities or young investors?
    Mr. Cox. Indeed, that is the pedigree, Mr. Chairman, of 
this office. Young people are the first demographic that 
everyone thinks of when they think of investor education or any 
kind of education. The good news is that young people have the 
most to benefit by having this education because they have the 
one thing that some of us older people don't, and that is time. 
As you know, a major premise of investor education is to help 
people understand the time value of money. If you set aside 
money and leave it there for 20, 30, 40 years at a reasonably 
safe prudent investment with compounding and with growth, you 
get something that you just can't get for yourself when you are 
50 years old or 60 years old or 70 years old.
    So getting the young people with those kinds of messages is 
really important. We work in a number of ways, not only through 
schools, as you would expect, and groups that are set up across 
the country to help young people with financial literacy, but 
with our armed services. A lot of men and women in the armed 
services are getting a steady paycheck for the first time when 
they first join, and they are remarkably busy people. They 
don't have a lot of time to spend thinking about what to do 
with their money. And so, at the highest levels, including the 
Commissioners themselves, we go out to these bases and put on 
big educational events. We are doing everything that we can to 
focus on that demographic.
    Second, with respect to different language groups and 
ethnic groups and so on, we try and have our over, you know, 
800 tapes that we have and other means of presentation 
translated into a number of languages and make them available 
through channels that are likely to reach the target audience. 
So the reason you are hearing about seniors from us is that 
that is a new addition to an old line-up. We have always been 
interested, of course, in older Americans as well, but having a 
big push for seniors has been thought appropriate because of 
the aging of the population and the fact that there are going 
to be a lot of people living longer without the kind of nest 
eggs that they thought they needed when they followed their 
parents' example, you know, 30 years before. And that is going 
to present a lot of new risks that we have never faced before.
    Mr. Serrano. Let me ask you a question, a related question. 
Do you get any kind of a pushback on the issue of immigrants 
and helping them invest? You see, as you know, we have two 
immigrants in this country. We have the one who is here with 
documents and is on his way to becoming a citizen; or who has 
become a citizen and we don't call an immigrant any longer. 
Then you have the person who is not here documented. That 
person may have money. One of the biggest mistakes we make is 
that we seem to stop those people from taking their money to a 
bank or investing because they are not here legally. Do you 
single out just folks for help that are here legally? Do you 
ask that question at all? Do you get a pushback when you meet 
with other folks and say, well we are not supposed to be 
dealing with those folks? Because I suspect that there is a lot 
of money under mattresses in this country out of fear of 
putting it somewhere else because that somewhere else may 
indicate how you are here in this country. And meanwhile, the 
economy is hurting because that money should be invested and 
put up somewhere.
    You know my whole theory on this immigration thing is, all 
right, you have a border issue; deal with that. You have an 
issue of what to do about folks in the future; deal with that. 
But while you are here, while you are here, you are paying 
taxes. You have money, some money, then let's make use of that. 
Let's not keep you apart because that only hurts the rest of 
us. Any thoughts on that?
    Mr. Cox. Well, first, our investor education initiatives 
are aimed through a lot of channels, including the Web, and at 
as many people as we can find. For all I know, we are reaching 
people around the world, and I hope we are.
    Second, some of the problems that you have described with 
people who are, for a number of reasons, are either frozen out 
or freezing themselves out of the financial system, there are 
some good initiatives underway that start with trying to get 
people to open up savings accounts and checking accounts so 
that they are not completely disintermediated. That, of course, 
is a commercial banking initiative ultimately, but we are all 
aware of the paycheck cashing services and the fees that people 
pay and how much abuse and potential for abuse exists in that 
space. And we find ourselves partnering, even though commercial 
banking is not our line of country, we find ourselves 
partnering with them in our investor education initiatives.

                            SUBPRIME LENDING

    Mr. Serrano. Right. Right. I have a few questions that I 
will submit to the record. I just have one more that I want to 
ask you. And it is, of course, on the subprime lending issue.
    Chairman Cox, in the testimony you submitted for today's 
hearing, you mentioned that a subprime working group was formed 
within the enforcement division of the SEC and that this group 
is investigating possible fraud, market manipulation and 
breaches of fiduciary duty related to the subprime crisis. The 
group was probably formed too late to help prevent or mitigate 
this particular crisis, But what steps are being taken by the 
group, or by the SEC in general, to prevent a crisis like this 
from happening again? Is the SEC working with other agencies on 
a lessons-learned strategy, if you will, from the recent 
housing crisis?
    Mr. Cox. Yes, to the second question. And I will answer it 
in more detail. To the first question, what are we doing in the 
subprime working group? We have, as a matter of public record, 
as you know, ongoing law enforcement that we have some trouble 
talking about publicly. But as a matter of open record, we have 
opened up approximately three dozen investigations through this 
task force. The kinds of issues that we are tackling with the 
subprime task force include whether or not the underwriter that 
was involved in the offerings knew or was reckless in not 
knowing that the issue and the lender were not complying with 
its disclosed lending policy, whether the lender was 
misrepresenting the loan or the loan's characteristics or 
whether the lender failed to maintain adequate reserves. We 
are, in fact, working closely with other agencies that have 
regulatory oversight over subprime lenders as well as 
coordinating our investigative efforts with the Federal 
Reserve, the FDIC and the Department of Justice. There have 
been a number of international fora that I have been heavily 
involved with that have also been inferring lessons learned 
from this, including the Financial Stability Forum, which 
reports to the G-7, and the International Organization of 
Securities Commissioners, where I am going to become chairman 
of the technical committee this summer. I am the co-chairman of 
the task force that is looking at this from an international 
level. And you full well know there are many countries, not 
just the United States, that have been harmed by this problem.
    Mr. Serrano. Thank you.
    I will submit, Mr. Regula, the rest of my questions for the 
record.
    Mr. Regula.
    Mr. Regula. I am curious, do other countries, industrial 
countries, have an agency comparable to the SEC?
    Mr. Cox. Yes.

                           FOREIGN REGULATORS

    Mr. Regula. It seems like financial securities don't know 
borders anymore.
    Mr. Cox. The answer to your question is, most definitely, 
other countries do have agencies that are our counterparts to 
the Securities and Exchange Commission. And in fact, the SEC, 
for most of them, has been the model. Since we created the 
genre in 1934, virtually every country with a market economy 
has thought it necessary to have a securities regulator. Our 
International Securities Regulation Institute, which we conduct 
at the SEC and is currently underway, has attracted 78 
countries to come and be trained and learn how we do things at 
the SEC and to share best practices.

                           MONOLINE INSURERS

    Mr. Regula. One of the keys to security in the marketplace 
is monoline insurers, because they guarantee to some extent. Do 
you regulate them in any way?
    Mr. Cox. No. We are not the frontline regulators for 
monoline insurers. They are regulated by the State insurance 
commissioners chiefly.
    Mr. Regula. Mr. Chairman, I will submit the rest of my 
questions for the record.
    Mr. Serrano. Thank you.
    Mr. Hinchey.

                  HEDGE FUNDS IMPACT ON ENERGY PRICES

    Mr. Hinchey. Thank you very much, Mr. Chairman.
    Chairman Cox, I wanted to ask you another question about 
the hedge funds and the way in which they seem to be having an 
impact on the price of energy, particularly on gasoline and 
home heating oil.
    One of the things that we have seen recently is a statement 
by the Energy Information Administration and a brief quote is, 
``Weakness in the U.S. economy has led to softening gasoline 
demand.'' And we know that is true. The demand has gone down 
because of the fact that there is a weakness in our economy, 
and particularly people throughout the middle class are having 
a very difficult time meeting their daily obligations, whether 
it is energy, food, whatever it might be. So I am just curious 
as to what extent the hedge funds in bidding out for large 
amounts of these commodities, these oil commodities, are 
driving up the price, particularly in the context of the weaker 
dollar. It seems to me that, based upon the information I have 
been able to look at, that that is exactly what is happening. 
And a large amount of the increase in the price for energy, 
particularly oil, is going up based upon hedge funds intruding 
themselves in there and investing in those commodities. I have 
to laugh a little bit when I say intruding themselves in there 
because I mean they are free and open to do that. There is no 
regulation against them. They can just do it in whatever way 
they want to. But do you think that we ought to have some sort 
of regulation on these kinds of investments to ensure that 
people aren't doing this or these funds aren't doing it in ways 
that are making it more and more difficult for ordinary people 
to be able to drive their car back and forth to work, feed 
their family, all of the things that people are having a 
difficult time doing in this country today?
    Mr. Cox. Well, the abuse of trying to corner the market or 
manipulate the price of the commodities is sufficiently old 
that one of the oldest playing card games in the country, Pit, 
is based on that. We can go back to the early 20th century and 
find an example with that pathology. So not only should there 
be regulation against that kind of manipulation of the market, 
but there is. And, to the extent that surveillance can detect 
it, to the extent that we can get a trail of evidence that 
leads us to it, our law enforcement can be all over it. It is 
even possible for that kind of behavior to run afoul of the 
criminal laws as well, so not only the SEC but the Department 
of Justice could become involved.
    Mr. Hinchey. Is that an internal regulation within the SEC? 
Is it based upon Federal law? What is the basis for it? How 
does it operate?
    Mr. Cox. Yes. The manipulation of a market or other kinds 
of abuses or manipulative behavior that is designed to 
influence particular security of any kind is prohibited by 
section 10(b) of the Securities and Exchange Act of 1934. And 
we have a special rule that implements that, rule 10G-5 that we 
have used very aggressively and for a long time.
    Mr. Hinchey. To what effect was the Deregulation Act of 
1999 impinging upon that? How does that make it weaker and more 
difficult----
    Mr. Cox. I don't think that in any way affects our ability 
to use rule 10G-5.
    Mr. Hinchey. So can you give us an example, and I don't 
expect you to do it right now, but can you give us some 
examples directly how the SEC is engaging in actions to try to 
ensure that hedge funds manipulative investments are not 
actively engaged in driving up the price of energy, 
particularly oil?
    Mr. Cox. I will do my level best to answer the question. In 
fact, if I provided the answer for the record, I might be able 
to provide you more information than I could in this public 
hearing about ongoing law enforcement and give you a good 
inventory of the cases that we have had of late on hedge funds. 
And then, second, to tell you what we have got going on with 
respect to energy in particular.
    Mr. Hinchey. Okay. I appreciate that very much. Thank you.
    Thank you, Mr. Chairman.

     
    
    Mr. Serrano. Thank you. Well, we thank you for your 
testimony today. We thank you for your service to our country, 
and we thank you for your agreement to give us some further 
information.
    Mr. Regula.

                REFORMS RESULTING FROM SUBPRIME MELTDOWN

    Mr. Regula. One more question. Are we putting in place 
regulatory mechanisms to preclude another meltdown 
prospectively as a result of the subprime situation? Are we 
doing something to avoid this down the road?
    Mr. Cox. Yes, indeed, I would say that not only in the 
United States but around the world we are very rapidly putting 
in place reforms that are designed to address each of the kinds 
of problems that have been identified. We talked about one of 
them in this hearing, credit rating agencies. There is a great 
deal of international focus on that and a good deal of focus on 
the new rules that we will be writing this year. There are 
accounting issues that are very central to these questions. 
There were a lot of off-balance-sheet activities that ended up 
affecting sponsors when either directly or indirectly it was 
taken back on. There are obviously problems with underwriting 
standards for lending that gave rise to all of this in the 
first place. And there are important lessons to be inferred 
from the Bear Stearns incident. And we are already adjusting 
both the Federal Reserve and the SEC, the way we look at 
liquidity measures.
    Mr. Regula. Well, the Fed is getting into the investment 
banking field, which they had not traditionally regulated. Is 
that correct?
    Mr. Cox. Yes. By opening up the discount window, they have 
done that in a very significant way.
    Mr. Regula. Thank you, Mr. Chairman.
    Mr. Serrano. Thank you.
    Once again, we thank you for your testimony, and we thank 
you for your service.
    Mr. Cox. Thank you, Mr. Chairman.
    Mr. Serrano. Meeting is adjourned.

     
    
                   Securities and Exchange Commission
                             April 16, 2008

                                                                   Page
Chairman Serrano's Opening Statement.............................   261
Mr. Regula's Opening Statement...................................   262
Chairman Cox's Testimony.........................................   262
Treasury Regulatory Reform Plan..................................   274
FTE Issues at the SEC............................................   275
Subprime Mortgages...............................................   277
SEC and Federal Reserve Authorities..............................   277
Bear Stearns Collapse............................................   278
Sovereign Wealth Funds...........................................   278
U.S. Financial Markets Challenges................................   278
Pension Funds....................................................   279
Orderly Markets..................................................   279
Market Security and Stability....................................   279
SEC's Relationship with Other Regulators.........................   280
Budgetary and Legislative Needs..................................   281
Impact of Sarbanes Oxley on Small Business.......................   282
Current Market Status............................................   283
FTE Reduction....................................................   284
Treasury Regulatory Reform Plan..................................   284
Credit Rating Agencies...........................................   285
Hedge Funds......................................................   288
Investor Education...............................................   290
Subprime Lending.................................................   291
Foreign Regulators...............................................   292
Monoline Insurers................................................   292
Hedge Funds Impact on Energy Prices..............................   293
Reforms Resulting from Subprime Meltdown.........................   296
Questions for the Record:  Chairman Jose'1 E. Serrano............
297  Ranking Member Regula.............................................
302  Mr. Hinchey.......................................................
                                                                    308