supplemented these by reporting the long-term inflation rates, committee participants view as most consistent with satisfying the dual mandate. in the absence of any other government agency having the authority to fill the role we flint to stabilize several systemically important institutions. anyone of which had failed would have posed a serious threat to the financial system and the s was necessary or not well-suited for a central bank and we have urged the congress to enact other means of safeguarding financial stability in such circumstances while imposing cost on shareholderãc

in early 2009. as we affirm that the december fomc meeting the federal reserve is in the process of winding down and closing most of our extraordinary liquidity windows. our announcements of purchases of agency and treasury securities helped lower long-term interest rates and increased availability of mortgages to households and bond financing to businesses.

in addition our mere zero policy read and improving economic outlook have induced shift by private investors into longer-term and riskier assets helping reverse a portion of the previous spike in spriggs that occurred as the financial economy and financial audits deteriorated. with markets improving the economy expanding the fomc has also indicated that we are to bring down our purchases of treasury, and bs and agency securities. but the cost of credit remains relatively high and its availability relatively limited for many borrowers. although many long-term interest rates are fairly low spreads and markets are somewhat elevated not surprisingly perhaps as many borrowers are still under stress with unemployment rate quite high and utilization to capital stock still very low. some securitization markets continue to be effectively closed or severely impaired

including those for larger home mortgages and commercial real-estate loans. under these circumstances, some borrowers will be more dependent than in the past on banks for credit but banks are still reluctant and very cautious lenders. banks have been reducing their book of loans for about a year. in part this reflects weaker demand as businesses cut back on inventories, households have been saving more. but the weakness in the bank lending also results from cutbacks from supply. our surveys show through late 2009, banks continue to tighten terms and standards for lending and to raise rates they charge relative to the benchmark rates. i expect bank credit to turnaround only slowly as banks rebuild capital and become less on certain about economic prospects. wondering how credit constraints or a key reason why i expect the strengthening and economic activity to be credible and the

drop in the unemployment rate to be slow. even as the impetus for fiscal policy and inventory cycle weems leader in 2010 however, private final demand should be bolstered by further improvements in securities markets and gradual pickup and credit availability from banks. in addition, spending on houses, consumer durables and capital equipment should rebound from what appear to be exceptionally low levels and we've already seen some hints of this increase in private demand in recent months. but understandably, households and businesses, bank lenders remain very cautious, and the odds are the pickup in spending will not be very sharp. in an environment of considerable persisting slack and labour and product markets with productivity having increase substantially in recent quarters, cost and price inflation should remain quite

subdued. in the shortest run headline inflation will be driven importantly by movements in energy and food prices but judging from the structure of the future crisis markets are not expecting sharp rises in the prices and thus headline inflation should retreat toward the core inflation. inflation now side of the food and energy sector that is core inflation has been declining slowly held up by relatively stable inflation expectations. some further slowing is possible if the economic rebound is as gradual as i think it is likely to be. as i've already know to keeping inflation expectations incurred will be critical for achieving our objectives in prices and output. fomc has recently reiterated its expectation of the considerable remaning slack and labour and product markets subdued trends and inflation expectations are likely to warrant exceptionally low levels of the federal fund

rate for an extended period. let me turn to two issues for the future monetary policy. the first one is exit from our unusual policies. i'm not going to discuss the technical aspects of an exit from our extraordinary measures. federal reserve cut the public a price of the development of our exit tools, appropriate use and sequencing of the tools is still under active discussion by the fomc but i do want to make some general strategic points about its. first, we have no shortage of tools for firming the stance of policy and we will be able to unwind our actions when and as appropriate. because we can now pay interest on excess reserves and raise short-term interest rates even with an extraordinarily large body in reserve in the banking system. increasing the rate we offered to banks on deposits of the federal reserve will put upward

pressure on all short-term rates. in addition, we are developing and testing techniques for training of large volumes of reserves through repurchase agreements and through term deposits at the federal reserve. and we can sell portions of our holdings of the nds agency debt and treasury securities if we determine doing so is an appropriate approach to tightening financial conditions when the time comes. second, the fiscal situation will not impede timely tightening. the trajectory of the federal budget is a serious economic issue that must be addressed to promote sustained and balanced economic growth. but a large and growing federal deficit will not stop the federal reserve from accepting from current policies when that is needed to keep prices stable. and the economy on a path to sustain high employment. the alternative of letting inflation rise would be

inconsistent with our mandate and would only cause greater volatility, uncertainty and inefficiencies that would reduce the growth of our economy over time. ho your interest rates could complicate an already difficult fiscal trajectory. and this possibility further underscores the critical importance of maintaining federal reserve independence in the short term political pressures. faired because monetary policy typically acts with long-term rags on the economy and price level of when and how to exit will depend on forecast. we will need to begin withdrawing extraordinary monetary stimulus will be for the economy returns to high levels of resource utilization. the fomc has been clear that its expectations from the stance of policy depend on economic conditions including resource utilization, inflation and inflation expectations.

the judgment as to when to begin a initiating steps to withdraw stimulus will in turn determine these variables. finally it is well to remember that we are still in on chartered waters. we do not have any recent experience with financial disruptions of the bread, persistence and consequences of those we experienced over the past several years and we have no experience with most of the sorts of actions the federal reserve has taken to counter the shock. the calibration of our exit from these policies is complicated by evidence on how unconventional policies work. we will need to be flexible and adjust as we gain experience. second topic for the future, financial stability and asset prices and monetary policy. the past few years have illustrated to lessons about the relationship between macroeconomic stability and

financial stability. first, macroeconomic stability does not guarantee financial stability. indeed in some circumstances macroeconomic stability may foster financial instability lowering people into complacency about risk. and second, some shock to the financial system are so substantial especially when the weekend large number of intermediaries that decrease in aggregate demand can be a large, long lasting and not quickly or easily remedied by conventional monetary policy. so, given the heavy costs that have resulted from the financial crisis, the question naturally arises whether the circumstances that caused the crisis could have been avoided. among other crucial policy issues, we need to reexamine with open mind whether conventional monetary policy should be used in the future to address developing financial imbalances as well as the

traditional medium term macroeconomic goals of full employment and price stability. the key question is whether we are likely to know enough about asset price misalignment and like the effective policy adjustments to give the confidence to deliberately tack away for a time from the exclusive pursuit of the posturing eckert price stability and high on employment. obviously, preventing situations like the current one would be very beneficial. but against this important objective, we need to balance the potential costs and uncertainties associated with using monetary policy for that purpose. especially in light of the difficulty in judging the appropriateness of asset valuations. one type of cost of arises because monetary policy is a blunt instrument to. increases in interest rates stand activity across a wide variety of sectors. many of which may not be

experiencing specter but activity. moreover, monetary policy generally operates with one instrument, short-term interest rate, and using it to dampened asset price movements implies more medium-term variability in output and inflation are around their objectives. among other things inflation expectations could become less well anchored, diminishing the ability of the central bank to counter economic fluctuations. in the current situation output expected to be well below its potential for some time and inflation likely to be under the 2% level that many fomc participants see as desired over the long run. tightening the policy to head off a perceived threat of asset price misalignment could be expensive in terms of medium-term economic stability. furthermore, small policy adjustments may not be very effective in reading and speaking to the excesses. our experience in 1999 and in

2005 was that even substantial increases in interest rates did not seem to have an affect on the dot com speculation and first instance on housing price increases in the second. larger adjustments would incur greater in incremental cost. policy adjustments need to dampen the speculation. if higher interest rates just a week in the output and inflation without dampening the speculation, the economy could be more vulnerable when the speculative bubble bursts. we do not have a good theories or empirical evidence to guide policy makers and their efforts to yours short-term interest rates to the financial speculation. for all of these reasons, my strong preference would be to use regulation and supervision to strengthen the financial system and lean against developing problems. given our current state of knowledge monetary policy would only be used if in balances were building and regulatory policies were either unavailable or shown

to be ineffective. but of course we should all be working to improve our state of knowledge so as to better understand economic and financial behavior and further expand the range of policy tools that can be employed to enhance macroeconomic performance. that objective is one that governor brimmer has worked very hard to promote. thank you. >> thank you very much. [applause] >> [inaudible conversations] [inaudible conversations]

>> well -- i apologize for the t#cd

said the economy was in a free-fall by the end of 20 elite, italy 2009. financial markets have risen up, private demand was collapsing, employment was plummeting. we were losing almost 700,000 jobs a month in the first quarter of 2009. home sales and prices were falling sharply in the economy began to stabilize around late spring, this is the time chairman bernanke mengin corrine chutes. since then, as donelson mentioned the financial markets stresses have eased housing markets have shown signs of stabilizing, gdp has moved higher, 2.2%, gdp growth in the

third quarter after four consecutive quarters of decline drops five, 6% at the turn of the year at an annual rate and employment losses have also shrunk considerably. there is still much to do. i have said when the employment report comes out less that is not good enough. the unemployment rate is unacceptably high at 10%. but the economy appears to be on the road to recovery and that is because of the actions the administration has taken. i don't mean to diminish the role of the fed the session is on the administration's actions. and the president is committed to building a stronger foundation going forward including health care reform. in absolute terms however the economy still remains weak. gdp is 2.6% lower than it was a year ago. at least it was at the third quarter. i will argue the policy has

prevented an even much worse about comes and the three policies on will highlight and i think they work together or the financial stabilization plan, housing policy and the stimulus bill. the american recovery reinvestment act. and to assess the track record of the administration in the first year, i think it's very important to compare to a counterfactual to how the economy would have behaved absent the policy actions that were taken. there's a quote from barney frank of like which probably many of you have heard but i thought i would read. congressman frank said not for the first time as an elected official i envy economists. economists have available to them and an analytical approach to counterfactual. economists can explain a given decision was the best one that could be made because it can show what would have happened in the counterfactual situation. they can contrast what happened to what would have happened. no one has ever gotten reelected with a bumper sticker that said

it would have been worse without me. [laughter] you probably can get tenure that way that you can't win office. [laughter] now i guess there are two respects i disagree with. first it is not always so easy to construct a counterfactual although we make some arguments about the counterfactual obligation. and secondly i think my colleagues, tama has a paper that shows they are going to be reelected of the situation is worse in the neighboring states, so i would argue the count effect will this matter even in elected office. so i want to highlight the financial market policies, and i will focus on the stress tests here. but there is more to the financial market policies of the administration than the stress test. but the stress test officially known as the supervisory capital assessment program which was administered by the federal reserve and other banking regulators and announced by treasury secretary geithner on

february 10th was designed to assist the capitol needs of the bank's in an adverse economic scenario to be as transparent and clear as possible to make the information available so investors in the public can see the situation of the banks and also very importantly the treasury's stood necessary with the capital assistance program to provide government capital if there was inadequate private sector capital. now the counterfactual situation here is hard to assess the level to highlight something that my colleague paul krugman wrote in "the new york times" back in february before the stress tests were concluded. to in the buzz on the hood the banks need more capital. but they can't raise more capital from private investors. and i think the conventional wisdom before the stress tests were announced in may of 2009 was the banks would not be able

to raise private sector capital in fact paul krugman wrote in less than seven columns proposing we nationalize some of the bank's. since the stress tests were released, banks have raised the total of $150 billion in equity and issued over $64 billion in guaranteed debt. if you look at this chart shows month by month the net issuance of common equity by banks call and you can see that in the second quarter when the stress tests were released we see the reversal here from declining equity which means buybacks to issuance of capital. this next chart shows you the capitol levels of banks, the ratio of tangible common equity to assets for the stress tested banks the 19 largest banks that went through the stress test the account for two-thirds of all lending in the u.s. and you can see a sudden reversal in the level of capital in the bank's.

and it was a rather dramatic turnaround. you could also see this looking at the credit-default swaps for banks. the cds spreads are an indication of the likely the banks will default. this looks of the largest banks because that's the group you can get continuous cds the debt and you can see after the failure of lehman brothers cts spread shot up and when the stress tests were released there was a discreet drop in the cbs spreads. this stress tested banks. when i do econometrics i call this an intricate series that you can think of the counterfactual it is a very sharp discrete event that happened on may 7th of 2009 when the stress tests were released. this chart shows just for citigroup. and i wanted to show citigroup because as you know citigroup has repaid tarp funds and this

shows the fall even after the period it paid back its t.a.r.p. funds. now there's a lot more to the financial stability stabilization plan. the administration of the t.a.r.p. program is obviously a big part of it. i don't know how widely known is that for the banking successor to beat considers a whole the t.a.r.p. investments payback for the taxpayer were projecting that will make a profit from the taxpayer from the investments in the banking sector. other stress as don kkohn mentioned our market and, many are to the pre-christmas level, some are partly back. the index is back at low levels. municipal bond spreads, the

municipal bond market had frozen back in the end of 2008, early 20093 that market is not functioning and on the spreads are close to normal. so there is a lot of indication that the financial markets have stabilized. president obama was asked for his most important achievement of 2009 and he said that we prevented the financial market from collapse sterilizing the financial target's i think was an important achievement of the administration and it wouldn't have happened absent policies of the obama administration and federal reserve board. let me turn to the housing market. as you know an important cause of the crisis we are in was a bubble in the housing markets. the administration has taken several actions to address housing market problems. one approach is to lower mortgage rates and increase access to credit. this involves continued control

of the gse of fannie mae and freddie mac providing access to the sustainable mortgages through the fha federal housing administration. treasury as well as federal reserve board purchases of mortgage backed securities and a program, part of the making home affordable program which increased flexibility for home refinancing. and all of this has led to lower interest rates as well as three high volume of refinancing activity. second, the administration has sought to make it affordable for people to stay in their homes. the research suggests that for someone to walk away from home you need to things, one for the house to be underwater and secondly the payment to be unaffordable and that is typically required just for defaults. the administration focused on making it affordable for people

who are responsible homeowners to stay in their homes. we have the goal of supporting three to 4 million homeowners to modify their mortgages to lower their payments. so far over three-quarters of the million homeowners have modified their mortgages under this program. this is a program which gets a tremendous amount of criticism in the press and i think it is an indication of the cynicism in the press come partly an indication of some of the difficulties of getting it very large program started. but if you think that this is a program that started at the end of march, early april and we were originally criticized for not doing enough trial modifications, the home owner has to be in a trial period for three to five months before they can convert to a permanent modification, and the program started slowly as we were signing of servicers as they were putting in place procedures to get the program running.

but now we are actually ahead of schedule and my office did much of the budget scoring for this program. we are actually ahead of what we predicted to make the three to 4 million target in terms of starting modifications over 750,000 so far were in and 2009. the latest wave of criticism, which i think is justified although i think it addresses problems we will eventually see fixed is too few of the trial modifications are converting to permanent status. just under 10% of the eligible to file modifications have converted to permanent status. now, partly that is also getting the systems in place reducing uncertainty. problems with filing paperwork and so on and anyhow we are not satisfied with the speed of which the trial modifications are converting to private, to permanent modifications. on the other hand, we are

addressing these problems and i think we will see improvement in this area. and it's also the case the homeowner is undergoing trial modifications are saving substantial sums while they are in this three to five months period which file modification sitting around $550 a month on average. then the last component is the first-time homebuyer credit which was just extended in 2010 by the congress. so one way to kind of get a handle on how the housing market is staring and responding to these policies is to use the future market as a kind of counterfactual. what were markets predicting for home prices back in january of 20 online before these policies were put in place. this shows you the case schiller house price index and you can see the home price bubble i mentioned earlier. next the negative line here shows that from january 21 line with the radar what futures

market was projecting for the home price is almost another 20% drop in home prices are being projected back in january 29 a year ago. what happened since then -- by the way, i should mention the radar futures market is kind of a thin market. nonetheless, you know, it is less than one econometric projection it also those are participating in the market have money on the line so there is some reason to think this might provide plausible counterfactual scenario. what happened since then, as bond kkohn mentioned earlier, as house prices has stabilized even increased a little bit. the futures market are now projecting flat line for the next few years. so, i'm going to be very careful not to say we are out of the woods in the housing market. the housing market remains very fragile. on the other hand, there are indications the market is

stabilizing faster than a lot of the observers had expected. and then other measures of the housing market are also beginning to stabilize like the inventory of homes for sale. the last to the states from assistance to social security recipients. this just shows you the taxes are actually multifaceted, the making work pay tax cut is the largest part of the tax cuts but just about one third.

they are also tax subsidies under the unemployment insurance for people to continue their health insurance. there are many projections the stimulus bill on jobs many additional jobs lost economic activity generated by the stimulus bill you can see in the range of 1 million jobs so far cbo gives 600,000 high of 1.6 million that brackets the c.a. projections kind of ominous way of looking at the impact of the stimulus bill on the other programs is what the forecasters say about how well the economy is doing, what are they protecting for the gdp growth. this shows the average forecast for the blue-chip forecasters that each month always projecting the fourth quarter of 29. and you can see that back in april the projection was about

1.5% gdp growth for the fourth quarter and not a projection as close to 3% for gdp growth in the next couple of months. but you can see that forecasters are raising the projections use all the same thing in the third quarter and i don't think that is an accident. i think it is the result of economic policy pursued by the administration and federal reserve board. so let me conclude by saying the president said on many occasions that rescuing the economy from the deep recession is not sufficient. we need to rebuild the economy and put it on sound footing. an important component of that is health care reform, the congress is on the verge of passing historic health care reform. in addition the administration is pursuing financial regulatory reform. also because jobs have been lagging and jobs tend to lag in recovery the administration has been working with congress to try to develop proposals to emphasize job growth and spur

job growth in 2010. and then lastly i will just emphasize the set of problems the administration inherited were tremendous, including the large deficit due to the tax cuts that were not paid for and prescription drug program not paid for. the president is committed to putting the federal budget on a sustainable path when the budget for 2011 is released and projections and policies going forward. the ad penetration is committed to putting the u.s. to run it on a path toward fiscal stability. thank you. [applause] >> allen sinai. >> while allen is standing up copies participated in virtually all of these since the year 2000. allen sinai

>> thank you for inviting me this year and the other years. it is a pleasure to participate. the work i did for this session -- we did, paul adelstein senior economist at the company myself, it spans both administrations and it's all about policy, not about politics, and so any grades anybody might infer from the work here has to do with the effect of policy on the economy during the 2007 to 2009 period. and what we have today and you have a handout of tables and charts is an abbreviated version of the paper and key results from retrospective counterfactual simulations with a large scale quarterly macroeconomic model.

the following question is asked what would have happened to the economy, employment and unemployment rate, inflation and profits, interest rates and stock prices, some of the tables covered that much territory. from 2007 to 2009, the period that we could call a great recession if the fiscal monetary policy actually implemented had not been implemented. since actual historic data have invaded and in the policies actually implemented at least so far removing them from the model base version of history that tracks closely the historical data pulled the baseline allows the economy eckert model or any other model that might be used for such a purpose to simulate what history would have been without the policies. counter the actual analysis and simulation have long been used

although not frequently in modeling and in the evaluation of policy. lately in what i think is the path breaking attempt by john tayler mittal logically to evaluate the current policies especially monetary in real time at the inaugural martin feldstein address this past july. in the attempt to determine at the time if policies are having any negative will affect in order to alter them sooner if they are not effective i think is of immense mythological significance for policy evaluation a practice. most contracts also malaysians have been performed long after the fact as was noted by john including one on i did back in 2004 in the may issue of the american economic review of the need for preemption and monetary policy and leaving the lives

generally. the conclusion of virtually complete ineffectiveness and that is relevant for today's session. the complete effectiveness of monetary policy as it had been taken, and for the fiscal policies being used it is not supported by the empirical results of the large scale counterfactual work that we did. john's underlining model is very different with much in common but with many omitted variables and less structural content and underscore is that any counterfactual simulations are very model specific. if you believe the model you will be persuaded by the results. of course i believe our model is a rather complete representation for the macroeconomy and financial system, and therefore i am quite comfortable with its results though i would emphasize the mythological point of the tayler exercises has huge implications for policy analysis

that is doing it right away as but even as our obering rather than waiting a long time. now the work is fairly quick. we are not through the effect of the policies that we have retrospectively simulated. the effects are still playing out. so, it isn't quite real time but it's fairly close to it. what did we do to evaluate the macroeconomic policies used in the great recession of 27 to 29? the results provide retrospective but also have a prospective legacy said of the implications because the work covered, the history from 2009 but extended installations for 2012. so the baseline which the counterfactual would run and history to the third quarter of 2007 -- 2009 to have the baseline now to do the 2012.

so, we in the baseline track history with the historical solution but also have the prospect in a fairly view of the economy over the next few years. let me take you to the tables and figures in the handout for a quick survey of the highlights. but before i do that and we use some of the tables to illustrate the point was there a great recession i think if we look at table number one in the handout and in particular the three-quarters bounded by the black lines and the wide number of countries in global regions covered i think 46 or 47 we see is something never seen in the post-world war two history in the u.s. and the world and incredible kind of cliff like

collapse of economic growth in the u.s. and around the world concentrated in those quarters. some extend beyond to the second quarter of 2009 and in some started before the bout of period the point of this table is the incredible and stunning downturn around the world that went on during this purpose of time. by the way for the u.s. table number two is a guess at the dating of the last recession. september or october. can't read the mind of the national dating committee but this is a guess, the downturn in the united states was the longest 23 months at best 22,

the worst 24 and deepest since world war ii but the deepest for this episode is in parentheses if you take the trough as the second quarter last negative quarter of real gdp gdp is 3.7% which is any decline from peak to trough since world war ii. this was the longest in the u.s. and the deepest downturn that we ever had. now why? it's complicated. lots of things happen that went on. but i would isolate for purposes here a couple of major facets which are not adequate to describe the complicated interactions that went on in this downturn on like virtually any other business cycle that i have ever seen and studied.

table three provide the kernel of thought. it's the financial factor in business cycle and this time and unusually so the american consumer in table three you see two asset-price bubbles bursting in the climb of real estate prices and stock prices over the great recession pro. uncomfortable because if you look at these numbers it was the biggest recession. it's a great recessions i'm going to call it that. now you see also the effect on household wealth, household net worth, the biggest declines. of course because of the declines in real estate and stock values of assets in the

period chronicle since 1947. in figure one or two sources of household spending financially driven gross cash shouts from refinancing and individual capital gains realizations which in our work on consumption and the consumption function is very sycophant quantitatively. and it plummeted over the probe of the great recession. the impact on consumer spending of these to their labels and in addition to standard variables like wells, interest rates and real income is quite significant into wrigley. 25 cents on the dollar of capital gains realizations. 30 cents on the dollar within the year of the gross refinancing that came off the

mortgage and housing boom that's gone up and of course the sources of funds for the household consumption were devastated. and in figure two we see how the measure we used for the financial condition of housing sector high levels are bad, low levels are good. and what you see over the 2007 to the 2009 period just now peaking here at about this time in the second and third quarter starting to come down is the most dtv financial position of the house will sector since we've been keeping this since 1970. the sign that imbalances, excesses' had built up over the period and consumers have a long way to go to fix that. and then figure three the role of the american consumer demand by the way this figure shows the same thing in real per-capita terms as it shows here.

the longest period of consumption spending growing below trend of any time and including 1973, 75 and putting the early 1950's and$$ the economy and its different from history. multiplier come accelerator multiplier effects are going to kick in and reverberated everywhere. in fact in this case all around the world because as you know

the american consumer was a huge buyer of exports of lots of countries, china, korea, germany, and that went away and a gross sense and levered those economies part of their downturn which in turn reverberated back to the united states. so of all the things that went on including the housing so prime problem. if i had to isolate two things would be the financial sector and business cycle which in this case included the bursting of asset-price bubbles and a leased to assets, the effect on the economy back to the financial system knows it again and again by the federal reserve members, they have quite well picked that up, the negative feedback loop. the negative feedback loop of the u.s. downturn and consumption to the world and back to the u.s. again to the financial system back to the economy again.

and those aspects of this particular cycle that had so much to do with the intensity of the downturn. now what about the reactions of the policymakers to this? i think i would have to say as i have always said in observing policymaking with regard to the ideal situation in the economy and what we can create and a test tube in macroeconomic policies to get what we should get in terms of the objectives and the timing you know frankly that is impossible in the practical world of policymaking because too many things interfere with that. what he can do we cannot do in the laboratory of the federal reserve for the treasury or any policy makers. i think once recognized leader in 2007 by the federal reserve and the congress and the bush administration and in the obama administration 2008, 2001 policy actions were taken fast and furious and we've heard about that from allen already today.

and in the too late, too slow, too timidly and arguably fiscal policy perhaps the wrong mix with the wrong proportions. certainly t.a.r.p. in some timber, 2008 in my opinion was way off in terms of what one could have done with the taxpayer money and i must say the evolution of how t.a.r.p. ended up being used is more encouraging, but this was one of the worst examples of the public policy in eight macrosense that i think i've ever seen it all the years i've been looking at this and this is a topic for another day. for the policies and tables for and five and into gear for you see what we call the monetary policy easing or the monetary policy response. ..

and mostly temporary rather than permanent. now i mention this because in the model simulations, these characteristics of policy have significantly different effects when we do our simulations because of the way the model reacts to these. but it is these policies and their major elements that were counter factually simulated power removed from history, singly, jointly and collectively

on with assessing the effects of the negative household islands that happened. and you cannot your leisure look at tables eight to 15 figures five to 12, which show the changes to a number of major variables as a consequence of taking out the policies singly, jointly, and collectively. what i want to concentrate on for a minute or two as table 16 in figure 13, which provide a comparative summary of these counterfactual simulation. and in them, what we see are some conclusions that i would draw. first, it is clear that collectively the fiscal and monetary stimulus made a big difference to economic performance in 2009 and will in 2010. a much worse result would've occurred if nothing had been

done. over two percentage points less real economic growth in 2009 and in 2010 more than four percentage worse economic growth than is currently expected is what these counterfactual simulations show would've happened without any of the allah sees, and none of them being implemented. we would have had economic growth of four to 5% this past year and 82,000 down of 2% without any of these policies. also, quite clear both in history and in the business cycle again is the timing of policy making actions. way too slow, not preemptive enough, and probably for the short term not adequately sizable. again, this is idealism talking in the laboratory as opposed to the practical side of policymaking with which i am familiar and the difficulties of doing things on time and early

enough. between the various policies the results show much greater effect for the monetary you seem for the fiscal stimulus. you can see this in the summary table monetary policy 16, monetary policies in both reductions of interest-rate and quantitative using if not implemented would've cost about two percentage points of lost growth in 2009 andover three percentage points in 2010. monetary policy is powerful although with flags. the fiscal policy stimulus boasts to non-recovery act in the 2008 in the obama administration to pass nine if not implemented would've cost the economy over half a percentage point of growth in 2009 and 1.3 percentage points in 2010. the monetary policy is clearly far more significant and within the monetary policy easing it is quite interesting that our model verdict is that the quantitative easing had much bigger impact

than the interest-rate reduction in the federal funds rate. the quantitative easing, the ingenious invention never seen before in the history of macro policy in the united states of this federal reserve and i must give them a lot of credit for figuring and trying all that stuff. the model tells you that. now why the model is saying that we have to take a real good look at, but it is definitely quite clear about that. on the fiscal side, the two dozen eight act was really a nonevent, hardly moved the economy. those with temperate tax reduction, tempers stimulus in the american recovery reinvestment act of 2009 if not implemented according to the counterfactual simulation with the charges 1.3 percentage points of real economic growth from the economy in 2010. and so, i listen to don, i listened to alan and i would say to alan, the generous comments to the federal reserve i think

were quite gracious and quite appropriate and i would suggest these results that you continue to do that. thank you very much. [applause] >> marty? >> randy, thank you very much for providing inviting me to participate in this and i'm grateful to you for organizing this forum year after year and it's a pleasure to participate with everyone on the panel. i'm going to talk about three topics. i'm going to start by talking about the use of fiscal policy as a countercyclical instrument. i then want to say a little bit about fiscal deficit and then finally i want to talk about what was the key fiscal economic policy of the past year in my

judgment. and that is the health insurance legislation. so i'll start with a countercyclical instrument. this really has been a different business cycle for previous business cycles. we look at previous economic downturns that were caused by a tightening of the federal funds rate, the fed tightened because it was concerned about inflation either actual or incipient inflation. and when it had succeeded in doing what he set out to do a good lower the short-term increased rate the economy could recover. and that typically took about from pete to trough. in a key part of the recovery with the bounce back in housing interest spending on housing. this time the downturn was not caused by federal reserve tightening. it was caused, i think if you

have to summarize it briefly, by a miss pricing of risk and as a result of that miss pricing of risk excessive leverage and that in turn led to affect a bold. and when the asset bubbles broke, the economy turned down and allen sinai has given us an explicit focus on the two key asset bubbles that contributed to the decline in household spending. but once that happened, monetary policy of the traditional lowering interest rates was simply not affect this. the banking system, the capital markets more generally were dysfunctional. housing was certainly not going to respond to one or two or three percentage point reduction when house prices were coming down at 10% a year. so, the fed changed the

direction because the fed became a provider of credit and really stepped in to replace the dysfunctional private credit markets. that's not my subject for today, but i think it's important to see the ineffectiveness of traditional monetary policy in being able to generate a recovery as the rationale for the fiscal policy. i reluctantly came to that conclusion in the summer of 2008 that we needed a significant fiscal stimulus. usually fiscal policy is a bad choice. it's a bad choice because the lives ourselves on. but this time in contrast to the traditional ten-month peak to trough history this time the lag was clearly going to be a lot longer and on top of that monetary policy was ineffective.

so i supported the idea that we needed to have a fiscal stimulus summer to the dismay of some of my conservative friends. i advocated in any article in october of 2008 in the "washington post" that whoever was going to win the election the next month was still going to be a senator whether it was mccain or obama and that they should move immediately to develop a fiscal policy instead of waiting until the spring of 2009. well, president obama did weight. in fact he stepped out of the assignment immediately after winning the election. moreover he returns the responsibility for designing that fiscal stimulus to the congress. and i think that in richer spec was a serious mistake. the result was that we had a

787 billion-dollar plan which delivered much less stimulus, much less increase in gdp, much less improvement in employment then $787 billion should have. too much of it went into transfers, into payments for states to finance further transfers by the states and to protect public sector jobs. it was a low multiplier use of funds. nevertheless, it did work as alan krueger said. it worked in a sense and we thought now and finite numbers at the gdp has been better in the past couple of quarters than it otherwise would have. but what i would emphasize is that it was a low-cost affect

admits policy. we got a small increase in demand and if we take that 1 million increase in the number of jobs would early that small @ lative to the 14 plus million while that happened we saw gdp rising. and the question is what's going to happen going forward even in 2010 when the level of the fiscal stimulus is stable. no longer rising is they are,

it's stable, but it's no longer rising. so with some of the negative forces that we still see in the economy saw in the third quarter. if the decline in state and local government spending, if the declines in that exports, if the declines in business fixed investment continue and we don't have an offsetting positive thrust from an expanding fiscal stimulus, will the economy continued to expand throughout 2010? and i think the answer to that is still unclear. we don't know what's going to happen. i think there is a significant risk that the economy could run out of steam at some point in 2010. and that we could see a further downturn. what is clear is that $800 billion was added to the national debt.

maybe some part of that was offset to the extent that we got more gdp. we got more tax revenue. but it was an enormous increase in the national debt. so that brings me to my second topic, which is what to do about fiscal deficits in the coming decade. and there really isn't enough time to deal with any kind of justice to the subject, but i couldn't talking about fiscal policy not say some words about fiscal deficits. the congressional budget office estimates that the debt to gdp ratio, which was 40% at the end of 2008, would go to 68% by 2019. but that bad news, bad bad news would only happen if a number of very implausible assumptions are made basically because of the rules that the cbo has to obey

and making their forecasts. in coming to that conclusion that we will have fiscal deficit of about 3.5% and a debt to gdp ratio of 68%, they assume that all of the tax cuts that were enacted in 2001, 2003, and 2009 and that are formerly a sense of what the legislation says expected to win, they will end. and therefore tax rates will rise very substantially. they also assume that there will be no real growth in discretionary spending. they don't assume that because doug elmendorf and his colleagues believe that. they do it because you have to have some rules and they want to have rules rather than judgment in the way that the cbo operate and the rules that they pick our whatever the law says the law

says and you must grind out the implications of it. well, that's tax cuts, but they also tell us that if tax cuts were to be continued instead of ending as scheduled and that discretionary spending increased in line with gdp. well then the gdp to debt ratio would exceed 100% by 2009 team. another similar view of the fiscal problem comes from the ims which in the world economic outlook predicts that u.s. fiscal deficit would continue after 2012 at about a 7% of gdp level. in other words, about twice the optimistic cbo numbers. well, what should be done about this? i think the challenge is to find a way to prevent the ever rising share of government spending and

gdp. by 2019, the cbo numbers, the cbo numbers omnia assumption of no real discretionary spending are that we will be spending 23.6% of gdp with a more realistic assumption that government spending will rise to discretionary spending will rise with nominal gdp. we get to more than 25%. and to put that number in perspective, over the four decades through 2009 that number was only a little over 20%. so with a five percentage point increase. and the danger in my judgment is that this will provide an excuse or provide political pressure to consider the value added tax and while value added tax is that

many virtues as an alternative to other taxes, i don't think they have a virtue as simply an addition to personal income taxes, payroll pack the and corporate income taxes because they would increase marginal tax rate and encourage even more spending. so let me turn finally to the subject of the health insurance program. president obama has basically focused his energies on that program for expanding health insurance to low and moderate income households. the 30 million people who would benefit we are told from the program will either be added to the medicaid rolls or will be given meaning and trent means tested subsidies to buy private insurance. so the major impact of all of this is a trillion dollar

redistribution program aimed at increasing health insurance for about 10% of the public. and of course, the fact that it is mean tested, both the subsidies and the medicaid program, means that it will add to the usual adverse incentive effects of increasing implicit marginal tax rates. what concerns me more though is that the new law requires that insurance companies ignore preexisting conditions, preexisting medical conditions in the availability and pricing of insurance. this is generally regarded as a great virtue of the legislation. i think it is a terrible problem of the legislation. why? physically what it says is that anyone can buy insurance at any time, regardless of the state of their health. what that does is to provide a

very strong incentive for millions of middle income individual to drop their health insurance, to pay a small fine and that's what it would be and only buy insurance if they discover that they have some very expensive disease. typical policy for an individual cost something like $8000 figure for a family even more than that. very few individuals actually spend that much. and so, the obvious strategy for an individual is to pay the few hundred dollar fine and wait for bad news before ensuring. of course it would make sense for individuals to buy insurance to cover the cost that might be incurred if they were in an automobile accident or had some

other short-term pay and health costs, something they wouldn't have time to get insurance for her. but the major cost associated with chronic diseases or let its surgery are things that individuals could present themselves to the insurance company for. so that i'm afraid is going to lead to millions of people facing the incentive to drop insurance. and the significant numbers of them take that, that will push up the cost of insurance for all the rest of s. who remain insured. if that occurs, congress will have to completely revisit this legislation, completely revise the legislation, pushing us closer to publicly provided or publicly financed insurance for all. i don't know whether that's an intended effect of this or an inadvertent effect of it but i think it's a likely effect of

it. but even without that, the medicaid expansion in the insurance subsidy in the senate and house bills will raise the national debt by nearly $1 trillion over the next decade. but of course, the spending part of this has been combined with a promise to increase taxes and to reduce medicare outlays so that the sandwich that is produced, spending increases and revenue sources, as far as the cbo's rules are concerned that they have to cost out to develop a whole. they tell you what the individual components are, but the headline that comes out is that the legislation as a whole will not add a dime to the national debt indeed will reduce the national debt. but i wonder if anybody really believes that medicare outlays are going to be reduced by $500 billion over the next several years.

after all, while getting ready to enact that provision, congress and of course that doesn't start for a few years, congress passed grade now been repealing previous legislation, which would have cut medicare payments to physicians by more than $200 billion. finally there's the issue of increasing health care costs. i think the obama administration and peter or his bag in particular have correctly identified increase in health care costs as a major problem for families, for businesses and for the fiscal viability of medicare. and we know that the key cause of this rising health care costs is excessive insurance. and the administration and congress have recognized that in the proposal and the plan, at least in the senate version to

increase the tax on or to remove the tax subsidy on so-called adalat health plans. in the end, they are focusing on taking away the tax subsidy only from a very small number of superexpensive plan. those are the only ones who will lose the tasks -- or a tax benefit. so there won't be any change in incentives. in said of a change in incentive they tend to power a committee of experts and call upon them to report on the cost effectiveness of different health procedures. that's supposed to reduce cost significantly. but to do so without denying care or rationing care that patients want and are prepared to pay for through insurance. i think it is a technological

approach to health care, an approach that ignores the fact that people have different preferences about health and health care. and therefore, differ in their willingness to spend on good i think that's unfortunate. thank you. caught [applause] >> first, let me say that i've managed the time poorly. and so, i'm renowned to the part where my paper will need to be cut back substantially. and i can tell you in advance of the title in my paper -- the title of my paper is the federal reserve and the abatement of systemic risk and capital markets. now, actually i was first drawn to focus my attention on this

other topic a long time ago. actually, i was a member of the board of governors of the fatter federal system in 1970. at that time, the present administration appealed to the federal reserve to provide assistance under which the subtle provisions of the federal reserve act, which allowed the federal reserve to provide direct credit to companies, industrialists, if they cannot under the circumstances obtain funding from the commercial banks. the important theme at that time, there was no money left at the federal reserve bank who knew how to do this. so retirees were brought back from both of those institutions to teach the present staff had

to do it. now, it so happens that the stats reported that penn central, a railroad hem over. we knew at the federal reserve that is penn central couldn't move them over, it was going to have to declare bankruptcy. so then the question arose, what do we get the federal reserve do if we're not going to say penn

central. i want to stress that. not save penn central, but we do need to save the commercial paper market. so the three of us at the board governor george mitchell, and i worked out the principles under which the federal reserve relinked under these renewed circumstances. and that's what we did. and since that time, what we did was to provide to the reserve banks that they could provide reservists a monetary restraint but they would have to take a risk of missing monies to the individual firms. so what principle did we work out that the board had to find circumstances, that the firm involved with the the segment of

the market, which would be disrupted if they were under federal bank assistance. in other federal reserve has made use of that principle on a number of occasions. the most notable one, it was not directly at the federal reserve but at the treasury. during the mexican postwar, at the federal reserve collaboration with treasury used the exchange to legalization to provide support for the peso. and the most important one, of course, in recent times was the long-term capital management. and finally, at the time the federal reserve issued a statement is that the federal reserve is a business and we

will provide whatever assistance is necessary, regardless of the condition of the market, if the market is being threatened. but what i want to talk about today are the three most recent examples. these steel with vast earnings, lehman, and aig. now it just so happens that on december 2, chairman bert mackie spoke to the economic club of washington and i was forcing it. i was invited to sit at the table, but edwards not several questions ahead of time and hope that i would have a chance to address these two chairmen

bernanke. these questions were: the first the handling of bear stearns versus lehman. why did the federal reserve save bear stearns who made that decision? why was the decision made not to save lehman? who made that decision? what were the respective roles of the treasury, the federal reserve board, and the federal reserve bank of new york? why did the fed save american international, a group who made that decision? why did the fed invest so much money in the project bikes first $85 million brought in to $85. and how would the federal reserve describes the ways into which the sharp expansion of the fed's balance sheet reflects its key role as a lender of last

resort? now, we have done a lot of work on this issue before. and chairman bernanke answered those questions in that speech and subsequent answers provided to the congress. and they are all on the record. and i would leave those to you to read those. what i want to do just now is to focus on the question of, who should be the systemic risk regulator in the future? the adverse proposers in the barney frank's bill, the chris dodd bill essentially in one way or another the federal reserve would roll in the management of systemic risk would be diminished substantially.

my proposal is to do the reverse, but to make the federal reserve the anchor in a system of regulation and supervision. the question is not just regulation but also supervision. this is one of the powerpoint we would've made. what i have here -- you can't see this so i'll just describe. visualize your in a classroom, the students are not asleep, and the charts are on the board. i have treasury, federal reserve, fdic and the sec. they are the principal federal government banks supplemented by the trade commission, investor protection act, and a new agency

called consumer financial protection agency. basically, the federal reserve, based on its experience and using the principles i've just described, in which have been embedded in the system over the years would become the key consolidated resonator and the vice chairman had described these, chairman bernanke had described those as well. so that's the message of my paper. hopefully will have a chance to have a few discussion. now what i would like to do is turn to to discuss these and ask them to make their comments. and after they make their comments i will not turn to the panel to form rebuttals but i would give the audience a chance to ask a question. so i will start in the book.

jamie, margaret simms. >> how much time? >> five minutes. >> i had the somewhat challenging tax of delivering comments compared in real time and doing so in five minutes. so i will simply make a few remarks on each of the speakers as i heard them. vice chairman colin started his remarks by stating a principle to solve against adequate collateral. it raises an important question. were the institutions in fact solvent? are they now? and is it still the correct advice when the borrowers are in fact insolvent. it seems to me this is the critical question in the savings along crisis or principle of dealing with insolvent institutions that might later recover was that they were prohibited from growing.

as for fraud, restrictions on growth led to an early exposure and caused their collapse earlier rather than later a good thing because that limited the ultimate taxpayer of losses. but the crucial question how you judge whether the institutions are solving or not. second point, dr. but the recovery of the financial markets. and i want to ask the questions to whether it's really fair to describe the financial markets as recovering has been recovered. they have not done so in a sense that would have be recognized by homeowners, small businesses, or the unemployed or underemployed. stabilization of existing financial and two shams and to raise a delicate point the compensation of their executives is not a goal in and of itself. the issue i have no disagreement with donna kohn is very realistic and a very bleak forecast for a slow and gradual recovery.

i thought i very elegantly done. but the issue of course is whether a very gradual improvement is tolerable and is not what is to be done about it. and skip over a few things but i can't post on subjects without congratulating him in his final remarks invoking the spirit of making a crucial point that. the stability of the two instability and also for her, i think, making the point that monetary policy is a blunt instrument in this matter. as my old boss, henry burris coming is to say is what we need is the rifle shot of regulation, not the blunderbuss of higher interest rates to deal with these questions. alan krueger stated the economy is not good enough albeit better than it would have then without the three pillars of financial stabilization, the housing program, and particularly the ara. those are all important but i would argue that they are

perhaps even secondary to a fact or not gets mentioned on the panel, which is the effect of the overwhelming importance of the automatic stabilizers. we only live the stable issue that has occurred to the progressive income tax come into the social security system, to medicare into all the other apparatus of the welfare state that was given to us by woodrow wilson, franklin roosevelt, and winded and johnson. if it is preemptively before comment on the marks of professor feldstein. on the stress test, i have a different interpretation from secretary krueger. i believe that they are best considered as a successful, highly successful public relations exercise. they led in effect to a case of engineered adverse selection, the signal was not the banks were solving, but that they were too big to fail and there is no question that the government can support the banks of it is determined to do so. it's not a question of having

enough capital. banks do not lend capital to come back to kamensky is used to save eggs are not moneylenders they do not too have money in order to land. the issue is rather whether the financial structure that we are building through this stabilization program is one which is going to be effect to in producing a strong and rapid economic recovery going forward your alan krueger concluded by saying that we need to think in terms of rebuilding the economy. and what i would urge that given the stages in this crisis does is a very long-term proposition which is going to require additional initiatives on a scale. so far not yet contemplated herein allen sinai pose the question what are the policies necessary to put the u.s. economy on a full employment price and financial stability while at the same time reducing federal budget deficits and debt

relative to gdp? what i want to suggest is that maybe the case that there are no such policies. [laughter] absent a revival of housing crisis and a restoration of the financial wealth of the american public, which is non-prospect and a full reform of the financial sector which the administration has chosen to forgo. the private credit expansion which is the only known way to generate activity and tax revenues apart from direct government that reduces deficits inevitably won't occur. allen gives great weight, great authority to the power of these monetary policies and stabilization. but i think i'm reading his paper, his was the only one i received in advance, that this seems to me to be an artifact of historical parameter values. interstate reductions cannot generate activity must they stimulate credit flows and of course we didn't get any credit flows. credit flows collapsed. what did happen was that kind of

carry trade, reviving a staple at about that markets including the start market. this is a consequence and part of this. it is very difficult to see other support suspended. that is to say you have to believe in a very large wealth effect in order to believe that the quantitative easing ms. was responsible for an over 2% difference in gdp between 2009 in 2010. and what i was in fact saying in a simulation was that the quantitative easing prevented a further collapse of almost over 45% in the stock market, which seems to me to be possible, something which is hard to know how much weight to give to that conclusion given how far do outside of the range of historical experience. okay, to come finally to professor feldstein, who is really in sharp contrast with allen sinai and his view of the matter. professor feldstein began his

remarks with asset doubles broken monetary policy does not affect the good that the fed stepped in to replace dysfunctional private markets and that there was therefore a need for fiscal stimulus to stabile@rbrb for speed, the political realistic thing to do was what was actually done which was to put together build the components which which were already familiar largely to the democratic caucus in the house. this is the way you got something done in a very short period of time.

anything else although there are many things i was recommending things which would've been better would have been politically extremely difficult to accomplish. i also disagree with professor professor feldstein on the substance of the matter. i think whether there was actually not enough aid to local and state governments protect public-service charts and the great weakness going for is the continuing crisis in the states and localities means that the large parts of the federal efforts are being offset by cutbacks that are occurring in california, new york, florida. i'll be there in just a second. the fact that the senate may be true that there is low multiple activities simply means you must do more and can do more to the larger number into the bill. it's clear in any event that we have scope for much larger effort to cut for this professor feldstein said the effects of it are small, relative to the 14 million unemployed. and finally, the danger now, it

seems to be, a serious danger against which i wish to put you all on guard is that you pay too much attention to those who he says who are crying wolf about the dreadful prospect of a rising debt to gdp ratio as reported by this epo. this is just the least of our worries. these numbers are financial artifacts. if the private economy could do a major recovery they would go down. if they cant they will go up. either way the problem to focus on is that 14 million unemployed or do nothing else the debt to gdp ratio goes up to greater than 100% by 2019. i have to say sold. in 1945 was 125% of the gdp. a father who was responsible for price price administration said a world war ii they share of responsibility for that and that led to the greatest period of american prosperity in modern

history and that that can handle the public with a great source of the financial stability of the postwar american middle class. thank you. [applause] >> let me say to you that an article in the journal of the 1989 as i described this approach to just many in systemic risk. thank you, margaret. >> thank you. i was asked to be on this panel when dr. rohmer was doing his paper on employment growth. so i was to speak to issues around employment and unemployment. at the most consistent statement in the five papers that were presented with that unemployment will continue to be a high. and i think that sort of day

very weak land on which to hang a lot of comment. but on the other hand gives me a lot of freedom to say whatever i want to say. and i think that i would probably begin, since this is an evaluation, or supposed to be an evaluation of the first year of the obama administration policy is to say that there isn't a clear and cohesive employment policy. now it's certainly true that in the first year it's hard to articulate a complete and comprehensive policy on any number of areas of importance and hopefully we will see more vision in this area coming out. there are two types of unemployment that i think we need to deal with. and one is the standard cyclical unemployment that is the focus of much attention now. and the other is a deeper chronic unemployment problem

that we have in this country. looking at the cyclical unemployment, they're basically two strategies that have been pursued. one which was reference is the expansion of unemployment benefits in terms of length of payment and also providing incentives for states to modify their unemployment insurance programs. and one thing that you could say people who've been following this issue can say is that the advantage of the large recovery act was that it enabled the congress to actually pass the unemployment modernization act which had been lingering in the congress for a couple of years am not quite getting over the finish line. and states have been responsive to these incentives and i think that's a good ring. there is some question in the long run, whether when the

federal benefit disappears but the states will reverse these advances. but they certainly, in the meantime, are important for those who have been you might say less attached to the labor force because it changes some of the rules under which people are eligible, which is a separate issue from the extended benefit that are available in times of overall high unemployment. the second game, which is all say a little bit of a negative and hopefully will get more attention as we move forward. and that is that the original vision was that the employment service would do with not only hand you a check when you are unemployed, but also help you find another job. and in recent years that's been a very neglected part of the employment service says it could be. and so, one would hope that some thought might be given as to how

this might be restructured given some changes in the way unemployment insurance is online and by phone and therefore not coming into a place where there were jobs they might be able to find out about them. the third aspect of the cyclical unemployment is the question of how you generate new jobs. and certainly as has been mentioned a number of jobs that so far we've been able to look at in terms of created or retained is about a 10th of the problem that we are currently facing. and the question is, how can we generate more and several people have mentioned. i think one thing we need to get thought to is the types of jobs that are being created. the easiest and fastest jobs at construction jobs which makes sense of the cyclical fans

because that was one of the hardest hit actors and therefore you've got people who have the skills they need to have jobs to get back to. but it certainly doesn't help women because in spite of a number of efforts to make the construction industry more open to women, it's not really done a good job in there. and the unemployment statistics that man have fared worse than women and that certainly is true, but women who have families have fared worse than men. so there are some issues i think they are. in terms of the reinvestment aspect, the question of the green jobs and how that might generate new employment opportunities. i think there's some questions there of how to make those really affect it, both in terms of providing skills and pain

well because some of the green jobs wanted in fact pay well. i'll skip just to some questions about what people have raised us things that we might do in addition. certainly the tax credit issue, the jobs tax credit is one that's been mentioned and that would be part of the jobs initiative. there is certainly the literature is quite mixed on whether these tax incentives for businesses generate any new jobs and generate jobs for those who are most vulnerable. and then i'll just mention the others call for public jobs. that is not just the retaining jobs for policing and teachers and so on, but whether or not we want to public-sector jobs and fans of the old seda and pfc. jobs in the past. and i think there's an open

question about that and how they might be done or modified in ways that would be more affect this. >> thank you. mock >> i am the last speaker here and i don't want to stand between the questions he might have and the lunch, which you were looking forward to. so i'm going to make three points here. because background has already been given by my two fellow discussions we'll time and we don't have access to the papers so i look for the titles with the exception of andy's title i think they are more or less the same. so the first comment i want to say a word or two about the financial crisis. and that especially the first year review, that's the way i took it literally win and he talked to

and so, handling of the financial crisis is the most imrt part. very quickly, you have to remember that this is not a u.s. phenomenon. it has been a world phenomena. i wasn't not sober, november in england and my colleague from the british economic society was talking about the queen elizabeth's question. why didn't you recognize the problem. that was the question she had led to the economist. and they were all trying to struggle to get her majesty's answer after they have set up the committee to study the issue. but i would say this however that the most important part is that some might have said it and maybe they pointed out you could say the coal mine, but most of

the profession has not been dissipated weather here or abroad. so we have to remember as many of the speakers, especially andy has mentioned that some of the crises that happened before and will happen in the future. but i think what is important is that the predict dean timing for him and severity will remain a very difficult situation. so what we have to concentrate during this year what kind of response has been to this crisis, especially the systematic risk which has been spoken to by anybody, many people here. so the response i named in my judgment is too global crisis from the u.s. government and the central bank has been very good.

especially in stopping the economic freefall and stabilizing the financial markets. as i mentioned, it wasn't limited only to the u.s., but was globally in the scope and value have to see declines in gdp and see the numbers and i tank alan has documented some of those figures really well. we were fortunate that two scholars who knew something about the great depression were in washington at the right time at the right place and of course i'm referring to chairman ben bernanke and christina romer. and therefore, i would say that one point led to allen's list of five on page for where you listed the items that need to be exposed. i will add one more and that is

the independence of the federal reserve. because i don't think we were out of the woods on that party and there's a lot of discussion and it is in the political arena and that may have some implication in the long-term. and i agree with andy has also called for that too. a second point i would suggest that the administration has to be careful in terms of coming out with numbers, exact numbers. i give an example of the unemployment rate. i was very surprised predicting their unemployment rate that they say that they were be approaching 8%. and i learned a long time ago as a graduate student as a phd dissertation by robert gordon who knew something about the business cycles. and one of the things is that once you are the political

agreement you do not talk about the cardinal approached the unemployment for often to be talking about along the way. i think given the magnitude of economic and financial crises it would have been better for the administration to disdain the unemployment rate could reach in the double digit figures. the third point i want to mention is the investment in human capital. we all have heard about a school dropout!!

not only increase their earning potential in the global marketplace, but will also endorse to social mobility. but as i said before, but it is a long-term, human capital investments coming human capital long-term payoffs and this may be not possible to observe all these data in the first term or the second term of the president obama, but the foundation for that i have not seen much being written. but this is a very important part in the label market outcome which we are all talking about but we have lots of focus on the supply side.

[applause] >> thank you very much. i want to thank all of the panels. now, i see i have an advantage over the rest of you. i've been watching. i learned from the lawyers that one must always observe the demeanor of the witness. i've been watching the witness. that line has not diminished since the first moment we opened. i also learned using that when i was an undergraduate at university of washington in seattle. my professor brought into the classroom and old trade unionist. you was known around seattle as mr. dooley. and mr. dooley said to our class he had learned one thing about the golden rule. the tu as the gold makes the

rules. [laughter] the federal government has the gold. the federal reserve has the gold. let's listen to the federal reserve. thank you very much. [applause] ..

electively emphasized, cents addressing martin feldstein's point about the capital expansion. that has greater potential. >> excuse me. you notice i have been holding up this time sign. i am going to say, address your question to one of the panelists and respondent please be conscious of the time. hillam do you choose? >> allen krueger. >> that was the right choice. [laughter] >> there are issues with the timing and you will see the nature of the recovery act

change over time as more of the money goes into infrastructure spending. most of the initial money went into tax cuts in unemployment insurance benefits which jamie alluded to. but, i think you will see more the stimulus spending going into infrastructure and going into renewable energy. the vice president announced to very large grants for batteries. we eliminate some of what i consider a justified tax subsidy to the oil and gas industry, and i mean that is part of the administration's approach to an energy policy. i think you will see more of the stimulus money going towards try to stimulate jobs in the job sector. >> first off i am glad to see we all agree things could be worse but several people mentioned that is a rapid lobar but i will point out however good the policy might have been we have

also seen recoveries in the rest of the world so we have equally skilled people there. let me just point out when we'd make a comparison to germany and the netherlands germany is a country that hasn't seen its unemployment rate rise at all in spite of having a more serious downturn than the united states. the netherlands has a unemployment rate of less than 4%. i guess my question is for allen, is the administrations actively considering a work sharing policy and if not, why not? >> the answer is a lot of different proposals to try to generate jobs. we would like to see stronger job growth, better jobs for the work sharing is one of the things we are looking into. as you probably know several states, almost a dozen states have unemployment insurance programs that encourage work sharing, but i would necessarily hold up the performance of

countries that emphasize work sharing as superior to the u.s. in that ward gdp growth or gdp performance has probably been stronger in many cases, so, i don't see either necessarily the ideal. i certainly would like to see more americans working but i would like to see them working full time if they want to work full time so we are focused on a lot of different approaches to try to solve the unemployment problem. one less thing i will mention, the unemployment rate has increased by more than one would predict from the path of gdp and the initial projection which i wasn't part of all the note i am part of the trico process that makes unemployment projections, so it is fine to say one should be ordinal but you can't be ordinal if you have to make

projections. >> i am going to say, thank you. we have one more here. is your question to be addressed to-- [laughter] >> if you use the traditional open relationship the rise in unemployment has been greater than one would have predicted from the right to gdp and try and understand why that is the case why we have had so much labor shedding as opposed to labor hoarding is an important research topic. >> alright. now, is your question to be addressed to the administration representative or to somebody else? >> to both feist chairman and secretary. >> i would say ask the vice chairman. >> okay. just about three hours ago-- surprised the audience. he said only it the feasible and

credible way to fight the high u.s. government deficit is to the faults. what is your opinion? [laughter] >> i can answer that. [laughter] >> absolutely unacceptable. >> i would say it is irresponsible. for a respected member of the congress to make a comment like that. >> i say the vice chair. after all the government has a great opportunity to make a case. were you about to ask him a question? okay, then one more question you.

it is fast and free. try it out at c-spanvideo.org. >> "washington journal" continues. host: joining us from allan meltzer, professor and export -- expert on the federal reserve and he has written three books on the federal reserve. the front-page story in "the new york times" this morning is -- host: before you answer that question, was the federal reserve set up in the first place to recognize baubles and our economy?

guest: not at all. it was set up back in 1913 by president woodrow wilson under the gold standard, so there weren't very many possibilities of bubbles and you could not do much about them anyway. it was a very passive institution when it was set up and set up on a program that president wilson did. the big argument was not whether we would have a federal reserve but the question was then and many times later, who was going to control it. whether it would be controlled by what were called the politicians in washington or the bankers in the country. wilson's compromise was to make semiautonomous regional banks, 12 of them, and the board in washington that would supervise it. host: explain how the federal reserve works. guest: nowadays it is a very different organization from the one that wilson helped get started. what it does is it tries to

control the federal funds rate, the rate at which bankers sell reserves supplied by the federal reserve, sell back and forth to each other to cover something called required reserves. banks have to hold reserves with the federal reserve, and if they have too many, the want to sell them, and too few, they want to buy them. there is a market for the reserves and the federal reserve controls the rate in that market. by doing that, it influences many other rates, including the stock exchange and the mortgage rate and so on but not directly. host: it has also been dubbed, the lender of last resort. where does the phrase come from and how does it work? guest: it is a starkly and old, old phrase, goes back to 19th century bank of england. the idea was when there was a crisis, -- welcome a crisis like the one we just went through

when none of the banks wanted to lend to each other, they don't trust each other, they want to hold cash and they are not sure what will happen tomorrow or the day after tomorrow so the best thing to do for them is to hold cash. there was somebody who was supposed to supply that cash, that was the lender of last resort and that job became the job of the central bank. in most countries of the time this started, the central banks were all private institutions. later, many of them became public institutions. host: you talked about how the fed was set up to be independent. what does it mean to be independent and how is that independence viewed within the federal reserve? guest: the idea began under the gold standard. there were real restrictions on what they could do. but they were independent. the main idea at that time was that the federal reserve would not finance the government. if the government it -- had to borrow, it had to pay the market

interest rate and the central bank would not finance a because everyone knew then, as they sometimes forget now, when a finance the government by buying the paper they are really creating the possibility of inflation, or if they fail to do it, possibility of deflationary. rr$"a)rrrr"'$rrrr

guest: i asked them about that and had about a to our conversation about it. it is pretty vague, i would say, in their mind. they don't like congress looking to closely at what they do, but of course, it is a democratic country and congress under the constitution has a right to coin money and regulate the value thereof. so the fed would reserve is their agent. they often cooperate with the administration but they like to keep a hands off relationship with the administration so they are not forced to do things they do not think are in the public interest. host: i have at the desk before me book 1 and two of volume two -- guest: advance copies. host: you wrote a previous volume of the federal reserve.

these are three very lengthy books on the federal reserve. who did you talk to for these books and what sort of access did you have to documents? guest: the federal reserve was very cooperative. they knew me, of course, for a long time, and they knew i was a critic and they were very happy to have someone as critical as i was not to be seen as an insider writing the history. for a long time they wanted the history to be written and they were very cooperative. they were made available to me under the freedom of information act, everything i asked for. the federal reserve banks are not under the freedom of information act but i went to them and they cooperated nicely and give me access to everything i asked for, i interviewed many of them for the book. they were very cooperative. host: the first volume dates back to the beginning of the

federal reserve and you wrote in one of the books that the federal reserve has not been marked by controversy in its 90- year history. there have not been any significant of leaks or ethical stance -- scandals. why is that? guest: it has a high this breed accord -- espirit de corps. there were michael -- minor scandals, people leaking information, but even that has been relatively small thing. it has just been a very good organization. it is considered to have the best professional economic step in the country, if not in the world. host: that is part of what "the new york times" writes about today. it talks about, who serves within the federal reserve. it is an echo chamber within the federal reserve.

that is why it was difficult for federal reserve chairman ben bernanke when he served under the former federal reserve alan greenspan, for them to see the housing bubble happen. what is your take on that? guest: i don't agree with that. there was a member of the board who has since died who presented them with that information. alan greenspan himself testified -- one of the mysteries of the current crisis or disgrace all aspects of the current crisis, is that congress won't do anything about what was the initiation cause of the crisis. under various administrations, democrat as well as republican, they have tried to increase housing. after a while they were giving look -- no down payment loans for people without a credit rating. if that isn't an indication for difficult, it is hard to think of what would be. alan greenspan among other people testified about that. my colleague at the american

enterprise institute, who had -- who at one time was the chief counsel in the white house and former chief counsel of the treasury, a very knowledgeable person, has spoken over and over again about the dangers that were coming from fannie mae and freddie mac and how buying these bad mortgages -- you know, the government owns half bad mortgages that were produced under subprime loans. we are going to lose hundreds of billions of dollars. what does the treasury do? it just expanded the amount fannie mae and freddie mac -- that is a scandal. what we need to do is get rid of anime and freddie mac. if they are going to subsidize housing, which they most certainly will, it should be on the budget. that is way democratic government is supposed to run. fannie mae and freddie mac running around the democratic process and open to corruption,

and has been corruption. host: of this article notes the hostility that has increased for the federal reserve and the chairman ben bernanke. but before this hostility turned on the federal reserve, when alan greenspan was heading up the federal reserve, there seemed to be admiration or reverence for what mr. greenspan would say. how can this institution be both revered by some people and have distain for mothers? guest: that is easy. when times are good and things are going well, they were great and people like them. when times are bad, as i have been, people say, look, why is the public angry about the puppet of reserve is doing -- they don't like the bailout. they don't like the fact that they are advancing number, the example, ford general motors acceptance corp., they did not

like that we advance money to general motors and chrysler and hundreds of billion dollars to aig. they say, why of giving all this money to the bankers and the people who made the problem and nothing to us? host: professor, there seems to be distrust of the federal reserve. can you explain how the board is set up, who serves on the board and how the regional banks are set up? some of you this institution as a secret society. guest: hardly. it is a lot more transparent than it used to be. in the history of central banking, up to certainly the 1930's and maybe even 1950, it was none of your business what the central bank did and a more or less said that. the operated and did what they wanted to do and if you didn't like it, that was a problem you had. we are a democratic country so

more and more there has been an increase in transparency. the federal reserve announces since 1994, it finally got around to announcing the policy action, releasing the minutes to give a made available to me everything they want. congress is pushing to get more information from them all the time, the chairman of the federal reserve testifies before congress four times a year and talk about what his plans are and how he sees the world and what he thinks the problems are. so, they are just much more transparent than they ever were, more so than many central banks. it is just not true it is a secret society. host: how does the board were -- work and why are there regional banks? guest: the regional banks are because of a compromise. who was going to run this important institution? president wilson developed a compromise and said there were going to be semiautonomous,

whatever that meant that the time, regional banks, eight to 12, and in the and they were 12. in the end they were going to do the action and make the major decisions and a board in washington would supervise them. gradually the power shift is of the board and washington has the control over what is done. but there are 12 regional banks. not originally, but now there is a major entity in the federal reserve called the federal open market committee. that meets regularly in washington, eight times a year, and they make decisions about what the interest rate is going to be and various other things that the fed is responsible for. that committee is made up of the seven members of the board of governors and five representatives of the central

banks, one of whom, new york, is always there and the others rotate through the 12 banks, through the other 11 banks. that is the organization, 12 people. 19 members who come to the open market committee, the 12 bankers, but only five of the bankers get to vote. host: as we go to the first phone call for professor allan meltzer, let us go to the first screen, the definition. georgia, danny on the republican line. caller: thank you for c-span. good to have open minds and able to talk. what you said about the gold standard, and watching this gentleman on tv, very learned. but i do have one question, especially about paul volcker back in the 1980's. what was it he was doing? i know he put a stop to inflation -- money tight and

raising interest rates. we had a two-year recession, 10% or 11% unemployment. some people paid the price and it hurt the manufacturing sector because the dollar got so expensive relative to other currencies. i think that really is what started. between then and now, the amount of money for profit, their earnings every year, 20 cents for every dollar earned in america, to 42 cents. how will you have labor intensive industry and how would you have people working when all the money is going to the financial sector where you don't have to hire to many people. all this money, bonuses and everything else and nobody can stop it. last thing, the need to bust down and break up the big monopolies, oligopolies to places like goldman sachs and let banking get back down to one

-- to earn money in their own businesses for people at home for the family spirit it is not about speculation or hedges or anything else. guest: there are a lot of questions there. let me start with a few of them. first, yes, it is true that paul volcker raised interest rates -- that is the way we ended inflation. it is also true of the one of the rate went as high as 10. %, a little higher than it was at the peak so far this time -- 10.8% but it is also true that following the end of this inflation we probably had almost 20 years of stable growth and low inflation with very mild recessions. when ronald reagan took office in 1980, the stock market was around 800. when he left office, 1989, it

was up around 3000. those were periods of great prosperity and it went on to, until the federal reserve made a big mistake keeping money to easy, and more importantly, the government made the mistake of continuing a bad housing policy. loans to people who can't pay, you will have defaults. that is what we did and that is a housing policy and the blame for that belongs in the congress and in successive administrations, and i republican or democrats -- neither republicans or democrats stopped it. in terms of what the banks should do, i have testified before the house and senate is what we do need to do is get rid of something called to big to fail, the idea of the federal reserve bails out the large banks and let of small banks fail. my proposal is a simple one, and it says that the bank can choose how big it wants to be but the larger it is, the more

proportionally it has to hold reserves. it has to have its stockholders at risk and not the public. the present system is a system in which the large banks get the profits and the public takes the losses as it is now doing. that is not a system that is either good for the country and certainly not good for the taxpayers. we need to get rid of that and we need to have people tell their congressman we want to get rid of too big to fail and too big to fail. host: are democrats line, good morning. guest: professor, your last point, -- i have two questions, please indulge me. why did the federal reserve led investment-banking go under the federal reserve radar? it should have been regulated by the banks -- philandering and everything else those

investments bankers are engaged in. why did the federal reserve let us look around. doesn't the fed reserve have a schizophrenic character the stick? i say that because the fed reserve receives a statutory authority through congress. yet appointed by the executive branch. how something can be eponymous one that is a dichotomy of authority -- wouldn't it be better if you make it a fourth leg of government and make it a voting position? just as far as an elected official and be held a comet -- accountable? guest: i believe in accountability. but let us first get the facts. the chairman and the members of the board of governors are appointed by the president and confirmed by the senate -- like

secretary of treasury, secretary of defense, state. there is no difference there between that and any other major function of government. the members of the banks -- the federal reserve banks, the 12th but will reserve banks -- are appointed by the boards of directors of the banks and approved by the board in washington but not by the congress. that is a contentious issue. it has been a contentious issue for many years and people have different views. i don't see anything wrong with that system, with the way that has worked. as a matter of fact, i think presidents bring information to the board meetings that is not available in washington. they bring a lot of information that they learn from their local people, the people on the boards and the businessmen and labor unions and general public. that is valuable information that should be useful to them.

as to the question about the investment banks -- yes, we have this schizophrenic attitude that what we need is more regulation. but regulation fails. just think what we have been through recently. we had made off, -- bernard madoff, a regulated by the securities and exchange commission, stanford, regulated by the security and exchange commission, the big banks of new york. one of the things people don't hear very much is, the federal reserve had people sitting in every one of those banks during the period in which they were making the bad loans and they were not doing anything about them. so, the idea that regulation was going to get us out of this problem is wrong. what we need to do is go and put incentives on the bankers. that is what i want to do, make the bankers responsible for loans. make every banker get up in the morning of worry about what is

on its balance sheet. how'd we do this? get rid of too big to fail. it don't bail them out. if they fail, they fail what this failure mean? it doesn't mean the bank disappears. it just means we wipeout the stockholders and we get rid of the management and we we adjust the ownership and control of those assets to somebody who hopefully will manage them better. that is what we need to do. until we do that -- and we did that up until 1970. it is only 30 or 35 years we have been bailing out banks more and more all the time. that is a big mistake because it encourages risk-taking. economists call that moral hazard. but it is just a mistake. you take the losses and they make the profits. not a good idea. host: indiana, mark on the independent line. guest: the solution is to end

the federal reserve. our framers knew about paper money and the evils of a central bank. the central bank is in the communist manifesto. john adams wrote to thomas jefferson and 1787 -- constitution of confederation, the want of honor for merchant so much as downright in rents of the nature of corn, credit, and circulation. the revolutionary period is similar to what we have now. we did issue paper money back then. the continental currencies -- fiat money system. what happened to the continental currency is it crashed and that is what is going to happen now. guest: i agree with you that we are likely going to have inflation again but i don't think we want to go back to the gold standard. i know that is going to irritate a lot of people, friends of the

gold standard, including my old friend congressman paul, but the gold standard can only work if other countries join the gold standard, otherwise the united states on the gold standard would buffer every single currency shop in the world. i don't think we want to do that. second, four years when people talk about the gold standard i would say on election platform, we don't have the gold standard, it is not because we don't know about the gold standard but because we do. it meant that you have to be willing to accept a lot of unemployment in order to maintain. we are not willing to do that. the reason why we don't have the gold standard is because the gold standard required us to accept a level of unemployment the public is not willing to accept. so, they went to something that they hoped would be better. it may not be better, but it is something that date showed no

sign of wanting to get rid of. president reagan, under pressure from the gold standard group, had a commission. the commission looked at the gold standard and decided it was not a good idea for the united states and i think that was the right decision. now, we do need it restrictions. we need restrictions on what the federal reserve can do but they should be some that fit with the modern view that it is both unemployment and inflation that we have to worry about. so, we need restrictions that do that. and i believe there are proposals to do that. many countries have adopted proposals of that kind. we have not chosen to do that. host: illinois, philip on the republican line. caller: the person who called in to speak to you mentioned the gold standard and the competition, article one

section 7 -- take anything for tendered for payment of debts. just trying to explain why this is overlooked. i don't see an amendment to the constitution and said it is now and void. guest: the constitution says an article one, section 8, i believe, it says congress shall make laws regulating the value of coinage, and that is the article under which the federal reserve is created. they delegated to the federal reserve their responsibility, at the time, under the gold standard. but no one on the world wants to go on the goals standardbred as i said, we don't have the gold standard because we know about the gold standard and not willing to accept as a modern society the level of unemployment it would require. host: west virginia -- george on

the line for democrats. caller: y. does the federal government have to bail out the auto industry and banks? i think it is wrong. we should not have the bailout anybody. guest: amen. ought to cut you do things wrong and waste money you should not be bailed out -- caller: you do things wrong and this money you should not get billed out. some of the consequences. guest: i agree with you. caller: and why does the president of the united states need all the new czars? we have people appointed and voted on by the senate and anybody? why do we need all the other czars put in place? and the big -- we don't need them. we have department heads. it shouldn't be. the american people should be in

an up rise and demand they be removed. guest: let me just answer that by saying for a very long time, so often "the new york times" the mentoree uses it as a key to the crossword puzzle, i say capitalism without failure is like religion without sin, it doesn't work. i agree wholeheartedly with you and i agree about the czars. this is a democratic country. we as elected congress and an administration subject to the public's review. host: johnston, colorado, dick on the independent line. caller: yes. i was wondering if they reinstated the glass-steagall act, would this have eliminated the problem of housing? guest: no, the house and had to do with policies to encourage housing, policies designed to

give poor people a chance to own their own homes. that is, on paper, a desirable thing. but to do it without downpayment and recognition of the credit losses, that is not a good thing. the glass-steagall repeal, but the time it was repealed it had almost no effect, if any. the reason was the investment banks were doing everything the commercial banks are doing -- and commercial banks for doing everything investment banks were doing. no other country adopted glass- steagall, and the whole idea of a with protecting the public was faulty. what we need to do is put the risk of the people who take them -- make them bear the risk. if they don't do that, there is no regulation that is going to work.

we will talk -- looking for systemic risk. what is a systemic risk? no one can define a system of risk. to the congressmen in your district who says the company here failed, and about 1000 people being unemployed, that is a big risk, and his job is to see that something is done about it. that is just going to be an open invitation to more of the bailout. we don't want to go down that route because that is going to be the enemy of growth and freedom. host: youngstown, ohio, jeff on the republican line. caller: i have a question. it is a pretty simple way that i see it. the treasury prints the money, the treasury lends the money to the banks and the banks lend the money to us, the people, we pay the banks back their interest and make their money and the banks pay the u.s. treasury back with interest and the treasury makes money, and us the people

make money and we would not have no national debt and it eliminates the middle man, the federal reserve. it is almost like common sense in a business. why can't that be done? guest: elwell, -- well, we are the largest economy in the world. you can read all of these things about china been the threat to us but the chinese had a -- of about -- gdp of about one-tenth of hours. they may eventually grow but we are a big country involved in the world. we have exchange rates, we have to control inflation. it has to be somebody who monitors inflation. moving the regulation for one place to another is not going to make very much difference. what we need to do is put on rules that restrict the independent action that they can take and make the people who take the losses, as i said several times, make them

responsible for taking the losses. then we have a sound financial system. host: what is monetary policy? guest: monetary policy is a decision to control interest rates and money growth. host: how does it work? guest: the federal reserve at its meeting, open market committee, decides to set an interest rate and at that interest rate it is willing to lend as much as the market wants. if the market wants to much, it is supposed to raise the interest rate to cut back on the growth of money. host: what is inflation, deflation, and why should people care about it? guest: inflation is a stealth attacks on the wealth that you own that is fixed in dollars. if you owned the bonds or if you have a mortgage, the value of that mortgage, the real value of that mortgage adjusted for

inflation is the amount after you subtract the inflation. if the interest rate is 3% now and the inflation rate is 2% now, then the real interest rate is 1%. that is what is moving around in our system and causing prosperity or the lack of prosperity. what monetary policy does is set that interest rate and takes the consequences. among the consequences are inflation, unemployment, and exchange rates. host: clifton park, in new york. carl, good morning. caller: oi have concerns that former executives of many of the investment banks, especially goldman sachs, are and have been responsible for monetary policy and for regulation. guest: they have been appointed. all because they have been appointed.

i'm wondering if you share that concern. and are there expert economists in the various think tanks and universities who could be appointed also and have more -- guest: elwell, they are. caller: as far as the average person. guest: well, mr. bernanke was a princeton professor. there are many economists -- i think up until 1965 there were very few economists in the federal reserve system in principal roles. now they are dominated by economists. many of them university economist who have become president of reserve banks or members of the board of governors. the white house has lawrence summers, former secretary of

treasury but also former harvard professor and president of harvard university. there are lots of economist there. the problem is not the presence only the people of wall street but, of course, you know, if you appoint a secretary of treasury from wall street, some of them are going to have a friendly relationship with the people they used to work with or the people we used to work with them. that is inevitable. we will not avoid all conflicts no matter how we try. what we need to do, as i keep saying, is we need to put rules on the that restrict them. and my proposal is a very simple one. they should negotiate a rule -- how much inflation and would there be two years from now, given their policy, how much unemployment. they negotiate that with the secretary of treasury. if they achieve it, that is fine.

if they don't, they should offer their resignation and explanation. there are going to be valid explanations -- oil price went up so inflation looked to be higher. farm prices went down because there was a drought. there are a lot of things that can happen over which they have very little control. i proposed that a long time ago, back in 1988 i was in new zealand and i proposed it to the central bank of new zealand. they adopted it and improve upon it and that is how we got the idea of inflation targeting. negotiate with the minister of finance, comparable to secretary of treachery, negotiated an agreement as to what the inflation rate would be, what the employment rate would be and if they make it, that is fine, and if they don't they have to offer their explanation and resignation. that idea has spread to many other countries, but not here. host: new york on the independent line. caller: good morning, how were you?

i have two things. one at a time. when i heard the problem could be $600 trillion worth of this bad paper, my gut feeling tells me the system is probably broken. what you think about that, and then i will give the second question. guest: the fed has over $1 trillion of excess reserves. if a much more than usual? it is about $1 trillion more than usual. so, we have to mop back up or we will have big inflation. they talk all the time about how they are going to do it but they have not said they think it is going to work, and i don't believe it is going to work. they say we will pay interest on the reserves and we will get the banks to hold them. i just don't believe that. we will work -- sure, the world for more because the receive interest but they will not hold it $1 trillion excess reserves.

the half to start mopping up the excess reserves and it will be a hard decision to make because it will raise interest rates and there will be an outcry from congress, the administration, the business community, labor unions and probably from the public that says, we've got a lot of unemployment and you have to do something about that and let inflation wait. that is a problem the federal reserve will have, but even more, a problem we are all going to have. host: your follow-up? caller: the north koreans, iranians and the russians, and i imagine every other country in the world, is counterfeiting our currency. how big of a problem is it and how much damage has it done to our money? guest: the far bigger problem is what we are doing to our money. we have budget deficits higher than anything that we ever imagined in a peacetime or even a war times stichel which appeared we have a president -- wartime situation.

with a president who says he does not like deficits but what he has mainly been doing is increasing it. we will not cut the budget deficit without doing something about health care. do we just increase the amount of money we are going to spend despite what the congress says? we just said we are going to put 31 million more people on to the medicare rolls without increasing the number of doctors. does that work? nope. how does the congress responds present they say we will cut doctors' pay by 21%. it is that going to get us more doctors and more medical care? of course not. so, they say they are going to cut $500 billion out of medicare. really? with the number of old people growing? don't believe it. host: washington, d.c., and time on the republican line. caller: good morning, thank you for c-span. two quick questions.

one was, i needed more of and collaboration on why unemployment would be so high -- more elaboration on white unemployment would be so high on the gold standard. and instead of the bailout, wouldn't it make more sense to give more tax credits to people so they could stay in their homes and meet mortgage requirements? guest: let us talk about unemployment under the gold standard first. if you say that your policy will keep the price of gold fixed at a certain play -- price, like the old $35, that means that whenever the dollar starts to weaken, you have to pump in money and that will make the economy expand. but when the dollar starts to go down you have to take money and you have to deflate. when you deflate, the first effect falls on employment.

so the economy slows down. that is the idea of maintaining -- deflating, is to make the economy slow down so that prices would fall. eventually they will start to rise again, but will take unemployment in the interim. there is no way we can do this and keep it on an absolutely level playing field all the time. the best we have done -- the federal reserve is now 90 some odd years old. the best period it had was from 1985 approximately to about 2003. we had low inflation and rapid growth. and the best evidence of that is that people stopped complaining about the growth rate. we had minor recessions but not big recessions. we have the longest period of sustained growth in the history of the united states. looking back on that, what did

people complain about? the distribution of income and they say this and that about the period -- but that was the best period for macroeconomic stability. problems of education, productivity growth, those things were problems that create the difficulties in the distribution of income that people didn't like. the other part of the question -- i am sorry -- " but you know what, i forgot it myself. we will move on to missouri, roger on the democratic line. caller: i'm really pleased to have the opportunity to speak. when i started my economics and number of decades ago we talked a lot about federal reserve open market operations and i hear and read almost nothing about that except small, almost footnote in "the wall street journal" every day. could you discuss what open market operations play in the

equation and how? guest: they are the main thing the federal reserve does. they said a 0-25% interest rate and to keep that they have to buy or sell. what they are doing now is they are buying mortgages, those are open market operations. they use open market operations to buy mortgages, which are highly illiquid and it will have problems selling, but they now are buying almost 90% of the mortgages that, on the