currently working with the united states in cooperation vis-à-vis the thing with these powers? >> from the pacom perspective, we view it as a very positive develop a. it's a demonstration of the prc's willingness to to utilize their military capability in a way that is contributing to other nations, to the international betterment of security and that particular region of the world. they began those operations, operating outside of the international regime that was put in place to coordinate the efforts by the many nations that are contributing to the anti-piracy efforts. over the years, now that this has been occurring, i would offer that the prc has grown closer to those regimes.

and to the extent that there is a light to medication that has been developed in a level of information sharing, that is both contributing to their operations and also contributing to the operations of the combined task force that engaged in counter piracy. . .

while they still cannot for their own political reasons join the international task force, they're operating in cooperation with, unquote, the task force, and informal loans of communication and cooperation are growing, and we see this has overall, a very positive development. >> thank you. with the limited time, let me change to another subject. admiral, do you believe that we are building enough ships to counter the continue buildup of ships by the chinese in their naval fleet in the pacific, do you feel like we're keeping the pace as we need to, or there needs to be a stronger buildup of the american fleet? >> i would speak for pacific command, and our ability to contend with the security issues within my area of responsibility, and i believe i

can do that. i think that the -- the importance of maintaining our industrial base and continuing to recapitalize our surface fleet in the navy is critically important and that as the pacific commander, it's critically important to me that my naval component contribute the level of combat power that require for the joint operations that we conduct. >> so the question is, do we have enough ships to do that, or do you feel like we're on course to maintain the level, the number of ships that we need to do that? >> i am satisfied that the current budget and ship building level -- ship building level of effort that we're pursuing in the united states navy to produce the ships that i require to accomplish my mission in the pacific. >> beyond the number of ships, do you feel like -- or if in fact, there becomes a problem with the number of ships, do you feel like we still have the

capability otherwise to effectively counter the chinese buildup? >> the short answer is yes. currently, the u.s. pacific command is contributing nearly 30,000 troops to the middle east, and certainly forestructure to the two wars that are currently on going in our nation, and as we determine our abilities to meet our obligations throughout the pacific, to include the potential for future contingencies in the western pacific, i have to evaluate the associated risks to our two wars and what mitigations i'm obligated to put into place to ensure that i can perform my mission and yes, i believe i can do that. >> we want to support you in that. thank you, mr. chairman. >> i thank the gentleman from

north carolina. the last question i would address to secretary gregson, in light of the google news this morning, and other recent attacks against american government sites, how are we addressing the increase in cyber attacks from china? >> i think it's not only increased cyber attacks from china, that the united states faces, but increased cyber attacks from a number of places, including non-state actors, everybody with access to the necessary -- >> i understand that. i'm asking about china. >> among other things, we are standing up a cyber command as a subunified command of strategic command. we have a number of security procedures that have been put in place over the years throughout the department of defense to protect our proprietary

networks, and we continue to research ways where we can enhance our defenses in the future. this is an ever evolving threat and we take it very seriously. >> secretary, do you have any comments? >> cyber security is a national priority for this administration. shortly of after taking office, the president directed that the national security council and the national homeland security council conduct a top to bottom review of our cyber security efforts. the results of that review were published in may. we're in the process of implementing those. we are particularly concerned, particularly after the google affair, about chinese efforts. we will be raising this with the chinese. and we take it very seriously. >> secretary gregson, in open session, can you tell us what

the jurisdiction of the cyber command is? >> i'd like to take that for the record, mr. chairman. >> thank you very much. >> i certainly thank the witnesses today. i think this is the first hearing on china per se, that we have had in this congress, and you've done very, very well, and we thank you, secretary gregson, secretary sheer, certainly good of you to be with us and we look forward to seeing you again. very best to you. >> thank you, chairman. >> ok. >> thank you.

sno[inaudible conversations] [inaudible conversations] >> and we're live now at day two, public hearings held by the financial crisis inquiry commission. witnesses today include attorney generic holder, financial industry regulators and a couple of states attorneys general. the congressly appointed commission is made up of six democrats and four republicans, is scheduled to deliver a final report by december 15th of this year. the chairman is phil angelides,

co-chair is bill thomas, former california representative, just about to get underway. live here on capitol hill. on c-span2. [inaudible conversations] >> witnesses at the table include attorney generic holder, with cameras gathered around, and the committee about set to

get underway this morning on capitol hill. >> good morning. the meeting, the public hearing of the financial crisis inquiry commission will come to order. there is a quorum present. welcome to our second day of public hearings. on the causes of the financial and economic crisis that are gripping this country. as i said, and as the vice chairman also indicated yesterday, we are a panel that is going to do our level best on behalf of the american people, to try to discern the facts and the causes of the current crisis. which has affected so many million americans. yesterday, we heard from a range of experts, and folks from the private sector. today, we have a number of

people with us who are at the federal, state and local level, who have been involved. in grappling with the consequences of this crisis. and i'm looking forward to today's testimony. i want to thank all the commissioners for all their hard work yesterday, and what we'll do today and i want to thank the folks in the audience add the people watching this hearing, as well as all the witnesses who will provide testimony to us. mr. thomas, do you want to make any opening comments this morning? >> no thank you, mr. chairman, other than to say, thank you very much for appearing before us, and we look forward to continued cooperation. thank you. >> on the first panel, and we have before us, the attorney general of the united states, mr. holder. we have before us, mr. lannie brewer, in charge of the criminal division of the

department of justice. we have sheila bar, chair of the fdic and mary shapiro, chair of the s.e.c. we're going to start as we are with all witnesses, as will be -- as has been and will be our custom at this commission, we will swear all witnesses, so i'd like to ask all the witnesses to please stand and be sworn before us. do you solemnly swear or affirm under the penalty of perjury, that the testimony you're about to provide the commission will be the truth, the whole truth and nothing but the truth to the best of your knowledge. >> yes. >> thank you very very much. we will now commence, i will ask that each witness provide an opening statement. we do have written testimony from the witness les. les -- witnesses and i'd like to ask if each witness would provide up to 10 minutes of oral testimony. it's my understanding that mr. holder will provide the testimony for the department of

justice, and i will also note that mr. holder rearranged his schedule to be here, and will be with us for the opening statement and a couple of brief questions, and i know his schedule dictates that he has to depart, but let's start with mr. holder. and then go to ms. bear and ms. shapiro. >> thank you, mr. chairman. chairman angelides, vice chairman thomas, thank you for inviting me to address you and you the other distinguished members of this commission. these inaugural hearings, i believe, mark a critical step forward in better understanding the root causes of the financial crisis that has held our economy in its grip over the last two years. i appreciate the opportunity to participate in the commission's work, panned to assist in your inquiry. this morning, i am joined by lannie, the assistant attorney general for the justice department's criminal division. lannie spearheads many of our key he was in investigating, prosecuting and punishing financial crimes.

he has submitted written testimony, which provides a comprehensive overview of the department's work in these areas. and he will be available to answer any additional questions that you might have. we must be vigilant in our efforts to safeguard and strengthen the american economy. our efforts to fight economic crime are a vital component of our broader strategy. a strategy that seeks to foster confidence in hour financial system, integrity, in our markets, and prosperity for the american people. now, in carrying out the strategy of the justice department, has long focused its efforts on combating financial fraud. across numerous administrations, democratic and republican alike, the department has worked hard to combat fraud and to recover ill gotten gains for the benefit of fraud victims. now, despite these efforts, however, we know that financial fraud persists. in fact, the "wall street journal" reported earlier this

month, about that "crisis" and fraud in the securities and investment banking industries are at their highest level since records began. unquote. the current economic crisis has brought these challenges to the forefront. now, let me state at the outset, what role the department plays, and does not play in addressing these challenges. put simply, the department of justice investigates and prosecutes federal crimes. as i sit here today, prosecutors in washington and in 94 u.s. attorneys offices around the country are hard at work investigating a wide array of financial fraud cases from mortgage fraud to medicare, and health care fraud to securities fraud, to corporate malfeasance. i'm proud that we have put in place a law enforcement response to the financial crisis, that is and will continue to be aggressive, comprehensive, and well coordinated. while the reach of our investigative and prosecutorial function is broad, we do not purport to have all the answers.

as a general matter, we do not have the expertise, nor is it part of our mission to opine on the systemic causes of the financial crisis. rather, the justice department's resources are focused on investigating, and prosecuting crime. it is within this context that i am pleased to offer my testimony and contribute to your vital review. the department has a long history of prosecuting financial fraud, an we will continue to do so. working in concert with our federal, state, local, tribal and territorial partners, the justice department is using every tool at our disposal, including new resources, advanced technologies, and communications capabilities, and the very best talent that we have to prevent, to prosecute, and to punish these crimes. and by taking dramatic action, our goal is not just to hold accountable those who conduct -- whose conduct may have contributed to the last meltdown, but to deter such

future could be duct as well. the corner stone of our work in this area is a new interagency financial fraud enforcement task force, which will establish in november by executive order of the president, and is led by the department of justice. at the core of the task force's mission, is a more robust and strategic law enforcement effort focused on combating four types of financial crime. number one, mortgage fraud. from another closure rescue and loan modification frauds to systemic lending fraud, in the nationwide housing market. number two, securities fraud. from traditional insider trading to ponzi schemes to accounting fraud to misrepresentations to investors. third, recovery act and rescue fraud, including the theft of federal stimulus funds and the illegal use of taxpayer dollars intended to shore up our financial institutions and fourth, financial discriminati discrimination, including predatory lending practices in minority communities, and the

sale of financial products that exploit the elderly, and the disadvantaged. now, in combating financial crimes, we will aggressively leverage the criminal and civil enforcement resources of the federal government. we will tackle every fraud case with the aim of recovering stolen funds for victims. and we will enhance coordination and cooperation among the federal, state, local tribal and territorial authorities so that the perpetrators of these crimes are brought to justice. now, on this last point, let me be very clear. when we find businesses or individuals whose disregard for the law has hurt the pocketbooks of average americans, we will use every available measure to hold them accountable the. even before the launch of the task force, the department aggressively responded to the financial crisis by redoubling our fraud fighting efforts. in addition to convicting bernard mad ofoff, who

perpetrated the largest ponzi scheme in our nation's history, last year we arrested the largest leaders of the hedge fund, and we secured 30 year and 25 year sentences for two executives of national century financial enterprises, following their convictions on conspiracy, fraud, and money laundering charges. we've also devoted substantial attention to preventing and to prosecuting mortgage fraud. right now, the f.b.i. is investigating more than 2,800 such cases, up almost 400% from five years ago. the recently enacted federal budget for 2010 will enhance these efforts, as will the enhanced legislative authorities that congress provided the department last year in the fraud enforcement and recovery act of 2009. now, i'm confident that with the new authorities, with the new resources, and a bold new plan of action, we can and we will

make measurable, meaningful progress, and working together, with our law enforcement and regulatory partners, we will succeed in restoring the integrity our markets, preserving taxpayers resources, and protecting the vast majority of hard-working americans, investors, and businesses who play by the rules and who adhere to the law. i thank you again for the opportunity to participate in today's hearing. and to outline the department's ongoing efforts, and to address financial fraud in the wake of our economic crisis. i look forward to working with you, and along with assistant attorney general brewer, would be happy to answer any of your questions. thank you. >> thank you very much attorney general. ms. bear. >> chairman angelides, vice chairman thomas and commissioners, i appreciate the opportunity to testify on behalf of the federal deposit insurance corporation. my testimony will focus on the failure of market discipline, and regulation, that led to the

financial crisis and suggests reforms to prevent a recurrence. the last major financial crisis, the thrift and banking crisis of the 1980's, resulted in an enactment of laws designed to improve the financial regulatory system. these laws significantly strengthen bank regulation, and provide a bank with strong incentives to operate at higher capital levels with less risk. but at the same time, they created an intended incentives for financial services to grow outside of of the regulated sector. in a so-called shadow banking km. km -- system. in the 20 years following the reforms, the shadow banking system grew much more quickly than traditional banking. at the on set of the crisis, it's estimated that of a of all financial services were conduct by institutions not subject to prudential regulation and supervision. products and practices originated by the shadow banking company have proven particularly

troublesome in this crisis. many of these non-banks grew to be too large, too complex, and too interconnected to resolve under existing bankruptcy laws. they also cannot be run down under the fdic's current receivership authorities. we are now poised to make far-reaching changes that will affect how we regulate the entire financial system. our approach must be holistic and give regulators the tools to address risk through the system, not just in the insured bank, where we have long recognized that heightened prudential supervision is necessary. to be sure, we can ensure oversight of institutions, but if reforms only layer more regulation upon traditional banks, they will just create more incentives for financial activity to move to less regulated venues. such an outcome would only exacerbate the regulatory arbitrage that fed this crisis. if that occurs, reform efforts will once again be circumvented, as they were over the past two

decades. numerous problems in hour financial markets and regulatory system have been identified since the on set of the crisis. in 2002, and early 2003, encouraged by record low interest rates, there was a boom in the volume of mortgage originations. these originations were driven primarily by the refinancing of existing mortgages. mortgage origination platforms grew to accommodate the surge in mortgage demand. by 2004, house prices were rising at double digit rates, setting the stage for dramatic changes in the structure and funding of mortgage loans. because many prime borrowers had locked in their loans by 2003, the mortgage industry shifted its attention and its ample lending capacity toward less credit worthy borrowers and home buyers struggle to cope with the high cost of housing. one result was a rapid increase in subprime loan origination, which more than doubled in 2004

and peaked at just over 20% of all originations by 2005. declining affordability and high priced housing markets also contributed to a shift towards non-traditional ports, such as interest only and pay option mortgages. the limited reach of production supervision allowed risky practices to grow unchecked. for example, subprime and non-traditional mortgages were originated and securitized primarily by brokers and mortgage companies and by non-bank affiliates of insured institutions. securitization markets provided much of the funding for these loans. growth and private label mortgage backed securities was enhanced by the development of the cdo and cds markets. the size and complexity of the capital market activities that fueled the credit boom meant that only the largest financial firms could package and sell these securities. compensation schemes fueled the growth. many compensation systems were not sufficient to risk

management. they allowed high, short-term profits to be translated into generous payments without regard to any long-term risks. mortgages and many derivative products created long risk, while compensation was weighted toward short-term results, creating perverse incentives toward riskier behavior. more than cause of the crisis was the lack of non- -- increasingly, complex financial products, combined with owe peak marketing and disclosure practices proved toxic. as a result, foreclosures are nearing 3 million per year, and more than 15 municipal households are saddled with underwater mortgages. finally, many financial firms grew to such size, complexity, and interconnectedness, that the market implicitly assumed that they were too big to fail. credit rating agencies recognized this implicit guarantee, providing two ratings, one with and one without government support. as a result of their two big to fail status, these firms enjoyed

funding at below market rates for the risks they were taking. the financial crisis revealed that risk grew across the financing system. unimpeded by a stove pipe financial regulatory framework, one framework for insured institutions and another less stringent one for non-bank entities. differences in the regulation of capital, leverage, an consumer protection among institutions in the shadow banking system and the traditional banking sector and the almost complete lack of regulation of otc derivatives, allowed rampant regulatory arbitrable. the near collapse of the financial system demonstrate a need for major financial reforms that reduce moral hazard and improve the system's resiliency. these changes should include a resolution mechanism that makes it possible to break up and sell a large, complex, interconnected firm without taxpayer support and i am very pleased that the bank's c.e.o.'s who talked with

you yesterday endorsed this. we believe there should be a p prefunded -- we also support macro prudential oversight and strengthen and harm monday highs capital and leverage liquidity standards as necessary. more effective oversight and improved transparency of derivatives markets is needed and finally, a rule-making authority to ensure uniform consumer protection throughout the financial system. these reforms would go a long way towards preventing another crisis, but as the committee examples the causes of the -- examines the causes of the financial crisis, i ask you to also look at other long-standing policies that played a role. this is a combination of a decades long process where national policies has skewed economic activity away from savings and towards consumption, away from investment in our industrial base and public infrastructure and away from the

real sectors of our economy and toward the financial sector. examples include federal tax and credit subsidies for housing, compensation practices that promote short-term profit without regard for the long-term risks, and implied, now ex police it's government backed stops for large financial firms. such back stops subsidize excessive growth and risk talking. no single policy is responsible for these economic distortions, and no one reform can restore balance to our economy. we need to examine national policies from a long-term view, and ask whether they create the incentives that will lead to better and sustainable standards of living. our financial sector has grown disproportionately in relation to the rest of our economy. whereas the financial sector chaimed less than 15% of total u.s. corporate profits in the 1950's and 1960's, its share grew to 25% in the 1990's hand to 34% by 2008. financial services are essential

to our modern economy. but the excesses of the past decade were costly versions from other sectors of the economy. we must avoid policies that encourage such economic distortions. fixing regulation can only accomplish so much. longer term, we must develop a more strategic approach that utilizes all osama bin laden policy tools, fiscal, monetary, and regulatory to lead us toward a more stable and more widely shared prosperity. thank you. >> thank you, ms. bear. ms. shapiro. >> thank you. chairman angelides, members of the commission, thank you for the invitation to share my in sights as chairman of the securities and exchange commission into the causes and lessons learned in the crisis. the work of this commission is essential to helping policy makers in the public better understand the causes of the crisis and build a better regulatory structure. many of the foundations of securities regulation and

indeed, the s.e.c. itself, resulted from the efforts of a similar investigation following stock market crash of 1929. when i became chairman of the s.e.c. in late january of 2009, the agency and financing markets were still reeling from the events of the fall of 2008. since that time, the s.e.c. has worked to review its policies, improve its operations and address the legal and regulatory gaps that the crisis has laid bear. there were many interconnected factors and mutually reinforcing causes, so i appreciate the enormous challenge facing the commission. my written statement discusses many of the causes in detail, but i would like to use my time this morning to highlight just seven of the lessons. first, requirements around asset securitizations must be strengthened. i believe this is essential, as one of the major factors in the financial crisis was the rise of subprime mortgage backed securities. the securitization of mortgages led to an unintended

facilitation of weaker underwriting standards by originators and excessive reliance by investors. in short, the financial crisis exposed serious gaps in the asset backed securities market. as a result, today the s.e.c. staff is engaged in a broad review of the way in which asset backed securities are regulated. we are looking at disclosure, the offering process, and reporting by asset backed issuers, and we're considering several proposed changes, designed to enhance investor protection in this market. this is a vital park and i believe the changes are critical to restore investor confidence and facilitate capital formation. our proposals will seek to align the investors with those selling asset backed securities. among other things, the proposals will seek to provide time to prior sufficient time before investing, low level data is provided in a format an manner that is accessible to investors and the proposals will

seek to investigate a mechanism for ongoing disclosure. a second lesson growing out of the crisis is investors and regulators can overrely on credit rating agencies. throughout the crisis, credit rating agencies perform poorly. by among other things, providing high ratings to complex financial products made up of low quality assets, including subprime mortgages. nonetheless, many relied on the ratings as indicia of quality and liquidity. in response, the commission has undertaken a series of rule makings, to reduce reliance by fostering accountability, transparency, and competition. a third lesson is that standards are weakened and regulatory gaps emerge, when the risks of deregulation are not adequately appreciated, and when markets are considered to be almost always self-correcting. indeed, it was quite recently when many of the deregulation, particularly in financial services as the key to fostering market growth an ensuring u.s.

competitive in the. unfortunately, this met that main elements of the financial landscape, such as over the counter derivatives and hedge funds were meant to no regulation and it meant that investors identified risks in these areas. the result was a proliferation of complex financial products, including il liquidity with products that were not fully understood. one very significant gap in the regulatory structure is the inadequate regulation of otc derivatives, which were largely excluded by the commodity futures modernization gap. this gap leaves a very large and risk laden market, almost entirely out of public and regulatory view. to address these gaps and regulatory arbitrage dangers, we need greater transparency and over sight of major market participants and dealers.

in such products should be subject to the greatest extent possible to central clearing and exchange training. the current absence of regulation should not continue. a fourth lesson from the crisis is that there can be a direct relationship between compensation arrangements and corporate risk taking. in fact, many major financing institutions created asymmetric compensation packages that made employees enormous sums for short-term success. we know that some of these same decisions resulted in significant long-term losses or failure for shareholders and taxpayers. in december, the s.e.c. adopted new rules that will significantly improve disclosure in the key areas of risk, compensation, corporate governance and director qualifications. the rules require companies to disclose their compensation policies and practices for all employees, not just executives. if these policies and practices create risks, that are reasonably likely to have a material adverse effect on the company. fifth, the financial crisis revealed that a siloed

regulatory framework is unable to monitor and reduce risks, flowing across entities and markets. for this reason, i support the establishment of a council of regulators, empowered to evaluate risk across the financial sector to identify and address systemickish use. in addition, i believe large interconnected institutions should be supervised on a consolidated basis. however, consolidated supervision is not a panacea, and policymakers should remain aware of the limits of such oversight and regulation. this is particularly the case for institutions with many subsidiaries engaging in different, often unregulated businesses in multiple countries. systemic risk management requires meaningsful -- transparent markets to be effective and while a consolidated regulator, large interconnected firms is an essential component to identifying and addressing systemic risk, other tools must also be employed. these include more effective capital requirements and

leveraged limitations, strong enforcement, functional regulation and transparent markets that enable investors and counter parties to better understand the risks associated with particular investment decisions. a sex th sixth lesson of the crs market and market regulations should promote, not undermine the investor of can dense, essential to the flow of capital and the long-term success of markets and our economy. but since the financial crisis began, there has been growing unease that markets are being stacked against investors. the roots of any deficiencies in market structure must be addressed head-on to ensure that markets are transparent and investors are treated fairly. accordingly, the s.e.c. has taken a fresh look at market structure and trading activities to ensure they foster fair, orderly and efficient markets that are designed to protect investors, this includes activities such as high frequency trading,/trading and dark pools. finally, the financial crisis has taught us that consistent and vigorous enforcement is a vital part of risk management

and crisis avoidance, particularly in times of substantial financial innovation. through aggressive and even handed enforcement, we hold accountable those whose violations of the law cause severe loss and hardship and we deter others from engaging in wrongdoing. we also help vindicate the principles fundamental to the fair and proper functions of financial markets. investors have a right to disclose you're that complies with the federal securities laws and there should be a level playing field for all investors. over the past year, the s.e.c. has taken steps to improve the speed and effectiveness of its enforcement efforts. from streamlining procedures and removing a layer of management, to creating specialized investigative units. we also are currently investigating a significant number of matters growing out of the financial crisis, and we have brought more than a dozen cases recently against entities and activities associated with some of the worst practices. there is still much work to do to ensure that we do not see these problems repeated in the

feature. for example, in light of the lessons learned from the crisis, brokers are now providing enhanced information about positions, and the commission has strengthened capital requirements by limiting the ability of large broker dealers to use value at risk models for regulatory capital purposes. most importantly, we have established an internal that's correct force to review -- task force to review all aspects of broker dealers, to determine how such regulations can be strengthened. where the s.e.c. cannot act on its own, we are working with congress, to address the problems too big to fail, to ensure strong regulation of otc derivatives, to close loopholes that allow hedge funds and their managers to avoid oversight, to impose the highest standards of conduct on those who provide financial advice and to invest the resources required to keep up with new products, properly oversee the financial markets, and better deter and hold accountable entities that might be inclined to commit tomorrow's financial crimes.

in conclusion, there were many causes and lessons to be learned from the financial crisis. the enormity and worldwide scope of the crisis and the unprecedented government response, required to stabilize the system demands a full and careful evaluation of every aspect of our financial system. no one should hesitate to admit mistakes, learn from them, and make the changes needed to address the identified shortcomings and reduce the likelihood that such crises occur. thank you very much. >> thank you very much, ms. shapiro. we will now go to questions and as i indicated at the beginning, the attorney general does have to depart, so what we'll do is maybe a couple of questions from me and the vice chair at which point we will go to questions from all the panelists, so let me start, very quickly, mr. attorney general, one thing i'd like to ask you today to look into, and i don't know if you have already, but if you haven't, i'd like you to look into a matter and report back to

us, please. which is in september of 2004, the f.b.i. warned or it was the head of the criminal division of the f.b.i., the assistant director, warned about a, quote unquote, epidemic of mortgage fraud, coursing across this country. and indicated that if it went unchecked, it could end up with a financial consequence as a crisis as large as the s & l crisis and without saying that was the genesis solely of what's occurred here, even though testimony indicates from many people including mrs. bear an other folks who have heard that mortgage fraud was potentially significant contributor here, one thing i would like to ask you to do, if the department has not already done this, is to evaluate what steps were taken in the wake of that 2004 f.b.i. warning, and so let me just quickly ask. has anything been done in that

regard and if not, will you commit on our behalf to do a review of what was done in the wake of the 2004 warning? >> sure. we are constantly in the process of reviewing that which we can do better. i'm not familiar myself with that statement, but we will look at that. i will certainly acquaint myself with the -- with that statement and what caused that statement to be made and we will review what the justice department has done since that time. and make the results of that search available to you. >> great. what kind of time frame do you think -- maybe i'll ask you to get back to us, with what you think is a reasonable time frame for some -- that kind of evaluation. >> sure. i don't think there's any issue taken awful long period of time. as i said, we are constantly in the process of trying to reevaluate what it is we have done, how we can improve on what we have been doing, so i think that getting that information to you shouldn't take an awful long period of time. >> as part of that, what i would like to indicate to you is that i have been told by folks who

served as assistant u.s. attorneys, in places where there was particularly high levels of potential mortgage fraud, that it was an issue visited up the chain, and so i'm very interested, given the consequence, and it's a question i asked the private sector yesterday, is when the information was made available, what kind of actions were taken, so i'm interested in both what happened on the public side, what happened on the private sector side. >> ok. >> the additional question that i had for you, was do you have currently in your opinion, or did -- or did statutory authority sufficient exist to prosecute financial crimes specifically mortgage fraud crimes across this country. did it exist, does it exist today? >> yeah. i think that we certainly have had tools. that were available to us to help us in the fight against -- in combating mortgage fraud.

and as i indicated in my opening statement, the number of cases that are under investigation by the f.b.i. was over 2,800 of those now, but with the passage of the fraud enforcement and recovery act, fera, in 2009, we were given, i think, additional enhancements that allow us to look in to these cases. i think to a greater degree and with more abilities. fera extended i think very significantly a number of criminal statutes, including the bank fraud statute. it allows us to reach the conduct of private mortgage brokers. that's a tool that we did not have before. this will make it easier for our prosecutors to charge private mortgage brokers who engage in fraudulent conduct. so in addition to those tools, which did exist, we have had these enhancements from congress as recently as 2009. again, we are constantly in the process of trying to review what tools we have, where there are gaps in our abilities to

prosecute these kinds of cases, investigate these kinds of cases and we will not hesitate to interact with you, and with congress in requesting additional tools, should we identify needs in that regard. >> right. of i have one more request for you in this regard. as part of your evaluation that i asked you to undertake, maybe a branch of it, is were there sufficient -- if there was knowledge about potential crimes across the country, of the magnitude, was there at the time sufficient enforcement capability, as well as authority? there have been reports in the wake of the terrorist attacks of september 11, 2001, that there was a diversion of 500 white collar crime investigators at the f.b.i., away from white collar crime terrorist activities, so as part of that evaluation, what warnings were sent up the line, including the f.b.i. warning, as well as what resources and authority existed, didn't exist, was deployed or was not deployed.

>> i think it's a very good question. certainly, there has been a movement, i think fairly recently and understandably so, to move investigative resources to the national security front, given what happened in september of 2001. just looking at some numbers on the other hand, in our budget for 2010, we have made combating white collar crime a real priority and we -- the budget request that's been passed by congress, and signed by the president, provides nearly $50 million in program increases to the department, to pursue white collar crime, including both financial and mortgage fraud, and that has a very concrete impact. we will have 50 new f.b.i. agents, and about 155 new attorneys, who will have the ability to work these kinds of cases. our resources even given those additions, are relatively limited, and these cases are complex ones. they take time and money in order to bring to fruition, but

we are determined given the resources that we have, and the enhancements that we are going to receive, to make this a priority area for this justice department. >> now that i've asked you a series of questions, i think what i'm really after with the 2004 report from the f.b.i., being one of the pieces, is an evaluation by you to the extent to which we may determine, may not determine, that mortgage fraud was a driving force here the the extent to which authority or resources or actions existed, were taken, were not taken. i think that would be very helpful to us to see if that's a hole that had it been plugged, would have made a material difference. >> all right. >> mr. vice chairman? >> thank you very much, mr. chairman. thank you all. for coming. mr. attorney general, on page six of our testimony, you indicated that based on your area of responsibility, law enforcement is putting if place from your structure a response

to the -- a response to the financial crisis that is and will continue to be aggressive comprehensive and well coordinated. as you know, our charge from congress is to put together an explanation for the financial crisis. and given the time frame in which we need to fulfill that statutory responsibility, we are forced to be aggressive. as comprehensive as we can be in the time frame. one of my concerns is that we probably aren't as well coordinated as we should be. the collection of the necessary information. for us to fulfill that function. and if you'll allow me, i will ask briefly of both the s.e.c. chairman and the fdic chairman, a question which should be easy

to answer prior to my asking you in essence the same question. on the sixth of january, the fcic entered into a written agreement, with the federal reserve signed by their chairman for access to and chairing of information. as you might expect, the federal reserve deals with some very sensitive information. there was a period of negotiations to up with an acceptable agreement on both sides. on the 11th of this month, the office of the comptroller of the currency entered into an agreement with the fcic with the appropriate adjustments, given the responsibilities that they have. today, we're going to have an agreement signed by the office of thrift supervision.

my understanding, and ms. shapiro, you can connect me if i'm wrong, that by the end of the day, the fcic and the s.e.c. will enter into essentially the same agreement that you will sign. >> that's exactly right. >> thank you. >> my understanding also, and ms. bear, you can correct me if i'm wrong, the fdic will reach the same written agreement, with the necessary modifications given the differences in the jurisdictions that you have. is that correct? >> yes, sir, that's right. >> thank you. >> i assume you know the question that i'm going to ask you. mr. attorney general. >> and you may know the answer. >> well, if it's question, then we can move forward. although there has been cooperation, and clearly, given the focus of your law enforcement and the necessity for not divulging information in

the pursuit of justice, there are a number of areas that would be helpful to us, if the department of justice and the fcic could reach a similar negotiated agreement. i know we haven't felt that it was necessary to do so, up to this point, but i hope you can appreciate as it takes a long time to get some of the cases that you investigate to conclusion. our conclusion is pinned on the wall and it's the middle of the last month of this year. so in anticipation of making sure that we continue to have a smooth working relationship, is it possible for you to give an aformative answer to my question, is it possible by the end of this month to reach an agreement, similar to the others, with probably even more

necessary u understandings of wt type of information between the fcic and the department of justice? >> we'll certainly work to make such an agreement possible. and i would think that that would be a sufficient amount of time. i think we have to understand that the department of justice, we have a series of rules that prohibit us from sharing information, federal rules of criminal procedures, grand jury proceedings, for instance, the privacy act with regard to investigations. and then with regard to ongoing investigations, the ability to share information is difficult. having said all of that, it is certainly our desire to provide you with the information that you need and we would endeavor to work with you to try to reach an agreement as quickly as we can. >> ok. i don't interpret that as yes. in negotiating with the fdic and others, they are also similarly constrained, with statutes, that does not allow them to share information, the one that would be the most obvious is in dealing with private entities,

in terms of proprietary or, as the law is called, trade secrets act. we were able to work our way through those difficulties as well. my assumption is, since we haven't placed a letter in front of you, and you've indicated that you're more than willing to work to reach agreement, and you indicated that the end of this month seemed reasonable and appropriate, let me say that i'll accept your answer as a probably, and by the end of the month, hopefully, it will have become a certainty. if it hasn't, you might be assured that we'll revisit you because we simply cannot conclude our job in the time frame congress has assigned us, if we aren't ability to get the appropriate, necessary and

protectional structure in place. to find out what the government did or didn't do. as well as what the private sector did or didn't do. and i appreciate your willin willingness to go as far as probably today. >> ok. >> thanks. >> let me -- do you have additional questions? i'll have a couple for the others. thanks. >> well, actually, what i was going to do, mr. vice chairman, is i do know that the attorney general's schedule requires that he depart. mr. brewer will stay with us. i want to thank you for coming today. i want to thank the department for being here and i want to thank you for in advance helping us do what we need to do, as mr. thomas said, met me reemphasize something. we are here not just to examine what went wrong in the private sector. we have unnoble combination to as thoroughly and as vigorously examine what happened in the public sector, what happened in regulatory agencies, what happened in enforcement agencies

and helping us understand the full record of what did or did not happen. actions, inactions is important to our inquiry. thank you, mr. attorney general. >> and the attorney general is probably at the current time. >> well, but please, don't misunderstand. there is a desire on the part of the department to cooperate. this is an important inquiry, that you all are about. it is important for our nation going forward, it is important for historical purposes, for us to understand why we are in the present situation that we have to confront. the only concern i have, are the rules and regulations that govern the dissemination of information that the department of justice accumulates, and to the extent that we can work our way through those, we will get the information to you. it is our strong desire to cooperate with you in the effort that you are about. it is an important one. it is a vitally important one. the information that you develop, the reports that i issue will help us in our ongoing enforcement activities, so we want to cooperate with you. >> elevated to most probably.

>> thank you very much. >> that's before i get to yes. >> all right. let's now -- >> thank you very much. >> thank you so much. >> now, i have a couple of minutes, i'm going to take right now, and then the vice chairman probably has a couple questions and then we're going to go to commissioners. and i'm going hit quickly here, and ask a couple of questions. ms. bear, i want to ask you very squarely, and that is, that early on, in your testimony, you talk about the ability to curb subprime mortgage products that the fed had a report in 2000, didn't act on it, and i know our hearings have just begun, but the more i listened yesterday, the more i read testimony, the extent breadth, nature of these products in the marketplace seems to have been a very significant force here, and as

you said in the end, they ended up being bundled and packaged by the largest institutions in the country and i guess if there was a moment at which -- where was the primary responsibility for choking off the development of these subprime products that ended up polluting our financial marketplace? >> well, at that point, in 2000, this really was a perimeter type of lending that folks were doing, and really, at that stage, it would have been much easier to choke off, because not that many folks were doing it. it was one of the perimeter players in the mortgage market and the way to tackle that for banks and non-banks, was through the consumer protection rules that did give the fed the authority to apply rules against abusive lending across the board to both banks and non-banks, so being, hindsight is always 20/20, but yes, looking back, if we had good strong constraint at that time, just simple standards like you have to make a loan,

document income and make sure they have to repay the loan not just at the outset rate but the rate -- >> that was a critical point? >> yes. >> and we're going to hear from state authorities, others, who had differing levels of authority, who had constraints and at teams, were fighting preemption efforts. >> that's right. the stage tried to tackle this one by one, and i do believe these he was were thwarted in 2004, when the preemption of state consumer laws for national banks was significantly expanded to -- how it existed before 2004, and yes, this did make it more difficult for states to deal with these types of practices within their borders, and i'm sure the state representatives will be talking more about that. >> i want to ask both you and ms. shapiro one other quick question before we move to commissioners and the vice chair and other commissioners. rating agencies.

you speak very clearly about -- in a sense, the multiple impacts, not just their ratings themselves, but then the use of those ratings and capital standards, and it seems that that was an enormous hole, but also as i look today, it seems to be a hole unplugged. no substantial reforms, still a non-competitive environment. still in a sense, deference and status given to those ratings. isn't the whole system essentially broken? it was proved to be worthless, broken, and it remains so today. i'm going to ask, it's a little pejorative, but please respond, both of you. >> i'm happy to do that. i think clearly rating agencies, they're a large share of the responsibility for some of the products that got into investors' hands and got there by virtue of the fact that they had high level -- high level of ratings. congress gave s.e.c. the rating act of 2006 to begin to regulate

these entities. before that, the authority didn't exist and the agency engaged in a series of rule makings over the next two years, to try to do -- to try to bring more competition to this space, to try to bring more accountability to the space and to try to give investors a much better context within which to understand the quality of rating, so for example, rules that require the disclosure of the performance of ratings, over a period of time, so you can see how they perform, down grades, upgrades, conflict of interest, prohibitions, conflict of interest, disclosures, and most recently, we have proposed in a concept release, that rating agencies be subject to liability as experts that no long are receive that favored status under the federal securities laws. but i don't disagree with you. the fundamental problems to my way of thinking is the business model. we have a fundamental conflict of interest that is very, very

difficult to square. so many of the rules are done have been in an effort -- effort to move toward the rating agency. there are a number of rating agencies that have a subscriber pays model, and that is helpful, but we really have been encouraging entities to come to us, with a new business model of medicine em. we are very open to approving that in the context of our existing authority. to see if we can break down the walls here and get some genuine competition in to this space. >> all right. :

career clear

>> mr. chairman if i could add just one thing to that. the sec as also as also in the lasix would remove references to about half a dozen of our existing rules again to reduce our alliance on them. and we made it clear money market funds that have quality restrictions on paper that they cannot rely on a rating. they must do independent credit analysis. i think it's important. that we start to move in the stretch and. >> thank you. >> mr. vice chairman? >> thank you. in regard to the rating agencies and the act, the act was signed into law in 2006, did you say, ms. schapiro? and this is 2010. i'm most familiar with having to get structures in place to oversee it, and i'm quite sure that the act has passed his prospective, although clearly the origins of a lot of the problems that we had precede

2006. was there any action taken with the law, notwithstanding some structures in place, in 2007? >> absolutely. as you say, the law was passed in '06. the agency commends rulemaking and of course i wasn't there. but in 2007 there have been no fewer than five separate rulemaking undertaken by the sec under the credit rating act. that is as i say go to much greater levels of disclosure about conflicts of interest at rating agencies, including proposals from revenues from the major issuers that they are rating, their performance histories, disclosure about how they do due diligence force structure deals, a recent proposal is that we would require issuers to make available to all rating agencies information that would allow any rating agency, not just the one

they pay for the rating, to do an unsolicited rating. so invested would have a point of comparison. would also propose to acquire disclosure of rating shopping. so that if i'm an issuer and i've got to three rating agencies as it was sure preliminary view of what their security will bear as a rating? and two of you tell me, you know, double b., juan thousand aaa, i'm going to hire the aaa winner but i now have to disclose the two double d. ratings as well. >> and some of the information that will be most double to us and trying to analyze the pre-passage paired with rating agencies, post passage, and i want to thank you again for agreeing to share some of that information with the appropriate safeguards in place because that allows us to understand an environment that needed to be changed, but simply wasn't because what they were doing may not have been right under one's

understanding of what's right, but it wasn't legal. because we didn't have a structure in place. thank you. ms. bair, your comments were very good, especially your willingness to go outside of your narrow area of responsibility. and i thought it was most appropriate in this particular hearing room, based upon the role of the ways and means committee in terms of being frankly the only committee in the house, under the constitution and the ability of the purse strings originate in the house to do with the tax code. it's amazing to me that a lot of folks still haven't focused on the fact that, notwithstanding in the 1980s, we were able to remove the deduction of consumer interest as an itemized deduction. they're still an overwhelming

financial windfall in the tax code for homeownership versus, for example, the same rope that you read rather than own. and, that what might be helpful from an economic point of view for an individual was almost responsible for the collapse when that individual ability is collectively exercise, i.e. being able to literally, with some of the financial agreements, cash out every month the equity that you had in your home, which again could be deducted. it's just a point of interest that we came very close in the mid '80s to dealing with the deduction for consumer interest in the disguise of mortgage

interest. same thing we do with individual retirement accounts. you get penalized in some way if you withdraw it for other than the purpose for which it was placed in a tax preferred position, health savings accounts, any number of examples. but yet, we still haven't even talked about to any great extent penalizing people who utilize the mortgage interest deduction privilege for, in fact, funding consumer debt. and that is an example of how far we need to go, not even touching on tort reform or any other number of areas, to really get at the bottom of this. some of them shouldn't be that difficult, but obviously all the focus is on the committees that have the jurisdiction for

oversight and regulation of financial institutions. and why this particular commission, notwithstanding the time difficulties that we have, is truly unique because we don't have boundaries that and i'm quite sure the final report will comment on aspects of the tax code and other areas, which if you begin to lay out the scenarios and the consequences of decisions, which seem somewhat appropriate, if we hadn't allowed that kind of deduction, the equity in homes that people have with have had a severe jolt to them. but many of them would have accumulated, we chose the concept over time, sufficient equity not to be upside down. but when you push it to the limit for consumer use, and you do get a downturn as the panel had in front of us yesterday, even those in an extremely sensitive difficult and

technical areas indicated that they never thought home values would ever go down. that's what you were supposed to build up equity. let me ask you some questions that i think are specifically in your jurisdiction. so that somewhat the same phenomenon could be illustrated, based upon your answers and your particular area. my understanding is that you did not, not you personally, the agency which you oversee, didn't collect insurance premiums for a decade before the crisis in terms of the sec's regulatory structure. i mean, do you think that you had an overly optimistic view or the agency had an overly optimistic view of the balance sheets of banks, many which help a lot of the mortgage structured?

>> well, actually congressman, as i understand in 1995, congress eliminated the ability of the fdic to charge premiums for well-capitalized banks, which was 98 percent of all banks during that 10 year period that you were talking about. in 2001, i came to the fdic in 2006. in 2001, the fdic sought legislation from the hill to start charging premiums from all banks, recognizing that insurance is a benefit for which you should pay and there is some risk, it isn't if you are well-capitalized. it took until late 2005 for that legislation to be passed here i came to the fdic in june of 2006. within two weeks i propose rules to start charging premiums on everyone. it was very much something the fdic wanted to do and wanted to do for many years but i think congress has some responsibility in that. >> absolutely, but the term well-capitalized banks, was that a very narrow automatic

numerical decision? >> that is. that is a supervisory -- >> there was no discretionary aspect of? >> know, there's not. if it is well-capitalized but regulatory standards, then we cannot charge premiums. that's right. >> thank you. >> ms. bourne? >> thank you, chairman angelides, and i want to thank the panel for all of your very helpful testimony here i wanted to start by asking cheer bear about her testimony. i gather from your written testimony that she feels that the over-the-counter derivatives market played some role in a financial crisis. and i would like you to elaborate on that. >> well, i do. i think it factored in the

underpricing risk. people were heads when they weren't really. they weren't really. i think the unregulated nature of it allowed large institutions to take some significant risk with compensation structures up front. they've had quite a long tail to them but there wasn't sufficient oversight of the. and then also magnified the losses once, you know, the underlying of losses on the mortgage is actually going into default was one set of numbers. but that was especially multiplied by the losses on these derivatives contracts. that were based on the performance of those underlying mortgages. it fit into the underpricing of risk by creating an illusion that people in reality were not. when the mortgages start to go bad at magnified the losses. >> hasn't it all complicated your job and resolution of failed banks? >> right. i think this empty creditor issue, and i know this is something the sec is very concerned about as well.

what kind of students and citizens does the cbs market, credit default swap, when they start to get into trouble, traditionally financial institutions start to get into trouble. their creditors will work with them to keep them out of bankruptcy. but if you have a large cds position even if you might have some debt exposure, if you make more on your cds is the institution fails, it can create very astute and sadistic right now there's very little transparency in that market. as the chairman of the fdic eichin not access in user information in the cds market, which is troubling. i think this is a trouble were a lot more work needs to be done. >> do you think the market still poses a systemic risk, and any regulatory reform is needed? >> yes. i do. i think it is absolutely -- is probably at the top of my list now in terms of things i believe we still -- more than anything it requires congressional

because as you know laws that were passed before that basically remove this market from regulation. so i think they should be very high priority for congress. and there's only so much regulars can do until legislation is enacted. >> chair schapiro, i want to know what your views on this issue are. did otc derivatives play a role in the financial crisis? and if so, what? >> i agree very much with chairman bair with respect to really all she said, in particular with the macroeconomic issues. i also think i'd are more microlevel they contribute in the sense that because the otc derivatives market could become an enron announced the regulated exchange traded financial instruments, the futures market and a chickadees market and the options markets, they allowed illegal conduct to some extent. and we have got a couple of cases in this regard with respect to insider trading and cds. and allow those markets to

absorb illegal activity that they moved out of the sight of the regulators and law enforcement. and so i think on that level as well as the macro level, it's concerning. i also think that with respect to issues like empty creditor, we've got to have transparency in this market. if people understood the size of the positions that were being taken, not just regulators, but the public and counterparties and potential counterparties could understand the size of positions in these markets it would have an enormous positive effect on market behavior, i believe. >> what regulatory reform do you think are necessary? >> well, i think a lot of them have been discussed obviously to great extent in the regulatory reform debate. i really do believe that we need both regulation of the products in the sense they ought to be to the maximum extent possible, clear through central cluing houses. i think we all know that well

run and well-regulated central counterparties help to mitigate risk and potentially eliminate counterparty risk that exist in a bilateral relationships. exchange trading, price transparency, full oversight of the clearinghouse and all that brings with it. and i also think we need to regulate the dealers in the marketplace. and while some of the legislation that's floating around takes a step in that direction, there still some holes with respect to end user exemption in the amount of deliberate dissipation that would actually end up in a central clearinghouse is and exchanges. but regulation of the dealers so that we have sufficient capital, again, transparency, risk management systems in place, internal controls within the dealers, and transparency again to the public as the regulators, i think would make these markets much more comfortable i think

for the regulatory community. >> by the way, ms. born, we originally allocated five minutes per question. mr. thomas and i have spoken and given what the ground we have to cover, we're going to allocate three more minutes each for commissioner. so why don't you go see for another free? >> thank you. chair bair, do you agree the regulatory reforms that chair schapiro mentioned are needed? >> absolutely. i think they should be a very high priority for congress. and again, make sure it strengthens and gives the regulatory cnf flexibility and tools to work with this market to. >> i would also like to ask chair schapiro about a program that the sec had adopted in 2004 called the consolidated supervised into the program, which i think was intended to

bring some prudential supervision to the large investment bank holding companies. and i think it covered their stearns, lehman brothers, merrill lynch, goldman sachs, and morgan stanley. some of which -- one of which failed, some of which had to be acquired, and the others became bank holding companies. companies, during the financial crisis. did the program failed in providing sufficient prudential supervision? >> i think we have to conclude that that program was not successful in providing prudential supervision. the program as i understand was the love as a result to changes in european law that required the five largest u.s. investment banks be subject to consolidated supervision by some entity, and because they were investment

banks and not commercial banks, they elected to be supervised by the sec. so the sec created the csc program. prior to that the good news is prior to that, and investment bank holding companies were not subject to any supervision at all. so that was you to be a good thing to bring under the umbrella of regulation. i think -- i have lots of concerns about the program and about many of the specifics in. but let me say that generally, i think there were several problems. one is that it required the sec to become a prudential regulator which is traditionally not what the sec had been. and had traditional net capital rules that were quite conservative with respect to broker-dealers. and enforcement orientation to a large extent, more than the other approach. i don't think it was adequately staffed to a handful of people who were responsible, not even necessary on a full-time basis

for the five largest investment banks in the world are frankly not just in the united states. and i think that the combination of really a very new way to approach regulation, inadequate resources, and in some of the specific changes that were made to the capital rules in order to get the holding companies to provision, broker-dealers were allowed to use risk models rather than surprise haircuts in the capital requirements which allowed for frankly lower levels of capital to support larger and larger positions. in combination, led to, you know, a program that clearly was not a success. it's one of the things we're looking at, and really taking the lessons learned as we try to rethink entirely broker-dealer capital. >> all right. >> thank you. >> thank you, ms. born. back on my time for a quick question. ms. bair, picking up on this

line of questioning, and very briefly, you refer to the, was it april 2004 decision in your testimony, the april 2004 decision on raising the kind of lifting the cap on leverage for broker-dealers. but i want to ask both you, did that affect the holding company's in other words, when i look at the balance sheet of the investment bank that i talk to mr. blankfein about that yesterday, there's a big balled up in leverage ratios going from 2003 through 2004. was it the decision at the sec that affected that, some have said no that's the affected the broker-dealers. >> myers danny is that the investment bank holding companies were not subject to any capital regulation prior to 2004. they did under the csc program tightly capital according to the bottle to standard which i think clearly should be a subject of intense scrutiny here. the changes of the sec made

related to broker-dealer. >> i think what i'm doing is referring to this is what i think your statement, ms. bair, where you say for example, 2005 i think it was 2004, but you say the sec of allowed large broker-dealers to allow capital roles and i think you go on to say in 2008, two of the five institutions using the rules class. i want your quick opinion as to both the afterward the reason of the capital standards in fact were seminal? >> i think what happened here, chairman schapiro is right, the cs c. framework use the basel ii framework is that capital. we the fdic have been a very strong proponent of those rules and we lost so far frankly than being used by the commercial banks and the bank holding

company. and we continue to have dialogue with our fellow regulators on this, but we have basically said if those approaches are to be used they may not reduce capital. so it's a models based formula. it relies heavily on banks own estimates, but with a capital should be. so we have said they should not be used to lower capital and we have resisted that so far. the commercial bank and bank holding companies were not using this at that time. so there was -- but there is reduction and capital increase for the investment banks. as compared to the commercial banks because they were using that. >> all right. let me move off the -- well, i just want to know he has to know that 2004 sec decision was one of the factors that led to the explosion in leverage and therefore the collapse of the institutions that yesterday was because i would say yes. >> your opinion is yes. >> i think it is clearly a

contending factor but it is hard to say what extent it is responsible, but clearly within the broker-dealer, the ability to use models that generate a smaller haircuts on positions allowed larger positions to be maintained on a smaller capital base is. >> one of the question i'd like to ask before we go to the rest of the commissioners. this'll probably be my last question. and that is, i asked yesterday of mr. blankfein, and i will in writing ask the other financial institutions before us, whether in the wake of the calamity that occur, whether they had done and interna review, investigation audit of what broke out in the institutions. you know, given just the magnitude of what occurred, it would seem logical and prudent to do. and so made that request of mr. blankfein, intent to make that request of the other institutions and also to ask for that report. i would ask each of your entities whether, in the wake of what appears to be asked

certainly a potential, a colossal failure of the regulatory oversight of this nation, of our financial system, has the sec done an internal review audit investigation of what came apart, number one, and if so, can we have that document? >> i can say there have been multiple internal reviews of slices of the financial crisis. bear stearns, the credit rating agencies and others. so we're happy to share that information. is important to me as well because as the new leader of the sec and having brought in new leadership across the agency, i want everybody informed by the things that didn't work out well so that we can make the appropriate changes going forward and we can build a much stronger regulatory program, across the board and across the whole agencies. >> ms. bair? >> yes, we have an ongoing self-examination. we've made a number of changes and i would be happy to give you

a written document that describes that. i would also say when banks fail there is always an investigation of why the bank failed and a review of the supervisory process. i think one piece of that that is missing is because the large institutions were bailed out, they did not feel that the statutory revisions we have are these investigations have not applied to i think it's very helpful to provide -- we do need to look but at what the supervisory issues were leading up to those larger institutions becoming unstable. and on the precipice as well. >> and you do have those documents be? we have for the smaller institutions. we are not required for the larger institutions. >> but both of you will provide. justice, i don't know if you've done this, i asked earlier today of the attorney general, but particularly with respect to mortgage fraud, we would like to see that report. or have you done any other examinations of where enforcement might have broken

down? >> mr. chairman, i'm not aware of that. what i am aware of is, of course, we have had now for the last two years quite a number of mortgage fraud task forces throughout the country that actually are prosecuting the cases. and as of the attorney general said, our mission of course is not that of the regulator. our mission is to hold those who have broken the laws accountable come with respect to that we have worked with our partners to. >> do me a favor. i do want to fall. i think that review of what was or what was not done at justice would be very important to know in the wake of potential evidence of mortgage fraud across the country that all right. let's go to mr. wallison. >> thank you, mr. chairman. chairman bair, let me start with you. for banks, we rely on regulation to protect us because there is much reduced market discipline because of the backing of banks by the government.

and i want to congratulate you and thank you for what i thought was very candid testimony about the deficiencies of reagan layson in general. but there's one paragraph that caught my attention. in particular would like to ask about. usually hear in your written testimony to traditional rules used by safety and soundness regulator's by peer institution analysis did not detect individual institution excesses because many of the peer institutions also analyzed, engaging in the same risky activities. these activities were profitable until risky activities undertaken by all became unsustainable. what that sounds like is that it's okay, was okay, if everyone was doing it. is that what you meant to say? >> i think the supervisory process going at this crisis did rely a lot on peer review and peer comparisons. that's absolutely right. because everyone was doing it and everyone was making money,

there wasn't enough scrutiny. i think that's absolutely true. >> are you going to change that? >> we are going to change -- in terms of the fdic, yes. we do fullscope exams now, drawdown much more farther and individual low-quality. the lowest performing of making money, will they perform a year or two years from now, much less relies, really note allies on the guy down the street might be doing the same thing. i do think though that that feed into the larger issue of having a systemic some kind of systemic body to monitor, even though something on a individual basis might look okay, if you look at the system as a whole you might get a different picture. i think this also relates to the need for council that has a macro prudential framework and mandate specter are a few other things that you said that i thought were quite interesting and should be in the record. in your written testimony again, you said record profitability within financial services industry also serve to shield it

from some forms of regulatory second-guessing. another statement, often the potential risk associated with strategies that give rise to outsides profits are not obviously especially when supervisors are examining new bank products or activities. and then finally, it proved difficult for regulators to rein in profitable legal financial activities without hard evidence that the activities were creating unwarranted risk. now, all of those things suggest that when activities are profitable, becomes very hard for regulators to stop them. what are the, and you should know this by now, what are the pressures that come upon regulators when profitable activities are going on? and you might like to stop in? >> right. well, i think we saw that in

late 2006 in 2007 when the bank regulars, the fdic, working very diligently with our colleagues to tighten up on subprime, to tighten up on alt-a and nontraditional mortgages, to tighten up on commercial was a. a lot of industry pushback, and to push back on some of that. so it is -- regulars, someone has to take away the punch will edit can be difficult to take away the punch bowl win, you know, people are making money in it now. but i think going forward, this is a key lesson learned. and hopefully the leadership of this body in saying that regulars need to be supported when they try to do that and not tell her i think would be -- you think this lesson has been learned by congress? >> you know, i hope so. i think, yes. i think, you know, we have -- i think there is still some pressure to forbear, you know,

where odyssey are being closed out by their charter and 40. and that's not always a popular thing to do. the more that occurs there will be more bank failures that you. i think there will be more pressure to forbear and easily enjoy standards perhaps. we're trying to strike a good balance or ogg is a. but as we learned on snl days, the longer you wait eventually there will have to be close and end up being more expensive. there are a lot of people on the hill to the snl days that remember that. but there is still a bit of that dynamic. >> mr. chairman, how much more time to have? >> you have another three minutes and 11 seconds. but i will yield you three seconds back for a answer. >> thanks, i can use it. [laughter] >> i just did. [laughter] >> i should have asked. >> i will give you 20 seconds. >> in conclusion you say, and i

want to just follow this up a little bit, and then ask a question of chairman schapiro. but in hindsight, this is your testimony, it is fair to say that regulators, either did not have sufficient information to fully understand how concentrated risk was becoming, or if regulars had access to the information, and probably some regulator's did, they were unable to understand and identify the risks. now why would the unable to understand the risks? >> well, i think we did -- there was again under the reason why we think we need a systemic risk council is the information collection was a stovepipe as well. we might have information on what's on the books of injured depository institutions but what's going on with their affiliates is opaque. but the non-bank sectors, third parties, mortgage originator's or brokers that might be funded by banks, their issues and the strength of their underwriting

might be even less apparent to regulars. so i think this does -- the need for a king, a more holistic approach backrest was micro, mechanism for collect and analyze information i think is another reason why you need a council is very important. and again, in terms of analyzing what we saw and not understanding it well enough i think it gets back to the issue of not being in the forward-looking are so. this loan is currently performed but what's good happened six month or year from now? will happen if the market goes down? not enough of that analysis was not an. >> this isn't a question of the capacity of regulars to understand the complexity, but rather the fact that your scope is broad enough to? >> i think because we do have a stovepipe regulatory structure, the ability to provide access systemwide information and analyze that is lacking. i absolutely do. but i would also acknowledge even with regard to the information we could have, we didn't, none of us did i think as we might have an analyzing

it. >> thank you very much. chairman schapiro, i really have one simple question for you. and that is, there was quite a lot of discussion at the time that we were going through the crisis in 2008 in the months of june, july, august, september and so forth. about manipulative shortselling. not these things seem to come up every time we have this kind of market prices, and allegation is that he short-sellers are creating rumors, and they drive down the stock prices, and they profit from that. the sec has investigated that quite a lot of. had you continue to investigate that? have you found any indication that there is in a putative shortselling going on in? >> it's a great question. and we do confront shortselling issues virtually daily. but i will say that we are still investigating it. it's extremely complex kind of

an investigation to conduct. with respect to rumormongering, to separate the rumors from the reality. if you're looking at bear stearns or lehman brothers, is not a simple thing to do. and the extent to which on shortselling has added real information to the marketplace about what the appropriate price ought to be for the stock of a particular company, that's a good thing. to the extent it's based on rumormongering or desire to drive down the price of a stock artificially, that's a terrible thing. so our investigations are trying to find the path to the amounts of data. you know, we tried billions and billions of shares a day in this country. and understand whether we have cases that could be brought for manipulative shortselling. >> mr. chairman, this is an interesting question to us and obviously a verbal answer in the

time we have will not be sufficient. so if you'll allow us to friends and questions to you for response we would appreciate that very much. >> i would be happy to do that. >> and that myers will make a universal statement that we can ask all the questions we would like to ask, and when we get follow-ups to the ones we have. we're learning as a goal and we would appreciate the willingness to ask a question in the context and then had to get back with answers to his. is that appropriate? i understand you guys are not here yet. you are most probably went to understand? >> i think that's fair, mr. vice chairman. i'm sure with respect to questions we will be able to answer them. >> that's probably most probably. we're making progress progress. thanks. >> you got to guess is there anything. >> two out of three. >> mr. hennessy,. >> thank you, mr. chairman. one of those follow-up questions for you, chairman schapiro. if we could get a memo for your economists on the uptick rule.

i have heard lots of people argue passionately on both sides of the uptick rule question. i have yet to find an economist i respect who says that it matters one way or the other. so, just for later follow-up i'd love to hear what the best thing to hear from your economists back we would be happy to provide it. we spent many, many hours analyzing all of the economic research that's available, soliciting that research and data quite broad and would be happy to provide. >> i'm just not sure we need to care about it, but maybe you can come in. >> many people care very defib out on both sides. >> and i can't figure out why. someone said on cnbc last night that the financial crisis is over. you possibly more than anyone are having to deal with the ongoing effects of the financial crisis, both with foreclosures and with dealing with failed depository institutions. so i just want to ask you a couple of questions about that.

one is sort of these requests were followed. we had two witnesses yesterday who were pretty aggressive in criticizing the hamp, and if you could just give us sort out your best thinking about here's the best case for the hamp or i do know what you're thinking terms of modification and don't want to get into that now, in particular, just in terms of how it affected you believe it's been in terms of number of foreclosures avoided. that would be very useful. but what i'd like to focus on is you were still having to do with failed depository institutions, and as i understand it, as you resolve those institutions you've got to get into the deposit insurance fund. you get something like an 8 million-dollar deficit and that now. one expert told me that to get back up to sort of your target reserve ratio, it's in the ballpark of 75 to $100 billion that you would need. as i understand you've got a proposed rule out their for a new fee to help close some of that gap.

tied to baker's bay. what we've got just today now is we've got a new proposal from the administration which is saying let's take $90 billion from large financial institutions, and i want to ask him questions about that, in particular, about how it affects your ability to have the funds you need to resolve these institutions. one is as i understand it, insured depositories are a part of the new administration proposal. are you concerned that that conflicts with your ability to get the money that you need from them for the different? >> well, a couple of things -- >> excuse me, prior to answering that. one of the lost revenue if anybody is watching, to try to keep them in the loop. and you mentioned hamp specs are. the mortgage foreclosure.

>> modification program under the president's -- >> gets. >> it's just as we carry on these discussions, there are a lot of folk who aren't tapped in to the jargon. thank you. smack did you want me to start? >> let's talk about -- >> i think a couple of things. has been misunderstanding about we put out an advance notice asking the question, there's a lot of evidence frontloaded compensation structures, encourage risk-taking and contributed to some of the problems we're having. so we have asked a question about whether that should be factored in our risk-based deposit interest primus. this would be if we do this will be revenue neutral. this is a question should we reallocate so that those who had these frontloaded compensation system should pay more. and those that have the clawbacks would pay less. i think there's some confusion that you all came out at the

same time, completely separate issues. i've not seen did ministrations proposal. i've read about in the paper. i understand it's a liability pasty and they are taking deposits out there so they are presumably would not be a double account because obviously, the insured deposit insurance institution have been paying a lot in premiums. i would also say that we have tried to be very mindful of the balance to maintain the integrity of our industry-based deposit insurance fund. i think it's very important to keep the industry funded, and i never say never, but try everything we can to avoid having to borrow from taxpayers. everybody has had enough of that. but we have tried, we did one special, and we realized the industry is still in distressed debt. so instead we did a pre-payment of three years worth of premiums which brings us the cash up front but they can't expense over time. so they don't have to be really have to take a hit to capital. i think this is a good balance that we have about 67 billion in

cash liquidity to which i think based under current projections, should be sufficient. >> my understanding of the proposal is that deposits have been taken out, but insured depositories have not. >> you know, i have not seen it that i read about it in the paper. once i find i will be happy to respond to. >> more broadly, your testimony talked a lot about the too big to fill question and about these large financial institutions, which i'm very concerned about. and in particular, about regulatory arbitrage and firms that post large financial risk, just playing the system to avoid the regulation. your system of deposit insurance is as i understand, roughly risk-based system and is designed to cover your entire universe of insured institutions. my understanding of this proposal is that there are significant large financial institutions, fannie mae, freddie mac, the auto companies, who would only have evidence

have posted systemic risk but are exempt from the new tax. does that concern you at all? >> you know, i would like to respond in writing once i've actually seen a written proposal. i just operate on press reports i don't want to answer. i'm would be happy to respond to that in writing once it actually seen. spirit and further element of that, they got $90 billion they think coming in from the new proposal. you need somewhere in that ballpark for your deposit insurance fund. you can't use the same money for two or three purposes. so if you've got money coming in, i understand possible uses of that fun can be to pay back taxpayers for losses from other firms in t.a.r.p. to come is to close the hole you got in your deposit insurance fund. three is to pre-fund liabilities from the possible future failure of some of these too big to fail firms that i would be interested, and, in writing for you to give us your views to the

extent that there is a new proposal to address too big to fail, and addressed the risk proposed by it, should those funds be first targeted to address the ongoing programs that we know about -- problems that we know that would ensure depositories. >> of the. i would be happy to respond in writing. i think we have an estimate of 100 billion laws of a five year period. we've already preserved -- we've incurred those losses and reserved about 66 of that already. so i think, you know, we feel again based on our distressed scenario, which is pretty stressed, we think unless the economy really gets into difficulties that we think the collectiocollection suitemate now made now should be sufficient and so there should be no additional need for premium increases. again, this has to be qualified by some economic condition. i would say it is being driven by the economy.

early on we would be driven on the landing and residential development that there is still some of that but more and more about its being driven by the economy and regular credit deterioration because people lose their jobs, whatever. can i have just one of seconds to post one more question for follow-up. >> twenty and short. >> i've are two different views on mark to market accounting. one that it is an accounting from. to come it is a regulatory capital problem. it would be fascinating to see maybe even courted responses from the two of you as to your views, which is procyclicality, what is the most effective way to address that? on the accounting side or on revelatory site? >> thank you mr. hennessy. >> i think separate is probably more practical. snick probably faster. mr. dobson? >> thank you, mr. chairman. it would not be unusual in the

aftermath of a crisis for the regulars to say we need more regulations or we need better regulations. i guess my question centers around the on over-the-counter derivatives. were there adequate regulations in place at the time of this crisis that could have prevented the crisis, had executed better within the regulatory agencies that we have in place today? and the laws we have in place today. ms. schapiro, we will start with you. >> i would be happy to. and i would love to be able to maybe supplement my answer because i can think of a lot of things worthy to talk about in this context into addition to over-the-counter derivatives, hedge funds, which while not generally thought to be a central feature in the crisis, because we have almost no information census site information about hedge funds and other operate in our markets. we don't really know. but i would point to two things in particular.

one, i talked about in my testimony the asset-backed security's markets. and while there was regulation in place, we think that we could do a lot better in terms of the quality of disclosure at the asset level for investors in a way that doesn't just dump a lot of disclosure on them, that gives them the tools to understand the quality of the assets and full level disclosure, after the first year which is a big issue. time to do due diligence, all of these things that i think asset-back securities market and i know the fdic is working on some things in this regard, is one where we can do a much better job with regulation. and then secondly, i would say supervision more generally. as i look back over the sec's program, broken so did supervise entities, we have a lot of lessons learned about whether models are reliable, whether stress testing was sufficiently robust and strong to really understand what was going to happen in a very dire situations.

whether putting assets off of the balance sheet into special-purpose entities really meant they were off balance sheet or because of contingent liabilities or reputation risk, they were going to have to come back on. i think there are a number of areas like that, where there's perhaps a failure of supervision, perhaps a failure of vision to understand where some of these products and practices might take as. but also where there just weren't adequate rules and regulations. >> would it be yes or no speakers i forgot to the original question. [laughter] >> in other words, could be existing regulations in place today, if well executed, have prevented this? >> i think it's more the supervision frankly and surely the regulations. >> ms. bair? >> i think there were two key missing element. one was the lack of consumer protection that applied to both banks and non-bank. i think also there was no

systemwide accountability with any potential into dcom which is what we think there needs to be a new body for consumer rules and also systemic risk council. >> if you were to look at some countries outside the u.s., the u.k., germany, japan, they have one entity that regulate what goes on across these markets. yet we have a lack of a better term, a patchwork quilt of agencies that are involved here. would we not be better as a country to have a single agency doing this, as opposed to the multiplicity of entities we have today? and is that not what the council is trying to solve? >> i think the council is a bit of a hybrid. some of those proved to be frankly captive and not particularly robust. so there's some problems there. which is why we think preservinpreserving some autonomy among the individual regulatory agencies within our sphere of influence, but although serving on a check on

each other in the council, at least from prudential standards like capital liquidity, that to me is the best model. you have some better checks and balances, but you have some ability in ownership to look at the system and take accountability for the system. >> ms. schapiro? >> i very much agree with the. i think the single model did not prove to be more resilient or more effective during the crisis. >> how about in recovery? >> did not approve -- to prove necessary to be much more effective than the u.s. system. we also very much support the concept of a council and diverse perspectives about different types of institutions, products and strategies, to the broader groups so we can all have a better understanding of what the risks are that are flowing across the marketplace. that needs to be coupled with effective supervision, particularly of the largest consolidated entities by a

systemic risk regular. >> so yesterday when the bank presidents were here, several of them said that they created instruments that really had no valid you. hints, this is if you will. and these were off-balance sheet items that we saw in the collapse of enron. yet, they were a part of the application, if you will, of this crisis. how is it, ms. schapiro, that we could have off-balance-sheet items of the magnitude that we did in this crisis post-enron? >> that's really an excellent question. my understanding is that after enron, the accounting standards for u.s. public companies did revise their accounting for off-balance-sheet instruments and arrangements. but it was primarily directed at a range as he sign is wrong where there were nonfinancial assets that were being held off the balance sheet of the public company and it did not affect the securitizations of mortgage loans off balance sheet.

which is certainly central to what's happened in recent history. in 2008, can before i arrived at the sec, the commission asked fasba to improve its authority for off-balance-sheet treatment of assets in securitizations. fasba went ahead and did that in the middle of last year and we really do believe that the new standards will result in on balance sheet presentation for securitizations. that said, very clever industry, and we have to be very watchful to ensure that, in fact, that does combat on the balance sheet and we have full transparency. >> well, the clever nature of the industry gets translated by them into innovation, financial innovation. took in the sec and the fdic and every other or any other regulatory body, really keep up with the pace of innovation in the industry, of cleverness, if you will, of the innovator's?

>> i think that such a great question. there's innovation that's viable and moves us along as a society, and then there's innovation that generates additional fees. for the innovator. this is a big focus that we've had in the past year at the sec or historically we haven't been able to keep up. we created a new division of the risky strategy in september. we have brought in some really cutting-edge experts on modern financial markets, and the intersection of innovation and the law. and it is our hope that this group of experts who are available not just at the sec staff, and to other agencies as well, if you're interested, will help us understand and accept new products, much more efficiently to understand where the risks may lay. so that we can either prevent that, those from going forward, or ensure that investors are well informed and regulars have a good handle on the risks they are creating.

>> ms. bair? >> why do we wrap up with this? >> yes. we were highly supportive which brought these off-balance-sheet. this was a big problem and concern for the fdic because they were off-balance-sheet, they were not holding capital against them which meant their capital levels were being overstated. so we were highly supportive of that, and i think going forward is a lesson learned. in terms of innovation, yes, you don't want to discourage. you need the flexibility to deal when it takes a bad turn. >> goodlett of question and i will take just a couple of minutes, a minute or so of my time to follow-up on the question that mr. thompson asked. so in the wake of enron, and i watched that very closely because i sat on the board of our state pension funds but we took enormous losses from enron and worldcom. that warning sign that much bigger things were on their way. so how in the construction of the rules on siv, how on earth

where mortgage securities which were already pretty substantial in a markopolos, how are they excluded? whose decision was that? who's culpable responsible? wasn't the sec, the public corporation accounting oversight board? who missed that? i wasn't a matter of lobby? >> i really don't know the entity that. i would be happy to supplement the record. it happen many years before i got to the sec. but my understanding is that it was focused on nonfinancial assets being brought onto the balance sheet as opposed to mortgage assets having been securitized. that not a satisfying answer, i understand that. i would have to supplement the record. >> would you please look into, and i'm asking you, was that an fcc decision or the public corporation accounting oversight. >> that would've been sent by fasba. >> arai.

>> but the sec has oversight responsibility on and i just don't speak if you could get that to his. and i'm particularly interested into whether not there was any active advocacy by folks to exclude asset-backed mortgage related assets as somehow being different, and i would love to nazi arguments made for the exclusion if they were made. >> we concern ask fasba about the. >> or they just didn't get it enough to understand the difference vehicles out there >> i want to piggyback as well. to a certain extent, we had an earlier discussion, chairman bair, in which you gave me an answer in terms of the well-capitalized banks and the lack of any real discretion to deal with the structure that was there. this is part of our ongoing process. i am informed that you have

provisions called from collective action provisions in which regulators can lower a banks rating below well-capitalized on subjective grounds. and i guess it's back to the question about devices tied to real estate. i mean, if you are looking at the banks, not notwithstanding under the structure that was their and they were well-capitalized, did the fdic look at, do you think they should have looked at what i guess is the excess exposure by some of these institutions to what we now believe to be risky housing related assets? >> well, i think there is -- it is absolutely true that the integrity of the capital ratio will depend on the honesty of reserving against projected low losses so the reserves are low,

the capital level will be overstated. if you're talking about the tree, 95 to 2005, 2006 when we started charging premiums, i don't think, at least -- >> let's just look at it in the context of finding out that by 2007 what you look at in 2002, 2003, 2004, 2005, you had the ability if you are discerning enough, to believe that the assets were riskier than would otherwise be required. obviously, that makes you president and others weren't there to get past i've asking you as the fdic president. >> i think we were earlier. whether we were early enough or not is another question. we started doing special exams on subprime very early. we only -- >> we were the primary regulator of only one major subprime lender that we ordered them out of the business i believe in february of 2007. so i do think we were on top of

this earlier perhaps than others. whether it was early enough i don't know. hindsight is always 2020 but we very much to our examiners now to go in and dig down into those notebooks and make sure that reserves are adequate. and if they're not they need to increase the reserves and that can decrease the capital and result in inadequate capital is rating or below. . .

>> you have a number you can produce for '06 and '07? >> absolutely. >> so i can look at that. because in retrospect, not withstanding the limited involvement, how many of those failure were directly related, if we're able to make that judgment, to that aspect? which could have been available to you under the prompt collective action provision, had you been fully aware of how -- somebody back there is shaking their head no. so i will wait for it to filter back to you. >> there are processes and statutes and various steps. so i think -- i would be -- >> i mean, everybody missed everything to a certain extent. so i'm not trying to pin you down. it's just i'm very concerned

that we aren't looking at that on an ongoing basis. so, if you give me the dat da, we can go from there. thank you very much, mr. chairman. >> on my few minute or so remaining, i want to ask a followup because i think it's relevant. have you done any data collection -- can you give us a read about how many of these failures are related to subprime toxic assets versus the collateral damage that resulted from the big meltdown? >> i think we can give that to you. >> that would be important. >> mr. georgiou. >> having spent the better part of the decade prosecuting the fraud at enron, i'm attempted to go into the off-balance vehicles, but i will temper my desire to do that. i would like to focus and follow up on something that i

approached the private sector people with yesterday. really, the credit rating agencies issue is more serious than just investor pay -- the issuers pay for it, rather. is that they actually pay as a percentage of the issue frequently, and i think it's important for the public to understand what happens here. institutional investors for the most part, particularly pension funds, can only invest in securities that are rated aaa, and since the credit rating agencies only get paid if the issues get settled and are paid frequently as a percentage of the amount of the securities that are sold, and since they only get paid if they get bought and can't be bought unless they're aaa rated, this is a conflict of interest of gigantic proportions. and it strikes me that the point i tried to make yesterday is the credit rating agencies aren't the only ones who operate in

this way. the audit temperatures are paid by the issue -- audit it temperatures are paid by though issue ears, and the lawyers draw up -- and the investment bankers are paid in cash as a percentage of the issue when it's sold, and customarily they lack any financial consequence for success or failure. and we talk about how financial innovation sometimes eludes the abilities of regulators to regulate because it's so innovative. do you think there are any market mechanisms that either of your agencies could put into place that would actually assist in enforcing accountability afterwards? for example, one would be, could some percentage of the fees be taken in the securities that were actually issued rather than

in cash? so that if they perform as represented, then everybody does fine, including the people who were responsible for doing the due diligence to originate them. and if they fail, then they suffer some of the consequence of the failure as well. >> i do think looking at risk retention is a very interesting concept with respect to rating agencies. that eating their own cooking, so to speak, would be interesting to explore. there's one difference between credit rating agencies and other gatekeepers such as lawyers. the audit did -- auditors and lawyers can be sued when transactions go awry, so we have proposed a concept whether credit rating agencies ought to be subject to experts liability just the way others are in the

offering of securities and whether that might impose some additional discipline on how they conduct their business and be an effective check on their enthusiasm for highly rating everything. i think we are quite interested in exploring -- with respect to our now securitization proposals and with respect to sponsors who want to use the shelf registration process, that there be a risk retention requirement. >> do you have any thoughts on that, ms. bair? >> yes, i think the idea of rating agencies being paid over time and tying their compensation to whether the security they rate a aaa actually perform as a aaa -- i think that -- it has some major advantages. i think in terms of -- having some risk retention for the

originate for of the loans i think is also helpful, more skin in the game, and being a check on perhaps a bad rating to make sure we have better underwriting qualities. and then i also think that just getting back to the earlier point, transparency is key. if the public and market analysts can access the assets that underlie the securitization, and second-guess, i believe that couldles help discipline the ratings process. >> could i add something. investors relied on ratings in complex structures because they didn't have a lot of choice in many instances. we would like to move forward with a new level of disdisclosure that would give investors an able to second guest guest what the rating agencies are doing, doing it in a way that provides standardized information so investors aren't

dumped with massive amounts of data, and that's a project we have underway at the sec. >> if you could report to us in writing on the progress of that investigation, we would certainly appreciate it. >> i would be happy to. >> this general concept of affixing accountability for the success or failure of these securities which became toxic and ill liquid and clogged up the system and contributed to the financial crisis is something we will continue to explore. to direct to mr. brewer, if you had any experience or any discovery of really up the line involvement or conspiracies, if you will, to generate numbers of loans that are particularly juiced up, that are high -- have high interest rates, that are

able to be securitized into packages of mortgages and then ultimately sold, and to the extent -- the extent to which private sector providers of capital and accumulators of capital might have been involved in encouraging brokers to provide loans to -- to create loans that could be -- you know, everybody could benefit from and earn money from all along the chain. >> commissioner, what we have done and what we continue to do is really look at the entire continuum, so if you look at what the department of justice has done over the years -- and candidly what the agencies such as the fbi have done -- at the very first we looked at -- there have been many, many prosecutions throughout the -- >> mr. brewer, can you pull the mic toward you? >> sure. the mortgage fraud of professionals. at the first level, mortgage

fraud by agents who defraud the banks by coming up with false appraisals and straw buyers. at the continuum continues, we look at those who have been acting in a fraudulent matter with respect to the underwriting process, so if the bank has mortgages and they begin the process of securitization or they want to sell, what do day say about the underoperating policies, -- underwriting poll policies, and we are looking into that and when the break the criminal laws we prosecute. and we're absolutely looking at the conduct of the securitizers themselves themselves and what did they say to those who purchased the certainizations and the underlying conduct. there have been prosecutions of agents and others who have purported that the assets that they have were backed by perhaps

in certain case student loans, which were considered to be of a higher agreed, when in reality they were supported by much riskier investments, mortgage-back securities. and we look at the institutions who require securitization to see what they said to the investment public about what they had. so as the two chairs have said. there were incentives at every step for some to not be candid about what they had. and we have been looking at that for a while? a key manner. >> can you. the statute that this -- >> mr. georgiou, you're out of time. >> let me follow up. >> real quick. >> the statute that this commission was created under provided the fraud enforcement act provided additional resources to each and every one of your agencies for the

purpose, it seems to me, of investigating this particular product. >> we have to move on. all right. >> thank you, mr. chairman. >> thank you for coming today. i want to start with you. mr. bruer. obviously mortgage fraud is a tragedy, but from our perspective of our job in determining the source of this financial crisis, its magnitude is essential. do you or any of your affiliates on this task force have broad nationwide estimates of the fraction of mortgages, either by number or valuing that were tainted by fraud or simply performed poorly and. >> what i can say is i can't give you an overall estimate. i can tell you we have enormous number of cases throughout the country -- the fbi itself has had now for a fun of years

mortgage fraud task force, and as the attorney general himself said, right now there are 2800 active investigations around the united states on the federal level just of mortgage fraud. so obviously we see a snapshot of it. we see it at the point when we have the investigation going on. i can tell you we look at tens of thousands -- i think last year there was perhaps in the range of 65 to 70,000 suspicious activity reports just with respect to mortgage fraud, and often that's the very beginning of the investigation. so, it's obviously widespread, and all we can do is we pursue those throughout the country. we pursue them either criminally or civilly. >> for purposes of this investigation it would be useful to know things like of those sars turned into prosecutions, and of those prosecutions how

many mortgages are actually involved. what origination looked like. if you can share information you have so the magnitude of the problem is documented, that would be very useful. >> i think we can do that and will do that. >> i look forward to that. with respect to the other member-the-panel, this is the happiest day of my life. i want to thank you for resolving forever whether short sellers ruined the world, and how much mark to market accounting matters. i have been waiting for this day and look forward to your reports. it's going to be wonderful. there are still a few mysteries left, though. so i want to go back to the issue of rise in leverage in the investment banks and the role of the supervisory regime. i didn't quite understand the answer. so i'm going to say something and you tell me whether i'm wrong or not.

the investment banks had no regulatory capital requirements. >> wrong. >> and then the -- the decision relax -- >> no. >> in law relaxed the -- >> the broker dealers have always been subject to capital requirements. under long-standing sec rules. >> which were relaxed? >> the bank broker dealer holding companies were not subject to capital requirements or regulation at all prior to 2004 in 2004 the cop solidated supervise -- consolidated program was created to bring those holding companies under supervision and at the same time they were at the broker dealer level allowed to take a different approach to calculating that capital that allowed them to use risk models rather than a strict, you must take a 1% haircut for treasurery

bond. so they were allowed to use the models under basel. the result was that they were able to support larger positions. >> thank you. i didn't follow that the first time around. so in looking back at the crisis -- i'm about to do something which i hated when i was on that side of the witness table, which is you're now on the sec. i'm going to blame you for everything that happened years ago. but if you look back at the key event in the crisis, bear stearns, lehman, the fallout, the sec was missing in action and publicly silent. so my question to you is, given that it is now quite apparent that an enormous component of this crisis is the inability to

assess counterparty risk, and that asserted lehmans enter connectedness and impact when it failed. why was the serving unable to say publicly something about the genuine financial condition of these large investment bank's at the center of this crisis? >> it's hard question to answer because i wasn't there, and i don't know the decisions that were made by my predecessor about what to speak to and what not to speak to. it is my belief, having looked carefully at the programs that existed at the at the time -- sf it was disputed by my predecessor in last year, 2008 -- that the agency never made a full commitment to what was a voluntary program, and i think that's one of the flaws of the program. the five entities that chose to be rig -- be regular --

regulated and could have been watched by something other than the sec. i think it's a bad idea. and i don't think resources were committed to become the kind of consolidated supervisors that was really called for under these circumstances. i can understand very clearly how the changes in the capital ruleses impacted things, and we can fix those. we don't regulate on a consolidated basis any holding companies any longer. i can provide resources and we can support the program and rewrite the rules but i can't address for you all of the failure of the program historically. >> so, it does seem fair in retrospect that there was an inadequate effort to assess the risks of these institutions? >> i think there was reliance on models which turned out to be

quite flawed in many ways. some models relied on histor historical observation periods. i think that there was not sufficient pressure to do really robust economic stress testing of the models under the low probability, high stress scenario. i think there was a fundamental misunderstanding, which was shared by many, men regulators -- that secured funding would always be available, and i wasn't at the end of the day for bear and for lehman, secured funding wasn't a possibility. i don't think anyone envisioned, even in the backup liquidity pools -- it wasn't envisioned that secure funding would dry up completely. all of these things came

together to render this program at this time ineffectual. >> was the sec's mandate simply too broad for it to be effective at particular functions? >> i don't think so. i mean, i think -- but i will say -- >> excuse me, chair schapiro. the gentleman should use additional minutes. >> the sec has very successfully for very men years successfully regulated broker dealers, and net capital and customer protection are designed to protect the assets of the broker dealer, and that worked extremely well for many years. i think it was a geometric difference in supervision of regulation to go from broker dealer regulation the regulation hereto to fore unsupervised, holding companies and multiple affiliate, and i think that is

something -- not something you do overnight. you build over time, bring in resources. the sec didn't have the budget to do that. the sec is smaller than it was in 2005, and the agency did not have at that time neither sufficient resource commitment this kind of regulatory program. >> last question for both of you. we heard testimony yesterday from a gentleman named karl bass, who did extensive work identifying the fundamental weaknesses in securitized assets based on subprime mortgages. he took that -- the evidence of the danger that it presented to bear stearns, and was told he -- it was rejected. he took to it the federal reserve board, and it was rejected. did he bring that evidence to either the sec, which would have had a clear interest in the

weakness of bear stearns, or to the fdic, and if he didn't bring it directly, were you aware of this research? >> i'm not aware of it. i would be happen to find out. >> no, i'm not aware of it. since bear stearns had no significant -- probably didn't talk to us. >> thank you. >> senator graham,. >> thank you, mr. chairman. earlier today i was on a c-span call-in program, and several of the callers raised the issue of the degree to which this crisis was a function of overgovernmental regulation and intervention using, as the primary example, the community reinvestment act. mr. bear, in your

investigations, are you able to say whether excessive government involvement or regulation has contributed to this, and if so, what manner. >> well, senator, from the perspective of the department of justice, we really do defer to chair bair and chair schapiro about the regulations and what needs to be -- our view remains that we continue to look at through it with a very come spendsive approach with respect to criminality, and where criminality is we're pursuing it. i don't think, given our perspective, we can opine on regulation. what we are looking hard a at, where people made false statements or acted in criminal manner, we're going to hold them accountable. >> let me ask the same question of ms. bair and ms. schapiro. >> ey, we have looked at the

rules and other banking regulators, and we all concluded it was not any kind of a significant factor. it's lyons share of the high risk loans. so, the people here have other issues but in terms of driving this, we have not found evidence of that. >> we don't have responsible for administration of the cras so i don't have a view on that. >> any other areas of government action or regulation that you have found to have contributed to the crisis? >> i think as i mentioned in my testimony, the gses. i that needs to be look at. the gses also investmented in a lot of private label mortgage-backed securities, which is a loss lead are for them now. so i think that is something -- i think there are pros and cons

of having those, but i think that is an area of significant government involvement that i do think played a role here. >> i agree with that. it's incumbent on to us look carefully at the roles of the gses and find a more effective role going forward. >> ms. schapiro, you commented earlier about the fact that the rating agencies were not subject to private litigation and to that degree were less accountable. back in 1995, the congress passed legislation called the private security litigation reform act, which had the effect of making more difficult for private investors to use the judicial system to hold alleged

defrauding entities to account. what effect do you think that legislation has had in the degree of fraud that we're now experiencing? >> that's really an excellent question. i would like to give it more thought and provide you an answer in writing. there's certainly data available that tracks all of the litigation and does an analysis of it. i would like to take a look at that before giving you a clear answer. i do believe that holding parties accountable is a critical component of effective regulation and effective discipline on our financial system. what i can't tell you the extent to which that law in particular may have lessened the discipline that would be helpful here. >> thank you. in your written response if you

could broaden it to include any recommendations you might have as to the role of private litigation as an enforcer of fraudulent behavior within the financial arena. >> i would be happy to as a general rule, i think there's a view -- the view of the commission has been that private rights of action are very important adjunct to our criminal enforcement capabilities and it is still important in the marketplace. >> thank you. ms. bair, you commented about the issue of compensation and setting standards. i have been concerned that yesterday, what we heard from the representatives of major financial institutions, seemed to be that all of the performance that was intended to be enduesed by different compensation publiccages was

essentially internal to the financial institution, enhancing its profitability and success. as you are developing some compensation proposals, do you think there are some external factors that should also be included in the performance evaluation of the executives and other officers of a financial institution? as an example, the fundamental purpose of a financial institution is to be an interimmediate -- interimmediate area in way that it advances the overall economic well-being of a society. is that a consideration that should be a part of the performance evaluation of the executives of a financial institution? >> well, i think your answer depends, are we speaking about

receiving compensation or a government leg later, i think a deposit insurer also could have financial risk so we would be looking at structures which create incentives for riskier behavior that could cost money. that's our statutory authority. i will say i think just more generally the shareholders need to step up to the plate and under the chairman's leadership there have been efforts to empower boards and shareholders, and certainly from that perspective i would assume they would want to look at the kind of corporate citizens and leadership is being provided. >> ms. sharp pier row, you talk about regulatory change. the sec has been a particular target for that regulatory change in the middle of the

presidential campaign in the fall of 2008, senator mccain called for the firing of the charm of the sec. i think it was the only financial regulator who was specifically called out to be terminated. are there any peculiar structural issues within the sec that deserve specific attention as part of the general consideration of regulatory change within the financial agencies? >> that's a very good question. i have spent my nearly one year at the sec really trying to take apart the agency and understand where our -- take action to try to bolster our programs wherever we can. so we have created risk strategy to help us identify risks as they start to build in the

markets we regulate. we brought in leadership across the board and we brought in different skill sets and we have made structural changes. ...

>> i am one of the public members on the american institute of certified public accounting than. the word accountant has come up a few time. is there anything suggestions to that specific profession that you would make as to how they could play a more effective roll in sue pressing fraud or other steps that would tend to mitigate the prospects of another crisis as we're currently experiencing? >> i think it's critically important. this was a dewait in the regulatory reform context earl why that we continue to have independent standard settings for accounting standardings going forward. those stand setters focus on what the purpose of accounting standards is. which is to provide investors

with all of the information they need in unvarnished, honest, and direct way to make rational allegation decisions. so i think it's particularly important for the profession to continue to remember that the investor is their audience at the end of the day. and that they establish accounting standards and further the interest of investors in full disclosure. >> i would just say that i think one area where bank regulators and accountants continue to have robust dialogue is on the issue of projected losses. i think all of the bank regulators agree the current rules are too restrictive. there need to be an event making before the bank can serve against it. that led to banks being under reserves. i think we continue to have the dialogue with the accountants about the increasingly

flexibility -- have more flexible to reserve. >> all right. thank you. >> go ahead. >> i was going to add on the extreme we at the department of justice are extremely interesting in the role of the gate keepers. whether you are lawyer, accountant, anyone else, and you are involved why fraud, we're going to go after you aggressively. obviously if you were aware, we encourage people to come in before we come knocking on your door. >> all right. ms. murren. >> thank you, mr. chairman, i am at the risk of making your day less happy. i'm going to go back to short selling. i do want to talk about transparency. there's a lot of filings or disclosure that relate to long positions. in particular, ownership by mutual funds or the position that investment analysis may have themselves or market commentators. those types are not necessarily

required on the short side. without a doubt, short selling is an important part of the market. i do think this is worth noting that observers within the real economy and perhaps on main street have observed that the lack of requirements for transparency and disclosure on the short side may have exacerbated the financial crisis during it's course. in particular because if you look at some public companies, for example, who depend on investor confidence to access the capital markets who at that time might have been renegotiating credit lines. you have a stock that goes down, there's a significant amount of confidence and to say nothing of employees who watch the stock prices decline precipitously and obviously are frightened. and there are morale problems.

could you comment on whether there should be more transparency in the area? >> as a general matter, i'm a huge fan of transparency across the board. i think when people understand what all of the issues are, what all of the positions are, that we all are able to have real market discipline in a way we don't when markets are okay. this is short selling, reporting requirements were put into. i'd be happy to provide with you a record description of those and what else we're contemplating. we have a number of proposals out for comment. there's tremendous interest in those in a circuit breaker to stop the decline result of short selling as opposed to long sale. the stock that's declined by 10% within the single day. the commission will be taking those issues up very soon. >> do you feel that each of you have enough authority to be able to take a look at things that would be considered manipulative

in that market? >> it's extremely difficult. the amount of data to fit through, in these cases is overwhelming. for us, it's an issue of being able to acquire or build the technology to do this kind of data analysis more efficiently than we do it now. when we were discussing earlier about the rumor investigation and the potential short sale manipulations. we have to review millions and millions and millions of trades in order to try to reconstruct what is happened. and it is my hope that the agency will have sufficient resource to do a better job with technology. our -- and i don't mean to make a pitch -- but our technology budget is 50% for new development, it is 50% below what it was five years ago. it's really incumbent on us to

have the capability. >> all right. could you each comment on what you think the contribution might have been from the shadow banks to the financial crisis and it's magnitude and perhaps what different authorities or regulatory environment you think might have prevented some of the exacerbation of what we saw? >> well, the payment shock loans, they originated outside the traditional banking sector. i think it created downward, as market share kept being pulled away, i think it created negative pressure for the banks and drifts to start falling suit. so it was going on there as well. but i do think the line share, it started until the line share that occurred in the nonbank sector. that's competitive pressures on

banks. back to my point earlier about consumers protections. nipping this in the bud which just simply said you have a document of customer's income to make sure they can repay the loan, make sure the interest is sufficient when the resets, just simple rules like that we have to now for high-cost loans. hindsight is always 20/20, but i think that could have been a lot to stop us. >> i think to some extent, it depends on how you define the shadow banking system. i would agree that everything that chairman said, the role that they were playing in the otc markets and regulated futures market and the ability to do in those markets which is clearly not permissible in the regulated markets or at least is

invisible in those markets, even if it's not permissible. >> would it be possible to get a summary of what you believe to be the institutions that are part of the shadow banking system and also the ones that maybe outside of your jurisdiction? >> sure. i mean their questions are money market funds part of the shadow banking. they are highly regulated. but they are not part of banks. although they are important parts of the financial system. so we can certainly try to device the world up. >> that'd be terrific. thanks. >> thank you. >> do we have time? >> i'm good. >> okay. good. thank you very much. it's been -- you've been asked to provide a lot of information. you've been given a lot of work to do coming out of this meeting. i do want to add one additional request to this following up on mr. holtz-eakin's question, i do

think for the commission the impact of this thrill 2004 decision with the respect to the leverage limits and brokage dealers and how that affected the investment bank holding companies, i think a clear explanation of that in writing would be helpful. i still think we want to see the lifting of the limits on the broker dealer, what affect that had on the overall entity. >> i would be happy to do that. to be very clear, the leverage limitations weren't changed. it was really in how the net capital was ultimately call calculated or any capital requirements at all. we'll be happy to provide that straightforward description. >> and the difficulty, particularly, is when you have one that wasn't regulated, one that was, they shift to basel.

in explaining all of that, how did we wind up, with i assume, good meaning people restructuring something for something positive is what we got? >> i think we are driving this. i think we want to get a sense of whether that was a critical decision or whether that in fact if increase the risk profile of those entities that subsequently collapsed or might have collapsed but for extraordinary government assistance. thank you very much for your testimony today. we will take a 10-minute break. we will start promptly at 11:55. [inaudible conversations]

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>> financial crisis inquiry commission the second day of public meetings. they will have a report due by the middle of the december of this year. hearing this morning from the likes of attorney general eric holder, this next session coming up will be with a number of state officials. including state attorney's general. they are set to get under way in about 10 minutes or so. as you are watching the hearings and you hear the financial terms which you may not be clear on, we can linked the dictionary. go to c-span.org to find that. they are expected to gavel in in about 10 minutes orago to the words of the chairman a few minutes ago. while we wait, we're going to show you opening statements from this morning.

[gavel] >> good morning. the meeting, the public hearing of the financial crisis inquiry commission to come to order. there is a quorum present. welcome to our second date of public hearings. on the causes of the financial and economic crisis that are gripping this country. as i said and as the vice chairman also indicated yesterday, we are a panel that is going to do our level best on behalf of the american people to try to disconcern the facts and the causes of the current crisis. which has affected so many million americans. yesterday we heard from a range of experts and folks of the

private sector. today we have a number of people with us who are at the federal, state, and local level who with have been involved in grappling with the consequences. i'm looking forward to today's testimony. i want to thank the commissioners for the hard work, and what we'll do today. i want to thank the folks in the audience, as well as all of the witnesses that will provide testimony to us. mr. thomas, do you want to make any opening comments this morning? >> no thank you. other than to say thank you very much for appearing before us. we look forward to continued cooperation. thank you. >> excuse me. on the first panel. we have before us attorney general of the united states, mr. holder, we have before us the assistant attorney general

of the criminal division of the department of justice, we have sheila bayer. we are going to start as we all with all witnesses as will be and has been and will be our custom we will swear all witnesses. i would like to ask all witnesses to please stand. do you solemnly swear or affirm that the testimony that you are about to provide the commission will be the truth, the whole truth, and nothing but the truth to the best of your knowledge? [confirm] >> we will now ask that each witness provide the statement. we do have testimony from the witnesses. i'd like to ask if each witness would provide up to 10 minutes of oral testimony, it's my understanding that mr. holder will provide the testimony for

the department of justice. and i will also note that mr. holder rearranged the schedule to be here and will be with us for the opening statement and a couple of brief questions. i know his schedule dictates that he has to depart. let's start with mr. holder and go to ms. bair and shapiro. >> thank you for inviting me and the other members of the commission. these hearings are a critical step forward in better understanding the root causes of the financial crisis that has fell the economy in the grip. i appreciate the opportunity to participate in the commissioners work and to assist in your inquiry. this morning i am joined by lanny, the assistant attorney general for justice department. lanny spearheads many of the our

efforts finishing financial crimes. he has submitted testimony and he'll be available to answer any additional questions that you might have. we must be vigilant in our efforts to safeguard and strengthen the american economy. our efforts to fight economic crime or vital component of our broader strategy. a strategy that seeks to foster confidence in our financial system, integrity in our markets, and prosperity for the american people. now in carrying out the strategy, the justice department has long focused it's efforts on combating financial fraud. across numerous administrations, the department has worked hard to combat fraud and ill gains for the benefit of fraud victims. despite these efforts, we know that the financial fraud persists. in fact, the wall street journal

reported earlier this month about the crisis and fraud in the security and investment banking industry are at the highest levels since records began, unquote. the current economic crisis has brought the channels to the forefront. let me state at the outset what the department plays and does not play in addressing the challenges. put simply, the department of justice investigates and prosecutes the federal crimes. as i sit here today prosecutors in washington and 94 u.s. attorney offices around the country are hard at work investigating a hard array of financial fraud from mortgage fraud to medicare to health care fraud to security fraud to corporate malfeasance, i'm proud that we have put in place to financial crisis that is and will continue to be aggressive.

while the region is brood, we do not proport to have all of the answers. as a general matter, we do not have the expertise nor is it part of our mission on the financial crisis. rather the justice department resources on focused on investigating and prosecuting crime. it is within this context that impressed to offer my testimony and contribute to your vital review. the department has a long history of prosecuting financial fraud. and we will continue to do so. working in concert with our federal, state, lowball, tribal, and territorial partners. the justice department is using every tool at our disposal. including new resources, advance technologies, and communications capabilities. and the very best talent that we have to prevent, to prosecute, and to punish these crimes. and by taking dramatic action, our goal is to not just hold accountable, those who conduct may have contributed to the last

meltdown, but to deter such future conduct as well. the corner stone is a new interagency financial fraud task force which was established in november by executive order of the president and was led by the department of justice. at core of the task force mission is a more robust and strategic law enforcement effort focused on combating four types of financial crime. number one, mortgage fraud. from foreclosure rescue and loan modification, to systemic lending fraud in the nationwide housing market. number two, security fraud from traditional inside trading to ponzi schemes to accounting fraud to misrepresentation to investor. third, recovery act and the illegal use of taxpayers dollars intended to short off financial institutions. and fourth, financial discrimination.

including lending practices in communities and the sale of financial products that exploit the elderly and disadvantaged. now in combating financial crimes, we will aggressively leverage the criminal and civil enforcement resources of the federal government. we will tackle every fraud case with the aim of recovering stolen funds for victims. we will enhance coordination and cooperation among the federal, state, local, tribal, and territorial authorities that the perpetrators are brought to justice. on the point, let me be clear. when we find businesses or individuals who disregard for the law as hurt the pocketbook of advantage americans, we will use every available measure to hold them accountable. even before the launch of the task force, the department responded to the financial crisis by redubbing our fraud fighting effort.

in addition to predicting the largest ponzi scheme in our nation's history, last year we arrested the ring leaders as what has been described the big hedge fund inside the trading case in history and we secured 20 year and 35 year to executive of national century enterprises following their convictions on conspiracy, fraud, and money laundering. we also are trying to prosecute mortgage fraud. right now we are investing 2 2,8,000,000 cases. the fudge for 210 will enhance the effort provided the department last year in the fraud enforcement and recover act of 2009. now i'm confident with the new authorities and new resources and a bold new plan of action we

can and we will make measurable meaningful progress. working together with our law enforcement and regulatory partners, we will succeed in restoring the integrity of our markets, preserving taxpayers resources and protecting the vast majority of hard working americans, investors, and businesses who play by the rules and who adhere to the law. i thank you again for the opportunity to participate in today's hearing and to outline the departments ongoing efforts. and to address financial fraud in the the wake of our economic crisis. i look forward to working with you, along with assistant attorney general brewer, would be happy to answer any of your questions. thank you. >> thank you very much, attorney general. ms. bair? >> chairman and vice chairman and commissioners, i appreciate the opportunity to testify on behalf of the federal deposit and insurance corporation. my testimony will focus on the

failure of market discipline and regulation to led to the financial crisis and suggest reforms to prevent a recurrence. the last major crisis, the history crisis of the 1980s resulted in the laws designed to improve the financial regulatory system. these laws significantly strengthen bank regulate and provided banks with strong incentives to operate at higher capital with less risk. but at the same time, they created unintended incentives for services to grow outside of the sector in the so-called shadow banking system. in the 20 years following these reforms, the shadow banking grew much more quickly than traditional banking. at the onset of the crisis, it's estimated that half of the services were conducted by institutions not to the regulation and supervision. products and practices originated by the shadow banking

system have proven particularly troublesome in those coo sis. many of the these nonbanking crew to be too large, too complex, and too interconnected to resolve. they also cannot be run down under the fdic current receiveship authorities. we are now posed to make far-reaching changes that will affect how we regulate the entire panel system. it must be holistic not just in the insured banks where we realize the heightened supervision is necessary. to be sure we can improve oversight, but it reforms only layer more regulation on traditional banks. they will just create more incentives to financial activity to move to less regulated venues. that would only exacerbate the regulatory arbitrage that fed the