out, 90% of the people in the country more positive towards us, and, again, the ball was in our court. again, we dropped the ball. . your testimony today is just underscoring doubts. that does not mean we should not move forward nowand see wt we can do to the best of our ability, as a team, to try and see if we can number one repay that debt to the afghan people and by doing so, undercut this religious fanaticism on the part of the islamic extremists that have targeted the united states. general i am going to read your report. i have not read it yet. let me just ask, when you talk about corruption, are we talking about americans or afghans who are basically responsible for

the corruption level that we are talking about? >> thank you sir. when we look at corruption, we are looking at the whole enchilada. we are looking at those sites, the american side as well is the afghan side. currently, given that most of the money, probably as much as 80% of it, that we have invested or are investing in afghanistan is not channeled through the government of afghistan. it is channeled through the implementing indices othe united states, the department of defense and the department of state. and then from tere to various-- and other entities to help to make use of this money for the purposes for which it was in fact appropriated.

so, the work of our audit as well as our investigations considers both sides, with some degree of emphasis of course on the u.s. side in what we are doing to properly prevent waste, fraud and abuse. >> mr. chairman, i think is subject actually deserves a lot more time than we are going to be able to give it today. i would suggest to you that we bring the general back sometime soon after we have studied your reports and there are some areas that i would really like to get into very deeply and we do not have the time to do it today. there is a major address before congress, before the president of mexico i believe that we are going to, and it would seem to me that for example, i would like to ask the general's

analysis of whether the military teams, the prt's, hether that is the way that we should focus on delivering aid and what we have found in the effectiveness of those teams compared to contractors at the loca level, and there are a number of questions specifically like that need to be addressed and i would hope that we could bring him back. >> i concur, and powerpoint today is i think to give us an overview of the work that the inspector general is doing, and certainly i expect they are going to be a number of specific issues we are going to want to dig into. now i want to recognize mr. ellison for five minutes. >> thank you mr. chairman and thank you general for being here and sharing your illuminating insight about these issues we are facing here in the reconstruction of afghanistan.

last month general mcchrystal questions our reliance on the private contracto in afghanistan. in fact he is quoted as to have said the following. i actually think we would be better to reduce the number of ntractors involved. he went on to say, i tink it doesn't save money, and then he further elaborated by sayg quote, we have created in ourselves a dependency on contractors that i think is greater than it ought to be. according to the gao, in early 2010, there was approximately 107,000 contractors supporting the united states and allied efforts in afghanistan. i guess my question is, do you share general mcchrystal's concerns expressed in these quotes or how do you react to them?

>> thank you very much sir. i think what general mcchrystal is saying is generally true from the standpoint of our dependence on the contracting community. but, we also have been engaged with contractors for quite some time. this is not the first time in a conflict in the interest of the strategic election of the united states that we have had such a dependence on contractors. we did it during world war ii, korea, certainly vietnam and now afghanistan. and of course in ira as well. but i do feel and agree with general mcchrystal that we have come to depend too much on contractors. they are the liability to this. we either build the resources that are now being provided by the contracting community within

the defense mechanism and structure are we continue to defend-- depend upon contractors. >> can i follow-up on that general? >> absolutely. >> we are paying these contractors quite a bit of money so that the u.s. military developed capacity to perform the same functions internally, isn't it likely that we could do it cheaper? >> i would say so that some aspects of what we are currently doing could the done cheaper if the resources were in fact a part of the uniform defense establishment. but i'm not inclined to say that that would necessarily in the long run be in the best interest of the american taxpayer. i do feel so that we could perhaps reduce our dependency on contractors by taking more full advantage of resources that we could have within the more conventional establishment of

the u.s. military environment. >> but general, if we are spending say 1 dollar to hire a contractor to do any given task, and at that task is necessary to be done, and given some of the concerns we have had about the expense of contractors and the difficulty of imposing accountability, i mean the dollar to the contractor and a dollar spent internally is the same dollar isn't it? i mean, isn't it conceivable that we could do better? where would we not do better if we were to build capacity internally because we are spending the same money anyway, either way. >> well, let me say sir that the resources that the contracting community brgs to a very complex environment such as afghanistan is good. i do not wish to characterize all contractors as taking

advantage of the american taxpayer. yes they arebusinesses and certainly there is a profit margin that they seek to find, but having done this work for the past coming up on two years, i have considerable respect for the contracting community. they are operating in a very dangerous environment and folks are not necessarily lining up to go to the edge of the battlefield if you will such as our contractors. even folks that i would wish to hire into my organization with the intent to spend quite a bit of time in dangerous places and corners in that in a stand, it is difficult for me as well. there are contracrs being killed on the battlefield out there. it is very complex. >> general we certainly want to thank all the contracts for the meritorious service but this

is not really a question of the contractors being good people are bad eople. is a question of how do we get the most out of our dollar spent as the american taxpayer and might we do these things more cost effectively internally and might we also have a better ability to demand accountability if they are done internally? those are the points and i just want to agree with you that people who have gone over and service contractors at done good work and certainly we don't want to denigrate their work, but i think some of these issu remained important and i thank you for your testimony today. >> thank you very much sir. >> i want to thank the gentleman and while we still have additional time i think we are just going to do a second round of questions, and i want to follow up where i left off with -- we really didn't get time to get your full answer i think

in terms of the look back before the special inspector general's office was stood up. again, give me a description of the process that is in place to evaluate that and a timeframe when you think w will have some better answe, because as we evaluate these additional investments going forward, the kind of information that we need >> thank you mr. chairman. i am pleased to have with me at the table today in their brim two of my personal staff. my insistence-- assistant inspector general and acting deputy inspector general for audits, mr. john brummet. he is a career, former career member of the government accountability office, gao and i also have with me the assistant

inspector general for investigations, a career member of the federal bureau of investigations, mr. reagan nuncio. i would like to respectfully ask if mr. john someone can roll in on that question of looking back particularly with emphasis on the forensic work that he and his auditors are doing at this time? >> i recognize him to do so and again, if you could give us a description of the process and the timeline, again as we look at these substantial new investments going forward, i think that is a very critical part of understanding that we have done in the past. >> yes mr. chairman. it is very hard to look back. it would have been much easier if we had been set up a long time ago. when we look back at his hard to find the documentation and it is hard to find the people responsible for the various

programs because of the length of two or in afghanistan. so looking back is a difficult thing. what we are trying to do is gather transaction data from all the reconstruction programs d use some datamining techniques to identify potential anomalies like duplicate payments or instances where the person that approved the payment is the same person that received the payment to get suspect transactions and then through audits and her their investigations try to track those down. but, it is a difficult process and getting precision in terms of the amount of wasted or funds subject to fraud will be a very very difficult task but i cannot even imagine how difficult that wouldbe. but, having all a blessed knowledge, when do you think we could have and again i no we are

not going to get precision on this but when do you think we can get some even ballpark ideas on where that stands looking back? >> i would think that over the course of the next six months, as we complete another 10 to 12 audit reports we will be in a muh bter position to make an estimate along the lines that mr. bowen was able to make after he had spent five years of doing audits. and i think the figure on our estimate will be considerable. >> that will be very important again going forward, but i now want to go to more of the prese. in your report, ou talk about the new funding that has been

requested, three force of this new budget request is going for training of the afghan national army and the police. i think everyone from our military people on the ground to the people on the hill believe that the success on the ground is critical th military and police in afghanistan be stood up but it's also critical to be able to get our troops he. so i would like you to address the police training, the military training aspect and in particular, you mentioned the afghanistan ctract and audit office, and problems they are with their having insufficient independence, authority and qualified staff to actually do their job.

if we are spending these large amounts of money on something that clearly there is a consensus that this is something that has to done and done well, we need to be able to track how that is going and again part of that is money as you mentioned, but i would also like you to address the capability milestone rating system which can really talk about theffectiveness ad when you expect that purport to be prepared because again, i think going forward for considering these new budget request, that is going to be critical. >> thank you mr. chairman. let me address the capability milestone's report. to answer part of your question sir, we hope to have completed that report and releas it publicly by this june, so next

month that report should be posted on our web site and briefed as appropriate to the leadership here in the congress. that report will identify some serious issues. the most serious is that we have been using for years now this capability milestone or cm ratings process to determine where it was or where it is that the afghanistan security forces stand reticular leg and specifically afghanistan national army as well as the afghanistan national police, and they are building to do what they are being stood up to do, for which the american taxyer has thus far potentially spent about $27 billion with another $14.2 billion to come as a part of the president's most recent request for additional funds to

train the security apparatus of afghanistan. we found flaws in the cm rating or capability milestone's rating scheme. as i mentioned in my opening statement, this flaw were these flaws have been recognized by the most senior leadership of our military forces and trainers in afghanistan and they are taking corrective action to remedy this, but i am amazed that really, over over the period that we have been spending so much money training and equipping this force, that we have just come to realize that we had an inadequate system of measuring their progress. in terms of the ceo, that is the control and audit office, very similar to our control officer in the united states in the high office of oversight, those are

the two mechanisms within the government of afghanistan designed to fight corruption. we believe of course that in order to be successful both in terms of standing up the security forces, we have to have good systems, institutions in place in afghanistan. the ceo and the h. o. o. are very significanin that regard. our audit recently released both of the cao and the hoo so those offices are currently inadequate to do that for which they have been put in place, and the embassy in kabul is working with thegovernment of afghanistan as well as with other representatives of the international community to remedy this. and i want to point out that president karzai has taken some action himself to help remedy this by decreeing that this

office specifically for high office of oversight, be provided more independence so that it can really do its work. >> thank you are going i want to yield five minutes to mr. rohrabacher. rohrabacher. >> thank you very much mr. chairman and again i think we are going to have to in the weeks ahead, we might have to have the general back or in the months ahead we might have to have the general back and i am very happy that you are they are general. if we are going to talk about contractors, i thought i would just go on the record because it seems to be a lot of focus on contractors here. a lot of people want to vilify contractors because of the natural iclination to sggest, if there's a problem we are going to blame it on somebody. we are going to blame it on the military uniform people and l-lima, contractors. i think that by and large

contractors have done a good job, but we must make sure that they are not corrupt and they are not going there and just exploiting the situation for-profit. let me just say that there are people who deserve our banks and deserve to be honored among these contractors. like water for example has been a contractor who has been vilified, and i would say the vilification of blackwater and contractors like like water is a black mark on a lot of people in this town. blackwater has lost a lot of men in iraq and afghanistan. just several months ago when a cia post was blown up, and we said that we had lost, it was reported that six cia operatives were lost in that explosion. in fact, there weren't eight

operatives laws. there were six black water contractors who were lost along with two cia operatives, and that didn't happen to get reported. they have done a good job. blackwatehas done a terrific job, yet we see that organization targeted to try to find any little thing that they have done to try to bring them down. that is outrageous and i think the american people need to know the sacrifices that almost all the blackwater people are former special forces and i might add marines, who have retired and areow using their expertise to try to accompsh our goals. so i think the vilification of the contractors is misplaced and something that we should really think about. these people, most of them deserve our place-- praise.

why do we use contractors? just to note, if a contractor can co food for our troops get is actually more cost-effective to have a cook who was not in uniform and is not a military person to be there cooking for our troops and providing food services to our troops because it cost us $1 million per person and per uniformed military personnel and that combat area. it is costing a million dollars a year. it shouldn't cost us a million dollars a year in order to provide a cook. but perhaps putting someone who is willing to go into harm's way and our soldiers and marines, that is the type of expenditure we have to have. general, i want to get back to

my defense of the contractors. i think it is necessary and i think they are being abused and people should be ashamed that they are abusing some of these heroic people like blackwater who have done great jobs for us. with that said, i would like to go back to this initial question about comparing whether the military itself is able to involve itself in an economy building operation versus having the usaid and other agencies and contractors come into do that job. i am just requting you now of-- i don't want you to do this off the top of your head. i would like you to prepare a report for this committee, comparing the effectiveness and let us know the effectiveness of the prt's which our military units in afghanistan as compared to perhaps the operation of

contractors and other elements of our government in terms of building up local economy and the success they have had. so i am going to ask you to do that for this committee. it wouldn't have to be an expense report for just a general analysis of how that is working, and they see that i time is up mr. chairman and i hope if we have time for another round i do have a couple more questions and i yield. >> thank you, and i wanted to, in my next round of questions get into again looking forward with some of the activiti. you mentioned of course the donor conference in london. we have the upcoming 29th o

this month and the kabul conference in july. can you address for the committee some of your expectations from those conferences and in particular the importance of having really a broad-based involvement of men and womenn those compasses and how that is going to improvethe effectiveness of what we are able to do on the ground? >> sir, i applaud the fact that these conferences are in fact taking place. much of the work that will be done at these forthcoming conferences are braley, is really born out of the 28 january conference hosted in london in support of the

reconstruction efforts in afghanistan. there were certain decisions made at that conference, and now the international community is coming together to assist the government of afghanistan in making sure that those recommendations agreed upon are in fact put into place. week, in terms of the involvement of women, the level of involvement of women will be at the level of which i think thamerican people would deeply ecc. we can reflect on the work we have done, which i think is an example of what i'm trying to say here regarding women in afghanistan that we conduct an audit associated with the recent elections, and while not completely disenfranchised,

nonetheless, the women did not fare well in terms of the basic rights for expectations as would otherwise be expected among the male population of afghanistan. we also are conducting an audit to determine that what has happened to about -3/4 of a billion dollars mr. chairman, that this congress has made available for women and girls in afghanistan during the course of the past several years. we are lking to find if there is evidence if that money s first of all used for the purposes for which it was made available and to what extent has it helps to advance women and girls in afghanistan? the extent to which that money perhaps in other donor contributions have been

effective will certainly be reflected in the extent to which women participate to any influential level and these forthcoming conferences. >> let me next ask about the development of the agricultural sector. during our visit a few weeks ago it was one of the things that was highlighted. 80% of the country is rural and agriculturally driven. they have great opportunities in developing pomegranate, fruit, nuts, grapes and that is going to be critical to their economic growth. we heard some good success stories about the way our civilian teams were partnering with farmers. also the farm income in the areas we vised in kandahar have tripled in the last year. so there is some good progress being made. can you talk about your

evaluation of how the agricultural sector is developing and in particular was mentioned by mr. rohrabacher about the success of some of the prts, but also the national guard agricultural development teams? >> thank you mr. chairman. the agriculture sector is a very important part of the strategy that the united states in conjunion with the international community is implementing in afghanistan and you may know sir and the committee members may know it consists basically of two principle elements, one of which is to help shore up the ministry of agriculture and afghanistan. the other component is to shore up agriculture itself among the 34 provinces so that there is

help to encourage or expand job opportunities, which our government feels is important to help to bring this reconstruction effort and this conflicts to closure. we are poised to do some work in this area and i would like to ask mr. brummet it you would comment on that sir. >> i recognize you to do so. >> we have not done any out of work on the ad sector however i do have a team that has been in jalalabad in the province and that was the agricultural development team there and we will be going and i believe next month to do work at the provincial level. i would say that looking at the ag sector is something in a comprehensive way is something that needed to be done, because we have got, you say spending a lot of money. we of the u.s. military with the agricultural development of team spending a lot of money. we have got usda, the department of agriculture with abou40

advisers throughout the country and we have the state department that is working on counter drug activities which involve things like alteative crops and that type of thing. what we have found looking at other secrs namely the energy sector is it is very difficult when you have so many u.s. agencies involved and also the international donor community to have a coordinated effort and what we found in the energy sector was the lack of coordination, lack of planning and lack of common standards and i suspect we might find some of the same problems in looking at the agricultural sector. we will be starting that work probably within six to eight weeks and we will have a report out on the ag sector i hope by the end of the year. >> thank you mr. rohrabacher. >> amazing that we are talking about this eight years into the war. it is unbelievable. let me just note mr. chairman

that quite often people will take a look at projects and suggests that there might be ways iolvement because they are unsuccessful. a lack of success in this particular situation, as in other overseas complex, is usually not drawn, not traced back just to corruption and not just to waste, but to a flawed strategy, and youannot have a strategy or a plicy that is fundamentally in conflict with the tradition or culture of the country you are in an expect that it will succeed. it may look like waster fraud from a distance. for example, when we were talking about creating a

standing up for army of afghanistan, and standing up the national police in afghanistan, now correct me if but there has been a huge desertion rate among the people we have already trained. now what does that reflect quest does that reflect waste? it does not reflect ways. what it reflects is the fact that afghanistan has the most decentralized tribal and provincial and ethnic culture of any other country in the world. and trying to create in afghanistan that is controlled or dominated by kabul and governed by kabul, the capital city, isn't going to happen. it isn't going to happen. it is totally contrary to their whole traditio there has never been an

afghanistan thatas dominated by the capital cities. the king there for 40 years basically didn't rule the country. he simply was the godfather or the father figure of the country, but the governance was going down at the tribal level, at the village level, at the family level, at the provincial level and as we tried to create this image of a modern country, which has a central army, we will notsucceed, and it may look like waste but it isn't. and let me jus note, our great state department planners who force the current constitution on afghanistan after the taliban were driven out created and developed constitution that is the most centralized power of

constitution of any country that i know of. mr. chairman, the constitution in afghanistan does not have the power to the people so to speak. down at the village level. in fact, the police are the national police force. does that sound like it is consistent with a decentralized society? a national police force? that may be good in france but it is not good in afghanistan. if you appoint the heads of the police from kabul you are asking for corruption. so we have a flawed policy that looks like corruption, but it is a flawed policy. we aren't going to have the provincial leaders i believe are appointed by kabul under the constitution.

how is that going to succeed in a country that prides itself on ethnic lines and in tribal lines and is a decentralized culture. it won't work. so general you have gotyour j cut out for you and i would hope that we can, as we discussed the waste that is going on, that we can try to delineate where that fraud and that waste is that its his actual fraud and waste, but not just a result of a flawed policy. you general are not going to be able to correct the flawed policy. you are going to be able to point out to us and to everybody else how things are working where there is corruption involved. we are going to pay a lot of attention to that, but mr. chairman we need to realize that there are some fundamental

structures that have been put into plac that will not work, and i think as a result also of the lack of attention, as you have already brought out in this hearing, a lack of attention to exactly what was going on in afghanistan, and i believe that the incompetence level of what we have been trying to do in iraq and afghanistan is a major issue, but especially in afghanistan the basic policy and foundation that we would have been working with is something that is also-- needs to be looked at and needs to be corrected if we can. general i am looking forward to your report. over the years as i visited ghanistan, i have noted the good work of the various prt groups that are not totally military but at least the military officers i think are

playing the dominant role of the prts. i am looking forward to that report from you and with that said, general my question is, what do you think about that? [laughter] >> thank you sir. we comment policy issues when requested and as we see a policy issue having an impact on our principle work providing oversight of the 51 and to be more exact $51.5 million at the u.s. taxpayer has already invested in afgnistan. the issues that you mention sue are certainly issues that need to be addressed and i'm confident in this congress and within the administration those matters will sufficiently be addressed. wherever it is that our work in

terms of providing oversight, we will certainly provide ou adviser and counsel as we see them from our vantage point. in reference to the prts, and their impact, i am pleased to say that i have thus far visited about half of the prts representing about 15 countries, rather 15 provinces in afghanistan. i have yet to find a prt mmander who is inadequate or incompetent. i have been impressed by the leadership both on the u.s. si as well as on the internionally led prt side. what we have found though is that the prts have been insufficiently staffed. not so much by the uniformed military, but the institutions, the federal institutions of our government.

the department of agriculture, the department of state, usaid have not in the past consistently provided the personnel resources and expertise that was determin on the front end of the prt arrangement. i am pleased to say though i have now been able to see some evidence that the institutions are providing a better response. we are not there yet. a part of that response is in fact the civilian search or the civilian uplift as we say. we are conducting an audit of the civilian uplift to determine if in fact the policy under which the civilian uplift in surge have been implemented measures up to the effect that

we expect that answer meant of support to reconstruction should have. >> thank you general. i appreciate that and if you could provide some specifics in writing to me on the prts that you just stated-- c. i happen to believethat is where the progress is going to come from because the prts go right down to the local level and you have direct interaction and you have a disbursement of funds by a military officer rather than contractors or nonmilitary officers or at least an officer overseeing it in a local area. so i a very interested in that and thank you for that answer. i am looking forward to as they say working with you in the words-- years ahead or months ahead at least.

>> thank you sir. >> thank you and i just wanted to close up with a couple of questions. one really following up on the corruption discussion that you had and also about staffing. the survey that was put out earlier this year by the u.n. said that 60% of afghans thought that corruption was their biggest ncern. one afghan out of every two had to pay at least one kick back to a public official. the average ride was $160 and the one quarter-- this was one quarter of the country's gdp. they paid out over $2.5 million in bribes in the last 12 months

that is equivalent to the revenue accrued by the poppy trade. about 2.8 million-- alien. so, the magnitude of this is staggering, and you know, your job is staggering in terms of trying to get a handle on that and assess that, but your job i think is to shine a light n the problems there. to arm us with information to help make the best policy and funding decions we can from where we sit and we absolutely want and need you to succeed. i guess i would like you to comment on addressing the corruption issue that seems

endemic, and also address the staffing levels. for the inspector general's office efforts to be sure that we are not duplicating what other agencies are doing, but the bottom-line question, do you have the staffing and resources you need to provide the information that congress is oking for going forward? >> thank you sir. let me say that the congress has been forthcoming in providing resources for my office. while on the front end of the sigar office we did not have really a penny. when i was appointed-- when i was sworn in on the 22nd of july in 2008, this organization had absolutely no money. but, by october, novmber of

that same year, congress did make available 2 million in one instance, another five in another, follow the by another nine so we essentially worked for one year, building this organizaon from scratch with about $60 million. but i am pleased to say that for this year as well as for the year 2011, we have about $35 million to bui this organization to 132, primarily of investigators andauditors, about one third of whom will be stationed in afghanistan, so we are poised to i think conduct the work that we have been designed to do. we are being asked to do really more than we really have the capability. we have been asked to participate in the provincial oversight issue or mechanism of

the government of afghanistan. to this extent, we have made a request for an additional $14 million to help in that regard. that would increase by almost twice the current number of auditors that we have. we don't know whether or not this measure will find its way completely through the congress voted to bring that to your attention as a measure of funding for which we ve made requests, and we would certainly put to good use with the congress to find that it should be appropriated in-- on behalf of sigar. in terms of corruption, i honestly would tell this congress that i don't believe in advance of year 2009, that we pay very much attention to an anticorruption program in afghanistan as a part of our reconstruction efforts. but i am pased to say that

over the last year and especially in the past six months, activity in that regard, i am inclined to say that some of that activity has been generated by the very audits that sigar has conducted. specifically, the audit of the control and audit office as well as the audit of the high office of oversight. so embassy is working with the government if afghanistan. the international community is working with the government of afghanistan in providing expertise as well as monetary resources to raise this country up from 179 or so in terms of where it stands on the hierarchy if you will of anticorruption or corruption to something much much better than that. i am disappointed mr. chairman and ranking member rohrabacher that after we have spent

essentially $50 billion we still have a country that is almost at the bottom of the list in terms of corruption. >> thank you and we have just a few minutes left and i want to yield to mr. allison for the last question. >> general, i just have a very brief and even simple question and an even simplistic question, but i would just like to ask you your views on, as we approach this issue of addressing corruption, what are some of the key things you think that the united states government could do to help, some of the key things to really promote a greater environment, a transparency and accountability on behalf of our afghan partners? >> thank you for your question sir.

what is it that begin i and do? i think we are already doing a lot, but i am disappointed to say that in terms of our financial investment in afghanistan and shoring up the institutions of afghanistan, where i think much of the future of fighting anticorruption begins, we must have strong institutns. we must have systems and controls in place at the highest level of any government, particularly one in which we, about which we are concerned at this point in time and that is afghanistan. we have looks past those mechanisms at the top of the government. we are worki with the controlling audit office, the high office of oversight. we are working on the $27 billion associate with the afghanistan security forces. all these mechanisms i feel come together to a thinks are answer your question, as to where are we heping to take afghanistan when it comes to fighting this corruption that exists in their

institutions and among their populace. >> thank you inspector general and we are going to have to wrap up. mr. rohrabacher you had a quick closing. >> thank you very much. that is it. thank you. we will certainly follow up. we appreciate your service. we want you to succeed in your decisions so we can make the best decisions possible. >> thank you mr. chairman.

then a senate hearing on the may 6 stock market drop. after that, author terence samuel. tomorrow, the rate of foreclosures and delinquencies for u.s. homeowners. the 2009 afghan presidential candidate of the love of the lotus guses the country and president -- abdullah abdullah discusses the country, and then a look at the u.s. welfare system and temporary help for

needy. >> on june 28, elena kagan will testify before the senate judiciary committee. you can find sonia sotomayor on line. every program since 1987. it is washington your way. >> the space shuttle of lettuce has undock from the space station. short -- atlantis has undock from the space station. we talked with them about life in space and the return. this is about 45 minutes. >> i think we are ready for questions here. >> yes, we are ready for questions.

>> this is robert perlman. how would you have it remembered in history books? what has been the highlight that you feel such a part of mission orbited the final flight devlin -- flight? >> good question, robert. i do not want to set ourselves a side as different from any other mission. one of our objectives from the beginning was to get our job done on time and also to have a lot of fun doing it. hopefully to show that to

everyone else involved. i think we did share the enthusiasm of the whole experience of flying in space, and that is the way i would like this flight to be remembered. >> can you share with you are bringing back or what you choose to bring back from this mission as your personal momento of your time on atlantis and your flight? >> first, i want to emphasize we

do not take anything out of those departments. mostly the memories. not only the views and the sun sets, but memories of the fun we had, and that is the main thing -- that and photographs and videos we will be watching for the rest of our lives. >> i have a question for t.j.. did you experience any thing you did not expect? >> what can i share most with

fewer hamas -- with you? there have been some outstanding things, like the views we have been able to experience. we have been able to do hard work successfully, but i think one thing we could share is the camaraderie that exists when you work on missions together, and in the camaraderie is some laughter that we have been able to share with a sense of humor, and all but combined is a very warm memory. >> a question for peter. this is your third flight. was there anything new for you? u.s. underperform lots of robotics tests. was it more difficult or easier compared to training?

thank you. >> it was very different for me. the other flights pretty much look the same. this places not a palace. i have a great time exploring it. it is really a magnificent. as for the robotics, it is wonderful. i was getting a suntan, waving my arms round. it was a lot of fun. we have a lot of fun doing that. >> this is still from massachusetts. from your perspectives, what would you like to share with residents and the rest of new england?

>> i saw cape cod, which is neat. i got to look down at where my home town was. the opportunity to share the world with my friends on board the space station, and no matter where you are, you have got friends you can share it with, so that is a great deal. >> thank you. i have a follow-up question for you or garrett. you talked about the hard work you're going to be due on this mission so you would have of accomplishment. could you expand on that?

>> we talked about having fun, but the main reason is everything went smoothly on the mission, and we accomplished all of our objectives, and there is nothing like a little success to make everyone have a really good time. i was hoping that with all of this hard work, and with the people on the ground, we have a lot of success. .

of the new world order plan. host: thanks for t call. the next big congressional push on financial regulation, the headline, financial bill poses a big task for lobbyists. the body of the story is this. executives and politicalction committees from wall street banks, hedge funds, insurance companies, and financial sectors have chartres congressional candidates with more than $1.7 billion in the last decade, which must -- with much of it going to be industries that oversee the operations. the financial sector has enjoyed virtually frontoor access. silla brush as one of those following the story.

thanks very much for being with us. >> great to be with you. host: can you set the stage now host: can you set the stage now that we have seen barney frank and chris dodd saying he thought this could be wrapped up within about a mth once the hearings began after memorial day? what are you looking at? guest: they said they are in the final stretch of this now. that is on the house and senate side. they bowed to send it to president obama's desk by july 4. there in the homestretch year. we are now in a conference between the house and senate. both sides say the architecture of the bills in both chambers is very similar. there are plenty of differences, but the basic architecture is there.

host: the word that is being used in a number of stories, including some of the reporting of done, is on t issue of derivatives and new regulations on that trading practice. specifically, what do democrats and those republicans who support this bill what? guest: one of the biggest differences between the two chamberses' that -- how it treats derivatives. it exacerbated the crisis in 2008. this is the key point of the legislation that obama has bowed to bring oversight to a market that is multi trillion dollars. one of the biggest differenccs as a provision on the senate side that would basically require banks to move their derivatives operations out of thr banks and sort of spin them off. the house bill does not include this provision. this has become the main point

of contention of banks. they would seriously cripple their products. they argued it would. many of the federal regulators, including ben bernanke, have said -- have warned against this provision. but come it remains. it was part of the bill that passed the senate on thursday evening. it will be one of these questions in the next month about whether they are taking it out and what it is replaced with. host: you report of the democrats are looking at an increased tax on these hedge funds that cod potentially raise $19 billion. who would be taxed? guest: this is part of a separate piece of legislation. it is called a new tax on carried interest, which is a way that hutch -- hedge funds and

other invtment managers make money. this has been an issue for several years now. the powers have never passed a higher tax on such interest. hedge funds and other managers make money. some is taxed at capital gains rate. some of it is taxed at a lower rate. democrats searching for ways to raise revenue to pay for all sorts of new pieces of legislation, namely to increase jobs in the country. this tax on hedge funds is used as a way to pay for new jobs measures. it is unclear whether it will make it through the senate and house ways and means committee. it was included in the late 50's of legislation, but this has not been enacted and has not passed a chamber yet. host: silla brush is following

the senate debate on financial regulation as it moves to conference, which will happ after memorial day. let's go back to the sto this morning. lobbying efforts have been under way on this bill. the report in pointing out that this is a fund-raising cycle for members of the house financial services committee, which they say has become a magnet for deep money from wall street and other contributors, especially as congress moves to finalize this legislation. there's nothing new in this. lobbying continues and it is perfectly legal. what influence will it have on the final outcome? guest: their advocacy groups on the opposite side on most of these issues. they have had a great deal of influence throughout the year and a half this debate has been going on. in many. , the financial lobbyists have

either lost some battles or seen the goal post shift against their favor. in other areas, they have won. it takes the provision we discussed earlier about requiring banks to possibly span of their derivatives unit as a provision that was n in any legislation until april. they have been working this issue extremely hard since january of 2009. this is something that was late in the game. it is always hard to say. it is a one-to-one correlation between lobbying and the outcome. they have workejust as hard as lobbyists for banks. they have had many success

.

.

[captions copyright national cable satellite corp. 2008]

[captions performed by the national captioning institute] >> section 7 does not allow them to use modified clearing to assist in a general way. your view would be that that

power, that a 13.3 power should be preserved. >> i believe it is section 7.16. but 7.16, i would retain the part that limits the daily access of the discount window but allow, in an emergency circumstance for the federal reserve to lend to participant in generalized liquidity programs. they would have to put out a rule, but then the participants would be able to have that emergency act. >> ok. then final question, it's been swirling about and you should be asked, too. there are essential proposals that would make these illegal. is that a good policy to resume? >> i think derivatives, whether

they be on exchanges or over-the-counter are important risk management tools for municipalities and ultimately their customers and employees. i'm not familiar with the pending amendment but a lot has gone on in the last 24 hours to, quote, ban risk management tools of corporations. if they are customized, if they are tailors, we still think there should be regulation of the dealers. i'm pleased to see in the senate there is a comprehensive regime. it is standard enough to be on a clearing house and clearable, and if it is then listable there is the clearing requirement and in certain circumstances a listing requirement. that, i think, is a strong package that you and others have put together. >> this is senator cantwell's

amendment. >> there are many. this is a question that should be addressed. >> i think the key policy question is whether that would provide or create legal uncertainty for swaps that are accidentally not cleared or whether it creates the opportunity to gain the system. we actually have under the federal security exchanges laws section a similar but not identical provision although it hasn't been applied in terms of not being cleared. it might move the modities exchange act regime more in the federal securities law but it may have the opportunity to create legal uncertainty. >> final point? >> if there was a question about -- there's one issue i didn't

understand your earlier question to cover this, but it did, if the over-the-counter derivatives is deemed to be clearable and the regulators have determined it must be cleared, which is what's in the substitute, in that circumstance there is a mandate that it must be cleared if someone knowingly doesn't follow that, what happens. i believe the substitute right now gives the f.c.c. and cftc a lot of authority, but to be qualified to say that transaction is unlaffle seems consistent with the intent that it is a mandate. once you have this public policy period and it is a mandate, that it is a real mandate. >> i think part of this, and i will get into the details here, is that some reading of those proposals would suggest that it goes beyond that, saying that in fact if you have even as an

exempt end-user and it it is derivatives, if you enter that contract, it is illegal. i think we have provided at least some insight into the proposals. i thank you for that. i will invite my colleagues' further questions. >> that is specifically an s.r. o. although direct edge is not operating too much. that is something we'll be happy to look at. >> thank you very much. not only for your testimony today but for your vigorous and thoughtful and demanding are service: >> thank tu. r thank you senator bunting.

>> let me introduce our first witness, mr. richard ketchum. our next witness is mr. larry l iebowitz. he served at u.b.s. investment bank and served for swab.

our next witness is mr. -- >> our final witness is mr. terry duffy. he served at cme holdings and it was president of trading from 1981 to 1982. mr. ketchum, please. >> thank you for permitting me the opportunity to testify. in coordinating the review of all relevant market data and

efforts to identify measures that could be taken quickly to significantly reduce the chance of a recurrence of the significant market disruption that occurred on may 6. on may 6, finera and other market s.r.o.'s began the process of trying to identify recent activity. even before the market had been corrected, finra interest viewed the approximately 20 firms with significant activity during the period of decline to determine whether fat finger or other trading errors occurred. none of the firms identified any trading divots. -- nor was there any indication that this cause aid mearkt decline. our inquiries covered a rain nl of issues depending on the type

of firm including customer liquidity and how firms intended to establish record issues which were ordered and canceled. none appeared seriously systemic in nature t >> we reviewed the vast amount of trading data and have identified a sub set of these stocks based on analysis of trade activity in the trade immediately prior to and during the market drop. focusing on the selling activity, we have made inquiries of those firms that were most active. our lines of inquiry including a short sell including the specific strategies and triggers employed by each trading firm. while there is still much to be done before we can say we have pin pointed the cause of the

decline, i think we can say basic truths have emerged and we should not wait to adapt to them. we know we need more transparency. in short, while our equity market structure performs well under normal conditions, changes is needed to address these flash market situations. that is why the filings the s.e.c. spearheaded are very important. i won't cover them since they were covered in detail by the last panel. as we look past these shorter-term steps, longer-term steps must be addressed to reassure participants there are markets are stable and fair. and this is tru irrespective whether they played a role in

the decline on may 6. there should be an eye toward skinsy and transparency of these rules across markets. in addition we should ask various order types and their impact on the events of may 6. the sometimes dizzying speed which pults a premium on competition has made it

imperative that regulators act now. this is particularly important in the increasingly fragmented area of equity trading where you have seen an evolution of how and where trading occurs and how quickly it is executed. today orders are routed to some 50 competing platforms. this complex environment creates an opportunity for people to manipulate markets by exploiting consistencies or gaps created when oversight is divided. regulatory authorities are enhanced by an audit trail. in deed, the time it takes to recreate what occurred on may 6 is absolutely reflected by the fact that our audit trail today does not identify each of the entities that can significantly impact pricing but instead focuses on the executing broker deal and those who clear the

trade. the most effective way is to consolidate audit trail in a single place so that trading practices can be more readily identified. while a consolidated audit trail -- it would make the process consistently more effective. more importantly, it would ensure market enintegrity and investors. we look forward to working with the fcc and this committee that was at the heart of regulating ability to best oversee today's market. i look forward to answering your questions. >> thank you very much. >> chairman reed, ranking member bunting, and members of the subcommittee, thank you for your opportunity to be here today. we thank you for your pro--active events of may 6. if ever we needed one, the

events of that day are a clareon call. may 6 also confirms the wisdom of the f.c.c.'s on-dst going efforts to bring the markets together to develop the circuit-breaking pilot. today i would like to discuss three things. first the high-level audit. third our recommendations going forward. it is unable that everyone is looking for a smoking gun behind the may 6. however the circumstances are more complicated than that. from our standpoint we see no evidence ofat-finger eor due to automated trading or otherwise. however we do see the following. he will vailted market activity including a huge and broadly based order of quotes around 2:00 p.m.

various microstructure issues which exacerbated the liquidity effect. one of the things we do know is that news and fear get transmitted tot market faster than ever before thanks to media advances. we need to ensure the integrity the market. i would like to turn to the nyse market level. what i see is embraced electronic trading. we believe our market model provides mechanisms to avoid large price swings. we have always believed is critical to investors. many at the nyse we have emphasized price over speed. the nyse emphasizes the circuit-breaker system which temporaryly pauses trading and stocks when significant price movement occurs. on a typical day our fees are

triggered 100 to 200 times. in fact, these are key to the brief cause to allow liquidity to occur. the llp's in effect are visible to market participants and new orders are continually accepted. electronic markets may choose to ignore our quotes. although many participants continue sending orders to nyse. our controls are analogous to -- may 6, during the 2:40 to 3:00 period, nyse was higher than usual during that time of day and the participation rate of our designated market makers which were formerly called the specialist were equally strong. this is evidence our liquidity providers did not walk away from the market as we ack activityly -- actively participated.

stocks listed on other markets have price declines and erroneous discussions far greater than nyse stocks. lastly, the overall market had approximately 15,000 discussions after thursday's decline. on nyse, even though we handled the largest fm in the marketplace, we canceled zero trades. those listed were not on the new york stock exchange. the mechanism is only truly effective if observed by other trading venues. that's why we applaud the leadership in helping ensure a circuit breaker. on may 6 nasdaq declared help at 2:40. we are unable to determine why

as our systems and communication links were developing properly. that was also help at 2:47. a quick call between with the venues is all that mattered. we welcome the review of the events and hope they will more generally review the use of self-help against each other. lastly, we need to examine the ripple effect, and we must make sure these are included in circuit breal breaker consideration. first we're pleased with the adoption of market-wide stock-level circuit breakers. llp's will continue to function as they provide a significant advantage to stocks provided on the exchange. we will review the need for llp's once they are implemented. second, the circuit breakers established long ago are based on market movers. they have not been a move than in a single greater day. third, we are working with the

regular lateors and other exchanges to establish clear rules for trades. in fact, i would submit that the near need to cancel trade is the sign of a market that does not function properly. since 2008 hundreds of thousands of trades have been canceled from electronic exchanges with stock such as sisco systems trading down to a penny in the fourth quarter of 2008. it is time we put a stop to thfment fourth, we should ensure they get the best prices for clients and see if stop-loss orders serve the investing fub or if there are things we can jointly do from being harmed by volatile markets. fifth, there should be a consolidated audit trade. ultimately these and other

important actions may be best -- in closing, we applaud the fcc and cftc for working together to develop a coordinated response. nyse is committed to working with these agencies and we encourage all parties in playing an active role in helping create confidence. thank you for the opportunity to appear, and i would be happy to answer any questions. >> good morning, chairman reed, ranking member bunting, senator warner. i would like to convey my appreciation for the actions of the chairman and their staff during this time. their actions have been exemplary during this time. we support the s.e.c.'s and

cftc's actions. one existing circuit breakers. two, establishing stock-wide circuit breakers with a velocity of prices. three, handling trade breaks to rationalize moral hazard, and four changing the use of specific order types that impacted the trading on may 6. the focus on these is consistency. while each reports it fufpksed correctly, the changes will handle unusual trading events in the future and help handing market events. our markets are strong, despite the 17 minutes of trading that have garnered public attention. keep in mind, the global markets were nirveous operating during an unusually long upward price string.

this was undoubtedly tied to greece debt. ratings lowered the sorreign debt of greece, turkey, and portugal. the euro-was down 15% in the last month, 17% in the last month alone. against this backdrop we arrived at the afternoon of may 6. the dow jones industrials was down 272 points for the day, down 500 the previous three days. second there was an institutional order to tie futures to the s&p 500 on the s. me. when futures sank rapiedly at 2:42, this was fold by rapied declines in c-span -- at s & p-ranked equity. a five-second pause in trading,

a halt in the futures market. when trading resumed, futures leveled off. shortly after, equity prices also rose. there is no evidence of inappropriate activity by the c.m.e. or any of its members. >> the other exchanges were forced to route around. again, there is no evidence of inappropriate activity, but its liquidity became less available to the market at a critical time. four, simultaneously the hybrid market began reporting multiple liquidity and gap quotes that impacted trading. under regulation, they are permitted to issue llp's, but this is a issue that they were

experiencing order imbalances. this allowed them to stop routing orders, and that's what happened. nasdaq and others routed around. even the own electric -- nasdaq's ongoing analysis suggests may 6 was triggered by a confluence of events. we have not located a single smoking gun that callses or fully explains these events. i would note also high-freak wednesdayy traders have played no distinguishing role with this event. they -- the s.e.c. is engaged in an important review. we recommend that conga loud that review to run its course before considering additional policy racks. from a systems standpoint, the nasdaq markets operate throughout the day and throughout the critical 17

minutes. each and every one of our systems designed and functioned as intended. while each exchange is reported that its systems functioned at design, no market center or regulator can be identified with the collective performance of our markets on may 6. nasdaq also supports the commission's decision to review practices that cause individual markets to pause or go slow to determine if any other practice starts the market of liquidity when it is needed with the operation of certain types. thank you, again, for the opportunity to share our views. i'm happy to respond to any questions you may have. >> c.m.e. group has engaged in analysis of trading activities in our markets on thursday, may 6, 2010.

our review indicates that our markets functioned properly. we have identified no trading activity that appeared to be erroneous or appeared to be a break in the cash activity in this period. indeed, our markets led the activity. moreover, none indicated that markets were traded in error. nor did they bust or reprice as a result of the activity on may 6. future contracts -- that is why c.m.e. groups is a leading indicator, not a cause of a decline in the underlying primary market. to illustrate this point, i'd like to draw your attention to these two charts. chart one sthose shows that the s & p, which is the blue line, moved in tandem with the s&p 500 which is the red line. you can see at 1346 the market had time to attract liquid and

rebalance. they ultimately rallied 14 seep -- s & p points. you see chart two. it shows movement until -- in 3- m stock. it hit the low at 134r5.50. at that time you see the 3-m stock continue to decline. market integrity is of the utmost importance. we have developed systems that maintain integrity in all our markets. stop price lodge ect function at. sfop price serves to mit indicate market spikes that can occur because of the continuous triggering, election, and trading of stop orders due to insufficient liquidity. on may 6, the stop price lodge i

can triggered the equity index allowing the market to locate electric widity -- liquidity and stablize. in fact, we see market wick widity on both sides of the market on this day. staff find ggeds result from the ongoing reviews of the epts of may 6. we commend the swift response and look forward to working with them to identify constructive solutions. we are pleased and con cure with those recommendations seeking harmonization. circuit breakers for individual stocks such as those implemented by the nyse muvet harmonized across markets.

stop-gaps should be established to prevent downward cascading movement as the event shows it should. i thank the committee for this opportunity, and i look forward to answering your questions. >> thank you very much, gentleman. listening today to the testimony, i think we all would be more relieved if it was the fault of fat finger who sounds spanishly like a character from a mike myers james bond spoof. but that's not the case. nonetheless, we're left with the testimony that we're not sure what was the deciding participating course. and i'll give you a chance to comment on that. it strikes me, too, that one thing is clear. we have highly interrelated markets. we have different rules in those markets.

some of these rules, i presume, are crafted with abareness of other rules that perhaps not consciously and deliberately syncopate or whatever the word is and that they begin to harmonize rules. and ask questions whether that harmonization could make them responsive to the other rulls. tw that long sort of introduction r. the basic question is, your comment about the status of what do we know and what don't we know about may 6 and also about the need for a much more coordinated structure of rule. mr. ketchum first, and we'll go down the line. >> thank you, chairman reed. and i think your points are well made. i would agree with a great deal of what the chairman said earlier. we do know a great deal of what happened on that day at this

point. while we're cautious without fully understanding all the underlying activity of customers behind it before characterizing everything, a few things seem pretty clear. you categorized it fairly well. this was not the result of one single program. it was the result of large numbers of programs that operate very similar together. it was the result of real selling activity with respect to real things happening in the marketplace, but the response of the concentrated telling activity and the speed in which liquidity can disappear from the market is close to absolute. that is combined with an environment now as we discussed in earlier panels where there aren't consistent market makers across markets at this point and where without that where there is an inability for participants to be able to pause and re-insert buying activity. that all is simply unacceptable. first step, the pauses are

inappropriate. that will allow for the ability for algorhythms and people to reinsert buying activity. it is not that it will miraculously appear, but computers are designed when they don't understand something to withdraw. you need enough time to determine that the world actually hasn't ended and that there are reaps to continue to buy stocks. that needs to be combined with consistency across each market and stocks and futures. you're right that's not always identical with respect to areas like pauses in circuit breakers. they should be absolutely consistent. >> while i think it is comforting, it would be comforting to know what the triggering cause of this was, i think it is largely irrelevant. it is like airport security. we all take our shoes off

because someone put a bomb in his shoe. we all wonder what would happen if someone put a bomb in his pants, and then someone did. how fast the markets react to news now. it didn't just disappear from the buy side. we have to look at the factors that make up our market structure which actually function very well on a normal day but during times of stress actually sometimes doesn't. i think what we have is a loosely coupled, fragmented market that is deep at the top of the book. when the market moves through the top of the book very quickly, then it is not nearly as efficient as it was in the past. >> thank you. >> like mr. leibowitz and mr. ketchum, i don't think we'll identify the exact cause of may six.

however, if we can solve property outcomes, we can see what the cause was and move forward with a robust market. we think those things need to be consistent. i think it is probably fair to say that we should have been able to identify that before this occurred. the market had never seen this kind of liquidity. we now recognize that as a flaw, and we're moving quickly working with one another to fill that hole. nasdaq is proud of this model. there will be room to be competitive to provide better service to investors. in areas like this, i think it

is incumbent on us to cooperate with one another, and we are doing so. >> thank you. mr. duffy please. >> the harmonization rules. when you are talking 50, 60 pools of productivity, some with protecols, it is going to be confusing for a marketplace. in order to be entered into a marketplace, and they don't fund the liquidity because of the protocols being in place, they are seeking liquidity, they are going to so many other pools trying to find liquidity, then you can find out why the prices did what they did. i don't think it is a big secret. i think the 1020 circuit breakers need to be revisited. they may be a bit light. so that needs to be done. i think the stop logic function nalt that the c.m.e. has in place, this is patented technology. it clearly works. the charts don't lie, the numbers don't lie. we had an opportunity to

replenish our liquidity. that is the equivalent of a half of one% of the value of the s & p contract. we have offered this publicly to give it to the marketplace. we think it makes sense. we think there are a lot of good things we could be part of the solution to. it is important to try to determine what the course might be because it will make the response much more atuned and much more fine. i think the point miss leibowitz makes, we know the problems there. this is we can't say this is a one-off experience and it will never happen again. as i suggest in my questions to the two chairman, this was an accidental confluence of bad news from europe, some trading irregular larets, et cetera, but

we all have to plan for a very deliberate attempt to undermine the markets either through some physical or technological attacks. so in this context, do you think that you are prepared for it, one, and two, if you are not prepared for it, are you planning at least implicitly that in a serious enough situation there will be support from the government to get it through a difficult moment? mr. duffy? >> there is no question we have prepared for it. be prepared for it preseptember pleven of twun. -- 201. -- 2001. we don't run all of our facilities out of the c.m.e. any longer. we had the same set-up in new york because of our new york operation. we are without question prepared with whatever needs to go forward. as far as the legislation, we do believe that there is certain

situations where everybody should have access to the discount window. i disagree with chairman genslerr and chairman schapiro. i think now we will be forced into taking some of these o.t.c. products we may not have an opportunity to get to our banking in time. i think it is important even though we have never gone to the discount window to borrow, that we still have that ability, and not just under emergency procedures. >> let me put this on the table. there was a presumption a decade ago that security zation -- securitization of mortgages were not dangerous, because after all, who defaults on their mortgage. but the mortgage of 1999 was not the mortgage of 2005. nothing down, no income

statement, no fica, and yet we were still treating those and securitizing those. essentially, we are going to ask clearing platforms to take what they are -- that they are clearing today, in fact, if they weren't so risky, you would do it yourself. i think that goes to the point that in rare circumstances, there might be need for support. >> in is no question, sir. it also calls for the clearinghouse to have an over-the-counter trands action. the only thing they did was transfer the risk from you to me and said they were going to blow me up. we need the risk management tools in place, which we do, and one of them, we think, is to have ack -- access to the fed window. >> from the physical security point of view, we, too, are well

prepared for any break in our technology or any a-- attack or any break in the way our facility operates. we have multiple facilities that back our site up. they are hot sites. they are connected to others in the marketplace. they are multistate, as well. they are spread out quite a bit. from a physical security point of view, we feel confident that we are prepared for any sort of event like that. in terms of clearing an actionis for the fed window, well, they do not operate a u.s.-based clearing house, we are a significant investor in a clearing house called international derivatives clearing group which is designed to clear interest rate swaps. so like most of the other participants at this table, we would think at the end of the day, we think clearing is a better solution than not clearing these products. but in the eventuality of ultimate recess k, we -- risk,

we may need access to the federal government in the event of a major crisis. >> mr. leibowitz. >> to echo what the two previous speakers have said. i think we have back-up, and we are compmed in rigor by our regulator to make sure we are living up to business continuity planning of all sorts. we also have people who have security clearance for such things as homeland security and other agencies and we work very tithe tightly with those agencies in terms of things that could come over the internet, you know, denial of service attacks, other hacking events. i agree, also, that the clearing house is going to be an issue in terms of risk exposure. the world has gotten a lot more complex. you start to analogize, in terms of the financial meltdown, and i think you are dead on. if all is said, nothing could really be that bad.

each individual player thought they were proteched and they hadn't really taken account of the fact, what if it call goes bad at once and what if we all have to go through the same exit door at once. i think we need to approach how we structure the market, how we structure our back-up, how we structure clearing facilities with all these things in mind. >> final word. >> again, while senators and regulators are in a different business than these three gentlemen delivering real-time market recommendations, we, as well, feel very good about our ability from a physical security standpoint, disaster stand-up point, and we focus intentionally on potential intrusions, denial of -- and we feel good about our protections from that side. i won't repeat what mr. leibowitz said, but i think he said it extremely well.

every conception should be challenged and challenged regularly with markets changing as quickly as they are. that certainly demands some flexibility from the standpoint of the clearing changes that can occur and some capeabilities to ensure that there remain liquidity and their remains challenged. we feel good from the standpoint to be attacks of any sort and this is an appropriate area for congress to continue to focus on. >> thank you very much. chairman bupting, take as much time as you want. i apologize for the lengthy time of my questioning. >> thank you. mr. knowle, i'm going to pose this question to you since you talked about it more in your written statement, but i would like the others to respond as well. as i said in my statement, i waml concerned about the way some trades were canceled. given everyone said the system worked the way it was set up to

do, how do you justify canceling trades and protecting sellers from their bad decisions? >> i chair much of your concerns, senator bunning. it was a difficult decision to make that day. it was done with an ongoing discussion that lasted many hours trying to decide what the appropriate zig was there. so we were trying to balance the needs and requirements of what we would call moral hazard issues, which is making people aware and bear the consequences of their activities in the participate for good or for ill with what was clearly a dysfunctional marketplace that wasn't functioning as it should function. so in the absence of any clearly erroneous trade, we look at the decay of what we would call price discovery and the provision of liquidity, and we try to draw that line admittedly more arbitrarily than any of us are comfortable with, draw that line in an appropriate area where we did nch reward anyone

for bad behavior, but we did solve the problem for what we considered to be a derth of liquidity. that being said, i think we are confident that the stock-by-stock circuit breakers will prevent a reoccurrence of this situation. >> looking back, i think we all have 20/20. >> i think that's true. we believe we would like to put the stock-by-stock circuit breakers going forward. more importantly, we endorse chairman schapiro's desire that we have strans parent, run exammed agreed-upon markets trade-break erroneous rules that -- so that everyone knows visibly and clearly what those events are and how they will be triggered. >> i had the fortune of sitting on a nasdaq quality committee at the time the trade went in, and i think you were actually the

c.e.o. -- or c.o.o. at the time. it troubled me then and it troubles me now. markets would have to resort to breaking trade as a response to unusual conditions is not the way we should do markets. the big challenge is, we had institutional investors that made a mistake. you are right, they should pay the price. the problem is, we have retail investors that essentially went into a black hole. they had stock orders in high- cap stock -- >> i'm sorry, sir. sophisticated, even if they are not sophisticated, anyone who puts a market order in knows exactly what's going to happen with a market order. >> i would agree with you the broker probably does. i would submit to you that a lot of the public does not. >> a lot of the public doesn't know that if you put the market order in, it is executed? >> they think maybe it will go

-- >> rather than a limit order. >> they don't realize when i trade center it is going to be down 199%. >> i agree with that. if you put a market order in, that's your discussion. >> you are right in that regard, and i think we have to make sure it can't happen in the market. we also need to talk about whether market orders should be allowed at all and how we educate people so these things don't happen. but i agree there should not be the moral hazard of breaking trades. it is not the right way to make a market function properly. >> i do believe you need clarity on the rules. and we have our bust rules put on our web site so that anyone who will participate, they knew the rules prior to making a trade on our exchange. as far as busting trades, you know, every order in our place has to have a limit on it, sir. you can't just send in a market order. so what mr. leibowitz is refer

to, you have to have a limit. >> i understand limits. >> we don't accept market orders, and that's the reason why our system works. and that's a very important point. >> in other words, you didn't have any big losses? >> there were losses because the market had a lot of up and down in it, but it is important to note that the market was not these heat-seeking missiles that could go to zero or to -- >> one. >> that's correct f the other reason, if someone buys a trade and gets busted out of that trade, he might have elected to liquidate that trade prior to the bust rule, he goes home, goes to market, and now he's short to market. there are serious unintended consequences. >> absolutely. that's what i'm getting at. >> what should be done so it will be predictable and so that trades will be broken in the future, other than what i just

suggested? >> senator bunning, i think what we're planning to do, mr. ketchum just planned a meeting for all of these changes in the s.e.c. next week. i think it is on tuesday, to come up with a set of standards about clearly erroneous and how we are going to move forward, in addition to the circuit breakers that are putting in place. and how do we move so we have a clearly defined standard of what trades are going to stand and when they won't. >> if i'm in new york at any broker, i'm not going to give anybody a plug here, how do i compete with the electronic traders that have nano-second access?

>> i'll make a comment on that. in capital formation markets, sir, most participants coming in from the public are not trying to compete on the bid offer in a nan off second offer. they are buying stocks for probably a period of time. >> they are on hold. >> they are more of a holder participant. many we think of them as liquidity providers. they have tightened up the markets, but they are not into that. so they are competing against each other. >> they are someone and it is just inform a short period. >> yes. >> mr. leibowitz, since most exchange-traded funds are listed on one of your exchanges, i'm going to start this question with you and anyone else who wants to add something can. why do you think we saw a more severe move in exchange-traded funds than in the underlying stocks? should investors be worried

these stocks are not as relyable as everyone thinks they were? >> i think the important thing for everyone to say is that the fact that e.t.f. got hit was an effect, not a cause. they were essentially the victim of the market as it went down. normally, there is a pre-typed market arbitrage. during this period, that mechanism broke down because traders who were bidding on the stocket couldn't tell whether the actual stocks were -- >> where they were traded. >> so for example, if accenture was in that stock, it would lead you to bid in a very crazy place. the other thing unique about e.t.f. is they don't seem to have deep liquidity on the books. a lot of discussion occurs in wholesalers. what happens is wholesalers are committing capital to keep that market tight. there is an article today that

suggests two major wholesalors probably had system errors during this meltdown. they had systems that allowed it to tighten up. if you couple that with stop-losses that triggered in the market and no pause in the market, the difference with nyse or our market is this -- both have markets with obligation. the nasdaq and a.r.c.a.s. are things called l.l.m.'s. trading didn't pause long enough for them to commit capital. they were looking into a black hole, so the function didn't work properly. we are looking at this with the issuers and the market so we can say how did the market work better. i think it is imperative that e.t.s. be included in the circuit-breaker market. >> let me add on to that point. i first underline, it is imperative that e.t.s. be

included in the pilot as quickly as possible for two reasons. first, e.t.s., like futures, are aggregated vehicles that are the most convenient, efficient, and effective way to react when you see market risk, as you know, being involved in the industry. therefore, they will almost always be hit very quickly with respect to any market reaction for the standpoint of selling activity or buying activity. secondly, unlike futures, i, as larry indicated, they are not that liquid, aat least considering the wide-range of products developed over that time. so this is an area where we absolutely have to move quickly to move beyond the s & p. >> i also have to note, as someone born and raised in new york, i want to thank you and senator warner for mentioning my

hometown. >> in your statement, you said changes in the marketplace have eliminated meaningful market-makers' obligations. what changes should be made to market-makers' rules to reflect the current marketplace and the rules of new types of liquidity providers? >> senator, i think that's a very good question without a simple answer. i start believing in competition and much of the reason for changes in market-maker obligations have been by the f.t.c.'s efforts. it is a reality that in a number of places there aren't a number to quote reasonably related to the market. two things need to happen quickly. the first is whether it is an obligation to call reasonably

related to the market. perhaps they should not be benefited from a market standpoint. you have to avoid these ridiculous trades down to the penny, 5 cents, et cetera. secondly there needs to be an evaluation, and chairman schapiro committed to it after ward, to look hard whether the rules require regular participation in the market if you were to get benefits from the standpoint of market-making status. you raised that question earlier because i know you have been involved in the industry and personally i believe that ought to be reviewed and reconsidered. >> anybody else? >> yeah, i think this is a serious question, which is where is all the liquidity in the market and who has an obligation to the market? for one thing, liquidity may have been sitting off on the side and when the market went down it was not included at all. it did not provide a backstop to the market. overtime, a lot of the markets have evolved to speed over

obligation. so what happens is, for example, we have d.m.m.'s on nyse. l.m.'s exist for e.t.f. that's a sign of a problem, not a problem itself. what really happens, dating myself again, is nasdaq markets had a requirement close to the market. they also had a -- as the market evolved to a faster, more electronic marketplace, those market makers weren't able to keep up. as a result the requirements kept getting thinned out to the point where really the only requirement is they have a right in the market. what that does is gives them other rights in the marketplace, like infernlizing orders. the question is, what do you owe to the market in exchange for that privilege you that have. that's something we all have to look at in terms of the market makers, and collectively.

>> thank you. >> thank you, senator bunning, your experience is obvious in terms of the questions that you pose not only today but consistently. i think the question is, that you, the regulators have a lot of work to do. this is an evolving issue. we, fortunately, missed the worst outcome in this situation. i can't feel after today that we won't have other challenges ahead. i think we all understand we have to do more to understand this problem and series of problems and take the effective action. i think this has been a very helpful beginning to the series of questions that we shall hold about the status of the markets in terms of trading, market-makers' spobs, and the interconnection of all of these aspects. if my colleagues have any written statements or additional questions i would ask for them to submit them no later than

next thursday, may 27. i would also squ the witnesses to submit responses to any of these questions within two weeks, and obviously all of the written testimony that you submitted will be made part of the record, and any other items that you would like to submit to the record would be made part of the record. 3 without 0 additional information, the hearing is adjourned. >> thank you. >> thank you.