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Hearing of the House Financial Services Committee - Legislative Proposals to Improve the Efficiency and Oversight of Municipal Finance

Hearing of the House Financial Services Committee - Legislative Proposals to Improve the Efficiency and Oversight of Municipal Finance

Chaired By: Rep. Barney Frank

Witnesses Panel I: Martha Mahan Haines, Chief, Office of Municipal Securities, U.S. Securities And Exchange Commission; Bill Apgar, Senior Advisor to the Secretary, Department of Housing and Urban Development; David W. Wilcox, Deputy Director, Division of Research & Statistics, Board of Governors of The Federal Reserve System; Thomas C. Leppert, Mayor of Dallas, Texas, on Behalf of the U.S. Conference of Mayors; Ben Watkins, Director of State of Florida Division of Bond Finance, State Board of Administration, Florida; Panel II: Michael J. Marz, Vice Chairman, First Southwest Company, on Behalf of the Regional Bond Dealers Association; Laura Levenstein, Senior Managing Director, Moody's Investors Service; Keith Curry, PFM Group, Managing Director; Alan B. ISPASS, PE, BCEE, Vice President and Global Director of Utility Management Solutions, CH2M Hill; Sean W. Mccarthy, President and Chief Operating Officer, Financial Security Assurance, Inc.; Bernard Beal, Chief Executive Officer, M.R. Beal & Company, on Behalf of the Securities Industry and Financial Markets Association; Mary Jo Ochson, CFA, Senior Vice President, Chief Investment Officer for the Tax-Exempt Money Market and Municipal Bond Investment Groups, and Senior Portfolio Manager, the Federated Funds; Mike Allen, Chief Financial Officer, Winona Health, on Behalf of Healthcare Financial Management Association; Sean Egan, Managing Director, Egan-Jones Ratings Company

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REP. FRANK: (Sounds gavel.) The hearing will convene. I want to move quickly because at 2:00 this afternoon, the secretary of HUD will be here to talk about the Voucher Program and we are glad to have him and there has to be a full committee by the practices of the House not to have cabinet officers testify before a subcommittee. So we will begin.

This is a very important hearing on a subject that is not full understood. Annually, in the broad category known as municipal bonds, which are government, state, local, and county, and non-profit organizations, hospitals, they issue approximately $375 billion a year of bonds. We believe the evidence is overwhelming that they now pay, because of a set of arrangements, a higher interest rate than is justified by risk.

That's particularly true of full faith and credit general obligation bonds, in which there have been no defaults, according to Moody's, in nearly 40 years. Ajit Jain, who is the insurance expert for Warren Buffett -- and Mr. Buffett has said he didn't know that he could keep insurance business going without Mr. Jain, he didn't know what he'd do. He testified at that panel, at that table, that if municipal bonds were rated by the same criteria as corporate bonds, no one would sell bond insurance because it would become clear that it wasn't needed.

In fact, to the extent that municipal bonds have paid a higher interest rate in the past few years, it was because of mistakes by their insurers. The monolines, as they were called, used to just insure municipal bonds, and then the monolines decided to take this surefire profit from insuring municipal bonds and insuring full faith and credit general obligation municipal bonds -- I'm going to borrow an analogy I've used elsewhere, it's kind of like selling life insurance on vampires; you are insuring against an event that never happens. And when you are insuring against events that do not happen and are collecting premiums, you make a lot of money.

The monolines then took that money from these insurance payments, from these municipalities, and speculated in collateralized debt obligation derivatives, and lost money. As a consequence, a number of municipalities found the interest rates they had to pay go up because their insurers had gotten into financial trouble. If we could reduce by 100 basis points on the average the insurance -- the interest rates that are paid that would mean $3.75 billion a year that would be saved by the issuers.

People have said, why are you doing this, what's the problem? The problem is that taxpayers financing schools and roads and police stations and fire stations and other physical needs of our communities pay more in interest than would be justified by a better system. And people have said, well, why are you interfering with the market? Because, as we have learned in a number of other contexts, markets play a very important role but market failure is also a factor.

And if you look at the rate of defaults in corporate bonds, and we have a slide that will show that, compared to the rate of default in municipal bonds, you see a great disparity, but that is not reflected in the rates. Part of it is the rating agencies and we will be hearing from the rating agencies and from Moody's. But if we were able to get an accurate picture reflected in the interest rates of the safety of municipal bonds, then you will have an enormous saving to the taxpayers and it's hard sometimes to find the money to help municipalities.

Here is a way that they are helped; they are helped because interest payments to private recipients would reduce -- and let me say I'm speaking here against interest. Recognizing that municipal bonds pay an unfairly high interest rate because the risk is exaggerated, I will now make my public statement.

I am, almost entirely, personally invested in municipal bonds and I have told the people who buy bonds from me to buy full faith and credit general obligation Massachusetts bonds and the lower they are rated, the happier I am as a private citizen, although I am not happy as a public official, because I get more and more interest. And I escape paying about a 40 percent total tax between my federal income tax and my state tax on bonds that will not fail.

So what we have is a package of measures that, we believe, deal with that. It is also the case that there have been some problems with some financial -- particularly the non-full faith and credit -- WPPSS is an example in Washington State, where there have been some problems.

And part of the problem has been the peculiarly political nature here of the relationship of advisors et cetera. So one of our bills would greatly strengthen the rules, in fact it would create rules which do not now largely exist for advisors to municipalities.

So we both have a investor protection system here but we also have what we think are a set of rules that will result in a market, which now fully understanding what the value of municipal bonds is and the low risks -- will result in a very substantial saving in taxpayer money on the part of state and local taxpayers.

The gentleman from Alabama.

REP. SPENCER BACHUS (R-AL): Thank you, Mr. Chairman. And thank you for convening this hearing to examine five legislative proposals designed to address problems in the $2.5 trillion municipal securities market. All of us are aware of the financial hardships that municipalities across the country are facing from declining tax revenues, depressed property values, and under-funded long-term pensions and health care obligations.

And my home state, Jefferson County, Alabama, is on the verge of becoming the largest municipal bankruptcy in the United -- in the U.S. history caused by the county's inability to repay $3.9 billion in sewer bond debt tied to interest rate swaps, valued notionally at almost $6 billion. Some of my colleagues on the other side of the aisle believe the federal government can fix the municipal securities markets with unprecedented interventions and bailouts. These interventions include reinsurance programs for which no bond insurers may be able to qualify and liquidity facilities that will increase the size of the Federal Reserve's balance sheet.

It is important to note that for years municipalities opposed federal intervention into their financing operations. Only now, when short-term financing options have dried up, are municipalities seeking assistance from the federal government.

Mr. Chairman, of the measures that are subject of today's hearing, the legislation, your legislation to regulate unregulated municipal financial advisors is one that I could support with some changes. We are in agreement with the basic premise that the SEC should require individuals who advise municipalities to register as investment advisors. However, as demonstrated by the Bernie Madoff affair, I'm not sure that the SEC -- and I say, Chief Haines, with all respect to your agency -- I'm not sure of whether the SEC has the present ability to effectively examine existing investment advisors. And in that regard, I wonder if it would not be appropriate for this committee to delegate this important examination responsibility to FINRA.

Some of the other bills we are considering today are more problematic, including legislation that could have the effect of forcing the rating agency to rate municipal bonds "AAA." It's wrong to assume that municipal bonds never default because they are backed by a taxing authority or the issuer. Moreover, I worry that any bill which directs the evaluation standards for credit-rating agencies serves only to further solidify the government's endorsement as the credit agencies when we should be moving in an opposite direction.

Yesterday, we had a hearing on the credit-rating agencies and I made the statement there that I believe the credit-rating agencies had failed spectacularly and that their inability to properly rate securities, I believe, was a major contributor to the financial challenges we are facing today. And I believe that the government's endorsement of the credit-rating agencies and almost their -- what they, I believe, have contributed to almost a duopoly in credit-rating agencies is -- it was a contributing factor.

Also problematic is legislation that would create a federal reinsurer of municipal bonds. Congress does not need to put the American taxpayer on the hook for more losses. The federal government should not be competing with private reinsurance companies that are active in the municipal bond market. Whether it's with these proposals today or in health care, where there are more and proposals for the federal government to assume private functions, I fear that we've already reached a point where government simply cannot afford the obligations that they have already assumed. And the more they assume the higher all our taxes will go.

The Treasury has no experience in providing reinsurance to municipal bonds insurers or at pricing for reinsurance. In addition, a federal reinsurance program for municipal bonds insurers simply bails out bond insurers that strayed from their core business of municipal financial guarantees into much riskier financial products. Furthermore, a federal reinsurance program may provide a competitive advantage to those legacy bond insurers that are unable to insure a new municipal bond because of their prior obligations.

Finally, a federal reinsurer may scare off new capital into the industry and undermine the long-term health of the bond insurance market. We should all keep in mind that a properly functioning bond insurance market helps smaller insurers to access the capital markets at more favorable rates.

In conclusion, Mr. Chairman, I want to give the SEC real authority to oversee the municipal securities market and I plan to introduce legislation to that effect, or work with you on bipartisan legislation. The municipal securities market presents itself to the public as safe, stable, and secure for all investors. It should welcome more sunlight, consistency, and thorough disclosures that apply across the asset classes and commonsense modernization.

Thank you to the witnesses for testifying today. I yield back the balance of my time.

REP. FRANK: Thank you. And let me just note -- so I believe 15 minutes each would be a reasonable allocation. I've used five, we had the gentleman six-and-a-half, so the gentleman has eight-and-a-half minutes to allocate, I have nine-and-a-half. We are going to go on that basis. The gentlewoman from California is recognized for three minutes.

REP. MAXINE WATERS (D-CA): Thank you very much, Mr. Chairman. I'd like to begin by thanking you and Speaker Pelosi for your leadership in this area. We are facing an unprecedented crisis where our towns, cities, and states cannot obtain the funding they need to operate.

One of the most distressed areas is my own state of California. We're here today in part because of the high cost municipalities must deal with when borrowing in the capital market. Municipalities and states generally collect tax revenues twice a year while they have to make payments to vendors, employees, and government agencies 12 times a year.

States use the combination of cash, reserves, and short-term notes to cover any shortfalls between the two tax collection periods. However, issuing these short-term notes is not without significant cost. My own state of California has seen its borrowing cost on short-term notes jump 88 basis points over the past year. For a municipality this means nearly an additional $9 million in cost for every $1 billion that is borrowed. That is $9 million that could have gone into education and health care. Instead, it leaves the state coffers and leaves municipalities with the tough choice between cutting services or raising taxes.

While California is currently the epicenter of this problem, we are neither the first nor the last state that will have an issue with municipal debt. In addition to high borrowing costs, some areas of our country have also been misled by so-called municipal investment advisors. These advisors often pitch financial products that end up costing a municipality more than it bargained for.

As was mentioned earlier, in Jefferson County, Alabama, investment advisors even assisted the county in refinancing itself to the brink of bankruptcy. High borrowing costs, fast-talking pitch men and women, and dangerous products such as credit default swaps have proven to be a recipe for disaster. This hearing today and the legislative proposals of this committee are an important first step.

Mr. Chairman, I look forward to hearing the perspectives of our witnesses. And I thank you and I yield back the balance of my time.

REP. FRANK: The gentleman from New Jersey is recognized for two minutes.

REP. SCOTT GARRETT (R-NJ): Thank you, Mr. Chairman Frank and Ranking Member Bachus, for holding this important hearing today. And I do want to compliment Ranking Member Bachus, because he's been highlighting the problems in this industry for some time and also for close attention to this important issue.

You know, the municipal bond market has experienced a tremendous amount of stress over the last year. Many states and municipalities have seen their expenses rise as the spreads of their offerings continue to widen. So in an attempt to address some of the problems in this market, the chairman now has circulated a number of pieces of legislation.

Now, I have significant concerns with several of these bills, and the underlying rationale, you know, that the federal government should always be the last resort for anyone in trouble. First, you have the Municipal Bond Liquidity Enhancement Act which would provide the Federal Reserve with the authority to fund new liquidity facilities with a variety of specific securities.

You know, when Chairman Bernanke testified before this committee, it was last July, I asked him, is there any limit on the Fed's power under 13(3). He essentially told me no, there were no limits. So if that is the case, I'm not sure why we need to pass a bill giving the Fed even more power than it already has.

Secondly, regarding the Municipal Bond Insurance Enhancement Act, this legislation will create a temporary federal government and reinsurance program for monoline insurance companies. I think we are familiar with the last time the federal government created a temporary reinsurance program. That program is still in operation and we just extended it.

So in conclusion, once again the federal government is being called upon to bail out people that made bad decisions, and this time it happens to be local and state politicians who spent too much during the good times, and refused to tighten their belts during the bad times. I don't believe that we should pass any legislation that would de-incentivize states and localities from reining in their bloated budgets and put more and more of their debt on an over -- already overloaded Uncle Sam.

So thank you, Mr. Chairman, and I yield back the remainder of my time.

REP. FRANK: Gentleman from Georgia is recognized for two-and-a- half minutes.

REP. DAVID SCOTT (D-GA): Thank you very much, Mr. Chairman. First, I want to thank you for holding this hearing. And I also want to thank you for introducing such important legislation and I am proud to cosponsor it with you. Legislation that will provide much needed relief to state and local governments around the country by helping to unlock the parts of the municipal market that remain frozen.

The creation of a liquidity facility to unfreeze the variable rate demand obligation and short-term debt markets is urgently needed and would allow projects like my city of Atlanta's construction of the new Maynard Jackson International Terminal at Hartsfield-Jackson Atlanta International Airport in my district. It will allow the airport to continue without negatively impacting the thousands of jobs.

2,600 construction jobs alone are tied to the international terminal's completion which is scheduled for 2012. The viability of this and other similar projects such as our city's water system that will be idle if they continue to be unable to -- excuse me, access the capital market depends upon state and local government access to affordable financing options.

A lack of funding would cause construction to cease and several hundred workers will be idle if we are unable to access the municipal commercial paper market. Enhancing liquidity in the part of the state and local sectors that remain stressed will not only help make that marketplace operate more efficiently, but will help states and localities complete projects that are crucial to meeting public needs and consistent with job creation and economic stimulus.

And Mr. Chairman, at a time when the federal government is searching for ways to create jobs and stimulate economic activity and help to stabilize the financial markets, opening up the Federal Reserve liquidity facilities to variable rate and short-term debt obligation will help very much to address these goals. The cost of delay, particularly from the standpoint of jobs that are at risk, is too great, and I look to the testimony of our distinguished witnesses. And thank you very much Mr. Chairman, and I yield back my time.

REP. FRANK: Gentleman from Delaware is recognized for a minute- and-a-half.

REP. MICHAEL CASTLE (R-DE): Thank you, Mr. Chairman. I agree with most of the opening statements that we've just heard. And it's clear to me that the municipal bonds market has suffered and like many markets has suffered more than usual because of the economic crisis we are in. And I think we should be concerned about the states and municipalities, the other entities that come under municipal bond funding as well, our colleges and universities for example, who are bond issuers and are experiencing higher costs. We, obviously, don't want those institutions to pass on those costs to students, we don't want hospitals to pass on costs to patients, other insurers or whatever it may be, so we need to pay attention to all that.

I am concerned about one of the provisions in the package of legislation that is before us which would expand some of the Federal Reserve's emergency lending authority authorized under Section 13(3) of the Federal Reserve Act. The problem is that that particular section is the very piece that some of us have been requesting more oversight and accountability on.

Although it's clear that the municipal bonds market is in need of assistance, as I've indicated, I question whether we should be willing to support such expansion of the Fed's powers unless we also demand more oversight and accountability of the Fed. At the very least, GAO should be able to audit the Fed as Representative Ron Paul's Federal Reserve Transparency Act would do. But we have a problem here. I think we have identified the problem pretty well. Now we need to identify the proper solution.

We thank all the witnesses for being here; look forward to your testimony.

I yield back Mr. Chairman.

REP. FRANK: The gentleman from Texas is recognized for two minutes.

REP. AL GREEN (D-TX): Thank you, Mr. Chairman. And I thank the witnesses for appearing today as well.

Mr. Chairman, I am grateful that you have called these issues to our attention. This is $2.6 trillion market with 55,000 eligible issuers. It really is something that we need to take a look at, and in this time of adversity, I see a great opportunity for us to take affirmative action as well as corrective action.

This should not be, and I don't think it is, an attempt to regulate the market. I really think that it's an opportunity for us to make some adjustments so as to prevent some conditions from occurring that might be detrimental to the market. I'm grateful that we are looking at this area of the advisors, financial advisors, persons who -- many of whom are unregulated. I think that this is ripe for us to take a look at, and I look forward to working with you, Mr. Chairman and others. I thank you and I yield back the balance of my time.

REP. FRANK: The gentleman from Texas, Mr. Hensarling, is recognized for two minutes.

REP. JEB HENSARLING (R-TX): Thank you, Mr. Chairman.

First I want to take the opportunity to welcome my mayor to the nation's capital, the Honorable Tom Leppert, who is a great public servant doing many great things for the people of Big D. Welcome, Mr. Mayor. Having said that, I sense we may differ on the subject matter of this particular hearing.

Mr. Chairman in the last 30 days, the fiscal mood for the American taxpayer has not been good. Freddie Mac has announced that their taxpayer bailout now totals $51 billion; Fannie Mae's federal bailout has reached $34 billion. We just received news that the Pension Benefit Guaranty Corporation has announced that their deficit has climbed to $33.5 billion, the largest in the agency's 35-year history.

Now, many of us know that recently the trustees of the Social Security Board just announced that Social Security will begin to go bankrupt one year earlier than originally projected in last year's report.

And we all know just weeks ago, Congress passed a budget which will triple; triple the national debt in just 10 years, racking up more debts than has been racked up in the previous 220 (years).

It begs the question, is there any cause or purpose for which we will not place more debt on future generations? Today, we are considering legislation to backstop and perhaps bail out states and municipalities who experience investment losses, and bail them out with the hard-earned money of American taxpayers who have also experienced investment losses.

I feel that aspects of this legislation can cause people to engage in riskier behavior, believing that the government will perform their due diligence for them on the front end, and then bail them out on the tail end. This can be dangerous for the investor and disastrous for the nation and the federal taxpayer.

And I yield back the balance of time.

REP. FRANK: The gentleman from Illinois, Mr. Foster, is recognized for one minute.

REP. BILL FOSTER (D-IL): I'd like to thank Chairman Frank for holding this important hearing. For some time, I've been concerned by the municipal bond market, and in particular, for example the irrational situation with tax-exempt munis trading upside down with respect to treasuries and so on, and also the collapse of the muni bond insurance model, which as the chairman noted, was questionable in any case.

My home state of Illinois has not been immune to the turmoil in the muni bond market and Moody's recently downgraded my state to the A level from the AA. And Moody's said that Illinois was having difficulty managing its cash, perhaps with some justification. And in recent weeks Illinois has been trying to push its scheduled pension contributions into the future. Thus the issue of meaningful less- than-AAA ratings has become financially significant to Illinois.

That's why this hearing on this important set of bills designed to address this problem is very timely. In particular, I'd like to focus for a moment on the Municipal Bond Liquidity Enhancement Act which I'm proud to be a -- to sponsor. This bill would give the Federal Reserve authority to support certain variable rate municipal bonds which have been particularly hard hit during this crisis.

I look forward to testimony on this, and I hope that we can pass this and the other related bill expeditiously. I yield back.

REP. FRANK: The gentleman from California, Mr. Campbell.

REP. JOHN CAMPBELL (R-CA): Thank you, Mr. Chairman. You know, municipalities and states have traditionally been more fiscally responsible than the federal government in part because often their constitutions and charters require balanced budgets but also in part because they don't have the ability to print money or borrow without end, as does the federal government.

I think it would be extremely unwise to allow municipalities and states to print money and borrow without end, through proxy of the federal government because of guarantees. I think that would endanger the fiscal stability in the future of many states and counties.

My home state of California needs to sell a lot of debt very soon. But the municipal bonds markets are actually functioning quite well out there now, albeit at high-risk premiums, reflecting the risk that exists in the overall market for municipal bonds and all types of bonds. The state of California can sell these bonds if they price them to the market. They should do so directly and without government interference or assistance in this or any other state. I yield back.

REP. FRANK: We will now begin the statements from the witnesses. I had some charts that I have prepared that I am going to ask to be shown. If anybody else has any, we would extend that same courtesy. They're fairly simple so they shouldn't distract from the witnesses' statement too much. So I'll ask that those -- there were four charts that I'm going to ask that will be shown.

And we will now begin with Martha Mahan Haines, who is the chief of the Office of Municipal Securities of the U.S. Securities and Exchange Commission. Ms. Haines.

MS. HAINES: Chairman Frank, Ranking Member Bachus, and members of the committee, my name is Martha Haines, and I head the Office of Municipal Securities in the Commissions Division of Trading and Markets. I appreciate the opportunity to testify before the committee today on behalf of the SEC.

The question of whether municipal financial advisors should be regulated is a topic of significant interest to the commission. As described in my written testimony, we have been concerned about the conduct of some municipal financial advisors. However, the commission's current statutory authority limits our ability to address these concerns adequately.

As a result, the commission believes an expansion of its authority over the conduct of municipal financial advisors would be appropriate. The Municipal Advisors Regulation Act, proposed by Chairman Frank, would provide tools that would help address the problems we have observed concerning municipal financial advisors. In particular, we support the act's clarification of the specific duty of care that a financial advisor owes to its client.

Dealers in municipal securities who are acting as financial advisors are subject to regulations adopted by the commission and by the Municipal Securities Rulemaking Board. In contrast, the many financial advisors who are not broker-dealers currently are not regulated either as dealers or as investment advisors.

The commission has brought more than 20 enforcement actions under the anti-fraud provisions of the securities laws against financial advisors. But enforcement actions are an after-the-fact remedy. They cannot provide the kind of specific and nuanced guidance or cover the broad scope of activities that regulatory authority under the proposed legislation would make possible.

Furthermore, harmful activities of market participants who are not subject to commission registration or oversight are more difficult to discover. Without the opportunity that reporting, inspection, and examination provide, it is difficult to monitor these activities and keep apprised of emerging practices.

Authorizing the commission to require municipal financial advisors to have minimum qualification, to follow conduct rules designed to ensure that they deal fairly with their clients, to eliminate pay-to-play activities and avoid or disclose conflicts of interest would help to prevent harm to issuers, taxpayers, and citizens who are dependant on the infrastructure financed with municipal securities, in addition to protecting the interests of investors. Notwithstanding these benefits, new regulations would of course impose some burdens on financial advisors which could potentially be passed along to issuers through higher fees.

To the extent that credit ratings provide meaningful information that assist investors, counterparties, and others in deciding how to allocate capital, or whether to enter into a transaction, it can play an important part in a well-functioning financial market. Congress previously addressed the role of credit-rating agencies by enacting the Credit Rating Agency Reform Act of 2006.

Moody's, S&P, and Fitch account for nearly all of the ratings of municipal securities. All three have noted that historical defaults on municipal securities have been lower than comparably rated corporate or sovereign securities. Some municipal issuers argue that the use of the same rating symbols but different definitions for municipal and corporate securities results in municipal bonds being rated lower than corporate bonds with an equivalent risk of default.

Some investors, however, argue that the use of common symbols but different definitions is a useful way to compare the relative strength of financial -- of municipal issuers. They contend that using a common set of rating category definitions would cause most rated municipal bonds to be slotted into the top two rating categories, making it more difficult to assess the individual merits of a bond, particularly for individual investors.

The Municipal Bond Fairness Act, if adopted by Congress, would mandate that the SEC require rating agencies to establish and maintain credit ratings designed to assess the risk that investors may not receive payment, to clearly define rating symbols, and to apply rating symbols in a consistent manner. The bill would permit an NRSROs to determine complementary ratings provided that they use different ratings symbols.

Finally, the bill would require the SEC to establish performance measures for use when considering whether to initiate a review of an NRSRO's adherence to its stated procedures and methodologies. The SEC staff stands ready to provide technical assistance on the bill, if that would be useful to this committee. Thank you again for providing me with an opportunity to testify about these two bills now pending before Congress. I look forward to engaging with you on this matter in the future.

REP. FRANK: Next, a return witness after some absence, the senior advisor to the secretary of the Department of Housing and Urban Development, Mr. Bill Apgar

MR. APGAR: Chairman Frank, Ranking Member Bachus, members of the committee, thank you for the opportunity to testify. HUD is pleased to see that the Financial Services Committee is examining the range of issues and considering legislation related to the lack of liquidity and other constraints in the municipal bond market.

While the administration is not yet ready to take a position on the proposed legislation, taking steps to improve the functioning of the municipal bond market is clearly an important component of the overall response to the current housing crisis. My testimony will focus on one aspect of that, namely how the disruption in the municipal bond market has significant implications for the functioning of state and local housing finance agencies.

First, let me speak to the importance of state and local housing finance agencies or FHAs -- HFAs, sorry for that. In strong and weak economies, HFAs have been reliable sources of finance for lower-income first-time home buyers, and have played a key role in the delivery of low-income housing tax credits, HOME Investment Partnership Program, and the Section 8 program. Through these programs, HFAs have helped 2.6 million families become first-time homeowners and have supported development of 150,000 new affordable rental housing units annually.

FHA has enjoyed a very strong partnership with the various HFAs. Over the years, HFAs have worked collaboratively with FHA to offer low- and moderate-income families access to special affordable housing programs that rely on FHA insurance. More recently, HFAs have been engaged in dialog with the FHA on issues relating to the current market crisis and the types of programs that can help families keep their homes, including new HOPE for Homeowners program that President Obama signed into law just yesterday.

As you know on February the 18th, the president announced the Housing Affordability and Stability Plan, a plan that included initiatives to support HFAs in their efforts to stimulate first-time home buying and provide affordable rental housing. The White House, the Treasury, and HUD are now finalizing the details of a proposal designed to address three distinct but interrelated challenges facing HFAs.

First, the lack of financing for new HFA bond issuance, the lack of liquidity support, HFA variable rate debt obligations, and ongoing credit and balance sheet stress for HFAs risk -- at risk of ratings downgrades. In light of a strong track record and considerable capacity, last year the Housing and Economic Recovery Act, Congress provided HFAs with $11 billion worth of new housing bond authority to finance affordable single-family and multi-family mortgages. Unfortunately, they've not been able to take advantage of this expanded housing authority.

Traditionally, HFAs have obtained funding through issuance of tax-exempt housing bonds or mortgage revenue bonds. For some time, HFAs have been virtually frozen out of this market, unable to find investors willing to buy their bonds at rates that allow HFAs to lend the proceeds affordably. As a result, an important source of quality lending for low- and moderate-income borrowers has been severely curtailed.

In addition, MRBs -- in addition to MRBs, some HFAs issue variable rate debt obligations in order to offer mortgages at lower interest rates. The current market for VRDOs has all but evaporated as buyers of these investments have left the market, and have been significantly downgraded or are imposing unreasonable terms and excessive. State HFAs have over $23 billion in VRDOs outstanding. Nearly $3 billion of the existing liquidity facilities have already expired or expire at the end of 2009.

Those unable to roll over their VRDOs have been forced to pursue more expensive mechanisms. For example, a growing number of HFAs have been unable to find buyers and have often been forced to convert their -- this (ph) debt to bank bonds, often requiring them to pay this debt off at higher rates or under accelerated, or what some call hyper- amortization schedules, further depleting their resources and weakening their financial positions.

Additional threats to the health of HFAs are rating agency downgrades of private mortgage insurance providers, bond insurers, and liquidity providers, as well as the deteriorating performance of HFA mortgage portfolios. The sidelining of HFAs could not have come at a worse time for housing and economic recovery. HFAs projected they could issue $33 billion in taxes and bonds over the next two years providing HFA the financing to continue as a key source of affordable, flexible mortgages.

Decline in home prices and increase in affordability in a period of declining home prices and increase of affordability, HFAs are no longer in a position to help first-time buyers take advantage of these good opportunities. HFAs' inability to respond to a growing demand for first-time buyers in turn affects the broader housing market.

In conclusion, the disruption of the municipal bond market has severely hindered the ability of state and local housing finance agents to achieve their important mission. HUD looks forward to working with the committee on solutions to address the disruptions in the broader municipal bond market and especially their impact on state and local housing finance agencies.

REP. FRANK: Thank you. And next we have Mr. David Wilcox, who is deputy director of the Division of Research & Statistics of the Federal Reserve System.

MR. WILCOX: Chairman Frank, Ranking Member Bachus, and members of the committee, thank you for the opportunity to comment on issues related to the markets for municipal debt. Today, I will provide some background on the structure of the municipal debt market, discuss current stresses in this market, and comment on some policy considerations.

The market for municipal debt is large and diverse. At the end of 2008, investors held about $2.7 trillion of municipal securities issued by more than 50,000 entities. Approximately half of municipal debt has credit enhancement from financial guarantors; these firms are often also called bond insurers or monolines. Banks also provide credit enhancement to municipalities as part of letters of credit.

Most municipal bonds have long maturities. Some municipalities have issued securities such as variable rate demand obligations or VRDOs and auction rate securities, ARS, that combine long maturities with floating short-term interest rate. VRDOs have explicit liquidity support, typically from banks which help ensure that bondholders are able to redeem their investments at par plus accrued interest even if the securities cannot be successfully remarketed to other investors. VRDOs often have credit enhancements from financial guarantors or banks.

The market for municipal debt has been strained by the weakened fiscal condition of municipalities, the diminished financial strength of the financial guarantors, and the higher costs of liquidity backstops and credit enhancement from banks. Despite these strains, the market for traditional fixed-rate municipal debt appears to be functioning fairly well for many issuers. The lower-rated municipalities are facing usually higher costs of issuing debt relative to higher-rated issuers.

The markets for floating-rate municipal debt are in more serious condition.

Market participants report that the cost of liquidity support and credit enhancement for VRDOs has risen sharply and the market for new auction rate securities is dead. Some municipalities have been able to issue new VRDOs, but many lower-rated issuers appear to be either unwilling or unable to issue this type of debt. In addition, some VRDOs have reportedly been put to their liquidity providers, turning them into bank bonds which typically carry penalty interest rates and can eventually be subject to accelerated amortization. This combination of higher rates and faster amortization can cause a sudden and substantial increase in the debt service payments required of the issuing municipality.

Some policy actions have already helped address these strains. For example, Congress has enacted two large stimulus packages. In addition, the Federal Open Market Committee lowered the federal funds rate down to its current target range of 0 to 0.25 percent, a historically aggressive adjustment, and the Federal Reserve has created a range of facilities aimed at improving the functioning of financial markets.

The recently concluded Supervisory Capital Assessment Program should also provide some indirect help to municipalities, because many of the institutions subject to that program also provide liquidity backstops for VRDOs. As Chairman Bernanke has noted before, the Federal Reserve has important misgivings about assuming a direct role in the municipal bond market in light of the political dimensions of the issue. Indeed, this is one reason why the Federal Reserve Act imposes limits on the ability of the Federal Reserve to purchase municipal debt, including a six-month maturity limit. Accordingly, the Federal Reserve believes that a direct role is better suited to the fiscal authorities than to the central bank.

In addition, it is important to note three key characteristics of the Federal Reserve's responses to the financial crisis thus far. First, before lending can be extended under Section 13(3) of the Federal Reserve Act, the Board of Governors must find that unusual and exigent circumstances prevail. Second, the Federal Reserve has been mindful of the need to protect both it and federal taxpayers from credit losses. Third, Federal Reserve programs have been designed carefully to allow clear exit strategies to help ensure the ability of the central bank to raise the federal funds rate from its current level when necessary to promote the mandate given to us by the Congress to foster maximum sustainable employment and price stability.

These considerations are consistent with the joint statement on the role of the Federal Reserve issued on March 23rd by the Treasury and the Federal Reserve and are critical to achieving the dual monetary policy mandate and preserving the central bank's independence. As the Congress considers whether future action is warranted, it may wish to consider the degree to which government involvement in this market is appropriate in the long-term and how to facilitate the government exit from the market.

Thank you for the opportunity to testify today. We look forward to working with Congress to assist you in your deliberations on these matters. In addition, the Federal Reserve will continue to work aggressively to restore normal functioning to the financial markets and the flow of credit in the economy. I look forward to addressing your questions.

REP. FRANK: And now the afore-mentioned mayor of the city of Dallas, Mayor Leppert.

MAYOR LEPPERT: Thank you very much, Mr. Chairman. First let me thank you, Ranking Member Bachus, and all members of this committee for holding this hearing to focus national attention on a critical challenge facing the nation's city. I am Tom Leppert, mayor of the city of Dallas and chairman of the U.S. Conference of Mayors Metro Economies Committee, which addresses issues impacting the viability of local economies.

Today I am pleased to appear on behalf of the nation's mayors to offer comments on pending legislation to assist state and local governments gain better access to the credit market. Before I get started, I want to thank you, Mr. Chairman, for responding to the problems municipalities are experiencing in accessing the credit market. We appreciate you coming to speak to the mayors earlier this year and thank you for introducing legislation that would address some of the concerns we raised then about the capacity of local governments to secure needed financing.

For more than a year, state and local governments have suffered from the global economic credit crisis. According to BNY Mellon Asset Management, 2009 municipal bond issues are expected to decrease by an amount comparable to eliminating all federal highway and transit spending for an entire year. And it is our citizens and taxpayers who suffer the consequences.

Many capital improvement projects across the nation, not filling operating shortfalls, both large and small have been halted due to the lack of affordable access to the market and inability of states and local governments to issue bonds. At a time we need to create jobs and economic activity, local governments have increasingly been unable to access the capital markets due to prohibitive borrowing costs. This lack of liquidity is holding back key projects that could collectively have an enormous impact on our national economy.

As an example, in Dallas, we have several major projects we would move forward on if the municipal markets returned to a quote, "normal state." Proceeding with these projects today would people back to work and take advantage of reduced construction costs to the benefit of all of our taxpayers. Cities and states across the country are in the very same position.

According to Thomas Doe, CEO of MMA Advisors, with fixed-rate yields having risen to extraordinary heights, many state and local issuers have tabled the majority of their planned primary market loans. MMA estimates that, in 2008, more than $100 billion of planned new-money infrastructure projects were delayed; the majority of that occurred in the fourth quarter.

I would ask you to simply think of that quarterly number as a percentage of the infrastructure and public spending in the American Recovery and Reinvestment Act. Indeed, your action to support the municipal bond market would result in a major stimulus to the economy without a federal outlay of funds.

Given the economic challenges my colleagues face in cities and states across the nation and you face nationally, I would also suggest to you that it is imperative these actions move forward with an urgency. Implementation in years or even many months is not what your nation needs. We need to accelerate this to the current fiscal year.

That is why the four legislative proposals being discussed today are important in the short term to repairing our market and helping governments improve their communities by building and repairing schools, firehouses, highways, and water systems. It is also worth mentioning that unlike the federal government, local governments do not have the luxury of carrying a deficit. By law, they are required to balance their budget every year. For many, the only way to provide vital infrastructure is through the issuance of bonds, which has been a viable way of financing critical infrastructure projects for more than 100 years.

Now that I have provided a brief overview of situations local governments are facing, I'd like to discuss briefly each of the pending proposals. The Municipal Bond Fairness Act would give investors a more accurate portrayal of the low risk of municipal securities compared to their corporate counterparts. Government bonds, either pledged with the full faith and credit of the government, or governmental revenue bonds, as shown on the right-side chart have nearly zero default rate.

Ensuring that rating agencies use uniform and accurate credit ratings for all securities will lower borrowing costs and spur increased investment in municipal bonds. The Conference of Mayors supports this legislation.

We believe the Municipal Bond Insurance Enhancement Act would help increase the capacity of municipal bond insurers in the short term to insure new risks and thereby make it easier for issuers to borrow in the capital markets. Again, the Conference of Mayors supports this legislation.

As has been frequently cited, nearly half of all municipal credits were insured until 2007. Often the issuer chose to obtain bond insurance in order to receive a AAA rating on the issuance, which lowered the interest rate costs for both the bond and savings at greater than the cost of insurance. Many public entities simply cannot issue debt without credit enhancement as they or the revenue bond project they are offering are (rated ?) below AA. As mentioned in many cases in today's market there is neither a viable nor affordable bond insurer option.

Short-term federal support would be greatly beneficial to the municipal bond market, specifically for smaller (insurers ?). And as a side I would also ask you to consider this enhancement for the Build America Bond. It could have an enormous impact on the economy immediately.

Issuers of short-term debt have been (mostly ?) affected by the credit market crisis. Governments purchase letters of credit or secure a liquidity provider in order to achieve lower borrowing costs than would be possible if they offered securities through their own credit. However, they have faced a double whammy as the markets have frozen and most liquidity providers have either ceased to exist over the past six months or have stopped providing these services.

Mr. Chairman, the legislation would greatly help this sector of the market. I would also point out that there are billions of cash flow borrowing needs this legislation would assist. Issuers across the nation have told us they are experiencing difficulty obtaining letters of credit that were due in recent months. A few examples are cited in my written testimony.

While the U.S. Conference of Mayors does not have a specific policy supporting the regulation of financial advisors to state and local governments and requiring them to register with the SEC, we understand and are supportive of the intent to protect (insurers ?), and place financial advisors on the same regulatory playing field as the broker-dealer community.

In summary, Mr. Chairman, the municipal bond market is experiencing a severe liquidity shortfall. Many local governments around the nation have placed many infrastructure projects on hold until market conditions improve. As a result, thousands of short-term and permanent jobs have been placed on hold as well. This situation can change as soon as financing of these projects at reasonable rates can be secured, allowing cities to be full partners in efforts to renew our nation's infrastructure, revitalize our economy, and create jobs.

The U.S. Conference of Mayors expresses its support for your continued efforts to assist state and local governments and the municipal bond market. The nation's mayors stand ready to assist you in any way that we can. Thank you very much.

REP. FRANK: And finally, Mr. Ben Watkins who is the director of the State of Florida Division of Bond Finance. Mr. Watkins.

MR. WATKINS: Mr. Chairman, Ranking Member Bachus --

REP. FRANK: Is your mike on?

MR. WATKINS: It is now.

My role as the director of the Division of Bond Finance is to be responsible for all of the state's financing programs from general obligation bonds to revenue bonds for small projects. We execute anywhere from 15 to 20 transactions per year, annual issuance volume of approximately $2.5 billion. We borrow for schools, roads, buying conservation land, state office buildings, universities, dormitories, parking garages, et cetera.

The most meaningful insight I think I can provide to the committee is to share with you our personal experiences over the course of the last six months. The last quarter of 2008, the markets were frozen and we effectively had no access to credit for any of our debt or any projects to be financed.

Since that time, 2009 has been a mixed bag. Depending on the type of transaction we were executing, we sold five bond issues totaling approximately a $1 billion. The transactions that were state general obligation bonds, since we are a large high-grade issuer, were very well received in the market and the market for that type of paper is robust. However, on our lower-rated credit, A category and lower, we were experiencing difficulty with market access issues and increased borrowing cost.

The market access is still an issue for smaller infrequent issuers or lower-rated issuers. It is -- the state and local governments need access to credit just like businesses do to continue to operate and to continue to build America's infrastructure. The impact on issuers has been to delay or cancel projects that are needed, an increase in cost to borrowing, which increases the cost to taxpayers, and users of the facility.

The Municipal Bond Enhancement Act can help by allowing and providing market access to lower-rated issuers and the market needs a new source of bond insurance to operate efficiently and effectively. The private markets are simply not providing the capacity for bond insurance that it once did, and the demand and the need for bond insurance for smaller infrequent issuers that make up the bulk of the municipal market is sorely needed.

The means or the mechanism can be debated, but the need is there. The most acute problem confronting small and infrequent issuers, which make up the bulk of the municipal market, is the problems associated with the short-term markets. As my colleague Mr. Wilcox from the Federal Reserve has pointed out, there is simply diminished liquidity available in the market to support that market.

The need -- each of the products, whether they are variable rate demand bonds, auction rate securities or commercial paper, need liquidity to function. Liquidity is provided by banks in the form of lines of credit, letters of credits, and standby bond purchase agreements. That capacity is simply not available currently. This, again, increases the cost of borrowing and causes -- creates impediments to issuers financing projects and moving capital projects forward. The stimulus provided has created a bridge for governmental budgeting issues but there has been very -- there has been nothing done to assist with access to the credit markets. And the problems in the credit markets persist.

The Municipal Market Liquidity Enhancement Act can play a critical role in addressing the problems in the short-term market and sustaining the very important financing tool available to state and local government. This can be either done either directly through the Federal Reserve or indirectly through the banks that the federal government has supported with its investments.

The Municipal Bond Fairness Act and uniform ratings are also essential to the proper functioning of the markets as the taxable and tax-exempt markets become more intertwined. It's imperative that we have a comparable basis for comparing municipal securities with our corporate counterparts. This will serve to expand the buyer base and put pressure, downward pressures on rates and provide issuers greater access to a larger pool of taxable buyers. So we are supportive of that initiative as well.

The problems in the municipal market are real. The problems with market accesses are real and tangible. The increase in the borrowing cost confronted by local governments, at a time when it can be ill afforded, are also causing problems. This delays infrastructure and the much needed capital spending across the nation.

I want to thank you, Mr. Chairman, for raising these issues, and more importantly, proposing solutions to some of the problems confronted by state and local governments.

REP. FRANK: Thank you, Mr. Watkins. With the generous agreement of the ranking member, I'm going to recognize one of our colleagues not from the committee. We have several -- we have two members on this committee who were themselves mayors -- our colleague from Kansas City, Mr. Cleaver; our colleague from Massachusetts, Mr. Capuano. Mr. Capuano was mayor of Somerville, Massachusetts, Mr. Cleaver of Kansas City. We also have the chief executive of one of the largest county governments in the country, our neighbor from Fairfax County. So I recognize with unanimous consent the gentleman from Virginia, Mr. Connolly, for two minutes.

REP. GERALD E. CONNOLLY (D-VA): I thank the chairman and the ranking member for the generosity. I would hope that this committee would act to intervene to help our municipalities at the time of need. I heard the remarks of Mr. Garrett, and I must take enormous exception. The social Darwinism espoused there would basically throw municipalities and states in the United States into the ditch. It is not because of bloated budgets that municipalities find themselves in the quandary in which they find themselves today.

It's because of the housing bubble, it's because of statutes in constitutions that require balanced budgets, it's because fake money after September 15th fled to U.S. treasuries, even though as these charts proved, the default rate among munis is miniscule; and combined with the double whammy of the loss of a private insurance to basically provide credit enhancement.

And that situation was slightly improved. Still these 55,000 municipal bonds issuers are in a very difficult situation. And so I believe if we don't want to see this economy contract further, we need to help municipalities and states access credit. They create jobs; they help provide an impetus to the economy. And without which they will in fact unfortunately require further contraction of the economy, precisely the opposite of the public policy goal we seek.

So I would hope -- and I've introduced legislation of course, along with the legislation in front of this committee, H.R. 1669; it can make the federal government the insurer of last resort to make that credit enhancement possible, it can allow for federal loan guarantees if that's what's required. It can even create new financial instruments that would market municipal bonds that would be serviced and would be the responsibility of municipalities, but in the market that would like U.S. treasuries.

Mr. Chairman, I know you recognized this in the colloquy you and I had back in January where in fact you referred to municipalities as among the most pathetic victims of the current economic crisis. I agreed with you then; I agree with you now. It's a privilege to be with you this morning and I would hope this committee would act.

REP. FRANK: The gentleman from Alabama has a unanimous consent request.

REP. BACHUS: Thank you, Mr. Chairman. I ask unanimous consent to enter the following into the record. One is a written statement submitted by Mr. Tim McNamara, former secretary of the Treasury during the Reagan -- deputy secretary of Treasury during the Reagan administration. And a May 9, 2009, Wall Street journal op-ed entitled "Muni Bonds Need Better Oversight - We seem to have a major debacle every decade," by former SEC Chairman Arthur Levitt.

REP. FRANK: Without objection they will be entered.

I will just begin my questioning -- I put some charts up and I just want to review these briefly. First, we have a wide variety of things that are called municipal bonds. Full faith and credit general obligation bonds are issued with the full taxing power of the issuing entity behind them. They are in fact as good as treasuries.

There has been, according to Moody's, one default since 1970. And that was a default in which the bondholders were in fact paid 15 days late. The total was one 15-day delay. General obligation bonds are very solid. And the reason is, having served in the state legislature, and others who've served in state legislatures would know this, no state could afford to allow any of its entities or itself to default because that would mean such terrible costs going forward. So everybody else is at risk. The teachers and the firefighters and everybody else, because you have to pay those bondholders to protect your capacity.

Secondly, default rates. Now, on AAA bonds, there have been zero municipal defaults. On corporate bonds 0.52 percent, that's pretty significant. But even more significant are the BAA because I believe that a number of municipal bonds, particularly full faith and credit, are unfairly rated BAA when they ought to be AAA, since they never default. And here, corporate bonds at that rating default by 37 times as much as municipal bonds; 0.13 versus 4.64.

The problem is that these are not reflected in the ratings. If in fact a bond rated BAA were rated AAA, you would save $627,000 per ($)1 million. When you are talking about hundreds of billions of dollars of bonds issued, you are talking about a very significant cost to taxpayers. Either they pay too much or they go without bridge repairs and fire stations and new schools.

And finally, here is a list of municipal bond defaults. As I said, general obligation, one. But look at the rest. Water and sewer, none. Public universities, none. Private universities, one. Electric power, two. And not-for-profit health care, 10. Of 8,591 bonds rated by Moody's in that 30-year period, 1970 to 2000, there were five defaults. That is simply not reflected in the market.

Now people have said, well, the market knows everything. Some people used to say that. I don't think they still do. Market failure is a part of capitalism. That doesn't mean the market doesn't work. It means it doesn't work perfectly.

But I was particularly pleased to see -- well, Mr. Wilcox mentioned some of the problems the bonds now face, the municipal bond market. And he said, there were strains and there were three strains. One, the weakened fiscal position of the issuing jurisdictions, I acknowledge that. Although the record is clear, if it's a full faith and credit general obligation bond, that weakness has not been a problem. Even recently with this terrible problem, we have not seen defaults.

But two other problems are not defaulting municipalities and cannot be corrected by them. One is the pressures on the providers of liquidity support; well, those are the banks. That hits everybody.

But here is one unique to the municipalities -- the weakened condition of the financial guarantors. We have forced municipalities to get into the business of buying insurance from people who are then in trouble themselves. And this is a case where we had somebody who was struggling to swim and we send them a lead life preserver and insisted that they wear it. And they sunk a little. And what we want to do is to cut them loose from that. And these are indisputable facts.

So let me just add, Mr. Watkins, and I'm very impressed because you've had this -- well, you are from the state of Florida, you are appointed by whom?

MR. WATKINS: Originally appointed by the late Governor Lawton Chiles and served under two administrations from Governor Bush and had been reappointed by Governor Crist.

REP. FRANK: So you've served in a bipartisan way. Does Governor Crist know you're here?

MR. WATKINS: Yes, sir, his staff does.

REP. FRANK: Okay. And I assume that what you say he would be supportive of?

MR. WATKINS: I don't speak for the governor, sir. I'm here representing the governor -- Government Finance Officers Association, but I'm happy to address any particular issue.

REP. FRANK: Okay, well, I appreciate that. And I assume if you go back and no one yells at you, we'll take it that there is some general agreement on the part of the governor.


I just want to close by saying, people talk about too much debt for the federal government. If I had to choose frankly between the war in Iraq at a cost of hundreds of billions of dollars and reducing the interest rate cost and trying to build schools, I'd go for the latter.

And I want to make this point. It is a wholly theoretical risk for the federal government. If we put the federal government's reinsurance -- and by the way, one of these I see -- I'm going to close, I'll give myself 10 seconds -- that the League of Cities is talking about creating a cooperative municipal insurer. That would be an ideal situation, it seems to me, because you would have this municipal insurer, and then you could have the reinsurance saving municipalities billions of dollars a year, municipalities and other issuers, for important public purposes at virtually no risk to the federal government. Seems to me a pretty good day's work.

The gentleman from Alabama.

REP. BACHUS: Thank you. Mr. Wilcox, is the Federal Reserve concerned about taking any direct role in supporting the municipal debt market?

MR. WILCOX: Yes, sir, we are concerned about taking a direct role.

REP. BACHUS: What are your concerns? And pull the mike up a little closer.

MR. WILCOX: Our concerns are several-fold. First of all, we are quite concerned about preserving our political independence and becoming interposed in the credit risk judgment that would be required under some interpretations of the draft language, discriminating between jurisdictions that would receive credit and would not receive credit. We think that the traditional function of the central bank has been to steer clear of credit allocation, and we would greatly prefer that -- functions that are intrinsically fiscal in nature be left to fiscal authorities.

Secondly, as Chairman Bernanke has expressed on a number of different occasions, we have a great need to preserve an exit strategy so that we can control the size of our balance sheet. At some point the federal open market committee will make a determination that the federal funds rate should be lifted from its current, very low, level.

We need to be sure that we can control the level of bank reserves at that time. And in order to do that we have to be able to either run off the assets that are on our balance sheet, or have some other set of tools for controlling our bank reserves.

And lastly, we have to be protected in our estimation; our balance sheet has to be protected from the risk of losses. And here, a particularly difficult issue in this context is the maturity mismatch between particularly longer dated securities and the term of our lending.

So if we were to take these securities on to our balance sheet now and then be confronted in some future circumstance with the need to run them off, credit losses themselves wouldn't necessarily be the only determinant of whether we as the Federal Reserve would sustain a loss at the point when the open market committee determines it needed to tighten the stance of monetary policy.

It is possible that we would need to sell those securities and we'd have to take whatever price was available in the market at that time. So the maturity mismatch is a very important consideration in our analysis of this situation.

REP. BACHUS: Thank you. Chief Haines -- or Ms. -- is it -- call you Chief Haines, is that -- would you prefer Missus? Thank you. You know, in 1997, I helped Commissioner Bettye Fine Collins write a letter to the SEC, where we set out what we thought was a pay-for-play scheme. Do you know -- that letter and the materials we forwarded to the best of our knowledge was never acted on.

Now, in January 5th of 2007, I met with the SEC staff and followed that up. On January 23rd was a letter asking you to investigate some of the investment banks that had dealt with Jefferson County and there was an indication this month that you are going forward with it, with an action against them.

But do you -- can you give me any idea, maybe why nothing was done in 1997. Are you familiar with that file, or could you go back and locate it and see what happened? And also 2007 maybe why it took another two-and-a-half years to do anything, or two --

MS. HAINES: I can't speak to what happened in 1997, as I only joined the commission in 1999. I would be happy to go back and try to get more information and get back with you about that. I cannot, of course, comment either on pending enforcement action. I would only say that there's often a great deal going on at the commission, which is -- that needs to surface, and cannot be seen by the public and partly to protect those who we are investigating, who may turn out to have done nothing wrong.

REP. BACHUS: All right. Madame, I'd be interested in knowing maybe what if anything was done in 1997?

MS. HAINES: We have to go back and get you that --

REP. BACHUS: In fact it was the same materials basically and some others. And let me ask one -- just final quick question. How quickly could the SEC establish an effective registration and examination program for municipal, financial advisors as the chairman has suggested and as I have said that I would be supportive on at some point?

MS. HAINES: I can't -- I have not consulted internally about that. I'm sure we could do it very promptly. We -- there are really not all that many non-broker-dealer financial advisors. There are approximately 260. And so that -- it should not be a huge undertaking.

REP. BACHUS: Once you got statutory authority --

MS. HAINES: Right, we -- of course, we need statutory authority to do anything in that area.

REP. BACHUS: Thank you.

REP. FRANK: Gentleman from North Carolina.

REP. MELVIN L. WATT (D-NC): Thank you, Mr. Chairman. I'm going to reluctantly put on my conservative Republican hat here for a second and explore with you the interplay between Municipal Bond Insurance Enhancement Act and Municipal Bond Fairness Act.

The latter I am very much supportive of, because I think we need to separate the municipal bond market from the corporate bond market, and have them rated separately. But there's one thing that's a little troubling to me in your testimony, Mr. Wilcox, in particular, is your testimony about municipal -- municipalities also issuing securities that combine long-term maturities with floating short-term interest rates that are reset on a weekly, monthly or other periodic basis.

That sounds strikingly to me like, what we just got through regulating in the private lending market, adjustable rate mortgages. And one of the concerns I have is, if we provide a federal government backstop for that kind of mortgage as opposed to the 30-year, long- term mortgage, that we would be encouraging municipalities into kind of gambling with short-term versus long-term interest rates, which is what we just discouraged individuals from doing.

So am I missing something here? Should -- first of all, the insurance and the guarantee part of what has been going on in the market, I take it has been responsible for reducing municipal interest rates, I take it. Is that correct, Mr. Apgar?

MR. APGAR: That's my understanding, yes.

REP. WATT: Okay. And so we would be substituting the federal government under this municipal bond insurance enhancement act as kind of an insurer instead of the private market?

MR. APGAR: Correct.

REP. WATT: Now, should I be concerned about differentiating between a long term 30-year bond, which has a fixed rate on it for a long period of time, and the shorter term variable rate securities, if I'm worried about protecting the taxpayers?

MR. APGAR: Concerned, yeah, yes. But both have a role to play in finance.

REP. WATT: They have a role to play, but should I be providing insurance on the same basis and insurance -- reinsurance backstop on the same basis for those riskier kind of variable rate mortgages as I would provide on a 30-year fixed rate mortgage? I guess that's the question I have. I mean, in that what we just differentiated between in the private market and our predatory lending bill?

MR. APGAR: I believe that you would want to differentiate the two, because the risks are different.

REP. WATT: So we would then, maybe, put the same kind of constraints around this that we put in the safe harbor provision in the predatory lending bill, is that -- would that be a reasonable approach to it?

MR. APGAR: I'm not sure how this relates to that matter. I'm not sure what constraints you're talking about.

REP. WATT: And Mr. Wilcox, maybe you can understand what I'm getting to here. I think they are very much related, are they not?

MR. WILCOX: One of the distinctions between an adjustable rate mortgage and auction rate security, for example, is that the rollover risk in an instrument like the adjustable rate security is more acute, when the -- to be sure an adjustable rate mortgage presents certain financial risk to the homeowner.

But the homeowner is not at risk of having the financing withdrawn with an adjustable rate -- with an auction rate security. What we saw is the support for that disappeared and so the rollover rate -- the rollover risk in that market proved to be more acute. So they share some similarities in terms of their characteristics, but there are important differences as well.

REP. FRANK: The gentleman's time has expired.

Mr. Posey, Florida.

REP. BILL POSEY (R-FL): Thank you, Mr. Chairman. I wanted for each panelist to just give me an -- as short a explanation as possible. Why do you think we ended up with you in the crisis?

If you we could start with Ms. Haines.

MS. HAINES: I'm not clear on what your question was, could you repeat?

REP. POSEY: Well, you know, what do you think the nexus of the crisis was that brings your organization into the focus?

MS. HAINES: The downturn in the markets, of course, has had a negative impact on many, many investors. We are concerned about those investors that -- we are an investor protection agency; that has always been our focus.

And we're also concerned that investors get full information at the point that they're going to invest, either from their broker, or if it's an initial offering from the offering documents so that they can make an informed investment decision. And in the recent economy we've seen risks that well -- certainly have -- are unusual, and we believe they should be fully disclosed.

REP. POSEY: Right. This thing that appears singularly (ph) relevant is obviously the entire crisis was driven by greed from many different angles around the world. And it appeared everybody wanted to get more and more competitive with the returns that they got. I mean, it's a natural phenomenon to do.

And so people got reckless, banks got reckless, securities got -- I mean, investors got reckless, and because somebody else did it, it almost seemed okay. You know, like your mother always said, well, if everybody else is jumping off the roof, are you going to go jump off the roof too. Well, we all saw a lot of people jumping off the roof.

And I know where the banks -- we've heard some of the experts say, this is a one in a 100-year phenomenon, just like a big storm, and usually so many of these misbehaviors are self-correcting. People are aware of the new scams, there's an awareness to look out for this.

It's going to be hard to sell anybody a derivative, for any reason, I would suspect, for sometime. And I'm just wondering, if a whole lot of new regulation might be a cure in search of a new disease, and maybe if you could just comment on that?

MS. HAINES: I think that new regulation need to be done very carefully to the extent we'd go forward with them, the Congress gives us additional authority. Unintended consequences are something that we at the commission worry about whenever we look at a regulation, and also in particular with the financial advisors, many of them are small entities. And we wouldn't take that --

REP. POSEY: Okay, thank you.

Mr. Watkins, your comments.

MR. WATKINS: We come to the table, because I borrow money for the state for a living.

REP. POSEY: Right.

MR. WATKINS: To finance infrastructure, all of the things that I talked about before. We are the sympathetic victims in all of this crisis. We've done nothing wrong. The state has been managed very well financially over the years. So this causes me two problems.

One, my ability to borrow money, to fund infrastructure, which is impaired. And secondly, is the cost of funding. Our number one mission is to borrow at the lowest possible cost for infrastructure needs for the state, to the extent that that is impacted, that's obviously of concern to us. So that's how we come to this crisis as an innocent victim in trying to discharge our responsibilities.

REP. POSEY: Okay. Anyone else like to comment?

MAYOR LEPPERT: I would simply add -- like to add to Mr. Watkins again, when we're looking at largely the enhancement, I want to stress again two points. Number one, what we're looking at simply as short- term. We're not looking for something five, ten, fifteen years out. We're only looking at short-term to buoy the markets up, because the markets have clearly gone away as Mr. Watkins said for no reason by the city and the state.

That leads to my second point. The second point is we're talking about capital projects going forward. We're not talking about subsidizing budgets that weren't handled, we're not talking about operating shortfalls. We're largely talking about financing infrastructure and major projects going forward.

And I think that's what needs to be kept in mind in terms of the policy decisions that we're looking forward. It's one short term, and again, it's not talking about operating budgets, it's talking about capital projects to move forward, because we simply do not have a market, or we do not have viable options that we used to have on the enhancement side, monolines, insurers, et cetera.

REP. POSEY: You know, that's the same basic problems that all the small businesses have out there. I mean, it's -- it -- the funds are just not available, and I don't think it's going to happen no matter what the government does, unless and until they come out with a plan and say this is what you can expect us to do, here's how you can measure the progress back.

I think people are going to sit on their money and not spend a dime until they have some degree of certainty that there's going to be a recovery. Everyone is expecting their worst now, and so far we've just seen the federal government throw up some Hail Marys and hope that they catch them in the end zone, score some points and turn the economy around. But it's -- doesn't seem to be working very well.

MAYOR LEPPERT: Now, I would say anecdotally, I think we can come up with specific examples. On the municipal bond side there is a different situation. There are projects that would be ready to move forward if there was enhancement. If you look at a lot of medium pieces of the market rated A, those sorts of things, if there was an enhancement available, which today isn't, the six players that used to be simply aren't around anymore.

If there was enhancement, you would have those projects go forward. And those are a whole array of projects literally across the country.

REP. POSEY: This is the same problem.

REP. FRANK: I thank the gentleman.

REP. POSEY: Thank you, Mr. Chairman.

REP. FRANK: The gentleman from Kansas.

REP. DENNIS MOORE (D-KS): Thank you, Mr. Chairman.

Mr. Apgar, hospitals in the state of Kansas have felt the impact of the financial crisis, not just in their day-to-day operations, but in the borrowing costs. Hospitals want to deliver the highest quality care to lowest possible cost, but they've been thwarted in recent months in their attempts to keep financing costs low by conditions in the financial markets.

One idea would be to allow hospitals to rely on some federal support of their existing obligations, so they could be refinanced to lower interest rates. From what I understand, such backing is currently authorized under the HUD 242 Hospital Mortgage Insurance Program. But HUD has never issued regulations implementing that authority.

Mr. Apgar, would this be something HUD could explore to provide low cost financing for hospitals, or do you have any other thoughts on providing low cost financing for hospitals, sir?

MR. APGAR: No that's -- hospitals are important part of our mission, and that particular 242 program is something we're reviewing now to see how we can respond to questions like you asked.

REP. MOORE: Any idea how long that review might take -- how long it's going take?

MR. APGAR: I don't have a timeline on it. But I do know that as we gear up with the new team, that's high on our list of things to be working on.

REP. MOORE: Very good.

Thank you, Mr. Chairman. I yield back.

REP. FRANK: The gentleman from Florida, Mr. Putnam.

REP. ADAM PUTNAM (R-FL): Thank you, Mr. Chairman. I'll begin with Mr. Leppert. You made the point to Mr. Posey that any of these enhancements should be temporary. Could you define that for us? Is that driven by market conditions?

MAYOR LEPPERT: I think it is driven by market conditions. And the hope is, and I think it's the hope of all of us that we're going to see a normalcy of market. But the reality of it is we're not there today. We've lost the insurers, the enhancers, they've gone away. So there's going to have to be some type of support mechanism at least for a period of time.

Now, again, I want to stress again from the city standpoint, we're not looking for some long-term program, and we're not looking for any type of a bailout of operating budgets. We're fundamentally talking capital budgets and we're talking period of time to give some normalcy to this, so that the private side can come back in, and I think over time it will.

I can't give you an answer when it will, but I think over time it will come in. But until that point of time, as I said in my testimony, there are hundreds of billions of dollars worth of projects out there that are important to reenergize the infrastructure of this country as well as create jobs.

REP. PUTNAM: But given the uncertain state of state and local budgets, given the uncertain state of the federal budget, but you look at what's going on in California, look at what Florida legislature has just struggled with, isn't this just -- you know, the increased rates, is that not just market discipline, in other words, what -- you referred to normalcy. What is the new normal given the circumstances we're operating under?

MAYOR LEPPERT: Well, I think normal -- we're coming back to at least some historical sense of the spreads between municipal's corporates, municipal's treasuries, those sorts of things. I mean, clearly to look at those spreads, those are so far out of historically what we've seen that it clearly put cities and state governments in a precarious position for financing going forward. And as I said, it's holding up in projects that we believe that are very important.

REP. PUTNAM: Mr. Watkins, can you describe for us -- share some of your experiences in terms of walking back to last summer when the bottom fell out of the market and any impact that federal response has had on liquidity and pricing and where you find yourself today as a result?

MR. WATKINS: I think that there had been tangible benefits to the market in general, in terms of restoring confidence to the market and you see it with respect to the interest rates for large frequent issuers, with very simple credit structures. That market is functioning reasonably well now.

So our ability to issue state general obligation bonds at favorable rates is good. But then you look at the vast majority of issuers across the nation, which are smaller, infrequent issuers. They're cities, counties, school districts across the nation that have need to access capital for infrastructure. And when you fall into the A category, you fall off a cliff.

And I'm talking to the tune of a 100 basis points or one percent. Now, that may not sound like a lot. But when you do the bond math and extrapolate the cost of that one percent to borrow money over 30 years, the cost to local government is significant. And it's an embedded cost that's there for the next 30 years.

It's there incrementally, but when you look at the cost, the aggregate cost of that borrowing, it is significant, and it's occurring at a time when budgets are already under pressure. And that's the segment of the market that needs the temporary assistance to gain access to market and normalize the interest rates and the cost of funding capital projects.

REP. PUTNAM: Mr. Leppert, did you want to add anything to that, are you --

MAYOR LEPPERT: No, I think that says it all. The only thing I would add to that is, keep in mind that it may not just be large and small players at the state and local level. It very well could be a large player. But the project itself is rated an A category, so you'll fall into that. So don't assume it's just big versus small. It could be a larger player at the state or the local level that has a project that falls into the A. Thank you.

REP. PUTNAM: Thank you, Mr. Chairman.

REP. FRANK: We now have the first of our two mayors, and I now recognize the former mayor of Somerville, Massachusetts, Mr. Capuano.

REP. MICHAEL E. CAPUANO (D-MA): Thank you, Mr. Chairman.

Mr. Mayor, have you been through a bond rating review for your city?

MAYOR LEPPERT: I personally have not.

REP. CAPUANO: Okay. I have; wasn't much fun. When you do it, you -- have you dealt with any of the bond rating people at all that have come to your city on --

MAYOR LEPPERT: I have, both on the municipal and on the corporate side, yes.

REP. CAPUANO: Okay. Did you feel as though you had any abilities to change whatever it is they came in with a preconceived notion, or did you feel like you had to be nice to somebody that you knew was going to stick it to you anyway?


MAYOR LEPPERT: In both cases, we tried to make the arguments as well as we could.

REP. CAPUANO: Yeah, sure, and did they listen?

MAYOR LEPPERT: I would say, in a number of cases, yes, they did listen, perhaps we could influence, in other cases it may very well have been as you said where the decision was made before people walked into the room.

REP. CAPUANO: Now, before you were mayor, what did you do Mr. Mayor?

MAYOR LEPPERT: I was a corporate executive. I ran some --


MAYOR LEPPERT: -- relatively large companies across the nation.

REP. CAPUANO: So do you -- now you've done both sides. Do you think it's fair, reasonable, thoughtful, either in a business sense, an equitable sense, any way in particular that for some reason corporate bonds should be viewed differently than municipal bonds? Or do you think it should just all be based on, you know, the ability to repay those bonds?

MAYOR LEPPERT: As was indicated in my testimony, I think it ought to be driven by hard economics. And I think as was pointed out, to an extent in the testimony, to an extent in the charts that you see to the right, that's a difficult conclusion to come to under today's scenario.

And I would also tell you that before we saw this, the -- what happened in the credit markets, there were move of some agencies towards this.


MAYOR LEPPERT: Of combining and doing that. So again, this isn't pushed into unknown territory. There were agencies that were moving through this earlier.

REP. CAPUANO: Right. Moving towards them is all well and good, but Dallas is a relatively sizable community with some leverage. But I'm sure that you have lots of smaller communities that surround Dallas, but don't have the leverage that you do, that would maybe feel a little bit more strongly about their inability to really negotiate.

MAYOR LEPPERT: And I would tell you, I'm representing cities across this nation, small or large.

REP. CAPUANO: Right. And I heard earlier that, I guess, apparently every city and town is just throwing money away that there's no reason you would absolutely need, on the one, a shot of only 25,000 -- I don't know anybody who's out for $1 million GO anyway. People go out for GOs, it's usually, I don't care what size the city is, it's a 10 million or much more than that, I'm sure that Dallas would just not care about an additional $250,000 or so that you could use to either hire cops or give taxpayers a break or anything else. I'm sure you don't need that. Is that a proper --

MAYOR LEPPERT: If this answers your question, I would tell you, I think we do a very good job fiscally of managing our portfolios across the board.

REP. CAPUANO: And I would imagine that if you were to just ignore $250,000 sitting on the table, the people of Dallas probably wouldn't notice that. Do you think that's a fair statement?

MAYOR LEPPERT: I can tell you being a mayor, especially coming from the private side, people notice everything and they usually do it at the grocery store.

REP. CAPUANO: Exactly right, exactly right. The Mayor's hit it directly on the street level. People see what you do. If you have the audacity or any of my mayors, any of your mayors, have the audacity to leave that kind of money sitting on the table, if you had something to do about it, first of all, I think people would know about it.

Second of all, I think they'd fire you as quickly as possible. And they wouldn't be too nice about it. So anybody who thinks that this money is just sitting there you know, that we don't want it, but we enjoy overpaying interest rates with taxpayers' dollars, I take that as a little bit of a personal offense as a former mayor, and I'm -- you don't have to say that, because you're much nicer than I am. I do.


REP. CAPUANO: And I would tell you to tell your colleagues at home that at least I'm sitting here defending their honor, because I don't mind disagreements. My understanding -- we may come from different philosophical views in certain things, but when it comes to money, nobody that I know, in a local government wants to waste it. We may have different views as to do with it, but we want to be able to use it to the benefit of our taxpayers and our constituents to the best of our ability. And I would imagine that's something that's shared by the conference.

MAYOR LEPPERT: Absolutely, and again I would argue at the local level it's most transparent of all elements of government. That's also why I was trying to stress that what we are talking about U.S. Conference of Mayors is not dealing with trying to fill past budget shortfalls. We're not trying to fill operating gaps. What we're largely talking about is the availability of credit markets for capital projects going forward.

REP. CAPUANO: Right. And Mr. Mayor, I -- you know, I'm going to close, because I think, you know, obviously, this legislation is going to move forward, and I think the time is right to treat cities and towns and states and county governments the same as all corporations, the same as everybody else. That's all. Not extra, just fair.

At the same time, I would ask that the next time that the conference sends somebody, I want to see somebody who's been through a rating review. That's what I want to see.

I want to see somebody who's had the lovely privilege of having to spend days on end spending tens of thousands of dollars of taxpayers' money to convince somebody to do something that they're not going to do anyway. And they're going to base it on their own judgment from 2,000 miles away. And I'm -- actually when you go through it, let me know. Because I'm sure you'll have a fun time with it.

MAYOR LEPPERT: As I said, for 30 years, I spent time working on the financial side. So I understand exactly where you're coming from, and I have a real sensitivity on the public side to it. I would add, and I would like to stress this point that if this legislation moves forward, and it talks about a fiscal year of 2011 or beyond, even 2010, that doesn't address the situation.

REP. CAPUANO: I agree.

MAYOR LEPPERT: The situation needs to be addressed today. If we're going to make an impact on the economy, it has to be literally trying to put the enhancement from liquidity to the sorts of things we're talking about today, put those in place today. Down the line, I hope the economy comes back, some of the issues that we've talked about settled down. If we're going to make an impact, it has to be now, it has to be today.

REP. FRANK: If the gentleman would yield, that's why there's a package of bills, because there are bills that address the regulatory side, the immediate, and then going forward.

MR. : Right.

MR. : Right.

REP. FRANK: And then the other thing. I would be particularly interested if the Conference next time sends someone, because I'd be very interested to meet him, who is not nicer than Mr. Capuano.


We would be looking forward to --


He would make a heck of a witness.

REP. CAPUANO: Mr. Chairman, I believe, he's already sitting in the chair.

REP. FRANK: Yeah, but I'm not the witness.

The gentleman from California.

REP. CAMPBELL: Thank you, Mr. Chairman. A question for Ms. Haines, and frankly anyone is that -- Ms. Haines, you talked about the inequities between the rating agency's view of municipal debt and actual default versus corporate. The disclosures are not equal as well. Would you support equal disclosures for an equal rating?

MS. HAINES: Our chairman has --

REP. CAMPBELL: Microphone.

MS. HAINES: I believe, our chairman is on record as stating her belief that investors in municipal securities deserve the same strong investor protections that are enjoyed by investors in other markets, and the lack of regulation of municipal securities and municipal offerings is currently a gap in the investor protection scheme of the federal securities laws, and we believe Congress should review this.

REP. CAMPBELL: So is that a kind of a yes?

MS. HAINES: Pretty close.

REP. CAMPBELL: Okay. Rest of the -- anyone else has a differing view on this panel?

MR. WATKINS: I would take exception --

REP. CAMPBELL: Mr. Watkins.

MR. WATKINS: -- with that in the sense that in looking at the regulatory burdens that would be imposed on issuers, that the burdens of those regulations in compliance with those regulations would far outweigh the benefits --


MR. WATKINS: -- the investors derived from that. And the reason that I say that is we operate in the sunshine. Everything that we do is openly disclosed and available to investors all the time.

REP. CAMPBELL: Okay. Mr. -- I just have to -- do you -- does anyone in this room follow the irony of a government talking about the cost and burden of regulation not being worth the benefit?

That's just a side comment, but since what governments do is regulate private industry and private industry feels that. Now, here's government saying -- at least one government saying, regulation can be burdensome and costly and not worth the benefit.

But anyway, if it's burdensome and costly and not worth the benefit for municipal governments, I don't know why it is not equally burdensome and costly -- you can argue whether it's worth the benefits on a private issuer.

Mr. Wilcox, let me ask you, if I may, about one of my concerns. We talk a lot these days about moral hazard, and if the federal government were to, through this insurance mechanism in one of these bills, basically backstop all -- potentially all state and municipal debt, isn't there a moral hazard part?

My state in California has gotten itself into a big problem. Shouldn't the state, if you will, bear some consequence for that, and not have the federal government come in and shield the state from any of the negative consequences of an irresponsible budget?

MR. WILCOX: I think that's intrinsically a fiscal consideration that Congress would have to make that decision as to how to balance the considerations. There are important considerations that you raise in your question, but I think those really lie outside the purview of the Federal Reserve.

REP. CAMPBELL: Legitimate concern though, is it not I mean --

MR. WILCOX: Yes, sir. So I'm not suggesting they're not legitimate concerns. I just don't think the Federal Reserve has any nexus with those.

REP. CAMPBELL: How about something more specific to the Federal Reserve. What is the Federal Reserve's view on being asked or to actually buy some municipal securities out there in order to prevent auction failures?

MR. WILCOX: Well, as I mentioned in my written statements, I have an -- I and the Federal Reserve have a number of concerns about those. We are glad to see in the draft language that was distributed last night, the insertion of the language for unusual and exigent circumstances.

We think it's been very important that the emergency functions of the Federal Reserve has been imposed have -- a very high bar has been set on our intervention in these markets, and we think that that's appropriate.

We're also, as I highlighted earlier, quite concerned about the potential political implications for us being interposed in these decisions. We're very focused on having an exit strategy being sure that we can control the size of our balance sheet so that the open market committee can be assured of being able to carry out its congressional mandate for price stability and --

REP. CAMPBELL: Let me -- so my time doesn't -- (inaudible) -- I had just one last question. You mentioned -- the municipal securities market is functioning fairly well. Can't most municipalities, if they price it right in states, sell their -- the auction rate security that -- there's an argument that that never should've been there, but anyway can't they sell in today's market?

MR. WILCOX: I think as you've heard reflected today in the testimony that it's a mixed bag. It's a patchwork quilt that some of the --- that the larger issue is, the better rated issuers are able to issue securities and indeed that issuance over the first four months of this year has been comparable to the issuance of over similar periods before the onset of the financial crisis. For other issuers, lower rated smaller issuers, circumstances are quite difficult.

REP. CAMPBELL: Thank you.

REP. FRANK: Before I -- I'm going to yield to the gentleman, I'm going to take 30 seconds, Mr. Wilcox to -- just to say -- you said that under 13(3) powers, the Fed meets a high --- sets a high bar, and as an exit strategy, the largest single expenditure under that was to AIG.

And I must tell you that as I look at the AIG issue, without commenting on if it was right or wrong, that's an odd definition of both the high bar and a good exit strategy. So I would think most cities, frankly, would have an easy time in states meeting that AIG standard.

The gentleman from Texas, Mr. Green.

REP. GREEN: Thank you, Mr. Chairman. And I thank all of the witnesses for appearing.

Ms. Haines, I'd like to ask you a question, if I may. In your testimony, you indicate that there are some activities that are of concern to you, and you talk about the pay to play practice. Would you please give me just a brief explanation, by way of example, of what pay to play is?

MS. HAINES: "Pay to play" is phrase that is used in the municipal industry, a fair amount, to refer to persons who make political contributions to issuer officials in order to obtain business from that issuer.

REP. GREEN: And is this a lawful practice currently, or is it unlawful currently?

MS. HAINES: It is lawful currently. There is a restriction on broker dealers under our Municipal Securities Rulemaking Board rule G- 37. Political contributions, as free speech, are not prohibited under any circumstances.

However, if a broker dealer makes a contribution to an issuer official, then that broker dealer is prohibited from doing business with that issuer for a two-year period.

REP. GREEN: Have you had an opportunity to peruse the various instruments that we are proposing in terms of enactments of law? And I ask, because I'm curious as to whether any of these would address the pay to play circumstance that you find to be invidious.

MS. HAINES: We believe that the bills with respect to municipal financial advisors would give the commission the authority to address pay to play practices.

REP. GREEN: And would it give you the authority to address this in a punitive, penal fashion or would this be by way of civil remedy?

MS. HAINES: By way of civil remedy; the commission does not have any criminal authority.

REP. GREEN: Do you find -- have you had circumstances, and I believe from your testimony you've indicated that you have, but have you had circumstances for the record, wherein there were situations that you wanted to pursue and prosecute civilly, but you were unable to do so because of a lack of legislation?

MS. HAINES: Yes, there have been. In particular, the lack of a clear, consistent standard of care, the fiduciary obligation in the legislation that a financial advisor owes to its client has been one of the stumbling blocks when we have gone in the past to take anti- fraud, you know, enforcement actions involving financial advisors.

Additional authority to regulate them further would simplify any enforcement activities, of course, because it's much easier to bring a case against someone for breaking a rule, than for a full anti-fraud investigation.

REP. GREEN: Mr. Chairman, I thank you and I yield back the balance of my time.

Thank you, Ms. Haines.

REP. FRANK: The gentleman from Texas, Mr. Hensarling.

I know, by the way, Mayor, I know you have to leave at 10:30. We'll do Mr. Hensarling. We'll do your -- a former mayor and then we'll excuse you -- we'll -- the rest of the panel, you know, can stay and we'll finish up.

Mr. Hensarling.

REP. HENSARLING: Thank you, Mr. Chairman. First, let me offer my apology to the panel members, I've been straddling two hearings, this one and budget, so I missed the testimony. We may be covering some old ground here, and I'm -- I offer my apology for that.

I'm sure there's been a healthy discussion of the role of our credit rating agencies. But in your own experience, has there been an over reliance upon the rating agencies? And as currently structured, has there been an incentive to do less due diligence simply because of the -- for lack of a better term, oligopoly that has been set up with the nationally -- statistical recognized (NSROs ?)? Whoever cares to comment?

(No audible response.)

Well, seeing no takers, the gentleman from Missouri had his chance last evening.

As I look at the federal government's track record with reinsurance programs or insurance programs -- again, in my opening statement I talked about the PBGC having a historic deficit and the federal flood insurance program was never supposed to need a taxpayer infusion.

We know what's happening with social security. For those of us who care passionately about the level of debt that is being placed upon future generations, for those who represent constituencies who may benefit from this program, given the history of the federal government, why should we feel convinced that ultimately the federal taxpayer's not going to have to bear even a greater burden than he and she already are?

MR. WATKINS: I would submit to you the historical level of repayment of municipal securities in general is a very safe investment in protection of the federal government dollars in investing in this -- and supporting local governments in this fashion.

I think the risk of nonpayment is overstated. And if you look at history and the level of defaults of municipal security, it's virtually nonexistent. And relative to the other investments the federal government has made, I think this would be a wise and prudent use of resources available.

REP. HENSARLING: I guess that I have two reactions to that, Mr. Watkins. One, if they're that safe, why are you here requesting the assistance in the first place?

And secondly, I -- I'm not going to push back on what you said. But I must admit, it feels a little bit for some of us like déjà vu all over again when we had representatives of Fannie and Freddie coming before us for years, and years, and years telling us how terribly safe their investment portfolios were.

And we kind of all know how that story ended, so -- I don't doubt what you say, I don't doubt that you believe it, but again some of us are a little uncomfortable, and it feels a little bit like we've been down this road before. And so again those of you representing constituencies that might benefit from this program, at least, for some of us, have a burden of persuasion that we're not going down Fannie and Freddie lane once again.

As I understand it, and I haven't read carefully the four or five different pieces of legislation that are being bundled together for the purposes of this hearing, but theoretically, I believe these are going to be temporary programs. Now, temporary programs in Washington are fairly rare animals -- you can certainly look at the TRIA (ph) program as a data point. But if it is indeed a temporary program in your opinion, how long should the program exist? What should be its length? What should be its duration and why? Anybody who cares to comment on that?

MS. HAINES: I can't speak to the other bills, but the bill to regulate municipal financial advisors, we think, should be a permanent situation.

REP. HENSARLING: Okay. Any other comments?

MAYOR LEPPERT: I would say, on liquidity enhancement, again, we view that should be a short-term bill. I don't have a perfect number for you, but clearly it should be well under five years and probably in the area of only a couple of years.

REP. HENSARLING: A fair amount of time, but Mr. Mayor, I want to thank you for taking care of the graffiti near my home, there's a certain pothole I need to talk to you about. I yield back the balance of my time.

REP. FRANK: The gentleman from Missouri, and then we'll take -- we're going to have some votes, but we'll get in a couple more questions.

REP. EMANUEL CLEAVER (D-MO): Thank you, Mr. Mayor for being here. I served as mayor during the 1990s, and we did not have at that time this derivative now called swaption, which was designed especially to rip off cities.

And the -- when you look at the swaption, and the fact that what it -- it was supposed to have been a way of protecting municipalities, states, and cities from interest increases, but it turned out to be a loser in the long run just like it has in the stock market.

And this bill will call for the Office of Finance within the Treasury Department to (overlook ?) this area. Do you believe that we have had adequate oversight in the past of municipal bonds?

I mean, if you look, most cities are going to have a AAA rating or close to it, because Texas where I was born and raised, like Missouri where I live now, there's a state law that says your budget must be balanced.

So there's virtually no way that you can have anything but a AAA bond rating. And today, Bear Stearns may be able to get a better interest rate than Dallas. And they've collapsed, and I'm hoping that you would also agree that this bill is absolutely necessary and that you would support the public finance within the Treasury Department of that office being established.

MAYOR LEPPERT: Again, I think, representing the U.S. Conference of Mayors, we clearly answer to the affirmative that. I would point out as you said though that even though you may have entities, cities and states that have the highest rating, they may need to go out for individual projects --


MAYOR LEPPERT: -- and those projects without enhancement would be down in the A category or more, as I said earlier, in kind of the medium range of the market. That's where the enhancement becomes so important. So even though you may be talking about a AAA underlying it, you may have an individual project that needs enhancement.


MAYOR LEPPERT: That enhancement has got away.

REP. CLEAVER: Right. Thank you, Mr. Mayor. I appreciate you for being here.

MAYOR LEPPERT: Thank you, sir, appreciate it.

REP. CLEAVER: Ms. Haines, are you familiar with the swaptions?

MS. HAINES: Somewhat.

REP. CLEAVER: How did -- I mean, how could that happen?

MS. HAINES: That's an excellent question. I was -- I'm not -- I'm a lawyer rather than on the finance --


MS. HAINES: -- side of the equation. So I can't tell you --

REP. CLEAVER: Why don't -- you can tell me why anybody wasn't put in jail for --

MS. HAINES: -- any kind of detail, other than when the rest of the economy and the markets went out of whack, so did they.

REP. CLEAVER: Well, let me -- you can buy a car -- you cannot, in the United States of America, buy a car with a one in five chance of exploding. Our consumer protection laws will not allow that. You can't buy it. You know, you go to a -- there's no where you can go to dealership, go into the showroom and cars are out there and the sign on it, one in five chances for this car to explode. You agree?

MS. HAINES: I hope so.

REP. CLEAVER: How can a product with those same odds be sold to a municipality of one in five chance of blowing up the city's finances without anybody noticing?

MS. HAINES: The commission is specifically prohibited from regulating any kind of derivative, and we only have even anti-fraud authority over securities based derivatives. And so we've been unable to have any impact in that field.

REP. CLEAVER: Who does?

MS. HAINES: I don't know.

MR. : Nobody, as of now.

REP. CLEAVER: That's the point I'm making, and I'm -- when cities are being hurt, and we have no agency, I mean -- or no super regulator, or mini regulator, or anybody doing anything, and it's hurting municipalities, which means it hurts the nation. And I think that has to be corrected, and hopefully, this legislation will begin to address those issues.

Mr. Mayor, would you have -- I can give you the reminder of my time if you have any comments before you leave.

MAYOR LEPPERT: No, we just appreciate the opportunity again speaking on behalf of the U.S. Conference of Mayors for the chairman and the committee to address this issue. We think it's an important one. And again, as I want to stress again, it is not a long-term issue, it is a decision and an issue that has to be addressed today. That's where the impact will be made.

REP. FRANK: (Sounds gavel.) Let me --

REP. CLEAVER: Thank you for being here.

REP. FRANK: Let me say, Mr. Leppert, you're excused.

We're going to have some votes. I'm going to call in Mr. Manzullo and Mr. Foster, we're going to dismiss this panel. We're going to start with the second panel, and we will begin the questioning.

The gentleman from Colorado, just a quick question from --

(Cross talk.)

REP. : Thank you, Chairman.

REP. FRANK: Well, let me start with Mr. Manzullo.

REP. DONALD A. MANZULLO (R-IL): I read in the paper yesterday where a municipality in Indiana is no longer going to buy Treasury bonds as investments, because they consider the government to be a poor choice for investments, because this municipality also had bonds at Chrysler.

And the government screwed them royally on those bonds. And Mr. Mayor, my question to you is, if the government can come along and do that to municipalities -- I mean, don't you think that's wrong what they did to this municipality in discounting those bonds?

MAYOR LEPPERT: I'm afraid I'm not familiar with that instance. If I knew the details I would be happy to answer, but without knowing the details I would -- I'd feel uncomfortable.

REP. MANZULLO: But I mean this is really a -- this is a warning across the bow. If municipalities say it's no longer reliable to invest in U.S. securities, because of the way that federal government treats bondholders by taking over companies, firing their executives, I mean, that's pretty scary. Would you agree, Mr. Mayor?

MAYOR LEPPERT: Well, I will tell you that every capital market, the underlying strength of that capital market is the belief that treasuries are a zero risk.

REP. MANZULLO: All right. Well that's --

MAYOR LEPPERT: And that drives everything. You need --

REP. MANZULLO: It probably does the same on AAA bonds that they had with GM and Chrysler at the same time. But I'm just saying that perhaps that's going to cause some rethinking on the part. I think that the Treasury needs to understand that a lot of municipalities not only lost money in pension funds by investments into the regular market, but they've also lost money as a result of buying those AAA bonds.

And they've been hurt that way also. The federal government better think again before it goes in there and devaluates bonds and prefers people in subordinate positions to bondholders. Just a comment.

And thank you, Mr. Chairman.

REP. FRANK: The gentleman from Illinois.

And we'll get to the gentleman from Colorado, we're going to be -- the first votes are the chairmen's votes. I don't mind missing it. I'm going to stick around and by then we'll dismiss the panel. Gentleman from Missouri will temporarily preside. And Mr. Mayor, you're excused. You said you had a plane to catch.

MAYOR LEPPERT: Thank you, sir.

REP. FOSTER: Right. Very well. So I'm recognized, Mr. Chairman?

REP. : (Off mike.)

REP. FOSTER: Yes. I'm -- well --

REP. FRANK: The gentleman from Illinois, the gentleman from Colorado, and the gentleman from New Jersey.

REP. FOSTER: Right. Okay. My question is quick.

(Cross talk.)

REP. FRANK: -- gentleman from Illinois, gentleman from New Jersey, gentleman from Colorado, we'll do it as quickly as we can.

REP. FOSTER: Yes. Now, I'm a scientist, and I find this business of having a signing on these ratings, which are essentially names for numbers, just absolutely bizarre. In science, we do name numbers. We have pi and e and so on, but when we talk about pi, it's one number.

And we're not in a situation like BAA can mean something in one context and then entirely different range of numbers in another context. And I was wondering -- my specific question is what are the -- you know, is there a meaning when you say BAA, did those three digits, each position have any specific meaning. Is there any logic to the specific names? Anyone who can answer that?

MS. HAINES: Each rating agency is required to establish its own criteria, which are made public for each of its ratings.

REP. FOSTER: Okay. So there are -- are you aware of any specific meaning for the first, second, and third digit in BAA for example?

MS. HAINES: I would have to go look it up.

REP. FOSTER: Okay. So they're not -- at least it's not a well- known --

MS. HAINES: Right. There's no --

REP. FOSTER: -- understanding.

(Cross talk.)

REP. : And so are there any proposals at any point simply to report the number to say that look, the probability is between 10 to the minus 3 and 10 to the minus 4 of default, and just report the number instead of giving it an elaborate name that sort of, to my mind, makes the thing a little -- a lot more opaque? Are there any suggestions ever, to your knowledge, of just reporting the number as a number for the default probability?

MS. HAINES: I'm not familiar with any suggestions like that.


MS. HAINES: But as I say I'm a lawyer not a finance person.

REP. FOSTER: Okay. Thank you. I yield back.

REP. CLEAVER: The gentleman from New Jersey.

REP. GARRETT: You know, I'm going to -- since I just came in, I'm going to yield my -- and then come back to me.

REP. CLEAVER: The gentleman from Colorado has shamed the gentleman from New Jersey.


So we recognize the gentleman from Colorado.

REP. ED PERLMUTTER (D-CO): I thank my friend from New Jersey. And Mr. Wilcox, you're -- I have questions for you. And I want to talk about exigent and unusual circumstances, and the chairman was a little kinder than I plan to be.

The -- here we had municipalities who are under siege, and they -- the work that they have to do will be investments for many years into the future irrespective of what my friends on the other side of the aisle have to say. Yet using exigent and unusual circumstances, you plunked $30 billion behind Bear Stearns on about 24-hour notice.

You support AIG, and who knows how many other billions of dollars have been put into place, yet you don't support Lehman Brothers who goes bankrupt, which affected a number of municipalities in the Denver metropolitan area and in Colorado.

So explain to me again why supporting Bear Stearns and AIG is something that the federal reserve can do under exigent and unusual circumstances, but not supporting municipal bonds that are -- were affected by the Lehman Brothers' bankruptcy, where the Federal Reserve chose not to underwrite that collapse.

MR. WILCOX: The Bear Stearns and Lehman Brothers situations came up before the TARP was enacted and as Chairman Bernanke has said many times, he's very grateful for the authority that was provided to the Treasury Department under the TARP, and very glad to be out of the business of stepping into those situations, or being confronted with the need to contemplate stepping in -- under those situations.

Look, my purpose here today is not for one second, to question the difficult circumstances that state and local governments are operating in. We're in the midst of a financial crisis of historic proportions, we're now well into a recession that is on track for being the deepest recession in the post war period.

My remarks are essentially framed around the following idea. We have a nail, and there are two questions that that raises. The first is does the nail need hitting? That's an issue to be resolved by the Congress.

The second is, is the Federal Reserve the best hammer for hitting that nail? Our view is that we have significant misgivings -- while we do not prejudge the Congress' answer to whether that nail should be hit, we have significant misgivings about using the Federal Reserve as the hammer for hitting that nail.

REP. PERLMUTTER: And I would too, except that it's hard to pick and choose here. And in the instance that I'm speaking about -- and first of all, I'm supportive of TARP money being used to assist municipalities in rebuilding their infrastructure and moving forward. I mean, I don't think there is any question about that. And that was put in the TARP II legislation that we passed at the Senate that's still sitting over there.

But for me, it's more of a question of -- on September 15th, we chose not to -- "you," meaning the Federal Reserve, chose not to support Lehman Brothers. My state had a pooled investment group that had paper in Lehman Brothers. There was then a run on Lehman Brothers' paper causing the primary fund and the reserve fund to break the buck or the primary fund to break the buck. And we're still trying to collect on that, and -- so I guess -- I don't mean to be mixing apples and oranges, but I'm seeing you come in, in some spots, but not in others. And I don't understand the rationale behind that.

MR. WILCOX: Again, the historical context and the other authorities that are available are critical to understanding the difference in situation. The availability of the TARP authority now, at this point, would mean we'd be out of the business of intervening in that kind of situation.

REP. PERLMUTTER: So you think the TARP now alleviates the Federal Reserve from coming in using the exigent and unusual circumstances at least as it applies to municipalities?

MR. WILCOX: I am -- I can't prejudge the Board's decisions on a particular fact set. What I can say is that the availability of the TARP would present the Board with a very different and importantly different circumstance if confronted with some of those earlier situations.

The critical issue from the Board -- from the Board's perspective in making that determination about unusual and exigent circumstances is whether a particular market presents significant risk to financial stability. That's what they're focused on.

REP. PERLMUTTER: All right. I thank my friend from New Jersey for yielding to me, and I yield back.

REP. FRANK: The gentleman from New Jersey will ask his questions, we will then dismiss the panel. We will reconvene. And with the second panel, I apologize, but we don't have any control over it.

The gentleman from New Jersey.

REP. GARRETT: I thank the chairman and I'll be brief. Just a little bit on the last discussion. With regard to Lehmans, I know we've been through this round and round on that. One of the arguments is this, is that you can say whether the government let them fail, or whether the market let them fail. The argument in one sense is that the market let them fail, because in the sense that it's the market players who are going to decide whether or not that they are going to actually engage in transactions with Lehman.

So I think you can make that case. A step-back from that, of course, though is why did they make some of those decisions that they did, and why did Lehman make some of the decisions what they made. That can be attributed to what these governments did previously, back to when the signals that they were sending, back with Bear Stearns that we would get involved in that situation.

Long-term capital before that, although it's slightly different with New York Fed and the like. Government set up certain expectations, and then when they weren't followed through on, then the market responded, you might say, in reliance upon that and that's why Lehman failed.

My questions, I guess, may be the same are along the lines of the comments that Mr. Hensarling from Texas. We just came from -- just one question -- we just came from budget hearing. And in that we heard about the stimulus and the effects of it on the economy or the lack thereof. And I know here we're talking about what the connection here is, what you're talking about, and what's happening out in the state of California, and the problems in the -- across the country as well with regard to the municipal markets and so on.

And the point I made over -- the point that was made over in budget is this, that we had the administration come out with a stimulus plan making certain projections as to where we were going to be if we took action, spent ($)750 (billion) -- actually it was $787 billion on the stimulus as far as unemployment rates. And I had certain charts -- I don't have them up here, and where we would be if we didn't do anything, the line, of course, being higher.

Well, now we are in the month of May and the charts that I had over in budget show that in actuality we are -- higher unemployment rates at 8.5 percent in March and 8.9 percent in April. So the rate of job loss is considerably worse than what the president and the administration projected with or without the stimulus. In other words, even though we did the stimulus and we -- they said that would be an improvement, actually, things turned out worse -- despite doing that. The CBO director made the comment that, well, stimulus may -- takes a little time to get moving out in '09. You may see some of the effect in 2010, but then I raised -- the rejoinder to that of course was that most of the money won't come out until 2010.

So here is my question to you. Congress has already taken decisive bold actions, the other side of the aisle would argue, with regard to trying to get the economy going, trying to help municipalities, of trying to help states through the stimulus. Is it your opinion that the stimulus as the statistics showed in budget was of no effect and actually did more harm than good? Or is it that it was good and that maybe we should -- before we take any of the action that is suggested here by the chairman on the short term on some of these expenditure items, maybe we should just wait a little while and give the stimulus a little bit more time to take effect? Which is it, it didn't really work, or we need to give it a little bit more time?

MR. APGAR: I can comment on how critical the stimulus money was in balancing the states' -- budget when the legislature just completed their work two weeks ago and tell you that it was absolutely critical. And the support for both credit enhancement as well as the liquidity support is to address a different problem, and that problem is with respect to being able to borrow money to fund infrastructure projects. So I would say that is a problem that has yet to be addressed.

REP. GARRETT: But that was -- remember, that was part and parcel of the package that the administration sold on the stimulus package. The stimulus was not just to say that we're going to put in ground in the shovel projects, which as you know, turned out to be only 3 or 4 percent of the overall package.

It had much -- it has a much broader goal in mind, one of which was the overall economic picture at the time, the tight credit market, the liquidity issues as well. So it was supposed to be doing a number of those things. I only hit on the one point here with the unemployment numbers. The other numbers that CBO would say, you actually have seen a loosening of them.

So is it that maybe they did some good in, for your panel what have you, but maybe what we need to do is just give it a little bit more time. And so we don't have to take this action now and put this action aside a little bit until we see whether it kicks in as CBO indicates it may kick in next year.

MR. WILCOX: So our view is that the stimulus package is, in combination with the other policy actions, having an important effect now, along with some of the financial rescue steps that have been taken by the Federal Reserve.

I think it's up to the Congress as to whether more should be done.

REP. GARRETT: Okay. Thank you. I appreciate it. Thanks.

REP. FRANK: Time has expired. The panel is dismissed. We appreciate it. I think it's been a very useful hearing, and we will reconvene probably in about 20 to 30 minutes with the next panel for probably an hour-and-a-half.


The hearing will reconvene. I apologize, there was a -- an unexpected resolution involving another controversy; unrelated. It took more time than it should've, and I apologize and appreciate the indulgence of the witnesses. We will go till about 2:15, so that gives us a good deal of time.

And we will get right into the witness list, as soon as I find it. And I have it now, and we'll begin with Michael Marz, who's vice chairman of the First Southwest Company, on behalf of the Regional Bond Dealers Association.

Mr. Marz.

MR. MARZ: Good afternoon. Thank you, Chairman Frank, Ranking Member Bachus, and members of the committee. I'm pleased to be here.

The Regional Bond Dealers Association was formed a little over a year ago to represent the interests of Main Street securities firms active in the U.S. bond market. The footprint of regional or non-Wall Street securities firms in the municipal market is expanding. As a result of the financial crisis, a number of securities firms that previously were mainstays in the municipal market have shuttered, merged, or simply left the business.

Other market participants, as a result of deleveraging and continued financial stress are less able to offer the market liquidity they once provided. During the height of the crisis last fall, many municipal bond issuers and investors came to depend on regional dealers for a substantial amount of underwriting and secondary market liquidity so desperately needed at the time.

We believe the role of the regional bond dealers in the municipal market will continue to expand and we appreciate the opportunity to present our views. The RBDA supports all four bills the committee is considering to help municipal bond issuers and strengthen market regulation.

Taken together, this legislation represents a reasonable, targeted, and transitioned response to problems bond issuers are facing as a result of the financial market crisis.

In the interest of time, I'm going to focus my remarks on two proposals, the Municipal Market Liquidity Enhancement Act, and the Municipal Advisors Regulation Act. The Municipal Market Liquidity Enhancement Act would primarily help two categories of municipal bond issuers, those who still have outstanding auction rate securities, and those who have variable rate demand notes. As the committee knows from your examination of the auction rate market last fall, the large majority of periodic auctions that are the sole source of liquidity for auction rate securities investors continue to fail on a persistent basis.

Investors are stuck holding securities they do not want and cannot sell, and issuers in many cases face extraordinarily high penalty rates on their borrowing. The buyback settlement that some dealers have reached with enforcement agencies helped individual auction rate investors, but they really only transferred the illiquidity problem from investors to dealers.

The real solution to the auction rate dislocation is to get the remaining auction rate securities restructured on a more permanent basis. The hurdle to doing that for many issuers is the inability to obtain bank liquidity facilities at a reasonable cost.

Issuers of variable rate demand notes face similar constraints. Many (VDRN ?) issuers face extraordinarily high borrowing rates on their debt not because of their own credit problems, but because of problems with their liquidity banks or bond insurers. The problem is often magnified for state and local governments who issue (VRDNs ?) in combination with interest rate swaps.

The Municipal Market Liquidity Enhancement Act will address these issues by allowing the Federal Reserve to temporarily assume the role of a liquidity bank for VRDN issuers. State and localities with auction rate securities outstanding could use the Fed facility to convert those bonds into low-rate (VRDNs ?), and (VRDN ?) issuers, whose liquidity banks are causing them to pay inordinately high rates could use the facility to lower their borrowing costs.

We are encouraged that members of this committee find value in the approach offered by this legislation. We strongly support the Municipal Advisors Regulation Act. As you know, there exists a major gap in municipal market regulation. Most importantly, unregulated financial advisors, swap advisors, brokers of guaranteed investment contracts, and other parties that play a vital role in advising state localities on bond issuance and other activities currently fall completely outside of this jurisdiction of the Securities Exchange Commission and all other regulatory bodies, and as a result escape accountability for any misdeeds. These regulations relate to conflicts of interest, professional qualifications and standards, capital adequacy, fair dealings, books and records, and a variety of other areas.

Financial advisors can serve a vital function in a bond deal, and their actions can have significant implications for issuers and investors. Indeed there have been numerous examples in recent months of conflict of interests, or poor advice from FAs that have negatively affected state and local bond issuers.

Even honest and qualified FAs should be subject to accountability standards which provide fair and measured approach to regulation that is consistent with the scope and degree of regulation for other market participants.

The Municipal Advisor Regulation Act would address the problem by giving the SEC regulatory and enforcement authority over municipal financial advisors. The bill would weed out rogue and unqualified FAs, and would help ensure that the advice states and localities receive is sound and in the best interests of issuers.

The RBDA also supports the other two bills that are the subject of this hearing, the Municipal Bond Insurance Enhancement Act and the Municipal Bond Fairness Act. I'd be happy to talk about these proposals during the question and answer session.

Thank you again, Chairman Frank, and Ranking Member Bachus, other members of the committee, for the opportunity to be here and for your initiative to help improve the municipal securities market. I look forward to your questions.

REP. FRANK: Thank you. And next we will have Ms. Laura Levenstein, who is the senior managing director of Moody's.

MS. LEVENSTEIN: Good afternoon. I'm Laura Levenstein, senior managing director for the Global Public, Project and Infrastructure Finance Group at Moody's Investor Service.

This is the group at Moody's responsible for among other things assigning ratings to municipal bonds. On behalf of my colleagues, I want to ask -- to thank the commission for this opportunity to provide Moody's views on proposals in the bill concerning rating agencies and municipal bond ratings.

We understand that the bill if adopted would require every nationally recognized statistical rating organization to clearly define its rating symbols, apply them consistently for all types of bonds, and have its credit ratings address the risk that investors won't receive payment in accordance with the bond's terms of issuance.

Broadly speaking, we understand that the bill seeks to promote ratings comparability between municipal and non-municipal bonds. Since Moody's first began rating municipal bonds in 1918, we have sought the views of municipal market investors and issuers on which attributes make our municipal bond ratings most useful to them.

For many years, participants in the municipal market told us that they wanted our ratings to draw finer distinctions among municipal bonds than would be possible if global ratings were assigned to such bonds. This is because historically many municipal bonds have had lower credit risk when compared to Moody's rated corporate or structured finance obligations. It was not until 2008 that a larger portion of the market indicated a desire for greater comparability between municipal and non-municipal ratings.

Taking into account these views, in early September 2008, Moody's announced plans to recalibrate our long-term municipal bonds to our global ratings. In mid-September of 2008, events unrelated to our announcement triggered extraordinarily severe dislocation in the credit markets.

Because of the turmoil that resulted from that dislocation, after talking with some market participants, we decided it would be prudent to suspend the recalibration process until the market stabilized. We were concerned that pursuing our plans during such turbulence could unintentionally lead to confusion or further market disruption. As credit markets have remained volatile in recent months, we have continued the suspension, but we look for an appropriate opportunity to implement this recalibration.

We remain committed to implementing our plans. We continue our dialogue with market participants, and we are monitoring market conditions to find an appropriate time to proceed. The draft bill therefore mandates a rating approach that is consistent with the approach we plan to adopt in response to market feedback.

I would like to take this opportunity however to raise a few issues about the draft bill that Congress and/or the SEC may wish to consider. These include among others the risk that the bill would effectively freeze recently expressed market preference in legislation, thereby making it difficult for NRSROs to compete and develop their practices as the market evolves.

I would also note that the draft bill represents the first substantive regulation of the content of credit opinions and rating methodologies. We have long believed that maintaining the independence and integrity of the content of ratings is critical to the effective functioning of our industry.

We would hope that this bill does not open the door to compromising that independence. Moody's is strongly committed to meeting the needs of investors, issuers, and other market participants with respect to municipal bond ratings.

We welcome the opportunity to work with Congress and other policymakers to achieve these goals. Thank you. I'm happy to respond to any questions you may have.

REP. FRANK: Thank you.

Next, Keith Curry, who is managing director of the PFM Group.

MR. CURRY: Thank you, Mr. Chairman, members of the committee. My name is Keith Curry. I'm the managing director of Public Financial Management, or the PFM Group, and past president of the National Association of Independent Public Finance Advisors.

In addition, I bring the perspective of also being the mayor pro tem of the city of Newport Beach, California. For nearly 22 years, I've been a financial advisor to state and local governments throughout the nation, advising on more than $14 billion in financings.

Let me say on behalf of PFM, the largest independent financial advisory firm in the nation, and on behalf of the members of NAIPFA, that we support your efforts to promote transparency and accountability in the financial advisory industry.

We are proud to note that in the 34-year history of PFM, and in the 20-year history of NAIPFA, our firm and NAIPFA members have never been associated with any of the scandals that have rocked the municipal market. Indeed, NAIPFA members have long ago adopted campaign contribution limitations to eliminate pay-to-play. We have established a test for professional competency leading to the certification of practitioners as Certified Independent Public Finance Advisors, and we have a strong code of ethics.

We would offer the following comments for your consideration. PFM does not quarrel with the proposal to require municipal finance advisors to register with the SEC, although it's appropriate to emphasize that there's not a demonstrated need for registration and regulation to protect investors.

As far as I know, nearly every publicized instance of abuse of investors or municipal issuers in the last decade has involved broker dealer firms which were already registered with the commission. We believe that the committee draft bill has taken the correct approach in looking to the commission to provide regulatory oversight of municipal financial advisory professionals.

The SEC fully understands the debt offering process and the roles which professionals play. We urge the commission to resist the brokerage community's predictable efforts to subject financial advisors to the rules of the Municipal Securities Rulemaking Board, or MSRB. The MSRB is a captive of the brokerage firms, who on one day compete with independent financial advisors for the role of advisor, and on the another day seek to obtain the highest rate of interest for their investor clients as the underwriters of municipal debt.

It is the local governments and their taxpayers who are best served by preserving the strong voice of an independent advisor. We applaud the committee's draft bill in focusing regulatory oversight on the maintenance of professional qualifications and fair practice standards for all financial advisors.

This elevates the professionalism of the entire municipal finance community. We also endorse SEC rules to avoid conflicts of interest and to eliminate improper influence of political contributions.

Our firm individually, and NAIPFA for the independent advisors as a whole, have urged these measures. Unfortunately, when NAIPFA went to the MSRB recently to seek stronger rules against broker dealers taking both sides in municipal debt offerings, for example serving as financial advisor and then flipping out to underwrite the same transaction, those proposals were rejected by the MSRB. PFM believes that the committee draft bill should be properly strengthened by extending the duty of care standard to all securities professionals serving as municipal financial advisors, not just those who would be newly regulated under this bill.

By historical experience, the danger of abuse and dishonesty is presented by those who are already registered with the SEC as brokers. All those participants in the securities process who serve as financial advisors should be bound by the fiduciary principles of this bill, particularly those who are registered under Section 15 of the Exchange Act.

It is said of this proposed landmark legislation that it is intended to level the playing field in municipal finance. That goal will fail if brokerage firms are excluded from the duties which are imposed on their competitors. Undoubtedly, special interest groups will be here to seek exemption for the banks, the financial advisors that operate in a limited territory, the firms that have a limited number of transactions, and others.

We urge the committee to resist these pleas. The municipal finance world is made up of a universe of different players, but they should all have the same ethical requirements and the same professional duties.

In summary, we support the efforts to ban pay-to-play, to provide for standardizing licensing and competency assessment process, to prohibit practitioners with prior records of fraudulent activity, and to ensure that a standard of professional care is established for the industry. We encourage the committee to pay special attention to the phase-in period so as to not disrupt the municipal finance industry, or to delay planned state and local financings.

Be assured of our continued partnership to improve transparency and fair operations of the municipal securities market. Thank you, Mr. Chairman.

REP. FRANK: Mr. Alan Ispass, who is the vice president and global director of Utility Management Solutions at CH2M Hill.

MR. ISPASS: Thank you, Mr. Chairman, members of the committee. I appreciate the opportunity to be here this afternoon on behalf of CH2M Hill to present our thoughts on the municipal bond market.

CH2M Hill is a global full-service engineering, project development, and project delivery firm with 26,000 employees worldwide. We're headquartered in Denver, and have offices throughout the U.S., and throughout the world. The significant part of CH2M Hill's core business is to help cities and counties plan and design and construct major drinking water, wastewater, storm water, and transportation infrastructure projects.

The practice that I lead includes a financial services team that helps municipal clients address funding and financing issues in the water sector. This work includes conducting cost of service and financial planning studies, and also assisting clients to identify and secure funding for their capital improvement programs. We also serve in the role of consulting engineer, conducting independent analyses and certifications that are related to a client's financial situation for inclusion in official offering statements to municipal bonds.

These bonds fund projects which provide essential services such as safe water for drinking, and for fire suppression, wastewater collection and treatment to protect the public health and the environment, and storm water control to mitigate the impact from flooding. These projects also return a significant amount of economic benefit to communities, estimated to be almost 9 to 1 for every $1 spent on sewer and water projects, a $9 benefit according to a report done by the U.S. Conference of Mayors last year.

During the past year, however, we have observed firsthand that the global financial crisis has dramatically impacted our client's ability to effectively plan and finance their capital programs.

The utilities have had significant declines in revenues due to foreclosures of residential properties and reductions in commercial and industrial water use. Many wastewater agencies are especially hard-hit as they strive to meet federal mandates to provide greater control of combined sewer overflows and sanitary sewer overflows. And of course, this is all occurring at a time when an estimated $600 billion of investment is needed in our nation's water and wastewater infrastructure to continue to protect the public health and the environment.

These financial concerns have been exacerbated since the fall of 2008. For years, utilities have been able to count on ready access to long-term municipal bonds to finance their capital improvement programs with interest rates often in the 4-5 percent range.

However, accessibility to the bond market is now a problem for many utilities. Many of our clients have been informed by their financial advisors that utilities with credit ratings lower than AA may not receive bids if they went to market, or the bids would be at a very high interest rate, very possibly causing unaffordable increases on customers' water and sewer bills.

In the past eight months, we have seen some clients that have previously had no problems issuing long-term debt unable to issue bonds. Also the downgrading of bond insurers has caused public utilities with less than an AA bond rating to hold off on going to market, delaying needed capital improvement projects, and putting commitments to meeting project and regulatory deadlines at risk. And even more troubling is the downgrading of bond insurers that has put some utilities in technical default of their current bond covenants for existing outstanding debt, because in some cases these covenants require that utilities maintain bond insurance with a specified credit rating or put significant funds into reserve.

Such situations put a cloud over the ability of these utilities to issue additional debt for future needs. Without doubt, the stimulus package provided some important financial assistance that is helping to fund some water and wastewater projects through the $6 billion that is being administered through the existing State Revolving Fund program, the SRF.

However, the $6 billion is only a small fraction of the country's water and wastewater infrastructure needs. As an example, for the substantial needs of funding, this year the state of Arizona received 300 applications for water and wastewater projects totaling more than $1 billion in project value.

They only had $80 million in stimulus funds available to give to those projects. But based on the priority of applications, the state expects to be able to provide funding for only 51 of those 300 water and wastewater projects.

Likewise, the state of Virginia received 240 applications for their $20 million in funds for drinking water projects. However, the state will only be to fund 20 of the 240 projects. In light of the billions of dollars in need beyond funding available through the traditional SRF programs and funds made available through the stimulus, it is crucial that there be a robust municipal market -- municipal bond market that can provide access to municipal borrowers at reasonable rates.

Given the substantial financial challenges in the market today, the proposed Municipal Bond Insurance Enhancement Act of 2009, represents an important step forward. By providing up to $50 billion in reinsurance over the next five years, it provides a mechanism for allowing many municipal borrowers with less than top credit ratings to move forward with their capital programs.

The specifics on eligibility and the cost of the risk-based premiums that will be detailed if the reinsurance program moves forward will be critical in determining how broadly the relief offered by this legislation will be felt throughout the municipal utility sector. From our vantage point however, as consultants to many water and wastewater utilities throughout the United States, the passage of the Municipal Bond Insurance Enhancement Act could be crucial to providing continued access to the municipal bond market, and for providing sustainable infrastructure to protect the public health and property and enhance the environment and encourage economic growth. Thank you.

REP. FRANK: Thank you. Next, Sean McCarthy, who is president and chief operating officer of the Financial Security Assurance, Inc.

MR. MCCARTHY: Chairman Frank, Ranking Member Bachus, and members of the committee, my name is Sean McCarthy, and I'm president and chief operating officer of Financial Security Assurance Holdings, better known as FSA.

FSA provides financial guaranty insurance for municipal and global public finance obligations. We appreciate the opportunity to testify on the chairman's legislation, which will provide reinsurance capacity for qualified municipal bond issuers and insurers, and establish a temporary liquidity facility for variable rate demand bond obligations.

Such programs will provide much needed aid to the states and localities that depend on these sources of funding, to provide municipal services and build infrastructure which is a critical part of municipal finance role. It will also increase the capacity to the bond insurance industry, and facilitate additional bond issuance. As you're well aware, the market for these state and local government bonds has been adversely impacted by the current credit crisis and lack of a unified regulatory authority. Additionally, the market is currently underserved by primary bond insurers due to the downgrades or failures of five of the original seven primary bond insurers.

Thus, currently there are two active providers, ourselves, an assured guarantee, and one new company owned by Warren Buffett which has participated selectively, and three other companies which are working currently to enter the market. Further, availability of reinsurance capacity has been significantly reduced over the past two years for the same reasons the primary guarantors were affected.

Although economic conditions have stressed local government bond credits, the problems facing them are more centered on the lack of liquidity in the market. These credits are not troubled credits, and across the spectrum generally remain sound investments.

A comparison of the large spread differences between municipal and wider-spread corporate and asset-backed bonds confirms municipal's higher creditworthiness. Therefore, the illiquidity in today's municipal market is largely the result of problems elsewhere in the debt capital markets, and this circumstance will not correct itself without federal assistance.

Just as liquidity is a key source of relief, federal support of the bond insurance companies through the provision of credit capacity in the form of reinsurance is necessary for state and local government borrowers seeking to raise necessary capital to continue their operations. The creation of an Office of Public Finance in the Treasury Department to oversee the reinsurance program would help restore investor confidence in local government bonds, and generally promote the return of liquidity to the market. Additionally, it is an effective way to assist municipal bond insurers in obtaining the necessary capacity to satisfy market demand and encourage private sector investment, all the while maximizing the government investment without the direct use of taxpayer dollars.

It is especially important to maintain private competition in the municipal bond insurance industry by allowing participation in such programs based on criteria that do not discriminate against companies that have -- continued to right the business, and allow participation for all bond insurers that are subject to state regulation. The mandatory divestment of reinsurance program after five years also prevents the private industry from relying on permanent government assistance, and will promote responsible behavior among municipal bond insurers. Treasury's federal reinsurance vehicle also would facilitate the diffusion of risk currently on the balance sheets of the bond insurers.

We support the creation of such a vehicle and believe that the risk-based premiums under such a program should be based in part on sound underwriting standards, ensuring that insurers of various credit qualities can participate in this program in a manner that protects the interests of the American taxpayer. Such a program should be attractive to Congress and Treasury because it does not require the current outlay of federal funds and would limit federal reinsurance risk exposure in accordance with criteria adopted for the insurance program. We believe that Treasury should look at the FDIC deposit insurance program for guidance in creating such a program, whereby long-term costs are neutralized and charged back to the participants.

And now returning to the issue of liquidity, we support the exercise of existing power of the Federal Reserve and Treasury under TARP, the Term Asset-Backed Securities Loan Facility, TALF and other provisions of the federal law with the emphasis on one, new issues of local government bonds, i.e., not financings or refundings, and two, restructuring of existing auction rate and variable rate government bonds. Specifically, we support the Municipal Liquidity Enhancement Act to provide a temporary liquidity facility for variable rate demand obligations, permitting the Federal Reserve to create a new liquidity facility that will ease the burden on interest costs on state and local securities.

Most variable rate demand bonds --

REP. FRANK: Mr. McCarthy, I'm going to have to ask you to wind it up. We're about -- you've already gone a minute over. If you can --


REP. FRANK: -- get to a conclusion fairly soon.

MR. MCCARTHY: Thank you for introducing this important legislation which will provide much needed relief to state and local governments around the country. We appreciate the opportunity to appear before you this afternoon. I will be pleased to respond to any questions.

REP. FRANK: Thank you. And next is Mr. Bernard Beal, who is the chief executive officer of M.R. Beal & Company, and he is testifying on behalf of The Securities Industry and Financial Markets Association.

MR. BEAL: Thank you. Good afternoon, Chairman Frank, Ranking Member Bachus, and members of the committee. My name is Bernard Beal, and I'm the chief executive of M.R. Beal & Company, and vice chair of The Securities Industry and Financial Markets Association, SIFMA. I'm pleased to have the opportunity to testify before you today on behalf of SIFMA on these important pieces of legislation that address the critical issues for the municipal securities markets and its participants.

We applaud your ongoing leadership and the bold steps that you're taking to stabilize this vital sector of the financial market. While many sectors of the municipal market are regaining health, some areas have been unable to regain their footing and seek assistance in the capital market. Many lower rated state and local government insurers are facing a critical need for reliable liquidity facilities and long- term credit enhancement, and the lack thereof is making it difficult for them to bring some transactions to market. The legislation that's been the subject of today's hearing offers constructive solutions to the assistance that state and local issuers have in gaining access to the market, and address important regulatory and rating matters that have in fact persisted for years.

With regard to the market access issues, we support these temporary measures and offer suggestions to ensure efficiency in restoring and spurring market activity with the least amount of direct federal involvement. We also support the provisions regarding regulating unregulated financial advisors, which generally are consistent with the MSRB's rules that govern regulated broker dealer members who engage in the same financial activities today.

I'll address each of the proposed bills with a focus on the benefits that they provide to municipal market participants. First, the municipal advisory regulatory act; SIFMA supports the proposed legislation to regulate independent municipal financial advisors who have not been subject to any regulatory oversight and have operated unfettered in the market for years.

In early April of this year, an MSRB report found that 73 percent of the financial advisors that participated in at least one primary market transaction in 2008 were not subject to MSRB regulation. This legislation would fill the gap that is taking place in the regulation, and it would protect issuers and investors alike, and help restore confidence in the municipal security market. The legislation will also help to level the playing field for all market participants who offer financial advisory services, and we would feel require currently unregulated financial advisors to be held to the same high standard which regulated broker dealers currently adhere.

While we support this legislation, we caution against duplication in the regulatory regime. Currently, the MSRB is the body that drafts the rules for the municipal securities market based on its deep understanding of the products and practices of the municipal securities dealers, and FINRA is responsible for enforcing those rules and regulation.

SIFMA recommends that in defining the SEC's role in the regulatory -- in regulating financial advisors, that the committee recognize the role of the MSRB and its regulatory framework, and consider the existence of the current responsibility of the regulator. In addition, while the fiduciary standard of care is defined under most state laws, the municipal finance market is a national one, in which bankers, advisors, trustees from all 50 states can work on transactions in all 50 states. Thus a single standard of care under federal law would regulate municipal financial advisors and at the same time establish a uniform standard which would apply throughout the country, regardless of the home jurisdiction of the advisor or the transaction.

Second, the municipal securities rulemaking -- the Municipal Bond Insurance (Enforcement ?) Act of 2009, SIFMA supports the proposal to establish a temporary federal government reinsurance program for transactions covered by primary credit market enhancement policy provided. This model provides most benefits to the insuring community and to investors alike without direct federal involvement in state and local debts issuance. This program will help some of the bond insurers currently in the market as well as any new entrants to it, because by reimbursing their losses the program will increase the insurance capacity for those insured.

SIFMA endorses creating the Office of Public Finance within the Department of Treasury. This office will provide a point of contact for the municipal securities industry for non-regulatory matters, and it will help foster communication among state and local issuers with the federal government, and provide municipal market stakeholders with an informational resource within the government.

I will conclude my remarks by saying that we're in support of the other two legislations as well, and I'd be happy to take questions regarding them. Thank you.

REP. FRANK: Thank you. Next, Mary Jo Ochson, who is the senior vice president -- by the way, we're going to get votes in about 15 or 20 minutes, and that will end us. Mr. Watt and I will ask so you'll probably be -- you'll be out of here in about 20 minutes is my guess, 25 after we vote. We have three witnesses, and two questions; 25 minutes.

MS. OCHSON: Okay. Good afternoon. Thank you, Chairman Frank, and members of the committee for the opportunity to appear today. I commend your efforts to address the recent disruptions to municipal markets.

I am the chief investment officer for the Municipal Investment Group at Federated Investors. I have been investing in municipal securities at Federated for over 27 years, and I'm a former member of the Municipal Securities Rulemaking Board.

Today Federated manages $3.4 billion in municipal bond funds, and $36.5 billion in tax-exempt money market funds. As investment advisor for our fund shareholders, Federated is vitally interested in the health of the municipal market.

Before we get into our thoughts on the specific bills, let us consider some background on the municipal money markets. The development of the municipal money markets has increased the amount, and has reduced the cost of short-term financing available to state and local governments, hospitals, school districts, and other muni borrowers.

Tax-exempt money market funds have been the driving force in this development. The variable rate demand obligations, or VRDO, is one of the most prominent security structures in the municipal money markets.

Its structure as a floating-rate security with the liquidity facility meets the needs of the money market funds, and the low-cost financing goals of the issuers.

Some VRDOs have become ineligible investments for money funds because of the deterioration in the credit quality of many banks and bond insurers.

Interest costs on those VRDOs have increased raising the cost to capital to muni insurers whose VRDOs now reside in the hands of their banks and are thus called "bank bonds." In addition, new VRDO issuance has decreased, as fewer banks are willing to provide the necessary liquidity facilities. Markets for municipal notes however are functioning comparatively better, but their limited number of issuers may face market access limitations.

Moving on to four proposals, it appears that the Market Liquidity Enhancement Act would create a helpful vehicle to preserve the liquidity and lower the cost of capital to issuers struggling with the bank bond problem, or issuers who may not have market access to issue cash flow notes. The act will provide a purchaser the last resource for such issuers. We agree with the approach of letting issuers of cash management notes first come to market, then if they are unable to sell their notes, invoking the support facility.

More broadly we applaud the many federal efforts to support the credit quality and functioning of the banking system. Steps to support the banks directly support the functioning of the municipal money market, yet we encourage the committee and the federal banking regulators to consider steps that would increase the availability and lower the cost of liquidity facilities to sound borrowers.

Turning to the Municipal Bond Fairness Act, we do not oppose the shift towards one global scale, but we do have some suggestions. Credit ratings are meant to indicate the risk of default and recovery in the event of default. Regardless of whether the bond is issued by government or a corporation, we suggest that the concept of recovery in the event of default is specifically added to section 1A of the bill.

Although we support the bill, we urge the committee and all the nationally recognized statistical rating organizations not to rest on an oversimplified approach to making municipal ratings more consistent with corporate ratings, based solely on comparative default statistics. Although muni defaults are rare, the default rate is not zero. During the Great Depression and the early '70s, muni defaults or the risk of default rose sharply. Lastly, qualitative or forward- looking factors such as variations in budgeting and unfunded pension and health care obligations have material effects on municipal credit quality.

Moving on to the third piece of legislation, we support the objective of the Municipal Bond Insurance Enhancement Act to increase the capacity of insurers to offer bond insurance to the municipal bond market. And finally regarding the Municipal Advisors Regulation Act, to the extent that this will reduce the situations where unsound advice may harm the creditworthiness of municipal issuers, we support the spirit of the proposed legislation.

Thank you again, Mr. Chairman. We are ready to help you as you strive to restore and maintain the vibrancy of this very important market.

REP. FRANK: Thank you. Next, Mike Allen, the chief financial officer of Winona Health on behalf of the Healthcare Financial Management Association.

MR. ALLEN: Thank you, Chairman Frank, members of the committee. I'm Mike Allen. I'm chief financial officer of Winona Health, a 99- bed community-owned not-for-profit health system serving over 50,000 residents in the state of Minnesota. I appreciate the opportunity to be here with you this morning representing the Healthcare Financial Management Association or HFMA in discussing the impact of recent municipal bond financing issues for not-for-profit hospitals.

HFMA is a professional membership organization with more than 35,000 members working in a variety of health care settings. Our chief financial officers were heavily involved in developing the following comments. So why is access to capital crucial for not-for- profit hospitals? Providing care in a hospital setting has always been a capital intensive endeavor. However, the need for affordable capital has never been greater due to three reasons.

First, hospital facilities are rapidly aging. Over the past two decades, the average age of hospital facilities has increased by 25 percent. Second, there are constant advances in diagnostic and treatment technology that require hospitals to invest large amounts of capital and new equipment, and ensure that patients have access to the most up-to-date care available.

And third, hospitals are making considerable investments to reduce cost and pave the way for wider health care reform. This includes implementing fully integrated electronic health records to enhance patient safety and increase the efficiency of care provided.

Few, if any, not-for-profit hospitals can fund their capital requirements solely though ongoing operations, and due to our tax- exempt status, we are prohibited from accessing equity markets. That is why it is critical that we have access to efficient debt markets.

Access to an efficient tax exempt bond market is very important to our industry, and by extension to achieving the nation's health care goals. Current market conditions make it difficult for all hospitals to access the market and for some it's impossible.

Today my hospital will have difficulty accessing credit markets at a reasonable rate. There are some signs of improvement, and the rates have stabilized albeit at a higher level.

Here are the HFMA recommendations. On liquidity facilities, based on the encouraging signs of our economy, at least in the beginning here, our members urge this committee to do no harm to that recovery. Liquidity facility solutions that are brought to the market should first and foremost be optional and the preservation of a private market should be maintained. We also urge you to keep the scope of the liquidity facility narrow and perhaps limited to only existing bond issues.

Second, in municipal bond reinsurance, our members believe that federally backed municipal bond reinsurance program will be beneficial to hospitals if it were simple and properly designed, and the program should be short-term, and should be available for outstanding debt issues only. On credit enhancement, our members recommend that the underwriting processes of the collateral requirements, the covenants, and the usage constraints of the existing FHA 242 programs be reviewed to meet the current needs of the market. While the program has been in place for a number of years, providers have not accessed this credit enhancement option due to the extremely long underwriting and approval periods, and the onerous collateral provisions.

We also ask that the Federal Home Loan Bank program that grants members permission to issue standby letters of credit for tax-exempt bonds be extended beyond its current December 31, 2010 expiration date, and relax the requirement that participating banks post collateral equal to 100% of the letter of credit amount. We cannot overstate the impact that simplifications will have on hospitals, particularly small to mid-sized facilities that are not integrated with the larger health system.

Regarding financial advisors, our members would not recommend additional federal regulation, but prefer to see a private sector solution, and if that does not work, then regulation to follow. Similarly with rating agencies, our members would not recommend additional regulation and try to force an artificial consistency between health care and other industry credits.

The health care business models are fairly unique in that their income statements are extremely dependent on the federal and state legislative processes. Further, the industry is about to go through a period of sweeping health care reform.

Eighty-five percent of all the hospitals are not-for-profit. That's more than 4,000 by my count. These organizations play a key role in their communities acting both as a health care safety net for the underprivileged, and an economic engine for their communities. In addition to being a major employer in most communities by providing jobs with stable wages and benefits, the American Hospital Association estimates the hospitals spend $304 billion on goods and services annually.

In order for health care reform to be successful, the nation's not-for-profit hospitals need to be financially healthy. Facilitating access to stable and inexpensive sources of capital will reduce the cost of health care ensuring access to hospital care for all patients. Further, without reliable funding, it will be difficult for providers to implement electronic health records and take the next steps needed to facilitate health system reform.

Chairman Frank, I thank you on behalf of the HFMA's 35,000 members, and for your colleagues who are hearing this testimony, and wish you the best in making the appropriate decisions to support the health care needs of our communities across the nation.

REP. FRANK: Thank you. And finally, Mr. Sean Egan, who is managing director of Egan-Jones Ratings.

MR. EGAN: Thank you very much. The charts that were presented -- before I get to my written comments, I have just a few points. The charts that were presented earlier say it all.

In the municipal area the probability of default and the loss, given default, are much better in the typical muni areas than in the corporate area. The problem is under the current structure issuer- paid rating firms are paid twice, once by the issuers, then a second time by the monoline insurance companies, and therefore, the issuer- paid rating firms have an incentive for lower ratings.

Furthermore, the proposed legislation cannot and will not change the fact that that ratings are opinions. And I encourage you to look at Section 2A on page three of the proposed legislation. It provides a massive loophole.

You might ask why some independent rating firms do not enter the market in a larger way. Egan-Jones is considered to be the leading independent rating firm.

We rate a number of muni insurers, but not as much as some of the issuer-paid rating firms. We rate some sovereigns, but for the most part it's difficult to support a widespread effort based on the investor-paid model.

There is however a solution. Joe Grundfest, an ex-SEC commissioner suggested a BOCRA-type system which would provide the support for other rating.

Now to my prepared comments. Egan-Jones is an NRSRO, but all of the proposals under consideration at this hearing are directly related to the credit collapse, and the credit collapse is directly related to investors losing faith in the credibility of rating firms.

In the municipal bond market however, a large part of the current problem stems also from the financial deterioration of the municipal bond issuer -- insurers or monolines as they are sometimes called. The bond insurers' problems arose because they went from enhancing relatively safe state and local obligations to complex asset-based credit instruments which have been defaulting around the world for the last two years.

From the credit quality perspective, it has always been the case that public securities have both a low probability of default, and an extremely low level of anticipated loss even in the event of a default. Nevertheless, it is accurate to point out that as the committee did in its Statement of May 14, 2009, that "Municipal bonds with equal or lower default rates than corporate bonds have been given lower ratings by the major NRSROs."

What has happened, unfortunately, is for years, state and local issuers have been told that they should purchase insurance which they really did not need. Ironically, these public entities now find themselves scrambling to maintain the marketability of the securities due to the financial weakness of the very companies which they thought to be enhancing those securities.

Because of the shift away from their traditional and less-risky business models, Egan-Jones issued a rating report in 2002 that MBIA, which is the largest of the monolines, did not merit the AAA rating which Moody's, S&P, and Fitch accorded them.

Our competitors kept these ratings, these companies rated at AAA until 2008. Given the state of the monoline insurers, certainly Congress and the administration should be working with the state insurance commissioners to develop federal support programs.

TALF, TARP, and numerous related government assistance programs are in place for commercial paper, interbank deposits, and a broad range of asset-backed securities. One can argue about the justification, costs, and even structure of these programs, but there is no compelling logic for saying that some form of credit are eligible and others are less worthy.

My personal opinion is that these governmental programs -- and there is no doubt that they have helped to stabilize the situation -- must be viewed as dealing with only the symptoms of the credit crisis, rather than their cause. And the cause, as well enunciated in the recent report on regulatory reform of the Congressional Oversight Panel was as follows; if companies issuing high-risk credit instruments had not been able to obtain AAA ratings from the private credit-rating agencies, then pension funds, financial institutions, state and local municipalities, and others that relied on those ratings would not have been misled into making dangerous investments. Thank you.

REP. FRANK: Thank you. We're going to move very quickly.

Let me just ask Ms. Levenstein, I do agree when you talk about independence, that the investor pays, also an independence question, but beyond that -- you said you worry about your independence. You say in your introduction you were asked by investors and issuers to draw a finer distinction among municipal bonds which generally have had a lower credit risk when compared to Moody's-rated corporate or structured obligations, but the result of that was the reverse.

You say here that they had a lower credit risk, but every chart we've seen says that it came out the other way, that they were rated as being more credit risk than the corporate. Can you reconcile that for me?

MS. LEVENSTEIN: Yes, I can. I think by finer distinctions what we're referring to is a broader array of --

REP. FRANK: No, I'm not asking you about the finer distinction, but you're saying the motivation here was that municipal bonds generated a lower credit risk when compared to Moody's-rated corporate or structured finance. I mean, are you acknowledging that in fact municipals were rated lower than they should have been if they had been corporates?

MS. LEVENSTEIN: Municipals were rated on -- based on --

REP. FRANK: No, I'm just -- that's not the -- I understand how you rate them.

MS. LEVENSTEIN: No, they're not comparable.

REP. FRANK: You say here that they generally have -- you're the one who compared them. You say they're not comparable, then don't compare things, and tell me they're not comparable.

I'm reading from your testimony. "Municipal bonds which generally have had lower credit risk when compared to Moody's-rated corporate or structured finance obligations." Is that not an acknowledgement that they are rated lower than bonds that have a higher default risk?

MS. LEVENSTEIN: The municipal rating system is capturing different content.

REP. FRANK: No, would you please answer my question?

MS. LEVENSTEIN: They're not measuring the same thing.

REP. FRANK: Why do you say compared to? All right, but then -- you're not -- I understand they're not. But the effect of it is, you said it. I'm not putting any words in your mouth.

MS. LEVENSTEIN: If one were to extract --

REP. FRANK: You -- excuse me, I want you to tell me if I'm reading something wrong; which "Municipal bonds are generally at a lower credit risk when compared to Moody's-rated corporate or structured finance obligations.


No matter what the justification, whatever your reasons are, am I correctly reading this that you're saying that municipals are rated -- have less credit risk when you compare them to comparable rated bonds?

You are the one who said that. Am I incorrect in this?

MS. LEVENSTEIN: No, you're not.

REP. FRANK: Thank you. Ms. Ochson, you talked about, well, one reason not to do just defaults was that there were greater defaults or credit defaults in the '70s. I don't see those in the chart.

I've got the Moody's chart. Moody's-rated municipal bond defaults, actually they were 10 in the not-for-profit health care. So I can understand why health care may be a little nervous about this.

On my chart here 1,300 of the 8,500 issuers were municipal -- were health care but they had more than half the defaults, 10 out of 19. But I don't see this. What will it -- you say municipals were defaulting or threat of default.

Well, there's a big difference between a default and threat to default. Do you have a list of defaults in the early '70s on the municipals? I can't find it.

MS. OCHSON: No, what I said was there were many defaults in the Depression, and there are --

REP. FRANK: No, ma'am, you said the '70s.

MS. OCHSON: And I said there was increased default risk in the '70s.

REP. FRANK: No, you said -- I'm going to check the record. I believe you said default or risk of default. So you're now -- but to make it clear, you're not saying there were defaults in the '70s, there were risks of default, but not default.

MS. OCHSON: There was heightened default risk in the '70s would be --

REP. FRANK: But not defaults?


REP. FRANK: Okay. I believe that the record will show that you said it. Maybe I misheard it, but I take the affirmation that there were no such defaults.

Gentleman from North Carolina; we can move very quickly; and people can go to vote.

REP. WATT: Mr. Chairman, I think I'll pass except that I would like the gentleman on the far right to just tell me why the government would -- in writing, not today -- just tell me why the government would want to get into a reinsurance process that you testified, I thought, was not needed -- when the insurance was not needed in the first place?

So if you can just give me some information on that in writing that's -- I'll pass.

REP. FRANK: The gentleman from California.

REP. CAMPBELL: I'll ask questions for the record.

REP. FRANK: All right, the gentleman from Missouri. If you have questions, ask them; if you don't, no.

REP. : Yeah, I just wanted to make the comment that I think it's important that we try to help 501(c)(3) through the bill, and I think we do.

REP. FRANK: Yes, they are, and we'll talk about it. Now, the difference is in the full faith and credit, general obligations, but --

REP. : I understand.

REP. FRANK: Mutatis mutandis as we say. The gentleman from Missouri.

REP. : I'll pass, Mr. Chairman.

REP. FRANK: All right. Gentleman from Minnesota, quickly.

REP. KEITH ELLISON (D-MN): Thank you, Mr. Chair. I'll go quickly, I only have one question, and it's to whoever would grab it on the panel.

Perhaps the largest contributor to the current crisis in the municipal bond market was the troubles of many in the bond insurance firms and whose capital positions were severely undermined by losses in their structured finance book business. To prevent future problems of this sort, should we contemplate a sort of Glass-Steagall for municipal bond business that would prevent these bond insurers from going off and providing insurance on exotic securities when their municipal policyholders are left holding the bag if these debts fail?

Mr. McCarthy?

MR. MCCARTHY: I should probably start with that. I think it's a good question. Two things to note; the contemplated legislation here would consider that participation in the reinsurance program would be for companies that on a look-forward basis were only writing municipal bond insurance.

REP. FRANK: Yeah, that's correct. That was the condition.

MR. MCCARTHY: So number one, that would make sure that the risks that were endemic in asset-backed securities were not there -- being shared with the municipalities.

Second, the -- if you look at the municipal -- the problem with the some of the -- most of the municipal guarantors that got in trouble was really in the concentrated risk that they took with CDOs of ABS, so that they were really wrapping transactions that lost $0.90 on the dollar, or will lose $0.90 on the dollar.

Ourselves and others, Warren Buffett and the several other new entrants that are contemplating entering the space are really focused on putting credit enhancement in place for municipalities.

REP. FRANK: There I have to end it. I thank the panel. We appreciate it. If any of you want to supplement anything or respond to any comments that were made, the record will remain open.

I appreciate it. I'm sorry for the truncation, but it was very useful for us. (Sounds gavel.)


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