 This hearing will come to order and without objection, all members' opening statements will be made part of the record. The Chair notes that some members may have additional questions for this panel, which they may wish to submit in writing. Without objection, the hearing record will remain open for 30 days for members to submit written questions to these witnesses and to place their responses in the record. I want to welcome our two witnesses here today, but I will now recognize myself for five minutes to make an opening statement followed by the other members on the panel. Today, we're emphasizing the importance of interest rates. In a free market, interest rates are crucial. It's a crucial bit of information that tells a lot of people what to do, whether it's the investors, the savers, the spenders, consumers, whatever. But once it is interfered with and interest rates are artificial, it tends to mess things up. We talk a lot about monetary policy and the soundness of the dollar and the spending and monetizing of debt. Today, we're more or less concentrating on that aspect of monetary policy that deals with interest rates. How important is it? And has that whole emphasis on interest rates and this concession to the Federal Reserve that they have a duty and sometimes an unregulated duty to pretend they know what the interest rate should be? And this opens up a lot of questions. Who benefits and who suffers from this? Has it done any good? Is it a worthy effort even to try to pretend that we know what interest rates should be? And figure out exactly how much difficulty it has caused. From my viewpoint, I think that from the viewpoint of the marketplace, just as all prices, I want the market to set these prices. And we have been living now with a Federal Reserve for a hundred years and early on they were manipulating interest rates. It's hard to manipulate the supply of money or be the lender of last resort without getting involved in interest rates. And it's usually done with either trying to prevent a problem or to solve a problem. But if we look at history, especially in our last hundred years, we've had a lot of ups and downs. It hasn't been smooth sailing. The Federal Reserve is supposed to be providing for a sound dollar and making sure that prices are stable and that there's high employment. And yet the results that we see today, because they have pursued this almost obsession on believing that they can leap over into a central economic planning through the manipulation of money and credit and in particular interest rates, we have ended up with some pretty poor results. So I am working under the assumption that we're in a period of time probably unparalleled in our history, possibly unparalleled in the history of the world because we've never had quite the global economy involved like we have today. And we've never had a single fee at currency for 30, 40 years being used as the reserve currency of the world. So I think the distortions now are so great. And if it is indeed true that the concentration on interest rates might be the culprit, it'd be good to get it exposed. So that when the time comes when it becomes an absolute necessity to try to correct this problem that we might be able to put a better system together. So I am delighted today that we've been able to bring two individuals that are very well versed on this subject to talk about this and other members of the committee to emphasize the importance of price fixing of money. Some people don't like to call it price fixing and they refer to something as interest rate, but in a way it's easy to understand. It is a price fixing and if price fixing is bad when we have wage and price controls everybody, not many people are advocating wage and price controls at the moment even though there's a lot of that going on in a subtle way. If money is one half, if the currency is one half of every transaction and you have some price fixing involved in the price of money, it can be a fairly significant event that should be exposed and we certainly ought to recognize that as we move into that period of time when there's a necessity for monetary reform. So I am delighted that we've had this opportunity to further this discussion. I would now like to yield five minutes to the gentleman from North Carolina, Walter Jones. Mr. Chairman, thank you. I won't take but a minute or two and I want to thank you again for your national leadership on this area of monetary policy and concerns of where this country is going and to our witnesses today, thank you very much. I look forward to listening to your comments and I don't think there's a time when we're going home for the next five weeks, all of us in the United States Congress to be with the people and knowing that I'm from eastern North Carolina and the concern about the actions of the Federal Reserve, I think the topic today is absolutely fascinating and critical. So I just want to say to you, Mr. Chairman, thank you very much for holding this hearing and I look forward to listening to the witnesses and thank them for being here and just thank you for your service to our nation and I yield back. I think the gentleman, I yield now time to Mr. Lucas from Oklahoma. Thank you, Mr. Chairman. And as all of the hearings that you have called in your tenure as a subcommittee, Chairman Refleck, this is an important subject matter and something that we all need to focus on. Perhaps not quite as exciting to the membership as one can tell as it should be, but nonetheless it cuts to the very basis of how our free market system works in this country. That said, let me reminisce for just a moment since this session of Congress is beginning to wind down and there's always a possibility this might be the last hearing of this subcommittee. I suspect we might be around after election day, but lame duckster be avoided if it's humanly possible. I would just simply note, having sat next to you on this dais on the full committee and served on your subcommittee for almost a decade now, we've had many a good policy discussion and not just monetary policy, but we've discussed the intricacies of farm policy, agricultural economics. I might surprise some of you to know that Dr. Paul and I, while we agree on many, many, many things, we're not exactly in sync on agricultural economics, but we've had some lovely, very thoughtful to the point discussions and you've opened my mind in an area or two and I appreciate that. And I hope perhaps even on an occasion or two I've offered you a thought for you to think about, but you've just been a pleasure. And if Congress is about free elections and an open and thoughtful debate process where policies can be formulated in the best interest of the country, then I think you have done your part, more than your part, and we'll all be ever so appreciative of that for many, many years to come. And with that, thank you, Mr. Chairman. I thank the gentleman and now I yield time to Mr. Lukamair from Missouri. Thank you, Mr. Chairman. I had my congratulations and embodies to the chairman from Chairman Lucas as well. It's been an honor to serve with you these past two years. The subject we have today I think is extremely important from the standpoint that the Fed continues to tinker around with our economy through the money supply and from all things that I see it's having minimal success. I'm concerned about the direction that they're going. The situations are putting us in and you look at the global situation. Other entities, central banks around the world, they're struggling and is this the proper path to take? I don't know. I'm not an economist and I think there's a general good disagreement even with a good economist on whether it's a good policy or a bad policy. But I think that the discussion is pertinent, extremely important to today's economic welfare from the standpoint that we are in an economic stagnation period here and how do we get out of this? Is everybody's concern and the monetary policy by the Fed and their money supply policy I think is extremely important to the subject to discuss? So with that, I thank you for the subject today, Mr. Chairman. I yield back. I thank the gentleman now. I yield time to Mr. Schweigert from Arizona. Thank you, Mr. Chairman. I'll be very quick. You do realize you letting me on this committee has really screwed up my subjects of reading over the last two years. All of a sudden I find myself reading more about monetary policy than I ever thought I would want to touch. And I've learned a lot. Also, I've worked through a series of things that I realize are just sort of complete folklore out there. And Mr. Chairman, I'm hoping also in our testimony and in some of the discussion, I'm one of those who is absolutely fixated on the concept that interest rates ultimately are the pricing of risk. And where interest rates and capital flows and then that interest rate charged to where that capital flowed is sort of an allocation and a management of risk. And do you end up moving large amounts of capital, even sometimes, you know, as individuals, capital of places that it shouldn't be because it's misallocated and mispriced? And what are the ultimate consequences for what we've done here when we've basically destroyed what should have been the historical pricing mechanism or risk mitigation risk analysis system, which is interest rates in our economy? And with that, Mr. Chairman, I look forward to the testimony. Thank you, gentlemen. We'll proceed now to our witnesses. Mr. James Grant is a noted investor and founder of the editor and editor of Grant's Interest Rate Observer, a widely circulated bimonthly newsletter on finance that accurately foresaw the financial crisis. And former columnist from Barron's, he is the author of five books on finance and financial history. Mr. Grant has appeared on television programs such as 60 Minutes and the Charlie Rose Show to share his expert knowledge of finance and his journalism has been featured in numerous publications, including The Wall Street Journal, The Financial Times, and Foreign Affairs. Second, Mr. Lewis Lairman is a senior partner of the investment firm, Allie Lairman & Company, and is chairman of the Lairman Institute, a public policy organization he founded in 1972, where he heads up the Gold Standard Now project. As a member of President Ronald Reagan's Gold Commission, Mr. Lairman helped write the commission's minority report published separately as The Case for Gold. Over the years, he has written widely about economic and monetary policies and has been featured in Harper's, The Washington Post, and The New York Times, among others. Without objection, your written statements will be made a part of the record and you will now be recognized for a five-minute summary of your testimony. Mr. Grant. Mr. Chairman and committee, good morning. It is an honor and a pleasure, and may I underscore honor to be here. The price mechanism is our indispensable contrivance. Without it, the store shelves would be stocked with things we don't want if they would be stocked at all. Our economy is wondrously complex. What coordinates the moving parts is Adam Smith's invisible hand. For a superb critique of the perils of price control, look no further than Ben Bernanke's own lectures last March to the students of George Washington University. As you know, the chairman reminded his charges, prices are the thermostat of an economy. They are the mechanism by which an economy functions. So, putting controls on wages and prices, here Mr. Bernanke was referring to the disastrous Nixon experiment of the early 1970s, meant that there were all kinds of shortages and other problems throughout the economy, close quote. Yet the same observant critic is today leading the Fed on the policy of financial price control. To call the thing by its name, interest rates are, after all, prices. They convey information or are intended to. Market-determined interest rates are the prices that balance the supply of savings with the demand for savings. These, however, are not our interest rates. Actually, we hardly have any. We're so small you could hardly see them. They are tiny. Today, the Federal Reserve imposes interest rates, and those rates, it does not impose, it heavily influences. Mr. Bernanke's bank fixes at 0% the basic money-market interest rate called the Federal Funds Rate. It manipulates the alignment of rates over time, the yield curve, and it has its fingerprints all over the relationship between government yields on the one hand and the yields attached to private claims on the other. The Federal Reserve has decreed that ultra-low interest rates are a necessary, if not sufficient condition for economic recovery. It says that miniature interest rates will boost hiring and another aspiration of the central bank. Keep consumer prices rising by just enough. A decent minimum, say, of 2% a year, so says the Fed. Now, every market intervention has consequences, but not necessarily the consequences that the intervening authority intended. In the nature of things, there can be no predicting exactly what will come of today's radical, indeed unprecedented, monetary policies. Mr. Bernanke himself makes no bones about it. In his widely scrutinized speech at Jackson Hole, Wyoming on August 31, he used the phrase, quote, learning by doing. Indubitably, the Fed is doing. Nobody can doubt its manic energies, but it seems not to be learning. Artificially low interest rates must inevitably subsidize speculation at the expense of saving. It must raise up the prices of stocks and commodities, but only temporarily. It must enrich the asset holders and inadvertently punish the wage earner. It must advantage one class of financial institutions, say banks, over another, say life insurance companies. It must disturb the currency markets and therefore interfere with international trade. And it must conflate our understanding of the strength of the Treasury's own finances. This year, in the just-ending fiscal year, or the soon-to-end, the interest costs in the debt will run to an estimated $225 billion. That happens to be slightly lower than the outlay the Treasury bore in 2006, when the debt was 58% smaller than it is today, but when the average interest rate was a towering 4.8%, as opposed to the current average of 2.1%. Ultra-low rates flatter the nation's credit profile, yet that credit profile remains the same. Mr. Chairman, millions of Americans are earning nothing on their savings. Having nowhere else to turn, they are investing in richly priced corporate debt, some of that speculative grade. The Fed author of this interest rate famine of ours has inadvertently created a paradox that would be funny if it weren't dangerous. Mr. Bernanke's bank has created a high-yield bond market, junk bonds to the cognoscente, but a market lacking one customary attribute of high-yield securities. That is, the Fed has created a high-yield bond market without the yield. I thank you. Mr. Lehmann, go ahead. So Mr. Grand and I just wish one sentence to express how much we honor the extraordinary record of the chairman in his 30 years of, plus perhaps, service in the Congress. It has been a heroic effort on behalf of the authentic Constitution and on behalf of the liberties which we've inherited from our forefathers and, of course, for sound money. Now, Mr. Grant is about six feet five inches. I'm only five foot ten, and he determined the protocol of our presentation, so he established that he would focus on the problem, and I should spend a moment or two on the solution. Indeed, Jim has described the consequences of Federal Reserve quantitative easing and interest rate manipulation and suppression. From Mr. Grant's analysis, one concludes that the Fed's unlimited power to purchase Treasury debt and financial market securities not only funds the Treasury deficit with newly printed money, but the Fed's market intervention process also makes of the financial class a special interest group, a special interest group of privileged investors and speculators because of their special access to subsidized funds at near zero interest rates while middle income families depend upon their credit card balances and pay upwards of 20 percent or more. A well-connected financial class subsidized by the Federal Reserve is a crucial cause of increasing inequality of wealth in America. In this regard, I cite only one fact for the Monetary Subcommittee to contemplate. Since the termination of dollar convertibility to gold in 1971, a mere generation of the financial sector has doubled in size as a share of the American economy, but the manufacturing sector has been cut in half. Only a comprehensive reform of the Fed and termination of the reserve currency role of the dollar will arrest this trend. For example, in 2002, Mr. Bernanke described the Fed's extraordinary power to create new money and credit in our present financial regime of inconvertible paper money and inconvertible bank deposit money. I quote Mr. Bernanke, under a fiat paper money system, a government, the central bank in cooperation with other agencies should always be able to generate increased nominal spending and inflation, even when the short-term nominal interest rate is at zero. The U.S. government has a technology Bernanke continues called a printing press, or today it's electronic equivalent that allows it to produce as many U.S. dollars as it wishes at essentially no cost. Reading this, I don't know whether to laugh or to cry. In effect, as James Grant wrote elsewhere, the Fed is not only the American central bank, but with this exalted power to print money, the Fed is now the government's central planner. During the vocal years, from 1979 to 1987, Fed interest rate manipulation was justified as the means to end inflation. By 1994, employment as a Fed target had all but disappeared from the minutes of Fed meetings. Now, in 2012, despite inflation being again on the rise, employment is, as a practical matter, the sole target of quantitative easing. The Fed and its apologists in the media and the Academy justify quantitative easing and its unlimited scope and duration as the way to restore economic growth. Surely an extra constitutional form of fiscal spending through Federal Reserve capital allocation reserved for the Congress of the United States. But so soon as one examines the Federal Reserve's balance sheet, which, if I may say so, few politicians do, one sees that the Fed primarily buys Treasury securities and mortgage-backed securities. In effect, a subsidy by which to finance the government deficit and to refinance bank balance sheets, that is to say, the promotion of more financial and consumption sector growth. In a word, quantitative easing is the most pernicious form of trickle-down economics. Now, the problem of the American economy is neither under consumption nor is it under banking. The problem is the lack of rapidly growing investment in domestic production and manufacturing. Indeed, investment is the necessary means by which to enable our producers to lead in both domestic and global markets. It is rapidly increasing investment and production growth which begets employment growth and, with it, healthy, unsubsidized consumption growth. Not by means of transfer payments. It is a truth of economic theory and practice that rising personal and family real income grows from increasing per capita investment in innovative businesses, new plant, new equipment. So the question is, in reforming the Fed, how can our runaway central bank be harnessed by the financial markets to target the goal of economic growth through increased productive investment, not the promotion of consumption and treasury deficit financing by means of interest rate manipulation and quantitative easing? The answer, I believe, is transparent. The Congress of the United States has the exclusive constitutional power under Article I, Sections 8 and 10 not only to establish the definition of the dollar, but Congress also has the power to define by statute the eligible collateral that the Federal Reserve may buy and hold against the issue of new money and credit. Thus, a simple congressional statute defining sound commercial loans as the primary eligible collateral for discounts and new credit from the Fed would have two primary effects. First, it should rule out Fed purchases of treasuries, thus requiring the government to finance its deficits not with newly printed Fed money, but instead in the open market away from the banks. Second, the Fed would then become a growth-oriented central bank by which to finance productive business loans, encouraging thereby commercial banks themselves to make loans to solvent businesses in order to sustain economic and employment growth. Now, why is this the case? Commercial banks would focus on production and commercial loans because solvent business loans instead of treasury debt could then be used by commercial banks as the primary eligible collateral by which to secure credit from the Fed as the lender of last resort. In a word, treasury subsidies by the Fed should be replaced, displaced by productive business loans oriented toward economic and employment growth. Mr. Chairman, this simple proposed reform of Fed operations was the very monetary policy insisted upon by Carter Glass, a leading Democrat who was the chief sponsor of the Federal Reserve Act of 1913. The congressional legislative leaders who founded the Federal Reserve system of 1913 designed the Fed by law to enable steady commercial investment and employment growth. The Federal Reserve Act was also designed explicitly to uphold and maintain a dollar convertible to gold in order to maintain a reasonably stable general price level. Now, such a congressional Federal Reserve reform today, consistent with the original Federal Reserve Act, would require no further legislative mandate to sustain employment growth and to rule out systemic inflation and deflation. Just a word more. So today the Fed reiterates at every meeting that central bank, that it, the central bank, must manage and manipulate interest rates to fulfill a congressional mandate to maintain reasonable price stability and reasonably full employment. But the best way to do this is to remobilize the express intent and the techniques of the original Federal Reserve Act, namely the statutory requirement that the Fed uphold, the classical gold standard, and, as was intended by the original Federal Reserve Act, to substitute commercial market credit for Treasury debt as the primary eligible collateral for bank loans from the lender of last resort, the Federal Reserve system. Mr. Chairman, may I say, with respect, Congress has defaulted to the Federal Reserve system its sole and solemn constitutional authority to define and to regulate the value of the dollar and to define the vital economic use of eligible collateral by which to obtain productive business loans from the Federal Reserve system. It does not have to be this way. Thank you very much. Thank you. I will go into the questioning session right now. I yield myself five minutes. I want to ask both of you the same question. In the 1979, 1980s, we had a bit of a crisis quite different than we had today because interest rates were very, very high and even made higher. At that time, as I recall, not too many people were happy in claiming they were getting benefits from the higher interest rates. I don't think the markets, the higher the rates went, I don't think the markets were saying wonderful, wonderful. But today, even with this most recent announcement of the accelerated quantitative easing, there's almost an immediate response. Matter of fact, instantaneous response, we're going to print a lot more money and those individuals who are holding stocks seem to be delighted with that and bonds rally. My question is, under today's circumstances, with this constant effort to keep lowering interest rates, and now that they're down to essentially zero, below zero when you talk about real interest rates, who benefits from this? Who is really benefiting? And who are the people who are suffering? Can you divide it up and find out there's some groups that have no benefit whatsoever and some people actually get punished? And other people who are rewarded, whether it's temporary or not, at least they think they're being rewarded. And if there is a case somebody benefits, somebody is hurt, is this done, you know, on purpose or, you know, you want to make a stab at it to say, is this sort of a consequence of just bad policy? Or what might be the motivation behind here if there are winners and losers? Mr. Grant. Mr. Chairman, the great French economist Friedrich Bastiat talked about that which is seen and that which is not seen. There are many obvious beneficiaries. There are many obvious victims. Let me suggest a subtler distortion that these policies are responsible for and then I'll touch on some of the ones that are perhaps as important or more so. Capitalism is a little like the forest floor. There is life. There is death. There is regeneration. There is movement. The famous phrase creative destruction defines the inevitable ebbing of economic power that was once constructive and now has passed its prime. One of the consequences of these subsidized interest rates is that organizations that perhaps ought not to be around are given new life. The financial markets on Wall Street are increasingly welcoming to the most marginal credits because there is a stampede for interest income. People are starving for it and Wall Street is providing for it. When nearly anyone can get a new loan, when nearly anyone can get a pass in the public markets, that means there are not enough bankruptcies. It is a problem, albeit a paradoxical one. We need new enterprise and we need the exit of unprofitable or over-the-sell by-date enterprise. So ultra-low interest rates perpetuate the status quo. Interest rates, as someone mentioned, are, among other things, great sources of information. When interest rates are pressed to the floor, the credit markets provide less and less information. The information is there but is not to be intuited by prices. So as to the other beneficiaries and losers, some of them are painfully obvious. The Fed talks more or less nonstop about inflation. The Fed, I think, is troubled by the lack of it. It wants to see more of it. Well, one department of American finance, in which there is rampant inflation, is the cost of obtaining a dollar of income. One might say the cost of retirement is in a terrific inflationary crisis. A friend of mine and of Lou's, a Wall Street figure of wonderful renown and of a sub-morten humor, said a while ago before he passed away. He said, you know, he said in all seriousness, he said, you really can't get by today without $100 million. The point survives the exaggeration. You need more and more capital to maintain a decent income as a saver. That, to me, is not the least of the costs of these policies. You know, Chairman Bernanke in Jackson Hole spoke to try to put our collective minds at ease about the unintended consequences of quantitative easing. And he said, I can enumerate four possible pitfalls. Four. There are 400,000 possible pitfalls. The chairman, I think, is in error when he implicitly tells us that for every monetary cause A, there is a predictable monetary effect B. There are effects B, C, D, N, Z, and myriad effects that are so weird that no proper letter in the English language can describe them. What we are now embarked on is one of the great monetary experiments of all times. And Mr. Chairman, we are the lab rats. Mr. Lyman. Mr. Chairman, you mentioned the period of 1979, 1980, that period of high interest rates over which Mr. Volcker presided. And I was there, and I remembered, just as you do, one of the remarkable things about a review of the history of the Federal Reserve System from 1914 until the present is that the techniques that have been used, either the suppression of interest rates or the use of vaulting interest rates to bring about changes in economic activity has seen no reform. That is to say, Paul Volcker, you remember in 1979, said his goal was to target the bank reserves, that is to say, to control the stock of money in circulation. This was another new experiment on interest rate manipulation, of course with a noble intent, but this was just another form of interest rate manipulation, which ultimately wound up putting the prime rate at 21% and market rates for a long-term treasury at the highest levels that they had been in American history, approximately 15%. It is forgotten in the dreamlike remembrance of that period that from 1979 to 1982, the American economy was in recession. The unemployment rate in New York State in 1982 and November, I remember that date very well for personal reasons, was 11.2%, higher even than the unemployment rate at the peak of the Great Recession, which we've undergone since 2008. It was not a Halcyon period. President Reagan's first years of the administration were almost impeached economically because of that. So as the French say, the more it changes, the more it is the same way. That is to say, federal reserve interest rate manipulation and management for one purpose or another. Who benefits and who suffers? In each period under each of the federal reserve, chairman who exercises extraordinary power is different. Today, I want to point out only in response to the question the technique and its effect by which the Federal Reserve actually does operate in open market operations at the New York Federal Reserve system and has done so since the First World War. The Federal Reserve enters the market and purchases outright or on a match sale or a repurchase agreement, Treasury securities from the market against which they issue new money. That new money is made available only to the banks or today 16 authorized dealers. So their portfolios are reduced and substituted with new money, which they then are in a position either to lend out to dealers and brokers or speculators or Wall Street investors who can post collateral, liquid collateral by which they then can satisfy the lender that they can repay the loan. So the very first effect and the dominant effect, the generalized effect is commodity dealers and equity dealers who have first access to the money which is created anew by the purchase of Treasuries, which themselves cannot be repaid as they are refinanced with renewal bills. This is a prescription and has been in effect for a very long time but especially since the end of the Second World War and even more dynamically since the end of Bretton Woods in 1971 to enrich the investor class. I cannot incriminate them because to a certain extent I'm a member of that class but one does not have to be a rocket scientist to see that the Federal Reserve's process of monetizing the U.S. Treasury debt, providing new credit to the banking system to lend to their preferred clients, divorces supply from demand, creating a monetary demand unassociated with the production of new goods and services. When total monetary demand exceeds supply, which is the prescription and the technique of the Federal Reserve, inflation must get underway. Now that inflationary process today is hidden by the vast unemployed resources which we now have and as a result the new credit money immediately goes into the commodity and equity markets as well as into speculative vehicles like Farmland for example which is the most exotic investment today sort of inside Wall Street investors. No change can occur in such a process without a full reform of the Federal Reserve system and a reform of the monetary system. Thank you very much. I now recognize Mr. Lukimer for five minutes. Thank you Mr. Chairman. Appreciate your comments Mr. Lerman. Those are interesting. You call Farmland an exotic investment. I'm getting ready to, I'm looking to try and buy in the farm to lay next to me and I wouldn't think it would be an exotic investment but I understand where you're coming from. Just kind of curious, if the Fed would not purchase all of the government's debt, would there actually be a market out there in your judgment for our debt because of the size of the debt that we have, the money that would take to service that debt? Is there enough capital out there to purchase that if we don't run the printing presses here at the Fed and pick it up in your judgment? May I first say Congressman, that I am the owner of a 1600 acre farm corn wheat soybeans and it is exotic from the standpoint of speculators who've never set foot in the cornfield but certainly not from those. That's who I'm bidding against on the farm right now are those guys. So then you understand what I was getting at. Yes I do. To me it's not exotic, I'd like to buy my neighboring farm but to those folks it runs the price up. I understand, go ahead. So the question is what would happen if as the founders of the Federal Reserve System intended that the Congress of the United States and the budget of the Treasury were not able to finance its deficits by selling securities ultimately to the Federal Reserve System. Is the open markets substantial enough to accommodate the vast sums presently required by the Treasury in order to finance its current spending? The answer to that is we would find that out and it would be the ultimate discipline which would require Congress on notice to the public that the financing of the Treasury was forcing interest rates higher and higher and excluding businesses and commercial firms from access to the credit markets because at the present level of deficits let's call it all in about a trillion and a half including the Federal financing bank it would absorb almost all the net national savings available in the market which gets right to the point of this hearing. What is the effect of the suppression of interest rates and their manipulation and the financing of 77% of the Federal Reserve's budget deficit in the fiscal year 2011 what is the effect of that? It disguises from the public, the sovereign people the effects of the fact that only 60% of the revenues which Congress decides to spend are financed through taxes and 40% of them through printed money either through the banks, the commercial banks or foreign central banks. Well I think there's another point we made here too is the fact that because they're driving late rates so low we're also disguising hiding the fact the exposure that we have when you go to 16 trillion dollars right in just an additional 4, 5 here 6 in the last 4, 5, 3, 4 years here the amount of exposure we have to interest rate fluctuation right now the cost of interest to our government is rather low compared to what it has been to pass because of driving interest rates down if that would not happen the rates would go back and it would be very easy to double or triple the rates because they're so low right now imagine what it would do to our budget if you doubled or tripled our cost of funds we dealt with that issue the last hearing Congressman we dealt with that issue and were you to normalize the long term interest rates let us say for 30 year treasury bonds were you to normalize them consistent with the past history of the generation and given the scale of the direct debt of the treasury right now at 16 trillions the total amount of the federal budget devoted to interest payments is raised to as high as 800 billion even towards a one trillion dollar if the deficit were to continue it's that puts I think a number on the effect very good very quickly also have how do we unwind this what happens when we unwind this thing same Mr. Grant well we don't know the Fed is we're still going to be a laboratory even for that that too will be a learning by doing experience how painful will it be do you think how painful do you think it will be what causes will it have when inflation takes place when we go into a depression will it be a runaway glory everything going to be hunky door here where are we going if the Fed has to unwind this thing we can pull out congressman hunky door as to the rest we'll see imagine a day in which the treasury to finance another trillion and a half dollar deficit is raising say 15 billion dollars in two year notes in the morning and in the afternoon the Fed is holding a special auction to liquidate the remaining excess portion of its balance sheet so there will be one auction on top of another we simply don't know the outcome but we do know I think that that the Fed's assurances must be discounted the Fed is remarkably complacent with regard to its capacity to form financial judgments this is the outfit that panicked in front of the crisis of the computer clocks in 1999 neglected to see or to take due measure of the speculative mania in technology stocks that ended in the early aughts and that positively saw not one aspect of the greatest credit crisis of three generations looming before it in the mid-2000s and we are meant to believe that the perspicacity of the judgment of the Fed will now help them anticipate the end of the necessity for this QE and to unburden themselves of the excess securities I don't doubt that they mean to have the techniques to affect the exit what I do doubt and I think there is evidence in support of doubt is that they have the judgment to mark the time and the need may I say a word on that question Mr. Chairman every Thursday evening at about four o'clock the Federal Reserve system publishes its balance sheet that balance sheet as of Thursday night last night I looked at it shows that to do it in round numbers the Fed owns approximately three trillion dollars of securities primarily Treasury securities and mortgage securities mortgage backed securities and agency bonds if you look further into the detail in the footnotes you will observe the largest fraction of the balance sheet of the Federal Reserve system is in long term securities the historic practices of central banks during long periods of stable prices was only to own short term securities so that were inflation to arise they could, to use your phrase unwind their portfolio selling securities or letting them run off into the market to reduce the quantity of money and credit and circulation and stabilize the price level the Federal Reserve is now faced not only with a dawning task of unwinding the enormous a monetization of Treasury and mortgage backed securities but they have encumbered the balance sheet with long term securities which will not run off on a regular basis the way short term commercial bills do with 90 day maturities they have the largest fraction of far and away the dominant fraction in 10 to 30 year securities so the only way they can get rid of them is to sell them into the open market if the economy is running full tilt at full employment and let us say the unemployment rate might be at 5% it could have nothing less than a as you implied a very dynamic effect on interest rates in general not just in the United States but worldwide in as much as the United States dollar is the World Reserve currency thank you and you'll back thank you Mr. Chairman I thank you we'll go into a second round of questions the first question I have I'd like to get sort of a short answer because I have another question that follows and we'll be voting on the floor pretty soon what is your concept of the current situation now and whether or not we have a bubble most of us recognize a Nasdaq bubble others recognize the housing bubble do you see a bubble right now that could suddenly change and change the markets and all perceptions Mr. Grant yes Mr. Chairman I do and I see a bubble in Treasury securities I see a bubble in sovereign debts worldwide that has come to believe that the promises to pay of sovereign governments are intrinsically safe not everyone but northern European governments are meant to be intrinsically safe Australia I think there are seven or eight triple A rated governments left in the face of the earth people are crowding into the claims of these governments not leased into our own these are interest rates that have not been seen in modern times in northern Europe there are plenty of governments borrowing at negative interest rates and with the case in every single market bubble in history there are wonderfully persuasive stories circulated to rationalize what on the face of it is an abuse of common sense so I nominate bonds themselves as our looming bubble Mr. Chairman any additional comments the number of bubbles along with vast unemployed resources in nations around the world not just in the United States the number of bubbles are legion and Jim has just mentioned some but the congressman and I were talking about farmland the value of farmland as one vehicle for speculation not only among well positioned farmers but I mean to say in the investor class the price of farmland high quality let's say 160 bushel per acre non irrigated farmland from the from central Pennsylvania all the way to the foothills of the Rockies that is to say the great corn belt has doubled just in the past four years this has never been experienced at quite this this this rate of change I would say this bubble has never occurred on this scale in the past just one more example my follow up question is to you Mr. Lerman like Mr. Grant to comment as well you talked about a long term solution more about the monetary reform and the use of gold I want to concentrate more on that shorter range solution or something you suggest that could help the original Federal Reserve Act and not to allow the Fed to buy treasure bills but to allow the Fed to be the lender of last resort to sound commercial loans is that correct did I state that correctly exactly okay if the Fed buys a commercial loan they could buy this with money creation would this be would this be expanding the money supply would this be monetizing a debt and could it lead to a problem as well or would this automatically or would you argue that this is not monetary inflation I would argue it would not be monetary inflation the difference and the difference is profound the purchase of commercial bills for the purpose of production by the Federal Reserve or by commercial banks against the issue of new money goes to solvent firms who in the process of production then sell their output and they repay the loans and as a result the new credit which has been advanced against the commercial bill or against a productive loan expands the money supply during that particular market interval but 90 days later or 120 days later the goods that were used to that were produced as a result of that financing realize their value and then those loans are liquidated restoring equilibrium to the money market do you separate this from being the lender of last resort or would you put it in that category well I use the phrase lender of last resort because that is of course the rationalization that everybody uses to give the the privileges to create money without limit as the lender of last resort the Fed would have the possibilities of buying solvent commercial loans in the open market which themselves would be liquidated in a wind up naturally in the course of economic activity whereas in the case of the Treasury the Treasury is never able under present circumstances and has not been since pretty much the end of the Second World War to liquidate the bills or the bonds which they are selling and it leads to a permanent expansion of the money supply never to be unwound by the natural course of production by doing this would this interfere with interest rates in the case of commercial bills or productive loans which the Fed would then discount when they were offered to by the commercial banks against the desire for new credit this would in the same sense lead to a rise in interest rates when credit demands were higher and a fall in interest rates when the commercial loans were being repaid the commercial banks and the commercial banks repaying the central bank for the loans that they obtained against commercial lending collateral okay and our voting started but I'd like to get Mr. Grant to make a comment on that if he could I would vote I'm with Lou I said I would go vote I'm with Lou on this I can't add to this or should it take your time in adding to it okay Mr. Heisenken from Michigan do you care to make some questions yeah and I do also Mr. Chairman I want to say thank you for your service to our country and your time here in Congress as well as your service to the philosophy the battle that we have going on and the question I have is I'm curious if you can touch on the dual mandate of the Fed and what you believe that may have done to get us in the current situation and would you suggest us changing that dual mandate of you know having them pursue low inflation and high employment and anytime I have I'd like to give back to the chair if he if he so desires to do a follow-up Congressman I think that one might again go back to the to the founding precepts the Fed got into business and if you if you read the opening paragraphs of the Federal Reserve Act it was to Fed was to create a market in commercial bills and to and to exchange paper for gold in such a way as to support the working to the gold standard and and the phrase added was and for other purposes pregnancy it was added but I would keep the mandate even simpler than one I would say that the Fed ought to be in business to to support an objective definition of the value of the dollar in this day and age we could not have anything resembling industrial commerce as we know it without the most precise specifications of material weights and measures and somehow we have neglected this in money money is what thinks it should be in some particular public institution like a central bank or a Treasury Department the lead article of the Financial Times this morning was a plaint by the finance minister of Brazil against quantitative easing on the grounds that the willful depreciation of the dollar or what I say the willful redefinition of the dollar would certainly lead to the interruption of trade and to frictions that did not exist previously so I the gentleman to my left has written a fabulous book on this and I think it's his view as well that what is wanted is the restoration of objective value in the dollar and if the Fed could do that and maintain it it seems to me that good things would follow as it is we have arrived at the most peculiar point in which people have come to think that if the Fed can raise up the value of expanse farmland and commodity somehow prosperity will follow it seems to me that is a very peculiar horse in front of a very odd cart. I appreciate that and Mr. Chairman I'm happy to yield my time to you. I thank you I'll recognize Mr. Thank you Mr. Chairman just very quickly I've only got a couple questions Mr. Grant what do you believe would be the ideal interest rate or the ideal range that the Fed should shoot for that our rates should be for like our T-bills or Fed funds rates or home loan or somewhere in there we'll use some of those figuratively. Sir I think the Fed should not be shooting at those rates I think that they should be determined in the marketplace if you look back on history kind of a normal mortgage rate was four and a half to five percent T-bill rate maybe three to four percent long dated securities yielding perhaps six to seven percent depending on the credit and higher with regard to junk or speculative grade credits but I would I would let the wonderfully invisible forces of the marketplace into this line of work and let them do their thing. If that's the case then do you agree with the Fed or do you think there's a place for it. Sir would you get rid of the Fed then or as you believe there's a place for it. I believe that the Fed ought to be doing much less than what it's doing and it could do with many fewer economists it could be doing with a much narrower mission statement and it should as long as we're talking about reforming this outfit we should not fail to institute the Fed's first office of unintended consequences. Mr. Herman would you like to comment on that. Do you believe we need to have the Fed or do you believe I haven't made the case in my book in previous books that if we are going to have a federal reserve system for it should be said it is not an indispensable necessity but if we are going to have a mere agency of the Congress maybe with the statue the stature so to speak of the interstate commerce commission of the federal communication commission then it must be circumscribed by very careful rules whereby it conducts its policies such that it is consistent with the activities of a free market and a free people so that yes I can embrace the Federal Reserve Act of 1913 and the very few moments in which it conducted itself according to article one of the Constitution sections 8 and 10 namely to define the value of the dollar regulate the value so you could live with it as long as it went back to where it was original intention and functioned very well. We have to go we can't go backward but I think we can go forward to a restoration of a Federal Reserve system which operates with some restraints imposed by Congress the definition of the collateral which is eligible at the Federal Reserve to discount against new money to encourage economic growth as opposed to encourage Treasury budget deficits. Thank you Mr. Chairman I'll yield back. Thank you. I want to thank our members here today and our testimonies and I appreciate very much of being here. I would like to adjourn this hearing.