• House Subcommittees Hold Joint Hearing on Role of IMF and Federal Reserve in Stabilizing Europe
  • May 26, 2010
  • Law Firm: Alston & Bird LLP - Atlanta Office
  • Yesterday, the House Financial Services Committee’s Subcommittee on International Monetary Policy and Trade and Subcommittee on Domestic Monetary Policy and Technology held a joint hearing entitled “The Role of the International Monetary Fund and Federal Reserve in Stabilizing Europe.” The hearing focused on the global economic crisis, particularly the international stabilization efforts regarding the European sovereign debt problems.  Testifying before the Committee were the following witnesses:

    Panel I:

    • Daniel K. Tarullo, Governor, Board of Governors of the Federal Reserve System

    Panel II:

    • Carmen Reinhart, Professor of Economics, University of Maryland
    • Edwin M. Truman, Senior Fellow, The Peterson Institute for International Economics
    • Peter Morici, Professor, Robert H. Smith School of Business, University of Maryland

    In opening remarks, Rep. Mel Watt (D-NC), Chairman of the Subcommittee on Domestic Monetary Policy and Technology, noted that he “look[ed] forward to hearing from the witnesses on how the Federal Reserve and International Monetary Fund can stabilize European financial markets.”  He stated that, in particular, he wanted to focus on the Federal Reserve’s participation in currency swaps with foreign central banks, other policy responses by the Federal Reserve and the impact of such responses on U.S. taxpayers.  Opening remarks were also made by Rep. Gregory W. Meeks (D-NY), Chairman of the Subcommittee on International Monetary Policy and Trade, Rep. Ron Paul (R-TX), and Rep. Ed Royce (R-CA).  Both Rep. Paul and Rep. Royce expressed the view that the U.S. should seek to limit, rather than further expand, its exposure to the IMF.

    Governor Tarullo began by discussing the evolution of the European debt problems and actions that have been taken by the European Union and the IMF to contain the financial crisis in Europe.  He examined the high degree of integration between the U.S. and European economies and highlighted the potential ramifications for the U.S. economy of renewed financial stresses in Europe.  In this regard, he discussed reported declines in U.S. stock price indexes and raised volatility on U.S. equities over a four-week period leading up to the May 10th announcement that EU members would be meeting to craft a stabilization package to address sovereign risk and market liquidity across Europe.  He warned that if the current sovereign problems were to spill over and cause difficulties more broadly throughout Europe, major U.S. banks could face large losses on their considerable overall credit exposures to European sovereignties.  Finally, he cited the risk that heightened financial stresses in Europe could affect the U.S. by reducing U.S. export growth.

    Governor Tarullo discussed the Federal Reserve’s effort to prevent liquidity pressures from leading to “a replay of the freezing up of financial markets that we witnessed in 2008” by reopening temporary U.S. dollar liquidity swap lines with the European Central Bank (ECB) and other major central banks.  In response to questions from Rep. Royce, Governor Tarullo clarified that the Federal Reserve’s actions are intended to forestall a serious liquidity crisis in the short-term that has possible implications for the U.S. economy.  He further provided that the Federal Reserve retains complete discretion under the swap agreements to control and shape the U.S. participation in the swaps or even to decline to participate.  He reiterated that the swap arrangements were not designed as bail-outs for foreign markets but rather are an effort to minimize the risk of financial turmoil in Europe and to prevent ensuing consequences of such turmoil for the U.S. 

    Ms. Reinhart opened testimony for the second panel noting that “a restructuring of Greek sovereign debt may not be inevitable but it certainly seems probable.” She observed that slashing government spending likely will not reduce Greece’s debt quickly enough, especially given the likelihood that such fiscal austerity will shrink Greek economic activity, causing tax collections to fall and unemployment to rise.  “At best, the EU¿IMF initiative can buy some time for policymakers in other countries that have come under duress,” said Reinhart, but will not change Greece’s or other European countries’ debt levels or their “worrisome profile in the period ahead.”

    Mr. Truman urged the U.S. to continue supporting the IMF’s initiatives in promoting global growth and financial stability.  Noting that the IMF stabilization program “is ambitious and demanding” and “may fail,” Truman, nonetheless, urged that it is in the interest of the U.S. “to give the people and the authorities of Greece time to implement at least the first phase of their program.”  He supported the Federal Reserve’s efforts to help contain the European financial crisis by reactivating the U.S. dollar liquidity swap arrangements with the ECB.  Whereas Reinhart had commented that the moral hazard issue of the EU¿IMF package “cannot be understated,” Truman asserted that the moral hazard issue is “greatly exaggerated.”

    In his testimony, Mr. Morici criticized Greece, and Europe generally, for providing social benefits that they cannot afford, and turned his criticism to the U.S. public sector, remarking that the U.S., which he described as “inefficient,” should take a lesson from the European crisis.  Noting that a spread of the European financial crisis could substantially affect major U.S. banks, Morici observed that the U.S. should continue to assist the efforts to contain the crisis.  He warned, however, that “currency unity must be  matched by fiscal unity” or the bailouts won’t do much to help the financial crisis.