PROBLEMS ASSOCIATED WITH FEDERAL DEBT MANAGEMENT HEARINGS BEFORE THE SUBCOMMITTEE ON DOMESTIC MONETARY POLICY OF THE COMMITTEE ON BANKING, FINANCE AND URBAN AFFAIRS HOUSE OF REPRESENTATIVES NINETY-SEVENTH CONGRESS SECOND SESSION MARCH 23 AND 24, 1982 Serial No. 97-68 Printed for the use of the Committee on Banking, Finance and Urban Affairs U.S. GOVERNMENT PRINTING OFFICE 95-448 O WASHINGTON: 1982 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis HOUSE COMMITTEE ON BANKING, FINANCE AND URBAN AFFAIRS FERNAND J. ST GERMAIN, Rhode Island, Chairman HENRY S. REUSS, Wisconsin J. WILLIAM STANTON, Ohio HENRY B. GONZALEZ, Texas CHALMERS P. WYLIE, Ohio JOSEPH G. MINISH, New Jersey STEWART B. McKINNEY, Connecticut FRANK ANNUNZIO, Illinois GEORGE HANSEN, Idaho PARREN J. MITCHELL, Maryland JIM LEACH, Iowa WALTER E. FAUNTROY, District of THOMAS B. EVANS, JR., Delaware Columbia RON PAUL, Texas STEPHEN L. NEAL, North Carolina ED BETHUNE, Arkansas JERRY M. PATTERSON, California NORMAN D. SHUMWAY, California JAMES J. BLANCHARD, Michigan STAN PARRIS, Virginia CARROLL HUBBARD, JR., Kentucky ED WEBER, Ohio JOHN J. LAFALCE, New York BILL McCOLLUM, Florida DAVID W. EVANS, Indiana GREGORY W. CARMAN, New York NORMAN E. D'AMOURS, New Hampshire GEORGE C. WORTLEY, New York STANLEY N. LUNDINE, New York MARGE ROUKEMA, New Jersey MARY ROSE OAKAR, Ohio BILL LOWERY, California JIM MATTOX, Texas JAMES K. COYNE, Pennsylvania BRUCE F. VENTO, Minnesota DOUGLAS K. BEREUTER, Nebraska DOUG BARNARD, JR., Georgia DAVID DREIER, California ROBERT GARCIA, New York MIKE LOWRY, Washington CHARLES E. SCHUMER, New York BARNEY FRANK, Massachusetts BILL PATMAN, Texas WILLIAM J. COYNE, Pennsylvania STENY H. HOYER, Maryland SUBCOMMITTEE ON DOMESTIC MONETARY POLICY WALTER E. FAUNTROY, District of Columbia, Chairman PARREN J. MITCHELL, Maryland GEORGE HANSEN, Idaho STEPHEN L. NEAL, North Carolina RON PAUL, Texas DOUG BARNARD, JR., Georgia BILL McCOLLUM, Florida HENRY S. REUSS, Wisconsin BILL LOWERY, California JAMES J. BLANCHARD, Michigan ED WEBER, Ohio CARROLL HUBBARD, JR., Kentucky JAMES K. COYNE, Pennsylvania BILL PATMAN, Texas HOWARD LEE, Staff Director (II) Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis CONTENTS Hearings held on: Page March 23, 1982 1 March 24, 1982 45 STATEMENTS Axilrod, Stephen H., Staff Director for Monetary and Financial Policy, Board of Governors of the Federal Reserve System 31 Bunting, David, Managing Director, First Boston Corp., and president of the Association of Primary Dealers in U.S. Government Securities 107 Napoli, Daniel, vice president/manager, government securities trading, Mer- rill Lynch Ill Taylor, David G., executive vice president, Continental Illinois National Bank and chairman of the Government and Federal Agencies Securities Commit- tee of the Public Securities Association; accompanied by Frank Smeal, partner of Goldman Sachs and Co., and immediate past chairman of the above committee 46 Stalnecker, Hon. Mark E., Deputy Assistant Secretary of the Treasury for Federal Finance 4 Sternlight, Peter D., Senior Vice President, Federal Reserve Bank of New York 34 ADDITIONAL MATERIAL SUBMITTED FOR INCLUSION IN THE RECORD Stalnecker, Hon. Mark E.: Charts submitted to accompany oral testimony 9 Response to request for additional information from: Chairman Walter E. Fauntroy 19 Congressman Bill Patman 28 Taylor, David G., letter submitted: Dated March 31, 1982, responding to Chairman Fauntroy's request for additional information 54 Dated April 6, 1982, to Chairman Fauntroy, responding to Mr. Taylor's request for certain recent Treasury Department reports 77 APPENDIXES Appendix A: Letter to hearing witnesses from Chairman Fauntroy containing eight questions to which they should respond 132 Response of David G. Bunting, First Boston Corp 134 Response of Maria Fiorini Ramirez, Merrill Lynch 136 Response of David G. Taylor, Continental Illinois National Bank & Trust Co., Chicago, 111 140 Additional correspondence 141,142 Appendix B: Statement of Treasury Assistant Secretary Roger W. Mehle 145 Appendix C: Debt financing: Graphics 160 Appendix D: Notice of subcommittee hearing 197 Appendix E: Miscellaneous material: "Federal Deficits: A Faulty Gauge of Government's Impact on Federal Markets," report of the Federal Reserve Bank of Philadelphia 217 "Financing the Deficit," report of the Federal Reserve Bank of San Francisco 231 (in) Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis IV Appendix E—Continued Letter from Bank of America Executive Vice President John R. Vella, dated September 2, 1982, in response to Chairman Fauntroy's request Pa®e for comment on certain issues 234 "The Dealer Market for U.S. Government Securities," report of the Fed- eral Reserve Bank of New York 203 Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis PROBLEMS ASSOCIATED WITH FEDERAL DEBT MANAGEMENT TUESDAY, MARCH 23, 1982 HOUSE OF REPRESENTATIVES, COMMITTEE ON BANKING, FINANCE AND URBAN AFFAIRS, SUBCOMMITTEE ON DOMESTIC MONETARY POLICY, Washington, D.C. The subcommittee met, pursuant to notice, at 10:20 a.m., in room 2222, Rayburn House Office Building; Hon. Walter E. Fauntroy (chairman of the subcommittee) presiding. Present: Representatives Barnard, Patman, Hansen, and James K. Coyne. Chairman FAUNTROY. The subcommittee will come to order. Today, we begin 2 days of hearings on the management of the national debt by the Treasury of the United States. As each of us is aware, the outstanding national debt of the United States stood at $1,046 trillion on March 9, 1982. By the end of the year, it is ex- pected to increase by at least an additional $120 billion and by 1985, the debt may easily increase by an additional $554 billion. That potential growth is more than the total accumulated debt of the United States in 1975. At that time, the national debt stood at $534.53 billion. From then until 1981, the national debt grew an ad- ditional $442.40 billion for the total of $976 billion in 1981. Aside from the obvious impact that such an addition to the na- tional debt may have on various credit-sensitive industries and in- terest rates, there is the added impact that can arise from the daily management of the sale of new and the refinancing of old debt. The maturities offered, the interest rates contemplated, the size of the offerings, and the parties to whom the debt may be sold can have as profound an impact on interest rates as anything which the Federal Reserve may do to influence the money supply. Yet, this is a subject to which we have given little consideration and thought. These hearings are intended to focus attention on the mecha- nisms which are used to finance the debt, the objectives which the Treasury considers when financing the debt, how these objectives are viewed by the Federal Reserve and the marketplace, the weak- nesses and strengths of the Government securities market, and the impact of these factors on the costs to the Government of the debt. The U.S. Government securities market is the focus of the most powerful money decisions in this country and possibly throughout the world. Large market participants are relatively few in number. Yet, they affect an item of the national budget which exceeds $100 (l) Digitized for FRASER http://fraser.stlouisfed.org/ Federal Reserve Bank of St. Louis 2 billion for interest payments and which composed 2.34 percent of the GNP in fiscal year 1981 and is increasing. The size of the dol- lars about which we are speaking are so large that they defy con- ceptualization. Yet, they are very real and have a very real impact on everything that any of us buy or sell. They have a very real impact on the safety and soundness of our financial institutions and on our national security. While these hearings do not encom- pass the inflationary impact of the debt, per se, we must recognize that the debt of the Government has an enormous potential to drive inflation to very high levels. I will not dwell on the debate that can ensue from this comment, but I did not want it to go com- pletely unnoticed. Neither do I want to permit to go unnoticed the impact on Treas- ury financing of new and innovative forms of financial instruments which have been a concern for so many of us recently. I am speak- ing particularly of Government guaranteed tax-exempt instru- ments issued by hospital authorities, some industrial development authorities, and most recently, by financial institutions in the form of all saver certificates. All of these instruments, of course, have a desirable public purpose. They do, however, have a public cost of which we ought to be knowledgeable. Those costs are ultimately re- flected in the yields on Treasury securities and later in the costs of money that you and I must pay for the mortgage on our house, the loan on our car, and the credit card in our pocket. I think it is fair to note that the Treasury, with the help of the Federal Reserve, has made a conscious effort to limit shocks inflict- ed upon the capital markets. Whether the impact of Treasury bor- rowings can be further limited and how the impact will be mini- mized with the potential forthcoming deficits and refinancings is another matter. As a part of these hearings, we will explore how the Treasury proposes to finance this substantial addition to our national debt, how the markets are likely to react to the debt in- creases, and the estimates of the administration of future debt, the impact on interest rates, and the role which various advisory groups and dealers have on the decisions of the Treasury. These first 2 days of hearings are just the beginning of the in- quiry by this subcommittee into one of the most important compo- nents which influence the price of credit, the supply of money, and the operations of the Federal Reserve System.