American Enterprise Institute

January 28, 2008

[Edited transcript from audio tapes]

8:15 a.m.	Registration
8:30	Panel I.	Foreign Policy
	Panelists:	Leon Aron, AEI
		Dan Blumenthal, AEI
		Thomas Donnelly, AEI
		Michael Rubin, AEI
	Moderator:	Danielle Pletka, AEI
9:45	Panel II.	Economic Policy
	Panelists:	Kevin A. Hassett, AEI
		Philip I. Levy, AEI
		Vincent R. Reinhart, AEI
		Peter J. Wallison, AEI
	Moderator:	Karlyn Bowman, AEI
11:00	Adjournment

Proceedings:

Panel I.

 Danielle Pletka:  Good morning everybody, on this somewhat less than bright Monday morning.  Welcome to the American Enterprise Institute.  I’m Danielle Pletka, I’m the vice president for foreign and defense policy studies here at AEI.  First, if I may ask everybody to either turn off or put their cell phones on vibrate.  Second, another housekeeping note, for those who are focused on the second panel on economic policy, Lawrence Lindsey [ph.] is unable to join us today, and he’s going to be replaced by AEI’s own Philip Levy. 

 Let me introduce our panel that we have with us today to talk about this 2008 State of the Union.  We have with us, Michael Rubin, a resident scholar at AEI, focuses on Middle East issues; Leon Aron, also a resident scholar here at AEI who focuses on Russian policy questions; Dan Blumenthal, a resident fellow here at AEI who works on Asian studies issues; and Tom Donnelly, resident fellow here at AEI who focuses on defense related issues. 

As we thought about what it was the President was going to talk about in this the opening to the last year of his presidency, it seemed clear that there was a lot he wasn’t going to be talking about, and that he was going to be focusing at least in the foreign and defense policy studies on a very few areas, and not necessarily those areas that we might have predicted had we been talking about this earlier last year.  Iraq, which, for those of us who were here with us last year, was a focus and an enormous crisis, has really turned a corner, because of the surge, and the questions for this year are, in many ways, how to handle the inevitable drawing down of certain numbers of troops, maintaining the security and the success that we’ve seen thus far, in Iraq. 

But there are other issues that are boiling, and we would do well, and I think that the President would do well himself to pay attention to them, and I imagine that they will get some focus this evening as he talks about them.  Among them, the deteriorating situation in Afghanistan, crisis that we’ve seen in Pakistan, which does not look like it’s on its way to resolution, there is very little progress that we’ve seen on Iran, notwithstanding the fact that we’ve just agreed to a third security council resolution that perhaps does even less than the first two security council resolutions.  Iran continues to enrich uranium, move forward with its nuclear program. 

In many ways, the President seems to be focused on what we have called legacy issues, the Israeli-Palestinian conflict, something which has gotten very short shrift in the other years of his presidency, has suddenly become a great focus of attention, though it’s hard to be sanguine about what will be achieved, the President’s prognostications about a peace treaty notwithstanding.  Then the there is the question of North Korea, always a little bit risky to hang your legacy on Kim Jung Il, but the President seems more optimistic than perhaps many of us have been here in this building.  One of the biggest elements of the President’s legacy, his negotiated civil nuclear deal with India has collapsed. 

So, there are really very few things, as he looks forward, to trumpeting, and it’ll be a real challenge for the last year of the Bush presidency, as we have an exciting and fraught election, to see where things go and what we will be left with as our impression from the Bush years. 

Why don’t we start today with Michael Rubin.  We’ll do all of our presentations, and then turn to our audience for questions.  Thank you. 

Michael Rubin:  Thank you very much, Dani.  I’ll be addressing, very briefly, what I expect the President to say or not say with regard to Iran, the Arab-Israeli situation, and also the democracy and dissident issue. 

First, with regard to Iran, I do expect that President Bush will underline his commitment to preventing Iran from gaining a nuclear capacity, capacity to make nuclear weapons, or enrich uranium.  However, it’s ironic that this occurs in the same week that Iran has just trumpeted, for example, in its press today, that they have received the eighth and final shipment of Russian nuclear fuel for the operation of their nuclear plant in Bushehr.  When I look at the Iran issue, despite the President’s comments and what I expect the President’s comments to be, it seems that the President, over the course of several State’s of the Union addresses, has taken on the axis of evil, and in two out of three cases the axis of evil has won. 

Now, just going into the details for quite a few minutes about the state of policy confusion with regard to Iran, I do know that we’ve had two great shakeups in the last couple of months, first with the national intelligence estimate, and second with the GAO report on sanctions.  What I don’t see a lot of commentary on is the fact that both reports, consensus documents if you will, are in direct contradiction to each other.  The NIE suggests that pressure, including sanctions, can work, and the GAO report suggests that, no, they can’t. 

The last thing I would like to say on Iran, as I expect the President to take a tough line, at least rhetorically, is that if we do talk about containment, many people, both in Congress and the general public, forget that containment is a military strategy, a strategy that involves assisting, aiding allies, having forces in the region, having installations in the region upgraded in order to have a successful containment regime.  Therefore, it’s unfortunate that perhaps what we’ll get tonight, not tonight, what we’ll get in the State of the Union with Iran may be a little bit too heavy on the rhetoric and too light on the substance. 

Now, turning to the Arab-Israeli situation for a second.  This is turning into the issue, as Danielle Pletka said, a legacy issue, in which it looks like Bush and Secretary of State Condoleezza Rice will stake their respectively presidency and legacy as Secretary of State.  Unfortunately, it seems that Condoleezza Rice is turning into the anti-King Midas, everything she touches turns to, well, let’s just say it doesn’t smell like roses.  And beyond the photo opportunity of Annapolis, what I would say is that the one major agreement, as opposed to photo op, which we’ve achieved, this Administration has achieved, on the Arab-Israeli situation, seems to have collapsed in the last week with regard to the Philadelphia corridor between Egypt and the Gaza strip.  Therefore, I would hope that if we don’t have the wherewithal first and foremost to follow up on agreements, and, second of all, to stake and negotiate good, careful agreements, the President, I hope, will be very careful about any utterances on the Arab-Israeli situation, which might complicate the issue further in terms of precedence. 

Lastly, what I want to talk about is the whole issue of democracy and dissidence, the so-called heart of the Bush doctrine, Bush agenda, which I expect to be absent during the State of the Union address.  It is ironic and unfortunate that, we’ve now received word that Fathi Eljahmi, one of the chief Libyan dissidents whom the President once stood up as a symbol of dissidence reform and change in the Arab world, now looks, after several years in isolation, to be on his deathbed.  I’m not sure whether he will survive the week, according to the latest reports from human rights agencies operating in Libya. 

I also note, and this is how I’ll sum up my presentation here today, that, the President will often make high-minded, high-sounded promises and declarations with regard to the freedom agenda, with regard to liberty, with regard to democracy.  Now, he did this, I had the pleasure to sit in on a speech he had given in Prague in June, 2007, in which he declared himself the dissident President, and he rattled off a list of promises, he made a number of commitments to dissidents from all over the world who were in the room, and I’m really sorry to say that not only have none of the promises been fulfilled, but it doesn’t even appear that any have been acted on, in the least. 

So, I do think that when we look back not only on this coming State of the Union address, but also on previous State’s of the Union address, when historians consider the legacy which will be outlined, it’s going to be one of the major questions of discussion about whether the reason why promises haven’t been fulfilled, has it been because of the management or mismanagement of the policy process and the bureaucracy serving under, or has it been, perhaps, a degree of cynicism that the promises became a tool in order to win the short-term silence, for example, of some policymakers, when, in the long-term, perhaps historians will judge that it wasn’t the bureaucracy which can be blamed but perhaps the Administration didn’t have the intention to follow-up on some of its key points itself.  Thank you. 

Danielle Pletka:  I think the phrase you were looking there, Michael, was, failure of leadership.  Leon. 

Leon Aron:  Thank you very much, Dani.  I doubt the President will be speaking about Russia today at all, and that’s very unfortunate because there are at least three very, very troubling developments, which I will touch on. 

The first one is that there’s an increasing probability of domestic, political, economic and social instability in Russia.  Secondly, because the Russian foreign policy is increasingly designed to bolster and give credibility to the Soviet propaganda-like image of a besieged fortress under threat from the West, which the regime deploys for its own political ideological agenda.  Secondly, because in the last year or so, even in the last year or so, Russian foreign policy has undergone a very serious ideologically motivated change, which resulted in a very pronounced anti-Western, and especially anti-American, late motif and could presage and portend already some very serious complications for the West.  So let me touch on those things very briefly. 

One has to be completely ignorant of what has happened in Russia in the past several years that is about as ignorant as the Time magazine editors were, although, as Dr. Johnson would say, such ignorance may not be nature, but it is very hard to claim that Putin has bequeathed stability to Russia.  Ask yourself what would happen if he is gone tomorrow?  Who or what would insure stability, legitimacy, and prevent, frankly, a shootout between the rival clans and the Kremlin?  The Soviet Union had the Central Committee, and the Politburo, the KGB and the Army.  Russia, in the 1990s, had a very messy, but real and growing democratic stability, which, incidentally, helped it to withstand, rather easily, the Asian flu financial crisis, whereas Indonesia and Argentina collapsed. 

But Russia today has what?  Putin has undermined every single one of legitimizing and stabilizing institutions that a normal modern state would possess in order to insure a long-term equilibrium and continuity.  Independent, an independent and powerful parliament is gone, so is party system that reflects public opinion, so is independent and trust judiciary, so are media capable of presenting a true picture of a nation, and, of course, local self-rule and local responsibility.  The center of gravity has been elevated to the very top, making it as a very risky and unwieldy vehicle to navigate a crisis. 

The sole legitimizing institution in Russia today is Putin’s popularity.  Vladimir Ryzhkov, a leading Russian opposition politician, said, a couple of years ago, that it is on this one factor, the President’s popularity, that the entire political system is hanging, like an old raincoat on a rusty nail.  It is even more true today, and it is from this very narrow and contingent base, Putin’s popularity, depending on the growth of real incomes, which, in turn, hinge on the price of oil, from that very, very narrow contingent base, the regime will have to cope with growing inflation, which I think is unstoppable, a possible reduction in oil revenue, due to what looks like a worldwide recession, confusion in the division of labor between President Medvedev and regent Putin, and, mostly the unnacceptance of Medvedev by some very powerful clans in the Kremlin.  That’s just the short-term. 

The long-term, all the vital structural reforms have been abandoned, and not just in the economy, where, in fact, the liberalization has been reversed, but also in housing, healthcare, education, all of which are backward, and destitute, despite billions of dollars injected in them and mostly likely stolen, as the Russian leaders themselves admit. 

A labor crisis is looming because, largely because of the unheard of mortality, unheard of, that is, in what we call the civilized world.  While the pension system is broke, corruption is rampant, and outside the strategic nuclear force and hardware for export, the military is completely dysfunctional.  Chechnya is pacified, as it were, solely because the former rebels switched sides, but, Ingushetia and Dagestan are virtual and governable today, and more seriously, they are becoming a haven for outside Islamic fundamentalists. 

In foreign policy, and let me end on this, in foreign policy we have seen a very troubling shift in Russia’s ambition from exploiting the existing crisis to creating or stoking them.  Iran is perhaps a good example of that, where Russia has changed its policy from moneymaking influence pedaling and diplomatic arbitrage to a far riskier pursuit of a grand prize.  What is that grand prize?  Russia has three major goals in the new, reincarnated Putin foreign policy, three major goals in the Middle East. 

One is to recover the Soviet position there, which they rood [ph.] losing very much, secondly, to continue to keep the price of oil at the current astronomic level, and preferably making it higher, and to prevent Iran from acquiring nuclear weapons.  How is that done?  This is a very clever policy, very cynical policy, but the policy that, because of the inability of the United States and the West to join forces on an effective counter-policy essentially is without, has been [inaudible] the downside for Russia. 

Because Russia opposes any effective sanctions at the U.N., and Dani gave us an example of the latest so-called resolution, there’s always a possibility that the military, that Iran, while it continues to enrich uranium, and, thus, essentially, could build a bomb when it has enough enriched uranium, build a bomb within about half a year, a year, there’s always a possibility that this crisis will escalate to something where a military solution will become necessary.  That keeps the price of oil currently at the very high level, but it also could escalate the price of oil to anywhere, $120, $130 a barrel, particularly if Iran, as everybody expects, would block the Strait of Hormuz. 

Finally, Russia’s fear of a nuclear-armed Iran a few hundred miles from its borders is going to be taken care of in exactly the same manner.  It will be taken care of by the West, the United States, Israel, while publicly Russia opposes precisely these sets of measures.  Russia will then emerge with a price of oil extremely high, no nuclear-armed Iran on its borders, and reclaiming the position that the Soviet Union had, in fact, the situation is very similar to what the Soviet Union inherited in the aftermath of the Yom Kippur War in 1973, where it sponsored Egypt, and then became indispensable to any resolution of the conflict there.  Thank you. 

Dan Blumenthal:  Well, thank you, I promise to depress you even further.  If I had $100 to bet, which I don’t, I would bet that Asia will not be mentioned at all in the State of the Union, maybe a little bit, just to hedge my bet, maybe just a little bit of pabulum on how well the North Korea six party talks are going to reassure us, after Special Envoy Jay Lefkowitz [ph.] came to AEI to tell us, to make the diplomatic aft of telling the truth that the North Korea policy was, in fact, not going to end in the denuclearization of North Korea.  I’d also bet that it won’t really come up in the presidential campaign very much.  But I will still move on and talk about Asia, regardless. 

It’s not only a shame, but, kind of a danger that these issues aren’t talked about and debated more because Asia is an area where America can be in major wars very quickly, both in the Taiwan Strait and in North Korea.  I would say it’s prudent to start to pay a lot more attention. 

I think, looking back, the Administration started its course with some very good instincts, planting some seeds that was going to come into power, taking a more realistic look at China and its military buildup and the dangers in the Taiwan Straight, and it was going to go back to a policy more focused on our allies and partners in the region, particularly Japan, and the President Bush and Koizumi relationship, in fact, did bare some fruit early on.  Japan was able to step out as an international player, supporting our efforts in Afghanistan and in the Indian Ocean, as well as some good work was done to transform the alliance.  After Koizumi left, Prime Minister Abe tried to continue along this path.  I think at certain points we undercut him quite a bit, in terms of our own approach, our changed approach to North Korea, and now the alliance talks and the alliance transformation is basically bogged down on real estate negotiations, where we’re going to put troops and how many trees in Okinawa to cut down, and these sorts of things, rather than the really large strategic issues of how the U.S. and Japan are going to help to keep the peace together in the Asia-Pacific region. 

So we’re back to the 1990s, maybe 1980s, policy in Asia, which is very Sino centric.  This, despite the fact that we share so few interests, in fact, with China, and the policy rests on such a thin reed, really, with respect to China.  There’s so many groups in the United States, whether they’re in Congress or elsewhere, that really don’t like the China policy.  We don’t share interests on Iran.  We don’t share real interests on North Korea.  We don’t share interests on Taiwan on the role of democracy and human rights in the region.  The list goes on and on, and somehow we’re now in a phase where, once again, where our Asia policy is essentially a China policy of deep engagement. 

We have yet to deal, seriously, with the largest post-Cold War military buildup in the world.  As all other major powers were cutting their defense budgets, including the United States until September 11th, China, by its own numbers, and nobody else trust, has moved its budget from 1992 to 2006 more than 200 percent, thanks in large part to Russia’s largess, and this is truly, and China is at peace, of course.  China, after the Soviet Union collapsed, has never really enjoyed a more peaceful environment in a long time.  This peacetime military buildup can only be explained by what the Bush Administration first came into power thinking, which is, a Chinese desire to reorder international politics, particularly Asian international politics, and, so, we have yet, really, to come to grips with that. 

China will be in the news this year because of the Olympics, and I think some people will focus on the things that Americans and the West find distasteful, human rights, continued human rights abuses.  At least President Bush has brought up dissidence in the Middle East, even if he hasn’t abided by his commitments, that, certainly, China has been the exception to even bringing up human rights and dissidence.  But, again, the national news media, as it comes into China, will focus somewhat on these issues, and focus somewhat on China’s behavior in the Sudan and elsewhere.  But, I think in large part the Olympics will validate the forces that many people in the United States don’t like in China, the nationalistic, anti-democratic forces, and most likely they’re going to come away with a greater sense that this century is theirs. 

The Taiwan issue, again, another issue where, just, it’s hard to overstate the importance.  This continues to be the major flashpoint for a great power war.  Our approach is stuck in the 1970s where Taiwan is, of course, a de facto democratic country at this point.  People, I think, within the Administration and perhaps elsewhere, are fooling themselves into thinking that a presidential election in Taiwan will, and if the KMT win, will somehow solve the problem, it’ll be more appeasing of China, less provocative. 

But, this simply belies reality, that Taiwan, the body politic has changed so much in Taiwan that the KMT has to change, has changed.  If you’ll notice, there are two referenda now, one by the KMT and one by the governing party on whether and how Taiwan or the ROC should join the United Nations.  This says a lot about how much Taiwan has changed.  To try to shove it back into a box that made sense maybe in the 1970s doesn’t work.  It may be emotionally gratifying in the short-term for some people to chide Taiwan and the unpopular Chen Shui-bian, and kick them and hold up needed arm sales, like F-16s, but, in the long-term, it hurts our interest.  So, we really have not grappled with the fact that China, unlike Russia, is rising, its economic and military power keep rising, we’re stuck in old policies. 

On the North Korea issue, which I said might come up, just very quickly to sum up, again, we had a diplomat here speaking the truth about the fact that the policy is not working, the policy, everyone’s objectives being to disarm the North Koreans, the next Administration will inherit a nuclear-armed North Korea.  I don’t think there’s any question about that.  We have questions that have not been answered for some mysterious reason about North Korea’s possible proliferation to Syria.  I think that Congress is getting restless about that question.  Our threats just have no more credibility in North Korea.  There’s very little incentive for the North Koreans to abide by any of their commitments at this point.  We’re going to have to do a lot of work, whoever gets into power in 2009, on repairing the central relationship that we’ve undercut, which is the U.S.-Japan relationship. 

Thomas Donnelly:  Okay, I’ll try to be as brief as possible.  My subject, broadly speaking, is the war, which I’m pretty sure is going to be in the speech, in one form or another, but, my comments will also include remarks about what I think ought to be in the speech.  So it’s kind of, possibly a scorecard for assessing the President’s remarks on the war broadly speaking. 

Obviously the central front in the war remains in Iraq.  I certainly think the President has a lot to be proud of over the last year.  I would certainly expect him to review the history of the surge, which has, I think, now broadly been accepted, finally, as a successful move, but certainly one that’s incomplete.  So, there ought to be a number of remarks, and I’ll elaborate in a minute or two, about the way ahead in Iraq. 

But, in addition to the simple military success of the surge, there are some important political benchmarks that I think the President will underscore, most notably that Al-Qaeda in Iraq, and I don’t expect him to use anything other than euphemistic language for this, but AQI has been about as decisively defeated as it’s possible to do.  There is still a significant amount of sort of follow-on pursuit, mopping up operations to undertake, so, the story isn’t over, but, compared to where the situation was a year ago, the absolute crippling of Al-Qaeda in Iraq is just a remarkable success story. 

I think there are conditions for broader political process, again, in contravention to conventional wisdom, I think we’ve been looking very much in the wrong places for the indicators of political progress, but now we see that there are some connections beginning to be made by the local political process, the grassroots level political progress is beginning to effect the situation in Baghdad, which is, obviously, kind of a trailing edge indicator those guys will be the last to confirm political progress that’s occurred elsewhere, locally, and on the ground.  But, again, I think particularly with some of the recent actions of the Parliament you can see that [inaudible] to be made. 

The other Iraq issue, or, nexus of issues, is what’s the way ahead for the coming year, and, importantly, beyond the coming year.  This State of the Union is important to begin the process of transitioning the conduct of the war from the Bush Administration to whatever follows after.  In particular, if there’s a change of party, it’s going to be an important moment for the conduct of the war.  It’s very difficult to think of a change of party like this in the middle of a long conflict, possibly you have to go back to the change from federalists to republicans at the turn of the 19th century in the middle of the long struggle with France and England, to come up with any kind of an American historical analog.  But, at any rate, the Bush Administration has to begin to pave the way for a successful transition as is possible. 

The most obvious question on that front is the question of troop levels in Iraq.  Obviously the Administration is beginning to wrestle with that, beyond the question of after the D surge, the withdrawal of the five brigades that were deployed for the surge, what then?  I think the reality on the ground is going to be that anything below 15 is really problematic, in part because of our success.  We are now fighting in places that we haven’t operated in for a long time, and in order to continue to pursue the enemy we’re going to have to operate at a more dispersed way, while at the same time, keeping a military cohesive core in and around Baghdad.  So, just as strictly kind of a number of troops to a space that needs to be patrolled, frame of reference, going below the 130,000, 15 brigade level, is going to be problematic. 

The second one is whether to leave Dave Patraeus in command through the end of this Administration.  Again, I believe the Administration is leaning very strongly in that direction.  I think that’s crucially important to try to insure some continuity of policy across the change of Administrations, has been reportaged to the contrary that Patraeus would go elsewhere, but, one ought to look for indicators in the speech as to whether the President intends to retain some continuity in Iraq through the change of administrations. 

Final issue is the question of the long-term status of U.S. forces in Iraq.  The U.N. mandate under which they now operate expires in a few months, and, importantly, the anti-war opposition, the democrats, are making a point of trying to prevent an arrangement, a status of forces like agreement, that would commit the United States to continued strategic partnership with Iraq, going forward, at least without a congressional approval as though it were a formal treaty.  I think the politics of this are, again, as we’ve seen over the past year, possibly a game of chicken where the Administration actually holds pretty much all the cards.  Nonetheless, that’s an issue, and, again, one should look for indicators of the President’s commitment to that issue in the speech. 

Second front is Afghanistan, which I think we can see, particularly from the recent comments of Secretary Gates, that, just because attention is being, more attention is being paid to Afghanistan, this is no longer the forgotten war, because the great victory, the post 9/11 victory in Afghanistan, is in a much more tenuous position than it was.  I don’t think we’re, at the moment, anything like headed for defeat in Afghanistan, but whether we’re on a good glide path to conduct successful elections early in 2009, again, right after the change of administrations, and then probably parliamentary elections in 2010, is a real open question.  I think the Administration has begun to grasp the need to do more in Afghanistan in order to maintain the success, and certainly that a failure to conduct a successful election in 2009 would be a strategic catastrophe.

That particularly means doing a better job of securing the South, where the enemy, where the Taliban enemy is more revived, in sectors where American troops have generally not operated, and where NATO needs some help.  How that’s all going to come out, it’s very difficult to say, but, again, one should look for indicators in the President’s speech as to whether the Administration is going to do something on a fairly timely basis to create these conditions for success so that there can be an election early in 2009. 

And, of course, underlying that, there’s the question of what about the NATO alliance in Afghanistan? 

The kind of nub of that issue, however, is that the domestic perception in this country is that the fight in Afghanistan is about Al-Qaeda, when, factually, it’s not.  There is no real Al-Qaeda presence in much of Afghanistan, which brings us to the question of Pakistan, which is where Al-Qaeda really is.  While there was the initial furor after the Bhutto assassination that might have allowed for some significant redirection of American policy, and I wouldn’t be surprised if the issue were mentioned in the President’s speech, I’m somewhat more skeptical as to whether there’s been a serious reevaluation of how America should approach Pakistan, the conundrum between the lust for stability and the desire to promote liberty and legitimacy is about as paralyzing in Pakistan policy as it is in Iran or in East Asia or anywhere else, and the situation is further confounded by the fact that the Pakistani army is the biggest part of the problem, but also the only hope for solution.  So, the idea that the Administration would have come to clarity on that in such a short period of time seems unlikely to me. 

I want to conclude with kind of some general remarks about, because I think we should begin to think about the eight years of the Bush presidency and national security in strategic terms, and it’s been a remarkable period of transition.  The change from where we were when the President came into office in 2000, and where we will be when he leaves office, even using straight line predictions over the next year, is really quite remarkable.  This has been the first post-Cold War presidency.  We did take occasion from history in the 1990s, but the world of power politics has come back in a pretty virulent way, certainly since September 11th.  But, as my colleague suggested, it’s happening not just in the Arab world or in the Middle East, but really across the planet. 

So, however one grades the President over the course of his eight years, I think it’s really, and I would say the result is quite mixed, but we have crossed a bridge that we cannot recross, and the conditions that this Administration has set will be the conditions under which the new president takes office.  To me, I think trying to step back a little bit, it is not really the failures of the freedom agenda that are the most striking, because the freedom agenda is not something that the foreign policy operate really responds to positively, so, the fact that there is possibly a prospect for a future freedom agenda, that it’s even on the agenda, I think is something that, again, will be a Bush legacy, and whether he returns to it rhetorically in the speech tonight or not, it’s certainly part of the inheritance that he will leave for a successor. 

Danielle Pletka:  Very good, thank you Tom.  I apologize, I’m losing my voice.  The one name you didn’t hear on the dais today was Osama bin Laden.  I doubt you’ll hear that from the President either.  But, of course, the question of homeland security, one that we haven’t addressed, but, indirectly, in talking about the sources of the threat to us, is a very interesting one because the one thing that the President, and most of, I think, rightly, and, unfortunately it’s one that is hard to prove because it is a negative, is that since September 11th there has not been another attack on the American homeland.  Yet, I think that one of the downsides of the President’s legacy, and one that perhaps he will not face up to, as someone who is rather forward than backward looking, is the fact that we see, on the ground today, a lot of the circumstances that existed prior to 9/11, a Pakistan in which there is a collusion between our putative allies, and the Taliban and Al-Qaeda and Afghanistan, that is unfortunately a little less stable than we would have liked, and a U.S. in many ways in retreat from challenges in places like North Korea and Iran, a peace process that is going nowhere.  It sounds a lot like the last year of the Clinton presidency, and I think that’s probably not a very good thing. 

Let me turn to our audience and invite you to offer our panelists some questions.  If you would just be kind enough to abide by our rules, raise your hand, wait for a microphone, and identify yourself, and do keep your speech in the form of a question.  This gentleman right here. 

Jack Twist [ph.]:  Good morning.  My name is Jack Twist, [indiscernible] Embassy, I’m losing my voice as well I can hear.  I want to ask a question about NATO enlargement.  The summit is coming up in Bucharest, and are certain countries that hope to get map staged or even be invited for membership.  Do you expect anything, Mr. Donnelly, do you expect anything about that in the State of the Union? 

Thomas Donnelly:  Honestly, I don’t, there might well be.  The upcoming summit is likely to be a relatively contentious one because of the issue of Afghanistan.  It’s also likely to be a summit at which new American proposals for Afghanistan are on the table.  That wouldn’t preclude further progress on the expansion agenda, but, because I think, what Secretary Rumsfeld used to call old Europe, will have some new inputs to digest in regard to the conduct of the war, and because Secretary Gates’ comments of late have been more Rumsfeld-like than the smooth diplomacy of Robert Gates that he’s been known for, I could see that the expansion agenda might be shuffled a bit to the back burner.  Of course there are also the questions arising around the building of the missile defense system.  So the NATO plate is pretty full.  I think it’s just a question of whether the expansion agenda proceeds on a separate track as it often does, actually.  So, I think the one way of saying I don’t really know. 

Leon Aron [??]:  The NATO expansion, of course, is one of the most active areas of friction with Russia.  President Putin has traveled very recently to Bulgaria, a new member, but, to see if he could induce it with some rather hefty bribes in the form of participating in the new gas pipeline that Gazprom is building, and so on and so forth.  To make it less than [inaudible] and less than effective a member of NATO.  At the moment it seems that only Croatia probably would fulfill the criteria, whereas, of course, Albania and Serbia, I doubt would qualify, even if Russia was not opposing them.  But, and it’s precisely in the area of Albania and Serbia where the second frontline, as it were, lies, and that is, of course, the question of Kosovo, a very important, that’s another sort of putative redline or reddening line that Moscow has laid down.  We will see in the future, very soon, actually, very soon, Moscow sources predict that the Albanians, the Kosovars will declare independence almost next week or the week after.  We will see some fireworks.  We will see some repercussions, of course, in South Ossetia, Abkhazia and Georgia.  We ought to be prepared for this.  Whether or not NATO expansion was a good idea in the 1990s, and I, at that time, was not certain, it looks like a far better idea now because it locks in the new members and creates a certain amount of counter-wailing to the Russian restoration. 

Commander Donald Cuttington [ph.]:  I’m Donald Cuttington, Commander Donald Cuttington.  I’m the Navy fellow here at AEI.  My question is about the Taiwan Strait.  Since about last August, is the first time that I saw the use of kind of a new phrase by some State Department officials, up through most recently Admiral Keeting [ph.], the head of Pacific Command, using the term, the U.S. opposes Taiwanese independence by the previous term, which I think was more along the lines of, do not support.  On the U.S. side some commentaries I’ve read indicate, saying there’s not a lot of difference in those terms.  My question is, how does China view that difference?  Do you think that is significant or not?  Thank you. 

Dan Blumenthal [??]:  You’re getting into what we call the priesthood of China relations, where, there’s three communiqués and five promises, and we oppose, and use of force.  The formulation as we oppose the use of force and do not support Taiwan independence, mostly, if public officials say we oppose Taiwan independence, they’re speaking for themselves, it’s a gaff, and maybe they really believe it, but policy hasn’t changed.  If you think about it, if we actually say, if we come out and say we oppose Taiwan independence, then, if you imagine 20 years or 30 years down the road, which is the great hope that China would change, and the two would work out some sort of arrangement, but we’ve foreclosed one option, I mean, I don’t think anyone who thinks about this for more than 5 minutes, actually, would, anyone at the highest levels of the national security establishment, to the extent they do think about it, would actually want to foreclose any options whatsoever.  Of course that’s what the current [inaudible] in China wants Americans to say.  They want everybody to say that.  They talk about Taiwan as a part of China, a part of the motherland, so on and so forth, but the United States has simply never accepted that definition.  It’s always been the two sides will work this out peacefully, work out the status of Taiwan peacefully. 

So, again, people who come in and make these types of mistakes, a lot of times the Chinese try to induce them to make those types of errors, and like those kinds of errors, and try to come back and say, look, you said last week that you oppose Taiwan independence, you’re changing policy, if you change policy on this, then we’re going to change policy on that.  But, again, anyone who, if the State Department hasn’t clarified that, that’s one thing they’re very good about, which is, they wrote the policy, they’re going to come back and clarify that the right formulation is, we do not support Taiwan independence, but we don’t oppose Taiwan independence either. 

Kevin Hassett:  Kevin Hassett.  I have a question pretty much for all the panelists, which is that the economic circumstances right now are highly uncertain, we might have a world recession, we might not.  But, suppose we did.  I think that some folks think the downside on the price of oil is about as big as we’ve ever seen, that you could drop 50 percent, or something like that, if [inaudible] because demand for oil would go down.  So let’s just assume that that happens, it’s pretty improbable, but let’s just say.  So, what does that do to everything?  So all of a sudden Russia’s money from oil is going down, Iran’s money from oil is going down, Iraq’s money from oil is going down, and a lot.  If that happens, I would guess that it would have a big impact on all the things you think about, and I wonder if you could sort of each flesh that out for us? 

Danielle Pletka:  Thank you, Kevin, it’s actually a fascinating question because the enormous amount of wealth that’s spread around has kept bad economic policies afloat in Iran, ditto for Russia, interesting question for China.  We spend a lot of time thinking about these things, so perhaps we could go down the line, and start with Michael, just for a moment. 

Michael Rubin:  Kevin, it’s an issue which Iran experts from all sides of the political spectrum in the United States discuss.  There is general consensus that Iran, the regime, will have a hard time surviving if oil drops below around $60 a barrel.  The news from the official Iranian media over the last day, the Fars News Agency, is that Tehran is experiencing unprecedented blackouts because of its failure to produce electricity.  There is an issue where there’s been a severe natural gas shortage throughout most of the northern provinces, and this, rather than Hormuz, rather than the nuclear issue, is what’s dominating the debate surrounding the March 2008 Iranian parliamentary election.  If oil wasn’t where oil is now, that would only be amplified further. 

Leon Aron:  Kevin, I touched on this in a speech, in a presentation, let me just move it a little bit farther.  Assuming this does happen, that serves the current regime, which generally had preferred to buy enemies, or buy their silence, or buy their newspapers, and buy the opposition newspaper, buy the opposition television channels with a rather hard dilemma, because then you’ll move from the sort of soft, a still soft authoritarianism to a very hard choice.  You would then have to decide whether you would really start repressing, you would really lose whatever image currently is projected.  Democracy with all kinds of adjectives, sovereign, non-sovereign, ultra-sovereign, to just simply forgetting about any pretense, which the current elite, I think, would be divided on, because, with their children and wives in London and in Florida and elsewhere, it’s a tough choice.  In any case, not being able to buy your loyalty for any regime is a tough choice, for this current regime that is essentially predicated on the cynical [inaudible] of buying people’s loyalties from top to bottom.  That would be a very tough choice. 

Dan Blumenthal:  It’s a very tough question.  When you think about China, you think, if it’s an economic recession that’s effecting China too, but the demand for oil is going down, the price of oil is going down, obviously if it wasn’t [inaudible], it’s taking a first part of that, which is an economic downturn for China, unlike the way Leon described Russia and its lack of stability if Putin were to go tomorrow, China does have the security services and does have the PLA, does have the coercive mechanisms of the state, the CCP does, the Chinese Communist Party does. 

An economic downturn would, of course, be destabilizing, and a lot of these protesters seen over the last few years because of inequalities, because of expropriations of property and land, or peasants unable to find work, have not lit the prairie fire, so to speak, and we haven’t seen another Tenement Square, and that’s because a lot of people are still doing very well, but I think mostly because the coercive arms of the CCP are still very much with the CCP. 

So I wouldn’t see, I doubt a major destabilizing internal event in China.  I do think you would see the growth in importance of the military and the security services.  If right now you’re kind of seeing a soft balancing of the United States, a kind of good neighborly policy, to reassure the region while China builds up its power, you might see a more confrontational China if there’s an economic downturn, and they don’t have that pillar of economic growth anymore.  So, that’s the way I think, it’s a very tough question, one that I think we do need to address, but I think that’s the way it would come down, again, presuming the economic downturn in China as well. 

Thomas Donnelly:  Real quick footnote to Dan’s point.  Some of China’s strategic investments and energy, only make sense at very expensive prices per barrel.  So they, I think, would have to make some things like the Western pipeline, for example.  So they’d have some serious, if there weren’t internal stability, they’d have to rethink their grand strategy. 

I think it’s impossible to predict what the effect would be in Iraq.  It might have an ameliorating, obviously that’s part of the big internal domestic [inaudible] in Iraq, so whether that would ameliorate the pressure, as a fight over the revenues from the resources, or whether it’d exacerbate it, I think you could make the argument both ways.  But it would certainly add a degree of volatility to the internal Iraqi debate.  I don’t think it would have much difference in regard to the fighting in Afghanistan or Pakistan.  The real problem in Afghanistan is a Talibanized exploitation of local grievances that have nothing really to do with the larger picture of things.  So that would certainly continue.  Pakistan is, just again, in an internally tumultuous moment and I don’t think it’d have much difference one way or the other. 

Danielle Pletka:  Kevin, the only place we haven’t talked about is Saudi Arabia, and I hope that one of the things that you all are going to talk about is something that seems to be front and center in the papers lately, and that’s sovereign oil funds.  That money all comes from one place, and that’s high oil prices.  The Saudi ability to crackdown on what has been the root of the ideological underpinnings of Islamic extremism and Wahhabi terrorism is all enabled [inaudible] and what we saw in the past was that when oil was at $10 a barrel, they didn’t do a very good job fighting that, to the contrary, it rose up, significantly.  So, that compact, that ability to provide for the Saudi people, while suppressing their extremist tendencies in the society, would go away, which would be a big problem for the United States. 

Let’s turn to, sir.  If you would wait for the microphone, thank you. 

Dimitri Seider [ph.]:  Dimitri Seider of Commerce Sun [indiscernible] Business and Political Daily.  One question, if I may, for Leon Aron and Michael Rubin, please.  The first one, Mr. Aron, do you think that this Administration made Putin, what’s called, our son of a bitch, like President Musharraf and King Abdullah in Saudi Arabia?  And, Mr. Rubin, a lot of people in this town think that Israel was sold out by this Administration in order to comply with the Saudi initiatives.  What do you think about this? 

Leon Aron:  No, it hasn’t, well, I won’t go too much into languages and metaphors, but, no, our son of a bitch goes to Truman, and it denotes an unsavory dictator who nevertheless is a U.S. ally.  While the first part of this definition is increasingly there, the second part is not.  So, no, he is not our son of a bitch. 

Michael Rubin:  I’d like to actually broaden the second question, because it’s not just an issue with, in your words, selling out Israel to achieve short-term or symbolic gains.  There’s been an unfortunate tendency in this Administration, especially in the second term, to go back to the traditional diplomacy, which coddles adversaries, rewards, gives carrots for bad behavior, and punishes allies, or pressures allies to make concessions, which are very negative to their security and well-being.  This doesn’t just affect Israel, this affects Taiwan, this affects Japan, this affects South Korea, a whole host of other countries.  Sometimes it would be very useful if policymakers who should be looking from the 100-mile or 100,000-mile perspective, would get out of their regional bureaus, get out of the trees, if you would, and see the forest. 

The last thing that is in U.S. strategic interest is to not only betray any ally in the short-term, but also recognize that any time you pressure a democracy for a concession that’s against its security interest, that reverberates, in this case, not only in Jerusalem, but it also reverberates in Taipei, in Seoul, in every other democracy, and, at the same time, it reverberates in Tehran, in Damascus, in Pyongyang, in Havana, in Caracas, and in a whole manner of ways which aren’t positive for the U.S. decades down the road. 

Danielle Pletka:  Very good.  I don’t think I see any further questions, so what we’re going to do right now is take a very short break and move to our next panel on the economy.  Thank you all very much, and thank you to our panel.

Panel II. 

Karlyn Bowman:  Good morning.  If you could all take your seats.  I’d like to welcome all of you to the second session of AEI’s State of the Union preview.  My name is Karlyn Bowman, and I’m a senior fellow here at AEI.  As President Bush prepares to deliver his final State of the Union address tonight, he confronts an American public that is dissatisfied with his leadership and with the direction of the country.  Perhaps the only ray of good news for the President in recent polls, partisan differences that have so polarized our polity on issue after issue have all but disappeared on the importance of bolstering the nation’s economy, as democrats, republicans, independents agree that strengthening the economy should be the nation’s top priority. 

To talk about how to do that, we have four of AEI’s top economy watchers.  Each will speak for about 10 minutes and then we’ll turn to your questions.  Those of you who are with us today have speaker bios in kits, but let me just give a brief introduction of each of the four individuals here who will be speaking for our C-SPAN audience. 

Kevin Hassett is the director of economic policy studies and a resident scholar at AEI, and also a weekly columnist for Bloomberg News.  He is the author or editor of six books on economics and economic policy, including Toward Fundamental Tax Reform.  In a recent column, Kevin argued that the movement toward the short-term stimulus package was regrettable, in part because it dooms any other major tax legislation this year. 

Phil Levy, who is substituting for Lawrence Lindsey, specializes in international trade and development.  Before joining AEI, he handled international economic issues as a member of the secretary of state’s policy planning staff, and before that was senior economist for trade on the President’s Council of Economic Advisors.  Phil has recently written a column about the four pending FDAs, arguing that the global economic benefits from them are great, while there are negligible domestic economic consequences from those agreements overall. 

Vince Reinhart has recently joined AEI, and he is a former director of the Federal Reserve Board’s Divisions of Monetary Affairs, and he’s spent more than two decades working on domestic and international aspects of U.S. monetary policy.  For the last six years, he was in the especially sensitive position of secretary of the Federal Open Market Committee, and I’m sure has many things he could tell us about the operation of the Fed that will be of interest to those of you watching the economy closely.  He’s uniquely qualified, I think, to tell us about what we might expect from the Fed in the months to come. 

Peter Wallison holds the Arthur F. Burns Chair in Financial Policy Studies at AEI, where he co-directs the Institute’s program on financial market deregulation.  He’s been a relentless critic of Fannie and Freddie, and I think he’ll have more to say about that this morning. 

We’ll begin with Kevin Hassett, [inaudible], about 10 minutes. 

Kevin Hassett:  Thank you very much, Karlyn.  I think this is the first time in a number of years where we’ve had this event and the defense policy panel was significantly more optimistic and happy than the economic panel, which I think is likely to be the case.  Make no mistake about it, there’s an international economic crisis going on, the only question is, how big is the crisis?  The economic data have turned not quite negative but sort of into the range where we think there might be a recession coming, and Congress and the Federal Reserve are acting. 

I think that as we enter this year and think about what the President is going to say, we’d have to say, looking at the address tonight, that he’s got an interesting conflict, unlike any that I can remember seeing a president have, and it’s this, that, generally when a president is in his last State of the Union it might be really the last time he has a chance to speak to everybody and talk about his legacy.  So, on the economy, at this point in time, it would be a great moment to list your economic accomplishments and talk about how glorious they’ve been and what a strong economy you’re leaving your successor.  President Bush is not really in a situation where he can do that because the economy is turning down enough that he’s even advocating a stimulus package.  So, on the one hand, he’ll have to try to convince us that his economic legacy is a strong one, on the other hand, he’ll have to convince us that the economy is so weak that we need to adopt his stimulus plan.  I think that that’s going to be a very artful and difficult thing for his speechwriters to deal with. 

I think that as we look forward on economic policy, that there are two scenarios that I think are about equally likely, and before I talk about the details of the stimulus package, I’ll talk about the scenarios.  In scenario one, the outcome of the financial crisis, the credit crunch in the U.S. will be that business-fixed investment, in addition to housing, turns down, and we head into a full-fledged recession.  I’m certain that if a recession began, it did not begin in December, it would have to be January, looking at the data.  Right about now a recession would begin, whether it would be deep, or not, is anybody’s opinion, as would be admissible, because there’s a lot of very negative forces right now, but then there’s some positive ones, too, including the Fed moving early, and Congress moving towards a stimulus package. 

The other scenario is that the economy doesn’t go into a recession.  Indeed we find, as the data start to come in, that we all were panicking over not that much.  There’s a wonderful and interesting piece describing this scenario in The Wall Street Journal today by Brian Wesbury [ph.], and I draw a little bit on his analysis as I paint this scenario, but the basic idea would be that we had a very, very strong third quarter, it’s quite common after a strong third quarter to have a weak quarter.  Right now the people who bean count the quarterly data are saying that fourth quarter GDP may be 1½ percent or so, and it might well go up from there, indeed housing is now a very small share of the overall economy, less than 4 percent, and it’s already gone down a heck of a lot, and, so, how much further could it really take us, and everything else will work out in the end. 

This view, that things might not be so bad, has been bolstered, somewhat, by really the only data we have that’s useful and reliable for January, which is the initial claims of unemployment insurance data, which have actually been showing expansion.  Now, a pessimist would look at the initial claims data and say that they’ve been doing that because of weird seasonal adjustment issues, and so on, and they’re about to turn bad.  The two, the pessimist and the optimist could fight before us for an hour and we wouldn’t be able to pick a winner, because [inaudible] right now that we get one or the other scenario, and it’s about a coin flip, probably, and that’s where you should think about where we are. 

Now what that means, is, that as we now turn to the tax package it’s not implausible that we get enough, we start to get enough really good data between now and the time that they actually vote and pass the stimulus package that the President will talk about tonight, that they decide not to do it.  It’s, again, probably about a coin flip that that happens.  But if they decide that they’re going to do it, and I think a key factor might be the employment report for January.  If we found out in January that we added 150 or 175,000 jobs, then people are going to calm down, and if we lost 80,000 jobs, as happened right before we had our last stimulus package, then they’re going to rush it out. 

Now the good news is that if they rush the stimulus package out, then, unlike a lot of stimulus packages in the past it will come out right about at the beginning of the recession.  As I said, we’re virtually [inaudible] the recession didn’t begin last year, and, so, it’s got to be happening right now.  If it’s happening, and so if they get the stimulus package out now, then it will be timely. 

So then the question is, will it work?  There are two aspects to the stimulus package that are significant.  One is on the business side, the other is on the individual side.  On the individual side, the President, Congress, have agreed to give people basically the tax refunds, and those tax refunds would be in the mail pretty much I guess, they say that filing isn’t necessary, but since the refund depends on your ’07 taxes, what’s going to happen is you’re going to start getting checks probably April, May, June, and June is probably the bulk of them, and the checks will be, perhaps, for as much as around $1,200, if you’ve got enough kids. 

Those checks in the mail have a somewhat sorry history in economics.  We’ve studied this going back really to the ‘50s, and, Milton Friedman’s original observation, when talking about temporary tax cuts like this, is that a smart person would recognize that their lifetime income didn’t go up very much, and they wouldn’t really spend much of the check they get in the mail from the government.  Then, really, the Keynesian response to that, was, well, yes, but there are some people who just eat their income, or eat a fixed share of their income, and those folks, if you mail them a check, then they will consume. 

In 2001 when we played this game, the evidence, I actually find, there are a couple of papers on this, and I think that the evidence of Parker and Solalis [ph.] and one other co-author was kind of convincing that people spent a lot of it.  The problem is that we can’t conclude from that they’ll spend a lot of the money this time, because back then there was, if not a permanent, at least a long-lasting tax cut associated with the rebates.  So, Friedman would say, oh, yes, well, people will consume more of that because it’s just the down payment on the tax cut they’re getting over the next ten years or even longer.  The fact that they worked in 2001 could be because everybody has turned into a Keynesian consumer, and, so, therefore, the stimulus package on an individual side will actually add significantly to short-term demand, or it could be that it was because we had a permanent tax cut, or a near permanent tax cut back then, in which case the checks this time around won’t work very well. 

My guess is that it’s going to be the latter, and to the extent that we’re worried about a deep recession, then that measure will, well, it’d be a waste of money, it won’t necessarily be as powerful as its advocates would hope. 

On the business side, there’s something that goes back to the early ‘60s, really, a form of accelerated depreciation.  Still, I think with the Senate, that part might be the thing that’s negotiated the most.  Back in the ‘60s I once spoke with an old advisor of President Kennedy, and he told me that when they’re entering a recession, [inaudible] asked him what he should do.  He said, well, I think what we need is some kind of accelerated depreciation.  President Kennedy said to him, well, that’s not going to work because I can’t go out and give this speech to Americans in a town hall somewhere and say the words accelerated depreciation.  Isn’t there anything else you can come up with?  Then he thought for a minute, and he said, well, you could recast it, and call it an investment tax credit, but it’d be the same thing.  Kennedy said, that’s great, I can talk about an investment tax credit.  Then the investment tax credit was born.  I think a mark of our economic sophistication as a society is that we’ve now grown to the point where we’re willing to call an investment tax credit accelerated depreciation, and that’s what we’re doing now, and that’s what we did last time. 

I just finished a paper with co-authors from Berkeley, Eric Chaney and Alan Auerbach where we looked at the accelerated depreciation of the last episode, temporary, partial expensing it was called, and found that it provided a pretty significant stimulus to investment.  Matt Shapiro, at the University of Michigan, found something similar, and with Haus, his co-author, they even found that the effect happened more or less as soon as people realized that it would eventually become law. 

Back then the House passed a partial expensing bill that didn’t become law, sort of right after 9/11, but then ways and means committee [inaudible] get something done by early next year, and if we do, we’ll make it retroactive to 9/11.  So don’t worry out there you potential purchasers of machines, it’ll be retroactive to 9/11, so you can start buying right now, you don’t need to wait.  People did.  You could see a bump up in orders of machinery by U.S. manufacturers right after that announcement.  I would guess that the business side of this is something that, especially if the January employment report is negative enough that we think that something is going to happen, would occur right away. 

So what that means is that the stimulus package that’s probably about to be agreed upon has one part that’s pretty strong, another part that might be strong or might not, depending on what side of the academic debate you’re on, and whether that matters or not I think will be determined by how bad the recession might get.  The history of tax policy around recessions is that generally they do something modest, and then if the recession is a typical one that goes away in about 11 months or 10 months, and starts to look like it’s getting better halfway through, and, again, getting better can be very apparent in equity markets.  Equity markets usually go up about 12 percent during recessions because people start to see the end of it.  If that’s the scenario that we see, equity markets are starting to celebrate the end of recession before it happens, then it’ll be fine, and they’ll stop. 

But another thing that happens sometimes, and could happen in the fall, and we need to think about it as we’re looking ahead, is that the recession is deeper than anyone thought, and then if you think that people are panicking now, imagine what the panic will be like next October, after we’ve had, say, our third quarter in a row of growth below negative 1, or something like that.  I’m not saying that’s going to happen, but, if it does, then you could imagine what kind of tax policy you would see, and it would be a really, really dramatic tax cut.  That’s something that’s happened in the past, when we have deep recessions that generally do a half measure at the beginning, and then something that’s overkill at the end. 

I think that in this scenario, given that we’re sort of going out to begin with, with something that’s maybe going to be a little effective, but it’s not as dramatic as you might hope because we’re not sure we’re going to have a deep recession, then the potential for that kind of scenario this year is significant. 

I think that’s what likely to happen, to close tonight, is that President Bush is going to focus a lot on the near-term challenges, and not much on his legacy.  I think that that’s probably an appropriate choice, given the legislative challenge that he has, but also given the complexity of the legacy discussion, because how it turns out in the end is going to depend a lot on how the election this year turns out.  Whether his lower marginal rates are viewed as a sort of long-run change to the tax code, that it was a positive, will, in some sense, be a history that it will be written or not by the victor in November.  So, given that, it seems like it’s not a great place for him to go in his discussion, other than to urge the permanence of his tax cuts on Americans.  I would expect that the focus will be more on the near-term issues. 

There are a few other economic issues this year that the President is going to have to negotiate with Congress.  Given that we don’t have someone whose time is allotted to this topic, the one other thing I’ll mention is that my guess is that the thing that the President will spend the most effort on this year, and it will actually be quite reminiscent of his first year, is the No Child Left Behind Act, which, I think, that he is going to want to renew, and Congress is going to maybe want to not do it, but, there might be a deal there that could be worked out.  That might be the thing that Bush thinks of as his legacy issue this year. 

Philip Levy:  Thank you.  So I wanted to take this to the topic of international economic policy and what the President may or should say about international trade and finance.  I guess in the classic State of the Union address, among the things one often does, you call on Congress to do certain things, and then you state some principles that you want to lay out very clearly and visibly as U.S. policy.  There’s plenty of opportunity to do this in trade and finance. 

I think the coming year is going to actually be a critical one.  In the year just passed, if we start with trade, the Administration ran out its negotiating authority.  It had negotiating authority that lasted until last summer.  That negotiating authority is what, for practical purposes, lets the U.S. trade negotiators go have effective discussions with the rest of the world.  They can go and talk without it, but the problem is, it’s a promise from Congress that they will only vote up or down on whatever comes out of those negotiations.  Without that, nobody is very confident that some carefully wrought bargain is going to survive congressional amendments.

So, that ran out, the Administration that concluded a number of trade agreements, and then it was faced with a democratic Congress, and there was a sharp disagreement underlying the approach to trade policy over what the proper role of labor and environmental regulation should be.  Last May the Administration sat down and struck a deal, and made some major concessions, sometimes dubious concessions, but they made concessions to try and expand the role of labor and environmental promises in these trade agreements.  What they were supposed to get in exchange was, in particular, you had four trade agreements that were pending, with Peru, Colombia, Panama and South Korea.  Those were supposed to be at least brought up for a vote, if not passed.  Then there was a hope that this was going to break what had been a very partisan deadlock over trade policy, and that you might get some bipartisan progress moving forward, that the U.S. would get, that the Congress would give the President new negotiating authority, which would let things like the multi-lateral trade talks move forward. 

So far, what we’ve seen on this, was, Congress recently passed the Peru trade agreement.  That was a good thing, it’s a good start, and the President will likely thank the Congress for doing that, but it’s only a start.  These agreements are fairly obvious measures for the U.S. to take by any foreign policy or economic criteria.  One of the things I would argue here is that this is really a crossover issue where it has some economic implications, but a lot of foreign policy implications. 

So, had we rejected Peru that would have just crippled our standing in Latin America.  The Peruvian President has been a staunch ally, opponent of tyranny in Latin America, and to slap away someone like that would have left us with very few friends in the region.  But you could make that same argument for Colombia.  It’s at least as significant, and so is South Korea.  Those are still out there. 

There’s a real question of whether they’re going to be brought up, and whether the President is going to force the process under the previous trade promotion authority to make Congress bring these up.  I think the preference is certainly that Congress will deliver on its side of the May bargain, and I’m sure the President will call on them to quickly take up these agreements and pass them.  The Administration has been working sort of feverishly shuttling Congress people down to Colombia so they can actually see the situation on the ground. 

But these agreements are really critical to our foreign policy in the region.  The general debate, and this is the thing I don’t think the President will say, the general debate has been slightly miscast.  There’s an eagerness on the part of the Administration to say that these are truly momentous for the U.S. economy, that really wonderful things for the U.S. are going to flow forth once we pass these.  The fact is that these countries are small relative to the U.S., economically, I think Colombia is something like 3 percent of U.S. GDP, and we’re already very open to these countries.  So, when you get the Independent U.S. International Trade Commission analyzing what will the economic effects be of these agreements on the United States?  Very, very small, it’s positive, these are gains, but much of the debate that we hear in Congress is, this is going to do terrible things to U.S. workers, it’s going to have all of these repercussions.  There’s really no evidence to support that. 

You could talk about what trade does overall, but these particular agreements are very lopsided, actually.  Our trading partners opening a lot to us, when we’re making very few changes with them, because we’re already open, for the most part, through things like the Andean Trade Preference Act.  That’s particularly true when we’re talking about the developing countries.  South Korea is a bit different because South Korea has average income on the order of $25,000 a year.  So, the kind of arguments that people worry about the most, it seems, with competition with low-wage labor, really would not apply as much there. 

So, the free trade agreements are something that the President will certainly call for.  He’ll call for the passage.  As we sort of look forward and forecast the year, if these don’t get passed, I don’t think anybody is going to be fooled, any of our partners, for example, in Latin America or Asia, will be fooled by saying, well, we’re just postponing these votes as opposed to taking them.  People recognize what the situation is, and it will be a major decision one way or the other.  We’ll either decide that we’re still going on this path toward openness, or, we’re going, to reject them will be a very, very strong signal that the U.S. is turning its back on the world. 

While I said these were small for the U.S. economy, there’s an indirect effect whereby they are big for the training partners, they’re very big for our foreign policy, and they’re big in the signal they send to the rest of the world about where the U.S. stands on trade policy.  Even colleagues I talk to on this sort of separate multi-lateral trade negotiations, on the Doha talks, they read these as signals.  They look at these agreements, and they say, these are so obviously beneficial for the United States, that if the U.S. is not willing to undertake these, why are we going to bother with making what can be sort of very politically difficult concessions and offers in a multi-lateral forum because anything like that, at least from an economic standpoint, would certainly be more challenging to get through for the U.S. 

Now, let me turn, then, to the Doha talks.  The Doha talks are different from the free trade agreements in that they’re not so directly under U.S. control, they’ve been hung up with an impasse.  There’s a couple of impasses, actually.  There is one over what we’re going to do with agricultural policy, there’s another really important one that doesn’t get enough attention, which is, what is the proper role of the major developing countries, Brazil, India, China?  Are they going to pretend to be minor players on the world scene, and sort of hold off the kind of liberalization which is expected of major players, or, are they going to be full participants and jump in and make reciprocal concessions the way countries such as Japan, and Canada, and the United States and Europe do? 

So, that’s a bit of an impasse, and it’s not completely under the U.S. control.  The U.S. has been a leader in this, and these talks have really stalled.  There are a couple of things that the President can and should call on the Congress to do, though, that would have, again, a major impact and greatly improve the prospects for a successful conclusion.  One of these is trade promotion authority, what used to be fast-track authority.  It’s the thing I mentioned at the beginning, that gives the President the ability, or the President’s people, the ability to credibly go and negotiate an agreement.  Without that, this will not be taken too seriously. 

The second big thing that the President could call on Congress to do, and I’m a little bit more skeptical, but I’d be very pleased if this is there, is to talk about agricultural policy reform.  That is part of the impasse.  We’re at a time when food prices are at a historic high, and where we have other uses for the money, and this has been one of the things where the U.S. has really been sort of roasted on the world scene, is, the sort of unwillingness to make further cuts into market distorting subsidies given to U.S. farmers.  This is unlikely to actually happen, I mean, I think the question now is whether we get a major farm bill, or whether they just roll over what’s been happening, or fall back to a much older agriculture bill.  But if the President wanted to take a philosophical stand, which would sort of put him in the right, and at least say a good intent to world markets, it could be a call for scaling back U.S. agriculture support.  That’s obviously something that’s sort of politically difficult. 

The last thing that I’ll touch on, at least here in my opening remarks, is international investment, which is a very big deal.  The U.S. economy, of course, is deeply engaged with the rest of the world, and international investment plays a key role in that.  I’m not sure people always grasp the extent of this engagement.  The U.S. owns something like $14 trillion worth of assets abroad, foreign countries own something like $16 trillion worth of assets of the U.S.  To put that in perspective, that’s roughly the economic output of the U.S. in a year, about $14 trillion.  What’s more, when we think about international trade as sort of an engine of the economy, as something that we’ve done well with, there is sometimes a picture of one country just sort of shipping goods abroad to another country and receiving goods in return.  Something like 40 percent of trade, this was referred to as related party trade, which is going between an affiliate and a headquarters company in different countries. 

So, and in many areas where the U.S. excels in trade, for example, trade in-services, investment can really play a key role.  These are things that are difficult to do from a distance, it’s part of what we negotiated in these free trade agreements, is the ability to get into a country and have representation in a country whether it’s sort of owning an affiliate or opening up a brand new investment. 

This is integral to how the U.S. functions in the world economy.  The U.S. has been a leader, it’s had a longstanding commitment to open markets, and recently there’s been reason to sort of call this U.S. commitment into question.  Went through sort of very well publicized cases like the Dubai Ports World, and the Chinese National Oil Company, these have sort of caused people around the world to take notice, and say, is the U.S. really as open as it once was, or as it claims to be?  There are things that the U.S. needs to be concerned about with investment.  There are certain companies that have highly sensitive technology.  There is this sort of new and sometimes perplexing issue of what to make of sovereign wealth funds. 

I think what the U.S. stance needs to be, and this is where the President could enunciate some principles that would be very helpful and could perhaps have an impact, is to say that the U.S. remains firmly committed to welcoming investment and to open investment on the world.  We will have a few exceptions, very, very narrow, and very transparent and clear where national security is at stake, where we’re concerned about, say, a state-owned investment firm running things in a political fashion.  But they’re going to be very limited, very clear, and we remain firmly committed to the principle.  It’s a tricky issue, we’ll see whether it actually does come up. 

The thing about these issues, is, they’re the kind of ones where, if you get them right, you will not immediately cure cyclical fluctuations and insure prosperity.  If you get them wrong, you may insure a very, very rocky time for quite a while to come.  So, this would be more on the order of sort of making long-term investments, but they’re critical ones. 

Vincent Reinhart:  Thank you.  The narrative arc of this Administration is such that President Bush could open his last State of the Union address by repeating his first.  In January, 2002, the President told the Congress, as we gather tonight, our nation is at war, our economy is in recession, and the civilized world faces unprecedented dangers.  This sentence captures three important threads that could be sewn into tonight’s speech, the perils of economic prediction, the unfinished, indeed, mostly unbegun work of long-term economic reform, and the hazards uniquely arrayed against the world’s most preeminent economic and financial power. 

Now, first, the economy.  We know now that there was a problem with the concerns the President expressed in January, 2002, about the ongoing recession.  The recession was not ongoing.  After the fact, the arbiters, the U.S. Business Cycle, the National Bureau of Economic Research’s Business Cycle Dating Committee pegged the economic trough at November, the prior year.  Indeed, real GDP was expanding 2¾ percent during the quarter in which the President was speaking.  Remember this experience as you listen to the steady drumbeat of advice. 

The fiscal stimulus is urgently needed today.  The truth is that economists are particularly bad at predicting recessions.  That’s because recessions are sharp and sudden.  As of now, the data suggests that economic growth will be sub-par, something around 1 percent in the last quarter of 2007 and the first half of this year on average.  An economy expanding that slowly is vulnerable to adverse developments, and, so, the probability of slipping into recession is quite elevated, something like the coin toss that Kevin mentioned.  But, in either case, of muddling through or outright contraction, economic slack will mount, is reflected in an unemployment rate traveling north of 5 percent. 

The good news is that modern tools are available that signal almost contemporaneously when we are in recession.  This is demonstrated in Kevin’s forthcoming book, and why he was so confident to say that we were not in recession at the end of last year.  Those warning flares have not yet been set off, so it’s probably too early to let significant political capital ride on the single word recession.  Indeed, policymakers should plan for a patch of anemic economic performance.  This sub-par performance owes to a primary and unpleasant reality.  As a nation, we are less wealthy.  The correction of the excesses of overbuilding will ultimately knock off at least 10 percent from home values, which aggregates to about $2.5 trillion of household wealth.  Add to that the domestic consequences of the global sell off in equities, and the total wealth loss may be twice that. 

The appropriate governmental response is to lower interest rates so that future income and earnings get discounted less heavily.  That’s a way of rebuilding wealth, and it is the role of monetary policy.  But monetary policy works with a lag, and the adverse turn may be significant and sudden enough that even the most recent Federal Reserve easings will prove insufficient in the very near term.  Fiscal stimulus can fill that potential hole, but it must be disciplined and shaped by a few important principles.  As Fed chairman, Ben Bernanke explained in testimony last week, an effective economic jolt must be implemented quickly, maximized at near term stimulus per dollar of lower revenue or higher spending, and be temporary so as not to worsen the long-run budget outlook. 

The President didn’t acknowledge these principles last week as well, but tonight is an opportunity to reassert this discipline.  More than that, he should explain that they represent a hard constraint on what ultimately should be passed.  Why?  The apparent between the President and the members of the Congress only sets the broad outline of the likely package.  There are two chambers of the Congress, and their membership needs to be reminded that hanging too many ornaments on this Christmas tree may make it topple over.  For instance, extending unemployment benefits would put money into the hands of people facing adverse times, but it would also encourage the lengthening of the duration of unemployment spells.  Transferring dollars to states and cities could help sure up the nation’s crumbling infrastructure, but those funds will spin out at a glacial pace, well after Federal Reserve stimulus has kicked in and the economy recovers. 

Why not do more?  Incurring deficits that may put upward pressure in market interest rates, and that will require greater tax burdens down the road, is not a route toward wealth creation.  In general, fiscal policy should be structured so as to get out of the way as much as possible of those who do create wealth, working men and women. 

But that gets me to the second main theme that could make the State of the Union a useful document tonight.  Significant work remains undone in rationalizing government regulation.  First and nowhere more pressing is the tax system.  As the President’s advisory panel on tax reform reported back in 2005, our tax code is rewritten so often that it could be drafted in pencil.  Another short-term fiscal fix, one that has the effects of raising marginal tax rates, goes in the wrong direction.  Effort would be better spent figuring out which of the reforms on the advisory panel’s menu would be the most acceptable. 

Second, contingent liabilities of the government continue to pile up, including those related to social security and Medicare.  That accumulation will only get worse as the population ages.  Hard work has to get started on bringing the needs and resources available for those programs into better balance. 

There’s another set of reforms better discussed in what should be the third theme of the economic portion of the State of the Union, what we should be doing to protect the national economy in an uncertain world.  The good news about a market economy such as ours, is that it is remarkably resilient.  The bad news, it is so because participants respond forcefully to incentives, even ones that only exist because of poorly designed regulations.  Our financial regulation is woefully inadequate, with multiple regulators who generally take narrow legalistic views of their roles.  This leads to all manners of regulatory arbitrage in which businesses act to take advantage of the uneven parts of the playing field.  We should not forget, for instance, that the financial engineering that created the mortgage related securities that have blown holes in many corporate balance sheets of late, existed in part because of the special status given highly rated securities in banking regulation. 

Some push toward building a framework for better regulation is needed.  At the same time, as Phil mentioned, we should strengthen the international trading system.  Voices arguing for protectionism have already been heard, even though the unemployment rate averaged below 5 percent last year.  If the economy weakens and labor market slack builds, those voices will be louder and more insistent.  The President should remind everyone that open markets are the surest means of bettering our lot. 

One last small point when talking about risks.  Many important positions at federal agencies remain unfilled.  It is not likely that the Senate will be eager to set new appointees when some of its membership expect a change in party controlling the White House.  But, three nominations for governors of the Federal Reserve remain in senatorial purgatory.  This poses an unacceptable risk in that some of the emergency powers of the Federal Reserve board require a super majority of the legislative positions.  That is, decisions such as lending to non-depositories, or deviating from least cost bank resolution, cannot be made with less than five governors.  Putting away partisanship for just a moment to make sure our institutions remain resilient at a time of elevated risk seems reasonable. 

The reforms I have spoken about could not get done quickly, even if all the political stars were perfectly in alignment.  Practically none of them can get done in the final year of a lame duck administration facing a hostile Congress.  Why bother?  Important advice on that score came from William of Orange, who said, one need not hope to undertake, nor succeed to persevere.  President Bush has an opportunity in the State of the Union address to point us in the appropriate direction of change.  Such leadership would set the table for his successor, if that person turns out to be ideologically aligned, if not, agenda setting now will help to discipline the next president.  In either case, elevating the discussion of the need for economic reform can only help as we choose that person in coming months. 

 Karlyn Bowman:  Thank you, Vince.  Peter? 

 Peter Wallison:  Thanks, Karlyn.  Kevin said that the State of the Union is likely to deal with long-term, or near-term challenges, excuse me, near-term challenges, and I think, actually, that’s true.  The two things that the President probably will focus on in the economic area are the stimulus question, and the housing mess, the subprime housing mess.  When you think about it, this is pretty remarkable for a president who is making his last State of the Union message.  In fact, it’s a theme, I think, of this Administration, and I’d like to just make that sort of the overall theme of what I’m going to talk about today. 

 This Administration has, for its entire history, had practice, really, of overreacting to events that seem to have political significance.  Now when you’re in the last year of an eight-year presidency, and you’re thinking about your legacy, you would think the President would be thinking about long-term effects of what he is proposing, but, instead, he will probably be speaking particularly about very short-term solutions, and, in fact, short-term solutions with long-term adverse consequences.  That’s what is, to me, particularly odd. 

 We have, for example, one of my favorite examples of a short-term political reaction to something that was seemingly a big deal at the time, is the Sarbanes-Oxley Act, which has turned out to be a disaster, and has not yet been revised, but eventually will have to be revised.  There was a perfect example of something that was a political [inaudible] to something that was troubling the markets at the time, turned out not to be a major significance.  Over time, markets recovered, not because of the Act, but simply because there was simply some short-term problems that had to be ironed out.  Now we’re facing the President talking about a stimulus package, and he will, of course, talk about the subprime, I think he will talk about the subprime mortgage mess. 

 Now, on the stimulus package, again, we had this sort of, do something, anything, kind of approach.  Whereas, as Kevin and others on the panel had suggested, there’s a real question about what we have here, is the U.S. economy going into any kind of recession?  The worst thing about this package, it seems to me, is that it seems to be an emergency response to a fall in the stock market, not only the U.S., but perhaps even foreign markets.  This raises, for me, a question of moral hazard that I think is very significant.  If investors come to think that every time there’s a huge fall in the market the U.S. government is going to respond to that in some way with the fiscal policy, and especially, as we will talk about in a monetary policy, that raises questions about moral hazard that induce future bubbles, because people will, of course, think there’s less risk in investing in the stock market if they believe that if the market begins to fall, the government will step in and help out, rescue them, in a sense. 

 Now, one good thing about the stimulus package, as the President will talk about it, I guess, is that it kind of proves that, it doesn’t prove, but what happens is that it demonstrates that since Reagan, tax policy has become the way to respond to a weakening economy.  There was a time when the economy beginning to weaken meant that the Congress would use that event, or the fear of that event, as a basis for infrastructure kinds of spending.  Congress is always looking for excuses to spend, and if there’s talk about a recession, infrastructure spending is one of the great ways for Congress to reward the American people with their own tax money.  In this case, Congress has agreed, apparently, with the President, that the only solution would be some kind of tax solution.  Two kinds, there’s the tax cut that is going to be returning funds to people, as much as $1,200 in some cases, and also some business tax cuts. 

Now the problem with what the President’s program is advancing, is, two, it seems to me.  The first is that the refundable tax credits are not tax cuts.  The refundable tax credits are simply deficit spending.  Second, what Congress and the President, really, or the President’s advisors haven’t realized, is that these short-term cuts, which just put money back into people’s hands, don’t create any long-term growth.  They disappear.  Either they’re saved, as Kevin suggested they might be, or, they’re spent, and, that’s it.  In this case, that means maybe a little bit more for restaurants, maybe a little bit more for retailers, but it’s not going to have any major effect on the condition of the economy after it’s all done.  What does have an effect, apparently, is business tax cuts, or long-term tax cuts for individuals, which do create more growth and job creation, which, of course, is the objective. 

So, was the stimulus necessary?  Well, we don’t know.  Everyone up here has said basically the same thing.  The Secretary of Treasury, Secretary Paulson, is saying, this is kind of insurance against a recession.  He also says it’s not at all clear that we are looking into a recession.  In fact, he, as the Secretary of Treasury, has to say he thinks the economy is in good shape. 

But if it’s insurance, it’s really expensive insurance, because there really is, it seems to me, a downside here.  We’re pouring money into consumers’ pockets, but this is all on top of some very stimulative monetary action by the Federal Reserve.  Its recent reductions of ¾ of a point was very substantial as a stimulative matter, and now we’re adding to that some fiscal stimulus in addition.  Now the Fed’s interest rate cut will cause, will have some inflationary effect.  The tax cuts will also cause a further decline in the dollar.  This will have itself some stimulative effect because it will improve the ability of U.S. businesses to sell products abroad. 

Now, it seems to me the monetary actions by the Fed are quite problematic for this reason, and that is, it’s an administered decline in the dollar, perhaps in reaction to market effects.  Whenever you have an administered decline in the dollar, it raises the question whether, especially when it’s done for what seem to be domestic policy purposes, it raises the question whether the dollar should be the international reserve currency, because, that means every other country is going to be effected in some way [inaudible] domestic policy.  So, it’s something the Fed’s should be concerned about.  It seems to me this one looks, this huge decline, this huge downward revision in interest rates looks to me like something that was done for domestic policy purposes and a little bit worse from that point of view. 

Now, ultimately, what should the Administration have done if it was worried, really, about a recession?  It seems to me the position they should have taken is to make the President’s tax cuts permanent.  But, again, they gave up on that, that would have been their opening position, I assume, in any negotiation, but they gave up on that for short-term political benefits.  They wanted a package of some kind, and the Congress wouldn’t accept the idea of making the President’s tax cuts permanent, so they gave up on that, and they chose something quite short-term, but something that doesn’t really accomplish the President’s long-term legacy purposes. 

When you turn to the subprime mortgage mess, you see the same thing.  That’s another area where the Administration has pushed a plan with short-term purposes, short-term benefits, very few long-term benefits.  Theoretically, the plan, which would modify the contracts that investors have, the mortgage contracts that investors have, theoretically that could save investors money because foreclosures are quite expensive and eventually investors would have to pay for that.  That’s theoretical.  But what investors will read is that their contracts have been what they expected to get, their contracted rights have been modified in some way, and this will only make mortgages more expensive over the long-term by making securitization of mortgages more expensive over the long-term.  So, again, I see here a trade-off of short-term and long-term benefits with the disadvantage to the long-term benefits to our economy. 

Finally, there is this factor, which, in the President’s subprime approach, which really concerns me, and that is that we are trying to help, or, his policy, this program developed by the Treasury Department, tries to help the people whose mortgages, when they are reset, will be higher so that they can’t pay, but only those people.  The people who are working hard to make sure they retain their credit ratings, and are paying their mortgages, and have maybe two jobs in order to do it, are not going to be helped if they are thought capable of paying their mortgages.  Now that’s not the right way for the government to behave.  The government should reward the people, if it’s going to provide any rewards, it should reward the people who are working hard and fulfilling their obligations, rather than people who made arrangements that they couldn’t fulfill. 

Now that brings me to the last point, and that is, the GSEs, Fannie Mae and Freddie Mac, because they are an important part of the President’s plan, the one agreed to with Congress, and, probably from my perspective, one of the worst parts.  It would make sense, perhaps, if the Administration had gotten in this agreement with Congress, (a) an agreement to pass thorough going GSE reform.  They didn’t.  They got what appears to be a promise to try to adopt GSE reform.  That’s really not going to be significant, or sufficient, because here is something that Congress really wanted to do, this was the opportunity for the Administration to drive a hard bargain, if Congress wants to do something about the problem in the financial world this is directly relevant and germane to that.  They passed up the opportunity.  Now why it’s important is that this question of raising the conforming loan limit, which is what has been done in this stimulus package, this conforming loan limit, the loans that Fannie Mae and Freddie Mac could buy, or eligible to buy, is going to go up from about $417,000 today to something like $729 or $730,000, that’s the mortgage size that Fannie and Freddie can buy, a very significant increase. 

Now, the problem with this is that one element was sought after highly by Fannie Mae and Freddie Mac and their supporters in Congress.  If you are going to get, in a world without the problem of the stimulus package, and the economic downturn, if you were going to get a GSE reform, the one bargaining chip that the Administration really had to give up in order to get that GSE reform was this question of raising the conforming loan limit.  It doesn’t really have major impact on the way the agencies function, especially isn’t particularly important if they are forced, as they might be, by legislation, into using securitization instead of buying and holding mortgages.  But it was a very significant bargaining chip because it substantially would have expanded their ability to operate in the economy.  Instead, that’s now been given up.  What it does, of course, is it puts the taxpayers increasingly at risk for more expensive mortgages, mortgages that go up to $729,000, and one factor you have to consider here is that a mortgage of $729,000 would be taken out by a person who is buying a million dollar home.  Now that, if you think about it, think about a 20 percent down payment, $729,000 mortgage, that’s just about a million dollar home.  Now, what is the pu