FROM THE OFFICE OF PUBLIC AFFAIRS

Mr. Chairman, and Members of the Committee, the Department of the Treasury wishes to thank you for conducting this important hearing and supports your efforts to review the year 2000 problems and its ramifications on international banking and finance. Unless fixed, year 2000 problems will pervade every aspect of our financial system, including the settlement of financial trades, the processing of routine financial transactions, and the dispensing of funds by ATM systems.

All financial firms are potentially at risk. Even those entities which act responsibly to renovate their own systems can still be harmed, because of the intertwined nature of the financial system -- a failure by a counterparty, supplier or vendor can have a negative impact on an otherwise solvent firm. If the failures are widespread, they can pose a threat to central markets such as an exchange or clearinghouse.

Today's hearing on this issue comes at a propitious time. There has been a flurry of international action on the year 2000 matter over the past few months. Two weeks ago, the United Kingdom hosted a meeting of experts from the Foreign Ministries of the G-8 countries to discuss the year 2000 issue and trans-boundary issues. At that meeting, each country provided a brief overview of its domestic efforts, along with an analysis relating to progress in other countries. Other international fora, including the World Bank, OECD and regional organizations are also undertaking significant programs to help in the coordinate international activities in this area.

US Supervisory Actions

In the United States, financial regulators have taken steps to encourage firms to properly address the year 2000 issue.

The US Securities and Exchange Commission now requires public companies to disclose year 2000 problems in their corporate filings, which can help investors assess the impact of year 2000 on a firm's market value. Among other things, the SEC now requires a public company to disclose the fact that it has not made an assessment of its year 2000 issues. In addition, a public company must describe material year 2000 issues and disclose the nature and potential impact on the firm, including its general plans to address them. This disclosure, which is potentially a very powerful incentive-based approach, is designed to induce market pressure on public companies to take appropriate corrective measures.

Similarly, US bank regulators now routinely review year 2000 issues when they conduct examinations of federally supervised banking institutions. The examinations are designed to:
determine whether the organization has an effective plan for identifying, renovating, testing and implementing a year 2000 solution;
assess the effect of year 2000 efforts on the bank's strategic and operating plans;
determine whether the organization has effectively coordinated year 2000 processing capabilities with its customers, vendors and payment systems partners;
assess the adequacy of internal controls for the year 2000 process; and identify whether further corrective action may be necessary.

Concerns Outside the United States

In the United States and elsewhere, the financial services industry appears to be ahead of other major industry sectors in addressing the year 2000 problem. Financial firms are working hard to renovate obsolete systems in such large financial centers of the United States such as New York and Chicago, as well as in other major market jurisdictions such as London and Frankfurt. Leading international financial firms have already started internal testing, and industry-wide testing programs are scheduled for next year.

However, it is very difficult to assess the effectiveness of the renovation programs currently under way in each country. Each country faces unique difficulties as it searches for an effective solution to the problem. In Europe, for example, many countries in the European Union must handle the conversion to the Euro currency simultaneously with the year 2000 problem. Japan is undertaking major changes to its financial system, which could also affect its year 2000 compliance effort. Other Asian countries must deal with more immediate threats to their economies.

Outside the major financial centers, the problems caused by year 2000 may be greater. In these countries, it may be more difficult to finance the cost of hiring programmers to fix the problem, or even to identify the systems which need renovation in the first place. On the other hand, the fact that many underdeveloped countries have not automated to the same extent as the United States means that there are not as many systems which can fail. Moreover, the systems which are in place in such poorer countries have often been purchased more recently -- and are therefore more likely to be year 2000 compliant -- than computer systems installed in many parts of the advanced industrial nations.

Suggested Steps for Other Countries

Each country will have to implement its own solution to the year 2000 problem, based on the particular circumstances, resources and problems relevant to it. However, there are some fundamental premises which many experts believe each country should keep in mind as it implements a year 2000 compliance effort. In particular, there are three fundamental issues -- inventory/assessment, renovation, and testing.

First, authorities in the computer area believe it is helpful for each country to assess its vulnerability to the year 2000 problem. This should include an inventory of all applications that require modification and an assessment of what renovation measures must be implemented. In the United States, the goal was to ensure that all such inventory and assessment review be completed by September, and regulators are monitoring those financial institutions which failed to meet this deadline.

Second, experts agree that each country should follow assessment with a renovation phase, where individual software programs are modified to ensure year 2000 compliance. It is critical that firms prioritize their efforts so that the most critical applications receive priority attention, followed later by software programs which would have a more limited impact on the firm in the event of a year 2000 failure. Most United States firms currently are undertaking their renovation programs, which should be largely completed by December 1998.

Third, and equally important in the eyes of virtually all professionals, is the testing phase, which individual countries should mandate for firms in their jurisdiction. The importance of such testing programs cannot be overemphasized, since even skilled programmers can overlook critical tasks. External testing should include tests with both single counterparties and multiple counterparties. In the United States, such testing is expected to begin no later than December 1998, but external testing necessarily requires the cooperation of governments and firms in other countries.

Work in Other International Fora

Because of our concern with respect to the progress that other nations are making in the year 2000 area, Treasury began a major effort to raise the profile of the issue and act as a catalyst for action in many countries. Treasury submitted a paper on the year 2000 issue in March 1998 to the G-7, which called on the G-7 countries to implement comprehensive year 2000 programs in each of their jurisdictions, and to help other countries as well. We have since worked with other countries to ensure that the year 2000 issue was placed on the Birmingham summit agenda. The May 8 G-7 Finance Ministers' conclusions called on the international regulatory bodies (i.e., the Basle Committee on Banking Supervision, the International Organization of Securities Commissions, the International Association of Insurance Supervisors, and the Committee on Payment Systems and Settlement) to "monitor" private sector efforts, and "to do all that they can do to encourage compliance." As discussed below, these entities are taking up the year 2000 challenge and are actively assessing and monitoring year 2000 compliance efforts by financial firms in their respective industries, rather than merely "raise awareness" of the problem.

Subsequently, on May 17, the G-8 Heads of State and Government met and called on countries to work together to solve the year 2000 issue, and expressly asked international organizations, including the World Bank and the Organization of Economic Cooperation and Development (OECD) to help solve the problem.

Treasury also raised year 2000 in other international fora. In late May, Finance Ministers at the Asia Pacific Economic Cooperation forum (APEC) discussed with private sector representatives the importance of resolving year 2000 problems in APEC economies in a timely manner. They also urged the World Bank and the Asian Development Bank to help countries to address this issue, and domestic supervisory and regulatory authorities in the region work with the international regulatory bodies to implement measures to resolve this problem. The year 2000 issue was also included in the Joint Ministerial Statement of the Summit of the Americas Finance Ministers' meeting in Chile last December, and Treasury is continuing to encourage this regional grouping of North and South American finance ministries to work with its member countries in implementing effective solutions to the problem.

Work of the International Regulatory Bodies

The international regulatory bodies have established the Global Year 2000 Council, and they are taking action to coordinate financial aspects of the year 2000 issue. The Year 2000 Council's efforts were kicked off in April, following a conference of world leaders on the Year 2000 problem held in Basle, Switzerland. That conference was helpful in further raising awareness of the year 2000 issue. We are in the process of designating a Treasury liaison to the Year 2000 Council to be kept informed of and promote their efforts to undertake an active program of monitoring and assessing the situation, and to develop appropriate remedial steps where it is apparent that a particular country or group of countries has fallen behind in its year 2000 program.

Other organizations, particularly the OECD, take part in the task of coordinating some of the most significant non-financial aspects of the year 2000 problem, such as telecommunications and power grids, where a disruption to communications or power grids could cause general economic harm.

Role of the IFIs and the MDBs

Treasury is paying increasing attention to the role which the World Bank and the International Monetary Fund, as well as regional multilateral development banks such as the Asian Development Bank, Inter-American Development Bank, and the European Bank for Reconstruction and Development, could play with respect to the year 2000 issue. In our discussions with these entities, we are generally satisfied that they are taking reasonable measures to assess and renovate their own internal systems and we applaud their foresight in this regard. Among other things, it appears that all of these institutions have taken steps to assess their mission critical systems, and they are well under way with respect to renovating or replacing obsolete systems which will not be compliant.

We are also actively encouraging the international financial institutions (IFIs) to consider a full range of policies which they could undertake in conjunction with their client countries. We hope to ensure that all projects and programs which these organizations finance are year 2000 compliant. On June 15, CIOs of all the IFIs met to share views and experiences on potential year 2000 computer problems and to explore ways to provide technical assistance to their member countries.

Conclusion

There is no easy cure for the year 2000 problem. Like many other issues, the year 2000 issue will require a great deal of diligence, planning, and plain hard work so that countries prevent critical systems from failing. Treasury is working in a range of international fora to help promote appropriate solutions.

But while various international institutions, and the Treasury, can assist the year 2000 effort underway in various countries, at the end of the day each country will have to put in place its own solution to the problem and take responsibility for any failures. We must be realistic about the fact that the year 2000 problem is a novel event, and we cannot foresee all of the complications which might arise. Therefore, we cannot entirely rule out the possibility of disruptions to the financial system and other sectors of the economy, both in the United States and elsewhere. The key is to manage the risks, by prioritizing those systems which absolutely must be in working order while devoting lesser resources to other areas, and putting in place appropriate contingency arrangements to reduce the harm of any failures that do occur.

We are well underway with this process in the United States, and we are hopeful that other countries are making similar progress with respect to renovating and testing their computer systems to take account of the year 2000 problem. This hearing is very useful to that process, as they can help raise awareness and ensure that all relevant entities employ their best efforts to solve the problem.