by Robert Rubin
With Rossotti signed on and the White House supporting our position on an outside board—although not to the point of agreeing to my veto recommendation—we began to feel that we were getting a handle on the IRS. It was far from my mind during our trip to China in September 1997. I was walking through Tiananmen Square late at night with Mike Froman and Bob Boorstin, who had moved from the White House to Treasury to advise me on political and communications issues, when Linda Robertson, by then our assistant secretary for legislative affairs, reached me on a cell phone to say that a storm had broken out in Congress. What flashed through my mind was a warning signal I hadn’t recognized. Back in 1995, soon after I’d been confirmed as Treasury Secretary, I’d appeared on This Week with David Brinkley. Brinkley’s first question had been about complaints he was hearing about the IRS. I’d been surprised that this legendary Washington journalist would waste valuable interview time on such an obscure topic, and I’d fobbed off the question with a kind of nonanswer. Now I thought that Brinkley might have had his finger on the political pulse after all.
We knew, of course, that Senator William Roth, chairman of the Finance Committee, was going to hold hearings to look into IRS abuses. But we had no idea of the media feeding frenzy that would develop. Opponents of the income tax had found—or created—a great political opportunity. Roth’s staff gave an advance preview of the worst horror stories they had gathered to 60 Minutes, which presented them on the Sunday before the hearings in a highly dramatized way that was lacking in balance. Clearly, the IRS had real and serious problems. But the 60 Minutes presentation was misleading. Shortly after that, Newsweek published a cover story about the IRS that was also inflammatory.
Over a period of three days, the Senate Finance Committee had IRS employees testifying in hoods and people hidden behind partitions speaking into voice distortion machines for protection against possible retribution. We didn’t even know who these people were. Those on the committee who were truly interested in fixing what was wrong with the IRS—as opposed to demonizing it—had no way to bring balance to the hearings.
We couldn’t respond to the horror stories even if we had wanted to. A federal law forbids any release of private taxpayer information, unless the taxpayer waives his right to sue for violation of privacy. Such waivers ought to have been a condition of this sort of testimony before the Senate Finance Committee, but neither the committee nor the media required that of witnesses. As a result, the public had no way of knowing whether people who claimed to have been so abused were telling the truth.
In a more reasonable perspective, the IRS was a largely effective tax collection agency with some very real failings. One problem was that it had too much of a law enforcement mind-set and not enough of a customer-service mentality. But many people simply refused to acknowledge that law enforcement was necessary for our system of voluntary compliance to work. Some critics, such as Senator Charles Grassley (R-IA) and Representative Rob Portman (R-OH) were sincerely concerned with making the IRS more taxpayer-friendly. But throughout the hearings, others tried to turn a few abusive episodes into a misleading impression about the IRS as a whole. No one cared that 205 million returns were processed every year without any known dishonesty or corruption. Once the idea took root that the IRS was an out-of-control agency gratuitously abusing taxpayers, reason and proportion could not be brought to the issue. Republicans, Democrats, and the media piled on, without any serious focus on the larger picture.
I soon realized we had no way to effectively respond to allegations, let alone restore balance, in the midst of a political firestorm. David Dreyer told me that no one would listen to anything I said on the subject unless the first words out of my mouth were “There are problems at the IRS, and we’re committed to reform.” But this wasn’t like Clinton and the balanced budget or Bill Lynch refusing to criticize Jesse Jackson at that dinner in New York. Even with that admission, which I made constantly, no one was interested in a balanced view of the IRS. I could have hired a marching band, and no one would have paid any attention.
The problem is that when one person is abused—and some people really were—a government official who tries to paint a more complete picture simply won’t be heard. When a taxpayer gets up and tells a story about IRS agents acting like thugs, it wipes out everything else. Saying that the overwhelming preponderance of the 102,000 employees at the IRS are conscientiously applying a code of incredible complexity, and that some error, even some wrongdoing, is inevitable, gets absolutely no traction. The most courageous U.S. senator couldn’t bring balance to such a discussion with the whole process lined up against him in this way. He would simply be overwhelmed by a bad process on its way to creating flawed legislation.
What I never understood in any of these firestorms is why some enterprising reporter didn’t pursue the other side of the story out of self-interest. Someone attempting to be the voice of reason in a lopsided debate would seem well positioned to get onto the front page or appear prominently on television. Eventually a few journalists did write more objective articles about the IRS. But for the most part, the coverage seemed utterly one-sided, with at best an offsetting paragraph or two buried deeply in articles with sensational headlines.
In private, I did try to make the point about the inevitability of error. At one meeting with Senator Roth, he said that the IRS should have “zero tolerance” for mistakes. I’d say, “Bill, I don’t know of a single day of my life with zero errors. There are a hundred thousand people at the IRS—how are you going to do that? I’ll bet even you make mistakes sometimes.” Roth laughed and said, “It’s true we all make mistakes.” But he didn’t alter his course.
With these hearings and the surrounding media coverage, IRS reform legislation became veto-proof. When I got back from China and met with Erskine and a few others in the chief of staff’s office, everyone there agreed that vetoing the GOP bill made no sense. But with the Democratic leadership in Congress signaling support for a law that was sure to pass and no threat of a presidential veto, we had little with which to negotiate. However, the Treasury team decided to persist. I steeped myself in the technical details and functioned almost as a senior staff person in working with congressional members and staff to try to improve the bill. Despite our lack of leverage, we were able to make a significant contribution to the legislation in the end, due in large part to the credibility that our prior work on reforming the IRS gave us with those legislators who took the problem seriously. In particular, after the political uproar had died down, I was able to work with the two House members most involved with this bill—Republican Rob Portman and Democrat Ben Cardin of Maryland—in a refreshingly non-political way on the key issues. The other congressman I remember most vividly from that episode was Democratic Representative Steny Hoyer, who supported us on principle at a time when few others were willing to do that.
We were also aided by the President’s political deftness. After the House passed a bill in October, Senate Republicans gave the President an opening by not rushing the legislation through before the end of the fall congressional session. Their thinking may have been to keep the issue alive into 1998, closer to the midterm election. But holding the bill over to a new session defused some of the political energy behind IRS bashing. Moreover, President Clinton seized upon the delay to co-opt the issue, saying the bill must not “languish” in the Senate, and calling on the Republicans in his State of the Union address to “pass the bipartisan package as your first order of business.” That took some nerve and helped reduce the political heat.
The bill President Clinton signed in July 1998 still had serious flaws—especially the provisions that deterred or impeded enforcement. Since I left office, a cascade of news reports have appeared about the problems created by the reform legislation. People who had supported the bill at the time were now “shocked” to discover that enforcement was suffering seriously. Such a consequence may have been unintended, but it was entirely foreseeable. The very news organizations
that had failed to bring balance to the debate in the first place were now complaining about the resulting problems, without acknowledging their own central role. One example was an editorial in The Washington Post that accused members of Congress of having “assaulted and weakened” the IRS—which was true—but neglected to mention how the Post itself and other news organizations had contributed to the process.
When the IRS battle wound down—and after Mexico, the debt limit crisis, and the battle over the budget—we thought that perhaps Treasury might enjoy a spell of relative normality. But that was not to be. Within a few weeks, we began to engage with a global financial crisis that turned out to be much bigger, longer lasting, more complex, and more threatening to the American economy than anything any of us had expected to encounter during our time in office.
CHAPTER EIGHT
World on the Brink
I HAD TOLD LARRY SUMMERS—and, more important, myself—that I was probably going to leave the Treasury Department in the middle of the second term, ideally sometime in 1998. As it turned out, two events prevented me from doing that. The first was the yearlong impeachment battle that began in January 1998. I didn’t want to make the President’s position any more difficult—and whatever I might have said to explain my departure, people would have read my resignation in 1998 in ways harmful to Clinton. My leaving could also have increased the general sense of uncertainty, which might have had adverse economic effects.
The other obstacle to my departure was the Asian financial crisis, an event that began several months before the impeachment conflict with a devaluation of an obscure currency, the Thai baht, in July 1997. From this seemingly unremarkable event in a country few Americans had thought much about since the Vietnam War, there unfolded a major financial crisis. Much of the practical work of handling the crisis fell to the Treasury Department. As Secretary, I was the public face of the U.S. response, and my leaving could affect confidence. With all of Larry’s capabilities, the situation clearly called for both of us to remain fully engaged, and we were better off avoiding a change in leadership.
What people generally referred to as the Asian financial crisis was actually a global economic crisis that began in Asia in the summer of 1997 and spread for a period of nearly two years as far as Russia and Brazil. Aftershocks were felt across emerging markets and even in the industrialized world. Viewed in its entirety, this event posed an enormous threat to the stability of the global economy and caused great economic hardship in the affected countries. Here in the United States, in the fall of 1998, capital markets seemed in danger of seizing up. After a Russian default and the near collapse of a giant hedge fund—Long-Term Capital Management, which had bet heavily on a return to normalcy in the global markets—even the market in U.S. Treasury bonds, the safest and most liquid instruments in the world, was buffeted. For a brief period, all but those companies with the best credit were frozen out of the debt markets. This was perhaps the most dramatic of several moments when cascading financial instability appeared to endanger the entire global financial system.
In certain ways, the Mexican peso crisis of 1995 provided a template for understanding what was happening in the crisis economies. But our fears during the Mexican crisis—that a kind of financial contagion would take hold around the world—had not been realized. This time around, that scenario came true. From its beginnings in Thailand, the contagion spread violently and inexorably. But while our stake in what was happening was very great, the self-interest of the United States in dealing with the problem was even less obvious to Congress and to the American public than it had been two years earlier with Mexico.
Looking back with a few years’ perspective, I’ve come to regard the global crisis of those years as more and more important. What happened to the world economy during that period—and, perhaps more important, what didn’t happen—leaves us with a sense not only of how much damage was done but how close we came to even greater calamity. Financial markets are driven by human nature and have a propensity to go to excess. This means that periodic financial crises of one sort or another are virtually inevitable. Understanding what happened last time can help us better prevent and respond to crisis in the future. And that has tremendous importance for many people around the world. My primary focus at Treasury was on the financial aspects of the crisis and its ramifications for the American and global economy. But behind the facts and figures were enormous humanitarian costs—as people lost their jobs and their savings and were plunged into poverty in the worst-hit countries.
In each of the countries where the crisis focused with great intensity—Thailand, Indonesia, South Korea, Russia, and Brazil—the issue of restoring confidence, reestablishing financial stability, and returning to economic growth went well beyond the traditional realm of macroeconomics. As we worked with the IMF, the World Bank, and other nations on the unfolding problem, I found myself having to deal with issues that an American Treasury Secretary doesn’t typically become involved in—the labor movement in South Korea, corruption in Indonesia, and the good faith of various members of the Russian government. In this kind of situation, distinctions between foreign policy and economic policy blurred, although decision-making structures inside the government (the State Department, the Treasury Department) were still defined by these traditional boundaries. Also, economic policy makers needed to understand all sorts of issues that weren’t expected to be part of our purview. In a way, the need for a rapid education in unexpected topics took me back to my days as an arbitrageur, when I would urgently immerse myself in matters I knew nothing about, ranging from the condition of railroad beds to Rhodesian sanctions, that had the potential to affect big corporate mergers.
Of course, my perspective on the crisis remains an American one, based on my experiences at Treasury. As intense as our interactions were, the experiences and reflections of other key players—whether in the governments of other countries or in the IMF—would undoubtedly differ from mine. To me, the events of those years lead to four important points. The most straightforward of these is the international interdependence that results from greatly increased integration of trade and capital markets—and how little understood that interdependence is. I remember Pedro Malan, the finance minister of Brazil, telling me in October 1998 how difficult it was to explain to his people that their currency was under attack and interest rates were higher in part because the Russian Duma had failed to raise taxes. The global crisis underscored the reality that in an economically integrated world, prosperity in faraway countries can create opportunities elsewhere, but instability in a distant economy can also create uncertainty and instability at home. One country’s success can enrich others, and its mistakes can put them at risk.
The reality of interdependence leads to a second point, namely the central importance of effective governance, both national and transnational. The familiar framing of conflict between “the government” and “the market” is in many respects a false one. A market economy needs a whole host of functions that markets by their nature won’t provide effectively, including a legal and regulatory framework, education, social safety nets, law enforcement, and much more, and that only government can adequately address. Moreover, while we live in a world of sovereign nations, more and more issues are multinational in nature—for example, trade and capital flows, certain major environmental problems, terrorism, and some public health issues—and those too can only be dealt with effectively by government. Beyond this, some people argue that globalization means that national governments matter less, in the sense that forceful imperatives of the world economy take power away from them. To me, the opposite is true. The potential impact of any one country’s problems on others means that national governments matter more—an ineffective government in one country can have a damaging impact beyond that country’s borders. Moreover, the responsiveness of global capital markets to national economic policy, whether that policy is good or bad, magnifies the impact of government actions.
; The third point is that when a crisis of confidence develops and capital starts to flee, neither money nor policy reforms alone can turn the situation around; both are required. Governments need to implement strong reform programs to convince creditors and investors—both domestic and foreign—that staying is in their interest, that growth and stability will return. In many cases this means addressing long-standing structural weaknesses that have finally become unsustainable and a focus of investor concern, such as a weak banking system or corruption. Also, exchange rates and interest rates must move to levels where both savers at home and investors from abroad feel confident of adequate returns going forward. But money is also needed. Effective international response to a financial crisis combines support for strong policies with enough funding to give those policies time to work—to stem unraveling in the markets and to create confidence—while still allowing governments to support essential programs, including social safety nets to protect the poorest. This is where official resources—from the IMF and World Bank and in some cases “bilateral” contributions directly from the governments of the United States and other countries—are also necessary.
The fourth and final point is that the tools available to deal with the crisis were not as modern as the markets. These tools included the resources and policy expertise of the IMF and the World Bank, the deep engagement of the U.S. President and administration and our G-7 partners, bold leadership in a number of the affected countries, and the ability of nations around the world to work together. And together we did eventually succeed in taming the financial market turmoil, but not before the crisis had wreaked great havoc on emerging economies around the world, causing deep hardship for millions of people. Changes were needed in what was called the “architecture” of the international system to deal more effectively with the risks of globalization by improving crisis prevention and response. The IMF, which was at the center of the crisis management, was founded nearly sixty years ago to promote stability in a world of fixed exchange rates where trade, not capital flows, dominated the international economy. It had adapted remarkably well to the challenges of globalization, but much more needed to be done. We expected this reform process—initiated while the crisis was still raging—to be complex and long term. While important progress has now been made, better approaches still need to be developed on a number of issues.