Sec. Henry Paulson: The Complete Interview

Following is an unedited transcript of George Stephanopoulos' interview with U.S. Treasury Secretary Henry Paulson on "This Week."

STEPHANOPOULOS: Mr. Secretary, thank you very much for doing this.

PAULSON: George, it's my pleasure.

STEPHANOPOULOS: So it's Tuesday afternoon and there's this 10-minute period where it looks like the bottom is dropping out of the market. How worried were you?

PAULSON: George, I spent a career in markets, looking at markets. So I always look at markets carefully.

But what I really focus on are the underlying economic fundamentals. And we've been in a period now for two or three years where I've seen the strongest global economy I've witnessed in my lifetime: solid growth around the world, relatively low inflation rates, high levels of liquidity, a very healthy economy in the U.S. making the transition from really unsustainable growth to more sustainable growth.

So I, you know, that's what I was really looking toward.

STEPHANOPOULOS: Was there any sense that this had to come since we'd gone so long without any kind of a problem?

PAULSON: But I've just got to say, markets, anybody that's watched markets know that they don't always -- over time they reflect economic fundamentals -- and markets never move in any one direction forever in a straight line. And so I look at it and put it in perspective and say, over the last year, the Dow's up almost 11 percent; the S&P's up 9 percent; and I'll take it.

STEPHANOPOULOS: Now, one of the things that did trigger this adjustment on Tuesday, a lot of people say, were the comments of Alan Greenspan, when he said that a recession was possible this year.

What are the chances of a recession this year?

PAULSON: Well, let me say, the -- I believe -- let me step back and say I've got a very high regard for Alan Greenspan. And I wasn't there, didn't hear the comments.

Clearly, no one's got a crystal ball. So there's always a possibility that there will be a downturn, always a possibility. But I don't see it. I think we have a healthy economy in the U.S.

You know, a year ago, when the growth rates were much higher, I was concerned. I said, is this going to be sustainable?

Now I'm looking at it and I'm seeing a situation where it looks like we're successfully making the transition. The consumer's strong. Exports have been greater than imports for quarters running, and they're adding to our growth.

We've got a very healthy labor market, 7.4 million jobs created since August of '73. Inflation seems to be contained.

And what really makes a difference to me is the average worker is now beginning to feel the benefits. Real income is up 2.1 percent for the average American worker over the last year.

So I'm feeling good about the U.S. economy.

STEPHANOPOULOS: Is there more danger of inflation or deflation, right now?

PAULSON: Well, let me say this. I'll leave that to Ben Bernanke to decide. But I'm feeling good about this transition and how we're making it. And I'm feeling good about inflation right now.

STEPHANOPOULOS: The Democrats are pushing for a rate cut right now. You're not going to join them?

PAULSON: Listen. I'm going to let the chairman do his job. I think he's doing a fine job.

STEPHANOPOULOS: One of the other factors that people have cited, in this market blip on Tuesday -- Senator Clinton said it was an alarm bell about the amount of foreign debt held by China and other nations.

How big a concern is that to you?

PAULSON: George, I've spent my time looking at global capital markets. I've spent a lot of time, over my career. I think I know something about global bond markets. I've watched government bond market deliver -- develop globally. And as I've worked with issuers, I always tell them it's in their best interest to have as much demand as possible; to have it be global demand, a diversity of demand.

And as I look at the demand for U.S. treasuries, I'm very pleased to see demand from all around the world; from governments, from individuals -- I see that as a very positive thing.

Now, when we look at, let's take China or Japan. In China, there's a fair amount of holdings of U.S. treasuries by the government and by other individuals.

But all the Chinese holdings are not greater than the amount of Treasuries that trade in a single day in the U.S. That's how much diversity we have in our holdings.

So, to me, the key thing -- it's a positive that foreign investors want to own our treasuries. Interest rates are lower, it's helping our economic growth in this country. The key thing is to keep our economy growing, to have it to continue to be the best economy in the world so foreigners will want to invest here.

And I see that as...

STEPHANOPOULOS: But isn't the flip side, though, that they're holding our economic fate in their hands?

PAULSON: Well, I tell you, I don't look at it that way. We're holding our economic fate in our own hands. And if we keep this economy competitive and growing, they're going to invest here.

And let me also tell you there's great diversity. When people talk about foreign holdings, as I said, Japan is the largest holder.

If we look at all of the entities, all of the individuals, the government holdings out of Japan -- you know, all of those holdings are a little bit more than the treasuries traded in one day in the U.S. A little bit more than one day.

In China, it's lees than one day. We've got great diversity in the holdings of our treasury securities, and we should be very pleased with that.

STEPHANOPOULOS: But doesn't it make it more difficult, because China and Japan together, I think, hold about $1 trillion of our debt. Doesn't it make it more difficult to negotiate with them when they're our banker?

PAULSON: I don't see it that way. The $1 trillion, we trade $500 billion a day in U.S. treasuries. That's two-days' trading in U.S. treasuries. And, and again, that's held by multiple entities in both of those countries. I look at it and say, as long as our economy is growing and we don't have enough savings to support that growth, we can be very pleased that foreign investors want to invest in our economy, have confidence in our economy, and they come to the U.S. to make their investments.

STEPHANOPOULOS: You probably know as much or more about China than any other American. You've been there more than 70 times, you're heading there again this week. How are we supposed to think about China?

I was thinking about Vice President Cheney going there last week and pushing them to open up their system. The head of, director of national intelligence calls them a threat. And then, you know, we see headlines like this in today's paper: China's expanding its sub fleet.

Are they an adversary, an enemy, a threat? What would you call them?

PAULSON: I would say that our relationship with China is multi-faceted, and it's a very important relationship for the U.S. And I don't believe we need to make China an enemy. I think China is -- this relationship is an important relationship, and the economic relationship is an important part of the overall relationship.

And if we manage that relationship properly on a long-term basis, and if we manage the relationship -- the overall relationship -- with China properly, it's going to benefit both of our countries for a long time to come.

STEPHANOPOULOS: I was talking to Congressman Duncan Hunter, running for president -- a Republican -- a few weeks ago. And he says, you know, they are subsidizing their exports and using our trade dollars to build up their military capacity.

And he says we have to get a handle on it.

PAULSON: Well, let me say this: When you look at our economic relationship with China and, as you know, I'm spending a lot of time on that topic because the President has...

STEPHANOPOULOS: More than anything else, right?

PAULSON: Yes. That's a top priority to get this long-term economic relationship right between our two countries and to deal with the most pressing short-term issues.

And there are pressing short-term issues to deal with. They need to have more flexibility of their currency in a short term. It needs to appreciate more. And we need to get to the point in the intermediate term when that currency can trade in a competitive marketplace where it's market-determined.

And one of the keys to that will be having the Chinese further develop their capital markets.

So I'm -- this upcoming trip to Asia, and I will be going to Japan and meeting the prime minister there, and in Korea. I'm also going to stop in Shanghai and I'm going to give a speech which has been planned for some time on capital markets reform in China, because of the way I see it, their capital markets are underdeveloped.

Their whole economy is developing; their capital markets are not nearly as developed as their manufacturing economy. They're not reflective of the Chinese economy overall. They're largely cut off from the global capital markets.

But as they reform those capital markets and as they open them up to competition, this will make it possible for them to have a currency that trades in a competitive marketplace; this will help their economy develop in a way which it'll be good for them and good for us, because there will be a bigger market for our exports.

STEPHANOPOULOS: There are some economists, though, like Jeff Faux, who say that the relationship is great for wealthy people here. It's going to create plenty of millionaires in China. But it's not going to help average workers here or there.

What do you say to that?

PAULSON: Yes, I just couldn't disagree more. Starting with China, I'd just simply say that a couple hundred million people that have moved out of poverty as a result of economic reform.

And in our country, where my focus really is, I do not dispute the fact that we have seen greater inequalities in income. And this has been a trend that has been taking place over three decades.

And it's driven by a number of things. I think the biggest cause is technology, technology gains, productivity gains. Clearly, technology has benefited this whole country. But those workers with the skills to take advantage of technology benefit more.

So we've had that trend going on. But being open to trade and foreign investment has been one of the pillars in competition that's made this economy great.

And it's helped everyone. It's helped our workers. We're all going to do better in an economy that is growing and vibrant than one that isn't.

STEPHANOPOULOS: But there are losers as well. And a lot of Democrats are saying, both in Congress and on the campaign trail, that they're not going to support any more trade agreements unless you write these labor and environmental protections into the law.

PAULSON: Yes. Let me deal with both parts of that question. There's no doubt that there -- there's short-term dislocations and there's job losses, as a result of trade -- no doubt about that.

And they're painful whenever they occur. And we need to be very, very mindful of them and we need to think very, very carefully about how to deal with them.

But make no mistake about it, that being open to trade and competition benefits a society, overall, and the vast majority of American workers; increases the standard of living throughout this country.

The losses are much more visible, and we need to think about how to deal with them.

Now, in terms of what's going on right now in Congress, I really believe that, although the American public is clearly concerned about trade, and I think, if you look at the American public, at least 50 percent of the people, although they may think the trade helps somewhat, they believe that the benefits are not shared equally among nations or among the citizens of this country.

So there's, there's a protectionist sentiment among some people. And I think the members of Congress, at some times, reflect that sentiment.

STEPHANOPOULOS: But aren't they also right to be worried? If our competitors don't meet our labor standards, don't meet our environmental standards, of course they're going to have...

PAULSON: Well, well, let me, let me come back to that, because, because clearly I believe that the vast majority of senators and congressmen on both sides of the aisle, you know, support trade, support keeping our economy open.

Trade is a bipartisan issue, and Sue Schwab is working very closely right now with Charlie Rangel and Jim McCrery, with Chuck Grassley, with Max Baucus -- again, very bipartisan to have a breakthrough looking at the issues you cited.

Am I optimistic it will happen? Listen, this is in Sue Schwab's lane, but I'm optimistic, because I really believe that both the Democrats and the Republicans understand how important trade is to this country, and they're going to work together to get there.

STEPHANOPOULOS: Let me turn to another issue we have with the Congress coming up. A lot of Americans have looked at this explosion of compensation -- in corporate board rooms, on Wall Street -- and President Bush went to Wall Street just last month and took on the corporate executives.

Some Democrats want to go farther. Barney Frank has written a piece of legislation, saying shareholders should be able to vote on executive pay. Good idea?

PAULSON: Well, let me say, first of all, I've got to admit, people may view me as somewhat biased -- I'm not sure -- given where I came from, if I'm the most...

STEPHANOPOULOS: Goldman Sachs, right.

PAULSON: ... credible source on this.

But let me make a statement, generally, and then get to that. Because I really do believe the American people understand, you know, good compensation for strong performance.

What upsets people in this country is pay for failure. And so I think it's very, very important that compensation be tied to performance. And I am...

STEPHANOPOULOS: Would you legislate it?

PAULSON: No. Because my next point is this. I believe there's been a lot of change and a lot of healthy change, recently, in the corporate boardroom, in terms of independent compensation committees. There's a majority of independent directors.

I think the new compensation disclosure rules, which Chris Cox has led at the SEC, are all going to be positives. I would not legislate it. And I really believe we have a system that has worked in this country.

I've traveled all around the world. I really believe U.S. companies, by and large, are the most competitive, the best-managed companies in the world.

And we have a system in this country where shareholders elect directors and directors set compensation. And I would let the current system work.

STEPHANOPOULOS: So no shareholder vote?

PAULSON: I'll stand on what I said. I would give the current system an opportunity to work.

STEPHANOPOULOS: Another big issue you're going to have to deal with this year is the alternative minimum tax. If nothing's done in the next year, as I understand it, about 20 million more Americans, some reaching down into the middle class -- $50,000 to $75,000 a year are going to get a tax increase. Can you reach an agreement with the Congress to block it?

PAULSON: Well, let me say I totally agree with you that the alternative minimum tax would be a cruel tax and it would be a surprise if it went into effect, because it would hit...


PAULSON: would hit the middle class.

Let me say: What is happening, George, is this administration has proposed a way to fix this for the next year and, as a matter of fact, proposed the solution so we're going to delay that tax going into effect, you know, for more than a year.

So we've got more than 20 months to fix the issue.

This is something that Congress has done every year for the last six years. And so what we've proposed is a way to deal with it in the short term and we look forward to working to come up with a solution in the longer-term.

STEPHANOPOULOS: Democrats, including Senator Schumer, are saying that there's going to have to be a way to pay for it. He's proposed taxing oil companies, raising taxes on or repealing the president's tax cuts on families earning over $400,000.

Is that on the table?

PAULSON: Let me tell you something: I don't think we need to raise taxes to sell this. And, as a matter of fact, as I've just made the point that we've got a very strong economy, that we're creating jobs, that we've made the transition from an unsustainable rate of growth to a more sustainable rate of growth.

We want to keep this expansion growing. And I don't think a tax increase is what we need right now.

STEPHANOPOULOS: Another big issue you're going to have to deal with this year: Social Security reform. It was one of your priorities coming in as treasury secretary.


STEPHANOPOULOS: But the Democrats in the House and the Senate have said they're not even going to talk about reform unless the president takes the private accounts off the table.

Does that mean it's dead for this year?

PAULSON: Well, let me say this to you: I've had a lot of conversations with people on both sides of the aisle, Democrats and Republicans. And what they're telling to me in private is, that it is not at all unreasonable to say, let's come to the table without any preconditions.

The president feels strongly about personal accounts. There are many other people in the Congress and in this country that feel strongly. The Democrats feel strongly the other way.

What the president is saying, and what I'm saying in support of his position, is, let's come together. This is a very serious problem. Let's come together on a bipartisan basis. Let's not try to negotiate outcomes in advance. That's not how you work together on something that we're prepared to talk about.

Any ideas they have -- and let me tell you something, when I talk with the Democratic leaders in private, they don't disagree with my thesis that if we're going to work on a bipartisan basis, we should, everything should be on the table.

STEPHANOPOULOS: But a lot of those same Democrats have told me that Vice President Cheney undercut you when he seemed to take any talk of taxes off the table.

PAULSON: Let me say -- I don't see it that way. We've been very, very clear on this administration. The president's been very, very clear that everything's on the table. And this should be done on a bipartisan basis. Couldn't be clearer.

STEPHANOPOULOS: A lot of our viewers probably don't know that before you came to the Treasury, you were the chairman of the Nature Conservancy -- big environmentalist. You said your passion is conservation.


STEPHANOPOULOS: When you had a point -- and I was actually talking to Al Gore -- it was last year. And he said, he hoped you could change the president's mind on the issue of climate change. Have you been able to do that?

PAULSON: Let me begin and say that the Nature Conservancy is a conservation group. I'm a conservationist. I believe in clean air, clean water. The president believes very strongly in clean air, clean water. Both of us know air and water don't know national boundaries. You know, that you've got to deal with this on a global basis.

The president has acknowledged on a number of occasions that carbon emissions are a significant problem. The, you know, they're a significant cause of climate change. The president believes very strongly that we're not going to be able to deal with this problem in any serious way, any meaningful way, unless we have major technological advances. And he's behind that 100 percent.

And so you're seeing a big effort there. And he also knows we're not going to get what we want to get unless we get the developing countries involved -- India and particularly China.

And, you know, almost every time I talk with the president on China, he asks me how we're doing on the environmental issues with China. Because they're building one coal plant every week, and a lot of it is with some of the more less-developed technology, and there's a lot we can be doing to make advances there. And so I'm focused on that. And that's really where my focus is.

STEPHANOPOULOS: A lot of your allies in the environmental movement say -- do give you credit for pushing the administration, but they wish you would have gone farther.

And Newsweek actually reported that one of the ideas you were considering was trying to set a floor price on oil. Why did you reject it?

PAULSON: Yes. Let -- let me say that -- that one of the things I've enjoyed about this administration, as being an economic adviser, is there is a team mentality. We all have a chance to have a seat at the table in every economic issue.

Energy security was a very important economic issue. I actually think it's at least as important as entitlements, energy security, for this nation.

And so I was pleased to be part of that.

You know, I'm very pleased with what I see as a very bold program because, George, it's focused on the area where we're most vulnerable. We rely on foreign import -- foreign producers of oil for two-thirds of our. And in the transportation sector, automotive, we're 97 percent dependent on oil. And so what the president has put forward is what I think is a very, very bold goal.

There's a big conservation element to it. There's a big supply element to it. It's to replace 20 percent of the gasoline usage in 10 years.

And here we're talking about 35 billion gallons. And so, again, some people always say, it didn't go far enough; I would like to have seen this or I would like to have seen that. Some people say it's too bold. But I'm pleased with that program.

STEPHANOPOULOS: We're just about out of time. I just have two more questions. When you were chosen, a lot of people said your greatest strength in this job would be your potential to handle a major global financial crisis.

PAULSON: Let's hope I don't get an opportunity.

STEPHANOPOULOS: Well, you haven't had it yet. But what's the one you spend the most time worrying about and thinking about?

PAULSON: Well, George, one of the things I've learned is that -- first of all, I don't have a crystal ball. You never know what's going to happen in the financial markets.

And one of the things I've learned, during my 32-year career in investment banking, is you can never predict where a crisis will come from. So what you want to do is get ready, so you're prepared.

And I'm very pleased that we have a strong team. And the president's working group, Ben Bernanke, Chris Cox, Reuben Jeffrey, and I have spent a lot of time just thinking through -- none of us are predicting. All of us believe we have a strong global economy, a strong U.S. economy.

But we spend time getting prepared. We spend time talking with our colleagues overseas, our counterparts overseas. I have a strong team here at the Treasury. Bob Steel is an undersecretary. He's had a lot of time -- spent a lot of time at financial markets.

So rather than trying to forecast or project where a problem may come from, what we want to do is just make sure we're ready if one does happen to come.

STEPHANOPOULOS: And, as you mentioned, 32 years at Goldman Sachs. You came to Goldman Sachs from the White House, I believe -- the Nixon White House, the Domestic Policy Council.

What's the biggest change you've seen in government in the 32 years you were gone?

PAULSON: Wow. You know, there is an -- I would say the issues, if anything, are becoming, if anything, more complex. There are no easy issues.

And I'll tell you what's the same. I felt that way in those days and I feel this way now. When you're outside of the beltway, you hear a lot of criticism about government. People aren't that able, they don't work that hard, et cetera.

I'll tell you, what I've seen is: People are smart, they work very hard, these jobs aren't easy.

I've spent a bunch of time up on the Hill. The congressional jobs -- I hear people outside of the beltway focus a lot of the criticism on Congress.

Let me tell you: Members of Congress work hard during the week and then forget working hard during the week, they get the honor of getting on a plane, flying home to their district and working all weekend.

So when I was here years ago, the key to success was being able to work as part of a team. It doesn't make any difference how good your ideas are. If you can't work with others, you're not going to get it done.

That was the same in the private sector. It's the same today. And I'm just hoping that if I, along with my colleagues in this administration, are able to work on both sides of the aisle, we'll be able to get some things done.

And, you know, I did something this last week which made the whole week worthwhile. I, you know, had an event with Charlie Rangel, John Sullivan, Jim McCrery, where we were at a library in Washington working with a bunch of volunteers on the earned income tax credit.

And so here was something where you could have Democrats and Republicans working together to try to figure out how to do a better job to put more dollars in the hands of working families that could use every dollar they can get.

And to me, that's the best part of Washington.

STEPHANOPOULOS: Mr. Secretary, thank you very much.

PAULSON: Thank you.