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Interview Transcript: Henry Paulson

The following is the unofficial transcript of a CNBC interview with Treasury Secretary Henry Paulson on CNBC's "Squawk on the Street" today at 9:00 AM ET. All references must be sourced to CNBC.

In the CNBC exclusive interview, Paulson discusses the credit crisis, the economy and the housing market, among other topics:

Steve Liesman: Joining us for an exclusive CNBC interview, Treasury Secretary Henry Paulson. Good morning, Mr. Secretary.

Henry Paulson: Steve, good morning.

Liesman: Thanks for being here. Let me start off, some see the recent decline in treasury bill yields as a sign of panic out there that investors are fleeing for safety and that the federal reserve has not done enough. What kind of signal do you get from what happened to Treasury bill yields in the des -- recent days?

Paulson: Steve, before I get to your question, let me make the point that we've been seeing stress and stains in a -- strains in a number of capital markets but this is against the backdrop of a strong global economy, a very healthy U.S. Economy, and the reason I start by making this point is that markets ultimately follow the economy. I've been through periods of stress, turbulence in the market for over the course of my career, various times, and never in any of those other periods have we had the advantage of a strong economy underpinning the markets. Now let me get to your question. As I’ve been saying for some time, credit is being repriced, reassessed across our capital markets so this is going on. Now, as the -- and as the market focuses on these issues in some of the markets that -- as the market focuses on these issues in some of the markets under the most stress, there is a liquidity concern and there's an issue related to the pricing of risk. Now, as the fed addresses liquidity, this makes it possible, makes it easier for the market to focus on risk and pricing risk. Now, this will take a time to play out, because the global economy is more integrated than it's been in the past, we have more complex products, but this will play out over time and liquidity will return to normal when the market has a better understanding and investors have a better understanding of the risk return tradeoff, and as I said, this will take place over time and we have the benefit of having a very strong economy to absorb some of the losses along the way.

Liesman: Mr. Secretary, the Federal Reserve cut the discount window rate by 50 basis points or one half of a percentage point. Do you feel that's enough to address the current problem?

Paulson: Listen, the fed is independent, I talked with him regularly, their job is liquidity. I have great confidence in the fed. And as i said, there's two issues when we look at some of these markets: there's liquidity concern and there's concerns about understanding the risk. The fed, doing what they do and easing and addressing liquidity makes it easier for the markets to focus on the risk, investors to focus on risk, and as i said, this will take some time but we'll work through it.

Liesman: Is that enough in and of itself to set markets straight here?

Paulson: Well, lot me say markets straighten themselves out over time. This will -- this is going to take a while to play out. As I said, the -- what we have here is an economy that is increasingly complex, integrated globally, but again -- and let me talk a little bit more about why I made the point about the economic strength. If a market turbulence is precipitated by economic weakness or by the credit quality of the corporate sector, it's one thing, but we have, again, strong economies, we have a healthy corporate sector, we have a healthy financial sector, major financial institutions, so the problems we're experiencing right now are coming from bad lending practices. And during extended periods of benign markets, excesses creep in. We've had some bad lending practices. This will take a time to work itself out for the markets to readjust and as I said, I think a big part of that readjustment isrical operating risk.

Liesman: You had said in your interview -- isrical operating risk. You had said that you are vigilant in monitoring the situation. Is there a specific action the treasury is doing now and should be doing?

Paulson: Let me say it's always important to vigilant, so the time has not passed for vigilance. I see my role as treasury secretary is to really have responsibility for policies and focus on keeping our economy strong and stable and growing and a big part of that is capital markets, and when I came to Washington, I saw how important it is to have orderly, efficient, competitive capital markets. We've reenergized the president's working group on financial markets. I think it's my job to talk regularly to market participants, but also to talk regularly with the key regulators and make sure that we are seeing the same issues, the same problems, working toward the same solutions.

Liesman: Mr. Secretary, can you talk about specific actions that the Treasury Department either is doing or will be doing to help calm and unenclosing some of these log jams in credit markets these days?

Paulson: let me say, as I said to you a couple of times, this is going to take a while to work through. There's not going to be a quick solution to some of the issues in the credit markets. But, again, we will work through these, we will work through these issues because we have an economy that's strong and the market participants are i think recalculating -- are calibrating, repricing risk and it's my job to stay on top of that, to stay close to the market participants, to stay close to my fellow regulators, make sure we see the issues the same, we're working towards a common solution, and to continue to remind people that these issues have not been precipitated by weak economic conditions, weak credit conditions. They've been precipitated by excesses and by bad lending practices, and so it will take a while to work themselves out, but we'll work through this just fine.

Liesman: Mr. Secretary, you're saying that this this take a while to work out. What is your expectation for the effect of what's happening in credit markets on the economy?

Paulson: As I said, we've got a very healthy economy. What's going on right now in the capital markets will in all likelihood take a penalty, take a toll out of economic growth, economic growth will be less than it ordinarily would have been but it is my view that the underlying economy remains healthy and I expect to see the economy continue to grow, to create jobs, and to raise the standard of living.

Liesman: Are you concerned that, as some have said, millions of Americans could lose their home as a result of what's going on in the mortgage market right now?

Paulson: Of course I am. And we're very focused on the mortgage market, we're talking to a wide variety of participants in that market, including Fannie Maeand Freddie Mac, we're thinking through options to reduce the strain in the mortgage mark the and clearly -- in the markets and the president wants us to be clearly focused on actions that can be taken, things we can do, to help mortgage holders who are in danger of losing their homes.

More from the interview...

Liesman: One of the options that been discussed is to raise the cap, that is, allow Fannie Mae and Freddie Mac, the government-sponsored entities, to buy more mortgages, also discussion about raising the cap on what is a conforming or jumbo mortgage, lowering that. Where do you stand on those two issues?

Paulson: I’d like to speak about that because I think there's an lot of misunderstanding about that particular point. Right now, without new legislation, the gses, Fannie and Freddie, participate in the conforming prime mortgage market, the agency mortgage market, that mortgage market is performing very well. Raising the cap doesn't do much of anything. Where there have been issues, there have been issues in the nonconforming jumbo market and in the subprime market. And in order for the gses to participate in the jumbo market or in the riskier -- riskier market where loan to value is high, this takes legislation, and so our viewpoint on this has been very clear, we have reform legislation for the gses up at the hill, we have a bill that's been reported out of the house, I’m hoping the senate will take that up, and then while we're working for legislative reform and to have a strong independent regulator, we are pursuing these other options to deal with areas where the market isn't working as well. Now, I may add, when we look at the markets over the last couple of days, I’ve been encouraged to see signs that there's more liquidity in the jumbo nonconforming mortgage market. But again, we're continuing to work these issues hard and looking for ways to deal with the problems in the market.

Liesman: Mr. Secretary, without putting words in your mouth, though, I hear you not saying you're looking for a quick solution here which would be just to raise the cap on what a conforming loan is.

Paulson: I don't know what -- the -- raising the cap on what a conforming rate is a legislative solution and as I say, we're looking at a number of options and a number of policy levers to address the issues in those markets. Now, when you're looking at the jumbo market, that is something we're looking at, it's doing better here, it would take a legislative action. We're really focused on the subprime market, and we're really focused on the homeowners, mortgage holders, who are in danger of losing their homes and thinking through policy options to address that segment of the market.

Liesman: Mr. Secretary, you talk about what's happening in the mortgage market but one of the problems we've heard about is the problem in the commercial paper market. These, as you know, were short-term corporate ious, apparently some companies are having trouble borrowing. Is that one of your areas of concern as well?

Paulson: Again, as we look across the markets, we're looking at all the markets, and you know, obviously, the equity markets, the sovereign debt markets, the high quality credit markets, are all fully operational and the markets that are under more stress are high yield market, nonagency mortgage markets, cdos, clo markets, and extendible asset paper -- asset-backed paper so those are markets that we're watching closely but as I said, as the fed moves to address liquidity, market participants are able to focus on risk in these securities, get a better understanding of the risk versus reward, and I think as that process unfolds, and you see investors gain more confidence that they understand the risks and the returns here, you're going to see liquidity return to normal in these markets.

Liesman: Mr. Secretary, I have with a minute here. Some people have said there is some concern expressed about whether or not the money in their money markets are safe. Should people be concerned there, and is that something that worries you?

Paulson: As I’ve said on -- again, repeatedly in this interview, we've got a very healthy basic economy that I think a wide variety of securities are safe. What's happening is risk is being repriced and reevaluated. And, again, what I say when I run into people on the street and others who want to talk about what's going on, I say, you know, there's two ways we can get to a period of market turbulence. One is if there's economic weakening, if there are weaker credit conditions, and the other is the way we got here in terms of certain excesses. But remember, the big financial institutions in this country are healthy, they've got very low levels of problem loans, the corporate sector is not particularly levered, strong earnings, our insurance companies, our pension funds are well capitalized and again, we're going to work through this problem just fine. We've worked through challenges in the past and we're doing this against the backdrop of a healthy economy, so I -- again, I think what the American people need to understand, these things take a while to play out, but as they play out and as investors get a better understanding of these securities, lid qty will return to normal.

Liesman: Mr. Secretary, thank you for your time this morning.

Paulson: Thank you.

Liesman: Treasury Secretary Henry Paulson. Erin?

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