–The More Quickly the Economy Recovers, the Closer is the ‘Medium Term’
By Denny Gulino
WASHINGTON (MNI) – The way Federal Reserve Chairman Ben Bernanke
Wednesday ruled out any big fiscal shocks for this year of “fragile”
recovery suggested he felt the same way about monetary policy shocks but
on that subject of rate hikes, he remained silent.
Questioned repeatedly by members of the House Budget Committee
about what he is recommending on fiscal policy, Bernanke summed it up in
one word, a better “trajectory.” But he stressed he was not recommending
abrupt spending cuts or tax hikes in 2010. In fact, he refused to
“adjudicate for Congress” how exactly to improve budget policy.
“In the short term fiscal policy needs to take into account the
fact the recovery is still pretty fragile and may need some more
assistance,” Bernanke said. Now, he said, there is a risk “that if you
do only that short-term type of activity it may cause markets to worry
that you’re not serious and interest rates could go up.”
Bernanke adroitly avoided being caught in the usual political
crossfire, typical for House committee hearings, refusing to be drawn
into the endless debate on whether tax cuts or spending cuts are more
beneficial or harmful to the economy. At one point he said most
economists do agree tax cuts generally do not completely pay for
Bernanke did again endorse the TARP program, saying he realized it
is unpopular but “without a doubt” prevented a collapse of the global
financial system. He appeared less enthusiastic about stimulus spending,
acknowledging that it did create “some” jobs but also increased the
“I don’t want to buy in to the entire package and all the aspects
of it, the composition, the size, all those things, but I do believe the
fiscal policy was useful. It helped the economy recover,” he said. “I
don’t know what would have happened in the absence.”
At one point he said the cost of Fed and Treasury aid to the
banking industry may turn out to be small and perhaps turn into a profit
given the repayments so far with the exception of AIG. And even AIG, he
said, is expected to eventually complete its own repayments.
He warned the Budget Committee that should more stimulus be
contemplated, it should be paired with a “fiscal exit strategy” that
outlines that trajectory toward a balance of the “primary” budget,
excluding national debt service.
On Europe, he said both in his prepared testimony and in his
answers that market strains have cut demand for risky assets but he sees
a commitment by the euro zone authorities to reach solutions.
“If markets continue to stabilize, then the effects of the crisis
on economic growth in the United States seem likely to be modest,” he
The swap lines re-established with the ECB and other central banks
remain, he said, an important backstop even though their use so far has
been “quite limited.”
The problems in Europe, he said, show the importance of “sound”
U.S. fiscal policy necessary to prevent the country experiencing
Greece-like borrowing difficulties.
There was no substantial market reaction to Bernanke’s comments,
given they paralleled for the most part those he made as recently as
Monday night answering questions at Washington’s Wilson Center.
Bernanke repeated the Fed’s concern about the availability of
credit, saying large business firms can get it, but small business firms
continue to have a harder time.
Bernanke said gold group holdings appeared to be reacting to market
conditions differently from other asset classes and suggested that
rather than a hedge against inflation, gold may be being used as a hedge
against uncertainty. In any event, he said he does not “fully
understand” the movements of the gold group.
Fannie Mae and Freddie Mac, he said, are in a “transition period”
and at this point, are still providing an important function in the
The Fed, he said, contributed to housing through its purchases of
mortgage-backed securities, holding mortgage rates down. Nevertheless,
he said housing remains one of the biggest factors weighing on the
recovery, showing little improvement from last year despite the recently
expired government tax credit for homebuyers.
Suggestions on how to solve entitlement program underfunding, he
said, are “pretty rare,” and yet Social Security, Medicare and Medicaid
are a major factor in the structural fiscal mismatch that Congress must
address in the medium term.
Asked for a definition of the “medium term,” which Fed watchers
could also see as an important clue to his thinking about monetary
policy horizons as well, Bernanke answered that “it depends to some
extent on the rate of recovery of the economy. You know, the more
quickly it recovers, the sooner the medium term will come, in some
Referring to how soon he thought Congress must alter fiscal policy
toward balance, Bernanke said, “I would say ‘medium term’ is two to five
years out in the future, and of course the situation gets much more
difficult beyond say 2020 when the entitlement spending becomes even
Overall, “I think we need to show that within a few years we’re
going to go clearly to a path where the debt-to-GDP-ratio remains more
or less stable,” he said.
“The recovery in economic activity that began in the second half of
last year has continued at a moderate pace so far this year,” he said in
his prepared testimony. “Moreover, the economy — supported by
stimulative monetary policy and the concerted efforts of policymakers to
stabilize the financial system — appears to be on track to continue to
expand through this year and next.”
He repeated the FOMC’s growth expectations of between 3.5% and 4%
for 2011, with this year at the lower end of that range. He again
qualified the improvement’s effect on unemployment, saying that growth
pace would “be associated with only a slow reduction” in the
He recounted the typically mentioned areas of strength, including
business outlays for equipment and software, low costs of financing new
projects, increased confidence and the need to replace aging equipment
and expand capacity “as sales prospects brighten.”
Other than housing’s drag on recovery, Bernanke cited state and
local government budget strain and the consequent cuts in government
employment and construction as continuing negatives.
“Unless we as a nation make a strong commitment to fiscal
responsibility,” he said, “in the longer run, we will have neither
financial stability nor healthy economic growth.”
** Market News International Washington Bureau: 202-371-2121 **