The Federal Reserve might put off its plans to stop infusing cash into world financial markets in the middle of next year if Congress enacts further deep budget cuts that prevent a pick-up in economic growth, Fed Chairman Ben S. Bernanke told a congressional hearing Wednesday.
The central bank's rate-setting committee is expecting economic growth to pick up in coming months to more than 2 percent from the average so far this year of about 1 percent, in part because it sees the impact of about $600 billion of budget cuts and tax increases adopted this spring to be waning.
But if Congress and President Obama unexpectedly reach another impasse this fall over raising the national debt limit or over averting an estimated $1 trillion of 10-year budget cuts from being extended into the next fiscal year, the Fed might have to put off its plans to stop purchasing $85 billion a month in U.S. Treasuries and mortgage bonds, he told the House Financial Services Committee.
"I emphasize that, because our asset purchases depend on economic and financial developments, they are by no means on a preset course," he said.
"The pick-up in economic growth projected by most [Federal Reserve Open Market Committee] participants partly reflects their view that federal fiscal policy will exert somewhat less drag over time, as the effects of the tax increases and the spending sequestration diminish," but the Fed may have to adjust its plans if Congress orders another round of near-term budget cuts or veers into another market-shaking budget crisis, he said.
"The risks remain that tight federal fiscal policy will restrain economic growth over the next few quarters by more than we currently expect, or that the debate concerning other fiscal policy issues, such as the status of the debt ceiling, will evolve in a way that could hamper the recovery."
Mr. Bernanke once again called on Congress to pass spending reforms that gradually reduce spending in entitlement programs such as Medicare and Social Security, which face long-term solvency problems, while avoiding further deep cuts in today's fragile economy.
"Fiscal policy is focusing a bit too much on the short run and not enough on the long run," he said.
Mr. Bernanke said the Fed would also continue its bond purchases, or possibly even accelerate them, if other developments threaten stronger growth and lower unemployment. Weaker-than-expected global growth, for example, might cause the Fed to postpone its tightening plans.
World financial markets were shaken last month by the plan laid out by Mr. Bernanke to phase out the central bank's extraordinary easing programs by mid-2014, with stock markets plunging and interest rates rising sharply around the globe.
U.S. stock markets took the Fed chief's testimony in stride, with the Dow, S&P 500 and Nasdaq indexes all posting very modest gains in trading Wednesday.
Emerging markets and debt-strapped European countries were hit hardest by Mr. Bernanke's earlier remarks, but the shock also poses a threat to the recovery in the U.S. housing market, which Mr. Bernanke said has been an essential ingredient of the overall U.S. recovery this year. For that reason, he said the Fed is keeping a close eye on housing to ensure the housing sector weathers the full percentage point jump in 30-year mortgage rates seen last month.
"We need to monitor particularly the housing market to see if there is any impact from higher mortgage rates. ... I haven't seen anything that points strongly to any particular problem, but again it's very early," he said. Mr. Bernanke attributed much of the sharp jump in rates to an unwinding of "excessively risky and leveraged positions" in the bond market, and said that was a welcome development despite the potential harm to housing.
Because of the violent reaction in global markets, Mr. Bernanke and other Fed officials have taken great pains in their public appearances in recent days to explain that they only intend to suspend their cash infusions if the U.S. economy keeps improving as it has so far this year, particularly with solid growth in jobs of around 200,000 a month.
Mr. Bernanke denied that world markets have grown "addicted" to the Fed's loose money policies.
"The reason I think that markets have improved so much since 2009 is because Fed policy and other policies have succeeded in providing a stronger economy with low inflation," he said. "Many people think of the United States as one of the bright spots in the world. We're doing better than a lot of other industrial countries, and while we're certainly not where we want to be, at least we're going in the right direction."
Mr. Bernanke made his remarks Wednesday as part of the Fed's twice yearly report to Congress on monetary policy. The appearance, which will be repeated before the Senate on Thursday, may be one of Mr. Bernanke's last before Congress if, as rumored, he decides to retire at the end of his current term as chairman in January.
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