- The Washington Times - Tuesday, February 24, 2009

The economy will start to recover from a severe recession this year only if the government is successful at reviving the foundering banking system and collapsed credit markets, Federal Reserve Chairman Ben S. Bernanke testified Tuesday morning.

In testimony before the Senate Banking Committee, the Fed chief stressed once again that massive fiscal stimulus and even the Fed’s only efforts to keep interest rates at record lows will not suffice to revive the economy from recession so it can start growing again next year. The banking system and financial markets are the critical element, he said.

“If actions taken by the administration, the Congress and the Federal Reserve are successful in restoring some measure of financial stability — and only if that is the case, in my view — there is a reasonable prospect that the current recession will end in 2009,” he said.

To address the banking mess, the Treasury has outlined a plan that gradually would nationalize some of the nation’s biggest banks, while the Fed has been actively purchasing mortgage securities, commercial paper and other kinds of loans to try to revive collapsed loan securitization markets. The Fed is promising to expand its purchases of securitized loans to cover auto, student and small-business loans in coming weeks.

So far, these unprecedented and strenuous efforts have yielded only minimal improvements, however. Mr. Bernanke said the most success has been seen in the commercial paper market, where businesses borrow to cover short-term operating expenses and other needs.

Meanwhile, the threats that the worst recession since the 1980s could get worse are growing, Mr. Bernanke said. The sudden shutdown of world trade and growth at the end of last year will make it more difficult for the U.S. economy to recover, he noted.

What little growth the United States saw last year was largely the result of robust exports to developing countries such as China that still were experiencing strong growth. That growth now has slowed dramatically or disappeared altogether, however, while other major economies in Japan and Europe are in deep recession.

A second threat to the U.S. economy, Mr. Bernanke said, is that the weakness in the financial sector and the economy will keep feeding on each other, leading to a downward spiral, or “adverse feedback loop,” that can be very difficult to break even with the heroic measures the Fed, administration and Congress are taking.

“One risk arises from the global nature of the slowdown,” Mr. Bernanke said. “Another risk derives from the destructive power of the so-called adverse feedback loop, in which weakening economic and financial conditions become mutually reinforcing. To break the adverse feedback loop, it is essential that we continue to complement fiscal stimulus with strong government action to stabilize financial institutions and financial markets.”

Mr. Bernanke’s remarks had a mildly positive effect on the stock market, which fell to the lowest levels since 1997 on Monday. The Dow Jones Industrial Average ticked up about 106 points after his testimony began.

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