Ben Bernanke says record-low interest rates are still needed

Reporting from Washington — 

Federal Reserve Chairman Ben S. Bernanke acknowledged Wednesday that the government’s bulging deficits are reaching levels that are unsustainable in the long run, but he said substantial action to reduce them was probably at least two years away.

The embryonic recovery from the worst economic crisis in more than half a century, especially the nation’s weak job market, is much too fragile to begin cutting back on government support any time soon, he said. But he stopped short of supporting more stimulus.

Reflecting that stark assessment of current conditions, the Commerce Department said Wednesday that new-home sales plunged 11% in January. And Bernanke affirmed once again that the central bank would keep short-term interest rates at record lows for months.

“I’m not advocating, I don’t think anyone’s really advocating trying to balance the budget this year or next year,” he said in delivering the Fed’s semiannual report to Congress in front of members of the House Financial Services Committee.

Bernanke’s statement about putting off deficit reduction may reflect the consensus opinion of most economists, but it came against a background of increasing conflict between Democrats and Republicans over the deficit and economic policy -- battles that are only expected to grow more intense as congressional elections draw nearer.

Thrust in the middle of the partisan conflict, Bernanke, who only recently won reappointment to lead the central bank, sought to walk a fine line.

On the one hand, he agreed that the Obama administration’s proposed budget over the coming years presents unsustainable deficits relative to the nation’s economic growth. The deficit this year is projected at around 10% of the economy; like most economists, Bernanke said that over time the deficit should not exceed 2.5% to 3% of the gross domestic product.

Yet he also said that large deficits were all but unavoidable in the immediate future, given the depth of the recession and the fragility of the nascent recovery.

Pressed by Rep. Barney Frank (D-Mass.), chairman of the committee, Bernanke said most economists would agree that the Obama administration’s economic stimulus passed in February 2009 had created jobs, though he added that “we don’t know what that alternative would have been.”

“Obviously, unemployment is the biggest problem we have,” he said. “We need to find ways to address that issue. But there are difficult trade-offs that you have to make.”

Bernanke indicated it was important to have a sustainable budget in three to four years and to unveil a credible plan for it much sooner.

“That’s very important to maintain confidence in the debt of the sovereign [nation]. You know, some countries around the world are having some difficulty with that right now,” he said in obvious reference to Greece and other highly leveraged countries that are straining from large interest payments and rising bond rates.

Bernanke’s testimony and subsequent give-and-take with lawmakers marked his first address to Congress since he won a hard-fought confirmation for a second four-year term as chairman last month.

The exchange lasted more than three hours. But it had little of the fireworks that Bernanke faced on Capitol Hill last year as lawmakers launched broadsides against the professorial chairman and the Fed for failing to stop excessive risk-taking by banks and then engineering multibillion-dollar rescues of them.

The bailouts raised intense public ire and triggered concerns that the central bank was cranking up the money-printing machine that would cost taxpayers and contribute to soaring future inflation.

But Bernanke reiterated Wednesday that inflation was nowhere in sight, and he projected that consumer prices would rise at a modest 1% to 2% annually through 2012. Investors seemed to be soothed by the central banker’s remarks. Stocks rose as he spoke with lawmakers.

“Bernanke underscored the Fed’s view that the recovery remains precarious, and as such, the Fed will do all that is necessary to continue to support the recovery,” said Diane Swonk, chief economist at Mesirow Financial in Chicago, in a note to clients.

Bernanke also sought again to reassure Congress and the public that the Fed had the tools to gradually siphon out of the economy the billions of dollars in emergency aid that policymakers pumped in to keep the country from plunging into a depression.

The so-called exit strategy is crucial, in both economic and political terms. If the Fed pulls back too fast, it could stifle recovery. If it moves too slowly, an outbreak of inflation could wreak havoc at home and damage confidence abroad.

Despite conservatives’ expressions of concern about the deficit and Fed monetary policy in general terms, congressional pressure is almost certain to rise as politicians press the Fed to keep the monetary stimulus going to promote growth and to maximize employment rather than taking preemptive steps to stave off inflation.

The Fed’s semiannual report, which Bernanke will present to the Senate on Thursday, paints a picture of an economy that will grow relatively slowly compared with recoveries of past deep downturns.

In his prepared statement, Bernanke said the economy had expanded at an annual rate of 4% in the second half of last year, a dramatic turnaround from the roughly 6% contraction in the fourth quarter of 2008 and first part of 2009.

But much of the rebound came from temporary factors related to rebuilding business inventory levels and stimulative fiscal and monetary policies.

Lawmakers at the hearing were focused on jobs and the record federal deficits that are becoming a major political challenge for Bernanke and for the Obama administration.

In opening the hearing Wednesday, Frank and other Democratic members of the committee displayed charts that sought to blame the previous, Republican administration for much of the nation’s unemployment troubles and for the loss of trillions of dollars of wealth from 2007 to early 2009.

Republican lawmakers, meanwhile, pressed their concerns about the deficit. Rep. Chris Lee (R-N.Y.) asked Bernanke whether the AAA rating of U.S. debt could be in danger of being downgraded, to which Frank retorted: “The notion that America will ever not pay its debts is without any foundation, and I frankly regard it as very irresponsible for anyone here to suggest that there could ever be any such failure.”

Bernanke, for his part, said, “No, I don’t anticipate any such problem. I don’t anticipate any downgrade.”

don.lee@latimes.com