Washington, June 3 - Fed Chairman Ben Bernanke said today that he still expects the US economy to turnaround later this year, but said this assessment is based on the assumption that consumer spending and housing demand will stabilize, and that the pace of inventory reduction will slow. In testimony before the House Budget Committee today, Bernanke said these assumptions are 'key building blocks' of the Fed's current forecast.
'As inventory stocks move into better alignment with sales, firms should become more willing to increase production,' he told the committee in prepared testimony. 'We continue to expect overall economic activity to bottom out, and then to turn up later this year.'
But a major risk to this forecast, he said, is the health of the financial sector. 'A relapse in the financial sector would be a significant drag on overall economic activity and could cause the incipient recovery to stall,' Bernanke said. And even if the US dodges that factor, the Fed thinks a US recovery will 'only gradually gain momentum and that economic slack will diminish slowly.'
Bernanke pointed to several signs that the pace of economic contraction 'may be slowing,' such as flat consumer spending, increasing consumer sentiment, pending stimulus payments, lower business inventories that should promote more production soon, and a housing market that has 'shown some signs of bottoming' via stable existing home sales and reduced construction of new homes.
At the same time, he said the weak labor market, expectations for further job losses 'over the next few months,' tight credit and lower home prices would act as a drag on growth.
Regarding the financial markets, Bernanke said Fed lending facilities have helped the short-term funding market improve, but noted rising yields on longer-term Treasury securities, which he said is likely due to several factors. 'These increases appear to reflect concerns about large federal deficits but also other causes, including greater optimism about the economic outlook, a reversal of flight-to-quality flows, and technical factors related to the hedging of mortgage holdings,' he said.
Bernanke said the 10 banks that were required to raise capital as a result of the government's 'stress test' have so far made real progress toward raising the $75 bln they need, and said more announcements are expected 'shortly,' just days before they are expected to issue formal plans to the government on June 8. 'The substantial progress these firms have made in meeting their required capital buffers, and their success in raising private capital, suggests that investors are gaining greater confidence in the banking system,' he said.
On fiscal matters, Bernanke said it is hard to judge what effect the $800 bln stimulus bill will have on US growth, but said regardless of its effect, the bill will widen the US budget deficit substantially. He said the ratio of federal debt held by the public to nominal GDP is likely to rise from a pre-crisis level of 40% to 70% by 2011.
Source Reuters June 3, 2009