Joint Economic Committee Examines the Federal Reserve’s Economic Outlook
AT TODAY’S JOINT ECONOMIC COMMITTEE HEARING, lawmakers discussed the current state of the economy, and ways to augment the recovery, with Ben Bernanke, Chairman of the Board of Governors of the Federal Reserve System.
In his opening statement, Chairman Bob Casey (D-Pa.) said the Congressional Budget Office (CBO) has projected that without a change in current policy, real GDP will slow to a 0.5 percent growth rate in 2013. He highlighted the need for Washington to enact legislation that creates jobs to aid the recovery, in addition to endorsing H.R. 4281, the Surface Transportation Extension Act of 2012, and legislation to combat Chinese currency manipulation.
In his opening statement, Vice Chairman Kevin Brady (R-Texas) said our economy is increasingly at risk from the European financial downturn and wondered whether the currency swap lines between the Federal Reserve and the European Central Bank could result in the U.S. indirectly bailing out European countries. In closing, Brady said that a third round of quantitative easing (QE3) would damage the economy for a variety of reasons, most notably by increasing inflation.
Testimony
In his opening statement, Bernanke outlined the Federal Reserve’s outlook for the economy. He said GDP rose at an annual rate of 2 percent in the first quarter. Employment rates have decreased 1 percent since August and, on average, only 75,000 jobs were added in April and May. He said this could have been exaggerated by odd seasonal changes, but it could also be the result of a “catch-up” period ending, where employers have finally made up for the jobs lost during the recession. If this period has truly decelerated, then more rapid gains will be required to achieve significant growth in employment, he said.
Bernanke also said that despite extremely low mortgage rates, lending standards are too high and the large supply of vacant houses is limiting homebuilding prospects. This depressed housing market has impaired the economic recovery, Bernanke stated. However, he said the status of the financial services sector has improved, demonstrated by the Fed’s recently conducted stress tests on the nineteen largest banks. The results showed that these banks accumulated $300 billion in capital since 2009, and would be able to provide credit to homeowners and businesses even in severely adverse economic scenarios.
Additionally, Bernanke updated members on the inflationary pressures affecting the U.S. and highlighted the five-year-forward measure of inflation compensation, which reported lower inflation expectations than a year ago. Under these conditions, the Federal Reserve estimates that inflation will remain at or below 2 percent, which is a “sufficient level” for increasing employment. He said the Federal Open Market Committee (FOMC) has kept the federal funds target rate between zero and 0.25 percent, and hinted that the FOMC will continue to keep the rate low until 2014, or when conditions warrant. Lastly, he said the Federal Reserve has continued to purchase $400 billion dollars worth of longer-term Treasuries while also selling an equal amount of shorter-term Treasuries in an effort to increase the average maturity of the Fed’s securities.
Fed Strategy and Quantitative Easing (QE)
Chairman Robert Casey (D-Pa.) asked if the Fed is planning on taking additional action to stabilize and aid the economy in the short term. Bernanke responded that Fed first needs to assess the future strength of the economy. He believes post-recession job growth could be due to the reversal of recession lay-offs, and said the Fed is working to determine if the growth rate going forward will be high enough to encourage actual job growth. If further action is required, Bernanke said the Fed will look at options other than reducing the short term interest rate, which is no longer feasible.
Vice Chairman Kevin Brady (R-Texas) asked if other debt securities would be purchased during a third round of quantitative easing (QE). Bernanke replied that the Fed needs to first determine whether there are signs of adequate future growth before deciding on further action. He said the Fed has a number of different strategy options, and that nothing is “off the table.”
Rep. John Campbell (R-Calif.), noting that QE mostly affects interest rates and liquidity, asked how a third phase of QE would affect growth since interest rates are already extremely low and there are few liquidity problems. Bernanke answered that previous QE programs have eased financial conditions by lowering spreads between private and government interest rates and raising stock prices. He admitted that there may be diminishing returns to a QE strategy, and said the Fed would look into that possibility further.
Sen. Mike Lee (R-Utah) asked about the risks that accompany QE. Bernanke admitted that the Fed has less experience with QE, and that expanding the Fed’s balance sheet makes its exit strategy more difficult. However, Bernanke said he is confident the Fed will be able to undo expansionary QE policy.
Lee asked when interest rates will start to normalize. Bernanke said short term rates will be kept low until 2014, but long term rates may rise before then.
Fiscal Cliff and National Debt
Rep. Loretta Sanchez (D-Calif.) and Sen. Amy Klobuchar (D-Minn) asked Bernanke about steps Congress could take to address the fiscal cliff. Bernanke expressed concern about the potentially damaging consequences of less spending and increased taxation if Congress does not act.
Sen. Jim Demint (R-S.C.) expressed concern that increasing interest rates would increase the national debt. Bernanke said raising interest rates by a full percentage point would only raise the annual deficit by $100 billion. He also said the deficits are large enough that Congress should be motivated to address the debt issue irrespective of interest rates.
Demint stated his worry that growth policies are being equated with government spending. He asked Bernanke why the government needs to keep spending if there is a debt crisis. Bernanke said more spending is not necessary and tax relief would have similar effects on the economy and consumer spending, but the important point is to focus on a balanced program taking both the long term and the short term into account.
Dodd-Frank, Derivatives, and Wall Street
Rep. Mick Mulvaney (R-S.C.) expressed concern about the size and power of the interest rate swaps market and asked if Congress should be concerned about the lack of transparency in the derivatives marketplace. Bernanke noted the notional value greatly overstates actual exposure and explained that interest rate swaps are very straightforward and do not pose the same risk as credit default swaps. He said OTC derivatives can be dangerous, but the Fed is working to require central clearing for the largest possible proportion of swaps. He said the Fed is also ensuring that there are large margins on both sides of the swaps, and is holding a meeting to discuss Basel III capital requirements. Bernanke reassured the committee that the large interest rate derivative market does not give a false impression of demand for debt.
Sen. Bernie Sanders (I-Vt.) stated his concern that leaders of major financial institutions serving as Fed board members represent a conflict of interest. Bernanke said a certain number of such leaders are required by law to be on the board and that these leaders do not have access to private Fed information or the ability to influence the Fed’s decision-making.
Sanders, after stating that six of the U.S.’s largest banks hold over $9 trillion in assets, asked if Bernanke believes these institutions should be broken up. Bernanke said once Dodd-Frank legislation eliminates the possibility and benefits of being “too big to fail,” market forces and cost-benefit analysis will naturally reduce the size of banks.
Rep. Michael Burgess (R-Texas) expressed concern over the possibility of a repeat of the Lehman Brothers crisis. Bernanke said the Fed has taken several actions to ensure that banks have adequate capital and liquidity to prevent another crisis.
Rep. Sean Duffy (R-Wis.) asked if the Volcker Rule would have applied to the trades that cost JPMorgan at least $2 billion in losses. Bernanke declined to comment on the specifics of the loss but said that in general, differentiating between proprietary trading and other hedging activities is “very difficult.” He said proposed rules requiring an explanation of trades given in advance would help regulators to know more about the situation.
Europe and Foreign Markets
Brady expressed concern about the consequences of a Greece exit from the Euro and asked about the tools the Fed is considering if contagion spreads from Europe. Bernanke said the Fed has used swap lines to reduce stress in the currency markets, performed stress tests to ensure strong capital and liquidity positions exist at major financial institutions in the U.S., and conducted a review of U.S. financial institutions’ exposures to Europe. He reminded the committee that the Fed retains the authority to provide liquidity in the event of severe financial stress.
Sanchez asked Bernanke if he felt the U.S. is headed towards “the Greece situation.” Bernanke explained that the U.S. and Greece are very different economies. He did not think the U.S. is in a “Greek situation,” but cautioned Congress against being complacent and challenged those on the Committee to put the federal budget on a sustainable path.
Campbell asked what Congress should be monitoring in Europe and what actions they should be prepared to take. Bernanke said because Congress and the administration haven’t agreed to any direct support, the main course of action should be strengthening the U.S. economy because “more momentum could better withstand any spillover from the problems in Europe.” Campbell asked if the risks to our economy from Europe are any greater than in previous months. Bernanke said the risks have “waxed and waned” but have recently worsened amidst rising concerns about financial issues in Spain and Italy, and the upcoming Greek election.
Sen. Dan Coats (R-Ind.) and Rep. Carolyn Maloney (D-N.Y.) asked what effects failing markets abroad would have on U.S. markets. Bernanke said the effect would depend on the shock. He explained that a failure in the Middle East would increase oil prices and have the same effect as a tax on oil, while a failure in Europe could lead to volatility in our financial markets. Bernanke also commented on China’s policy of creating sustainable market expansion by purposefully slowing growth to a manageable rate and assured the committee that a change in Chinese prospects would not harm the U.S.
Burgess asked about possible action to help Europe deal with its debt crisis. Bernanke said the official U.S. position has been that Europe is a “rich region and…they have the resources necessary to achieve stability.” He believes the problems in Europe are mostly political rather than economic, and the U.S. can only offer advice and continue to be supportive.
Rep. Maurice Hinchey (D-NY) asked about key lessons from Europe’s monetary policies. Bernanke said the main message is that “sensible fiscal policy is one that takes into account both the short run and the long run needs of an economy.”
Housing and Labor Markets
Rep. Elijah Cummings (D-Md.), referencing some of Bernanke’s recent statements about the importance of the housing sector to the recovery, asked about the usefulness of principal reductions in helping taxpayers. Bernanke said although the Board of Governors does not have an official position on the issue, he believes in some cases reducing payments may be more effective than reducing principal. However, Bernanke also noted the benefits of principal reductions, including less foreclosures and a drop in monetary losses to lenders. Cummings asked if a targeted principal reduction program could be positive. Bernanke said it could be if the program was structured carefully and if it offered equity sharing agreements as well.
Klobuchar noted the correlation between economic growth and decreased unemployment during recoveries, and asked why this recovery has been different. Bernanke acknowledged that labor market “pace of improvement from last summer to March was surprisingly strong given the tepid growth in economic activity” and said this may have been due to the “burst of extra hiring that was the reversal of excessive layoffs during the recession.” He said this would imply improvement in unemployment is more limited.
For more on this hearing please click here.
AT TODAY’S JOINT ECONOMIC COMMITTEE HEARING, lawmakers discussed the current state of the economy, and ways to augment the recovery, with Ben Bernanke, Chairman of the Board of Governors of the Federal Reserve System.
In his opening statement, Chairman Bob Casey (D-Pa.) said the Congressional Budget Office (CBO) has projected that without a change in current policy, real GDP will slow to a 0.5 percent growth rate in 2013. He highlighted the need for Washington to enact legislation that creates jobs to aid the recovery, in addition to endorsing H.R. 4281, the Surface Transportation Extension Act of 2012, and legislation to combat Chinese currency manipulation.
In his opening statement, Vice Chairman Kevin Brady (R-Texas) said our economy is increasingly at risk from the European financial downturn and wondered whether the currency swap lines between the Federal Reserve and the European Central Bank could result in the U.S. indirectly bailing out European countries. In closing, Brady said that a third round of quantitative easing (QE3) would damage the economy for a variety of reasons, most notably by increasing inflation.
Testimony
In his opening statement, Bernanke outlined the Federal Reserve’s outlook for the economy. He said GDP rose at an annual rate of 2 percent in the first quarter. Employment rates have decreased 1 percent since August and, on average, only 75,000 jobs were added in April and May. He said this could have been exaggerated by odd seasonal changes, but it could also be the result of a “catch-up” period ending, where employers have finally made up for the jobs lost during the recession. If this period has truly decelerated, then more rapid gains will be required to achieve significant growth in employment, he said.
Bernanke also said that despite extremely low mortgage rates, lending standards are too high and the large supply of vacant houses is limiting homebuilding prospects. This depressed housing market has impaired the economic recovery, Bernanke stated. However, he said the status of the financial services sector has improved, demonstrated by the Fed’s recently conducted stress tests on the nineteen largest banks. The results showed that these banks accumulated $300 billion in capital since 2009, and would be able to provide credit to homeowners and businesses even in severely adverse economic scenarios.
Additionally, Bernanke updated members on the inflationary pressures affecting the U.S. and highlighted the five-year-forward measure of inflation compensation, which reported lower inflation expectations than a year ago. Under these conditions, the Federal Reserve estimates that inflation will remain at or below 2 percent, which is a “sufficient level” for increasing employment. He said the Federal Open Market Committee (FOMC) has kept the federal funds target rate between zero and 0.25 percent, and hinted that the FOMC will continue to keep the rate low until 2014, or when conditions warrant. Lastly, he said the Federal Reserve has continued to purchase $400 billion dollars worth of longer-term Treasuries while also selling an equal amount of shorter-term Treasuries in an effort to increase the average maturity of the Fed’s securities.
Fed Strategy and Quantitative Easing (QE)
Chairman Robert Casey (D-Pa.) asked if the Fed is planning on taking additional action to stabilize and aid the economy in the short term. Bernanke responded that Fed first needs to assess the future strength of the economy. He believes post-recession job growth could be due to the reversal of recession lay-offs, and said the Fed is working to determine if the growth rate going forward will be high enough to encourage actual job growth. If further action is required, Bernanke said the Fed will look at options other than reducing the short term interest rate, which is no longer feasible.
Vice Chairman Kevin Brady (R-Texas) asked if other debt securities would be purchased during a third round of quantitative easing (QE). Bernanke replied that the Fed needs to first determine whether there are signs of adequate future growth before deciding on further action. He said the Fed has a number of different strategy options, and that nothing is “off the table.”
Rep. John Campbell (R-Calif.), noting that QE mostly affects interest rates and liquidity, asked how a third phase of QE would affect growth since interest rates are already extremely low and there are few liquidity problems. Bernanke answered that previous QE programs have eased financial conditions by lowering spreads between private and government interest rates and raising stock prices. He admitted that there may be diminishing returns to a QE strategy, and said the Fed would look into that possibility further.
Sen. Mike Lee (R-Utah) asked about the risks that accompany QE. Bernanke admitted that the Fed has less experience with QE, and that expanding the Fed’s balance sheet makes its exit strategy more difficult. However, Bernanke said he is confident the Fed will be able to undo expansionary QE policy.
Lee asked when interest rates will start to normalize. Bernanke said short term rates will be kept low until 2014, but long term rates may rise before then.
Fiscal Cliff and National Debt
Rep. Loretta Sanchez (D-Calif.) and Sen. Amy Klobuchar (D-Minn) asked Bernanke about steps Congress could take to address the fiscal cliff. Bernanke expressed concern about the potentially damaging consequences of less spending and increased taxation if Congress does not act.
Sen. Jim Demint (R-S.C.) expressed concern that increasing interest rates would increase the national debt. Bernanke said raising interest rates by a full percentage point would only raise the annual deficit by $100 billion. He also said the deficits are large enough that Congress should be motivated to address the debt issue irrespective of interest rates.
Demint stated his worry that growth policies are being equated with government spending. He asked Bernanke why the government needs to keep spending if there is a debt crisis. Bernanke said more spending is not necessary and tax relief would have similar effects on the economy and consumer spending, but the important point is to focus on a balanced program taking both the long term and the short term into account.
Dodd-Frank, Derivatives, and Wall Street
Rep. Mick Mulvaney (R-S.C.) expressed concern about the size and power of the interest rate swaps market and asked if Congress should be concerned about the lack of transparency in the derivatives marketplace. Bernanke noted the notional value greatly overstates actual exposure and explained that interest rate swaps are very straightforward and do not pose the same risk as credit default swaps. He said OTC derivatives can be dangerous, but the Fed is working to require central clearing for the largest possible proportion of swaps. He said the Fed is also ensuring that there are large margins on both sides of the swaps, and is holding a meeting to discuss Basel III capital requirements. Bernanke reassured the committee that the large interest rate derivative market does not give a false impression of demand for debt.
Sen. Bernie Sanders (I-Vt.) stated his concern that leaders of major financial institutions serving as Fed board members represent a conflict of interest. Bernanke said a certain number of such leaders are required by law to be on the board and that these leaders do not have access to private Fed information or the ability to influence the Fed’s decision-making.
Sanders, after stating that six of the U.S.’s largest banks hold over $9 trillion in assets, asked if Bernanke believes these institutions should be broken up. Bernanke said once Dodd-Frank legislation eliminates the possibility and benefits of being “too big to fail,” market forces and cost-benefit analysis will naturally reduce the size of banks.
Rep. Michael Burgess (R-Texas) expressed concern over the possibility of a repeat of the Lehman Brothers crisis. Bernanke said the Fed has taken several actions to ensure that banks have adequate capital and liquidity to prevent another crisis.
Rep. Sean Duffy (R-Wis.) asked if the Volcker Rule would have applied to the trades that cost JPMorgan at least $2 billion in losses. Bernanke declined to comment on the specifics of the loss but said that in general, differentiating between proprietary trading and other hedging activities is “very difficult.” He said proposed rules requiring an explanation of trades given in advance would help regulators to know more about the situation.
Europe and Foreign Markets
Brady expressed concern about the consequences of a Greece exit from the Euro and asked about the tools the Fed is considering if contagion spreads from Europe. Bernanke said the Fed has used swap lines to reduce stress in the currency markets, performed stress tests to ensure strong capital and liquidity positions exist at major financial institutions in the U.S., and conducted a review of U.S. financial institutions’ exposures to Europe. He reminded the committee that the Fed retains the authority to provide liquidity in the event of severe financial stress.
Sanchez asked Bernanke if he felt the U.S. is headed towards “the Greece situation.” Bernanke explained that the U.S. and Greece are very different economies. He did not think the U.S. is in a “Greek situation,” but cautioned Congress against being complacent and challenged those on the Committee to put the federal budget on a sustainable path.
Campbell asked what Congress should be monitoring in Europe and what actions they should be prepared to take. Bernanke said because Congress and the administration haven’t agreed to any direct support, the main course of action should be strengthening the U.S. economy because “more momentum could better withstand any spillover from the problems in Europe.” Campbell asked if the risks to our economy from Europe are any greater than in previous months. Bernanke said the risks have “waxed and waned” but have recently worsened amidst rising concerns about financial issues in Spain and Italy, and the upcoming Greek election.
Sen. Dan Coats (R-Ind.) and Rep. Carolyn Maloney (D-N.Y.) asked what effects failing markets abroad would have on U.S. markets. Bernanke said the effect would depend on the shock. He explained that a failure in the Middle East would increase oil prices and have the same effect as a tax on oil, while a failure in Europe could lead to volatility in our financial markets. Bernanke also commented on China’s policy of creating sustainable market expansion by purposefully slowing growth to a manageable rate and assured the committee that a change in Chinese prospects would not harm the U.S.
Burgess asked about possible action to help Europe deal with its debt crisis. Bernanke said the official U.S. position has been that Europe is a “rich region and…they have the resources necessary to achieve stability.” He believes the problems in Europe are mostly political rather than economic, and the U.S. can only offer advice and continue to be supportive.
Rep. Maurice Hinchey (D-NY) asked about key lessons from Europe’s monetary policies. Bernanke said the main message is that “sensible fiscal policy is one that takes into account both the short run and the long run needs of an economy.”
Housing and Labor Markets
Rep. Elijah Cummings (D-Md.), referencing some of Bernanke’s recent statements about the importance of the housing sector to the recovery, asked about the usefulness of principal reductions in helping taxpayers. Bernanke said although the Board of Governors does not have an official position on the issue, he believes in some cases reducing payments may be more effective than reducing principal. However, Bernanke also noted the benefits of principal reductions, including less foreclosures and a drop in monetary losses to lenders. Cummings asked if a targeted principal reduction program could be positive. Bernanke said it could be if the program was structured carefully and if it offered equity sharing agreements as well.
Klobuchar noted the correlation between economic growth and decreased unemployment during recoveries, and asked why this recovery has been different. Bernanke acknowledged that labor market “pace of improvement from last summer to March was surprisingly strong given the tepid growth in economic activity” and said this may have been due to the “burst of extra hiring that was the reversal of excessive layoffs during the recession.” He said this would imply improvement in unemployment is more limited.
For more on this hearing please click here.