Debt threat looming

Bernanke: Keep spending short-term

WASHINGTON – Record federal spending to avoid a deeper economic downturn is necessary in the short term, but the U.S. government soon must present a credible plan to reduce the massive debt burden that’s being run up, Federal Reserve Chairman Ben Bernanke warned Wednesday.

In congressional testimony, Bernanke also expressed confidence that economic growth would resume later this year, that threats of inflation and deflation appear contained and that the global financial system is stabilizing. He said that the Fed would produce a list next week of banks deemed healthy enough to give bailout money back to taxpayers.

Because Bernanke appeared before the House Budget Committee, much of his testimony centered on the soaring U.S. debt. By some estimates, if it isn’t whittled down by spending cuts, tax hikes or both, it could equal 82 percent of all U.S. economic activity within a decade. That could fuel inflation, drive up interest rates, devalue the dollar and endanger economic growth.

The recent surge in federal spending was necessary to prevent another Great Depression, Bernanke said, but it’s driving up the debt as a share of gross domestic product, the total value of U.S. goods and services produced in a year. Last year, the total U.S. debt was 41 percent of the GDP; this year it’s estimated to be 59.9 percent.

If deficits and debt continue mounting indefinitely, foreign investors such as China and Japan may lose confidence and demand higher interest-rate returns for their purchases of government debt. That would depress economic growth here. So, Bernanke said, “it’s very important that we have now, or very soon, a plan to stabilize at least the debt-to-GDP ratio, so that it doesn’t go into a continued increase, which would, because of interest payments … make sort of a vicious circle going forward.”

At the same time, however, Bernanke cautioned that it wouldn’t be wise to hike taxes or slash government spending too quickly, given the fragility of the U.S. economy.

“My rough rule of thumb to the Congress would be, given that we’ve seen this increase in the debt-to-GDP ratio, that we should hope to try to at least stabilize it at the higher level and over time to try to reduce it,” he said. “But certainly, we cannot allow ourselves to be in a situation where the debt continues to rise.”

During the wide-ranging hearing, Bernanke shrugged off concerns by some economists, many of them conservatives, who warn that the sharp increase in government spending and massive lending by the Federal Reserve will unleash galloping inflation – a rise in prices across the economy – once recovery begins.

“I think I would note that if you look around for evidence of inflation, inflation expectations, you’re not going to find very much,” the Fed chief said.

“If you look, for example, at surveys of consumers, if you look at the forecasts of professional forecasters, if you look at the spread between (inflation) indexed and non-indexed bonds, all of those things are quite consistent with inflation remaining stable and well within the bounds that the Federal Reserve believes is consistent with price stability.”

Bernanke also downplayed the threat of deflation – a sharp drop in prices across the economy – like that Japan witnessed during a similarly steep economic downturn.

On the economy itself, the Fed chief was confident that growth would return late this year, but that it won’t much feel like good times.

“Firms have been cutting back their production and therefore have lowered their stocks of unwanted inventories. As that process goes forward, they will be able to increase production as they no longer have to get rid of those extra inventories,” he said. “So we expect to see some growth – not robust growth, but some positive growth – later this year.”

However, he said, unemployment will keep rising into next year and come down slowly. “We will have a weak labor market for some time.”


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