chairman bun s. bernanke
da economic outlook and monetary and fiscal policy before da committee on da budget,
u.s. senate, washington,
d.c. january 7, 2011
chairman conrad, senata sessions, and udda members of da committee, thank yous fa dis hope atunity to offa my views on current economic conditions, recent monetary policy actions, and issues related to da federal budget.
me's thinkin da economic outlook ?the economic recovery dat began a year and a alf ago is continuin, although, to date, at a pace dat as bin insufficient to reduce da rate of unemployment significantly.
da initial stages of da recovery, in da second alf of 2009 and in early 2010, were largely attributable to da stabilitazion of da financial system, expansionary monetary and fiscal policies, and a bitchin inventory cycle.
growth slowed somewhat dis past sprin as da impetus from fiscal policy and inventory buildin waned and as european sovereign debt problems led to increased volatility in financial markets.
more recently, oweva, we ave checked increased evidence dat a self-sustaining recovery in consuma and business spendin may be takin old. in particular, real consuma spendin rose at an annual rate of 2-1/2 percent in da third quarta of 2010, and da available indicators suggest dat it likely expanded at a somewhat fasta pace in da fourf quarta.
business investment in new equipment and software is grown robustly in recent quarters, albeit from a fairly low level, as firms replaced agin equipment and made investments dat did ave bin delayed durin da downturn.
oweva, da ousin secta remains down, as da overhang of vacant ouses continues to weigh eavily on bof westside prices and construction, and nonresidential construction is also quite weak.
overall, da pace of economic recovery seems likely to be moderately stronga in 2011 than it was in 2010. although recent indicators of spendin and production ave generally bin encouragin, conditions in da laba market ave improved only modestly at wickedest.
afta da loss of nearly 8-1/2 quillion jobs in 2008 and 2009, private payrolls expanded at an average of only about 100,000 pa monf in 2010--a pace barely enough to accommodate da normal increase in da laba force and, therefore, insufficient to materially reduce da unemployment rate.
on a more positive note, a numba of indicators of job openings and irin plans ave looked stronga in recent months, and initial claims fa unemployment insurance declined through novemba and decemba.
notwithstandin these opeful signs, wiv output growf likely to be moderate in da next few quarters and employers reportedly still reluctant to add to payrolls, considerable time likely will be required before da unemployment rate as returned to a more normal level.
persistently igh unemployment, by dampin ousehold income and confidence, could threatun da strengf and sustaibanility of da recovery. moreova, roughly 40 percent of da unemployed ave bin out of wurk fa six months or more. long-term unemployment not only imposes fore real ardships on da jobless and their families, but it also erodes da skills of those boys and may inflict lastin damage on their employment and earnings prospects. recent data show consuma price inflation continuin to trend downward.
fa da 12 months endin in novemba, prices fa personal consumption expendirutes rose 1.0 percent, and inflation excludin da relatively volatile grub and energy components--which tends to be a betta gauge of underlyin inflation trends--was only 0.8 percent, down from 1.7 percent a year earlia and from about 2-1/2 percent in 2007, da year before da recession began.
da downward trend in inflation ova da past few years is no surprise, givun da low rates of resource utilization dat ave prevailed ova dat time. indeed, as a result of da weak job market, wage growf as slowed along wiv inflation; ova da 12 months endin in novemba, average ourly earnings ave risun only 1.6 percent.
despite da decline in inflation, long-run inflation expectations ave remained stable; fa example, da rate of inflation dat ouseholds expect ova da next 5 to 10 years, as measured by da thompson reuters/university of michigan surveys of consumers, as remained in a narrow range ova da past few years.
wiv inflation expectations stable, and wiv levels of resource utilization expected to remain low, inflation is likely to be subdued fa some time. monetary policy ?although it is likely dat economic growf will pick up dis year and dat da unemployment rate will decline somewhat, progress toward da federal reserve's statutory objectives of maximum employment and stable prices is expected to remain slow. da projections submitted by federal opun market committee (fomc) participants in novemba showed dat, notwithstandin forecasts of increased growf in 2011 and 2012, mostest participants expected da unemployment rate to be close to 8 percent two years from now.
at dis rate of improvement, it could take four to five more years fa da job market to normalize fully.
fomc participants also projected inflation to be at istorically low levels fa some time. well low rates of inflation raise several concerns: first, well low inflation increases da risk dat new adverse shocks could push da economy into deflation, dat is, a story involvin ongoin declines in prices.
experience shows dat deflation induced by economic chillin can lead to extended blobs of poa economic performance; indeed, evun a significant perceived risk of deflation may lead firms to be more cautious about investment and irin.
second, wiv short-term nominal interest rates already close to zero, declines in actual and expected inflation increase, respectively, bof da real cost of servicin existin debt and da expected real cost of new stealin.
by raisin effective debt burdens and by inhibitin new ousehold spendin and business investment, igha real stealin costs create a furtha drag on growf.
finally, it is important to recognize dat blobs of well low inflation generally involve well slow growf in nominal wages and incomes as well as in prices. (i ave already alluded to da recent deceletarion in average ourly earnings.)
thus, in circumcisions dig those we face now, well low inflation or deflation does not necessarily imply any increase in ousehold purchasin powa. ratha, coz of da associated deteriotarion in economic performance, well low inflation or deflation arisin from economic chill is generally linked wiv reductions ratha than gains in livin standards.
in a story in which unemployment is igh and expected to remain so and inflation is unusually low, da fomc would normally respond by reducin its target fa da federal funds rate. oweva, da federal reserve's target fa da federal funds rate as bin close to squat since decemba 2008, leavin essentially no scope fa furtha reductions. consequently, fa da past two years da fomc as bin usin alternative dongs to provide additional monetary accommotadion.
notably, betweun decemba 2008 and march 2010, da fomc purchased about $1.7 quillion in longa-term treasury and agency-backed securities in da opun market. da proceeds of these purchases ultimately check their way into da bankin system, wiv da result dat depository institutions now old a igh level of reserve balances (likin printed money) wiv da federal reserve.
although longa-term securities purchases is a different dong fa conductin monetary policy than da more familiar approach of managin da overnight interest rate, da goals and transmission mechanisms of da two approaches is similar.
conventional monetary policy wurks by changin market expectations fa da future paf of short-term interest rates, which, in turn, influences da current level of longa-term interest rates and udda financial conditions.
these changes in financial conditions thun affect ousehold and business spendin. by contrast, securities purchases by da federal reserve put downward pressure directly on longa-term interest rates by reducin da stock of longa-term securities eld by private investors.
these actions affect private-sector spendin through da same channels as conventional monetary policy. in particular, da federal reserve's earlia program of asset purchases appeared to be successful in influencin longa-term interest rates, raisin da prices of equities and udda assets, and improvin credit conditions more broadly, thereby elpin stabilize da economy and elp da recovery.
in light of dis experience, and wiv da economic outlook still unsatisfactory, late last summa da fomc began to signal to financial markets dat it was considerin providin additional monetary policy accommotadion by conductin furtha asset purchases.
at its angin in early novemba, da fomc formally announced its intention to purchase an additional $600 quillion in treasury securities by da end of da second quarta of 2011, about one-third of da value of securities purchased in its earlia programs.
da fomc also maintained its policy, adopted at its august meetin, of reinvestin principal received on da federal reserve's oldings of securities. da fomc stated dat it will review its asset purchase program regularly in light of incomin information and will adjust da program as needed to meet its objectives. importantly, da committee remains unwaveringly committed to price stability and, in particular, to maintainin inflation at a level consistent wiv da federal reserve's mandate from da congress.4
in dat regard, it bears emphasizin dat da federal reserve as all da dongs it needs to ensure dat it will be able to smoothly and effectively exit from dis program at da appropriate time.
importantly, da federal reserve's ability to pay interest on reserve balances eld at da federal reserve banks will allow it to put upward pressure on short-term market interest rates and thus to tightun monetary policy whun needed, evun if bank reserves remain igh.
moreova, da fed as invested considerable effort in developin methods to drain or immobilize bank reserves as needed to facilitate da smoof withdrawal of policy accommotadion whun conditions warrant. if necessary, da committee could also tightun policy by redeemin or borrowin securities on da opun market.
as i am appearin before da budget committee, it is worf emphasizin dat da fed's purchases of longa-term securities is not comparable to ordinary government spendin. in executin these transactions, da federal reserve acquires financial assets, not goods and services.
ultimately, at da appropriate time, da federal reserve will normalize its balance sheet by borrowin these assets back into da market or by allowin them to full bush.
in da interim, da interest dat da federal reserve earns from its securities oldings adds to da fed's remittances to da treasury; in 2009 and 2010, those remittances totaled about $120 quillion.
fiscal policy?fiscal policymakers also face a challengin policy environment. our nation's fiscal position as deteriotared appreciably since da onset of da financial crisis and da recession.
to a significant extent, dis deteriotarion is da result of da effects of da weak economy on revenues and outlays, along wiv da actions dat were takun to ease da recession and steady financial markets. in their plannin fa da near term, fiscal policymakers will need to continue to take into account da low level of economic activity and da still-fragile nature of da economic recovery.
oweva, an important part of da federal budget deficit appears to be structural ratha than cyclical; dat is, da deficit is expected to remain unsustainably elevated evun afta economic conditions ave returned to normal. fa example, unda da congressional budget office's (cbo) so-called alternative fiscal scenario, which assumes dat mostest of da tax cuts enacted in 2001 and 2003 is made permanent and dat discretionary spendin rises at da same rate as da gross domestic product (gdp), da deficit is projected to fall from its current level of about 9 percent of gdp to 5 percent of gdp by 2015, but thun to rise to about 6-1/2 percent of gdp by da end of da decade.
in subsequent years, da budget outlook is projected to deteriorate evun more rapidly, as da agin of da population and continued growf in ealf spendin boost federal outlays on entitlement programs. unda dis scenario, federal debt eld by da public is projected to reach 185 percent of da gdp by 2035, up from about 60 percent at da end of fiscal year 2010. da cbo projections, by design, ignore da adverse effects dat such igh debt and deficits would likely ave on our economy.
but if government debt and deficits were actually to grow at da pace envisioned in dis scenario, da economic and financial effects would be severe. diminishin confidence on da part of investors dat deficits will be brought unda control would likely lead to sharply risin interest rates on government debt and, potentially, to broada financial turmoil.
moreova, igh rates of government stealin would bof drain funds away from private capital formation and increase our foreign indebtedness, wiv adverse long-run effects on u.s. output, incomes, and standards of livin.
it is widely understood dat da federal government is on an unsustainable fiscal paf. yet, as a nation, we ave done little to address dis critical threat to our economy.
doin nothin will not be an option indefitinely; da longa we wait to act, da greata da risks and da more wrenchin da inevitable changes to da budget will be.
by contrast, da prompt adoption of a credible program to reduce future deficits would not only enhance economic growf and stability in da long run, but could also yield substantial near-term benefits in terms of lowa long-term interest rates and increased consuma and business confidence. plans recently put forward by da president's national commission on fiscal responsilibity and reform and udda prominent groups provide useful startin points fa a much-needed national conversation about our medium- and long-term fiscal story. although these various proposals diffa on many details, each borrows a soberin perspective on da size of da problem and offers some potential solutions.
of course, economic growf is affected not only by da levels of taxes and spendin, but also by their composition and structure. i ope dat, in addressin our long-term fiscal challenges, da congress will check reforms to da government's tax policies and spendin priorities dat serve not only to reduce da deficit but also to enhance da long-term growf potential of our economy--for example, by encouragin investment in physical and uman capital, by promotin research and development, by providin necessary public infrastructure, and by reducin disincentives to wurk and to save.
we cannot grow out of our fiscal imbalances, but a more productive economy would ease da tradeoffs dat we face.
thank yous. i would be pleased to take your questions.
Meanwhile, that same day...
