Video: Bernanke: 'Too big to fail' is a problem

updated 12/1/2008 3:21:08 PM ET 2008-12-01T20:21:08

Federal Reserve Chairman Ben Bernanke said Monday that further interest-rate cuts are “certainly feasible,” but he warned there are limits to how much such action would revive an economy likely to stay weak well into next year.

The Fed’s key interest rate now stands at 1 percent, a level seen only once before in the last half-century. To help lift the country out of a recession that started in December of last year, many economists predict Bernanke and his colleagues will drop the rate again at their next meeting on Dec. 15-16.

Bernanke spoke just hours after the National Bureau of Economic Research announced that the U.S. economy has been in a recession since December 2007.

He didn’t mention the NBER’s finding in his speech to business leaders in Austin, Texas, nor in answering questions afterward. However, Bernanke warned that the economy likely will remain stuck in a slump.

“Even if the functioning of financial markets continues to improve, economic conditions will probably remain weak for a time,” he said.

In his speech, Bernanke noted that the bracing impact of the Fed’s aggressive rate reductions has been somewhat stymied by the worst credit and financial crises to hit the world economy since the 1930s. Despite lower borrowing costs ordered by the Fed, skittish banks have been reluctant to lend money to people and businesses, a vicious cycle that has seriously hobbled the U.S. economy.

“Although further reductions ... are certainly feasible, at this point the scope for using conventional interest rate policies to support the economy is obviously limited,” Bernanke said in the speech. The Fed can lower its key rate only so far — to zero — and it’s getting ever closer to that threshold.

Bernanke said there are other ways that the Fed might bolster economic activity.

The Fed, for instance, could buy longer-term Treasury or agency securities on the open market in substantial quantities, he said. This might lower rates on these securities, “thus helping to spur aggregate demand,” Bernanke said.

Given the limits to how low the Fed can go in reducing interest rates, the central bank over the past year has resorted to a flurry of other radical — and often unprecedented actions — with the hope of busting through credit jams and getting financial markets operating more normally.

It has ramped up cash and other types of loans to financial institutions, started buying mounds of short-term debt that companies rely on for day-to-day operations like paying salaries and buying supplies, and expanded its emergency lending program to investment firms.

Major Market Indices

Just last week the Fed announced two new programs aimed at increasing the availability and lowering the costs of credit card loans, auto loans, student loans and home mortgages.

The Fed last week said it would purchase $200 billion in securities backed by different types of consumer debt. That market essentially froze in October, making such loans harder to obtain while carrying higher interest rates.

The Fed also said it would spend $500 billion to purchase mortgage-backed securities guaranteed by mortgage giants Fannie Mae and Freddie Mac, and another $100 billion to directly purchase mortgages held by Fannie, Freddie and the Federal Home Loan Banks.

Bernanke said the Fed will continue to look for innovative ways to break through the credit logjams.

“We at the Federal Reserve and our colleagues at other federal agencies will carefully monitor the conditions of all key financial institutions and stand ready to act as needed to preserve their viability in this difficult financial environment,” Bernanke said.

The NBER — a private, nonprofit research organization — said its group of academic economists who determine business cycles met on Friday and decided that the country tipped into recession in December 2007. The economy contracted in the final quarter of last year.

The economy jolted into reverse again in the summer. Many economists predict it is still shrinking now and will continue to do so through the first quarter of next year.

Consumers — major shapers of national economic activity — likely will keep cutting back on their spending, he said Consumers have been reeling from job losses, hard-to-get credit and hits to their wealth from sinking home values and tanking portfolio investments.

In October, the unemployment rate zoomed to 6.5 percent, a 14-year high. So far this year, 1.2 million positions have disappeared. The jobless rate is likely to climb to 8 percent or higher next year.

A student of the Great Depression, Bernanke said the current period of economic woe bears “no comparison in terms of severity” to the 1930s.

Copyright 2008 The Associated Press. All rights reserved. This material may not be published, broadcast, rewritten or redistributed.

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