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Fed chief: Budget deficits raise economic risks

The persistence of big budget deficits raises the country's long-term economic risks and need to be curbed, says Federal Reserve Chairman Ben Bernanke.
/ Source: The Associated Press

The persistence of big budget deficits raises risks to the country’s long-term economic health and they need to be curbed, says Federal Reserve Chairman Ben Bernanke.

“The prospective increase in the budget deficit will place at risk future living standards of our country,” Bernanke said. “As a result, I think it would be very desirable to take concrete steps to lower the prospective path of the deficit.”

Bernanke’s comments on the budget deficit were contained in a written response to questions raised by Sen. Robert Menendez, D-N.J., after the Fed’s chief appearance at a congressional hearing on the economy in February.

Last year’s budget deficit came to $319 billion, an improvement from 2004 but still the third largest deficit ever recorded. This year, the White House is projecting the deficit to swell to $423 billion, which would set a record in dollar terms.

The budget will come under “severe pressure” when baby boomers start retiring and collecting Social Security and Medicare benefits, Bernanke said. Against that backdrop, “I am quite concerned about the intermediate to long-term federal budget outlook,” he wrote.

The Fed chief’s written response was dated March 9 and released to The Associated Press on Tuesday.

Bernanke refrained from making specific recommendations on how Congress should get the nation’s fiscal house in order or how to handle the future strain of entitlement programs.

To that end, he was silent on whether Congress should reinstate budget rules from the 1990s. Those rules required that any tax cuts or increases in benefit programs such as Social Security be paid for either by higher taxes or spending cuts elsewhere.

On another matter, Bernanke repeated his interest in seeing the trade deficit trimmed, too.

The broadest measure of trade, called the current account deficit, hit a record of $804.9 billion in 2005, the Commerce Department reported Tuesday. That smashed the old record, of $668.1 billion, set in 2004.

Boosting savings in the United States, strengthening economic growth and demand for American-made goods from U.S. trading partners and moving toward more flexible currency policies in some countries would all be forces helping to reduce the trade deficit, Bernanke said.

Foreigners have been financing the United States’ trade and budget shortfalls. If foreigners’ appetite to finance the deficits were to lessen, Bernanke indicated the economy would still be all right.

“Given the strength and flexibility of our economy, there is every reason to believe that, if changes in the foreign outlook or in the tone of financial markets were to cause a reduction in capital inflows and the trade deficit, economic activity and employment would stay strong,” Bernanke wrote.

Asked about the merits of raising the minimum wage, Bernanke said doing so could lower employment of low-skilled workers. “My own view is that an increase in the minimum wage probably does lower employment,” he said.

But some research has suggested that such an impact could be “negligible,” he said. Research also suggests that if there is any reduction in poverty associated with a higher minimum wage it is likely to be quite small, he wrote.