Bernanke Says Government Action Necessary for Health of Economy

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Difficulties in the financial markets should be addressed through the private sector whenever possible, and government assistance should only be given when the stability of the financial system as a whole is at risk, said Federal Reserve Chairman Ben Bernanke on Tuesday before the Banking, Housing, and Urban Affairs Committee.

Bernanke said the failure of Lehman Brothers did not pose such a risk to the financial system, given the length of time investors and others had to take precautionary measures.

"In the cases of Fannie Mae and Freddie Mac, however, capital raises of sufficient size appeared infeasible and the size and government-sponsored status of the two companies precluded a merger with or acquisition by another company," said Bernanke.

He also defended the Federal Reserve's support of AIG as action he was reluctant to support but which had to be taken because of the adverse consequences to the health of the economy. "

disorderly failure of AIG would have severely threatened global financial stability and, consequently, the performance of the U.S. economy," he said.

The Chairman said that to counter moral hazard concerns, the Fed "ensured that the terms of the credit extended to AIG imposed significant costs and constraints on the firm's owners, managers, and creditors."

Bernanke said the U.S. economy "continues to confront substantial challenges," noting that stresses in financial markets have "intensified significantly" and arguing that if financial conditions do not improve, "the implications for the broader economy could be quite adverse."

He also gave his full support to the Treasury Secretary's plan to purchase toxic mortgage-related securities, arguing that it was necessary to restore confidence in the markets and enable banks to support economic growth.

"Purchasing impaired assets will create liquidity and promote price discovery in the markets for these assets, while reducing investor uncertainty about the current value and prospects of financial institutions," he said.

The Fed Chairman concluded by saying the U.S. central bank is committed to dealing with the problem, working closely with the Treasury, Congress, and other regulators.

By Patrick McGee
©CEP News Ltd. 2008