Bernanke Says Failure to Pass Plan Threatens Economy

By Scott Lanman and Simon Kennedy

Sept. 23 (Bloomberg) -- Federal Reserve Chairman Ben S. Bernanke warned lawmakers that failure to pass a rescue plan to take over troubled assets from financial firms would pose a threat to markets and the economy.

``Action by the Congress is urgently required to stabilize the situation and avert what could otherwise be very serious consequences for our financial markets and for our economy,'' Bernanke said in testimony prepared for delivery today to the Senate Banking Committee. ``Global financial markets remain under extraordinary stress.''

Bernanke and Treasury Secretary Henry Paulson are pushing Congress to quickly approve a $700 billion plan to remove illiquid assets from the banking system. Lawmakers have balked at rubber-stamping the proposal, with Democrats demanding it include support for homeowners and limits on executive pay and Republicans questioning the plan's reach and size.

Paulson, who is also testifying today, said in prepared remarks that ``we must now take further, decisive action to fundamentally and comprehensively address the root cause of this turmoil.''

Securities and Exchange Commission Chairman Christopher Cox and James Lockhart, director of the Federal Housing Finance Agency, are also appearing before the committee.

``In light of the fast-moving developments in financial markets, it is essential to deal with the crisis at hand,'' Bernanke said. ``The Federal Reserve supports the Treasury's proposal to buy illiquid assets from financial institutions.''

Federal Intrusion

Bernanke pushed for the biggest federal intrusion into markets since the Great Depression after failing to stem the credit crisis by cutting the benchmark interest rate at the most aggressive pace in two decades. The Fed has also pumped billions of dollars into banks to try and restore liquidity, and invoked extraordinary powers to loan to securities firms.

``Bernanke is telling Congress they need to take action quickly,'' said John Silvia, chief economist at Wachovia Corp. in Charlotte, North Carolina, and a former senior economist for the banking committee. ``He is concerned that if this stays in limbo for a long period, the markets will say Congress is not serious and is not addressing the problem.''

The decision by the Treasury this month to put Fannie Mae and Freddie Mac into federal conservatorship was ``necessary and appropriate,'' Bernanke said in a review of government interventions in financial markets this month.

Avoid Collapse

Central bankers looked for private-sector solutions to avoid the collapse of Lehman Brothers Holdings Inc. and a potential failure of American International Group Inc., he said. The Fed chairman said a collapse of AIG would have ``severely threatened global financial stability'' and U.S. growth.

The Fed Board authorized the New York Fed this month to lend up to $85 billion to help AIG pay its creditors. The Fed ensured the loan involved ``significant costs'' to the firm to avoid the perception the central bank would continue bailouts.

Lehman Brothers also ``posed risks,'' Bernanke said. ``But the troubles at Lehman had been well known for some time'' and Fed officials judged that investors and counterparties ``had time to take precautionary measures.''

Still, Lehman's bankruptcy and AIG's troubles contributed to the ``extraordinarily turbulent conditions in financial markets,'' Bernanke said.

Along with the government bailout, Bernanke supports a regulatory overhaul for a U.S. financial industry upended by $523 billion in losses from the collapse of mortgage credit.

`Comprehensive Proposal'

``The development of a comprehensive proposal for reform would require careful and extensive analysis,'' Bernanke said.

The Fed approved this week bids by Goldman Sachs Group Inc. and Morgan Stanley to become commercial banks, ending an investment banking era. Merrill Lynch & Co. agreed to a merger with Bank of America Corp. earlier this month.

Investor concern that the Paulson rescue would inflate the U.S. budget deficit pushed the dollar down 2.3 percent yesterday in the biggest decline since creation of the euro in 1999. U.S. stocks and bonds also fell.

The dollar strengthened 0.2 percent to $1.4748 per euro at 8:46 a.m. in New York.

U.S. economic growth may slow to 1.7 percent this year and 1.5 percent next year, the slowest since the last recession in 2001 and its aftermath in 2002, according to the median of 80 economist forecasts compiled by Bloomberg.

The flagging economy and tumbling commodity prices, including a 28 percent decline in the price of crude oil since July 11, have eased pressure on Bernanke and other policy makers to raise the benchmark interest rate from 2 percent.

Government figures showed last week that consumer prices fell 0.1 percent in August, after jumping 0.8 percent the prior month, as fuel prices declined from record levels. Prices were up 5.4 percent from a year before.

``If financial conditions fail to improve for a protracted period, the implications for the broader economy could be quite adverse,'' Bernanke said.

To contact the reporter on this story: Scott Lanman in Washington at slanman@bloomberg.net; Simon Kennedy in Paris at Skennedy4@bloomberg.net.