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Bernanke looking ahead to bailout 'exit strategy' as fears lessen

The Fed chief said he sees the economy beginning to revive by year-end.

By Staff writer / May 5, 2009

Welcome to Ben Bernanke’s new economy: It’s a world where the US must figure out how to start pulling back from costly stimulus efforts even as the economy itself hasn’t recovered from recession.

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The new challenge for the Fed and the whole economy came into focus as the Federal Reserve chairman spoke to a congressional panel Tuesday.

On the one hand, Mr. Bernanke faced persistent questions from lawmakers about whether America’s central bank will be able to contain inflationary pressures against a backdrop of rising federal spending, record budget deficits, and big stimulus from monetary policy. He responded that the Fed has been developing an “exit strategy" to address these concerns.

On the other hand, the Fed chairman’s assessment of the current economy is that it’s too soon to say a recovery is at hand, and that even when growth resumes, the rate of unemployment will remain high. These concerns tempered Bernanke’s tone as he cited signs of progress in the economy.

“The housing market [has] shown some signs of bottoming,” he said in his prepared statement. “We continue to expect economic activity to bottom out, then to turn up later this year.”

Bernanke hastened to add that economic growth “is likely to remain below its longer-run potential for a while,” and “businesses are likely to be cautious about hiring, implying that the unemployment rate could remain high for a time.”

If the Fed reins in its stimulus too soon, it might choke off forces of recovery in the name of fighting a problem that hasn’t shown up yet. If the Fed stays too supportive of the economy for too long, the result could be inflation.

Promising signs

Bernanke isn’t the only one who sees some promising trends in the economy.

In the midst of a deep housing slump, it takes more than a comment from the Fed for financial markets to decide the trouble is over. But from an early March low, the US stock market has risen more than 33 percent in value.

Bond markets have shifted significantly, with less money fleeing to the haven of Treasury bonds and more willingness among investors to hold private-sector debt. President Obama, meanwhile, has talked about “glimmers of hope.”

The factors causing this optimism include:

• A dialing down of perceived risk. Interventions by the Fed and Treasury to prop up faltering financial industry have been costly, but they have been successful in easing fear of a chaotic meltdown in which credit dries up.

• The arrival of stimulus. Mr. Obama’s $787 billion spending and tax-cut package is starting to provide a boost to economic activity, and the Fed itself has enlarged the money supply, considered a feedstock of growth.

• Stabilization in consumer behavior. Consumer spending rose in the first quarter of 2009, after dropping in the previous half year. This could boost employer confidence enough to reduce the pace of job cuts.