Bernanke Discusses Fiscal Policy at National Press Club

Federal Reserve Chairman Ben Bernanke delivered a speech today at the National Press Club that once again called attention to our growing deficits and debt. Just last month, Bernanke was on Capitol Hill giving a similar evaluation. Today, he reiterated that the economic recovery is strengthening, but unemployment will likely remain "stubbornly" high and inflation (especially core inflation, which does not include the more volatile commodity prices, like food and and energy) will stay low. In discussing monetary policy, he briefly mentioned the Fed's $600 billion quantitative easing round that was announced in November and reassured the audience that the Fed was monitoring the economic outlook and has the tools to unwind its commitments at the appropriate time.

The third and final topic he discussed was our fiscal policy outlook. He repeated many of his previous assertions, saying the U.S. must change course or else face a fiscal crisis. He said:

"[E]ven after economic and financial conditions have returned to normal, the federal budget will remain on an unsustainable path, with the budget gap becoming increasingly large over time, unless the Congress enacts significant changes in fiscal programs...

But if government debt and deficits were actually to grow at the pace envisioned, the economic and financial effects would be severe...In a vicious circle, high and rising interest rates would cause debt-service payments on the federal debt to grow even faster, causing further increases in the debt-to-GDP ratio and making fiscal adjustment all the more difficult...

By definition, the unsustainable trajectories of deficits and debt that the CBO outlines cannot actually happen, because creditors would never be willing to lend to a government with debt, relative to national income, that is rising without limit. The economist Herbert Stein succinctly described this type of situation: "If something cannot go on forever, it will stop." One way or the other, fiscal adjustments sufficient to stabilize the federal budget must occur at some point. The question is whether these adjustments will take place through a careful and deliberative process that weighs priorities and gives people adequate time to adjust to changes in government programs or tax policies, or whether the needed fiscal adjustments will be a rapid and painful response to a looming or actual fiscal crisis. Acting now to develop a credible program to reduce future deficits would not only enhance economic growth and stability in the long run, but could also yield substantial near-term benefits in terms of lower long-term interest rates and increased consumer and business confidence. Plans recently put forward by the President's National Commission on Fiscal Responsibility and Reform and other prominent groups provide useful starting points for a much-needed national conversation. Although these proposals differ on many details, they demonstrate that realistic solutions to our fiscal problems are available."

In his conclusion, he also called for our fiscal solution to be carefully constructed to promote economic growth:

"I hope that, in addressing our long-term fiscal challenges, the Congress and the Administration will seek reforms to the government's tax policies and spending priorities that serve not only to reduce the deficit, but also to enhance the long-term growth potential of our economy--for example, by reducing disincentives to work and to save, by encouraging investment in the skills of our workforce as well as in new machinery and equipment, by promoting research and development, and by providing necessary public infrastructure. Our nation cannot reasonably expect to grow its way out of our fiscal imbalances, but a more productive economy will ease the tradeoffs that we face."

Chairman Bernanke continues to be a voice of reason, consistently calling attention to this most important of issues. He also reaffirmed, once again, his membership in the Announcement Effect Club by arguing that a credible fiscal plan can improve our economic prospects in the short-term by reassuring creditors and keeping interest rates low. The consequences will indeed be "severe" if we do not develop a credible plan to satisfy investors that we will make good on our obligations. To do this, we must chart a sustainable course for the future -- one that not only brings our deficits into line, but also lays the foundation for sustainable long-term growth and prosperity. 

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