Bernanke: Recession May Linger But Banks To Survive

Federal Reserve Chairman Ben Bernanke warned Tuesday the "severe" U.S. recession could drag into next year, but he suggested big banks would survive the downturn without being nationalized, cheering markets.

Delivering a somber assessment to lawmakers, Bernanke said the fast-shrinking economy risked entering a mutually reinforcing cycle of weak growth and financial market strain if the banking system were not stabilized.

CNBC.com Ben Bernanke

"To break the adverse feedback loop, it is essential that we continue to complement fiscal stimulus with strong government action to stabilize financial institutions and financial markets," he told the Senate Banking Committee.

"If actions taken by the administration, the Congress, and the Federal Reserve are successful in restoring some measure of financial stability—and only if that is the case, in my view—there is a reasonable prospect that the current recession will end in 2009 and that 2010 will be a year of recovery," he said.

Bernanke expressed faith that authorities were on the right path in taking time to fully diagnose the health of top U.S. banks, with a vow to recapitalize them if needed.

"If I thought the banks were irrevocably damaged, I would have a different view, but I do believe our major banks have significant franchise values," he said.

"There is no commitment by any means to never shut down a big bank, absolutely not, but I do believe that the major banks we have now can be stabilized." The U.S. central bank chief's steady assertions, over three-and-a-half hours of questioning, that banks retain value in spite of huge losses gave a lift to U.S. stocks.

In late afternoon, the blue chip Dow Jones industrial average was up 230 points, or 3.28 percent, after touching a 12-year low on Monday, hurt by fears that the government might have to nationalize banks.

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"The plan out of the administration with Bernanke's backing seems to have some rationality and the market is factoring that there is something here that might potentially work," said Greg Palmer, head of equity trading at Pacific Crest Securities in Portland, Oregon.

Spelling out the Plan

Bernanke said U.S. regulators were readying "stress tests" for the nation's largest banks that aim to judge whether they can keep lending even under unexpected economic strains.

"The purpose of these assessments that we're going to do going forward is to make sure that banks have enough capital, not only to be well-capitalized in what we expect to be the weak conditions that we will see in the next year, but even under conditions that are weaker than expected," he said.

He said regulators wanted "to ensure that even in a bad scenario, banks will have enough capital, including enough common equity, to meet their obligations to lend." Concerns the government would nationalize U.S. banks have weighed on U.S. stocks, which hit a 12-year low Monday.

The government is moving into the second phase of a $700 billion program to strengthen financial institutions, and plans to invest in banks that need capital in return for preferred shares that could convert over time to common stock.

"We are committed to ensuring the viability of all major financial institutions," Bernanke said.

Global Slowdown Crimping U.S. Growth

The Fed chairman warned that the global nature of the economic slowdown could sap U.S. exports and harm financial conditions to a greater degree than currently expected.

A slump in U.S. exports as world growth slowed last year added to a deep pullback in consumer spending that steepened the downward slide in the U.S. economy.

He said the Fed, which has dropped rates to nearly zero, would keep borrowing costs exceptionally low for some time and pledged to use "all available tools" to stimulate the economy and heal financial markets.

Bernanke said the central bank had not ruled out buying longer-term U.S. government bonds to drive down borrowing costs, but he said its immediate focus was on other steps to lower mortgage rates and spur consumer lending.

Some of the measures the central bank had already taken had helped ease tight conditions in some credit markets, he said. "Nevertheless, despite these favorable developments, significant stresses persist," Bernanke said.

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