Fed says economy even worse than thought

Ben Bernanke

The economic outlook for the next two years is worse than expected, say Federal Reserve policymakers, who warned today the economy is contracting at a “disturbing pace.”

In a speech at the National Press Club, Federal Reserve Chairman Ben Bernanke pointed to “dismal” economic data while another top Fed official warned of the need for even more stimulus, even with interest rates set near zero.

Evidence of further economic gloom, the officials say, can be seen in figures showing a curtailment of big industry production in January and record-low housing construction.

Meanwhile, governments worldwide that already have poured billions of dollars into failing banks are considering seizing full control of financial institutions.

Bernanke said in his speech today, according to USA Today, that the Fed is determined to do “everything possible within the limits of its authority” to repair the economy.

Bernanke defended the Fed’s bailout of institutions such as insurance giant American International Group, but its interventions in select credit markets have boosted its liabilities in recent months from $800 billion to about $2 trillion.

Fed officials, according to minutes released today from its meeting at the end of January, lowered estimates made in October for Gross Domestic Product and raised forecasts for the unemployment rate this year and next

“Given the strength of the forces currently weighing on the economy, participants generally expected that the recovery would be unusually gradual and prolonged,” the minutes said.

In a speech today at the Rockford Chamber of Commerce in Rockford, Ill., Chicago Fed President Charles Evans said the U.S. economy is still contracting at a “disturbing” pace.

“We likely are in for a protracted period of poor economic performance,” Evans said, according to Reuters.

He underlined the need for more stimulus even with interest rates already set near zero.

“For the Fed, this means that the (Federal Open Market) Committee will have to focus on other ways to impart monetary stimulus to the economy,” said Evans, a voting member of the central bank’s policy-setting Federal Open Market Committee in 2009.

Evans told the Rockford chamber that the pessimistic outlook “has reduced everyone’s confidence,” dampening long-term investment and new spending, which further lowers the economic outlook.

The Fed official, according to Reuters, said real GDP, the broadest measure of economic growth, “will fall markedly” in the first half of the year before potentially expanding later in the year and moving back to “the neighborhood” of its potential in 2010.

“However, I do not see growth as being strong enough to make much progress in closing resource gaps over this period. Indeed, the unemployment rate … is likely to rise into 2010,” he said.

Evans said it’s unclear at this point what impact the Obama administration’s $787 billion economic “stimulus” would have on GDP.

“The new fiscal stimulus package will boost output … Our forecast could need some recalibration as we gain knowledge of how the package is affecting the economy,” he said.

Economic data reported by the Fed today showed a drop in big industry production last month, partly due to auto shutdowns, the Associated Press reported. It was the third straight month in which production was cut back. Production at factories, mines and utilities fell 1.8 percent last month, while many economists expected a 1.5 percent drop.

A dramatic rise in home foreclosures is adding to an already glutted market, forcing builders to reduce home construction, which fell to a record low last month. Construction of new homes and apartments sank 16.8 percent in January from the previous month.

A gauge of future building activity, application for permits, dropped to a record low pace in January of 521,000 units, 4.8 percent lower than December.

“Another horrible month; more pain ahead,” predicted Patrick Newport, economist at IHS Global Insight, the AP reported.

Meanwhile, in the wake of unsuccessful bank bailouts, governments increasingly are considering seizing control of the banks entirely, the Voice of America reports.

German Chancellor Angela Merkel’s Cabinet is supporting a bill that would allow her government to forcibly nationalize banks that have received government aid.

In the U.S., former Federal Reserve Chairman Alan Greenspan told the Financial Times bank nationalization may be the only way to restore confidence to a shaken financial system.

During his Fed chairmanship, Greenspan’s policy was to let financial institutions regulate themselves.

But action may be necessary now, he says, as something you do “once in a hundred years.”

Sen. Lindsey Graham, R-S.C., also told the Financial Times the U.S. should consider taking control of some banks, arguing “we should be focusing on what works.”