Bernanke: Debt Is ‘Unsustainable’

This morning, Federal Reserve Chairman Ben Bernanke is testifying before the House Committee on the Budget about the current economic situation and the federal budget.

These are contentious times when it comes to the relative importance of debts and deficit-spending. Hawks — and the American public — are deeply worried about the $13 trillion in the red the government finds itself in and the specter of inflation. Doves — and the American public — are concerned that the sky-high unemployment rate and slow recovery means the government might need to raise deficits more to boost growth and create jobs.

Bernanke’s remarks could have been controversial — particularly given that several members of the Fed have started to call for rate hikes that would cool off the economy but prevent inflation from taking hold. But his prepared testimony and the hearing thus far offer a dose of cool realism: Things are bad but getting better slowly, and the debt situation is “unsustainable.”

First, Bernanke noted the headline statistics: “Real gross domestic product will grow in the neighborhood of 3.5 percent over the course of 2010 … probably [meaning] only a slow reduction in the unemployment rate over time. In this environment, inflation is likely to remain subdued.”

Still, he did not advocate for more deficit spending or stimulus: “Although the support to economic growth from fiscal policy is likely to diminish in the coming year, the incoming data suggest that gains in private final demand will sustain the recovery in economic activity.”

He again noted the drag the housing market has had on the economy: “In the housing market, sales and construction have been temporarily boosted lately by the homebuyer tax credit. But looking through these temporary movements, underlying housing activity appears to have firmed only a little since mid-2009, with activity being weighed down, in part, by a large inventory of distressed or vacant existing houses and by the difficulties of many builders in obtaining credit.” He did not elaborate on the possibility of a continued decline in home prices, and the ripple effect that might have on the economy.

He spoke about Europe and Greece, and warned that the United States should learn something from across the pond, without scaremongering: “Ongoing developments in Europe point to the importance of maintaining sound government finances. In many ways, the United States enjoys a uniquely favored position. Our economy is large, diversified, and flexible; our financial markets are deep and liquid; and, as I have mentioned, in the midst of financial turmoil, global investors have viewed Treasury securities as a safe haven.”

And he saved his strongest words to state that deficits should only be widened in emergencies, calling the current path “unsustainable” (emphasis added): “The exceptional increase in the deficit has in large part reflected the effects of the weak economy on tax revenues and spending, along with the necessary policy actions taken to ease the recession and steady financial markets. As the economy and financial markets continue to recover, and as the actions taken to provide economic stimulus and promote financial stability are phased out, the budget deficit should narrow over the next few years. Even after economic and financial conditions have returned to normal, however, in the absence of further policy actions, the federal budget appears to be on an unsustainable path.”

Watch Bernanke respond to questions from House committee members here.