Ben Bernanke, chairman of the U.S. Federal Reserve Board, reiterated its view that the U.S. economic contraction appears to be slowing, but he noted that lower growth may persist for some time, and that longer-term fiscal challenges are looming.

In his Wednesday testimony to the House Committee on the Budget, Bernanke said that recent economic data suggest that the pace of economic contraction may be slowing. He pointed to stable consumer spending, signs of bottoming in the housing market, and lower inventories.

“We continue to expect overall economic activity to bottom out, and then to turn up later this year,” he said, adding that its expectation that consumer spending and housing demand will stabilize and that the pace of inventory liquidation will slow are key building blocks of that forecast. This also assumes that financial markets continue to recover.

However, that said, “Even after a recovery gets under way, the rate of growth of real economic activity is likely to remain below its longer-run potential for a while, implying that the current slack in resource utilization will increase further. We expect that the recovery will only gradually gain momentum and that economic slack will diminish slowly. In particular, businesses are likely to be cautious about hiring, and the unemployment rate is likely to rise for a time, even after economic growth resumes,” Bernanke added.

He noted that conditions in financial markets have improved this year. “Nevertheless, financial markets and financial institutions remain under stress, and low asset prices and tight credit conditions continue to restrain economic activity,” he said.

As a result of the government stress tests of 19 systemically-important banks, 10 firms must raise about $75 billion in additional capital. Bernanke said that the Fed is in discussions with firms on their capital plans, which are due by June 8. More than $36 billion of new common equity has already been raised, he noted, adding that firms have announced actions that would generate up to an additional $12 billion of common equity.

“We expect further announcements shortly as their capital plans are finalized and submitted to supervisors. The substantial progress these firms have made in meeting their required capital buffers, and their success in raising private capital, suggests that investors are gaining greater confidence in the banking system,” he said.

Looking beyond the financial crisis and the recession, Bernanke stressed that the U.S. must also be thinking about restoring fiscal balance. “Prompt attention to questions of fiscal sustainability is particularly critical because of the coming budgetary and economic challenges associated with the retirement of the baby-boom generation and continued increases in medical costs,” he said.

“Over the longer term, achieving fiscal sustainability–defined, for example, as a situation in which the ratios of government debt and interest payments to GDP are stable or declining, and tax rates are not so high as to impede economic growth–requires that spending and budget deficits be well controlled,” he stressed. “Unless we demonstrate a strong commitment to fiscal sustainability in the longer term, we will have neither financial stability nor healthy economic growth.”

Finally, Bernanke noted that the Federal Reserve is planning changes to improve its own transparency. “We expect to begin publishing soon a monthly report on the Fed’s balance sheet and lending programs that will summarize and discuss recent developments and provide considerable new information concerning the number of borrowers at our various facilities, the concentration of borrowing, and the collateral pledged,” he said.

IE