Markets 'Working Well,' Says Fed Chief
Bernanke Upbeat As Stocks Rebound

By Nell Henderson and David Cho
Washington Post Staff Writers
Thursday, March 1, 2007

Federal Reserve Chairman Ben S. Bernanke told Congress yesterday that the markets were "working well" and the outlook for the U.S. economy was upbeat a day after Wall Street suffered its steepest decline in nearly four years.

Bernanke said his view of the economy was unchanged. "We are looking for moderate growth in the economy going forward," he said at a previously scheduled hearing on the budget. His comments helped the Dow Jones industrial average recover 52 of the 416 points it lost on Tuesday.

Two days earlier, Alan Greenspan, the man Bernanke replaced a year ago, had expressed a strikingly different view about the economy. The former Fed chairman said signs were emerging that a recession was possible later this year.

The dueling viewpoints of both men, perhaps the two most influential voices on the markets, reflected the broader uncertainty over where the U.S. economy is heading and left some investors debating which oracle of Wall Street has the greater insight.

Greenspan's remarks were not welcomed by some inside the Fed who viewed them as possibly contributing to the market turmoil.

"It's not right to expect the former Fed chairman to take an oath of silence after he leaves office, but I bet his successors wish he'd stick to writing his memoirs," said Thomas Schlesinger, executive director of the nonprofit Financial Markets Center, which monitors the Fed.

Three economic reports released yesterday added to concerns on Wall Street.

The U.S. economy expanded at a sluggish annual rate of 2.2 percent in the last three months of 2006, the Commerce Department said, far below its original estimate of 3.5 percent.

The department also said new-home sales fell by 16.6 percent in January from the previous month, the steepest drop in 13 years.

A regional economic report showed a weaker-than-expected reading on business purchases in the Midwest. The data are viewed as a bellwether of manufacturing activity nationwide.

Bernanke, who spent his career in academia before joining the government, has attributed the slowdown primarily to the housing slump and welcomed slower growth as a way to dampen price pressures. The Fed believes inflation is too high and worries it may quicken if the economy grows faster.

Greenspan's perspective draws on his years as a business consultant before joining the Fed in 1987. At a business conference in Hong Kong on Monday, he said he saw signs that the current expansion, which began in 2001, was aging.

"When you get this far away from a recession, invariably forces build up for the next recession, and indeed we are beginning to see that sign," Greenspan said. "For example, in the U.S., profit margins . . . have begun to stabilize, which is an early sign we are in the later stages of a cycle.

"Yes, it is possible we can get a recession in the latter months of 2007," Greenspan said. He added, however, that most analysts were not forecasting a recession.

Greenspan's comments elicited no significant reaction in financial markets when they were reported Monday morning. But his words loomed larger in many traders' minds during Tuesday's stock sell-off and after the latest weak economic data was released yesterday.

Robert Barbera, chief economist of ITG, a financial advisory firm, said it is hard to ignore what Greenspan says.

"Bernanke speaks as a top-elite economist," he said. "But . . . Greenspan is a creature of the markets, and as a fellow creature of the markets, I tend to agree with him."

Alfred E. Goldman, a senior market strategist for A.G. Edwards, said he's learned to trust Bernanke.

"Who is the better forecaster? If you held a vote people would say Greenspan because he was an icon for so long," he said. "But remember he doesn't have access to as much information as Bernanke has now."

Some observers questioned Greenspan's judgment in commenting on a possible recession, knowing well that his views are still closely followed.

"I do think it was somewhat inappropriate," said Kenneth H. Thomas, a finance professor at the Wharton School of the University of Pennsylvania, who has written extensively on the Fed and Greenspan. "Bernanke is still relatively new. Greenspan had 18 years as Fed chairman and is an icon of sort. . . . He still has a tremendous impact on the markets. It makes life harder for Bernanke."

Beyond concerns about a possible recession in the United States, analysts saw other troubling signs in Tuesday's frenzied sell-off. They said they were less worried about stock prices, which seemed ripe for a correction after a breathless run-up, than that the global economy showed signs of vulnerability.

Tuesday's stock-market fall was triggered by a 9 percent sell-off in China. Some economists were alarmed that China's markets, which are prone to rampant speculation and wild swings, could have such an impact on the world stage.

"It is interesting to note that all of this started in China," said Charles M. Jones, a finance professor at Columbia Business School. "If you went back 10 years . . . China was just not on the global economic map. This time when China sneezed, everybody else took notice."

A slowdown in the West could have a severe impact on China's economy since it relies heavily on exports to the United States, other economists said.

"Over the longer term there is a question of how long the United States can run massive foreign-account deficits that are funded by the willingness of the Chinese to produce a lot and not consume as much as they produce," said Richard F. Syron, chairman and chief executive of Freddie Mac.

Others said they are monitoring whether the U.S. housing slump cools consumer spending. Of particular concern is whether the easy availability of "cheap debt," which has fueled record-topping leveraged buyouts on Wall Street and riskier mortgage lending, is coming to an end.

The new-home sales report also fed fears of more market turbulence. Investors have grown jittery in recent weeks as the rate of delinquencies and defaults on high-risk mortgage loans have climbed, raising the prospect that lenders will tighten credit.

But Bernanke said that the central bank sees "no indication" that the turmoil in the market for riskier loans to home buyers with poor credit histories is spreading into other financial markets or affecting the housing market yet.

He said the Fed is "monitoring that situation closely," and added, "I don't see it as a broad financial concern."

To some analysts, the home-sales report boosted the odds that the housing downturn would be a bigger drag on the economy this year than the Fed expects, possibly raising unemployment and rippling through other industries.

More optimistic analysts noted that the report followed one on Tuesday that showed sales of previously owned homes, which account for 85 percent of the market, rose 3 percent in January, possibly signaling a stabilizing of the housing market.

Bernanke said that if housing does stabilize and manufacturers such as automakers work off their excess inventories, "there's a reasonable possibility that we'll see some strengthening of the economy sometime during the middle of the year."