ECONOMY:
 

Five questions for Ben and Hank

Amid growing recession fears, Fed chair Bernanke and Treasury Secretary Paulson head to Capitol Hill. Here is what they should be asked.

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By Chris Isidore, CNNMoney.com senior writer

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The Senate Banking Committee needs to ask Treasury Secretary Paulson and Federal Reserve chairman Bernanke tough questions about the economy on Thursday.
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NEW YORK (CNNMoney.com) -- The economy is on everyone's mind right now. And traders, homeowners and politicians all have the same question: How bad it will get?

We'll get some answers Thursday when Federal Reserve Chairman Ben Bernanke and Treasury Secretary Henry "Hank" Paulson testify about the economy before the Senate Banking Committee.

But how much we learn from them will depend partly on how tough the questions are and how truthful they can be in their answers. With that in mind, here are some key questions top economists think should be asked of these two key government officials.

Both of you have said you're looking for slow growth this year, not a recession. Is that still your view?

It's clear that the Fed chairman and Treasury Secretary are going to be reluctant to ever call a recession until well after the fact. Perhaps that's the way it should be. Financial markets would shudder if either were willing to acknowledge the economy has shifted into reverse.

Such a pronouncement could even become a self-fulfilling assessment, scaring both consumers and businesses to further pull back on their spending at a time when both men are trying to spur economic growth. But their actions speak louder than their words.

For example, why do we need a $170 billion stimulus package if growth is simply slowing and not declining?

"Their comments and the actions are not aligned," said Keith Hembre, chief economist for First American Funds.

Hembre said if Bernanke doesn't expect a recession, then the Fed shouldn't be cutting interest rates as much as it has since the cuts could spur inflation down the road.

Bernanke's testimony Thursday will be his first public comments since a series of reports about jobs, service sector activity and retail sales showed more economic weakness. But even economists who believe a recession has begun don't expect Bernanke to admit this Thursday.

Bernard Baumohl, executive director of the Economic Outlook Group, who believes that the recession began at some point in the last three months, said he only thought Bernanke would use the R word to describe the current economy is if he was giving his testimony "strapped to a lie detector."

What can be done to address the credit crunch?

David Wyss, chief economist for Standard & Poor's, said there are not a lot of good answers for this question, given the depth of the problems with banks' balance sheets.

In fact, there are concerns that some of the steps taken so far, including the Fed's rate cuts may eventually make the problems worse, not better.

The rate cuts were supposed to reduce the cost of money for banks, spurring them to lend money to qualified borrowers. But it has also sent investors fleeing from investments that do poorly when interest rates fall.

The market for loans to big U.S. companies with low credit ratings, as measured by a Standard & Poor's index that charts those loans, hit a record low on Feb. 7 and is currently down more than 11% since October.

"Leveraged loans have fallen out of bed," said Jim Grant of Grant's Interest Rate Observer. "I'd like to know Bernanke's answer about other unintended consequences of these dramatic rate reductions."

Is the worst almost over for housing?

Even trade groups like the National Association of Realtors (NAR) are forecasting more declines in home prices and sales this year, but the expectations for how deep prices will fall vary wildly, from the NAR's prediction a 1.2% drop to about a 15% plunge being forecast by Merrill Lynch.

The official line from the Fed and the Bush administration is that housing is at or near a bottom. Unfortunately, the Fed has been wrong about this before: Bernanke was talking about signs of stabilization in the housing market during testimony to Congress in November 2006.

What's clear is that the worse housing gets, the further the impact of this decline could spread to the broader economy. Consumers no longer able to tap into equity in their homes are likely to see their spending constrained. That could mean losses will continue to mount at big banks, creating additional problems in credit markets.

"I think the housing market is a disaster right now and I think [Bernanke and Paulson] know that," said Hembre. "But they've stuck with the story that there's limited spillover or no spillover. I think clearly that's not the case."

Will other countries continue to lend us money?

The U.S. economy is dependent like never before on capital from overseas investors and governments. Sovereign funds are taking stakes in big Wall Street firms and are also buying bonds used to fund the record U.S. debt and help support the dollar in the face of the Fed's rate cuts.

But while the dollar's slide versus the euro and yen has helped lift U.S. exports to record levels by making U.S. goods more competitive, it has its own risks. The price of imports, particularly oil and other commodities, have become more expensive with a weaker dollar, adding to inflation risks.

Wyss said the risk that overseas investors could pull back on buying U.S. assets is one of the greatest concerns facing the economy.

"How do you continue to run trade deficits like this if people aren't going to send you cash?" asked Wyss.

How bad will it get in the jobs market?

The government reported a decline of 17,000 jobs in January, the first drop in more than four years. Job losses clearly aren't limited to housing and manufacturing any longer either, as services firms also posted a decline.

The recent survey from the Institute of Supply Management about the services sector showed that more employers in service businesses are trimming staffs and fewer are looking to hire.

This is bad news since the sector -- which includes retailer, airlines and banks, have been the engine of job growth in recent years as manufacturers laid off workers.

Paulson has argued the economic stimulus package should create 500,000 jobs. But other economists question how many workers businesses will add to meet what could be only a short-term pick-up in spending.

In addition, other measures of the labor market, including long-term unemployment, are signaling weakness beyond the 4.9% unemployment rate. So it will be key for Bernanke and Paulson to address more than just the unemployment rate when discussing the health of the labor market.

After all, even after the most recent recession ended in 2001, there was a "jobless recovery" that lasted for two years. To top of page

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Market indexes are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer LIBOR Warning: Neither BBA Enterprises Limited, nor the BBA LIBOR Contributor Banks, nor Reuters, can be held liable for any irregularity or inaccuracy of BBA LIBOR. Disclaimer. Morningstar: © 2014 Morningstar, Inc. All Rights Reserved. Disclaimer The Dow Jones IndexesSM are proprietary to and distributed by Dow Jones & Company, Inc. and have been licensed for use. All content of the Dow Jones IndexesSM © 2014 is proprietary to Dow Jones & Company, Inc. Chicago Mercantile Association. The market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved. FactSet Research Systems Inc. 2014. All rights reserved. Most stock quote data provided by BATS.