The economy is improving but has yet to recover fully, with high unemployment and a weak housing market leaving consumers unsettled, Federal Reserve Chairman Ben Bernanke said on Monday.
This means U.S. monetary policy must remain accommodative until the economic recovery is on a sustainable path and job creation picks up, Bernanke said, though he offered no fresh clues about the Fed's likely next move.
We need to make sure that monetary policy continues to provide the support the economy needs until we begin to see growth, sustained growth and particularly growth in jobs, he said in response to questions of state legislators.
The U.S. recovery lost a step in the second quarter, with growth slowing to a 2.4 percent annual rate from 3.7 percent in the first three months of the year, a pace too sluggish to do much to pull down unemployment.
Data on Monday showed the manufacturing sector's expansion moderating to its slowest pace since December, and a report on Friday is expected to show a second month of net job losses.
The economy is expected to top the agenda in mid-term congressional elections in November, with Democrats facing the prospect of losing their majority party status.
Bernanke told Congress last month that the Fed was not powerless to fight a new slowdown in the economy, and could take steps such as lowering the interest it pays on bank reserves or buying more assets if things get worse.
But he stayed away from such detail in his speech on Monday, arguing simply that budget constraints at the local level were also hindering the national rebound.
We have a considerable way to go to achieve full recovery in our economy, and many Americans are still grappling with unemployment, foreclosure and lost savings, Bernanke said.
Bernanke said consumer spending, which eased in the April-June period, should pick up in coming quarters as income rises and credit conditions improve. He said that should help sustain the recovery, even as a lift from fiscal stimulus and a restocking of inventories by businesses fades.
The Fed believes inflation will remain subdued over the next couple of years, he added, citing stability in measures of inflation expectations.
U.S. consumer prices, excluding volatile food and energy costs, rose just 0.9 percent in the 12 months through June, and some Fed officials worry a prolonged period of elevated joblessness could lead the economy into a crippling deflation.
The economy has grown for four straight quarters, but the unemployment rate has remained stubbornly high. It stood at a lofty 9.5 percent in June.
In response to the worst financial crisis in a generation, the Fed slashed interest rates close to zero and engaged in a host of unprecedented emergency actions to help credit markets, including massive purchases of government and mortgage bonds.
Some policymakers at the central bank argue that they have done enough to support the economy, but others appear open to fresh steps given signs the recovery is losing momentum.
Fed officials will debate the course of monetary policy in a meeting on August 10, but few analysts expect any immediate shifts in policy.
With regards to banks, Bernanke said loan loss rates appeared to have peaked, but many bank balance sheets remained riddled with troubled loans. This has kept lending conditions tight, presenting another hurdle to more robust recovery.
Fears about sovereign debt burdens in Europe also have contributed to financial market strains, although the public disclosure of bank stress tests appeared to have quelled anxiety, Bernanke said. Still, he indicated markets had not yet fully healed.
Financial conditions, though much improved since the depth of the financial crisis, have become somewhat less supportive of economic growth in recent months, he said, reiterating a sentiment expressed in the central bank's last policy statement in late June.