Federal Reserve Chairman Ben Bernanke dropped a major bombshell on Democrats seeking massive new revenues to narrow the deficit, announcing Thursday that he favors preserving the Bush administration tax cuts to help a faltering U.S. economy.
“In the short term I would believe that we ought to maintain a reasonable degree of fiscal support, stimulus for the economy,” Bernanke told the House Financial Services Committee. “There are many ways to do that. This is one way.”
Bernanke's statement put him directly at odds with White House officials and House Speaker Nancy Pelosi, who favor raising taxes on wealthy Americans by letting the tax cuts the Bush administration passed in 2001 and 2003 expire.
Bernanke's views also conflict with those of his predecessor, Alan Greenspan, who told Bloomberg TV's Judy Woodruff just last week that lawmakers should allow the Bush tax cuts to expire as scheduled at year's end.
Greenspan conceded, however, that doing so probably would slow growth.
Bernanke emphasized the importance of giving the economy a boost. But he also told the House committee that dealing with the deficit, which has ballooned during the Obama administration, remains a major consideration.
“We need to be taking steps to reassure the American people and the markets that our fiscal situation is going to be well controlled,” Bernanke said. “That means that, if you extend the tax cuts, you need to find other ways to offset them.”
Bernanke's comments came on a day when the Dow Jones Industrial Average jumped 201 points, in part on reports of strong corporate profits.
But the markets were also encouraged by the news that two more Senate Democrats — Sen. Kent Conrad, D-N.D., and Sen. Ben Nelson, D-Neb. — are joining the growing number of voices urging an extension of the tax breaks enacted under the Bush administration to stave off the possibility of a double-dip recession.
Fox News business editor and anchor Neil Cavuto said the market's reaction was telling. "Don't you find it a tad odd that, among the many reasons the Dow soared more than 200 points today, was this talk that some Democrats want to delay the tax hike for the rich. Telling, don't you think? Government stands down," he said, "stocks shoot up."
In supporting the tax-cut extension, Conrad and Nelson allied themselves with fellow Democratic Sen. Evan Bayh of Indiana, who made similar remarks in support for keeping the tax breaks last week.
"As a general rule, you don't want to be cutting spending or raising taxes in the midst of a downturn," Conrad said. "We know that very soon we've got to pivot and focus on the deficit. But it probably is too soon to cut spending or raise taxes."
The Wall Street Journal reported that at least six Democrats in the House also have come out in favor of delaying the scheduled tax increases for those earning $250,000 or more annually — a demographic that consists of many small business owners who play a key role in job creation.
Bernanke's support for lower taxes was widely seen as evidence of Fed nervousness about recent signs of growing economic weakness.
The Labor Department reported a spike in claims for state unemployment benefits Thursday, to more than 464,000 last week. In what may have been the understatement of the day, Bernanke's colleague, New York Fed President William Dudley, told the panel that the “road to recovery is turning out to be a bit bumpy.”
Bernanke's support for extended tax cuts also is being seen as a tacit admission that simply lowering interest rates and increasing the money supply may not be enough.
“There is an implicit message from various Fed speakers that monetary policy is less useful now than most times,” Tom Gallagher, senior managing director at International Strategy & Investment Group in Washington, told Bloomberg. “It is a fair inference that Bernanke thinks it would be good to avoid fiscal restraint rather than have more monetary ease if the outlook for 2011 is poor.”
Although Bernanke continues to maintain that there's still plenty the Fed can do to spur the economy, many analysts worry that with interest rates so low the Fed's toolbox of resources has been spent.
So far, Bernanke continues to say no second recession will occur. But he left little doubt Thursday that the central bank intends to respond if necessary to stave another downturn.
"We are ready and will act if the economy does not continue to improve, if we don't see the kind of improvements in the labor market that we are hoping for and expecting," he told the committee.
Fiscal conservatives used the hearing to continue to lambast the Obama administration for its management of the economy. Rep. Spencer Bachus, R-Ala., blasted "the spendthrift, anti-business and anti-job economic policies of this administration," adding that "the staggering amount of money that we're spending on government programs is jeopardizing both our short- and long-term economic future."
Allowing the tax breaks to expire would push the top individual tax rate from 35 percent to 39.6 percent. Taxes on capital gains and dividends would go up as well.
Republicans have been arguing for months that raising taxes amidst a struggling economy wracked by high unemployment would be a major mistake.
Congress has adopted budget rules that would allow lawmakers to extend tax cuts on households earning less than $250,000 a year, which both Democrats and Republicans favor. The Joint Committee on Taxation has estimated those reductions would cost federal coffers about $255 billion per year. There is no such rule in place for tax breaks to those making more than $250,000 a year. Those extensions would cost another $115 billion, based on Congressional Budget Office estimates. Other sources estimate the gap at closer to $55 billion.
Despite Bernanke's testimony, there has been no indication the president is reconsidering campaign pledge to do away with the Bush tax cuts.
In his Rose Garden speech Monday in support of extending unemployment benefits, Obama attacked Republicans who "didn't have any problems spending hundreds of billions of dollars on tax breaks for the wealthiest Americans."
There also appears to be a concerted effort among Democratic leaders to stave off any momentum for keeping the tax breaks.
White House economic adviser Larry Summers voiced his opposition to any such moveon Wednesday . On Thursday, just hours before Bernanke's scheduled testimony, Treasury Secretary Timothy Geithner told reporters: "It is appropriate to allow tax cuts for the wealthy to expire."
And Speaker Pelosi adamantly weighed in against Bernanke's proposal as well.
“My stance is that the Bush-era tax cuts contributed to the deficit, did not create any jobs, and that they should be repealed,” said the California Democrat.
After the hearing, George Voinovich, R-Ohio, said he likes Bernanke's proposal, but doesn't know whether it will persuade his colleagues enough to change their minds.
Bloomberg News asked House Majority Leader Steny Hoyer, D-Md., for his reaction.
"In an ideal world, I agree with him," Hoyer said.
Bernanke made it clear that he shares the No. 1 worry of those members of Congress who will find their names on a ballot this November, saying, "I absolutely agree with you that unemployment is the most important problem that we have right now."
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