Bernanke warns markets threaten weak U.S. economy

Chairman of the Federal Reserve Ben Bernanke testifies before the Joint Economic Committee about the credit market turmoil and the government economic bailout on Capitol Hill in Washington September 24, 2008.

WASHINGTON (Reuters) - U.S. Federal Reserve Chairman Ben Bernanke said on Wednesday "extraordinary stress" in financial markets was threatening an already weak U.S. economy, but his plea that lawmakers support a $700 billion credit detox plan was met with skepticism.

"The intensification of financial stress in recent weeks, which will make lenders still more cautious about extending credit to households and business, could prove a significant further drag on growth," Bernanke told the congressional Joint Economic Committee.

"The downside risks to the outlook thus remain a significant concern," he said. "Action by Congress is urgently required to stabilize the situation and avert what otherwise could be very serious consequences for our financial markets and for our economy."

Bernanke was appearing before Congress for a second straight day, trying to build a case for the sweeping bank bailout plan constructed by the U.S. Treasury. On Tuesday, he had said the economy could contract without lawmaker action.

Lawmakers, however, have made clear they would not approve the proposal without changes, including more protections for taxpayers and restrictions on the pay of executive at companies that offload their bad assets.

Sen. Charles Schumer, a New York Democrat who chairs the committee, argued taxpayers should get an equity stake in companies that dispose of tainted assets with the government's help.

"I remain puzzled by the resistance you and (Treasury Secretary Henry Paulson) have offered to proposals ... about the need for equity being part of the process we are discussing," Schumer told Bernanke. "It seems only fair that we reward taxpayers if, as we hope, this plan succeeds."

Paulson would have sweeping authority under Treasury's proposal to buy mortgage-related and other assets choking the financial system with a huge taxpayer-funded war chest.

Both Paulson and Bernanke have argued the final costs would likely be much lower than the initial price tag since the government would likely be able to recoup much of the value of the assets once markets had recovered.

BLEAK ECONOMIC FORECAST

In his testimony, the Fed chairman offered his bleakest assessment on the economy's health since a global credit crisis hit more than a year ago.

"Economic activity appears to have decelerated broadly," Bernanke warned. Labor markets are weak and unemployment is high, he said. Despite an easing of oil and gasoline, consumer spending is likely to be sluggish in the near term, he added.

In addition, slower growth around the world is likely to blunt demand for U.S. exports, which had been helping buoy the economy.

While news on inflation has been more favorable, Bernanke said, the outlook for prices also remains highly uncertain.

Falling oil and commodity prices and the dollar's rebound from lows hit this summer have eased price pressures, but it is difficult to forecast the course of commodity prices, he cautioned.

"The upside risks to inflation remain a significant concern as well," Bernanke said.

(Additional reporting by Donna Smith, Glenn Somerville, Alister Bull, Emily Kaiser, Karey Wutkowski and Nancy Waitz; Editing by Tom Hals)