Federal Reserve Board Chairman Ben Bernanke Tuesday told a congressional panel that the economy is in the midst of a severe contraction, but that there is a chance of turnaround later this year.
Bernanke made clear that a recovery will not take hold until the financial system has been stabilized.
"If we're going to have a strong recovery it's got to be on the back of a stabilization of the financial system," he said. "It's basically black and white. If we stabilize the financial system adequately we'll get a reasonable recovery....it might take some time. If we don't stabilize the financial system we're going to founder for some time."
Weakness in the U.S. financial sector - specifically bad loans in the sub-prime mortgage market-triggered the credit squeeze that began in 2007 that subsequently evolved into a global financial crisis and worldwide recession. U.S. banks have been significantly weakened and their share prices remain severely depressed-in some cases down 80 percent in the past year.
There is great uncertainty as to what will happen to the biggest banks. Bernanke would not say whether he thought the banks would be nationalized but he did reveal some details of the stress test that will be given to the 19 biggest U.S. banks.
"The purpose of the test is to try to insure that even in a bad scenario banks will have enough capital, including enough common equity, to meet their obligations to lend," he said.
Bernanke said that despite the current emergency in which the United States is greatly expanding its fiscal deficit, he believes U.S. securities (debt) remain attractive to foreign purchasers.