Bernanke to Congress: Recession certain in absence of bailout

By JULIE HIRSCHFELD DAVIS and JEANNINE AVERSA

WASHINGTON - Treasury Secretary Henry Paulson envisions using different methods to price a range of rotten securities that banks would unload to the government.

Paulson acknowledged that pricing the bad debts will be tricky.

Under the $700 billion financial bailout plan being considered by Congress and the Bush administration, the government would buy those dodgy debts, with the goal of putting financial institutions in a better position to raise capital and lend more freely. Unclogging credit problems is critical to helping the faltering economy get back on its feet.

"We asked for broad-based authorities to use a series of market-based approaches. We'll be dealing with different approaches in different situations,'' he said.

Sen. Charles Schumer, D-N.Y., discussing statements that Federal Reserve Chairman Ben Bernanke made to the Senate Banking Committee Tuesday, said he "told us that our American economy's arteries, our financial system, is clogged and if we don't act the patient will surely suffer a heart attack - maybe next week, maybe in six months, but it will happen.''

Paulson talked about using a "reverse auction,'' where the government would be buying the bad debt at the lowest price.

Earlier this morning, Federal Reserve Chairman Ben Bernanke bluntly warned Congress it risks a recession, with higher unemployment and increased home foreclosures, if lawmakers fail to pass the Bush administration's $700 billion plan to bail out the financial industry.

Bernanke told the Senate Banking Committee that inaction could leave ordinary businesses unable to borrow the money they need to expand and hire additional employees, while consumers could find themselves unable to finance big-ticket purchases such as cars and homes.

Bernanke's remarks came in response to a question from Sen. Chris Dodd, D-Conn., the committee's chairman, who seemed eager to hear a strong rationale for lawmakers to act swiftly on the administration's unprecedented request.

"The financial markets are in quite fragile condition and I think absent a plan they will get worse,'' Bernanke said.

Ominously, he added, "I believe if the credit markets are not functioning, that jobs will be lost, that our credit rate will rise, more houses will be foreclosed upon, GDP will contract, that the economy will just not be able to recover in a normal, healthy way.''

GDP is a measure of growth, and a decline correlates with a recession.

Bernanke outlined his grim scenario as committee members sat in silence, and as the Bush administration pressed lawmakers publicly and privately to act speedily.

Vice President Dick Cheney and Jim Nussle, the Bush administration's budget director, met privately with restive House Republicans, some of whom emerged from the session unpersuaded.

"Just because God created the world in seven days doesn't mean we have to pass this bill in seven days,'' said Rep. Joe Barton, R-Texas.

Added Rep. Darrell Issa, R-Calif., "I am emphatically against it.''

Dodd and other key Democrats have been in private negotiations with the administration since the weekend on legislation designed to allow the government to buy bad debts held by banks and other financial institutions.

Despite expressions of unhappiness in both parties, the prospects for legislation seemed strong, with lawmakers eager to adjourn this week or next for the elections.

Differences remained, though, including a demand from many Democrats and some Republicans to strip executives at failing financial firms of lucrative "golden parachutes'' on their way out the door.

The administration balked at another key Democratic demand: allowing judges to rewrite bankrupt homeowners' mortgages so they could avoid foreclosure.

Despite the unresolved issues, President Bush predicted the Democratic-controlled Congress would soon pass a "a robust plan to deal with serious problems.'' He was speaking to the United Nations General assembly.

Stocks held steady in pre-noon trading on Wall Street as Treasury Secretary Henry Paulson told the Senate Banking Committee that quick passage of the administration's plan is "the single most effective thing we can do to help homeowners, the American people and stimulate our economy.''

But even before Paulson could speak, lawmakers expressed unhappiness, criticism of the plan and - in the case of some conservative Republicans - outright opposition.

"I understand speed is important, but I'm far more interested in whether or not we get this right,'' said Dodd, who spoke first. "There is no second act to this. There is no alternative idea out there with resources available if this does not work,'' he added.

Sen. Richard C. Shelby of Alabama, the panel's senior Republican, was even more blunt. "I have long opposed government bailouts for individuals and corporate America alike,'' he said. Seated a few feet away from Paulson and Bernanke, he added, "We have been given no credible assurances that this plan will work. We could very well send $700 billion, or a trillion, and not resolve the crisis.''

The legislation that the administration is promoting would allow the government to buy bad mortgages and other troubled assets held by endangered banks and financial institutions. Getting those debts off their books should bolster their balance sheets, making them more inclined to lend and easing one of the biggest choke points in the credit crisis. If the plan works, it should help lift a major weight off the sputtering economy.

Buttressing Paulson's comments, Bernanke said action by lawmakers "is urgently required to stabilize the situation and avert what otherwise could be very serious consequences for our financial markets and for our economy.''

A third witness, Securities and Exchange Commission Chairman Christopher Cox, urged Congress to regulate a type of corporate debt insurance that figured prominently in the country's financial crisis.

"I urge you to provide in statute the authority to regulate these products to enhance investor protection and ensure the operation of fair and orderly markets,'' he said. The debt insurance is known as credit default swaps.

So far this year, a dozen federally insured banks and thrifts have failed, compared with three last year. The country's largest thrift, Washington Mutual Inc., is faltering.

Republicans said the sheer size of the bailout would cost each man, woman and child in the United States $2,300.

If approved and implemented, that could push the government's budget deficit next year into the $1 trillion range - far and away a record.

Sen. Barack Obama, the Democratic presidential candidate, pointed to other potential consequences, as well. In an interview with NBC, he said that if he wins the White House, he would likely have to phase in the proposals he has outlined for new federal spending. He did not elaborate.

Congressional Republicans, in particular, piled on the criticism of the administration's suggested solution to the crisis.

"This massive bailout is not a solution, It is financial socialism and it's un-American,'' said Sen. Jim Bunning, R-Ky.

Dodd and others indicated that the stakes are too high for Congress not to act, but they made clear they would insist on changes in the administration's weekend changes.

Dodd said the administration's initial proposal would have allowed the Treasury secretary to "act with utter and absolute impunity - without review by any agency or court of law'' in deciding how to administer the envisioned bailout program.

"After reading this proposal, I can only conclude that it is not just our economy that is at risk, Mr. Secretary, but our Constitution, as well,'' Dodd said.

The U.S. has taken extraordinary measures in recent weeks to prevent a financial calamity, which would have devastating implications for the broader economy. It has, among other things, taken control of mortgage giants Fannie Mae and Freddie Mac, provided an $85 billion emergency loan to insurance colossus American International Group Inc. and temporarily banned short selling of hundreds of financial stocks.

Stocks rise as investors track hearing on bailout

By TIM PARADIS

AP Business Writer

NEW YORK (AP) - Financial markets appeared somewhat more upbeat Tuesday, with stocks holding their ground after a huge sell-off as top economic officials updated Congress about efforts to hammer out a $700 billion financial rescue for troubled credit markets.

Oil and gold prices retreated after shooting higher Monday as investors went in search of hard assets, and demand eased for 3-month Treasury bills, considered the safest short-term financial asset. The dollar, hit hard on Monday, regained ground.

After days of intense gyrations in financial markets, investors are anxious over whether the plan to absorb billions of dollars in banks' bad mortgages and other risky assets will help steer the economy onto more solid footing or whether it will introduce another set of problems such as rising inflation.

"People are watching what's coming out of Washington closely to see what kind of form this package will take,'' said J. Stephen Lauck, chief executive and portfolio manager at Ashfield Capital Partners in San Francisco. "The risks are too great in the marketplace if nothing happens and it stalls.''

Treasury Secretary Henry Paulson, Federal Reserve Chairman Ben Bernanke and Securities and Exchange Commission Chairman Christopher Cox testified before lawmakers, who are working with the Bush administration to complete the details of the bailout.

Bernanke told the Senate Banking Committee that Congress risks triggering a recession if it doesn't act on the plan. He said inaction could leave a range of businesses unable to borrow the money while consumers could find it impossible to finance big purchases like cars and homes.

Investors appeared somewhat comforted that pressure remained for Washington to act on creating a lifeline for the banks and in turn the credit markets. The market for short-term Treasurys appeared stable, though not relaxed. The yield on the 3-month T-bill rose to 1.07 percent from 0.88 percent on Monday; last week, it was around zero after investors flooded money into T-bills as the credit markets seized up. That spurred the Bush administration to formulate its debt buyout plan.

The yield on the benchmark 10-year Treasury note, which trades opposite its price, was flat at 3.85 percent from late Monday.

The dollar, whose decline Monday drove some of the frenetic trading in other markets, was higher against other major currencies, while gold prices declined after Monday's big advance.

"We're going to see this volatility for a while even after this package passes because I think we're still facing a fundamental slowdown in the economy worldwide which is going to have some impact on earnings,'' Lauck said.

In midday trading, the Dow Jones industrial average rose 57.51, or 0.52 percent, to 11,073.20 after having risen more than 125 points in the early going. On Monday, the Dow fell more than 370 points as unease over the government rescue plan sent investors scrambling for the safety of hard assets like oil and gold.

Broader stock indicators also advanced Tuesday. The Standard & Poor's 500 index rose 2.81, or 0.23 percent, to 1,209.90, and the Nasdaq composite index rose 10.54, or 0.48 percent, to 2,189.52.

Investors were also closely watching oil prices after anxiety over the government bailout and a huge short-covering rally pushed crude to the biggest one-day gain ever on Monday.

Light, sweet crude for November delivery fell $2.75 to $106.62 on the New York Mercantile Exchange. The October contract, which expired Monday, surged as much as $25.45 to $130 before falling back to settle at $120.92, up $16.37. While that advance was due to technical market dynamics, the price of oil has still moved higher over the past week amid increasing concerns about the U.S. financial system.

Financial stocks traded mixed as Congress debated the merits of the government's emerging plan. Some investors are worried that the plan to buy toxic assets from financial companies could still prove inadequate to save some banks. Should the government pay too little for some assets some banks might still be forced to book ruinous write-downs.

Bank of America Corp. fell $1.22, or 3.6 percent, to $32.93, while Citigroup Inc. fell 82 cents, or 4.1 percent, to $19.19. Washington Mutual Inc. fell 7 cents, or 2.1 percent, to $3.26.

Some energy names lost ground as oil traded well off the levels seen in Monday's spike. Occidental Petroleum Corp. fell $3.52, or 4.3 percent, to $77.72 and XTO Energy Inc. declined $1.40, or 2.7 percent, to $51.04.

Overseas, Britain's FTSE 100 fell 1.51 percent, Germany's DAX index slid 0.64 percent, and France's CAC-40 fell 1.98 percent. Japanese financial markets were closed Tuesday for a national holiday.

Declining issues outnumbered advancers by about 3 to 2 on the New York Stock Exchange, where volume came to 422.6 million shares.

The Russell 2000 index of smaller companies fell 3.48, or 0.48 percent, to 716.96.

Oil prices fall on profit-taking after huge rally

By STEVENSON JACOBS

AP Business Writer

NEW YORK (AP) - Oil prices swung lower Tuesday, falling below $107 a barrel as traders cashed in profits a day after crude rocketed to its biggest one-day gain ever - an epic rally apparently triggered in part by a technical fluke.

It was crude's first down session in five days. A slightly stronger dollar also weighed on prices as investors who had bought the commodity as a hedge against inflation sold their contracts; the dollar took a steep dive Monday, helping to fuel oil's 16 percent rise that day.

Still, oil market watchers say crude is showing early signs that it may be poised for another big climb. They say tightening global supplies, weakness in the dollar and nervousness about the U.S. government's $700 billion financial rescue plan could soon prompt edgy investors to shift funds out of equities and send a burst of capital back into safe-haven commodities like oil - potentially pushing prices back toward record levels and causing consumers more pain at the pump.

Oil prices are up about $15 in the past week, momentarily halting a precipitous two-month slide from the all-time high of $147.27 a barrel reached July 11.

"We could be back on the road toward $150 a barrel,'' said Stephen Schork, an analyst and oil trader in Villanova, Pa. "If we can't get any stability in the dollar and there's further weakening in the economy, my fear is that it's deja vu all over again. We're going to see a lot of money piled back into commodities as an inflation hedge.''

Tuesday's trading, however, was driven by investors seeking profits after previous day's run-up and the stronger greenback.

Light, sweet crude for November delivery fell $2.73 to $106.64 in midday trading on the New York Mercantile Exchange. The contract jumped $6.62 to settle at $109.37 on Monday.

The October contract, which expired Monday, surged as much as $25.45 to $130 a barrel before falling back to settle at $120.92, up $16.37 - the biggest one-day gain ever.

Oil traders said the hyperbolic move was likely the result of an unusually severe "short squeeze,'' a trading occurrence that happens when investors who bet that oil prices would fall rush to cover positions before the contract's expiration. Failure to do so would require them to take delivery of the physical crude; traders almost always cover their positions rather than take delivery, even if doing so means absorbing huge losses.

Speculation grew Tuesday that a big purchase of physical crude may have forced the short-selling rally. Analyst said it appears that a major energy firm faced with crude shortages after the passage of Hurricanes Ike and Gustav was forced to step in at the last minute and secure supplies before it ran out. That would have sharply limited the number of Nymex oil contracts available for short-sellers to buy, a sudden injection of scarcity that may have helped drive prices skyward.

"I think one of the majors went off long contracts because they needed the barrels. So all of the sudden there weren't as many players available to sell,'' Schork said.

Still, the extent of the rise stunned veteran oil market watchers and prompted the U.S. Commodity Futures Trading Commission to open an investigation into possible illegal manipulation.

Crude's climb over the past week comes amid greater uncertainty about the economy and a gradual shrinkage in global oil output. OPEC's decision earlier this month to cut production by 520,000 barrels a day and output shutdowns and damage to oil installations on the Gulf of Mexico coast caused by Ike and Gustav helped spark the jump in oil prices from $90 a barrel last week.

Because of the supply squeeze, oil pricing appears to have entered a trend known as "backwardization,'' analysts say, a trend whereby front-month oil contracts, or oil available for purchase in the near term, is being sold for more than contracts several months out, suggesting the market is reacting a coming supply crunch.

"The market is telling you that it's fearful about futures supplies, so it's starting to place a premium on current oil prices,'' Schork said.

A resurgence in crude prices would eventually lead to higher pump prices, which have steadily fallen since jumping to a record national average of $4.114 a gallon on July 17. A gallon of regular shed about a penny overnight to a new national average of $3.726, according to auto club AAA.

In other Nymex trading, heating oil futures fell 5.82 cents to $3.0052 a gallon, while gasoline prices dropped 11.94 cents to $2.5844 a gallon. Natural gas futures rose 20 cents to $8.143 per 1,000 cubic feet.

In London, November Brent crude fell $2.04 to $104 a barrel on the ICE Futures exchange.

Associated Press writer Alex Kennedy in Singapore and Louise Watt in London contributed to this report.