Federal Reserve Chairman Ben Bernanke on Monday afternoon called for a framework to deal with failures of nonbank institutions akin to what the Federal Deposit Insurance Corp. does for banks, and tamped down on expectations of further interest-rate cuts.

He also said the economy was likely to remain weak in the near term, but that aggressive actions by the Fed and other policy makers would help facilitate a return to growth.

Bernanke’s remarks, made in a speech to the Greater Austin Chamber of Commerce in Austin, Texas, acknowledged that some of the moves made by the government, particularly in the realm of intervening to save troubled institutions, have been controversial. But he defended the decisions made.

“In my view, the failure of a major financial institution at a time when financial markets are already quite fragile poses too great a threat to financial and economic stability to be ignored. In such cases, intervention is necessary to protect the public interest,” Bernanke said.

Bernanke said that “the absence of well-defined procedures and authorities for dealing with the potential failure of a systemically important nonbank financial institution” is a major weakness in the U.S. financial system akin to those of the Federal Deposit Insurance Corp. for banks. He called for “the development of a statutory framework for resolving systemically critical nonbank financial institutions in ways that do not destabilize the financial system.”

Bernanke also warned that the economic outlook was weak in the short term. He noted that gross domestic product in the third quarter appears to have declined 0.5%, and that “economic activity appears to have downshifted further in the wake of the deterioration in financial conditions in September.”

“In almost all credit markets, spreads remain wider, maturities shorter, and availability more constrained than was the case before the intensification of the crisis this fall,” he said.

However, he noted that the declines in the price of oil and other commodities “have helped to reverse what had been a significant drag on household purchasing power through much of the year.” He noted that short-term funding costs for banks and commercial-paper issuers have declined recently.

In terms of interest-rate policy, Bernanke noted that “although further reductions from the current federal funds rate target of 1% are certainly feasible, at this point the scope for using conventional interest rate policies to support the economy is obviously limited.” 

He said that the Fed strategy of pumping liquidity into the system “remains effective,” mentioning the possibility it might “purchase longer-term Treasury or agency securities on the open market in substantial quantities.” He cited the decline of mortgage rates after the Fed’s announcement it would purchase mortgage-backed securities and debt from Fannie Mae (FNM) and Freddie Mac (FRE) as an example of the strategy’s success. 

He also said “the Federal Reserve can provide backstop liquidity not only to financial institutions but also directly to certain financial markets, as we have recently done for the commercial paper market.” 

Bernanke noted that “the Fed’s balance sheet will eventually have to be brought back to a more sustainable level,” but he said “that is an issue for the future; for now, the goal of policy must be to support financial markets and the economy.” 

He said that “working together with the Treasury, the FDIC, and other agencies, we must take all steps necessary to minimize systemic risk. The capital injections into the banking system” by the government’s financial regulators “have already served to greatly reduce the risk that a systemically important financial institution will fail.” 

In the question-and-answer, Bernanke said that the goal is not to “privatize the risk and socialize the loss” for financial institutions, and called for increased regulatory oversight. 

When asked about the bailout plans, he said “if we thought something wasn’t working, we would have stopped,” and said he thinks all measures taken so far have been helpful.

Bernanke still said that the government expects to make money off its investments in the bailout.

He said “you hear a lot of loose talk,” but that “there is no comparison” to the Great Depression, citing that many of the banks had failed, there was a world-wide depression, no social safety net and more.

“We’re very lucky to live in a country as rich and diversified as the one we have,” he said.

He noted that lessons from the Great Depression included that monetary policy should be proactive -- and that policy makers have to be involved, and not just let the financial system collapse.

In a lighthearted moment, Bernanke quipped that people “should be careful what you wish for,” because he had wanted “an interesting tenure at the Federal Reserve.”