Exotic new asset-backed securities were so obtuse and opaque that investors couldn't accurately gauge their risks, Federal Reserve chairman Ben Bernanke told Congress. As a result, "global financial losses have far exceeded even the most pessimistic estimates of the credit losses on these loans."

"The shift in risk attitudes combined with greater credit risk and uncertainty about how to value those risks has created significant market stress," the Fed chief said in a written statement prepared for the House Financial Services Committee.

"On the positive side of the ledger," he added, "past efforts to strengthen capital positions and financial-market infrastructure place the global financial system in a relatively strong position to work through this process."

To that end, he cautioned Congress not to overreact in efforts to help homeowners. "The risk of moral hazard must be considered in designing government-backed programs," he said. "Such programs should not bail out failed investors, as doing so would only encourage excessive risk-taking."

Bernanke added that he was aware of the potential effect the mortgage market can have on the broader economy, and will act accordingly. "Recent developments in financial markets have increased the uncertainty surrounding the economic outlook," he said. The Federal Open Market Committee "will act as needed to foster price stability and sustainable economic growth."

The committee's willingness to act was evident on Tuesday, when it shocked the markets by cutting its benchmark Federal Funds rate by a larger-than-expected half percentage point, to 4.75 percent. That was twice as much as economists had forecast. At the same time, the Fed also cut its discount rate by a half percentage point.

Still, Bernanke warned that the danger has not passed. He noted that dodgy adjustable-rate subprime mortgages written in 2005 and 2006 are particularly problematic, "with some of them defaulting after only one or two payments (or even no payment at all)."

At the same time, he said, a recent "sharp deceleration" in home-price increases —and even outright declines in some markets—has left many recent borrowers with little or no home equity.

Under these circumstances, he said, some borrowers—particularly speculators— have concluded that their best option was to simply walk away from their properties. The lack of home equity has made refinancing difficult for many, especially those with adjustable rate mortgages.

"Thus," he said, "with house prices still soft and many borrowers of recent-vintage subprime A.R.M.'s still facing their first interest-rate resets, delinquencies and foreclosure initiations in this class of mortgages are likely to rise further."