The financial sector is facing its greatest challenges since the 1930s, “and we really don’t know how many more chapters remain in this drama,” Federal Reserve Bank of Cleveland president Sandra Pianalto said yesterday.

Economic data confirms the nation is in the midst of a severe recession that has lasted longer than the average of 10 months seen in other post-World War II recessions, Pianalto told the Regional Growth Partnership in Toledo, Ohio, according to prepared text of her remarks released by the Fed.

She said she expects real gross domestic product to weaken further in the first half of the year, but then stabilize by the end of the year. “I expect the economy to begin to recover next year as the fiscal stimulus boosts spending and as we work off excess inventories,” Pianalto said. “My forecast for recovery also presumes the current actions undertaken by the Federal Reserve and the government are successful in restoring financial stability.”

But she warned: “This outlook is subject to a number of s trong downside risks. One risk that particularly concerns me is what economists call a negative feedback loop, in which weakening financial and economic conditions feed off one another and become mutually reinforcing.”

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