The United States has "turned a corner" in averting a financial collapse, but more work needs to be done to get things back to normal, Paulson told the House Financial Services Committee, reported the Associated Press.
Bernanke and Paulson initially told lawmakers the $700 billion was needed to buy troubled assets held by banks, but last week Paulson said the government wouldn't use any of the funds to buy the toxic assets.
Sheila Bair, chairman of the Federal Deposit Insurance Corp., also testified Tuesday and proposed using $24 billion of the bailout money to help households avoid foreclosure through a loan modification program.
As foreclosures mount, the government is "clearly falling behind the curve," Bair said.
Paulson cautioned against using bailout money to guarantee mortgages at risk of falling into foreclosure, but said the Bush administration will look for ways to provide foreclosure relief.
Paulson told the committee that infusing billions of dollars into banks to increase their capital and bolster lending to customers is a faster and more effective approach to stabilizing the financial system than buying bad assets, the centerpiece of the original plan.
Buying financial institutions' debts would have required a "massive commitment" of the bailout money, Paulson told the lawmakers.
"We all understand that when conditions on the ground change, policymakers must be agile enough to adjust to those changed circumstances," said Rep. Spencer Bachus, R-Ala., reported the Associated Press. "But changing too quickly, without adequately explaining why you've changed or what you're going to do next, risks sending mixed signals to a marketplace that is in dire need of certainty and a sense of direction."
The Treasury Department, along with the Federal Reserve, is also exploring using bailout money to fund a new loan facility to help companies that issue credit cards, make student loans and finance car purchases.
Also on Tuesday, executives of General Motors, Ford and Chrysler, and the head of the United Auto Workers union will testify at a Senate Banking Committee hearing. They are seeking $25 billion in government aid and have support by Democratic congressional leaders.
Democrats want to use part of the $700 billion Wall Street bailout for emergency loans to help the Big Three carmakers, but the Bush administration and Republican lawmakers are against the proposed bailout. A test vote is expected as early as Wednesday.
Paulson said that although a failing U.S. auto company would not be a "good thing," he remains opposed to diverting $25 billion of the bailout money to aid Detroit.
The Treasury Department has pledged $250 billion for banks and has agreed to devote $40 billion to troubled insurer AIG, the only funds going to a company other than a bank.
Congressional officials told the AP that Paulson indicated he is unlikely to use the remaining $350 billion before the Bush administration leaves office, meaning the upcoming Obama administration would be left to decide whether and how the money should be spent.