The housing market is holding back the broader economic recovery now that foreclosures have become a national crisis, a top Federal Reserve official said on Friday.

Housing market issues pose a significant headwind to our economic recovery, said Cleveland Fed President Sandra Pianalto, a voter this year on the Fed's policy-setting panel.

Specifically, losses in housing wealth have held back consumer spending, sapped household confidence and reduced the ability of small-business owners to obtain credit.

The debate both inside and outside of the central bank has intensified this year over what if anything it should do to boost the sector that is the biggest drag on the tentative U.S. rebound.

Pianalto's speech came shortly after Fed Chairman Ben Bernanke, in Washington on Friday, issued a call to action to restore the housing market, saying depressed house prices and sales are a serious drag on the economic recovery.

On Thursday, big U.S. banks accused of abusive mortgage practices agreed to a $25 billion government settlement that may help a million borrowers, though they are a fraction of those hit hard by the drop in home values.

A 33 percent decline in U.S. housing prices since 2006 has resulted in an estimated $7 trillion loss of household wealth, and about 12 million U.S. homeowners are currently underwater on their mortgages.

Pianalto is considered a moderate policy dove who usually votes along with Bernanke. She did so two weeks ago when the Fed's policy-setting committee sketched a difficult path ahead for the economy and said it expects to keep rates exceptionally low at least through the end of 2014 to help the recovery.

The Fed has bought some $2.3 trillion in long-term securities - including mortgage-related assets - and has kept the door open to buying more. That possibility has drawn criticism from some Fed officials and Republican lawmakers, who accuse it of overstretching and focusing on only one sector of the economy.

Addressing a housing-services audience here, Pianalto added: I can assure you that I see the consequences of our housing market challenges both as a resident of northeast Ohio and in my role as a Federal Reserve policymaker.

Pianalto's Midwestern district has been hard hit by the housing slump, and her speech was delivered in a refurbished hall in a neighborhood where many houses had broken or boarded windows, fallen tiles and rusted fences.

(Reporting by Jonathan Spicer; Editing by Padraic Cassidy and Dan Grebler)

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