Fed Chief Sends Mixed Signals on Next Moves
WASHINGTON – Fed Chairman Ben Bernanke cautioned Congress last week that the Fed will not allow interest rates to rise closer to historical levels because of the risks of moving too aggressively or prematurely.
The Fed chief, however, also said the Fed could take a step down in its pace of bond purchases in the next few meetings, making the stock market react wildly to the conflicting signals sent by the Fed and Bernanke himself in recent weeks.
Bernanke told Congress the first step in the Fed’s exit strategy would be to wind down the quantitative easing program. As part of this program, the Fed has been buying $85 billion a month in Treasury and mortgage bonds since September. This has lowered long-term interest rates and encouraged more borrowing and spending in the U.S. economy.
“As the economic outlook and particularly the outlook for the labor market improves in a real and sustainable way, the committee will gradually reduce the flow of purchases,” said Bernanke.
He also reiterated that any change in the flow of bond purchases would depend on the incoming data and the Fed’s assessment of the labor market and inflation. As Bernanke hastened to note during his testimony to the Joint Economic Committee last week, the Fed does not want to move prematurely because of the danger of ending the economic recovery.
As the Fed approaches the time when it will begin withdrawing its accommodative policies, the central bank must also decide how quickly to wean the economy from the bond purchases. If the Fed acts too quickly to restore normality in monetary policy, it risks halting the economic recovery. If it acts too slowly, risks of inflation may increase along with the probability of destabilizing asset bubbles. This makes a good communications strategy key to maintain credibility with the private sector and bond markets.
“This is not easy and requires good communication,” said Bernanke, when asked about the possible market turmoil the central bank could cause when it starts selling its portfolio. “We are currently discussing further our exit strategy, and we hope to provide more information going forward. But we certainly are confident that we can exit over time in a way that will be consistent with our policy objectives.”
Communications are very important for the central bank because they can shape expectations about the course of inflation and borrowing costs, and thereby influence actions by households, businesses, and investors. Unlike his predecessor Alan Greenspan, who deliberately delivered wordy and vague statements to prevent financial markets from overreacting to his remarks, Bernanke has made an effort to bring a new level of transparency to Fed communications.
Nevertheless, the straightforward message has been blurred by a number of other signals sent by Bernanke and by the Fed in recent weeks. Minutes of the Federal Open Market Committee’s last meeting showed disagreement among members of the board about what evidence would demonstrate that the economy is on a path of strong and sustainable growth. The minutes also indicated that a number of participants expressed their willingness to adjust the flow of purchases downward as early as the next meeting, if the economic data received at that time showed evidence of improvement in the economy. The Fed will meet on June 18-19 to decide its course of action.
Sen. Pat Toomey (R-Pa.), who commended Bernanke for his efforts at greater transparency, expressed his concern over the unpredictable ways in which the Fed’s “extremely accommodative policy” may manifest itself.
Article printed from PJ Media: http://pjmedia.com/
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