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Wednesday, July 23, 2003

Bernanke Warns: Fed May Not Be Done Yet

Ben Bernanke sent a few mild shockwaves through the equity and currency markets today with his affirmation that "Monetary ease appears to be indicated for a considerable period", and that "We're not done yet". Unlike some central bank spokesmen (who shall remain nameless) both Greenspan and Bernanke do not open their mouths without thinking hard first about what they are going to say, so what is worrying Ben, and what is he trying to achieve?

Speaking to a university audience, Bernanke said if the Fed were to reduce overnight borrowing costs to zero, it would look at so-called nontraditional methods of trying to spur growth such as buying long-term bonds. He expressed confidence those methods would work if the Fed needed to turn to them. But policymakers still appear focused on using their central tool of controlling short-term interest rates for now.

"Monetary ease appears to be indicated for a considerable period," Bernanke said. "Keeping the federal funds target at or near its current level may be sufficient. "Alternatively, as Chairman (Alan) Greenspan testified last week, we could certainly cut the rate from where it is now," he told the Economics Roundtable of the University of California at San Diego.

During a question-and-answer period, Bernanke again said he considered the Fed has room to keep trimming the federal funds rate, which is charged on overnight loans between banks, from its current 45-year low of 1 percent. "We're not done yet," he said. Fed policymakers reduced the fed funds rate a quarter percentage point on June 25, citing concern about the economic risks from a further fall in inflation, and are next scheduled to meet on Aug. 12. The dollar sank in value on currency markets following Bernanke's comments, apparently fearful that cheaper U.S. credit makes the currency less attractive, while bond prices rallied as investors looked for a safer haven.

Bernanke said he personally did not foresee "a drastic change" in the inflation rate and said he considered deflation a "remote" possibility. "Should further declines occur, a more gradual downward drift over a period of one to two years would be the more likely scenario, " he said. Bernanke said he was well aware that reducing short-term interest rates closer to zero would carry some cost, including reducing interest income for savers like senior citizens and eroding profits in money markets. But, he emphasized: "We should be willing to cut the funds rate to zero, should that prove necessary to provide the required support to the economy."
Source: Yahoo News

He couldn't by any chance be trying to respond to recent criticism aand give a bit of support to the bond markets by emphasising downside risk, while at the same time putting a gentle brake on the equity markets 'just in case', now could he? In any event the Financial Times sees it like this:

The dollar staged a broad retreat on Wednesday as uncertainty over the global economic outlook was highlighted by faltering stock prices and renewed fears of a fall in inflation.

Ben Bernanke, Federal Reserve board governor, said that easy monetary policy "appears to be indicated for a considerable period", reiterating the message last week of Alan Greenspan, Fed chairman.Mr Bernanke's remarks appeared to confirm analysts' suggestions that investors were shifting their focus to fundamentals despite the lack of fresh data on the US economy this week."Expectations for a turnround in the economy and earnings have reached saturation point," said Laurie Cameron, global currencies strategist at JP Morgan's private bank. She added that recent market rallies in equities and for the dollar were not consistent with economic reality in the US.

"Easing geopolitical risks are being overlooked and investors are returning their focus to the financial risks of a growing budget deficit. When people focus on real prospects for the US, it doesn't seem to be as encouraging as it was last month," she said.The euro rose to its day's highs against the greenback after Mr Bernanke's comments, and by midday in New York was at $1.1472, from $1.1354 at the close on Tuesday.
Source: Financial Times

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