Sunday, March 3, 2013

Bernanke defends Fed's low-interest-rate policies

(AP) ? Chairman Ben Bernanke is defending the Federal Reserve's low-interest rate policies and seeking to calm fears that super-low rates risk igniting inflation or rattling investors.

Bernanke said Friday that any Fed move to raise rates prematurely could derail what is still a modest U.S. economic recovery. The central bank's low-rate policies are intended to encourage borrowing and spending to boost the economy. Higher rates would make borrowing more expensive.

Bernanke said the Fed's policies mirror what other central banks around the world are doing.

"Long-term interest rates in the major industrial countries are low for a good reason: Inflation is low and stable and, given expectations of weak growth, expected real short rates are low," he said.

"Premature rate increases would carry a high risk of short-circuiting the recovery, possibly leading ? ironically enough ? to an even longer period of low long-term rates," he said.

His comments, which amplified testimony he gave to Congress this week, were delivered in San Francisco to an economic conference sponsored by the San Francisco Federal Reserve Bank.

Critics, including some Fed regional bank presidents, have expressed concerns that the Fed may be raising the risk of financial instability by pursuing its current program of purchasing $85 billion per month in Treasury bonds and mortgage-backed securities to drive long-term interest rates down farther.

These bond purchases represent the third round of a program known as quantitative easing. They have driven the size of the Fed's asset holdings above $3 trillion and raised fears that by inflating the money supply, the Fed is raising the risk of future runaway inflation. There are also worries that by keeping interest rates at ultra-low levels the Fed could create bubbles in assets such as stocks.

As he did in his appearance before House and Senate committees this week, Bernanke sought to provide reassurance that the central bank is closely monitoring developments in financial markets to guard against such risks.

He said the Dodd-Frank Act that was passed in 2010 in the wake of the 2008 financial crisis has boosted the required capital that banks must have on hand to cushion them against losses. He said the Fed also conducts annual stress tests to make sure that the nation's largest financial institutions have sufficient resources to survive in seriously adverse economic conditions.

"We pay special attention to developments at the largest, most complex financial firms, making use of information gathered in our supervision of the institutions," Bernanke said.

Bernanke, who specialized as a college professor in researching mistakes made by the Federal Reserve during the Great Depression, was asked during a question period what he believed scholars would determine were the most significant lessons learned from the financial crisis of 2008.

Bernanke said among the key lessons were the need for much better oversight of the financial system and the quickness with which assets such as housing can become significantly overpriced. But he said in many ways, the 2008 crisis had all the elements of a typical bank run.

"It was analogous to things that happened in the 19th century" Bernanke said. "It is just that it is a much more complex framework" today.

In his speech, Bernanke said that based on current economic forecasts long-term interest rates are expected to rise only gradually in the next several years. He said that under these forecasts, long-term rates for 10-year Treasury bonds might rise by between 2 and 3 percentage points between now and 2017. The 10-year Treasury is currently trading around 1.9 percent.

But Bernanke also referenced a time in the past when the Fed began tightening credit and rates rose more rapidly. He said in 1994 the yield on the 10-year Treasury rose more than 2 percentage points in just 12 months.

He said this increase reflected an unexpected acceleration in the pace of economic growth and signs of building inflation pressures.

Bernanke said such a big increase in one year was at the "upper end" of what private forecasters are predicting could happen when the Fed begins tightening interest rates this time. And he said the Fed's ability to communicate its future moves to markets have improved considerably since 1994.

By providing greater clarity about the future course of interest rates, Bernanke said the Fed's improved communication efforts should reduce the risk that market misperceptions about the Fed's intention "would lead to unnecessary interest rate volatility."

The Fed said at its January meeting that it will not halt its bond buying until it has seen a substantial improvement in the labor market.

In December, it set a goal of keeping its key short-term interest rate near zero until unemployment has fallen below 6.5 percent. Unemployment in January stood at 7.9 percent and many economists believe it will not drop below 6.5 percent until late 2015 at the earliest.

The Fed's low interest rate policies were approved on an 11-1 vote at the January meeting, although minutes of those discussions showed that a minority of Fed officials expressed concerns about the current level of the bond purchase program.

However, Bernanke's appearances before Congress this week and in his Friday speech sent a strong signal that he still believes the low-rate policies are needed to provide support for an economy still burdened by high unemployment.

Associated Press

Source: http://hosted2.ap.org/APDEFAULT/f70471f764144b2fab526d39972d37b3/Article_2013-03-01-Bernanke/id-fc1ca344023d49a09c61f99de34d4354

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