To the relief of the stock market, Federal Reserve Chairman Ben Bernanke announced Friday that economic growth had slowed more than expected, and that the central bank was prepared to take further action to aid the faltering recovery if necessary.
Before Bernanke’s speech, the Commerce Department revised its estimate of Q2 GDP growth to 1.6%, down from earlier estimates of 2.4%. The Q1 growth figure was 3.7%, which shows that the economy is slowing down. The weaker Q2 figure also raises concerns that the economy will fail to reach what Bernanke calls “escape velocity”, which is a pace of growth that is fast enough to garner economic momentum and quell high unemployment.
While talks of slipping back into recession have been all over the market media recently, Bernanke disagreed. The Fed chairman argued that the preconditions for growth to pickup are still in place and expects a resumption of growth in 2011, partially triggered by American consumers who have taken big steps in mending their damaged finances.
While Bernanke’s prospects for next year were positive, he did say that the Fed was prepared to respond if growth continues to tail off. While many analysts and investors have deemed the Fed to be “out of bullets”, Bernanke was confident in his speech on Friday that the central bank had plenty more, and that they would be effective tools.
Bernanke said that among all the options, one of the Fed’s top priorities would be to resume a program of long-term-securities purchases. The Fed has already purchased $1.7 trillion worth of Treasury and mortgage-backed securities since the financial crisis of 2008. Just as it recently has (dubbed quantitative easing two, or QEII), the Fed said it is prepared to use dollars from maturing assets currently on its balance sheet to purchase treasuries, in hopes of sustaining the expansion of the money supply and keeping the Fed’s balance sheet level, while keeping interest rates extremely low. The Fed chairman stated that QEII efforts have been effective at lowering borrowing costs, and that the benefits of purchasing more assets would outweigh any disadvantages.
Bernanke also outlined that the FOMC could also conduct additional purchases of bonds, or reduce interest paid to banks on reserves held at the Fed, among other measures outlined in his speech.
Though Bernanke was clear in communicating that the Fed was willing and able to act if needed, Fed officials are still in disagreement about whether the central bank should pursue additional measures. Some officials are worried that additional easing may make raising interest rates down the road very difficult.
Bernanke also said that the Fed has not agreed on what specific criteria would be used to trigger additional stimulus measures. "At this juncture, the committee has not agreed on specific criteria or triggers for further action," he said.
The Fed chairman also addressed a few other issues in his speech. Regarding unemployment, he stated that the high figure remains a “central concern” for the Fed.
Bernanke also vowed to fight against deflationary pressure, though he does not believe it is a risk at the moment.
A few things to take away from Bernanke’s much-anticipated introduction speech at Jackson Hole: 1) He didn’t introduce any “new and worrisome” news, words, or policies. 2) While everyone worries about the recession and potential double dip, the chairmen of the Fed expects growth to be stronger in 2011. 3) The Fed still has plenty of tools at their disposal, and won’t be afraid to use them if 2010 growth figures continue to dwindle.
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One of the key questions I've read lately is about how many "bullets" the fed has left, and here we read that there's still "plenty." The real question I think is what the nature of these resources is and how they might impact the dept/GDP problem. I'm not one to predict the future, but isn't there a point where the Fed has to say that it is out of options except to adjust interest rates as needed and hold on for the economy to work out on its own? I suspect that though this strategy could be as good as any, the psychological detriment of admitting it would ineed spark a big dive in the markets if not the dreaded "double dip." "The bottom line's not everything"