Federal Reserve Chairman Ben Bernanke warned on Friday of “daunting” challenges facing the economy and pledged further action to boost the lackluster recovery if it does not show more improvement.
In a widely anticipated speech to a gathering of policymakers and influential economists in Jackson Hole, Wyo., Bernanke also repeated his warnings about threats posed to the economy by the crisis in Europe and a standoff between Congress and the White House over tax and budget issues, the so-called fiscal cliff.
“Taking due account of the uncertainties and limits of its policy tools, the Federal Reserve will provide additional policy accommodation as needed to promote a stronger economic recovery and sustained improvement in labor-market conditions in a context of price stability,” Bernanke said in prepared remarks.
While Bernanke steered clear of indicating the timing of any Fed actions, the speech to the economic symposium sponsored by the Federal Reserve Bank of Kansas City is likely to reinforce expectations that the Fed will again use some of the tools at its disposal for lifting growth, such as government bond purchases known as “quantitative easing,” or QE, or communicating with financial markets about its expectations for short-term interest rates.
Tellingly, Bernanke spoke in great detail about the Fed's use in the aftermath of the Great Recession of unconventional monetary-policy tools and said there was strong evidence that these methods had helped the economy. The Fed has traditionally influenced the economy through changes in short-term interest rates but with such rates already near zero, the central bank has reached limits of its ability to use that lever.
Bernanke’s emphasis on the effectiveness of these tools signals the Fed’s willingness to use them again, though the Fed chairman said that the bar for the employing unconventional tools is higher than it would be for the traditional lever of short-term interest rates.
The central bank's policy arm, the Federal Open Market Committee, holds its next meeting on Sept. 12-13. Economists are on the fence about whether the Fed will announce further action at that meeting. Fresh data on the job market due out next Friday could be pivotal.
Though a few hopeful signs had emerged on the economy, including signs of improvement in the battered housing market, Bernanke said growth remained “far from satisfactory” and was being held back “by a number of headwinds.”
The Fed's use of nontraditional tools has been controversial. Many Republicans have criticized the Fed's bond-buying operations, saying they could eventually cause an outbreak of inflation and are potentially destabilizing for the economy. Several Republican lawmakers voiced such criticisms when Bernanke visited Capitol Hill in July to deliver his semiannual monetary testimony. But some Democrats pressed him to undertake a third round of QE. The Fed chairman was noncommittal.
In the Jackson Hole speech, Bernanke discussed some of the risks of unconventional monetary policy. One limitation of government bond purchases, he said, is that at a certain point, if the Fed were to purchase too many securities, there could be market disruptions. But he said "few if any problems" of that kind have emerged so far.
He also expressed confidence in the inflation outlook, noting that it was comfortably near the Fed's target of 2 percent.
Many economists believe another round of bond buying, or QE3, could be in the cards before the end of the year. Some analysts think the Fed could take a step short of that to help the economy. In January, the Fed promised to keep interest rates near zero until late 2014. One option the Fed has is extending that window. Fed officials believe that communicating their intentions to the markets can be helpful to the economy because it can have a soothing effect on financial markets.
Indeed, Bernanke said in his speech that there was some evidence that the Fed's unconventional monetary policy had contributed to gains in the stock market since equity prices hit their low point during the depths of the financial crisis in March 2009.
"This effect is potentially important because stock values affect both consumption and investment decisions," Bernanke said.
One worry that Bernanke discussed in his speech was the risk of lasting damage to the economy from a prolonged period of weakness in the job market. If joblessness remains too high for too long, it can become entrenched as workers who are unemployed for too long lose the opportunity to keep their skills up to date.