Fed chairman signals another interest rate cut

By Jeannine Aversa
Associated Press
via Yahoo News
Wednesday, February 27, 2008

http://news.yahoo.com/s/ap/20080227/ap_on_bi_ge/bernanke_congress

Federal Reserve Chairman Ben Bernanke warned Congress that the nation is in for a period of sluggish business growth and sent a fresh signal Wednesday that interest rates will again be lowered to steady the teetering economy.

"The economic situation has become distinctly less favorable" since the summer, the Fed chief told the House Financial Services Committee.

Since Bernanke's last such comprehensive assessment last summer, the housing slump has worsened, credit problems have intensified and the job market has deteriorated. Bernanke said that the confluence of these factors has turned people and businesses alike toward a more cautious attitude toward spending and investment. This, he said, has further weakened the economy.

Incoming barometers continue to "suggest sluggish economic activity in the near term," Bernanke told lawmakers. At the same time, he added, the Fed must keep a close eye on inflation given the recent run-up in energy and other prices paid by consumers and businesses.

For now, though, the No. 1 battle is shoring up the economy.

Bernanke pledged anew to slice a key interest rate to help the wobbly economy, which many fear is on the verge of a recession -- or possibly has already toppled into one.

The Fed "will act in a timely manner as needed to support growth and to provide adequate insurance against downside risks," Bernanke said, hewing closely to assurances he offered earlier this month.

The central bank, which started lowering a key interest rate in September, has recently turned much more aggressive. Over the span of just eight days in January, it slashed rates by 1.25 percentage points -- the biggest one-month reduction in a quarter century. Economists and Wall Street investors predict the Fed will cut rates again at its next meeting on March 18.

There are dangers that the economy will weaken even further. "The risks include the possibilities that the housing market or labor market may deteriorate more than is currently anticipated and that credit conditions may tighten substantially further," Bernanke cautioned.

As Bernanke began his first day of back-to-back appearances on Capitol Hill to discuss the economy, there was more bad news on the housing and manufacturing fronts.

-- Sales of new homes fell in January for a third straight month, pushing activity down to the slowest pace in nearly 13 years, the Commerce Department reported. The median price of a new home dropped to the lowest level in more than three years.

-- And, orders to U.S. factories for big-ticket manufactured goods dropped in January by the largest amount in five months.

On Wall Street, skittish investors sent the Dow Jones industrials down in morning trading.

The Fed chief was hopeful that previous rate reductions along with a $168 billion stimulus package of tax rebates for people and tax breaks for business will energize the economy in the second half of this year.

Even as the Fed tries to shore up the economy, it must remain mindful of inflation pressures, Bernanke said.

Record high oil prices -- topping $100 a barrel -- are pushing consumer prices upward. That's shrinking paychecks, and with people feeling less well off because the values of their homes have dropped, consumer spending "slowed significantly" toward the end of the year, the Fed chief said.

The Fed forecasts that inflation will moderate this year compared with last year. But the Fed's recently revised inflation projection of an increase between 2.1 percent and 2.4 percent is higher than its old forecast from the fall.

Bernanke said there are "slightly greater upside risks" that inflation could turn out to be higher than the Fed currently anticipates, given the recent run-up in energy and food prices.

"Should high rates of overall inflation persist, the possibility also exists that inflation expectations could become less well anchored," Bernanke warned. If people, companies and investors think inflation will move higher, they will act in ways that could turn inflation even worse, a sort of self-fulfilling prophecy. And Bernanke said that could complicate the Fed's job of trying to nurture economic growth while also keeping inflation under control.

With the economy slowing and prices rising, fears are growing that the country could be headed for a bout of stagflation, a dangerous economic brew not seen since the 1970s.

The Fed for now is focused on bolstering the economy through interest rate reductions. To combat inflation, the Fed would raise rates.

At some point over the course of this year, the Fed will need to "assess whether the stance of monetary policy is properly calibrated" to foster the Fed's objectives of price stability "in an environment of downside risks to growth," Bernanke said.

* * *

GATA is grateful for financial contributions, which
are federally tax-deductible in the United States.