Fed Chief Vows to Protect the Economy

Federal Reserve Bank Chairman Ben Bernanke is seen through tree branches as he steps out on a balcony following his speech to the Federal Reserve Bank of Kansas City Economic Symposium, Friday, Aug. 31, 2007, at the Jackson Lake Lodge at Grand Teton National Park, Wyoming. (AP Photo/Ted S. Warren) (Ted S. Warren - AP)

"The markets are in a period of transition as participants reassess and reprice risk," the president said. "This process has been unfolding for some time, and it's going to take more time to fully play out. As it does, America's overall economy will remain strong enough to weather any turbulence."

Before the financial crisis erupted, the economy had a full head of steam, growing at a robust pace of 4 percent in the April-to-June quarter. But growth is expected to slow to half that pace in the current quarter and lose more speed in the final quarter of this year.

The unemployment rate, now at 4.6 percent, is expected to creep up to around 5 percent by the end of this year.

To guide the Fed in terms of what its next move will be, Bernanke said policymakers will pay especially close attention to the "timeliest indicators" as well as information gleaned from businesses and banks around the country. Economic data that was taken before the credit markets really seized up in August will be much less useful to policymakers to assess the country's economic health, he explained.

It was his first speech _ and his most extensive comments _ since the credit crunch took a turn for the worst in August. The carnage in credit markets and the turmoil on Wall Street pose the biggest test of Bernanke's skills since taking the Fed helm 19 months ago.

The Fed's most important interest rate, called the federal funds rate, has been at 5.25 percent for more than a year. Any reduction to this rate would mean lower interest rates for millions of people and businesses. That's why it is the Fed's main tool for influencing economic activity.

After listening to Bernanke's speech, John Makin, principal at Caxton Associates Inc., believed the Fed was moving "a tiny bit closer" to a rate cut.

In his remarks to a high-profile conference here on housing sponsored by the Federal Reserve Bank of Kansas City, Bernanke discussed some of the steps the Fed has taken so far to deal with the credit crunch.

While problems were triggered largely by heightened concerns about higher-risk "subprime" mortgages made to people with blemished credit histories or low incomes, Bernanke said "global financial losses have far exceeded even the most pessimistic projections of credit losses on those loans."

To stabilize wobbly markets, the Fed on Aug. 17 sliced its lending rate to banks by a half percentage point to 5.75 percent. It also has pumped billions of dollars into the financial system to help banks and other institutions get through the credit hump and carry out their business.

The Fed's main concern, however, is the extent to which these problems might short-circuit economic growth.

"The further tightening of credit conditions, if sustained, would increase the risk that the current weakness in housing could be deeper or more prolonged than previously expected, with possible adverse effect on consumer spending and the economy more generally," Bernanke said.