Federal Reserve Chairman Ben S. Bernanke on Tuesday said the central bank’s surprise decision to keep pumping money into the economy this fall has strengthened its credibility, and he reaffirmed his view that the controversial stimulus program is working.
In a speech before the National Economics Club in Washington, Bernanke acknowledged that communication broke down between the Fed and the markets over the summer. The central bank has been buying $85 billion a month in bonds since September 2012 in hopes of bringing down long-term interest rates. The Fed tied the program to the health of the labor market, and investors have been watching closely for any signs that the central bank might be ready to scale back its stimulus.
In June, Bernanke indicated that the central bank could start pulling back its bond-buying program this year. The statement sent Wall Street into a tailspin as investors assumed the Fed’s broader easy-money stance could soon shift. Bond yields rose, sending interest rates up — exactly the opposite of what the Fed had hoped to achieve.
“It was neither welcome nor warranted,” Bernanke said in his speech. “This change in expectations did not correspond to any actual lessening in the [Fed’s] commitment or intention to provide the high degree of monetary accommodation needed to meet its objectives.”
The Fed caught the markets off guard again in September when it decided to keep its stimulus program in place. Bond markets rallied on the decision, causing yields and interest rates to moderate. Bernanke said Tuesday that the move underscored the Fed’s commitment to the economic recovery — even if that requires surprising investors. Financial conditions now show a “pattern more consistent with guidance,” Bernanke said.
The miscommunication presents a unique challenge for the central bank as it increasingly relies on unconventional tools to rejuvenate the economy. Among them is the ability to shape public expectations about the Fed’s future actions, a strategy that the central bank calls “forward guidance.” Interest rates would be lower now, the theory goes, if investors believe that the Fed will keep its easy-money policies in place in the future.
But the Fed does not speak with one voice. Its top ranks include 19 officials from across the country who do not always agree — and those internal debates are increasingly aired publicly. Just a day before Bernanke’s speech, Philadelphia Fed President Charles Plosser called for a limit on the size of the central bank’s bond-buying program, a proposal that Bernanke has repeatedly rejected.
On Tuesday, Bernanke reiterated that the program will continue to depend on the state of the economy and not on a predetermined course. He also expressed hope that the program would still achieve its goals.
When the Fed’s stimulus ends, he said, “it will likely be because the economy has progressed sufficiently.”
In addition to tying its bond-buying program to the health of the labor market, the Fed also has established criteria for raising short-term interest rates. It has promised to keep rates near zero at least until the unemployment rate hits 6.5 percent or inflation rises above 2.5 percent.
On Tuesday, Bernanke hinted that short-term rates would likely remain low even after unemployment reaches the Fed’s thresholds. He specified for the first time other measures of the labor market’s health that officials may consider, such as job growth, labor force participation and the rates of hiring and separation.
“So long as inflation remains well behaved, the [Fed] can be patient in seeking assurance that the labor market is sufficiently strong before considering any increase,” he said.
Bernanke has made increasing Fed transparency one of the hallmarks of his eight-year tenure. He has instituted regular news conferences, conducted town-hall meetings and even given lectures to undergraduate students on the financial crisis.
“Policy transparency remains an essential element of the Federal Reserve’s strategy for meeting its economic objectives,” Bernanke said.