By Steven K. Beckner

WASHINGTON (MNI) – Federal Reserve Chairman Ben Bernanke made clear
Wednesday, in wake of a downgrading of the Fed’s economic forecast, that
he is keeping all of his monetary policy options open.

Not only did Bernanke make clear that short-term interest rates
will be kept lower for an even longer “extended period” than previously
envisioned, he left the door open to further quantitative easing and
other measures.

The Fed’s policymaking Federal Open Market Committee, in its
revised three-year forecast released after two days of meetings, now
sees both slower growth and higher unemployment than previously hoped.
And Bernanke, in his second post-FOMC press conference, called it a
“significant” downgrade.

Bernanke said some of the slowdown is due to “temporary” factors,
but says some of it may be longer lasting.

He said the Fed will keep the key federal funds rate near zero “for
an extended period,” which he defined as “at least two or three” FOMC
meetings. That implies November or December as the very earliest the Fed
might raise short-term interest rates, possibly much later.

What’s more, Bernanke did not rule out more bond buying to push
down long-term rates if the economy should weaken further, although he
suggested there is still a high bar for a “QE3.”

The FOMC earlier announced, as expected, that the $600 billion QE2
will conclude on June 30, but said it will continue to reinvest
principle payments on securities in its portfolio to prevent its balance
sheet and bank reserves from shrinking. And it reaffirmed that the
federal funds rate will be kept near zero or “exceptionally low … for
an extended period.”

At his April 27 press conference, Bernanke defined “extended
period” as “at least two meetings. Wednesday he revised that definition
in light of forecast revisions that have GDP growing 2.7% to 2.9%
instead of 3.1% to 3.3% as in April and have unemployment ranging from
8.6% to 8.9% in the fourth quarter — up from 8.4% to 8.7%.

Bernanke said the term “extended period” is meant to be
“intentionally opaque” because “we don’t know exactly how long.”

Nonetheless he said, “I think the thrust of extended period is that
we believe we’re at least two or three meetings away from taking any
further action, and I emphasize ‘at least.'”

“But depending on how the economy evolves and inflation and
unemployment run, it could be significantly longer,” he added.

“It will depend on how the economic outlook changes,” Bernanke
elaborated. “If we get both improved job creation and inflation close to
our or even above our mandate consistent level then that would be a sign
that we need to consider beginning an exit process but we’re not there
at this point.”

“If the economic situation worsens and inflation remains low then
we wouldn’t begin an exit, and we wouldn’t change the language,” he went
on, adding that the FOMC would then keep rates low longer.

He said the FOMC “could” but has “chosen not to give a time frame
because … it’s our intention to monitor the economy, revise our
outlook … and make a judgment based on the incoming data. So we don’t
want to necessarily commit ourselves to a fixed time frame.”

The FOMC may even have to consider new monetary stimulus under
certain conditions.

Bernanke made clear that QE3 will not be an easy automatic
decision. He contrasted today’s climate of rising inflation and greater
average monthly job gains to the situation last August when falling
inflation and rising unemployment prompted him to signal QE2.

“The current outlook is significantly different than what we were
facing in August of last year,” he said. “We no longer have a deflation
risk. Inflation at the moment is above target; we expect it to fall, but
we’re not in a deflationary position, and the labor market has been
performing better than last year.”

“On top of that we have uncertainty now about how much of this
slow-down is temporary, how much is permanent, so that would also
suggest that we need a little bit of time to see what’s going to happen
and that would be useful in making policy decisions,” he said.

“We will continue to look at the outlook and act as appropriately
as the news comes in and the projections change,” he continued.

But having made those cautionary qualifications, Bernanke said, “We
do have a number of ways of acting, none of them without risk or costs.”

“We could, for example, do more securities purchases and structure
them in different ways; we could cut the interest on excess reserve that
we pay to banks and … (it could give) guidance on the balance sheet or
by perhaps even giving a fixed date to define extended period.”

“Those are ways that we could ease further if needed but, of
course, all of these things are somewhat untested, they have their own
costs, but we are prepared to take additional action, obviously, if
conditions warranted that,” Bernanke said.

Earlier Bernanke had said that the FOMC could decide to apply the
“extended period” language to the duration of an expanded balance sheet.

“We haven’t made any such commitment,” he said. “It’s true when we
allow the portfolio to run off rather than reinvesting, that would be a
first step, but we have not chosen to make any particular commitment
about the time frame, we will be looking at the outlook and trying to
assess when to take that step.”

MNI asked the Fed chief whether he and his colleagues have in mind
any statistical trigger, such as a certain unemployment or inflation
rate, at which it would begin the exit process and whether it would make
sense to announce such a trigger.

His reply suggested there is no such trigger even internally and
that one is not likely to be adopted, much less announced.

“It’s impossible to create a statistical trigger because we have
currently 17 independent members of the FOMC, each having his or her
view on the outlook of the efficacy of monetary policy and on the risks
to inflation and unemployment,” he said.

“So we don’t have any such formula,” he continued. “We have staff
producing various scenarios which give an indication of, given their
projections of where the most likely points for beginning of an exit
would be.” He added that even his own projections are “tentative,
depending on a lot happening and depending on the forecast evolving as
expected, and certainly it’s subject to change as new information comes
in.”

Bernanke was clearly disappointed, if not discouraged, by the turn
the economy has taken in recent months.

Although the FOMC expects a pick-up in growth in the second half
and next year, accompanied by subsiding inflation, Bernanke called the
slow pace of job creation as “very frustrating” and said “we project
unemployment to come down painfully slowly.”

The FOMC has marked down its growth forecast for next year by half
a percentage point and raised its unemployment projection by three
tenths.

Echoing the FOMC statement, Bernanke said he believes the slowdown
in GDP growth to 1.8% in the first quarter, which has evidently
continued into the second quarter, “partly reflects factors that are
likely to be temporary.” He cited the impact of higher food and energy
prices and the aftermath of the earthquake in Japan.

But he confessed fears that not all of the slump is temporary.

“Part of it is temporary and some is lasting,” he said. “We do
believe that growth is going to pick up going into 2012 but at a slower
pace than in April. We don’t have a precise read on why this slower pace
of growth is persisting.

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** Market News International Washington Bureau: 202-371-2121 **

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