Bernanke's speech -- selected highlights Scott Brown, Economist

Monday, November 16 (12:15 p.m.)

Bernanke Speech (“On the Outlook for the Economy and Policy”)

“When I last spoke at the Economic Club of New York a little more than a year ago, the financial crisis had just taken a much more virulent turn. In my remarks at that time, I described the extraordinary actions that policymakers around the globe were taking to address the crisis, and I expressed optimism that we had the tools necessary to stabilize the system.

Today, financial conditions are considerably better than they were then, but significant economic challenges remain. The flow of credit remains constrained, economic activity weak, and unemployment much too high. Future setbacks are possible. Nevertheless, I think it is fair to say that policymakers' forceful actions last fall, and others that followed, were instrumental in bringing our financial system and our economy back from the brink. The stabilization of financial markets and the gradual restoration of confidence are in turn helping to provide a necessary foundation for economic recovery. We are seeing early evidence of that recovery: Real gross domestic product (GDP) in the United States rose an estimated 3-1/2 percent at an annual rate in the third quarter, following four consecutive quarters of decline. Most forecasters anticipate another moderate gain in the fourth quarter.

How the economy will evolve in 2010 and beyond is less certain. On the one hand, those who see further weakness or even a relapse into recession next year point out that some of the sources of the recent pickup--including a reduced pace of inventory liquidation and limited-time policies such as the "cash for clunkers" program--are likely to provide only temporary support to the economy. On the other hand, those who are more optimistic point to indications of more fundamental improvements, including strengthening consumer spending outside of autos, a nascent recovery in home construction, continued stabilization in financial conditions, and stronger growth abroad.

My own view is that the recent pickup reflects more than purely temporary factors and that continued growth next year is likely. However, some important headwinds--in particular, constrained bank lending and a weak job market--likely will prevent the expansion from being as robust as we would hope. I'll discuss each of these problem areas in a bit more detail and then end with some further comments on the outlook for the economy and for policy…

The outlook for inflation is also subject to a number of crosscurrents. Many factors affect inflation, including slack in resource utilization, inflation expectations, exchange rates, and the prices of oil and other commodities. Although resource slack cannot be measured precisely, it certainly is high, and it is showing through to underlying wage and price trends. Longer-run inflation expectations are stable, having responded relatively little either to downward or upward pressures on inflation; expectations can be early warnings of actual inflation, however, and must be monitored carefully. Commodities prices have risen lately, likely reflecting the pickup in global economic activity, especially in resource-intensive emerging market economies, and the recent depreciation of the dollar. On net, notwithstanding significant crosscurrents, inflation seems likely to remain subdued for some time.

The foreign exchange value of the dollar has moved over a wide range during the past year or so. When financial stresses were most pronounced, a flight to the deepest and most liquid capital markets resulted in a marked increase in the dollar. More recently, as financial market functioning has improved and global economic activity has stabilized, these safe haven flows have abated, and the dollar has accordingly retraced its gains. The Federal Reserve will continue to monitor these developments closely. We are attentive to the implications of changes in the value of the dollar and will continue to formulate policy to guard against risks to our dual mandate to foster both maximum employment and price stability. Our commitment to our dual objectives, together with the underlying strengths of the U.S. economy, will help ensure that the dollar is strong and a source of global financial stability.

The Federal Open Market Committee continues to anticipate that economic conditions, including low rates of resource utilization, subdued inflation trends, and stable inflation expectations, are likely to warrant exceptionally low levels of the federal funds rate for an extended period. Of course, significant changes in economic conditions or the economic outlook would change the outlook for policy as well. We have a wide range of tools for removing monetary policy accommodation when the economic outlook requires us to do so, and we will calibrate the timing and pace of any future tightening to best foster maximum employment and price stability”

Bottom Line: The Fed Chairman spends most of his time here discussing the tightness in bank lending and the labor market’s weakness. The comments on the dollar are unusual in that the exchange rate is the Treasury’s responsibility, not the Fed’s. However, a weaker dollar has some inflation implications, which the Fed has to consider. Still, Bernanke argues that the Fed can play a key role in supporting the dollar by helping to ensure strong U.S. economic fundamentals. Bernanke’s economic view is cautiously optimistic, as expected, but reading between the lines, the Fed is unsure how economic conditions will evolve over the next several quarters. Bank lending and the labor market will be key.

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Scott J. Brown

SVP - Chief Economist

Raymond James & Associates