July 14 (Bloomberg) -- Federal Reserve Chairman Ben S. Bernanke signaled the central bank has more tools for monetary easing should the economy weaken and stymie efforts to generate jobs for 14.1 million unemployed Americans.
The Fed could pledge to keep the main interest rate at a record low and hold its balance sheet at $2.87 trillion for a longer period, Bernanke said yesterday in congressional testimony. It could also buy more bonds, increase the average maturity of its securities holdings or cut the interest rate it pays banks on their reserves, he said.
“We have to keep all the options on the table,” Bernanke said in semi-annual testimony to the House Financial Services Committee. The “economy still needs a good deal of support.”
After predicting the economy will strengthen during the second half of 2011, Bernanke left open the door to further stimulus by saying that sagging home prices, hard-to-get loans and 9.2 percent unemployment pose long-term obstacles to growth. Stocks rose and the dollar weakened after Bernanke’s comments.
“If we see another month or two of weak jobs data, then that will be a green light for further monetary stimulus,” said Gregory Daco, U.S. economist at IHS Global Insight in Lexington, Massachusetts.
The Fed chief is scheduled to testify today to the Senate Banking Committee beginning at 10 a.m. in Washington.
Bernanke also told Congress yesterday that high U.S. budget deficits, if not curbed, could slow the economy and prompt an increase in interest rates. At the same time, he said Congress needs to be a “little bit cautious” about “sharp cuts” in federal spending in the near term because they could hurt the recovery.
Hours after he spoke, Moody’s Investors Service put the U.S. under review for a credit rating downgrade as talks to raise the government’s $14.3 trillion debt limit stalled, adding to concern that political gridlock will lead to a default. Bernanke, in his testimony, said a default would be a “major crisis.”
The Standard & Poor’s 500 Index rose 0.3 percent to 1,317.72 as of the 4 p.m. close of trading in New York, trimming its gain from 1.4 percent.
“The possibility remains that the recent economic weakness may prove more persistent than expected and that deflationary risks might reemerge, implying a need for additional policy support,” Bernanke said. The Fed “remains prepared to respond should economic developments indicate that an adjustment of monetary policy would be appropriate.”
At the same time, Bernanke said there is also the possibility that inflation could pick up in a way that would require the Fed to begin tightening credit and exit its record monetary stimulus.
The “hurdle remains very high” for a new dose of bond purchases in part because inflation expectations have moved up, said Dan Greenhaus, chief global strategist at BTIG LLC in New York.
Break-even inflation rates calculated from yield differences on 10-year Treasury notes and inflation-indexed U.S. government bonds of similar maturity stood at 2.3 percent yesterday. That’s up from 1.62 percent when Bernanke signaled the possibility of a second round of bond purchases at his Aug. 27 speech last year in Jackson Hole, Wyoming.
Fed policy makers disagreed on whether additional monetary stimulus will be needed even if the outlook for economic growth remains weak, minutes of their meeting last month showed. Some members said a further slowdown in growth would signal a need for additional support, while others said the growing risk of inflation would require withdrawing stimulus sooner than currently anticipated.
Federal Reserve Bank of Dallas President Richard Fisher underscored those differences in comments to reporters after a speech yesterday.
“We’ve exhausted our ammunition,” Fisher said in Dallas. He holds a vote this year on the policy-setting Federal Open Market Committee.
Bernanke’s comments were his first since a government report on July 8 showed employers added 18,000 jobs in June, less than the most pessimistic forecast in a Bloomberg News survey of economists. Bernanke said “disappointing” job growth in May and June was partly a result of temporary effects, such as high energy prices.
He predicted that the pace of economic expansion would accelerate above 3 percent in the second half of 2011. That compares with growth “in the vicinity of 2 percent or maybe even a little bit less,” in the first half of this year, which is too slow to reduce unemployment, Bernanke said.
‘Uncertainties’ to Outlook
Bernanke acknowledged there are “uncertainties” in both directions -- about the strength of the economic recovery and the prospects for inflation -- over the medium term. He also reiterated his view that inflation won’t be a problem because gasoline and food prices, which had surged earlier this year, are now moderating.
Inflation, excluding food and energy, will be slightly higher this year, between 1.5 percent and 1.8 percent, Fed officials predicted last month. That’s up from a range of 1.3 percent to 1.6 percent under the forecast in April.
“As we go forward, we’re going to obviously want to make sure that as we support the recovery that we also keep an eye on inflation,” Bernanke said.
Unemployment by the end of the year will decline to between 8.6 percent and 8.9 percent, according to the Fed’s forecast. That’s higher than the range of 8.4 percent to 8.7 percent under the previous forecast.
--With assistance from Craig Torres in Washington and Vivien Lou Chen in Dallas. Editors: James Tyson, Christopher Wellisz
To contact the reporter on this story: Jeannine Aversa in Washington at firstname.lastname@example.org; Joshua Zumbrun in Washington at email@example.com