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Bernanke's latest comments

(Editorial comments and underlinings are from investment strategist, David Rosenberg. Rosenberg argues that QE2, now a virtual certainty--but probably not starting until after the elections--is already priced into the Market. I humbly disagree, but only time will tell.)




• Nice U.S. economic data, but shame about the outlook: retails sales for September and manufacturing activity in October came in better than expected, but the economy is not out of the woods yet… consumer sentiment still at recessionary levels
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Interesting insights from the Fed Chairman: in his speech today in Boston, Bernanke provided a valuable update on his views regarding the economy, deflation and non-conventional policy responses
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Deflation risks in the U.S. still intact
• A double-dip signpost? The Ceridian-UCLA Pulse of Commerce Index, a real-time measure of the flow of U.S. factories, retailers and consumers, saw its first back-to-back decline since the economy was knee-deep in recession.

Here we are supposedly more than a year into a statistical recovery and yet the cumulative negative financial effects from underemployment punctuated by continuing turmoil in the housing market have dragged consumer confidence to levels that are consistent with overall economic contraction. This could well be the negative for the fourth quarter. The economy is not yet out of the woods, and if you would like a more detailed assessment of why that is the case, just go and read Ben Bernanke’s grim assessment of the macro outlook in the speech he just delivered in Boston (more on this below).

INTERESTING INSIGHTS FROM BERNANKE
Fed Chairman Bernanke provided a valuable update on his views regarding the economy, deflation and non-conventional policy responses. In a nutshell, the Fed’s base case is still for economic recovery, but one that falls short of redressing the massive amount of slack in the U.S. labour market. Most of the speech actually revolves around the unacceptably high jobless rate and the deflation risks that entails. He stated that it is perfectly appropriate for the Fed to re-engage in quantitative easing, and is convinced that QE1 was a success. However, Bernanke also discussed the potential costs involved and hinted that the process would evolve cautiously, which may have been a shot across the bow for those pundits expecting a ‘shock and awe’ $500 billion or even a trillion dollar asset-purchase program announced at the November 2-3 FOMC meeting.
Here are some select key excerpts from Bernanke’s speech — the underlining is ours for emphasis:
“Although output growth should be somewhat stronger in 2011 than it has been recently, growth next year seems unlikely to be much above its longer-term trend. If so, then net job creation may not exceed by much the increase in the size of the labor force, implying that the unemployment rate will decline only slowly. That prospect is of central concern to economic policymakers, because high rates of unemployment — especially longer-term unemployment--impose a very heavy burden on the unemployed and their families. More broadly, prolonged high unemployment would pose a risk to consumer spending and hence to the sustainability of the recovery.

The negative financial effects from under-employment, punctuated by continuing turmoil in the housing market, have dragged U.S. consumer confidence to levels that are consistent with overall economic contraction

The sustainable rate of unemployment may vary over time, and estimates of its value are subject to considerable uncertainty. Nonetheless, with an actual unemployment rate of nearly 10 percent, unemployment is clearly too high relative to estimates of its sustainable rate. Moreover, with output growth over the next year expected to be only modestly above its longer-term trend, high unemployment is currently forecast to persist for some time.
Overall, my assessment is that the bulk of the increase in unemployment since the recession began is attributable to the sharp contraction in economic activity that occurred in the wake of the financial crisis and the continuing shortfall of aggregate demand since then, rather than to structural factors. [ed note: this is important — Bernanke does not buy into the view that there has been a meaningful structural reduction in the economy’s non-inflationary growth path].
The significant moderation in price increases has been widespread across many categories of spending, as is evident from various measures that exclude the most extreme price movements in each period. For example, the so-called trimmed mean consumer price index (CPI) has risen by only 0.9 percent over the past 12 months, and a related measure, the median CPI, has increased by only 0.5 percent over the same period. [ed note: this comment is a retort to those who believe that the deceleration in core inflation has been a one-trick pony owing to the decline in the rent component].
Given the Committee's objectives, there would appear — all else being equal — to be a case for further action. However, as I indicated earlier, one of the implications of a low-inflation environment is that policy is more likely to be constrained by the fact that nominal interest rates cannot be reduced below zero. Indeed, the Federal Reserve reduced its target for the federal funds rate to a range of 0 to 25 basis points almost two years ago, in December 2008. Further policy accommodation is certainly possible even with the overnight interest rate at zero, but non-conventional policies have costs and limitations that must be taken into account in judging whether and how aggressively they should be used.
For example, a means of providing additional monetary stimulus, if warranted, would be to expand the Federal Reserve's holdings of longer-term securities. Empirical evidence suggests that our previous program of securities purchases was successful in bringing down longer-term interest rates and thereby supporting the economic recovery. A similar program conducted by the Bank of England also appears to have had benefits.

(Fed Chairman Bernanke does not buy into the view that there has been a meaningful structural reduction in the economy’s non-inflationary growth path.)

However, possible costs must be weighed against the potential benefits of non-conventional policies. One disadvantage of asset purchases relative to conventional monetary policy is that we have much less experience in judging the economic effects of this policy instrument, which makes it challenging to determine the appropriate quantity and pace of purchases and to communicate this policy response to the public. These factors have dictated that the FOMC proceed with some caution in deciding whether to engage in further purchases of longer-term securities.
Despite an equity market binge, a weakening USD, an economy that seemingly avoided a double-dip recession last quarter, and a renewed boom in commodity prices, pricing power in the broad retail sector remains elusive
Of course, in considering possible further actions, the FOMC will take account of the potential costs and risks of non-conventional policies, and, as always, the Committee’s actions are contingent on incoming information about the economic outlook and financial conditions.”


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