Uneasy Money

Fed Chairman Ben Bernanke testified before the Senate Banking Committee today, presenting the Fed’s semiannual Monetary Policy Report to the Congress; he said nothing. That is to say, he said nothing that would provide any insight into the reasoning that is guiding him and his colleagues on the FOMC in their decisions about monetary policy.

Bernanke dryly presented the basic facts about the current status of the US economy and what he, somewhat laughably, refers to as a recovery. But even he acknowledges its weakness, while disclaiming any responsibility for that weakness.

However, those more hermeneutically astute than I in teasing out the hidden or obscure meanings from Bernanke’s pronouncements found in his reference to the risk of deflation a hint that Bernanke and other like-minded members of the FOMC are poised to launch a new round of quantitative easing, but are waiting for more evidence of deflation risk before inviting the criticism of opponents of monetary easing (both inside and outside the Fed). That is the optimistic spin on Bernanke’s testimony.

Here is the semantic commentary of hermeneutist Kathy Lynn.

Fed Chairman Ben Bernanke’s testimony before the Senate triggered widespread volatility in currencies. When Bernanke first spoke, the U.S. dollar soared against all the major currencies because Quantitative Easing was not mentioned as a possible tool to stimulate the economy. Based on his prepared remarks, Bernanke is clearly frustrated with the pace of recovery, but he deliberately stopped short of mentioning more QE, because he knew that doing so would spark speculation of action in August, a decision that they were not prepared to make.

However, as the question and answer session began, it quickly became clear that Bernanke would not be able to avoid discussing his plans for monetary policy, and more specifically Quantitative Easing. About 20 minutes into the Q&A session, Bernanke admitted that they have a range of possibilities for more easing, including more QE, using the discount window and cutting the interest rate on excess reserves. Their challenge right now is figuring out whether the “loss of momentum in the economy is enduring.” However, as the evidence shows, there is “frustratingly slow” progress on joblessness and a modest risk of deflation. This means that while August is out, QE3 is still an option for September.

When the dust settled, investors realized that nothing Bernanke said today removed the risk of additional stimulus and for the currency market this means there is no justification for a dollar rally. If anything, Bernanke’s concerns about deflation should tell us that the central bank remains in easing mode. FOMC member Pianalto spoke after Bernanke’s testimony, and she confirmed that the economy needs “highly accommodative monetary policy.”

Bernanke’s noncommittal comments on QE3 are consistent with the central bank’s strategy of biding their time until there is unambiguous evidence that another round of asset purchases is necessary. Two more months of job growth less than 100k and another month of negative retail sales could do the trick.

I hope that she’s right.  And perhaps that is why the S&P 500, after falling about 8 points in the first hour of trading, later recovered to close up about 10 point on the day.

Perhaps, in view of recent discussions about the Hodrick-Presoctt filter, a useful question to put to Bernanke at the press conference after the next FOMC meeting would be: “Chairman Bernanke, what is your estimate of the current gap between current output and potential output?” If he acknowledges the existence of a gap, a follow-up question might:  “Given the Fed’s dual mandate, what obligation, if any, do you believe that the FOMC has to take action to reduce that gap?”