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US Fed has tools to fight recession: Fed Chairman

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Former Federal Reserve Chairman Ben Bernanke delivered what he called “a relatively upbeat” assessment of the US central bank’s ability to fight the next recession. While the Fed has limited room to cut short-term interest rates because they're already so low, Bernanke argued that quantitative easing and forward guidance could provide enough extra punch to combat a future economic contraction.

“The new policy tools are effective,” Bernanke said in a blog post summarising his address to the American Economic Association’s annual meeting on Saturday.

“Quantitative easing and forward guidance can provide the equivalent of about 3 additional percentage points of short-term rate cuts.” Bernanke said the Fed should also consider adopting some of the tools employed by other central banks, including yield curve control out to two years and funding for lending programs.

He counseled the Fed against ruling out the possibility of pushing short-term interest rates below zero — something which many current policy makers have come very close to doing in their public remarks. No matter what approach the Fed adopts to fight future recessions, longer-term yields will probably spend extended periods of time at zero or below, according to Bernanke, now a Distinguished Fellow at the Brookings Institution in Washington. That may pose risks to financial stability.

“Monetary easing does work in part by increasing the propensity of investors and lenders to take risks,” Bernanke said.

“Vigilance and appropriate policies, including macroprudential and regulatory policies, are essential.” His estimate of the impact of QE and forward guidance assumes that the Fed adopts a policy of promising not to raise rates from zero until inflation reaches 2 per cent.

While policy makers are considering changes in their approach to achieving their inflation goal, it's not clear they would go as far as that.




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