The Fed prepares to hit pause

Bernanke strongly suggested that the central bank is going to keep rates steady for the foreseeable future

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By Paul R. La Monica, editor at large


NEW YORK ( -- Federal Reserve chairman Ben Bernanke all but closed the door on the chances of any more rate cuts during the next few months.

Speaking before the International Monetary Conference in Barcelona today, Bernanke said that "for now, policy seems well positioned to promote moderate growth and price stability over time."

Translation: Interest rates are going to remain at 2% for a while. Get used to it.

The Fed has slashed interest rates seven times since last September to make sure that the credit crunch roiling big banks did not become a full-blown panic.

And Bernanke sounded fairly confident that he believed the Fed accomplished just that.

"Our decisive policy actions were premised on the view that a more gradual reduction in short-term rates could well have failed to contain the financial and economic problems confronting us," he said.

Still, Bernanke stopped short of putting up the equivalent of a Mission Accomplished sign. Although Bernanke said that "the functioning of financial markets has improved of late," he also noted that "conditions remain strained and some key funding and securitization markets have shown only tentative signs of recovery."

But make no mistake. Bernanke strongly suggested that the Fed has done all it can to clear up some of the muck in the credit markets and that it won't cut rates much further even if that means that credit remains tight for a bit.

The Fed cut its key federal funds rate to 1% following the 2001 recession and some market observers say that these low rates created the easy money environment that got banks and borrowers into the subprime mess that the Fed now has to clean up.

It would appear that Bernanke would not want to make the same mistake.

"For the most part, the Fed went too low last time," said Matthew Lloyd, chief investment strategist of Advisors Asset Management. "The Fed has been active in dealing with the credit crunch but there are not many more arrows left in its quiver."

What's more, Bernanke also seems to have gotten the message that more rate cuts may cause irreparable harm to the value of the dollar.

The moribund greenback has been blamed by some economists for helping to lead to the surge in oil prices and other commodities, which in turn have led to rising prices of food and gas.

"The challenges that our economy has faced over the past year or so have generated some downward pressures on the foreign exchange value of the dollar, which have contributed to the unwelcome rise in import prices and consumer price inflation," Bernanke said.

Although the dollar has rallied against the euro recently, it still remains relatively weak against that currency since European central banks have largely left their interest rates unchanged while the Fed cut rates.

But Bernanke took the unusual step for a Fed chairman of not only directly addressing the dollar in his speech but pledging to do something about it.

He said that the Fed is "attentive to the implications of changes in the value of the dollar for inflation and inflation expectations" and added that "the Federal Reserve's commitment to both price stability and maximum sustainable employment and the underlying strengths of the U.S. economy...will be key factors ensuring that the dollar remains a strong and stable currency."

Whoa. That sounds like a man that is committed to stopping the dollar's decline. Investors took notice. The dollar rose against the euro following the release of Bernanke's remarks.

"The speech may sound like the Fed's version of 'strong dollar policy', a mantra that has long emerged from the US Treasury with little effect in the market," wrote Ashraf Laidi, chief currency strategist with brokerage CMC Markets US, in a note to clients this morning.

"The fact these dollar supporting remarks have emerged from an institution with the means to control interest rates is somewhat an unprecedented in the current Fed and bears the signs of the central bank's bid to support the US currency," Laidi added.

To be sure, I don't think that this speech shows that Bernanke has overnight turned into an inflation hawk. It doesn't appear that he's advocating interest rate hikes anytime soon, even though some traders now expect the Fed to raise rates before the year is out.

But it sounds like Bernanke's a lot more concerned about the greenback and commodity inflation now than he is with the balance sheets of investment banks. And for consumers paying the price of a weak dollar at the supermarket and gas pump, that's a good thing.

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