• Further alternative measures are likely to be implemented in the short-run
  • Fed will continue using its “credit easing” strategy and keep interest rates low subjet to economic outcomes

Bernanke highlighted a significant degree of uncertainty surrounding the economic outlook. "The global economy will recover, but the timing and strength of the recovery are highly uncertain." There was also an explicit recognition that former steps have not been enough to restore the financial meltdown, opening the door for additional measures in the near future. "The Fed's monetary easing has been reflected in significant declines in a number of lending rates, especially shorterterm rates, thus offsetting to some degree the effects of the financial turmoil on financial conditions. However, that offset has been incomplete, as widening credit spreads, more restrictive lending standards, and credit market dysfunction have worked against the monetary easing and led to tighter financial conditions overall.”

Going forward the Fed will modified its communication strategy to emphasize its long-term prospects and the fact that the recent adoption of an interest rate range and the use of the asset side of its balance sheet are transitory and subject to economic outcomes. "...the Committee should be able to influence longer-term interest rates by informing the public's expectations about the future course of monetary policy...It is important, however, that statements of this sort be expressed in conditional fashion--that is, that they link policy expectations to the evolving economic outlook. If the public were to perceive a statement about future policy to be unconditional, then long-term rates might fail to respond in the desired fashion should the economic outlook change materially."

The speech revealed that Fed stands for the use of the asset side of its balance sheet "credit easing" and that it has no intentions so far to focus on the quantity of banks' reserves. In addition, Bernanke also expressed the view that stabilizing the financial system should go hand in hand with the stimulus package. The Fed supports further capital injections in the short-term and a tighter regulation in the long-term.

Bottom Line. Bernanke’s speech confirms that interest rates will stay low for a long period of time and that FOMC is discussing the use of the right side of its balance sheet to deal with the financial turmoil and during the exit strategy. The remarks also emphasized that the Fed supports further capital injections to financial institutions –if conditions deteriorate-, a large fiscal policy response, significant changes to the regulatory framework and more international coordination.