WASHINGTON: The Federal Reserve will act "to limit the adverse effects" of the mortgage crisis on the economy, chief Ben Bernanke said Friday as the White House unveiled plans to aid homeowners facing foreclosure. Bernanke, in his first speech since global markets were roiled by fears of a liquidity crisis stemming from the housing slide, said the Fed wants to avoid "further tightening of credit conditions," which could have "adverse effects on consumer spending and the economy more generally."
Markets viewed the chairman's remarks as opening the door to a potential rate cut that could lower overall borrowing costs and stimulate frozen credit markets even though Bernanke said the Fed's mission was not "to protect lenders and investors from the consequences of their financial decisions."
"The (Fed) continues to monitor the situation and will act as needed to limit the adverse effects on the broader economy that may arise from the disruptions in financial markets," Bernanke said.
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Bernanke's speech "does not offer explicit steps or promises from the Fed, but his statements validate expectations the Fed will do what is necessary to restore order and liquidity in the capital markets," said Stephen Gallagher, economist at Societe Generale in New York.
"That includes a cut in the Fed funds rate if necessary, on September 18."
Meanwhile President George W. Bush outlined a series of actions aimed at averting foreclosure for distressed homeowners, many of whom are facing a crisis as adjustable-rate mortgages are reset to reflect higher rates.
One measure announced by Bush would allow homeowners with a good credit history but cannot afford their current payments to refinance into federally insured mortgages.
He also encouraged lenders to try to work out payment arrangements with financially strapped homeowners and urged Congress to pass additional relief measures.
However analysts said the measures would only affect a small fraction of homeowners in trouble.
Bernanke, speaking at a Fed symposium in Jackson Hole, Wyoming, did not directly address the question of the next move on interest rates, but appeared to be aiming to allay concerns that the Fed would do nothing to prevent a broader credit crunch that drags down the economy.
The bank has kept its main federal funds rate at 5.25 percent for over a year but on August 17 cut the discount rate for direct loans from central bank a half-point to 5.75 percent in an effort to promote credit flows.
He said the Fed's moves in the past few weeks were to "address unusual strains in money markets."
Even if banks do not borrow directly from the Fed, "the knowledge that liquidity is available should help alleviate concerns about funding that might otherwise constrain" lending, Bernanke said.
Bernanke said incoming reports suggest the world's biggest economy "continued to expand at a moderate pace" as the third quarter began.
But he noted that the outlook has become somewhat murkier in view of the financial market turmoil of recent weeks.
"In light of recent financial developments, economic data bearing on past months or quarters may be less useful than usual for our forecasts of economic activity and inflation," he said.
Data released Thursday showed the US economy grew at a solid 4.0 percent pace in the April-June quarter, but analysts say they expect a sharp slowdown in view of the credit tightening.
Bernanke cited the recent "financial stress" which has spread from mortgage markets to other financial instruments including commercial paper used by companies for short-term loans.
Because of the tight credit conditions, Deutsche Bank economists Joseph LaVorgna and Carl Riccadonna said in a note to clients that the Fed is likely to cut its base rate by a quarter-point in September and by the same amount in October.
"The current medicine (of easier discount window lending) has not worked," they said.
"The asset-backed commercial paper market has remained completely frozen. If this situation continues a much broader credit crunch could develop, which would have serious negative consequences for the economy. The Fed will not take this chance."
- AFP /ls
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