Bernanke defends Fed policy before skeptical lawmakers

WASHINGTON Wed Nov 17, 2010 3:57pm EST

WASHINGTON (Reuters) - Under withering fire at home and abroad, Federal Reserve Chairman Ben Bernanke paid a visit to Capitol Hill on Wednesday to try to tamp down lawmakers' anger over the central bank's bond-buying program.

The program announced on November 3 has triggered far-flung criticism, from charges overseas that it is a plot to drive the dollar's value down, to home-grown allegations that it sows the seeds for inflation and outstrips the Fed's authority.

The Fed said it will buy an additional $600 billion (377 billion pounds) of Treasury bonds, a move known as quantitative easing in which the central bank is effectively printing new money.

The intent is to drive interest rates lower to tempt businesses into investing and consumers into spending in hope that will spur a tepid recovery into a faster, job-creating pace and stop already low inflation from falling further.

But in recent days, Fed officials have been forced to try to put a protective cordon around Bernanke as Republican lawmakers, reinvigorated by midterm election wins, have mounted a vigorous assault against the new policy.

After Bernanke left the Hill, the top four Republicans in Congress launched a fresh broadside, arguing the new program may imperil the dollar, spawn inflation and generate asset price bubbles.

"Perhaps most damaging, we believe that QE2 (the second round of quantitative easing) is giving the impression that the Federal Reserve will keep making new and different attempts to boost the short-term prospects for the economy," Senate Republican leader Mitch McConnell, House Republican Leader John Boehner, Senator John Kyl and Rep. Eric Cantor said in a letter to Bernanke.

Just a day earlier, two influential Republicans had said they wanted to rewrite the Fed's mandate to make the central bank focus solely on inflation. Currently, it is required to pursue both price stability and full employment.

NO SECRETS IN WASHINGTON

Bernanke's closed-door briefing of Senate Banking Committee members marked a new stage in the Fed's defense of its monetary easing campaign. Already, two top officials -- Fed Vice Chairman Janet Yellen and New York Federal Reserve Bank President William Dudley -- had granted rare on-the-record interviews to make the Fed's case.

"The purpose of it is not to push down the dollar. This should not be regarded as some sort of chapter in a currency war," Yellen told the Wall Street Journal. An adviser to China's central bank said earlier this month that unbridled printing of dollars was a key risk for the global economy.

Two other Fed officials speaking on Wednesday -- Boston Fed President Eric Rosengren and St. Louis Fed President James Bullard -- also defended the plan as a helpful way to stir job growth and put a floor under inflation.

Rosengren estimated the policy would likely cut half a percentage point from the U.S. unemployment rate, adding the equivalent of 700,000 jobs, by 2012. The jobless rate was 9.6 percent in October.

After the briefing with Bernanke, lawmakers who spoke to reporters laid out the broad elements of the Fed chief's defense, saying he had expressed concerns about the potential for a broad decline in prices that could cripple the economy.

"I think they're worried about, candidly, about potentially moving into deflation at some point," Republican Senator Bob Corker of Tennessee said. "He indicates there is zero attempt to manipulate currency."

Consumer price data on Wednesday appeared to buttress the Fed's concern. The core Consumer Price Index, which strips out volatile food and energy prices, posted its smallest year-on-year rise on record in the period through October.

Analysts said the soft price data implied the Fed might have to do more, not less, to drive the economy.

AN EXPERIMENT?

It was unclear how successful Bernanke was in placating the Fed's critics.

"Basically what he is doing is experimenting," Republican Senators Richard Shelby of Alabama said. "He basically admitted that he's tinkering."

On its face, quantitative easing is not designed as a full-bore attack on weak job creation and tight credit that are seen as binding restraints on overall economic activity, but rather as an effort at the margin to slow further erosion.

For example, the Fed's estimate of 700,000 jobs over two years would work out to just 29,000 a month -- helpful, but a drop in the bucket in an economy where 14.8 million Americans were jobless in October.

"He went out of his way to say he absolutely hopes that Congress will take the lead in setting economic policy," said Democratic Senator Evan Bayh of Indiana.

Bayh said Bernanke met head-on the fears of some senators that keeping interest rates too low for too long and pumping money into the system could fire up a spiral in prices.

"They remain absolutely committed to not letting inflation or inflationary expectations get out of control," he said, "At this moment in time, though, the best policy is to err on the side of growth."

(additional reporting by Tim Ahmann and Emily Kaiser, writing by Glenn Somerville, Editing by Chizu Nomiyama)

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