Bernanke says inflation outlook "uncertain"

By Mark Felsenthal and Alister Bull

JACKSON HOLE, Wyoming (Reuters) - Federal Reserve Chairman Ben Bernanke on Friday said the stronger dollar and lower oil prices, along with the weak economy, should curb inflation, in a hint that interest rates would stay on hold, though he warned the inflation outlook is "highly uncertain."

Bernanke called a recent decline in commodity prices and stabilization of the U.S. dollar "encouraging."

"If not reversed, these developments, together with a pace of growth that is likely to fall short of potential for a time, should lead inflation to moderate later this year and next," he told the annual Kansas City Federal Reserve Bank conference on monetary policy in Jackson Hole, Wyoming..

At the same time, a top European Central Bank official told the same gathering that monetary policy cannot solve the credit crisis alone and keeping inflation in check may be the best way to help strained financial markets.

"At times of extraordinary volatility and dramatic risk re-pricing, maintaining price stability could be the best contribution that monetary policy could give to the return to financial stability," ECB governing council member Mario Draghi said in a speech.

The dollar, which earlier this week hit a six-month high against the euro, surged on Friday as gloomy British growth data backed views of a slowing global economy and raised prospects of interest rate cuts outside the United States, Investors, meanwhile, bet that Bernanke's remarks were evidence of little inclination at the U.S. central bank to raise rates while markets remain strained and growth is challenged by the housing contraction.

U.S. Treasury debt prices fell as Bernanke's remarks reduced safe-haven bids for government bonds, while stocks jumped.

"There will be no change in monetary policy for the foreseeable future," said Kevin Flanagan, fixed income strategist, global wealth management, at Morgan Stanley in Purchase, New York. "The emphasis still is on the economic and market risks, but still trying to walk a fine line on inflation as well," he said.

Interest rate futures currently imply a 14 percent chance the Fed will raise interest rates by a quarter point at its next scheduled policy meeting, on September 16, with a 38 percent likelihood of a hike by year-end. This was up from odds of 32 percent before.

Meanwhile, European Central Bank Governing Council Axel Weber said at the conference that policy-makers should look not only to monetary policy to contain financial instability but should keep regulatory efforts "firmly in focus."

Weber also said in an interview on CNBC that current euro-dollar exchange rates are more in line with longer-term developments.

Separately, Bernanke and ECB President Jean-Claude Trichet were scheduled to have dinner together as guests of former World Bank President James Wolfensohn, according to a person invited to the dinner.

At the conference, Bernanke said the U.S. central bank's current low interest-rate strategy was conditioned on oil and commodity prices stabilizing as the global economy slows, a trend that appeared to be occurring.

"Nevertheless, the inflation outlook remains highly uncertain, not least because of the difficulty of predicting the future course of commodity prices, and we will continue to monitor inflation and inflation expectations closely," Bernanke told the gathering of global central bankers.

The policy-setting Federal Open Market Committee "is committed to achieving medium-term price stability and will act as necessary to attain that objective," Bernanke said.