The Bernake Effect: Stimulating The Economy
The environment was marked by a struggling US economy with continuing employment problems
, a weak housing market and a burgeoning deficit, which could erode investor confidence. Bernake's position was position was sandwiched between stimulating the economy, while also satisfying congressmen on the tough political question of the fiscal deficit. The deficit has reached unmanageable proportions due to the fiscal stimulus provided by the government. However, the continuation of government spending is still necessary to keep the US economy on a recovery path and its withdrawal at this point of time could lead the US economy to slip back into recession.
Given all these constraints, Bernake seems to have done his job well. His key move was to announce that the Fed would continue to hold interest rates close to zero for several months in order to provide easy liquidity for the economy to recover. He stated that in view of the sluggish economy, a weak housing market further constrained by a high unemployment rate required interest rates to be kept low for an extended period. Any move to increase interest rates at this point of time could prove to be harmful to the US economic recovery. On the issue of the $787 billion dollar stimulus package, which had increased the fiscal deficit of the US and, which some lawmakers believe has done little to help the economy, Bernake's view is that in its absence, matters could have been much worse for the US economy. While, the US economy has enter a positive growth cycle, the housing sector could be in for another round of disturbance as large number of Americans have been out of jobs or have moved to lower paying jobs and may be unable to keep paying their mortgages. This could lead to a second wave of houses coming into the resale market and result in a fall in their prices.
Thus, policy makers face a dilemma at present. On the one hand the deficit needs to be curtailed before investors who fund the deficit lose confidence in the US government paper, and on the other hand, the US economy needs the support of the government or it may slip back into recession. The $1.6 trillion US deficit represents nearly 10% of the nation's GDP, which needs to be brought down to 3% for it to be manageable. This can only happen once the economy is back on a growth trajectory and the tax collections pick up. Thus, it's a vicious cycle and at this point of time, withdrawal of economic stimulus could plunge the economy back into recession, erasing the recent gains made.
In any case Bernake speak gave clarity that the monetary policy would not be tightened for some time to come, which ked the dollar to weaken somewhat and at the same time it signaled that the economy still had the benefit of cheap credit for a longer period so the stock markets looked up.
by: Pete Migz
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