Federal Reserve Chairman Ben Bernanke said on Tuesday the recent surge in oil prices is unlikely to have a big impact on the U.S. economy but could dampen growth and raise inflation if sustained.
Bernanke told the U.S. Senate Banking Committee he saw increasing evidence that the U.S. economic recovery was becoming self-supporting. But he warned job growth remains far too anemic, indicating he is not considering cutting short the Fed's $600 billion bond-buying stimulus program.
"We do see some grounds for optimism about the job market over the next few quarters," Bernanke said, citing a steep recent decline in the jobless rate among other factors.
Bernanke said downside risks to growth had diminished, and stated for the first time that the risk of deflation — a key justification for the Fed's bond buying — was now "negligible."
"It's encouraging to see that the risk of deflation is moderating according to the Fed," said Omer Esiner, chief market analyst at Commonwealth Foreign Exchange in Washington. "That's one of the keys that will be necessary for the Fed to wind down its quantitative easing program."
At the same time, Bernanke did not appear concerned that a recent spike in the price of crude oil, driven in part by a wave of pro-democracy revolutions in the Middle East and North Africa, would do much harm to the U.S. economic outlook.
Crude oil prices briefly surpassed $100 a barrel in late February but have since come down to around $98.
Bernanke, who will testify for a second day before a U.S. House of Representatives panel on Wednesday, said the Fed expects inflation to remain low and that long-term inflation expectations appear contained, both according to market indicators and surveys of consumers.
"The most likely outcome is that the recent rise in commodity prices will lead to, at most, a temporary and relatively modest increase in U.S. consumer price inflation," Bernanke said.
However, he warned that if expectations of future inflation were to build, the Fed may need to act.
"We will continue to monitor these developments closely and are prepared to respond as necessary to best support the ongoing recovery in a context of price stability," he said.
The economy expanded at just a 2.8 percent annual pace in the fourth quarter and the jobless rate stood at an elevated 9 percent in January. While hiring appears to be picking up, the pace is still too slow to make much of a dent in unemployment.
With official interest rates already near zero, the Fed in November embarked on a controversial program to buy government debt to keep down long-term rates. Bernanke said buoyant financial markets suggest the policy is working, but the labor market still has a long way to go.
"Until we see a sustained period of job creation, we cannot consider the recovery to be truly established," Bernanke said.
Much of the discussion at the hearing centered around Washington's heated budget debate. Bernanke refrained from offering detailed advice on fiscal matters, but urged lawmakers to get the deficit under control.
"The long-term imbalances are not just a long-term risk," Bernanke said. "They're a near and present danger."
MANDATE BATTLE BREWING
Financial markets had little reaction to Bernanke. U.S. stocks were little changed after the release of his testimony and a report showing growing strength in the U.S. factory sector. U.S. government bonds pared losses.
Andrew Tilton, an economist at Goldman Sachs, said the Fed will most likely complete its bond-buying program over the next few months and then call it a day. "The bar is pretty high" for either curtailing bond buys or expanding the program, he said.
The committee's chairman, Democrat Tim Johnson, kicked off the session with a strong defense of the Fed's dual mandate of price stability and maximum sustainable employment.
Some Republicans who have been critical of the Fed's ultra-easy monetary policy have vowed to introduce legislation forcing the U.S. central bank to focus solely on inflation.
Republican Sen. Bob Corker asked Bernanke whether a mandate focusing solely on inflation could buttress the Fed's credibility.
Bernanke sidestepped the debate, saying he sees the current mandate as adequate. "We think it's appropriate and we are right now not seeking any change," he said. "Congress, of course, can certainly discuss that issue and we'll do whatever Congress tells us to do."
Johnson indicated any effort to change the mandate would face a tough fight.
"As the economy continues to struggle to recover, we should be using every tool in the toolbox to create jobs and spur growth," he said. "Taking tools away from the Fed now is the wrong idea at the wrong time."
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