The Federal Reserve is prepared to take further steps to rejuvenate the economy by buying Treasury bonds but is wrestling with how big the program should be, Chairman Ben Bernanke said Friday.
Bernanke also indicated that Fed policymakers are trying to craft a plan to lift inflation from super-low levels. He made his remarks in a speech at a Fed conference in Boston.
Bernanke said the Fed must both weigh the risks of a Treasury-buying program and determine how the debt purchases should be paced. The Fed's bond purchases would be intended to lower long-term interest rates to stimulate buying and spending and help lower unemployment.
Those Treasury purchases would inject many more dollars into the financial system. And that poses a longer-term risk: High inflation.
Fed policymakers are widely expected to announce a Treasury-buying program at their next meeting Nov. 2-3.
"There would appear _ all else being equal _ to be a case for further action," Bernanke said.
World stocks rose after Bernanke's remarks. But the prospect of more dollars swirling around the financial system did nothing to help the dollar itself, which slid further after the Fed chief spoke.
The economy is growing at a pace "less vigorous than we would like," Bernanke acknowledged.
Unemployment, now at 9.6 percent, has been stuck near double digits for more than a year. Bernanke indicated that the Fed is concerned that economic growth is likely to remain lackluster and that unemployment will decline only slowly next year. High unemployment is likely to keep consumers cautious in their spending.
During the recession, the Fed launched a $1.7 trillion program, buying a mix of mortgage securities and government debt. The effort was credited with forcing down mortgages rates and providing support to the weakened housing market.
The new program is likely to be smaller. One Fed official has suggested a $500 billion program, while another has suggested it be $100 billion or less.
The Fed is again resorting to such unconventional methods _ called quantitative easing _ to stimulate the economy because it has already sliced its key interest rate to a record low near zero. The anticipated second round is being dubbed quantitative easing two.
"Bernanke gives green light for QEII," TJ Marta, a market strategist at Marta on the Markets, said after Bernanke's speech.
To buy Treasury debt, the Fed in effect prints money. It does so by expanding its balance sheet. It's nearly tripled in size since the end of 2007, when the economy slid into recession and embarked on credit-easing programs.
As the Fed snaps up Treasury bonds, the rates on those bonds will fall. Rates on mortgages, corporate debt and other loans pegged to the Treasury securities will drop, too. It's a case of supply and demand: Higher demand for bonds lowers their rates, or yields. And it drives up their prices.
On the inflation front, the Fed is currently more interested in seeing prices rise_ rather than fall.
Because the economy is weak, "the risk of deflation is higher than desirable," Bernanke said. Deflation is a widespread drop in prices, wages and the values of stocks and homes.
As Bernanke was speaking, the government issued a report that pointed to why a new Treasury-buying program may be necessary to ward off deflation. Consumer prices excluding the volatile categories of food and energy were flat or a second straight month.
A prolonged drop in prices for goods, for wages and in the values of homes and stocks is dangerous for the economy and individual Americans. Workers suffer pay cuts. Corporate profits decline. Stock values fall. People, businesses and the government find it costlier to pare debt. Foreclosures and bankruptcies rise.
And people spend less, convinced prices will fall even further if they just wait. That trend is already evident in the housing market. Many would-be buyers are standing on the sidelines, expecting home prices to fall further.
Bernanke's comments come as the Fed is weighing steps to try to raise people's expectations of where they think inflation is heading in the months ahead. A signal from the Fed that it would accept higher-than-normal inflation could aid the economy. Here's how:
Companies would feel more inclined to raise their prices. And shoppers who thought prices were headed up would be more likely to buy now rather than wait. Their higher spending would embolden employers to step up hiring. It would also help lift inflation from alarmingly low levels.
Bernanke said the current high unemployment can be traced, in part, to the drop in business activity that followed the financial crisis and the resulting fall in customer demand.
Some economists point to two other factors, too.
Workers face difficulties moving to new cities where jobs may be available. That's because many can't easily sell their homes in depressed housing markets.
Another factor is that the skills many unemployed workers have differ from the skills companies now want.