Washington, DC, October 5, 2006--The Federal Reserve remains worried inflation is too high, but is also watching to see how much a "substantial correction" in housing markets will slow economic growth, Fed Chairman Ben Bernanke said on Wednesday.
"I would estimate that slowing housing construction will probably take about a percentage point off growth in the second half of this year and probably something going into next year as well," Bernanke said in response to questions after a speech.
The housing market is still supported by a good job market, strong income growth and low mortgage rates, but policy-makers will keep an eye on whether slowing housing activity will affect consumer behavior, Bernanke said after addressing the Economic Club of Washington.
Bernanke was alone among Fed officials who spoke on Wednesday in commenting on the economic outlook. Analysts looked ahead to a scheduled speech by Fed Vice Chairman Donald Kohn in New York for further insights about how macroeconomic policy-makers view the economy.
New York Fed Bank President Timothy Geithner on Wednesday said in a speech to international affairs students in Washington that developing economies are better positioned now to weather financial shocks of the kind they faced in the 1990s because because they are adopting more cautious fiscal policies and are moving to more flexible exchange rates. Fed Governor Susan Bies limited her comments to banking supervision while participating in a conference in Mexico.
However, Bernanke, after a speech warning that the economy faces high costs if elected officials delay addressing anticipated funding shortfalls for Social Security and Medicare, said the central bank remains concerned about inflation.
"The inflation rate is still above what we would consider price stability," he said in response to a question.
"We do believe inflation is going to be coming down gradually over time, but it's something we have to watch very carefully to make sure that it doesn't rise or even remain where it is," he said.
U.S. Treasury bond prices rose and the dollar lost ground against the euro in the aftermath of Bernanke's remarks on the housing market, which were seen as signaling concerns about economic growth.
"Bernanke looks to have spooked growth concerns despite his insistence that controlling inflation remains the key objective," said Rudy Narvas, an analyst at 4CAST Ltd. in New York.
Financial markets expect the Fed to keep benchmark overnight interest rates unchanged at its next meeting on Oct. 24-25 and through the end of the year, but believe there is some chance policy-makers could lower rates in 2007.
The Fed held rates steady at 5.25 percent at its meeting on Sept. 20. At its previous meeting in August, the Fed broke a more than two-year string of 17 consecutive rate increases with a decision to stay put.
Bernanke warned the longer U.S. policy-makers delay in putting Social Security and Medicare on a sound fiscal footing, the greater the burden on future generations.
"If we don't begin soon to provide for the coming demographic transition, the relative burden on future generations may be significantly greater than it otherwise could have been," he said.
The Fed chairman said that in addition to reforming the entitlement programs, which are expected to run into funding shortfalls as a large segment of Americans retire, an increase in the national saving rate would ease some future burdens.
Social Security and Medicare are government programs providing income support and health care coverage for retirees.
The most straightforward way to raise national saving would be to reduce the government's current and projected budget deficits, the Fed chairman said. However, he acknowledged that cutting the budget gap is politically difficult.
A broadbased increase in household savings would also benefit the economy, Bernanke said.
