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Federal Reserve Chairman Ben Bernanke's semiannual testimony on monetary policy to the Senate revealed increasingly bearish views on the US economy, and mounting concerns about rising inflation pressures. However, with these opposing risks leaving little room for error with adjustments to the fed funds rate, the Federal Reserve and government will probably prefer to step up their intervention efforts, with the latest measure allowing the Treasury to provide additional credit to Fannie Mae and Freddie Mac.

US Fed: Will Throwing Money Around Solve the GSE Problem?

Federal Reserve Chairman Ben Bernanke's semiannual testimony on monetary policy to the Senate revealed increasingly bearish views on the US economy, and mounting concerns about rising inflation pressures. Overall, instability in the financial sector and looming downside risks to growth create perilous conditions for the US, and despite the threat of rising inflation, the Federal Reserve has little room to fight price pressures with increases to the fed funds rate. Furthermore, with the economic slowdown likely to quell domestic demand, inflation pressures are likely to lessen on their own over time. As a result, the Federal Reserve and government will probably prefer to step up their intervention efforts, with the latest measure allowing the Treasury to provide additional credit to Fannie Mae and Freddie Mac.

Ben Bernanke, Federal Reserve Chairman

			“…as events in recent weeks have demonstrated, many financial markets and institutions remain under considerable stress, in part because the outlook for the economy, and thus for credit quality, remains uncertain.”
			“…with the labor market softening and consumer price inflation elevated, real earnings have been stagnant so far this year; declining values of equities and houses have taken their toll on household balance sheets; credit conditions have tightened; and indicators of consumer sentiment have fallen sharply...Overall, consumption spending seems likely to be restrained over coming quarters.”
			“…in light of the persistent escalation of commodity prices in recent quarters, FOMC participants viewed the inflation outlook as unusually uncertain and cited the possibility that commodity prices will continue to rise as an important risk to the inflation forecast.  Moreover, the currently high level of inflation, if sustained, might lead the public to revise up its expectations for longer-term inflation.
			“The possibility of higher energy prices, tighter credit conditions, and a still-deeper contraction in housing markets all represent significant downside risks to the outlook for growth.”

Henry Paulson, Treasury Secretary

			“Fannie Mae and Freddie Mac, two of the government-sponsored enterprises (GSEs), are also working through this challenging period…Their role in the housing market is particularly important as we work through the current housing correction. The GSEs now touch 70 percent of new mortgages and represent the only functioning secondary mortgage market. The GSEs are central to the availability of housing finance, which will determine the pace at which we emerge from this housing correction.”
			“In addition, debt and other securities issued by the GSEs are held by financial institutions around the world. Continued confidence in the GSEs is important to maintaining financial system and market stability.”
			“The plan we announced will strengthen our financial system as we weather this housing correction and establish a new world class regulator for the GSEs...First, as a liquidity backstop, the plan includes an 18-month temporary increase in Treasury's existing authority to make credit available for the GSEs. Given the difficulty in determining the appropriate size of the credit line we are not proposing a particular dollar amount...Second, to ensure the GSEs have access to sufficient capital to continue to fulfill their mission, the plan gives Treasury an 18-month temporary authority to purchase – only if necessary – equity in either of the two GSEs.”

ECB: July Rate Hike Was Likely A One-and-Done Deal

While European Central Bank officials remain hawkish and focused on their mandate to maintain price stability, Mr. Trichet’s comment last week that suggested that current interest rates were appropriate suggest that they have no intention of increasing rates again anytime soon.

Jean-Claude Trichet, European Central Bank President

			"Inflation in the euro area has risen further and, in the wake of renewed sharp commodity price increases, arrived at the worrying levels of around 4 percent in mid 2008…Risks to price stability over the medium term ... have intensified over recent months.”
			“Following last week's decision to raise rates, in the Governing Councils current assessment the monetary policy stance will contribute to achieving price stability over the medium term.”

Jose Manuel Gonzalez Paramo, European Central Bank Executive Council Member

			"Our obligation is to assure (European citizens) that they can trust the ECB to do whatever is necessary at all times to anchor inflation expectations and mid-term price stability…We believe our decision (last week) contributes to our mandate and we will do in each moment, based on the data, what is necessary to always fulfill our mandate.”

Though the ECB is an independent body, elected European officials – who are grappling with economic slowdowns in their respective economies – are likely to voice heavy resistance to additional rate increases.

Statement by the European Parliament

			“Against the background of the recent correction of growth expectation, any further raising of interest rates should be undertaken with caution in order not to endanger economic growth.”

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