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Federal Reserve Chairman Ben S. Bernanke said policy must be mindful of the future effects of past interest rate increases while remaining on guard against ``persistently higher inflation.''
``We must take account of the possible future effects of previous policy actions -- that is, of policy effects still `in the pipeline,''' he said in the text of testimony to the Senate Banking Committee in Washington. ``The extent and timing of any additional firming that may be needed to address inflation risks will depend on the evolution of the outlook for both inflation and economic growth.''
After raising interest rates at every meeting of policy makers for two years, Bernanke now confronts an economy that's slowing, at the same time prices are climbing. Oil surged to a record last week and a government report released less than two hours before his statement showed consumer inflation, excluding fuel and food, rose more than economists forecast in June.
Bernanke said the economy is ``in a period of transition'' as consumer spending slows. Gross domestic product expanded at an annual rate of 5.6 percent in the first quarter and will probably cool to 3.25 percent to 3.5 percent this year and 3 percent to 3.25 percent in 2007, according to Fed forecasts published today.
Guided By Data
His comments today outlined the risks of easing growth, uncertainty about policy ``lags'', and inflation. His rate outlook echoed the Federal Open Market Committee's June 29 statement, which said further increases depend on ``incoming information.''
``The lags between policy actions and their effects imply that we must be forward-looking, basing our policy choices on the longer-term outlook for both inflation and economic growth,'' the Fed chairman said.
Bernanke, 52, took the central bank's helm in February, succeeding Alan Greenspan, who held the job for almost two decades. The Fed raised its benchmark rate 17 times since June 2004 to 5.25 percent, the longest cycle of rate increases in a generation.
Today's remarks showed Bernanke embracing his predecessor's risk-management approach to policy.
``We must not consider not only what appears to be the most likely outcome, but also the risks to that outlook and the costs that would be incurred should any of those risks be realized,'' Bernanke said. ``Policy must be flexible and ready to adjust to changes in economic projections.''
Inflation Concern
Bernanke's challenge today is to convince lawmakers and markets that the central bank can calm resurgent inflationary pressures without high costs to employment and growth.
Inflation is seeping into some non-energy goods and services. The personal consumption expenditures price index, the Fed's preferred inflation measure, rose at a 4.5 percent annual pace for over the last three months. Core measures, minus food and energy, rose 2.9 percent.
``The recent rise in inflation is of concern,'' Bernanke said.
While the Fed forecasts ``moderating inflation,'' high energy and commodity prices combined with low unemployment, and high use rates in factories in plants ``may increase the pricing power of suppliers of goods and services'' and potentially ``sustain inflation pressures,'' he said.
``Persistently higher inflation would erode the performance of the real economy and would be costly to reverse,'' Bernanke said. ``The Federal Reserve must take account of these risks in making its policy decisions.''
Slowing Growth
A slowing housing market and recent declines in stock prices mean ``increases in household net worth are likely to provide less of a boost to consumer expenditures than they have in the recent past,'' Bernanke said. ``Overall household expenditures appear likely to expand at a moderate pace.''
``The anticipated moderation in economic growth now seems to be under way, although the recent erratic growth pattern complicates this assessment,'' he said. ``That moderation appears most evident in the household sector.''
Employers added 121,000 workers in June, the third consecutive month that employment growth has fallen short of economists' estimates. The jobless rate stood at 4.6 percent.
Retail sales fell for the first time since February last month. The pace of home sales fell in May. The economic expansion slowed to a 2.8 percent annual pace last quarter, according to the median estimate of forecasts in a Bloomberg survey.
Energy Prices
``One likely source of this deceleration was higher energy prices, which have adversely affected the purchasing power of households and weighed on consumer attitudes,'' Bernanke said.
Escalating energy costs because of Middle East violence threaten to erode consumer purchases while pushing up inflation. Retail prices for unleaded gasoline are up 31 percent from when Bernanke testified in February, according to the American Automobile Association.
Sales of previously owned homes fell 1.2 percent to a 6.67 million annual rate of increase in May, slightly lower than the average annual rate for the previous four months of 6.78 million. The supply of single-family homes for sale rose to 3 million last month, the highest unsold inventory on record.
At the same time, manufacturers have been helped by stronger growth in the euro region, the United Kingdom, and Japan.
Buoyed by ``strong'' global growth, ``the U.S. economy seems poised to grow in coming quarters at a pace roughly in line with the expansion of its underlying productive capacity,'' Bernanke said.
``Business investment seems likely to continue to grow at a solid pace, supported by growth in final sales, rising backlogs of orders for capital goods, and high rates of profitability,'' Bernanke said.
Total investment spending rose at a 14.2 percent annual rate in real terms in the first quarter, the fastest pace since the second quarter of 2000.
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