Fed Prepared to Cut Rate to Zero

Federal Reserve Gov. Ben Bernanke said Wednesday that the U.S. central bank would be prepared to cut short-term interest rates to zero if necessary to ward off a fall in inflation that could hurt an economic recovery.

Speaking at the Economics Roundtable of UC San Diego, Bernanke said the Fed was determined to get growth on track and that the central bank has room to keep trimming its key rate from the current 45-year low of 1%.

Maintaining the so-called federal funds rate “at or near” its current level may be sufficient to support a stronger economic expansion, Bernanke said.

But he also repeated a previous assertion that even if the Fed were to reduce short-term borrowing costs to zero, it then could look at so-called nontraditional methods of trying to spur growth.

He expressed confidence that those methods, which could include buying long-term government bonds in the open market, would work if the Fed needed to turn to them.

Bernanke’s statement on nontraditional Fed strategies confounded some investors, because only last week Fed Chief Alan Greenspan played down the possibility the Fed could go that route.

Bernanke’s comments sent the U.S. dollar sliding against the euro on concern that cheaper credit would make the currency less attractive. Bond yields also dipped.

But some analysts said Bernanke wasn’t stressing the idea that the Fed could try to push down long-term rates.

“This speech wasn’t aimed at jaw-boning long-term bond yields lower,” said Paul McCulley, managing director at Pacific Investment Management Co. “It is all about putting meat on the commitment to keep interest rates low for as long as necessary.”

In a separate appearance Wednesday, Dallas Federal Reserve Bank President Robert McTeer said he was optimistic the economy was on the cusp of faster growth but conceded “hard evidence” of it was hard to come by.

“While I am optimistic that things are about to pick up, I have been optimistic like that for a while now and it’s more a hunch and hope, and so forth, than it is any hard evidence so far,” McTeer said.

Comments by Fed governors are being monitored closely by investors eager for clues on how strongly the central bank is counting on Greenspan’s relatively robust growth estimates.

In his semiannual testimony to Congress on the economy, Greenspan said U.S. growth could accelerate to an annual rate of 3.75% to 4.75% in 2004, up from the feeble 1.4% pace posted in the first quarter this year.