The Fed will continue to be committed to keeping interest rates low throughout 2013. This was Ben Bernanke’s response to queries about how the Fed will respond to the spending cuts and tax hikes that will result from the fiscal cliff.
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The Fed can and will adhere to its stated policy of additional asset purchases of mortgage-backed securities and whatever else may be necessary to improve labor markets in a sustainable manner.
Even if the fiscal cliff is avoided, the Fed anticipates there will be some combination of policies that will reduce the federal budget deficit.
At its upcoming meeting on December 11 and 12, the Federal Open Market Committee (FOMC) will have the task of deciding whether to extend the bond-buying into 2013.
Bernanke’s comments in a recent New York Economic Club speech indicated his intent to press on with the program without specifically stating so, although it has stirred controversy inside and out of the FOMC.
Some think the Fed has already provided too much stimulus and risks igniting inflationary pressures.
But the Fed thinks the stimulus program can help push unemployment to between 5.2% and 6% without producing unwelcome wage inflation.
Bernanke admits the Fed is basically powerless to combat the type of shock to the economy the fiscal cliff would produce.
The Fed’s Operation Twist
program will expire in December and there is no longer the capability to extend it because the supply of short-term securities has dried up.
A program that purchases long maturities would be the only choice the Fed has to replace Operation Twist.