Overall inflation should continue to recede for the remainder of 2007 and all of 2008, reaching levels similar to that of so-called core inflation (ex-food-and-energy), Fed Chairman Ben Bernanke testified Wednesday morning before the House Financial Services Committee -- assuming energy prices cool off: "If energy prices level off as currently anticipated, overall inflation should slow to a pace close to that of core inflation in coming quarters." He stressed the Fed remains cautiously hopeful that its 'soft-landing' scenario of slowing inflation and gentle growth will play out, noting that there are always risks in both directions -- slower-than-expected growth due to the housing slowdown, or higher-than-expected inflation from sudden rises in energy and commodity prices. He reiterated that the latter is and has been the Fed's primary concern: "With the level of resource utilization relatively high and with a sustained moderation in inflation pressures yet to be convincingly demonstrated, the FOMC has consistently stated that upside risks are its predominant policy concern," he said. "If inflation were to move higher for an extended period and that increase became embedded in longer-term inflation expectations, the re-establishment of price stability would become more difficult and costly to achieve."
Economic growth, he said, will be moderate for the remainder of 2007, and 'strengthen a bit' in 2008. While not forecasting when the housing slowdown might bottom, Bernanke said it will likely continue to drag on growth 'over coming quarters.' Bernanke noted labor demand has remained strong even in the face of a cooler economy, saying it should continue to expand, "though possibly at a somewhat slower pace than in recent years." The Fed expects unemployment to remain between 4.5% and 5% through 2008.
Economists reactions were muted. Ian Shepherdson, chief U.S. economist at High Frequency Economics noted the testimony was "little more than an expansion of the views set out in recent FOMC statements; there is no signal of any change in the Fed's core views." Josh Shapiro, chief U.S. economist at MFR Inc. agreed there were no surprises: "There is nothing in the prepared testimony designed to shake market expectations of little if any change to Fed policy over the medium term."
The Dow Jones index is down 88 points to 13,883 as of 12:05 ET, after peaking above 14,000 earlier this week.
Sources: Bernanke testimony, Bloomberg, MarketWatch
Commentary: Bernanke's Vision of Inflation Reflexivity May Soon Rear Its Ugly Head • The Next Bear Market is Anybody's Guess • Beyond The 'Wall Of Worry'
Stocks/ETFs to watch: S&P 500 Index (NYSEARCA:SPY), Diamonds Trust Series 1 ETF (NYSEARCA:DIA), iShares Lehman Aggregate Bond (NYSEARCA:AGG)
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