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US not facing 1970s-style stagflation: Ben

“I don’t anticipate stagflation,” Bernanke said under questioning by the Senate Banking Committee. “I don’t think we’re anywhere near the situation that prevailed in the 1970s. I do expect inflation will come down.”

Bernanke, delivering a second day of testimony on the Fed’s semiannual report on the economy’s health, said current inflation pressures were due to strong global demand for oil, metals and food. He said prices for these commodities, while remaining high, should stabilize in coming months.

“If that’s the case, then inflation should come down and we’d have, therefore, the ability to respond to what is both a slowdown in growth and a significant problem in financial markets,” Bernanke said.

But he admitted that bubbling price pressures at a time U.S. home prices were declining could make the Fed’s job in keeping the economy growing more difficult, especially compared to the last recession in 2001.

“We do have greater inflation pressure at this point than we did in 2001,” Bernanke said. “I think that’s fair in that both fiscal and monetary policy face some additional constraints.

The U.S. central bank has cut its target for overnight rates by 2.25 percentage points since mid-September, taking it down to 3 percent, in an effort to put a floor under an economy widely seen at risk of falling into recession.

Surprisingly high readings on both consumer and wholesale prices, however, have made some economists worry the central bank might go too far in its effort to spur growth, leading to higher inflation.

Home price drop fueling inflation?

Bernanke was called on to defend the Fed’s forecast of declining inflation after repeating remarks that he had delivered a day earlier before a House of Representatives committee in which he made clear officials were prepared to lower borrowing costs further.

“It is important to recognize that downside risks to growth remain,” he said. “The (Fed) will be carefully evaluating incoming information bearing on the economic outlook and will act in a timely manner as needed to support growth and to provide adequate insurance against downside risks.”

Taking questions before the Senate panel, Bernanke said falling house prices may be causing a pullback in consumer spending, but were also are a potential source of inflation due to the “perverse effect” of driving up rental prices. The U.S. Labor Department measures housing costs with a proxy that is derived from rents.

“As house prices fall, people will become more reluctant to buy a house because they’re afraid that house prices will keep falling, so they rent instead,” Bernanke said. “That puts pressure on rents and actually could drive up rents.”

He also said some small U.S. banks might go under due to the financial stress prompted by the housing market’s woes, although the U.S. banking system overall remained solid.

“I expect there will be some failures,” Bernanke said -- a comment that drove U.S. stock prices down further.

Bernanke said it was important for policy-makers and the mortgage industry to move beyond temporary fixes for the subprime mortgage problems and look for long-term solutions.

He urged senators to continue to work on reforms to the Federal Housing Administration and to government-sponsored housing enterprises, and said additional steps may be needed.

But he added: “I don’t have any additional recommendations right now” -- suggesting he was cool to proposals on Capitol Hill for the government to take a more active role in helping troubled homeowners.