Federal Reserve chairman Ben Bernanke expressed encouragement Friday over the retreat of oil and other commodity prices and the increase in the value of the dollar, noting that the Fed’s targeting of a 2% federal funds rate had been “conditioned” on such a stabilization.

However, Bernanke said the inflation outlook “remains highly uncertain” and stressed the Fed’s continued commitment to achieving price stability.

At the same time, Bernanke said the Fed is confronting an ongoing financial “gale” which he said has weakened the economy and pushed up unemployment. The combination of financial stress, economic weakness, and the “jump in inflation” present the Fed with a tremendous policy challenge, he said.

Bernanke, keynoting the Kansas City Fed’s annual Jackson Hole symposium on “Maintaining Stability in a Changing Financial System,” said the Fed has responded to the subprime mortgage crisis not only by reducing the federal funds rate to a “relatively low” level, but also by providing liquidity support to financial institutions. And he said the Fed will “continue to review” the effectiveness of its new liquidity facilities.

He devoted most of his remarks to a third crisis response — how the Fed and other authorities can best prepare for and try to prevent future financial crises. He said means need to be found to “strengthen the financial infrastructure” and “increase the system-wide focus of financial regulation and supervision.”

Among other things, Bernanke suggested Congress consider giving the Fed formal oversight of all payments and settlement systems and consider giving the Treasury Department authority to resolve failures of key non-bank financial institutions.

At the same time, he stressed the need to avoid increasing market expectations of government intervention to rescue institutions deemed “too big to fail,” saying that such expectations could increase the “moral hazard” of giving incentives to more risky behavior in the future.

—Market News International

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