Bernanke: Fed is intent on preventing 'stagflation'
CAMBRIDGE - Federal Reserve chairman Ben S. Bernanke signaled yesterday that the central bank is turning its attention to fighting inflation after several months of cutting interest rates to bolster a weakened economy and struggling financial system.
Speaking to graduating seniors at Harvard College's Class Day, Bernanke focused on the impact of soaring energy, agricultural, and commodity prices, comparing today's situation to that of the 1970s, when runaway inflation and stagnant economic growth gave rise to the term "stagflation."
While Bernanke said a repeat of the '70s is unlikely, the Harvard speech followed other recent speeches in which the Fed chairman addressed concerns about rising inflation.
On Tuesday, for example, Bernanke said the Fed is worried about the dollar, which has declined in value, compared to other currencies, and is contributing to inflation. A weaker dollar means imported goods - including oil - cost more in the United States.
This renewed focus on inflation suggests the Fed won't cut interest rates when policy makers meet this month, said Mark Zandi, chief economist of Moody's Economy.com. Interest rate increases are coming down the road, he said. Higher interest rates reduce borrowing and spending, which slows demand and makes it harder for producers to raise prices.
For the time being, however, the struggling economy appears too weak for the Fed to starting raising rates, Zandi said.
"Right now, there's not much Bernanke can do except talk, and talk tough about inflation," Zandi said. "But he's changed his focus from the financial system and housing, and that's laying the groundwork for [rate] increases."
Bernanke said the Fed has learned the lessons of the 1970s and is carefully monitoring inflation expectations, which fuel long-term price increases. If consumers expect prices to keep rising, they buy immediately, increasing demand and price pressures. They also demand higher wages to compensate for higher prices, which leads businesses to raise prices more and workers to seek even higher wages.
This kind of wage-price spiral fueled inflation in the 1970s, but Bernanke said there's little evidence such a spiral is underway now. Bernanke conceded today's conditions, particularly soaring energy prices, seem similar to those in the 1970s, but said the economy has changed significantly.
It is more open, flexible, and energy-efficient, Bernanke said, and workers are significantly more productive than their counterparts in the '70s, due largely to technology. Workers who are more productive enable employers to produce more goods and services without increasing overall labor costs, meaning lower prices.
The inflation rate has run about 3.5 percent over the past year, compared to 10 percent in 1975, when Bernanke graduated from Harvard, the Fed chairman noted.
"I see the differences between the economy of 1975 and the economy of 2008 as more telling than the similarities," Bernanke said. "Today's situation differs from that of 33 years ago in large part because our economy and society have become much more flexible and able to adapt to difficult situations and new challenges."
Robert Gavin can be reached at rgavin@globe.com.
