Fed Chairman Testifies Before House Committee on Financial Services

Bernanke restated that the critical task is to assess whether the stance of monetary policy is properly calibrated in view of the variable lags of monetary policy, the medium-term forecast for economic activity and inflation, and the downside risks to growth. The Fed still sees sluggish growth in the first half of 2008, followed by a stronger second half.

However, the Fed chairman mentioned "downside risks" to growth no less than three times in his presentation—he wanted to make absolutely clear to Congress the state of the Fed's current thinking on the economy—and said that the Fed would act in a timely manner to support growth and provide "insurance" against these downside risks. Bernanke has left the door wide open for further interest rate reductions.

We believe these downside risks to U.S. economic growth will become more apparent as the first quarter progresses. Activity in the services sector is contracting, while consumer confidence has slumped into recessionary territory. Momentum behind business equipment spending is fading rapidly, and payroll employment growth is expected to stall in the first quarter. The huge drag from negative dynamics in the housing market—which have shown no signs of abating—will become more apparent in upcoming reports on real GDP growth. These indicators point in the direction of a "mild recession" during the first half of 2008.

As a result, Global Insight projects that the Federal Reserve will take further aggressive action over the next two months, cutting the federal funds rate target by 50 basis points on March 18 and another 25–50 basis points on April 30. These actions will bring the funds rate down around 2.00–2.25% by May 2008.