Bernanke Outlines Fed's 'Exit Strategy' From Banks

Federal Reserve Chairman Ben Bernanke outlined Wednesday the Fed's "exit strategy," the plan by which the central bank will reduce its role in propping up the financial system. The Fed is looking to wind down the unprecedented lending programs it put in place during the financial crisis.

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MELISSA BLOCK, host:

From NPR News, this is ALL THINGS CONSIDERED. I'm Melissa Block.

MICHELE NORRIS, host:

And I'm Michele Norris.

Over the past two years, the Federal Reserve has injected more than a trillion dollars worth of stimulus into the economy. The goal was to keep the financial system from collapsing after the worst financial crisis since the Depression. Today, Federal Reserve Chairman Ben Bernanke gave a more detailed description how the Fed is going to pull back the stimulus to keep the economy from overheating and causing inflation.

NPR's John Ydstie joins us to talk about what Mr. Bernanke had to say. And John, I have to say the economy doesn't seem to be in any danger of overheating anytime soon. So, why is Ben Bernanke talking about this right now?

JOHN YDSTIE: You're right, Michele. The economy right now is about as hot as the Washington weather. But the reason the chairman is outlining this exist strategy is that bond investors and some economists are worried the Fed will wait too long to take its foot off the economic accelerator and will end up growing too fast and runaway inflation could be the result.

Actually let me go back to an old metaphor. A lot of people say that the Fed's main job is removing the punch bowl just before the economic party warms up. And in this case the punch bowl is so big because of all the lending that the Fed has done that the economic party could get way out of hand. So, the police or, as we said, bond investors who are worried dressed up like the police, have shown up at the party even before most of the guests arrived. And they're asking the Fed, how are you going to drain this punch bowl safely? And Mr. Bernanke was explaining exactly how he is going to do that today.

NORRIS: So, what is he proposing?

YDSTIE: Well, Bernanke pointed out that the Fed had really already begun. Remember during the financial crisis it created the Fed created special lending programs to help support short term loans to businesses and to backstop money market funds. Well, today he pointed out that about a year ago the Fed had lent over a trillion dollars for those programs and last week that that amount was down to $110 billion.

And the chairman also said that "before too long," that's a quote, "before too long" the Fed might begin raising the discount rate, that's the rate it charges on short term loans to banks. That would reduce the amount of money that banks could lend into the economy. And one new tool the Fed has is the power to pay interest on more than a trillion dollars in reserves that U.S. banks keep on deposit at the Fed. And if the Fed raised the rate it's paying to those banks they might be enticed to leave the reserves at the Fed rather than lending them out to businesses and individuals and that would keep the economy in check.

NORRIS: John, there's some careful wording in Ben Bernanke's statement. He says that these are things that the Fed plans to do once the economy has recovered but how will we know when we're actually past this when the economy has recovered?

YDSTIE: It's a good question because different people have different views. We've had a couple of positive economic reports recently that unemployment rate down, rapid growth in the fourth quarter. A lot of people, a lot of economists see that as signs of recovery. But other people aren't going to see a recovery until all those millions of people who lost their jobs are back at work and that can be a that could take a long, long time. Today, Chairman Bernanke suggested the exit process is about to begin but he also indicated the Fed is not going to slam on the brakes quickly.

NORRIS: Thank you, John.

YDSTIE: You're welcome.

NORRIS: That's NPR's John Ydstie.

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