Bernanke: Increasing risk premiums “probably healthy”

Speaking about recent developments in financial markets at the Kansas City Federal Reserve’s annual economic symposium in Wyoming on August 31, he observed: “Some increase in the premiums that investors require to take risk is probably a healthy development on the whole, as these premiums have been exceptionally low for some time.”

But in the past few weeks, he said, this increase in risk premiums has interacted with heightened concern about the risks of credit and uncertainty over valuations to create “significant market stress”.

The president of the US National Bureau of Economic Research, Martin Feldstein, expressed a similar view at the symposium two days later on September 2. He said that, while it would be a good thing to have credit spreads that accurately reflected the risks of different assets, the transition could be “very costly” to the overall economy. He also called for the US Federal Reserve Bank to cut the federal funds target rate.

When Bernanke spoke on August 31, he referred to the Fed's measures to ease market tension during August (see: Central banks act again as credit crisis continues), affirming it stood “ready to take additional actions as needed to provide liquidity and promote the orderly functioning of markets”.

However, in remarks interpreted as giving mixed signals regarding its next interest rate decision on September 18, he continued: “It is not the responsibility of the Federal Reserve – nor would it be appropriate – to protect lenders and investors from the consequences of their financial decisions. But developments in financial markets can have broad economic effects felt by many outside the markets, and the Federal Reserve must take those effects into account when determining policy.” The Federal Open Markets Committee would be paying close attention to data in the coming weeks, he added.

Previously on Risk News:
Subprime crisis forces carry trade unwinds
Rating agencies assess money markets
Subprime crisis "worse than 1998", says S&P

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