WASHINGTON — Is the era of ultra-low interest rates nearing an end?
When he takes questions this week after a Federal Reserve meeting, Chairman Ben Bernanke will confront investors' fears that rates are headed higher.
Financial markets have been gyrating in the 3½ weeks since Bernanke told Congress the Fed might scale back its effort to keep long-term rates at record lows within "the next few meetings"— earlier than many had assumed.
Bernanke cautioned that the Fed would slow its support only if it felt confident the job market would show sustained improvement. And earlier in the day, he said the Fed must take care not to prematurely reduce its stimulus for the still-subpar economy.
Yet investors were left puzzled and spooked by a mixed message. Fear spread that the Fed would soon slow its $85 billion-a-month in bond purchases. Those purchases have been intended to hold down long-term borrowing rates to spur spending. Low rates are credited with helping fuel a housing rebound, sustain economic growth, drive stock prices to record highs and restore the wealth America had lost to the Great Recession.
Many fear that a pullback in the Fed's bond purchases could boost long-term rates, trigger a stock selloff and perhaps weaken the economy.
On Wednesday, when the Fed ends a two-day policy meeting with a Bernanke news conference, the financial world will be looking to the chairman to settle the confusion. What, Bernanke will likely be asked, would show sustained improvement in the job market? And when will the Fed most likely slow the pace of its bond purchases?
Some analysts think Bernanke will signal to investors that the Fed has no immediate plans to curtail its stimulus.
"The Fed has worked very hard to get stock prices and home prices rising to help the economy, and I don't think they want to back away from that in any way," said Mark Zandi, chief economist at Moody's Analytics. "I think Bernanke will deliver a strong message that the Fed is not going to taper until the job market is improving in a consistent way."
Last month, the U.S. economy added a solid 175,000 jobs. But the unemployment rate was 7.6 percent. Economists tend to regard the job market as healthy when unemployment is between 5 percent and 6 percent.
Since Bernanke's vague public comments May 22, the Dow Jones industrial average has fluctuated sharply and shed about 3 percent of its value. But the bigger shock has been in the bond market. The rate on the benchmark 10-year Treasury has jumped from a low of 1.63 percent in early May to 2.13 percent.
By historical measures, the rate on the 10-year Treasury is still extraordinarily low. It would have to rise dramatically, for example, to return to where it was during the 2000s, when it ranged mainly between 4 percent and 6 percent.
Still, higher rates ripple through the economy by making mortgages and other loans costlier. The average rate on the 30-year fixed mortgage, which tends to track the 10-year Treasury yield, reached 3.98 percent last week, according to Freddie Mac. That's its highest level since April 2012.
Just as cheap mortgages have helped feed a housing recovery, higher rates might slow it. Refinancings have declined since Bernanke's comments led to higher mortgage rates: Refinancings are 36 percent below their recent peak at the start of May, according to the Mortgage Bankers Association.
Compounding the confusion stirred by Bernanke's remarks have been comments from other members of the Fed's policy committee. Minutes of the previous meeting suggest a sharp division: Some, like Bernanke, still stress the need to fight high unemployment with low rates. Others warn that rates kept too low for too long raise the risk of high inflation and financial instability later.
The Fed's investment purchases have swollen its portfolio to $3.4 trillion — a four-fold increase since before the 2008 financial crisis. Eventually, the Fed will need to gradually sell its portfolio. Doing so would likely lead to higher rates. Yet some think it would also defuse some risks to the financial system.
Alan Greenspan, who preceded Bernanke as Fed chairman for nearly two decades, said in a recent interview on CNBC, "The sooner we come to grips with this excessive level of assets on the balance sheet of the Federal Reserve — that everybody agrees is excessive — the better."
Economists say Bernanke will seek to clarify the Fed's message Wednesday. Yet they're unsure what he'll say.