ben s bernanke : remarks on the economic outlook speech by mr ben s bernanke, chairman of the board of governors of the us federal reserve system, at the international monetary conference, barcelona, spain ( via satellite ), 3 june 2008. * * * as you know, financial markets in the united states and in a number of other industrialized countries have been under considerable strain since late last summer. financial market conditions have in turn affected economic prospects, most notably by affecting the cost and availability of new credit. much discussion of the turmoil has focused on problems that have arisen with respect to specific financial markets and financial instruments. understanding these institutional details is, of course, essential to the task of restoring more normal functioning to the financial system. stepping back, however, one can see – at least in retrospect – that the turmoil has been some time in the making and reflects the combined influence of several powerful, longer - term developments. today, i will briefly discuss some longer - term factors that underlie recent developments ; trace how these factors, individually and in combination, have affected both the financial markets and the economy ; and describe how the federal reserve has responded to the challenges we face. the sources of the financial turmoil : a longer - term perspective although the severity of the financial stresses became apparent only in august, several longer - term developments served as prologue for the recent turmoil and helped bring us to the current situation. the first of these was the u. s. housing boom, which began in the mid - 1990s and picked up steam around 2000. between 1996 and 2005, house prices nationwide increased about 90 percent. during the years from 2000 to 2005 alone, house prices increased by roughly 60 percent – far outstripping the increases in incomes and general prices – and single - family home construction increased by about 40 percent. but, as you know, starting in 2006, the boom turned to bust. over the past two years, building activity has fallen by more than half and now is well below where it was in 2000. house prices have shown significant declines in many areas of the country. a second critical development was an even broader credit boom, in which lenders and investors aggressively sought out new opportunities to take credit risk even as market risk premiums contracted. aspects of the credit boom included rapid growth in the volumes of private equity deals and leveraged lending and the increased use of complex and often opaque investment vehicles, including structured credit products. the explosive growth of subprime

growth picking up further in 2009. however, until the housing market, and particularly house prices, shows clearer signs of stabilization, growth risks will remain to the downside. recent increases in oil prices pose additional downside risks to growth. inflation has remained high, largely reflecting continued sharp increases in the prices of globally traded commodities. thus far, the pass - through of high raw materials costs to domestic labor costs and the prices of most other products has been limited, in part because of softening domestic demand. however, the continuation of this pattern is not guaranteed and will bear close attention. futures markets continue to predict – albeit with a great range of uncertainty – that commodity prices will level out, a forecast consistent with our expectation of some overall slowing in the global economy and thus in the demand for raw materials. a rough stabilization of commodity prices, even at high levels, would result in a relatively rapid moderation of inflation, consistent with the projections of federal reserve governors and reserve bank presidents for 2009 and 2010. unfortunately, the prices of a number of commodities, most notably oil, have continued upward recently, even as expectations of future policy rates and the foreign exchange value of the dollar have remained generally stable in the past few months. the possibility that commodity prices will continue to rise is an important risk to the inflation forecast. another significant upside risk to inflation is that high headline inflation, if sustained, might lead the public to expect higher long - term inflation rates, an expectation that could ultimately become self - confirming. the federal reserve's policy response the federal reserve's mandate is to foster maximum sustainable employment and price stability. to achieve these goals, we must also support the return of financial markets to more normal functioning. the federal reserve is pursuing its objectives through several means. first, we have eased monetary policy substantially and proactively to address the sharp deterioration in financial conditions and to forestall some of the potential adverse effects on the broader economy. our decisive policy actions were premised on the view that a more gradual reduction in short - term rates could well have failed to contain the financial and economic problems confronting us. for now, policy seems well positioned to promote moderate growth and price stability over time. we will, of course, be watching the evolving situation closely and are prepared to act as needed to meet our dual mandate. in collaboration with our colleagues at the treasury, we continue to carefully monitor developments in foreign exchange markets. the challenges that our economy has faced over the past year or so have generated