By Vicki Needham - 03/02/13 05:18 PM EST
Federal Reserve Chairman Ben Bernanke said Friday that prematurely removing stimulus measures could damage the already fragile economic recovery.
Raising interest rates, the main policy tool in the central bank's arsenal, before a stronger recovery has gained traction "would carry a high risk of short-circuiting the recovery, possibly leading, ironically enough, to an even longer period of low long-term rates," he said at a conference sponsored by the Federal Reserve Bank of San Francisco.
"Only a strong economy can deliver persistently high real returns to savers and investors, and the economies of the major industrial countries are still in the recovery phase."
Bernanke defended the central bank's aggressive stimulus policy — $85 billion in bond purchases a month in quantitative easing and the commitment to keep doing so until there is substantial improvement in the labor market.
In the current economic environment, he said there is broad agreement among policymakers and market participants that supporting the economic recovery while keeping inflation close to 2 percent "will likely require real short-term rates, currently negative, to remain low for some time."
As the economy recovers, long-term rates will rise over time to more normal levels.
In congressional testimony this week, he argued that the Fed is doing all it could to support a stronger economic recovery and has all the tools it needed to unwind its support when the time comes.
Bernanke noted while the purpose of the support "is to prompt a return to the productive risk-taking that is essential to robust growth and to getting the unemployed back to work," an extended period of low rates, highly accommodative policy and the transition back toward normal levels may pose risks to financial stability.
He argued that the balance is not easy to strike.
"While the recent crisis is vivid testament to the costs of ill-judged risk-taking, we must also be aware of constraints posed by the present state of the economy," Bernanke said.
"In light of the moderate pace of the recovery and the continued high level of economic slack, dialing back accommodation with the goal of deterring excessive risk-taking in some areas poses its own risks to growth, price stability, and, ultimately, financial stability," he said.
He argued on Friday that the Fed's dual mandate "has led us to provide strong support for the recovery, both to promote maximum employment and to keep inflation from falling below our price stability objective."
The Fed said recently it expects to keep interest rates at "an exceptionally low level" at least as long as the unemployment rate is above 6.5 percent, projected inflation remains near the 2 percent target and long-term inflation expectations remain stable.
The basic message is that long-term interest rates are expected to rise gradually over the next few years, rising to around 3 percent at the end of 2014, according to forecasts.
Bernanke said on Capitol Hill this week that it may take until 2016 for unemployment to fall below 6 percent. The jobless rate currently stands at 7.9 percent.
He said the Fed "will be alert for any developments that pose risks to the achievement of the Federal Reserve's mandated objectives of price stability and maximum employment."
"And we will, of course, remain prepared to use all of our tools as needed to address any such developments."