Ben Bernanke, seven days away from his toughest test as chairman of the Federal Reserve, refused to hint at his latest thinking on interest rates yesterday and kept the market guessing on the central bank's likely response to the unfolding credit crisis.
Investors had hoped that a speech to a central bankers' conference in Germany would lead to clarity over whether the Fed will finally begin to cut interest rates next Tuesday, and whether its first reduction in four years would be a quarter or a half-percentage point.
In the end, markets go into next week with an unprecedented feeling of uncertainty over the possible outcome, amid conflicting signs about the severity of the credit crunch. While investors in Countrywide Financial, America's largest mortgage lender, were spooked by suggestions that it is once again fighting for its survival, others took heart at soothing words from the head of the European Central Bank, Jean-Claude Trichet, and global stock markets rose yesterday.
Mr Bernanke's words proved a disappointment to an industry of experts trained to interpret the speeches of Fed chairmen, and they contrasted yesterday's speech with those of Mr Bernanke's predecessor, Alan Greenspan, who would always say something on the issue of the day -- even if it was not ever entirely clear what he meant.
Mr Bernanke stuck to the prepared theme of his speech, namely global financial imbalances and the savings glut he attributed to increasing oil or industrial wealth in emerging countries, alluding only once to "the greater recent volatility in financial markets and investors' demands for increased compensation for risk-taking".
The Fed continued to inject cash into the financial system to ensure banks keep lending, adding a further $3bn (£1.5bn), but bond markets are now predicting the Fed will move beyond these financial market operations with a 25 or 50-basis point cut to interest rates, following signs that the US job market is slowing. The dollar continued to slide yesterday, hitting $2.03 to the pound.
M. Trichet said that losses on the exotic debt instruments which have collapsed in value are "not significant enough to materially impact the soundness of core financial institutions" and he added that there should be more transparency in future over the risks of such instruments. "The fact that there is a suspicion that not all financial institutions are displaying their real risk and potential losses creates this sentiment of absence of confidence," he said. "A return to confidence is absolutely of the essence between the institutions themselves."
Countrywide Financial is believed to be considering a new rescue package from a much bigger financial institution -- its second bail-out in the space of a month.
The market for mortgage-backed bonds, where Countrywide previously raised funds, has all but seized up, and the company has been forced to tap banks for emergency loans to carry on its business and to fund a restructuring that will result in 12,000 job cuts over the next three months. House prices continue to slide across many parts of the US, and low-income Americans are defaulting on home loans in record numbers as low introductory interest rates expire and the job market gets tougher.
A new refinancing would likely mimic the Bank of America deal last month, which pumped $2bn into the company in exchange for bonds convertible into Countrywide shares at $18 apiece. That was then a significant discount to the prevailing price and appeared to set a floor for the stock, but the price has slid below that level and Bank of America risks being left with significant losses if Countrywide defaults on the bonds.
Jim Shanahan, analyst at Wachovia Securities, told Countrywide shareholders to expect further dilution of their stakes if another rescue refinancing is needed. He wrote: "The only positive about another deal is that it seems to lower the probability of bankruptcy by boosting the company's liquidity."