Bernanke: Financial turmoil in markets easing

In his speech, Bernanke did not talk about the Fed's next move on interest rates or the broader state of the U.S. economy, which many fear is on the edge of a recession or in one already.

To bolster the economy, the Fed last month cut a key interest rate by one-quarter percentage point to 2 percent. At the same time, policymakers indicated that their rate-cutting campaign, which started in September, could be drawing to a close. If that happens, many economists believe the Fed will focus more on its various efforts to relieve stressed credit markets.

After a run on Bear Stearns pushed the nation's fifth-largest investment bank to the brink of bankruptcy in March, fears grew that others might be in jeopardy, given major stresses in credit and financial markets at that time.

Scrambling to avert a market meltdown, the Fed — in the broadest use of the central bank's lending authority since the 1930s — agreed in March to temporarily let investment firms obtain emergency financing from the Fed, a privilege previously granted only to commercial banks. That's one of the Fed's most significant actions.

The Fed also has moved to make cash loans to commercial banks and to make super-safe Treasury securities available to investment firms. All these efforts are aimed at bolstering confidence and getting firms to behave in a more normal fashion so they'll be more inclined to lend to each other, consumers and businesses.

Ultimately, financial companies will need to raise new capital and improve risk management to address the fundamental sources of financial strains, Bernanke said. "This process is likely to take some time," he added.

And once financial conditions become more normal, the extraordinary provisions to provide ready sources of cash to financial institutions will no longer be needed, he said.

Even as the Fed has stepped in to provide such help, it also is mindful of creating a "moral hazard," where financial institutions might be more inclined to take certain risks if they believe the Fed will be there to bail them out.

"The problem of moral hazard can perhaps be most effectively addressed by prudential supervision and regulation that ensures that financial institutions manage their liquidity risks effectively in advance of the crisis," Bernanke said.

The Fed is reviewing its policies on this front to see if improvements can be made, he said.

"Of course, even the most carefully crafted regulations cannot ensure that liquidity crises will not happen again," Bernanke said. But if moral hazard is mitigated and if financial institutions and investors tighten up risk-management practices, "the frequency and the severity of future crises should be significantly reduced," he said.

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