Core inflation should edge down a bit over the next year and a half, as inflation expectations remain contained, energy prices flatten out and pressures from the labor and product market diminish, Federal Reserve board chairman Ben Bernanke said Wednesday.

"Core inflation should edge a bit lower, on net, over the remainder of this year and next year," Bernanke said in prepared testimony to the House Financial Services Committee. "If energy prices level off as currently anticipated, overall inflation should slow to a pace close to that of core inflation in coming quarters," Bernanke said.

On growth, the Fed chairman said the economy should expand at a "moderate pace" over the second half of 2007, and "strengthen a bit" next year. Bernanke said the central bank remains on alert that this soft-landing scenario will not pan out. He stressed that there are risks in both directions -- of slower growth from the ongoing housing correction and of higher inflation from a possible sharp rise in energy and commodity prices.

Bernanke did not ignore headline inflation in his testimony, but said that core inflation, which strips away volatile food and energy prices, "may be a better gauge than overall inflation of underlying inflation trends." His remarks suggest vigilance but not panic on the outlook.

"There is nothing in the prepared testimony designed to shake market expectations of little if any change to Fed policy over the medium term," said Josh Shapiro, chief U.S. economist at MFR Inc., in a note to clients. Ian Shepherdson, chief U.S. economist at High Frequency Economics, said Bernanke's testimony "is little more than an expansion of the views set out in recent FOMC statements; there is no signal of any change in the Fed's core views."

"The Fed is sticking to their guns. They still see a pretty good economy going forward," said Ethan Harris, chief economist at Lehman Brothers, in a television interview after Bernanke had concluded his testimony.
Bernanke's remarks had little impact on the stock market.

Treasury prices rose, sending yields lower, as investors cheered Bernanke's comments that core inflation should edge down. Read Bond Report. The dollar dropped as the prospects for any rate hike receded. Read Currency report. Bernanke's "prepared comments [were] less hawkish than the market was anticipating," said Kathy Lien, chief strategist at DailyFX.com.

Bernanke said that the headline price index for personal consumption expenditures inflation rate is at 4.4% annual rate over the first five months of the year. This pace, if maintained "would clearly be inconsistent with the objective of price stability." Recent readings on core inflation "have been favorable," he said, but there is considerable noise in the data and some of the improvement "could also be the result of transitory influences."

Bernanke's comments fit squarely in the most recent Fed policy statement that "a sustained moderation in inflation pressures" has yet to be "convincingly demonstrated." The Fed has kept the federal funds target rate at 5.25% for more than a year.

Bernanke made little news in his questions and answers with members of the House panel. Many members focused on rising income inequality. Bernanke said the trend of income inequality has been worsening for 30 years and the Fed's role was to keep the economy strong and stable. Education reform was another key, he said. Bernanke warned that the Fed is watching inflation expectations closely.