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Bernanke’s Bunker Hill

Ben Bernanke is adamant that he isn’t out of bullets.

But the Fed chief wants to see the whites of the next downturn’s eyes before he pulls the trigger on another round of monetary stimulus.

Are the deflationcoats coming?

Bernanke was on Capitol Hill Wednesday to offer the Fed’s semiannual monetary policy report to Congress. His appearance comes a week after the Fed revealed it had downgraded its economic growth forecasts.

The slowdown set market watchers to speculating that Bernanke might outline a policy shift that would allow the Fed to boost the supply of dollars in the economy, in hopes of fending off a so-called double-dip recession.

The Fed has already vastly expanded its asset base, in a bid to keep credit flowing at a time when the banking system has been contracting.

News reports attributed to Fed officials focused on three approaches the central bank could take should the economy stall: a cut in the interest rates paid on bank reserves, a shift in how long the Fed expects to hold short-term interest rates near zero, or changes in the Fed’s balance sheet.

But Bernanke’s testimony Wednesday addressed none of those policies. Instead, the Fed chief said generically that “we will continue to carefully assess ongoing financial and economic developments, and we remain prepared to take further policy actions as needed to foster a return to full utilization of our nation’s productive potential in a context of price stability.”

What’s more, he made that statement after explicitly outlining some policy changes that might allow the Fed to take the opposite tack – draining liquidity from the banking system in a bid to hold down inflation risks in an economic recovery.

Asked if he feared being out of bullets should the downturn intensify, Bernanke answered no, then rattled off the Fed’s three options for adding liquidity. He added that the Fed “needs to continue to evaluate those options.”

Bernanke’s choice of words suggests he isn’t eager to look dovish in front of a Congress that under pressure to take action on the massive U.S. budget deficit – even though the yield on the 10-year Treasury note has tumbled by more than a percentage point since April, easing fears of an investor flight.

Bernanke’s stance seems to preclude the oft-rumored cut in reserve interest rates — unless the bottom absolutely falls out of the recovery.

“To our minds, it would require a considerable further deterioration in the incoming data before the FOMC would realistically consider adding more stimulus to the mix,” Capital Economics analyst Paul Ashworth wrote in a note to clients Wednesday.

Even in that instance, Ashworth believes, the Fed’s first step would be to return to the policy it wound up this spring of purchasing long-dated U.S. government and agency bonds.