Well … maybe.  Ben Bernanke told the House Financial Services Committee that the Fed would conduct a third round of quantitative easing if they saw a risk of deflation in the economy in the next few months:

Federal Reserve Chairman Ben Bernankesaid Wednesday that the central bank is prepared to provide additional stimulus if the current U.S. economic lull persists. …

Bernanke maintained that temporary factors, such as high food and gas prices, have slowed the economy. He said those factors should ease in the second half of the year and growth should pick up. But if that forecast proves wrong, he said the Fed is prepared to do more.

“The possibility remains that the recent economic weakness may prove more persistent than expected and that deflationary risks might re-emerge, implying a need for additional policy support,” Bernanke told the House Financial Services Committee on the first of two days of Capitol Hill testimony.

Or …

Bernanke also said it was possible that inflationary pressures spurred by higher energy and food prices may end up being more persistent than the Fed anticipates. He said that the central bank would be prepared to start raising interest rates faster than currently contemplated, if prices don’t moderate.

Bernanke’s comments about inflation spoke to concerns expressed by some regional bank presidents at the Fed. The have criticized the Fed’s bond-buying program, saying it has increased the risk for higher inflation.

In other words, Bernanke’s leaving his options open.  If we do enter a deflationary cycle, that could be devastating, and these days, it’s the only thing that the Fed can actually impact.

Reading tea leaves at the Fed is always a dicey proposition, as today’s Washington Post analysis shows.  Even from the notes of the last meeting, Neil Irwin has a tough time deciding what direction the board will take next on monetary policy.  Some members want to keep another round of quantitative easing on the table in case inflation dissipates again, but others are wondering whether the economy has fundamentally changed after such chronically high unemployment that their assumptions have to change:

Federal Reserve officials lack a strong consensus over what they should do next in setting the nation’s monetary policy, according to minutes of their last policy meeting, showing a mix of views as to why the U.S. economy remains weak and what, if anything, they should do about it.

At a June 21-22 meeting, some leaders of the central bank argued that if there were no progress reducing unemployment, the Fed should consider further expanding the money supply — which in practice would mean a third round of “quantitative easing,” or buying hundreds of billions of dollars in Treasury bonds.

That was by no means a consensus, however.  In fact, there seems to be a growing momentum towards tightening the money supply by having the Fed pull cash out of the economy:

Some at the Fed argued that the current situation of moderate inflation with high unemployment suggests there may be more fundamental changes at work in the economy, with workers shifting sectors and losing skills because of long periods of unemployment.

Those structural changes in the economy, these officials argued, “may have temporarily reduced the economy’s level of potential output,” the minutes said. If that’s the case, they added, the Fed may need to start pulling money out of the economy sooner than markets now anticipate. …

Even as some at the Fed are pondering a move toward easing monetary policy, the leaders of the central bank also reached agreement on how they will go about ending the era of easy money when the day comes.

The “era of easy money” will have to come to an end at some point.  As QE2 demonstrated, Fed monetary policy at the extreme of “easiness” has almost no impact any longer on investment or growth.  It serves only as a backstop against deflation.  Because the cost of money is now as close to zero as possible, the Fed can no longer provide short-term boosts through temporary reduction of interest rates.  That makes them all but powerless, especially with an administration that has pursued anti-growth strategies for the last two-plus years in regulatory expansion and signaling of higher taxes.

If the Fed starts to pull cash out of the economy, interests rates will rise, which will make investment even more costly.  It won’t bring us back to the stagflation of the Carter years, when inflation and interest rates skyrocketed, but the stagnation and unemployment will start to calcify in the absence of a reversal of economic policy from Washington.  The best environment for the Fed to back off of its cheap-cash position would be in the middle of an economic boom, but that now looks at least a year away, and more than that if regulatory adventurism and demands for higher taxes continue.