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 In remarks to the Senate Banking Committee, Yellen described how the
Fed's rate-setting policy committee will likely proceed in coming
months - first by removing the word "patient" in describing its
approach to rate hikes, then entering a phase in which rate hikes
are possible at any meeting.
That approach could open the door to an interest rate increase as
early as June, though investors interpreted Yellen's testimony
overall as likely indicating a later date for liftoff. By the end of
her two-hour appearance before the Senate Banking Committee,
short-term rate futures contracts showed traders had shifted their
expectations of an initial rate hike from September to October,
according to data collected and analyzed by CME FedWatch.
Yellen, however, said that even as the Fed refines its language in
coming weeks, investors should not construe that as a sign the
central bank is wed to a rate hike at any particular meeting.
Rather, she said, when the word "patient" disappears it means the
Fed will merely have full flexibility to act if its judges the
economic data warrant it.
The Fed has been struggling in recent months to move away from the
sort of forward guidance it has relied on through the crisis to
influence market behavior, without at the same time triggering a
market overreaction with each tweak to its policy statement.
Yellen's comments on Tuesday marked another step in that process.
"If economic conditions continue to improve, as the committee
anticipates, the committee will at some point begin considering an
increase in the target range for the federal funds rate on a
meeting-by-meeting basis," Yellen said.
"Before then, the committee will change its forward guidance.
However, it is important to emphasize that a modification of the
forward guidance should not be read as indicating that the committee
will necessarily increase the target range in a couple of meetings."
Yellen's discussion of forward guidance was part of prepared
testimony that included a broad overview of a U.S. economy that
appeared to be surging forward with strong job growth and a
continued post-financial crisis expansion - conditions largely
consistent with a rise in interest rates later this year.
Analysts said the testimony did little to nail down the likely date
of a rate hike, with her testimony and answers to questions veering
between confidence in a "solid" recovery and continuing concerns
about weak wages and other signs the labor market is not fully
healthy.
"I would suggest that Yellen is still keeping a very open mind,
still in no hurry to give a signal that a rate hike is imminent,"
said Brian Dolan, head market strategist at New Jersey-based
Drivewealth LLC.
LACK OF INFLATION A CONCERN
Alabama Republican Senator Richard Shelby, the chair of the Senate
Banking Committee, led a discussion that confronted Yellen with a
broad set of concerns - from currency manipulation among U.S.
trading partners to whether Congress should delve more deeply into
the Fed's affairs. Shelby has scheduled a separate hearing next week
on Fed oversight, and challenged Yellen on the issue in his opening
statement.
With a more than $4 trillion balance sheet from its various
crisis-fighting efforts, "many question whether the Fed can rein in
inflation and avoid destabilizing asset prices," Shelby said. "I am
interested to hear whether the current Chair ... believes the Fed
should be immune from any reforms."
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Yellen was adamant.
Pending legislation that would let the Government Accountability
Office review monetary policy "would politicize monetary policy,"
Yellen said, and "beyond a shadow of a doubt" make the Fed less
effective.
On Wednesday she will testify before a House of Representatives
committee.
Just completing her first year as Fed chief, Yellen said she felt
U.S. labor markets and other key economic indicators "have been
increasing at a solid rate." However, she said she still feels the
job market is not fully repaired, and that the U.S. outlook remains
somewhat clouded by a weaker-than-hoped-for global economy, stalled
wage growth, and falling inflation.
None of those factors on their own may be enough to keep the Fed
from raising interest rates later this year. Rates have been near
zero since the financial crisis hit in 2008, part of a record effort
by the central bank to repair the damage of the Great Recession.
But the lack of inflation has made some Fed policymakers hesitant to
commit to raising rates until they are more certain the United
States is not headed down the same path as Europe or Japan, mature
industrial economies that are struggling to maintain growth.
The Fed considers a steady 2 percent annual inflation rate a sign of
overall economic health - consistent with its own ability to return
interest rates to a normal level, and not so high or low that it
distorts household and business spending and investment decisions.
Though the current weak prices are considered likely to be a
temporary result of the collapse in oil prices, doubts remain.
Yellen's statement could set the stage for the Fed to remove the
"patient" reference as soon as its next meeting in March, a step
policymakers began discussing in January according to recently
released Fed minutes. Several policymakers, including some centrists
on the committee, have said they feel an interest rate increase
should be on the table by June, after the intervening Fed policy
meeting in April.
The discussion of forward guidance in Yellen's testimony is an
effort to extricate the Fed from a perhaps unforeseen constraint it
created when the word "patient" was put in its statement in
December. Yellen defined patient as a "couple" of meetings, and
policymakers soon became concerned, according to the most recent Fed
minutes, that investors would view any removal of "patient" as a
sign that interest rates would definitely rise two meetings later.
(Reporting by Howard Schneider and Michael Flaherty; Editing by
Andrea Ricci and Paul Simao)
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