Federal Reserve Chair Janet Yellen's 3,600-word speech at an economic symposium in Jackson Hole, Wyoming, today set the stage for shifting gears in monetary policy in the months ahead.
The pivot would come after years of keeping interest rates at record-low levels. Trillions of dollars in asset purchases are expected to end in October.
Yellen reminded the audience that monetary policy will need to adapt to economic data as it appears.
Even as the economy is viewed as making steady improvement, Yellen's critics fear the central bank is waiting too long to hike interest rates. A small number of members of the Federal Open Market Committee are among those growing impatient, as noted in the recently released FOMC minutes from the group's late July monetary policy session.
Word cloud of Fed Chair Janet Yellen's speech to an economic symposium
The Fed's benchmark federal funds rate remains near zero, and it's widely expected that the central bank will begin raising it next year. Yellen talked of the challenges involved with unwinding unprecedented policies, including the risks of moving too soon versus waiting too long to hike interest rates.
Even so, Yellen doesn't appear to have shifted expectations, avoiding an injection of indigestion for investors or disruption for financial markets. The comments "reinforce the view that the Federal Open Market Committee is likely to keep the federal funds rate target close to zero until the second half of 2015," said Stuart Hoffman, chief economist at PNC Financial Services Group.
Yellen noted that monthly job gains have averaged 230,000 so far this year, with the July unemployment at 6.2 percent.
"These developments are encouraging, but it speaks to the depth of the damage that five years after the end of the recession, the labor market has yet to fully recover," Yellen said.
Yellen used the word "slack" 22 times in the speech. Among the statistics she referenced as an indication of weakness in the labor market was labor force participation, or the number of people working or wanting to work.
Yellen called attention to "the elevated number of workers who are employed part time but desire full-time work." This number, which she put at nearly 5 percent of the labor force, may explain why the current level of the unemployment rate may understate the amount of remaining slack in the labor market, she said.
Is there an outbreak of optimism about would-be workers? Yellen noted the relative stability in the size of the labor force since late last year, which she said might signal "discouraged workers" coming back into the labor force. At issue is whether it suggests that the labor market is truly on the mend.
Acknowledging inflation fears
Countering the use of the word "slack" in her speech, Yellen mentioned "inflation" 31 times. At the outset, she repeated the Fed's often-stated mission to foster maximum employment and price stability, the latter being the absence of inflation.
Central bankers fear few things more than periods of prices spiraling sharply higher or lower. The U.S. experienced rampant inflation in the 1970s while Japan's experience since the mid-1990s has been a study in deflation.
Yellen and her central bank colleagues want to avoid causing negative economic developments with their monetary policies. One such fear would be inflation accelerating more than expected. She said that such a development could necessitate "an abrupt and potentially disruptive tightening of policy later on."
But what happens if the Fed pulls the rate trigger too soon? Yellen said that might "prevent labor markets from recovering fully, and so would not be consistent with the dual mandate."
On the one hand, on the other hand...
"If you don't like two-armed economists, you will truly dislike the talk that Fed Chair Janet Yellen gave," said economist Joel Naroff, of Naroff Economic Advisors, noting what he saw as balance in her speech. "If Janet Yellen was viewed believing the labor market had plenty of slack and wage pressures would not build anytime soon, that perception has to change," says Naroff.
Yellen concluded: "If inflation moves up more rapidly than anticipated ... the increase in the federal funds rate target would come sooner than the committee currently expects." At the other end of the equation, "if economic performance turns out to be disappointment ... then the future path of interest rates likely would be more accommodative."
The FOMC's next policy-setting session is set for Sept. 16 and 17.
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