Janet Yellen has acknowledged the Federal Reserve is facing uncertainty as to when US inflation will finally pick up in response to the strengthening economy, even as she continued to chart out a course towards gradual rate rises and the unwinding of the central bank's quantitative easing programme.
The Federal Reserve chair was broadly positive about the economy’s recent performance in prepared testimony to Congress on Wednesday, stressing there had been a rebound in household spending over recent months and that manufacturers were getting support from stronger growth overseas.
But Ms Yellen also emphasised that the Fed’s rate setters were watching inflation very closely given its failure to pick up to the central bank’s target. She did not give strong new signals as to when the Fed’s next policy moves will come, sticking with prior guidance that the central bank will start unwinding its balance sheet “this year”.
The Fed exited the latest policy meeting with policymakers divided over how to respond to disappointing inflation readings. Core inflation, measured by the Fed’s preferred gauge, retreated slightly to 1.4 per cent in May, defying predictions from some rate-setters that price growth will be buoyed by America’s robust jobs recovery.
While only one rate-setting official dissented over the Fed’s quarter-point rate increase in June - Neel Kashkari of the Minneapolis Fed - persistently poor inflation numbers could yet embolden doves at the central bank in the coming months.
For her part, Mr Yellen has repeatedly argued during the Fed’s rate-raising cycle that inflation will eventually materialise given the continued improvements in the jobs market.
In her testimony, Ms Yellen continued to ascribe the poor readings in part to “a few unusual reductions” in a handful of items in the inflation basket. These factors will to hold back inflation readings until they drop out of official calculations, Ms Yellen said.
Stronger growth of incomes and jobs should “increase resource utilisation somewhat further, thereby fostering a stronger pace of wage and price increases.”
However, Ms Yellen added: “Of course, considerable uncertainty always attends the economic outlook. There is, for example, uncertainty about when - and how much - inflation will respond to tightening resource utilisation.”
Monetary policy, she said, was not on a “preset course”. Ms Yellen added: “At present, I see roughly equal odds that the US economy’s performance will be somewhat stronger or somewhat less strong than we currently project.”
Ms Yellen is this morning making what could be one of her last appearances before Congress if she fails to win a second term from Donald Trump in the new year.
Ahead of her possible departure the Fed has been pushing to retain broad discretion over monetary policy, in the face of a campaign by Republican lawmakers to push it to a more rules-based system.
In her remarks, Ms Yellen stressed the hazards of an over-reliance on policy rules to guide rate-setting.
While the Fed regularly consults the rules, “such prescriptions cannot be applied in a mechanical way,” Ms Yellen says in her testimony. “Their use requires careful judgments about the choices and measurement of the inputs into these rules, as well as the implications of the many considerations these rules do not take into account.”
Some Republicans are hoping to see a future chair who is willing to place a higher priority on rules, such as those recommended by Stanford professor John Taylor, to set rates.
Randal Quarles, whom Mr Trump this week nominated to the Fed’s Board of Governors, has expressed support for a more formulaic approach to rate-setting. Marvin Goodfriend, another possible nominee, has as well.
– Copyright The Financial Times Limited 2017
