Fed’s Yellen sees stronger case for interest rate hike

US Federal Reserve chair Janet Yellen said the case for an interest rate rise has strengthened in recent months.

Federal Reserve Chair Janet Yellen, right, with vice chairman Stanley Fischer at the Jackson Hole conference. Picture: AP Photo/Brennan Linsley.

Federal Reserve Chair Janet Yellen signalled growing conviction that the central bank will raise short-term interest rates in the weeks or months ahead.

“In light of the continued solid performance of the labour market and our outlook for economic activity and inflation, I believe the case for an increase in the federal funds rate has strengthened in recent months,” Dr Yellen said in remarks prepared for delivery at the Jackson Hole central bankers’ conference.

The remarks left the door open for a Fed rate increase at its Sept. 20-21 policy meeting, but the chair hedged her comments in ways that give the central bank an out if economic data disappoint in the next few weeks. Most importantly, the Fed’s decision appears to hinge on whether the Labor Department’s Sept. 2 jobs report shows steady gains in hiring.

“Our decisions always depend on the degree to which incoming data continues to confirm the [Fed’s] outlook,” she said. If the Fed doesn’t move in September, it has two more meetings this year, one in November just before US elections and another in December. Her comments suggest she expects a move at one of these meetings if a September move doesn’t happen.

The Fed pushed rates to near zero in December 2008, kept them there for seven years and then nudged them up a quarter percentage point last December. Officials began the year expecting to raise rates four times in quarter-point increments but have delayed moving them because economic growth disappointed in the first half of the year and because they were uncertain about developments overseas and about the strength of the US job market after some soft reports.

Dr Yellen said her worries had dissipated.

“While economic growth has not been rapid, it has been sufficient to generate further improvement in the labour market,” Dr Yellen said. Broad measures of labour market slack are improving, even though the unemployment rate has been steady most of the year near 5 per cent, she added.

The Fed leader suggested that internal forecasts for the outlook have been steady since officials at the central bank last wrote down their projections for growth, unemployment and inflation. The evolution of these forecasts helps drive Fed decisions about rates. If the forecasts were deteriorating, the Fed would be more likely to stand pat on rates or to look for new ways to support growth.

“The [Fed] expects moderate growth in real gross domestic product, additional strengthening in the labour market, and inflation rising to 2 per cent over the next few years,” Dr Yellen said. “Based on this economic outlook, the [Fed] continues to anticipate gradual increases in the federal funds rate will be appropriate over time.”

The Fed leader sought to place new emphasis on her own uncertainty about the longer-run outlook for rates.

Fed officials make projections every three months about where they expect short-term rates to be at year-end. As of June, for example, the median estimate among them for the federal-funds rate at the end of 2017 was 1.625 per cent and the median estimate for 2018 was 2.375 per cent.

Instead of focusing on these point estimates, Dr Yellen highlighted the range of possibilities for rates in the years ahead, noting there is a 70 per cent probability rates could be between zero and 3.25 per cent at the end of 2017 and between zero and 4.25 per cent at the end of 2018.

“The reason for the wide range is that the economy is frequently buffeted by shocks and thus rarely evolves as predicted,” she said.

She dedicated much of her talk to examining how the Fed might behave in future downturns.

Traditionally, the Fed cuts rates in a downturn to spur borrowing, investing and spending. With rates so low, the Fed has little room to cut them if the economy sinks now.

Dr Yellen said the Fed in some hypothetical future downturn might need to return to tools used in the recent past — purchases of bonds to bring down long-term interest rates and promises of low rates far into the future. Other tools developed by the Fed — including payments it makes to banks on the reserves they deposit with the central bank — could be another long-run feature of Fed policy.

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