Federal Reserve Board Chair Janet Yellen told Congress Tuesday morning that if job creation continues and inflation keeps rising toward the Fed’s 2 percent target rate, the Fed will likely start to unwind two of the biggest tools it’s used over the last few years to help keep the economy afloat.
One of these tools has been the federal funds rate, which the Fed has kept between 0 and 0.25 percent for the last few years. The fed funds rate is the rate at which banks loan money to each other, and the near-zero rate has translated into very low rates for borrowers.
Tuesday morning, Yellen told the Senate Banking Committee that the consensus view in the Fed is that a rate hike will happen in 2015, and that the fed funds rate will be around 1 percent by the end of 2015.
Yellen stressed that this view could change depending on what happens to the economy over the next several months. “It will depend on the progress of the economy and how we assess it based on a variety of indicators,” she said.
Yellen also indicated that continued economic growth would likely lead the Fed to stop buying billions of dollars worth of government debt each month, another tool the Fed has used to help prop up the economy.
The Fed bought $85 billion worth of government debt per month in 2013, but late last year it started tapering those purchases by $10 billion each time the Federal Open Market Committee met.
“If incoming data continued to support our expectation of ongoing improvement in labor market conditions and inflation moving back toward 2 percent, the committee likely will make further measured reductions in the pace of asset purchases at upcoming meetings, with purchases concluding after the October meeting,” Yellen told the committee.
She stressed that stopping these purchases would still leave the Fed a portfolio of hundreds of billions of dollars worth of Treasury bills.
Yellen said she had an optimistic outlook about the economy, and said she believes the 2.9 percent contraction in the economy in the first quarter of the year understates the strength of the economy.
“My reading at the present time is that the GDP decline is largely due to factors I would judge to be transitory,” she said.
At the same time, she said the unemployment rate is higher than the Fed’s target rate, at 6.1 percent, and noted that millions of people are still not working.
“Labor force participation appears weaker than one would expect based on the aging of the population and the level of unemployment,” she said. “These and other indications that significant slack remains in labor markets are corroborated by the continued slow pace of growth in most measures of hourly compensation.”
While Democrats have said the declining unemployment rate shows the Obama administration has succeeded in turning the economy around, Republicans have said the economy has yet to recreate the millions of jobs that the unemployed had a few years ago.