Janet L Yellen: Economic outlook
Testimony by Ms Janet L Yellen, Chair of the Board of Governors of the Federal Reserve
System, before the Joint Economic Committee, US Congress, Washington DC, 3 December
2015.
* * *
Chairman Coats, Ranking Member Maloney, and members of the Committee, I appreciate the opportunity to testify
before you today. In my remarks I will discuss the current economic outlook before turning to monetary policy.
The economic outlook
The U.S. economy has recovered substantially since the Great Recession. The unemployment
rate, which peaked at 10 percent in October 2009, declined to 5 percent in October of this year.
At that level, the unemployment rate is near the median of Federal Open Market Committee
(FOMC) participants' most recent estimates of its longer-run normal level. The economy has
created about 13 million jobs since the low point for employment in early 2010, and total
nonfarm payrolls are now almost 4-1/2 million higher than just prior to the recession. Most
recently, after a couple of months of relatively modest payroll growth, employers added an
estimated 271,000 jobs in October. This increase brought the average monthly gain since June
to about 195,000 - close to the monthly pace of around 210,000 in the first half of the year and
still sufficient to be consistent with continued improvement in the labor market.
At the same time that the labor market has improved, U.S. economic output - as measured by
inflation-adjusted gross domestic product (GDP), or real GDP - has increased at a moderate
pace, on balance, during the expansion. Over the first three quarters of this year, real GDP is
currently estimated to have advanced at an annual rate of 2-1/4 percent, close to its average
pace over the previous five years. Many economic forecasters expect growth roughly along
those same lines in the fourth quarter.
Growth this year has been held down by weak net exports, which have subtracted more than
1/2 percentage point, on average, from the annual rate of real GDP growth over the past three
quarters. Foreign economic growth has slowed, damping increases in U.S. exports, and the
U.S. dollar has appreciated substantially since the middle of last year, making our exports
more expensive and imported goods cheaper.
By contrast, total real private domestic final purchases (PDFP) - which includes household
spending, business fixed investment, and residential investment, and currently represents
about 85 percent of aggregate spending - has increased at an annual rate of 3 percent this
year, significantly faster than real GDP. Household spending growth has been particularly solid
in 2015, with purchases of new motor vehicles especially strong. Job growth has bolstered
household income, and lower energy prices have left consumers with more to spend on other
goods and services. Increases in home values and stock market prices in recent years, along
with reductions in debt, have pushed up the net worth of households, which also supports
consumer spending. Finally, interest rates for borrowers remain low, due in part to the FOMC's
accommodative monetary policy, and these low rates appear to have been especially relevant
for consumers considering the purchase of durable goods.
Other components of PDFP, including residential and business investment, have also
advanced this year. Indeed, gains in real residential investment spending have been faster so
far this year than last year, although the level of new residential construction still remains fairly
low. And outside of the drilling and mining sector, where lower oil prices have led to substantial
cuts in outlays for new structures, business investment spending has posted moderate gains.
Turning to inflation, it continues to run below the FOMC's longer-run objective of 2 percent.
Overall consumer price inflation - as measured by the change in the price index for personal
consumption expenditures - was only 1/4 percent over the 12 months ending in October.
However, this number largely reflects the sharp fall in crude oil prices since the summer of
2014. Because food and energy prices are volatile, it is often helpful to look at inflation
excluding those two categories - known as core inflation - which is typically a better indicator
of future overall inflation than recent readings of headline inflation. But core inflation - which
ran at 1-1/4 percent over the 12 months ending in October - is also well below our 2 percent
objective, partly reflecting the appreciation of the U.S. dollar, which has pushed down the
prices of imported goods, placing temporary downward pressure on inflation. Even after taking
account of this effect, however, inflation has been running somewhat below our objective.
Let me now turn to where I see the economy is likely headed over the next several years. To
summarize, I anticipate continued economic growth at a moderate pace that will be sufficient
to generate additional increases in employment and a rise in inflation to our 2 percent objective.
Although the economic outlook, as always, is uncertain, I currently see the risks to the outlook
for economic activity and the labor market as very close to balanced.
Regarding U.S. inflation, I anticipate that the drag due to the large declines in prices for crude
oil and imports over the past year and a half will diminish next year. With less downward
pressure on inflation from these factors and some upward pressure from a further tightening
in U.S. labor and product markets, I expect inflation to move up to the FOMC's 2 percent
objective over the next few years. Of course, inflation expectations play an important role in
the inflation process, and my forecast of a return to our 2 percent objective over the medium
term relies on a judgment that longer-term inflation expectations remain reasonably well
anchored.
Monetary policy
Let me now turn to the implications of the economic outlook for monetary policy. In the policy
statement issued after its October meeting, the FOMC reaffirmed its judgment that it would be
appropriate to increase the target range for the federal funds rate when we had seen some
further improvement in the labor market and were reasonably confident that inflation would
move back to the Committee's 2 percent objective over the medium term. That initial rate
increase would reflect the Committee's judgment, based on a range of indicators, that the
economy would continue to grow at a pace sufficient to generate further labor market
improvement and a return of inflation to 2 percent, even following the reduction in policy
accommodation. As I have already noted, I currently judge that U.S. economic growth is likely
to be sufficient over the next year or two to result in further improvement in the labor market.
Ongoing gains in the labor market, coupled with my judgment that longer-term inflation
expectations remain reasonably well anchored, serve to bolster my confidence in a return of
inflation to 2 percent as the disinflationary effects of declines in energy and import prices wane.
Committee participants recognize that the future course of the economy is uncertain, and we
take account of both the upside and downside risks around our projections when judging the
appropriate stance of monetary policy. In particular, recent monetary policy decisions have
reflected our recognition that, with the federal funds rate near zero, we can respond more
readily to upside surprises to inflation, economic growth, and employment than to downside
shocks. This asymmetry suggests that it is appropriate to be more cautious in raising our target
for the federal funds rate than would be the case if short-term nominal interest rates were
appreciably above zero. Reflecting these concerns, we have maintained our current policy
stance even as the labor market has improved appreciably.
However, we must also take into account the well-documented lags in the effects of monetary
policy. Were the FOMC to delay the start of policy normalization for too long, we would likely
end up having to tighten policy relatively abruptly to keep the economy from significantly
overshooting both of our goals. Such an abrupt tightening would risk disrupting financial
markets and perhaps even inadvertently push the economy into recession. Moreover, holding
the federal funds rate at its current level for too long could also encourage excessive
risktaking and thus undermine financial stability.
On balance, economic and financial information received since our October meeting has been
consistent with our expectation of continued improvement in the labor market. And, as I have
noted, continuing improvement in the labor market helps strengthen our confidence that
inflation will move back to our 2 percent objective over the medium term. That said, between
today and the next FOMC meeting, we will receive additional data that bear on the economic
outlook. These data include a range of indicators regarding the labor market, inflation, and
economic activity. When my colleagues and I meet, we will assess all of the available data and
their implications for the economic outlook in making our policy decision.
As you know, there has been considerable focus on the first increase in the federal funds rate
after nearly seven years in which that rate was at its effective lower bound. We have tried to
be as clear as possible about the considerations that will affect that decision. Of course, even
after the initial increase in the federal funds rate, monetary policy will remain accommodative.
And it bears emphasizing that what matters for the economic outlook are expectations
concerning the path of the federal funds rate over time: It is those expectations that affect
financial conditions and thereby influence spending and investment decisions. In this regard,
the Committee anticipates that even after employment and inflation are near
mandateconsistent levels, economic conditions may, for some time, warrant keeping the target federal
funds rate below levels the Committee views as normal in the longer run.
Summary
In closing, the economy has come a long way toward the FOMC's objectives of maximum
employment and price stability. When the Committee begins to normalize the stance of policy,
doing so will be a testament, also, to how far our economy has come in recovering from the
effects of the financial crisis and the Great Recession. In that sense, it is a day that I expect
we all are looking forward to.
Thank you. I would be pleased to take your questions.