Federal Reserve press conference, 2014-09-17 — Chair Janet Yellen

Question (Howard Schneider, Reuters): Thank you. Howard Schneider with Reuters. Thank you. So if you would help us, I mean, square the circle a little bit—because having kept the guidance the same, having referred to significant underutilization of labor, having actually pushed GDP projections down a little bit, yet the rate path gets steeper and seems to be consolidating higher— so if it’s data dependent, what accounts for the faster projections on rate increases if the data aren’t moving in that direction?
Answer: Well, the growth projections for 2014 are down a little bit, but the unemployment path is also marginally lower. So while the projected path of the labor market— unemployment and other measures of the labor market—of course is partly dependent on the growth outlook, it isn’t totally dependent on the growth outlook. And the Committee assesses that the labor market is continuing to improve, and you see a small reduction in the path of the unemployment this year and then over the rest of the projection period. So, if you ask me—you asked me, “Why has the projected funds rate path moved up?” Well, you know, each participant knows the reason they wrote down what they did. But, as a guess, I would hazard—first, I would say, there is relatively little upward movement in the path, and I would view it as broadly in line with what one would expect with a very small downward reduction in the path for unemployment and a very slight upward change in the projection for inflation. So, most participants, in deciding on the path, I think, look at, as our guidance says, how large is the gap between performance of the labor market and that associated with our maximum employment objective, how large is the gap between inflation and our 2 percent objective, how fast will those gaps change. And you see in the projections very modest reductions in the size of those gaps and modest—very small change of a slightly faster pace at which those gaps would change. I would describe the change in the projections, both for the economy and the path of rates, as quite modest. But the fact that they move does illustrate the data-dependence principle that I think is really so important for market participants to keep in mind, that what we do will depend on how the data unfold. There is uncertainty about that. And as expectations and the actual performance of the economy change, you should expect to see movements in the dots. I think it’s also notable that the further you go out in the projection period, the wider the set of dots. You see a big range out in 2017, and that reflects, in part, different forecasts by different members of the Committee about how rapid progress will be. What you don’t see in the dot—so-called dot plot is also the uncertainty that each individual, each participant, sees around their own projection. So things will depend on how the economy evolves. That will change over time, and there’s a good deal of uncertainty associated with it.

Question (Christopher Condon, Bloomberg): Thank you, Madam Chair. Chris Condon, Bloomberg News. Madam Chair, the economy has been growing now for five years, and some economists believe the expansion will last another five years. Why, in your view, is economic growth not creating more inflation in wages and in PCE? Is this all about remaining slack in the labor market, or are there other forces at play?
Answer: Well, to my mind, the very slow pace of wage increases does reflect slack in the labor market. We had a very deep recession, as is perhaps to be expected in the aftermath of a very significant financial crisis. We’ve faced headwinds in the economy recovering, so the recovery has been slow. Growth has been positive, and it’s lasted for five years. But it’s nevertheless been slow relative to past recoveries that have not been associated with financial crises. And while unemployment has come way down from the slightly over 10 percent level it reached, at 6.1 percent, it remains significantly above the level that most FOMC participants would regard as consistent with normal in the longer run, 5.2 to 5.5 percent. So there is significant underutilization of labor resources. We continue to discuss whether or not the unemployment rate itself is an adequate measure of how much underutilization of labor resources there really is. And, as I went into detail in Jackson Hole and won’t repeat all of that there, there are other ways in which we see underutilization—high levels that have come down only very marginally of part-time employment for economic—or involuntary part-time employment, perhaps some remaining shortfall of labor force participation as a result of cyclical factors. And so, I think there still is—and the statement says it—“significant underutilization of labor resources” and a very modest pace of wage increases that’s picked up very little, I see as essentially a reflection of that.

Question (Jon Hilsenrath, Wall Street Journal): Jon Hilsenrath from the Wall Street Journal. Chair Yellen, I want to come back to the interest rate projections that the Fed put out today. The public, I think, would be enlightened by knowing a bit more about where you stand in relation to these projections. And with that in mind, and in the name of transparency, I wonder if you could describe to us whether you’re at the low end of those projections, within the central tendency, or at the high end. I also want to ask you about a San Francisco Fed paper that came out recently, which suggested that market expectations have been running below the Fed’s own projections. So I wanted to ask you if you see that as well, and whether it’s at all troubling that market expectations might not be aligned with the central—with what the Fed put out today.
Answer: So, with respect to identifying myself, the Committee has had discussions during the years that we have been providing these forecasts of the participants to the public as to whether or not it’s desirable from the standpoint of Committee functioning to identify who’s who in these pictures. And thus far, while occasionally an individual will indicate in a speech what their personal views are, we have not yet decided that it would be a desirable thing for the point of view of our decisionmaking process to identify individuals. We have a subcommittee on communications that’s now chaired by Vice Chair Fischer, and they will be considering the SEP and whether or not some changes are appropriate. But until and unless there is some change in the Committee stance on this, I don’t want to identify myself. You asked, second, about the San Francisco Fed paper that did point to a notable divergence between market views and the views of the Committee. I’d say that there have been any number of different analyses of this topic, there are many different survey measures and interpretations of what the market thinks. And I don’t frankly think it’s completely clear that there is a gap. There are different views on whether or not such a gap exists. To the extent that there is a gap, one reason for it could be that markets and participants have different views on the evolution of economic conditions. For example, I think I’d note that when the Committee participants write down their forecast for the federal funds rate, they are showing the funds rate path that they consider most likely. Their economic forecasts are of the conditions that they think are the most likely ones. You don’t see the full range of possibilities there. And the path for the funds rate is the path that each individual thinks is most likely. Market participants, understanding that there are a range of possible outcomes, with upside and downside possibilities, are doing something slightly different, I think, when they’re determining market prices. They are taking into account the possibility that there can be different economic outcomes, including—even if they’re not very likely—ones in which outcomes will be characterized by low inflation or low growth and the appropriate path of rates will be low. So, differences in probabilities of different outcomes can explain part of that. We, you know, want to learn, we—market participants may have different views on the economy than the Committee does, and that’s something we want to try to infer and learn market views, in part from information of this type. What I can say is that it is important for market participants to understand what our likely response or reaction function is to the data, and our job is to try to communicate as clearly as we can the way in which our policy stance will depend on the data, and I promise to try to do that.

Question (Ylan Mui, Washington Post): Hi, Ylan Mui, Washington Post. My question is about the new exit principles. You guys say that you don’t plan to end reinvestments until after the first rate hike. Can you give us a little bit of a sense of what are the conditions you’re going to be looking for when you eventually begin to end the reinvestments? It sounds like tapering the reinvestments is also on the table. What might go into your decision on whether or not to end them altogether, whether or not to taper them? And do you have a general timeline for how long you think it will take to shrink the balance sheet once you actually start?
Answer: Okay. All good questions. So, I think the Committee would—will be focused on—we intend to use the path of short-term interest rates as our key tool of policy. And, of course, market participants will be very focused, as we are, on what is the appropriate timing and pace of interest rate increases when that time comes. And I think the Committee would like to feel that it has successfully begun the normalization process and that we’re successfully communicating with markets about how that process will be playing out over time. And I think when the Committee is comfortable that that process is established, is working well, and we’re comfortable with the outlook, that they will begin the process of ceasing—or possibly tapering—but eventually ceasing reinvestments. So, we say that it will depend on economic and financial conditions, but we want to make sure normalization is successfully under way. If we were only to shrink our balance sheet by ceasing reinvestments, it would probably take—to get back to levels of reserve balances that we had before the crisis—I’m not sure we will go that low, but we’ve said that we will try to shrink our balance sheet to the lowest levels consistent with the efficient and effective implementation of policy—it could take to the end of the decade to achieve those levels.

Question (Binyamin Appelbaum, New York Times): You said a few moments ago that there is perhaps some remaining shortfall of labor force participation as a result of cyclical factors. This seems consistent with a recent paper by some members of your staff finding that labor force participation is unlikely to recover. Is that now the “house” view that slack essentially consists of unemployment plus part-time workers who want full-time work, and that labor force participation is basically out of the equation? And the second question—in the statement of exit principles, you said that the Committee will act as soon as economic conditions warrant. There had been an idea in circulation at some point that you might stay lower for longer as a means of compensating for some of the damage done during the recession. Is this an indication that that debate has been settled, and that that idea is off the table?
Answer: So the recent Brookings paper by the Fed economists clearly indicates, and I said this at Jackson Hole, that there are structural reasons, particularly demographics but not only demographics, why labor force participation should be expected to decline over time. And I agree with that, and I believe that most of my colleagues would endorse that as well. However, they did indicate that, in the paper, that they see some remaining cyclical shortfall. By one technique that they used, they placed the estimate at ¼ percent, but by another technique that they used it could be, I believe they said, as large as 1 percent. And so my own personal view is that there is some cyclical shortfall, and something certainly—probably within that range. But nevertheless, it’s a meaningful cyclical shortfall. It’s not completely—so I’m giving my own personal view, not a Committee assessment—that, you know, I see the flat—and given the underlying downward trend in labor force participation, we might interpret the flattening out of labor force participation over the last year as showing that that cyclical component has diminished somewhat. I think there is something that remains, but eventually I would certainly agree with the authors, we should expect over time to see labor force participation declining. And then, let’s see, the second piece was—

Question (Binyamin Appelbaum, New York Times): Is the debate about lower-for-longer essentially over?
Answer: Well, you know, we stayed low for a very long time. We have been at zero for a very long time and below the levels that some common policy rules would now be suggesting, given the level of unemployment and inflation. So the recovery has been very slow. We’ve also been doing unconventional policies, of course, buying assets. And in a general sense, I think we have been lower for longer than—if you complete that sentence—than many standard policy rules would suggest. So, in a sense, that is a policy that we have had. And once we decide it’s appropriate to begin to normalize policy and to raise the level of our target for short-term interest rates, it would still take some time for rates to get back to levels—you can see in our projection that by the end of 2017, the participants are, on average, projecting that rates will reach the levels they consider normal in the longer run. And, similarly, we could make a similar statement with respect to where the funds rate would stand relative to the recommendations of rules. So that would take some time to return to those kinds of levels.

Question (Greg Ip, The Economist): Greg Ip of The Economist. There’s been another downgrade in your near- term growth forecast and a downgrade in your unemployment rate path forecast. Does it appear that potential is much lower than you thought, and therefore slack is closing more quickly than you thought? This seems to be a persistent pattern to your forecasts. Secondarily, how concerned are you about events in Europe and especially the recent decline in inflation expectations there?
Answer: So there’s been a little bit of downgrading, I think, even this time in the longer-run normal growth rates that Committee participants have written down. You are certainly right in saying that over a number of years now, there’s been a pattern of forecast errors in which either we’ve been on track with respect to unemployment or unemployment has come down in some cases faster than we anticipated, and yet growth has pretty persistently been surprising the Committee to the downside. And that is a statement about productivity growth, which has been pretty disappointing. So we have had downward revisions in the level of potential output and to some extent, at least for a time, in the projected pace of growth. So that tension has been there. There are a range of views about long-run growth. A lot of people are writing about this topic. I think the Committee’s longer-run estimates are neither at the most pessimistic end nor the most optimistic end. Oh, about Europe. Well, I mean, you know, certainly we have discussed the outlook for Europe—the very low level of inflation that they have seen recently and the decline that they saw in inflationary expectations, in the slow pace of growth. It is one of a number of risks to the global economy, and we certainly hope that they will be successful in seeing the pace of growth and inflation pick up, and I think that will be good for the global economy and the United States.

Question (Robin Harding, Financial Times): Robin Harding from the Financial Times. Madam Chair, I want to come back to the forward guidance. Quite a large part of the Committee has recently criticized the guidance as being calendar based. But if I understood your comments earlier, that’s not correct. How should people understand it? And if it doesn’t have a defined meaning, what purpose is it actually serving? And do you expect to have to revisit it in the near future? Thank you.
Answer: So we are constantly discussing forward guidance and thinking about whether it’s appropriate and how to revise it. And we did do a major overhaul of our forward guidance in March. I think the Committee participants who have spoken out on this topic recently want to make sure that we have the flexibility—that the Committee has the flexibility to respond to unfolding developments. They want to make sure that if progress really does turn out to be faster than we have—we would expect, that the Committee will be in a position to start sooner tightening monetary policy. They do not want to be locked into something that the markets see as a calendar-based and firm commitment. And so they want to emphasize data dependence of our policy and make sure that we have appropriate flexibility. But I agree with that. And, as I said earlier, I think we do not have any mechanical interpretation that applies to this. It, of course, gives an impression about what we think will be appropriate, but there is no mechanical interpretation. And I’ve said repeatedly, and I want to say again, that if events surprise us, and we’re moving more quickly toward our objectives, and the Committee sees a need to move sooner or later depending on what the data is, that we do feel—I do feel we have the flexibility to move. And it is important for markets to understand that there is uncertainty, and this statement is not some sort of firm promise about a particular amount of time.

Question (Steven Beckner, MNI): Good afternoon, Chair Yellen. Getting back to the one aspect of the forward guidance is the statement, which you’ve reiterated about the funds rate probably needing to stay below normal for some time after achieving mandate-consistent levels on unemployment, inflation, and so forth. The SEP assessments of appropriate funds rate levels show the funds rate getting up to that 3.75 percent normal level at the end of 2017. If you look at the SEP projections of unemployment, inflation, and so forth, they seem to get back to those mandate-consistent levels by the end of 2016, if not much sooner. So what is the justification for waiting that much longer to get back to normal, particularly when you have such a large balance sheet that you intend to reduce only gradually? Is there a danger of getting behind the curve? And, secondly, can I just ask, can you envision a time when, to reduce reserve pressures, you may have to resort to asset sales that you don’t anticipate doing now?
Answer: So on the first question of “some time” before rates return to normal levels, as I mentioned, you can see in the SEP that by the end of 2017, many participants are anticipating that rates will return to what they think are normal longer-run levels, but the economy, in their view, will have probably gotten back to normal levels of unemployment and near-normal levels of inflation sometime in 2016. So that looks like a year or more in which rates would be below normal longer-run levels. We asked participants why they hold the views that they do about appropriate policy, and there are a number of different explanations that participants give. But a common view on this is that there have been a variety of headwinds resulting from the crisis that have slowed growth, led to a sluggish recovery from the crisis, and that these headwinds will dissipate only slowly, that they are dissipating—an example would be the fact that mortgage credit really is, at this point, available really to those with pristine credit. Credit conditions there are abnormally tight. Another thing that we see is that households’ expectations about their likely income paths remain quite depressed relative to pre-crisis levels. That’s something that may be holding back consumer spending. So the view would be that those forces will dissipate over time, but only very gradually. In addition, we have had slow productivity growth, and a slow pace of potential output likely depresses the pace of investment spending. And so, those are some of the things that participants mention as why it will take some time to get back. So the story is, it’s not that the Fed is behind the curve in failing to return the funds rate to normal levels when the economy is recovered. It is rather that, in order to achieve such a recovery in 2016 or by the end, that it’s necessary and appropriate to have a somewhat more accommodative policy than would be normal in the absence of those headwinds.