Federal Reserve Chairwoman Janet Yellen is demonstrating that she is not a monetary policy “dove.”
A dove, in central banking terms, is someone more willing to loosen money and keep interest rates low. But one year into her tenure as head of the central bank, Yellen is steering the Fed toward tightening monetary policy this summer or early fall despite a number of trends that cast some doubt on the strength of the economic recovery.
The Fed monetary policy committee announced Wednesday that it would be “patient” in raising short-term interest rates, which it has kept near zero since 2008 in an attempt to stimulate the economy.
That was the same language the committee used the month before, when Yellen said it meant no rate increases for at least two meetings. Expectations were roughly set for the Fed to return to normal policy starting around midyear, and the Fed gave no sign Wednesday that its plans had changed.
Immediately following Wednesday’s announcement, stocks fell, with the S&P 500 ending the day down 1.4 percent. The U.S. dollar and Treasury securities also rose after the announcement, possibly signaling that markets interpreted the decision as hawkish.
“Janet Yellen has done a very good job of taking on the reins of governorship at the Federal Reserve and yet managing to maintain continuity” with predecessor Ben Bernanke, said Craig Alexander, chief economist for TD Bank Group.
Bernanke was chairman of the Fed from 2006 through January 2014, presiding over the worst recession since the Great Depression and responding with a policy of zero interest rates and large-scale bond-buying programs. He left it to Yellen, his former vice chairwoman, to oversee the transition away from crisis management to more normal monetary policy.
Alexander, who expects the first rate increase to come at the Fed’s September meeting, said it was “perfectly appropriate for the Fed to be patient and reactive” to incoming data.
Yet some policymakers have said that falling inflation, along with slowing growth globally, could be enough to put the Fed’s plans for returning to normal on hold.
The Fed’s statement said that low inflation, currently at 0.8 percent as measured by the consumer price index, was “largely” attributable to falling oil prices, and that the tightening labor market was likely to push inflation toward the Fed’s 2 percent target in the months ahead.
But Federal Reserve Bank of Boston President Eric Rosengren, among others, has expressed doubt about whether that will happen.
In an interview with the Wall Street Journal in mid-January, Rosengren noted that the price differences between Treasury securities protected from inflation and normal Treasury securities suggested that markets expect inflation to run well below the Fed’s target.
“My expectation is that if we continually undershoot we won’t raise rates as quickly as we would have,” Rosengren said.
The fact that other advanced economies are facing the prospects of deflation and recession also have raised fears about the resilience of the U.S. recovery.
The euro zone faces low growth and falling prices, with unemployment above 11 percent. The European Central Bank last week joined the Bank of Japan in large-scaled bond purchases in an attempt to stimulate a recovery. Annual output growth in China has slowed to the lowest rate in a generation.
The Fed statement Wednesday acknowledged the global slowdown, adding “international developments” to the list of factors it would consider to determine if rate increases were appropriate.
With that brief word change, “the hurdle for beginning the process of interest rate normalization has become slightly higher,” wrote Deutsche Bank economists Joseph LaVorgna and Brett Ryan in an analysis of the announcement.
But slowing overseas growth, along with falling oil prices and slipping inflation, are trends that have been visible since last summer. It’s becoming clearer that Yellen views the jobs outlook strong enough that a few more strong jobs reports will be enough for the Fed to raise rates.
