UPDATE 2-Fed's Yellen backs holding rates near zero to 2016

Tue Nov 13, 2012 5:49pm EST

Related Topics

* Yellen wants easier policy than Wall Street expects
    * Fed No. 2 voices strong support for policy "thresholds"
    * Yellen: worth above-target inflation to cut unemployment


    By Braden Reddall
    BERKELEY, Calif., Nov 13 (Reuters) - Federal Reserve Vice
Chair Janet Yellen said on Tuesday that U.S. short term interest
rates may need to stay near zero until early 2016, a half year
longer than Wall Street dealers expect, to forcefully lift
employment.
    The central bank's No. 2 official, viewed as a front-runner
to succeed Fed Chairman Ben Bernanke when his term expires in
January 2014, also said she strongly backed adopting inflation
and unemployment thresholds to guide policy. 
    That would allow the Fed to move away from shaping financial
market expectations with calendar dates. After its last meeting
in October, the Fed reiterated that it expected to keep the
overnight federal funds rate near zero until at least mid-2015.
    Yellen, however, argued an optimal policy would keep rates
on hold for longer at the cost of a bit more inflation.
    "This highly accommodative policy path generates a faster
reduction in unemployment than in the baseline, while inflation
overshoots the (Fed policy) committee's 2.0 percent objective
for several years," she told students at the Haas School of
Business at the University of California, Berkeley.
    As a baseline, Yellen used an early September consensus from
Wall Street firms, which showed they expected rates to remain
near zero only through the first half of 2015.
    Yellen is regarded as one of the more dovish members of the
Fed's policy-setting committee in her willingness to support
aggressive efforts to spur job growth, but her analytical skills
give her arguments weight in the policy debate.
    The Fed cut overnight rates to near zero in December 2008
and it has bought around $2.3 trillion in securities to drive
other borrowing costs down and spur a stronger recovery.    
    While there are signs the economy is gaining a bit of speed,
the jobless rate remains stubbornly high at 7.9 percent.
    
 
            
    POLICY PATIENCE
    In January, the Fed adopted what it termed a "balanced
approach" to its mandated goals of full employment and stable
prices, suggesting it would temporarily tolerate a bit more
inflation to move the jobless rate lower.
    On prices, it normally targets 2.0 percent inflation and
policymakers' current estimates suggest they view an
unemployment rate of between 5.2 percent and 6.0 percent as
consistent with maximum employment.
    Yellen made clear that she does not view the inflation
target as a ceiling and that slightly higher inflation may well
be needed for the Fed to fulfill its promise to pursue a
"balanced" monetary policy. 
    "The optimal policy to implement this 'balanced approach' to
minimize deviations from the inflation and unemployment goals
involves keeping the federal funds rate close to zero until
early 2016," she said. She said rates would stay below the path
expected by Wall Street dealers through 2018.
    
    COMMUNICATING ON COMMUNICATIONS
    Yellen stressed that communicating Fed intentions clearly
was vital to the success of its policies, and emphatically
endorsed adopting numerical thresholds for unemployment and
inflation to guide expectations on when rates would go back up.
    "Several of my ... colleagues have advocated such an
approach and I am also strongly supportive," she said.
    Chicago Federal Reserve Bank President Charles Evans has
suggested holding rates steady until unemployment is under 7.0
percent, provided inflation remains below 3.0 percent.
Minneapolis Fed chief Narayana Kocherlakota outlined thresholds
of 5.5 percent unemployment and 2.25 percent inflation.
    "The idea is to define a zone of combinations of the
unemployment rate and inflation within which the (Fed) would
continue to hold the federal funds rate in its current,
near-zero range," Yellen said.
    She said that would help shape expectations of the Fed's
likely response to incoming data. Even so, she said the
thresholds would not trigger a rate hike decision. That, she
said, would require "further committee deliberation and
judgment."
    The central bank is also considering issuing a forecast that
would represent the consensus of its 19 individual policymakers
to give a better sense of the views driving Fed decisions.
Currently, it provides a range of individual forecasts.
    Yellen, who is leading the Fed's efforts on communications,
said it was proving "exceptionally difficult" to forge a
consensus on the outlook for the economy.
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