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Janet L Yellen, the Federal Reserve chairwoman, said on Friday that the Fed planned to raise interest rates more slowly than in past recoveries because of the unusually fragile condition of the American economy.
Fed officials, who have held short-term interest rates near zero for more than six years, have indicated that they plan to start raising the Fed's key gauge later this year. Yellen's remarks, delivered at a conference in San Francisco, offered more details about the Fed's plans than earlier statements, all part of an effort to prepare markets for the end of that prolonged era.
And her message was that the return to normal conditions was likely to come slowly. There will be no repeat of the two-year period beginning in June 2004 when the Fed raised rates by 0.25 percentage points at every meeting.
"The average pace of tightening observed during previous recoveries could well provide a highly misleading guide to the actual course of monetary policy over the next few years," Yellen said.
Yellen's speech was delivered hours after the Commerce Department reported, in its final revision, that the United States economy grew at a rate of 2.2 per cent in the fourth quarter of 2014, down from a robust 5 per cent pace during the summer months. Economists said that the economy probably slowed even further in the first quarter of this year, which ends on Tuesday.
Despite the latest disappointing economic figures, Yellen emphasised that she saw the economy as improving, describing the current situation as a temporary slowdown during the winter months. She highlighted particular progress in labour markets, and said that she expected the economy to gain steam as consumer spending increased after a slow start to 2015.
But Yellen offered a more cautious policy outlook than some of her colleagues. "With continued improvement in economic conditions," she said, "an increase in the target range for that rate may well be warranted later this year."
By contrast, Dennis P Lockhart, president of the Federal Reserve Bank of Atlanta, said earlier this week it was "quite likely" the Fed would raise rates no later than September. John C Williams, president of the Federal Reserve Bank of San Francisco, and Yellen's host on Friday, said "by midyear it will be the time to have a discussion."
Fed officials have said they would closely monitor the course of the economy in determining when to raise interest rates and by how much. Raising rates tends to slow growth and restrain inflation, while keeping rates low helps encourage additional business activity and job hiring.
Lately, even as the job market has displayed healthy signs of life - the unemployment rate fell to 5.5 per cent in February as employers hired 295,000 new workers - other indicators have been anaemic. If the economy advances more strongly than most Fed officials expect, suggesting that inflation will eventually gain momentum, the central bank is likely to raise rates more aggressively than if job gains and economic growth are disappointing.
This week, the government said durable goods orders fell last month and retail sales were also weak, despite benefits to consumers from low energy prices.
The nation's manufacturers have also been hurt by a stronger dollar and weak conditions in key markets like Europe and Brazil, which has curbed exports.
The downshift in early 2015 has echoes of the economy's performance in the first quarter of 2014, when cold temperatures and snow were blamed for a 2.1 per cent contraction in output.
Next week, the economic picture may become a bit clearer. Data are due on Friday on job creation and unemployment in March. Figures for the trade balance, home sales, personal consumption and construction in February are set to come out earlier in the week.
In her speech in San Francisco, Yellen provided new insight into the Fed's decision-making process. She said the Fed would not wait for price inflation to increase before it moved to raise rates. She also played down the importance of wage inflation, an issue on which her views have evolved significantly.
In speeches last year, Yellen highlighted the slow pace of wage inflation as evidence of slack in the labour market. But on Friday she described it as unreliable, saying that wages might be stagnating for a variety of reasons including globalisation and the decline of unions.
"The outlook for wages is highly uncertain even if price inflation does move back to 2 per cent and labour market conditions continue to improve as projected," Yellen said. "This uncertainty limits the usefulness of wage trends as an indicator of the Fed's progress in achieving its inflation objective."
Yellen said that the Fed intended to focus on job growth, judging that if unemployment continued to fall, prices and wages would begin to rise.
David G Blanchflower, an economist at Dartmouth College, described Yellen's conclusions as a "big mistake." Blanchflower argued in a paper last year that the pace of wage growth was the best measure of labour market health. He cautioned on Friday that other central banks, including the Swedish Riksbank, had to backtrack after raising rates too soon.
Yellen said the timing of the first increase, which many experts say is likely to take place in September, was less important than the pace of later ones, which would determine borrowing costs in coming years. And she gave three reasons the pace was likely to be quite slow.
First, despite the Fed's campaign to revive growth, the economy remains weak, implying that the central bank's help is still needed. "If underlying conditions had truly returned to normal, the economy should be booming," Yellen said.
Second, Yellen said, moving too quickly carries greater risks than tardiness. The Fed's tools for reviving growth are already in use; if the economy swoons, it is not clear how much more the Fed can do. And the Fed sees little risk in waiting: Yellen said she still saw little threat from any overheating in financial markets.
Finally, Yellen said, there could be important economic benefits in limiting interest rate increases until the labour market had not only healed but also tightened considerably. Such patience could help to increase inflation, which in recent years has remained well below the 2 per cent annual pace that the Fed regards as most healthy.
Yellen said that moving slowly could also help undo some damage caused by the recession.
"The deep recession and slow recovery likely have held back investment in physical and human capital, restrained the rate of new business formation, prompted discouraged workers to leave the labour force and eroded the skills of the long-term unemployed," she said. "Some of these effects might be reversed in a tight labour market."
©2015 The New York Times News Service
