Many economists believe the federal funds rate, which has been at a record low near zero since December 2008, will not be increased until next summer. Yellen said current monthly bond purchases will likely end in October.
Those bond purchases have been trimmed five times, taking them from $85 billion per month down to $35 billion per month currently. Yellen said that if the economy keeps improving, the Fed will keep reducing the bond purchases at upcoming meetings with the final move being a $15 billion reduction at the October meeting.
In her testimony before the Senate Banking Committee, Yellen said the economy is improving and the sharp downturn in economic activity in the first three months of the year was likely the result of temporary factors.
“Although the economy continues to improve, the recovery is not yet complete,” she said. Even with a drop in the unemployment rate to the lowest level since September 2008, Yellen said there were numerous signs of significant slack in the labor market, including continued weak growth in wages.
She also played down a recent acceleration in inflation, noting that inflation still remained below the Fed’s 2 percent target. Prices were up 1.8 percent for the 12 months through May.
Because labor market conditions have not yet fully recovered from the deep 2007-2009 recession and because inflation remains below target, Yellen said the Fed expected to continue with its current policies of keeping interest rates exceptionally low to boost economic activity.
“We judge that a high degree of monetary policy accommodation remains appropriate,” Yellen said in her testimony.
Yellen was scheduled to testify twice this week, before the Senate panel on Tuesday and the House Financial Services Committee today.
Critics have argued that the Fed needs to be more worried that the prolonged period of low interest rates could be setting the stage for possible bubbles in asset prices such as stocks or real estate that could deflate rapidly, creating market instability once the Fed begins raising interest rates.
In her testimony, Yellen said Fed officials were aware that low interest rates could prompt investors to “reach for yield” by chasing riskier investments, and this could “increase vulnerabilities in the financial system to adverse events.” But Yellen said while prices of real estate, stocks and corporate bonds have risen appreciably, “they remain generally in line with historic norms.”