(Bloomberg) -- U.S. labor-market hiring is robust, stock markets have hit record highs, global growth is recovering, and Janet Yellen does not want to leave interest rates on hold.
The Federal Reserve chair said on Tuesday that while uncertainty is high around the forces keeping inflation low, the U.S. central bank's most likely strategy is to continue raising borrowing costs anyway. She added that “it would be imprudent to keep monetary policy on hold until inflation is back to 2 percent.”
Yellen could be in the final months at the helm of the Fed. Richard Shelby, the No. 2 Republican on the Senate Banking Committee, said earlier on Tuesday that he didn't think President Donald Trump would reappoint her as chair when her term ends in February. So Yellen may have an eye on her legacy as she reviews the outlook, and is also cautious on the risks of keeping policy too loose for too long.
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The Fed “should also be wary of moving too gradually,” she told a National Association for Business Economics meeting in Cleveland.
“There is this feeling” in a lot of Fed officials' remarks “that they are implicitly behind the curve” despite low inflation, said Paul Mortimer-Lee, chief economist for North America at BNP Paribas in New York. “What is the news? The risk of lower inflation has increased. What is the risk on the other side? Higher asset prices.”
U.S. central bankers are monitoring progress on their 2 percent inflation goal, which they have mostly missed for the past five years. Nonetheless, the Fed's quarterly forecasts released last week continued to show most members projecting one additional rate hike this year and three more in 2018. It's a strategy that bets heavily on public confidence the Fed will hit its inflation target over time, and on low unemployment eventually lifting wages.
“Yellen sounds resolute in her dismissal of recent inflation weakness as ‘idiosyncratic' and ‘transitory.' She is willing to consider alternative explanations, but only hesitantly,” said Carl Riccadonna, chief U.S. economist at Bloomberg Intelligence. “Financial-stability risks are clearly a major motivating factor, as well.”
Investors now see a roughly 70 percent probability of a hike at the Fed's December meeting, up from 63 percent on Monday.
The economy has added 176,000 jobs a month on average this year, above the 100,000 or so needed to absorb new entrants into the labor force. The unemployment rate stood at 4.4 percent in August. Earlier this month, central bankers forecast an undershoot for the next three years of their 4.6 percent median estimate of the unemployment rate that represents sustainable use of labor resources. In effect, their gradual policy is allowing for conditions that should generate higher prices, in their view.
Yellen said it's possible that the Fed has over-estimated the so-called non-accelerating inflation rate of unemployment, or NAIRU, which is a theoretical limit on how low U.S. unemployment can go without sparking higher inflation.
“If so, the economy could sustain a higher level of employment and output in the longer run than now anticipated -- a very beneficial outcome, albeit one that would require recalibrating monetary policy over time in order to reap those benefits and compensate for the accompanying reduction in inflationary pressures,” she said.
But that isn't her base case. The data in hand point to a healthy labor market, but not one “in which substantial slack remains.”
“If the unemployment rate keeps tracking down, they expect inflation to pick up,” said Joseph Song, senior U.S. economist at Bank of America Corp. in New York. “From a risk management perspective, you go earlier so you can go slower.”
--With assistance from Rich Miller
To contact the reporters on this story: Craig Torres in Washington at ctorres3@bloomberg.net, Christopher Condon in Washington at ccondon4@bloomberg.net.
To contact the editors responsible for this story: Alister Bull at abull7@bloomberg.net, Scott Lanman
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