In prepared remarks to Congress, Yellen reiterated statements that Fed Governor Lael Brainard gave Tuesday, namely that rates are close to a “neutral” level and not in need of a significant move higher.
The neutral level is the point where the Fed’s benchmark rate is neither accelerating nor restraining the economy. The current target for the funds rate is 1 percent to 1.25 percent, while inflation is around 1.4 percent. That puts the real rate close to zero, where Yellen and her dovish allies on the Federal Open Market Committee believe it needs to be.
“Because the neutral rate is currently quite low by historical standards, the federal funds rate would not have to rise all that much further to get to a neutral policy stance,” Yellen will tell Congress.
Government bond yields fell on the news as did the dollar. However, U.S. stock futures jumped as traders figured a slower Fed could give the bull market another push higher.
Yellen conceded that the Fed still likely will need to implement “gradual rate hikes” over “the next few years,” but markets took her statement to mean that the central bank position could be more dovish than anticipated.
Markets currently assign just about a 50 percent chance that the Fed will approve another interest rate hike this year. The anticipation is that the FOMC will start reducing the $4.5 trillion balance sheet containing bonds the Fed has bought to stimulate the economy, then possibly do one more rate increase before the year ends.
However, the Fed’s efforts to normalize policy from its historically accommodative position has been constrained by low inflation. Yellen said the committee will be “monitoring inflation developments closely” and base policy accordingly.