MNI UPDATE: Fed's Yellen Tells Congress Rate To Rise Gradually

--Updates 08:00ET Story To Add Comments on Republican Tax Proposal

By Jean Yung

     WASHINGTON (MNI) - Federal Reserve Chair Janet Yellen on Wednesday recapped

recent U.S. monetary policy for Congress's Joint Economic Committee, saying the

central bank sees gradual interest rates increases as appropriate despite

inflation remaining "surprisingly subdued" this year. 

     She did not drop an explicit hint about the likelihood of another 25 basis

point increase in the Fed's key short-term interest rate when officials meet in

two weeks, though the move is widely anticipated by investors. 

     "We continue to expect that gradual increases in the federal funds rate

will be appropriate to sustain a healthy labor market and stabilize inflation

around the FOMC's 2 percent objective," Yellen said. 

     She largely dodged questions seeking her opinion on the impact of the

Republican tax cut plan on the economic outlook, saying only that she was "very

worried" about the sustainability of the U.S. debt trajectory and the literature

was unclear on whether cuts to cost of capital for firms translates to increased

investment which might filter through to higher wages. 

     Asked by Sen. Mike Lee, R-Utah, about the idea that the Fed would respond

to tax cuts with aggressive rate hikes, Yellen said: "The Fed is not trying to

stifle growth. We are worried about trends that could push inflation above our

2% objective."

     At the moment, policy is accommodative with the fed funds rate sitting at a

target range of 1.00% to 1.25%, below officials' estimate of its longer run

level of 2.75%. That rate, known as the neutral rate, "currently appears to be

quite low by historical standards," Yellen said. If it rises somewhat over time,

as Fed officials expect, "additional gradual rate hikes would likely be

appropriate over the next few years to sustain the economic expansion," she

said. 

     The Fed chair painted a rosy picture of the economy overall, saying GDP

growth had "stepped up" this year in spite of the destructive hurricanes and the

labor market was "strong." Policymakers are seeing "modest upward pressure" on

wages, but the gains remain modest, a signal that the economy is not overheated,

the chair said. 

     On the other hand, inflation remains below the Fed's target, as it has for

most of the past five years. Core inflation is at just 1.3% while headline

inflation is at 1.6%. 

     Most Fed officials still expect inflation to stabilize around 2% over the

medium term, Yellen said, and they are keeping a close eye on its progress.  

     "In my view, the recent lower readings on inflation likely reflect

transitory factors. As these transitory factors fade, I anticipate that

inflation will stabilize around 2% over the medium term," Yellen said. "However,

it is also possible that this year's low inflation could reflect something more

persistent." 

     Over the long run, sluggish productivity growth and a slower expanding

labor market will weigh on overall economic growth, Yellen said. 

     "Congress might consider policies that encourage business investment and

capital formation, improve the nation's infrastructure, raise the quality of our

educational system, and support innovation and the adoption of new

technologies," she said. 

--MNI Washington Bureau; +1 202-371-2121; email: jean.yung@marketnews.com

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