Ylan Mui: Why Janet Yellen sounds more like a hawk

While Fed Chairwoman Yellen wants to wean investors from relying on central bank guidance, she wants to avoid an excessive rise in bond yields that could sap growth. Photo / AP

Opinion

For the past seven years, Federal Reserve Chair Janet Yellen was one of the staunchest advocates of prolonging the central bank's aggressive support for the American economy. Now she is building a case for bringing the era of easy money to an end despite increasingly vocal calls for delay.

In her most recent public comments, Yellen expressed confidence in the recovery - enough to justify the first increase in the central bank's benchmark interest rate in nearly a decade. And she explicitly stated the much-anticipated rate increase probably would occur "sometime this year" if the recovery unfolds as expected.

"The US economy seems well positioned for continued growth," she said in Rhode Island in late May. "Because of the substantial lags in the effects of monetary policy on the economy, we must make policy in a forward-looking manner. Delaying action to tighten monetary policy until employment and inflation are already back to our objectives would risk overheating the economy."

The central bank will convene on Tuesday and Wednesday for its regular policy meeting, and Yellen is likely to provide clues to the Fed's anticipated timeline for raising its target rate. Several surveys show that economists think the first increase will occur at the Fed's policy meeting in September. Markets seem to think it won't happen until the central bank's gatherings in October or December - with a significant chance of a delay until next year.

Dove or hawk?

Yellen has long been categorised as what Fed watchers call a "dove," someone who generally favours looser monetary policy, as opposed to a "hawk," who would rather tighten the reins. During her nomination process in 2013, her critics feared that her record of supporting central bank stimulus meant that she would be reluctant to raise interest rates and allow inflation to creep higher.

But just the opposite has come to pass. Central bank officials are worried that inflation is too low, not too high. And changes within the Fed's top ranks have left Yellen in a relatively hawkish position as other top officials argue for keeping the target rate at zero until 2016.

Just two weeks after Yellen's speech, Fed Gov. Lael Brainard seemed less certain that a rate increase would be necessary this year. "Liftoff could come before the end of the year," she said in her remarks, which also noted that the recovery has disappointed before and recommended "watchful waiting."

The next day, Fed Gov. Dan Tarullo said there were "more questions" about the strength of the economy now than at the same point last year, according to news reports, a potential argument for delaying the first move.

Delay favoured

At least three officials - Chicago Fed President Charles Evans, Minneapolis Fed President Naraya Kocherlakota and Boston Fed President Eric Rosengren - think the central bank should sit tight until 2016. A low rate of inflation leaves officials plenty of wiggle room to ensure that flagging economic growth picks up, they argue.

"The data have disappointed before, and an appropriately data-dependent monetary policy requires confirmation in the numbers, not just in forecasts of better times," Rosengren said in a recent speech.

Several outside voices have weighed in favouring a delay: The International Monetary Fund called on the Fed to wait for more concrete signs of wage or price inflation before raising its target rate. Based on IMF forecasts, that means no move until 2016. The left-leaning Economic Policy Institute on Monday also argued that the Fed could take its time since wage growth has been stagnant.

Meanwhile, many of the hawks have gone silent. Two of the fiercest opponents of the Fed's easy money policies have retired from the central bank: Dallas Fed President Richard Fisher and Philadelphia Fed President Charles Plosser. (Fisher has not been replaced yet, and the new president in Philadelphia will not take office until July 1.) Kansas City Fed President Esther George, another reliable hawk, hasn't given a speech since March, when the economic data began to turn south.

And Richmond Fed President Jeff Lacker has moderated his stance. He said recently that there's a "strong" argument for a rate increase at the central bank's current meeting, but that he had not decided how hard to push his case, according to news reports.

That leaves Yellen and other officials expecting a rate increase this year sounding more like hawks. Of course, the outlook for the economy is not black and white, and monetary policy is more complicated than ornithology suggests. Fed officials argue that increasing rates in September, October or even December makes little macroeconomic difference, despite Wall Street's intense focus on the timing of liftoff.

What's more important is the subsequent pace of increases: How quickly can the central bank turn off the spigot of easy money that has kept the American economy afloat for nearly seven years?

Resolving that debate could result in a whole new breed of bird.

Mui is a financial reporter covering the Federal Reserve and the economy.