Yellen confirms: Monetary Policy is not subject to lags, and interest rates do not define the stance of policy.

Yellen starts off:

I will spend most of my time today discussing the rationale for the adjustments the Committee has made since 2014, a year that I see as a turning point, when the FOMC began to transition from providing increasing amounts of accommodation to gradually scaling it back.

That´s true. However, two paragraphs later, she says:

I should note that I will discuss the process of scaling back accommodation mostly from the perspective of our interest rate decisions, which my FOMC colleagues and I see as our primary tool for actively adjusting the stance of monetary policy when our actions are not constrained by the zero lower bound on short-term interest rates.

Note that from sometime in mid-2014, when the Fed announced the coming end of QE3 and the start of the “taper” and December 2015, interest rates remained at the 0%-0.25% interval that held since December 2008.

How come, then, “accommodation was gradually being scaled back”?

From her view that the stance of monetary policy is well defined by the moves in interest rates, between 2014 and late 2015 the stance of monetary policy did not change.

What leads me to agree with Yellen that 2014 was a “turning point”, even if the policy rate remained unchanged?

As the chart indicates, that´s the point where NGDP growth began to falter, in our view the best indicator of the stance of monetary policy.

In mid-2016, NGDP growth turns back up. The stance of monetary policy was “relaxed”. This is reflected in Yellen´s words:

2016 also brought some unexpected economic developments that led us to proceed cautiously. During the first half of the year, mixed readings on the job market, along with additional disappointing data on real GDP growth, suggested again that progress toward the achievement of our maximum employment goal could be slowing markedly.

… Those unanticipated developments were part of the reason why the Committee again opted to proceed more slowly in removing accommodation than had been anticipated at the start of the year.

So now´s time to go back to “tightening mode”, first through words:

To conclude, we at the Federal Reserve must remain squarely focused on our congressionally mandated goals. The economy has essentially met the employment portion of our mandate and inflation is moving closer to our 2 percent objective. This outcome suggests that our goal-focused, outlook-dependent approach to scaling back accommodation over the past couple of years has served the U.S. economy well.

Followed by “deeds”:

Having said that, I currently see no evidence that the Federal Reserve has fallen behind the curve, and I therefore continue to have confidence in our judgment that a gradual removal of accommodation is likely to be appropriate. However, as I have noted, unless unanticipated developments adversely affect the economic outlook, the process of scaling back accommodation likely will not be as slow as it was during the past couple of years.

My best guess: NGDP growth will shortly turn back down!


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