Federal Reserve Chair Janet Yellen acknowledged that the fall in inflation this year was a bit of a “mystery” but suggested that the central bank was on course to raise interest rates again in 2017 nonetheless.
She told reporters on Wednesday that the economy was robust enough to withstand further rate increases and an imminent reduction in the Fed’s $4.5 trillion balance sheet, as it exits from a crisis-era policy a decade after the onset of the Great Recession.
“We continue to expect that the ongoing strength of the economy will warrant gradual increases” in rates, she told a press conference after the Federal Open Market Committee announced that it will slowly begin to pare its bond holdings next month. As expected, the target range for the federal funds rate was held at 1 percent to 1.25 percent.
The central bank’s intention to press ahead with another rate hike this year and three more in 2018 caught investors by surprise, sending bond yields and the dollar higher. The strategy represents a bit of a gamble because it risks cementing inflation permanently below the Fed’s 2 percent target.
As measured by the personal consumption expenditures price index, inflation has ebbed this year even as the economy and the labor market have continued to improve. After briefly poking above 2 percent earlier this year, it fell to 1.4 percent in June and July.
“I will not say that the committee clearly understands what the causes are of that,” Yellen, 71, said.
While transitory forces such as a one-time cut in mobile-phone service charges were part of the story, they did not fully explain the shortfall, she said.
The Fed chief though argued that the ongoing strength of the economy and the labor market would ultimately help lift inflation, while she kept open the possibility the central bank would alter course if that proved not to be the case.
“Yellen is banking on the theory that an economy at full employment eventually leads to greater inflation,” said Chris Rupkey, chief financial economist with Bank of Tokyo-Mitsubishi UFJ Ltd. in New York. “Too-low inflation is probably not the thing that concerns an old hand like Yellen with decades of experience” watching inflation rise and fall.
The Fed’s efforts to gauge where the economy and inflation are headed will be complicated in coming months by a recent spate of hurricanes that struck the U.S.