As Yellen prepares to offer economic outlook, her 6-month Fed honeymoon is likely to end soon

Janet Yellen has won credit for guiding the Federal Reserve's first six months of transition from the Ben Bernanke era. Bernanke's Fed had steered the U.S. economy through a grave crisis by slashing interest rates and restoring confidence in banks. Yellen has so far carried on his approach with barely a hiccup.

She may one day recall her first six months as a too-brief honeymoon.

The perilous question that now awaits Yellen's Fed has put investors on nervous alert: Can it manage to raise rates from record lows without weakening the U.S. economy or spooking markets?

Or, conversely, will it wait too long to raise rates, causing the economy to overheat and inflation to surge?

No one knows. Which helps explain the anticipation surrounding Yellen's speech Friday at the economic conference sponsored every August in Jackson Hole, Wyoming, by the Federal Reserve Bank of Kansas City. Given that this year's topic is labor markets, Yellen is sure to lay out her assessment of the U.S. job market.

Whatever she says — or, perhaps, doesn't say — will shape perceptions of when and how aggressively the Fed will raise rates.

Yellen has frequently characterized the job market as weaker than the unemployment rate suggests. She's noted, for example, that the jobless rate, now a nearly normal 6.2 percent, belies other unhealthy trends: Weak pay growth, a sizable number of part-timers who want full-time work and high proportions of people who've been looking for a job for more than six months or have stopped looking.

Might Yellen describe those trends as chronic problems that still require the Fed's help? Or rather as temporary drags that will fade as the economy improves? Investors will look for any signal of a coming rate hike because it would mean higher rates on business and consumer loans and could depress stock prices.

At Jackson Hole, Bernanke would sometimes use his speeches to telegraph actions the Fed was considering. Yellen could take the same opportunity to shed light on the Fed's plans for withdrawing the extraordinary economic support it's provided since 2008.

"The road ahead will get much tougher for Yellen when she starts outlining the Fed's exit strategy," said David Jones, chief economist at DMJ Advisors and the author of a book on the Fed's first century. "Any change could be accompanied by significant market instability."

This year, the Fed has been paring its monthly bond purchases, which have been intended to keep long-term rates low. Yellen has stressed that even after the purchases end this fall, the Fed will keep rates low and maintain its vast investment portfolio to keep downward pressure on rates.

The impending end of the bond purchases — a step investors once anticipated with dread — is being taken in stride. The market has remained calm, and stocks are up this year, suggesting that Yellen's reassurances have had an effect.

That said, her first six months haven't been without stumbles. Consider her first news conference. Responding to a question, Yellen said that when the Fed stated it would keep its benchmark rate ultra-low for a "considerable time" after its bond purchases ended, that phrase meant around six months.

Stocks sank on fears that rate increases could start sooner than expected.

Asked about her six-month comment at her next news conference, Yellen de-coupled the phrase "considerable time" from any specific period.

"It depends on how the economy progresses," she explained.

Diane Swonk, chief economist at Mesirow Financial, said Yellen was trying to be clear without perhaps recognizing how much a Fed chair's words could be over-interpreted.

"Yellen is a much clearer speaker than past Fed chairmen," Swonk said. "But Yellen learned the dangers from being too clear. She will never use the words 'six months' again."

Yellen has appeared comfortable fielding reporters' questions. She's also withstood grilling from members of Congress. Where Bernanke's voice would sometimes quaver under hostile questioning, Yellen has remained cool and has parried any attacks in a calm voice that hints of her native Brooklyn.

"It would be a grave mistake for the Fed to commit to conduct monetary policy according to a mathematical rule," Yellen explained to a House committee after Republicans pressed her to back legislation to compel the Fed to follow a policy rule in setting rates.

Expressing the frustration that some Republicans say they feel about the Fed's influence over the economy, the committee chair, Jeb Hensarling, R-Texas, told Yellen that "a dramatic increase in power calls for a corresponding increase in accountability and transparency."

Yellen has stressed that the unorthodox steps the Fed took to fight the recession were needed to put people back to work. She has also sought to debunk any notion that the Fed handed out billions to prop up mega-banks during the financial crisis while neglecting people who had lost jobs.

"Our goal is to help Main Street, not Wall Street," she declared in her first speech as chair. She spoke of "shattered lives and families" from high unemployment and said the Fed would keep working until the job market was healthy.

Despite months of solid hiring and declining unemployment, Yellen contends that too many people have been out of work for too long, that too many are stuck in part-time jobs and that pay growth remains anemic.

Challenging that view, though, are some Fed officials who are more concerned about inflation. They argue that the Fed risks igniting inflation by waiting too long to raise rates. One of them, Charles Plosser, head of the Fed's Philadelphia bank, dissented at the Fed's last meeting. He felt it was a mistake to keep signaling that rates will stay low for a "considerable time."

Many analysts think Yellen will use Friday's speech to explain her continued support for low rates.

"Her position continues to be that the economy is improving but the labor market is not healthy enough to tolerate a hike in interest rates any time soon," said Sung Won Sohn, an economics professor at California State University, Channel Islands.

Most economists think the Fed will raise rates around mid-2015. Even when it does, it's expected to act only gradually — to limit inflation but also avoid derailing the economy's recovery.

Yet a so-called soft landing often proves elusive.

"The Fed usually gets it right only about half the time," noted David Wyss, a former Fed economist who teaches at Brown University.