Paul Davidson

USA TODAY

Federal Reserve Chair Janet Yellen said Friday the recent rapid decline in the unemployment rate likely overstates the health of the labor market, and the Great Recession may have "caused persistent changes" in the job landscape.

Speaking at the Fed's annual symposium in Jackson Hole, Wyo., Yellen said other barometers of the job market, such as the relatively low share of Americans participating in the labor force, "suggest that the decline in the unemployment rate over this period somewhat overstates the improvement in overall labor market conditions."

The jobless rate has fallen to 6.2% from a high of 10% in fall 2009 and monthly job growth has averaged 230,000 this year. Still, Yellen said, "it speaks to the depths of the damage that, five years after the end of the recession, the labor market has yet to fully recover."

Debate is heating up among Fed policymakers about when to begin raising the Fed's benchmark short-term interest rate, near zero since the financial crisis. While most policymakers have indicated they expect the first rate hike is likely to come in mid-2015, some have argued that the improving job market and rising inflation should lead to an earlier increase.

Yellen is considered one of the Fed's most pro-growth policymakers, meaning she is more concerned with pushing down unemployment than heading off inflation, which is still running below the Fed's annual 2% target. But rather than offer evidence solely to support that view, Yellen on today provided fodder for both pro-growth and anti-inflation factions of policymakers. She said the Fed's decision about when to raise interest rates is particularly challenging and will depend on the speed of the recovery.

Unemployment remains above the Fed's goal of about 5.5% but inflation has edged toward the 2% target in recent months. Some Fed officials worry inflation could spiral higher at some point if the central bank doesn't move early enough.

"So, what is a monetary policymaker to do?" Yellen asked.

Markets were largely unmoved by her remarks, which neither affirmed nor cast doubt on the Fed's tentative plans for interest rates

On the one hand, she said, the percentage of people participating in the labor force, 62.9% in July, is near 36-year lows. And while much of the decline is due to Baby Boomers retiring, Yellen said even those retiring or going on disability could return to the workforce as the job market improves. That could push up the unemployment rate again -- an argument for keeping interest rates low for a longer period.

Similarly, she said, an unusually large number of Americans are working part-time even though they prefer full-time work, and hiring and the number of workers quitting jobs remains relatively low despite strong growth in the number of job openings. Economists have argued over whether these trends reflect long-term structural changes in the job market or short-term episodes that can be influenced by Fed policy.

Yellen indicated she takes the latter view, suggesting the Fed still could use low interest rates to bolster employment.

"The balance of evidence leads me to conclude that weak aggregate demand has contributed significantly to the depressed levels of quits and hires during the recession and in the recovery," she said.

Yellen also provided fodder for the anti-inflation camp. Although wage increases of about 2% a year have been weak -- suggesting minimal upward pressures on inflation -- Yellen said that may be because employers were hesitant to reduce wages during and after the recession. They thus don't have to increase pay now to attract qualified workers. Eventually, however, "wages could begin to rise at a noticeably more rapid pace once pent-up wage deflation has been absorbed."

She also said many of the long-term unemployed may not be seriously considered as job candidates by employers. That implies the pool of workers is more limited than the unemployment rate suggests and that employers will have to boost wages further to attract and retain top performers, possibly pushing up inflation. That could lead to an earlier increase in interest rates.

Yellen cautioned, however, that stronger wage increases could draw more Americans back into the labor force and push down long-term unemployment. In that case, a premature increase in rates might "prevent labor markets from recovering fully."