The United Kingdom exiting the European Union could be "significant" for the U.K. and Europe, ushering in a period of economic "uncertainty and volatility that would negatively affect financial conditions" there as well as the U.S. economic outlook, Federal Reserve Board Chair Janet Yellen told senators Tuesday.
Addressing questions from members of the Senate Banking Committee about a Thursday vote on a so-called Brexit, Yellen told members of the committee that the financial market reaction could possibly include a "kind of risk-off sentiment impact … on financial markets, with a flight to safety flows that push up the dollar and other safe-haven currencies." The Fed, Yellen continued, "will consider those impacts as we make future decisions on monetary policy."
When pressed on whether a Brexit could throw the U.S. economy into recession, Yellen responded: "I don't think that's the most likely case, but we'll have to watch it carefully."
During the two-and-a-half hour hearing, Yellen also addressed the Oct. 1 deadline for the five large banks to revise their "living wills," which outline how the banks would unwind themselves in bankruptcy without a taxpayer bailout. The Fed and the Federal Deposit Insurance Corp. in mid-April ordered several big banks — including Bank of America, State Street, Bank of New York Mellon, Wells Fargo and J.P. Morgan — to revise their living wills by the deadline or potentially face sanctions.
"We are insisting that the firms address shortcomings that we've found in the living wills in the last submission," Yellen said. "If the firms fail to address deficiencies, or if by summer of 2017 they fail to address shortcomings, Dodd-Frank says the Fed and FDIC can impose higher capital requirements. I don't expect to have to go there, but we are asking them to address the shortcomings we've identified."
Sen. Elizabeth Warren, D-Mass., pressed Yellen to commit to enforce Dodd-Frank's higher capital standards and stricter leverage ratios on the banks if they fail to resolve their living will deficiencies.
Yellen responded that while the Fed has "been very serious in review of living wills, … those are decisions that my colleagues and I will need to look at. We are very serious about wanting to see these deficiencies remedied. I can't pre-commit to say what precisely our response will be. We will work closely with the FDIC."
As to the economy, Yellen told lawmakers that since appearing before the committee in February, "the economy has made further progress toward the Federal Reserve's objective of maximum employment."
While inflation has continued to run below the Fed's 2% objective, the Federal Open Market Committee "expects inflation to rise to that level over the medium term. However, the pace of improvement in the labor market appears to have slowed more recently, suggesting that our cautious approach to adjusting monetary policy remains appropriate," she said.
