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Yellen Speech, Fed Data Send Mixed Messages; What's an Investor to Do?

It's a good time to be job hunting in places such as Silicon Valley, Naples, Fla., and Madison, Wis., and an especially good time to be a construction worker in Dallas. That list will get longer as labor markets tighten.

The usual media potshot after a news day like this is to ding the Fed for hazy communication -- but that's not really fair. The industrial production numbers are what they are -- and can't be cooked. And the sincerity of Yellen's commitment to the 7.4 million people involuntarily working part-time, or the 36% of unemployed people who have been on the street for six months or longer, isn't in doubt.

But the conflict between the Fed's communications and its data underscores that events will overtake Yellen's dovish monetary policy, probably sooner than you think. Remember, just as the Fed is now forecasting that unemployment won't move down much this year, so too did the central bank think in early 2012 that joblessness would stay as high as 8.5% through year-end. When the unemployment rate hit 7.8% in time for the election, we were reminded (again) that even central banks are fallible. 

The next three months will be crucial to determining how long the Fed's historic levels of dovishness can hold out. If -- a big if, given a soft report yesterday on housing starts -- new-home construction bounces back hard in the spring, then most of the economy's major cylinders will be firing. But inflationary pressures should still be modest, especially if employers can offset the impact of slightly higher wages with more productivity growth. That should be easy, since productivity has just posted its worst three-year stretch since the Reagan years. 

If the summer economy produces growth around a 3.5% annual rate, as Naroff expects, by fall the Fed will have a much tougher communications challenge than any it has faced while the economy has been weak. Until now, all stimulus, all the time has been the clear remedy. That will no longer be true: Lower unemployment will be pointing to higher rates, low inflation may seem to allow more stimulus, and wage growth may point to some policy in between. Yellen acknowledged this yesterday, saying that the central bank will need "a more nuanced judgment about when the recovery of the labor market will be materially complete."

Still, the new Fed chair is a beat behind where the economy is, as she sticks up for her kitchen-table constituency. Facts are changing on the ground, and that's going to make the Fed and its new leader show how nimble they can be. And how well they can explain all this new nuance to markets that are still easily rattled.

This article represents the opinion of a contributor and not necessarily that of TheStreet or its editorial staff.

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