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Yellen's next challenge: Explaining this crazy economy

Washington is not likely to pass any big legislation the rest of this year, but that doesn't mean the nation's capital is not the center of activity critical to financial markets and the economy.

This week the focus will be on Federal Reserve Chair Janet Yellen as she offers two days of testimony on the devilishly hard-to-figure-out United States economy. Yellen starts Wednesday at 10 a.m. EDT before the Joint Economic Committee—made up of members of both the House and Senate—and concludes Thursday at 10 a.m. before the Senate Budget Committee.

US Federal Reserve Chair Janet L. Yellen.
Brendan Smialowski | AFP | Getty Images
US Federal Reserve Chair Janet L. Yellen.

Fed chair appearances—especially those this early in a central bank leader's tenure—are always closely watched in financial markets. But this week's promises to be especially riveting given the vexing nature of the economy and the trick ahead for the central bank in deciding on and communicating its plans to further draw down stimulus this year and eventually begin raising rates sometime next year.

Last week's run of economic data did not make Yellen's job a great deal easier.

Friday's jobs report, showing a gain of 288,000 on the headline number, was surprisingly strong. But how much of that was catch-up from the brutal winter? And the household survey actually showed an unadjusted net loss of jobs in April and a decline in the labor force of close to 1 million.

The household survey is extremely volatile month to month, so Yellen's inclination will likely be to focus on the positive nature of the report. But what about the dismal 0.1 percent initial reading from last week on first quarter GDP? That's a backward-looking indicator, and the rest of the year should be significantly better.

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But will Yellen clearly explain how the Fed sees the economy getting from where it was in the first quarter to the 3-percent-plus growth rate that so many economists are banking on to drive bigger job gains the rest of the year?

It seems clear the housing market is not going to add much. And incomes are not yet rising, meaning consumer spending is unlikely to be a big driver for the time being. What else is there? One major element of the faster growth thesis is that bigger increases in take-home pay are just around the corner and that small business spending will soon increase.

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But those things seem increasingly less like certainties and more like hopes.

Data on small business optimism are improving but not to the point where a big rush of spending seems especially likely. And hourly wages were flat in the latest BLS jobs report, once again postponing the anticipated rise and raising questions about just how much slack remains in the labor force.

And Monday's nonmanufacturing activity report from the Institute for Supply Management offered even more confusing data. The headline number rose to 55.2 from 53.1, above the consensus of 54.0. That was good news. But the details were far less rosy.

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The employment index dipped from 53.6 to 51.3. Pantheon Macroeconomics' Ian Shepherdson wrote in a client note that such a reading equates to a hiring pace of closer to 130,00 per month, rather than the current three-month average of 237,000.

Yellen will likely not vary in her prepared remarks from the recent Federal Open Markets Committee policy statement which said economic activity had "picked up recently" after having "slowed sharply" during the winter. And she will likely reiterate that the FOMC plans to continue to keep the Fed funds target range at effectively zero for a "considerable time" after the central bank winds up its asset purchases later this year.

The opportunity for news-making will come in the Q&A periods. Will Yellen offer any more telling detail on what a "considerable time" means? Probably not, given that markets reacted badly when she specified in her March press conference that it would be around six months. But you never know.

And how will Yellen answer Democrats eager for signals that the Fed will stay on the gas—perhaps even pausing the taperif economic data turn uniformly soft again? And how will she deal with Republicans eager to see the central bank close down its extraordinary asset purchases as fast as possible and lean toward snuffing out any signs of inflation no matter how faint?

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Every word Yellen says has the ability to move both markets. But the most interesting thing will be to see just how she explains the direction of an economy that seems to defy all efforts at definitive prognostication. Because if Yellen and the eggheads at the Federal Reserve can't figure it out, then maybe no one can.

—By Ben White. White is POLITICO's chief economic correspondent and a CNBC contributor. He also authors the daily tip sheet POLITICO Morning Money [politico.com/morningmoney]. Follow him on Twitter @morningmoneyben.

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