"I expect that, with further gradual adjustments in the stance of monetary policy, the economy will continue to expand at a moderate pace over the next couple of years, with the job market strengthening somewhat further and inflation rising to 2%," Yellen, Chairperson of the Federal Reserve System Board told members of the House Finance Services Committee during a Congressional hearing.
"This judgement reflects our view that monetary policy remains accommodative. Ongoing job gains should continue to support the growth of incomes and, therefore, consumer spending. Global economic growth should support further gains in US exports," she said.
Yellen said favourable financial conditions, coupled with the prospect of continued gains in domestic and foreign spending and the ongoing recovery in drilling activity, should continue to support business investment.
These developments should increase resource utilisation somewhat further, thereby fostering a stronger pace of wage and price increases, she noted.
At the same time, she said considerable uncertainty always attends the economic outlook.
There is, for example, uncertainty about when and how much inflation will respond to tightening resource utilisation. Possible changes in fiscal and other government policies here in the United States represent another source of uncertainty, she said.
"At present, I see roughly equal odds that the US economy's performance will be somewhat stronger or somewhat less strong than we currently project," Yellen said.
Testifying before the Congressional Committee, Yellen said the Federal Reserve is likely to reduce its massive $4.5 trillion portfolio, later this year and added that the balance sheet reduction and rate increased would be gradual.
She said the Federal Reserve intends to gradually reduce its security holdings by decreasing its reinvestment of the principal payments it receives from the securities held in the System Open Market Account.
"Specifically, such payments will be reinvested only to the extent that they exceed gradually rising caps. Initially, these caps will be set at relatively low levels to limit the volume of securities that private investors will have to absorb," she said.
The Federal Reserve, Yellen noted, currently expects that, provided the economy evolves broadly, as anticipated, it will likely begin to implement the programme this year.
"Once we start to reduce our reinvestments, our securities holdings will gradually decline, as will the supply of reserve balances in the banking system," she said.
Following Yellen's testimony, Dow jumped to a record level.
The Dow Jones Industrial average closed at 123.07 points higher at 21,532.4, a record.
"We're getting a positive reaction to her testimony," Jeff Kravetz, regional investment strategist at the Private Client Reserve at US Bank, told CNBC news.
"What happened was she was more dovish than the market expected in her prepared remarks," he said.
Responding to questions, Yellen said in its principles for normalisation of monetary policy, the Federal Reserve has clearly indicated it intends to return, over time, to a primarily treasury-only portfolio, and that is in order not to influence the allocation of credit in the economy.
"That said, our purchases of mortgage-backed securities took place after a financial crisis when the market for mortgage-backed securities was not working at all well, and I believe it was appropriate," she said.
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