Yellen, however, downplayed the importance of the timing of the first rate hike as she delivered the Fed's mid-year economic outlook to Congress. Interest rates will remain at very low levels "for quite some time after the first increase," she said.
The Fed's benchmark rate has been at a record low near zero since December 2008. That has translated to historically low borrowing rates for consumers and businesses.
Many economists peg September for a rate liftoff, but they see at most only two quarter-point moves this year.
"If the economy evolves as we expect, economic conditions likely would make it appropriate at some point this year to raise the federal funds target," Yellen told the House Financial Services Committee in the first of two days before Congress.
Yellen stressed that her outlook is based on the expectation that the labour market will keep improving and inflation will begin moving closer to the Fed's 2 per cent target for annual price gains. Inflation is currently running lower than the pace the Fed believes is optimal for a healthy economy.
A decision to raise rates, Yellen said, "will signal how much progress the economy has made in healing from the trauma of the financial crisis."
Yellen highlighted a number of areas that had improved.
The unemployment rate in June dropped to a seven-year low of 5.3 per cent. She also cited "noticeable declines" over the past year in the number of long-term unemployed — people who have been out of work six months or longer — and in the number of people working part-time because they can't find full-time jobs. But she said problems with the labour market remained, including anemic wage growth.
Many of the problems that sent the economy into reverse in the January-March quarter appeared to be waning, she said.
"Consumer spending has picked up and sales of motor vehicles in May and June were strong," Yellen said, also noting recent improvements in home construction.
But she described business investment and export sales as weak. Investment has been hurt by spending cutbacks at energy, while exports have suffered from the rising value of the dollar, which makes U.S. goods less competitive in foreign markets.
Yellen listed foreign developments as one of the key uncertainties that could weigh on U.S. growth in coming months.
"The situation in Greece remains difficult," she said. "And China continues to grapple with the challenges posed by high debt, weak property markets and volatile financial conditions."
Yellen said that the Fed would closely monitor developments in Greece and China. If either country created "substantial risks," it could delay a Fed rate increase, she said. Any delay could mean that subsequent rate hikes might take place more rapidly than the gradual pace the Fed currently anticipates.
Anticipating tough questions from Republican lawmakers over the Fed's powers and what critics see as excessive secrecy, Yellen described a number of steps the central bank has taken in recent years to become more transparent. She said the Fed holds press conferences after four of its eight meetings each year and has increased the frequency that it updates its economic forecasts.
"The Federal Reserve ranks among the most transparent central banks," Yellen said.
But many Republican lawmakers were less than satisfied.
They urged her to consider supporting changes in how the Fed operates, such as adopting a rule that would link rate hikes to changes in economic growth and inflation. Committee Chairman Jeb Hensarling, R-Texas, said a simple rule would make the Fed more predictable and understandable and help an economy "mired in lacklustre, halting economic growth."
Yellen, however, rejected the idea.
"There is not a central bank in the world that follows a rule that would rely on only two variables," she said.
Yellen's appearance Wednesday will be followed by testimony Thursday before the Senate Banking Committee. Under law, she is required to provide Congress twice a year with updates on the Fed's economic outlook and its handling of interest rates.
The Fed, responding to the 2008 financial crisis and the worst economic downturn in seven decades, expanded its balance sheet by purchasing trillions of dollars in bonds and took other aggressive actions to lower interest rates and battle high unemployment.
The moves triggered criticism that the Fed has become too powerful, and is too secretive and unaccountable. Lawmakers in both the House and Senate have introduced legislation to rein in the Fed's independence, measures that the central bank have warned could damage the independence the Fed needs to maintain its credibility with financial markets.