May 14 (Bloomberg) -- Federal Reserve Chairman Ben S. Bernanke and fellow policy makers said financial markets are still unsettled, while several officials said the central bank is challenged by unacceptably high inflation.

Bernanke and San Francisco Fed President Janet Yellen, in separate speeches yesterday, said markets remain ``far from normal'' after some improvement since March. Yellen, Cleveland Fed President Sandra Pianalto, Kansas City Fed President Thomas Hoenig and the Dallas Fed's Richard Fisher said they're concerned about rising prices.

The remarks underscored policy makers' readiness for a pause after the steepest interest-rate cuts in two decades, and their commitment to add liquidity to the banking system as needed. Bernanke said the central bank will increase its twice- monthly auctions of cash to commercial banks as warranted.

``Financial-market conditions have improved,'' John Lonski, chief economist at Moody's Investors Service, said in an interview with Bloomberg Television. ``Nevertheless, these various measures of corporate-credit risk, of system risk, remain well above average.''

``There's no question that price inflation is faster than what the Fed would like,'' Lonski also said.

Traders expect the next Fed move will be to raise borrowing costs rather than lower them. Futures prices indicate the central bank will keep its main rate at 2 percent through September.

Bernanke, speaking via satellite to a conference hosted by the Atlanta Fed in Sea Island, Georgia, singled out the Term Auction Facility, or auctions of cash to banks, as a program for possible expansion. The Fed announced May 2 that it would boost the TAF to $150 billion per month from $100 billion, the third extension since the program began in December.

`Stand Ready'

``We stand ready to increase the size of the auctions if further warranted by financial developments,'' Bernanke said.

Bernanke, 54, didn't comment on the outlook for interest rates or the economy.

In Vancouver, Yellen said the central bank's rate stance is ``appropriate'' to revive economic growth this year as the credit crunch ``gradually'' eases. Yellen, 61, who doesn't vote on rates this year, also said she anticipates consumer prices will moderate as the labor market weakens and ``commodity prices level off.''

The Fed can't be ``complacent about inflation,'' she told the CFA Institute Annual Conference. Recent measures of price expectations ``highlight the risk that our attempts to deal with problems in the real economy could lead to higher inflation expectations and an erosion of our credibility,'' she said.

`Prolonged' Slowness

Fisher, speaking in Midland, Texas, said the U.S. may be in for a ``prolonged'' period of slow growth, which may end with faster-than-desirable inflation.

``How deep that slowdown will be is a question mark,'' said Fisher, who voted against the last three rate cuts. ``I am not sure it will be very deep at all, but it may be prolonged, because we have to correct the excesses of this credit crisis.''

The U.S. economy expanded at a 0.6 percent annual pace in the first quarter, the same as the previous three months. The last time the economy grew more slowly was in the fourth quarter of 2002.

The Fed's preferred measure of inflation, which strips out food and fuel prices, increased 2.1 percent in March from 12 months earlier. Including food and energy, prices climbed 3.2 percent, the fifth month in excess of 3 percent. Officials' longer-term goal is for a rate of 1.5 percent to 2 percent.

`Difficult Position'

Fisher, 59, in his fourth year as Dallas Fed president, said the policy-setting Federal Open Market Committee is in a ``very difficult position'' and the U.S. ``might come out of this period of a slowdown at much higher base rates of inflation than we would want.''

Pianalto, who has voted for each rate reduction this year, said that while the actions since September are ``compatible with a low and stable inflation rate,'' prices are rising ``somewhat faster than I would prefer.''

``Inflation presents a key risk to my outlook,'' Pianalto, 53, the Cleveland Fed's chief since 2003, said in a speech in Paris yesterday.

The Kansas City Fed's Hoenig said in Oklahoma City that ``a big challenge will be to make sure we bring inflation in check and do not repeat some of the experiences we had in the late 1970s and 1980s when inflation was too high for any of us.'' Hoenig, 61, is the second longest-serving member of the FOMC.

Chicago's Evans

Chicago Fed President Charles Evans said yesterday in brief evening remarks in Chicago that his bank anticipates a ``sluggish'' improvement in growth this year. The day before, he said in a speech that the Fed's current rate stance ``roughly balances out'' risks of faster inflation and weaker growth.

Minneapolis Fed President Gary Stern, in an interview with the Wall Street Journal, said policy makers shouldn't wait until the economy has fully recovered before starting to raise borrowing costs. ``You can't wait until you're 100 percent confident that all the problems are behind us,'' Stern said yesterday, according to the newspaper's Web site.

To contact the reporter on this story: Scott Lanman in Washington at slanman@bloomberg.net

Last Updated: May 14, 2008 00:01 EDT