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Plosser Says Fed Must Guard Against Long-Term Inflation

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May 1 (Bloomberg) -- Federal Reserve Bank of Philadelphia President Charles Plosser said the central bank must be ready to contain inflation in the long run as it maintains record monetary stimulus to sustain the recovery.

“With the very accommodative stance of monetary policy that has now been in place for more than three years, we must guard against the medium- and longer-term risks of inflation,” Plosser said in San Diego today. He repeated that the Fed may have to raise interest rates “well before” the end of 2014 “in the absence of some shock that derails the recovery.”

Fed policy makers last week upgraded their forecasts for growth, unemployment and inflation as the economy continued to show signs of improvement. Even so, the policy-setting Open Market Committee reiterated that it expects to keep interest rates low through at least late 2014 to push unemployment lower.

“Prospects for labor markets will continue to improve, with job growth strengthening and the unemployment rate falling gradually over time,” Plosser, 63, told the CFA Society of San Diego today.

The Philadelphia Fed chief added that he expects the jobless rate to decline to 7.8 percent by the end of this year from 8.2 percent in March. The economy will probably expand by about 3 percent in 2012 as well as 2013, he said.

Raising Rates

Given those expectations, conditions may be right for the Fed to begin raising interest rates late this year or in early 2013, Plosser told reporters after the speech. He said he doesn’t expect any disruptions in the market when the Fed’s maturity-extension program ends in June, and added that the central bank has already “put a lot of inflation risk on the table” by expanding its balance sheet to foster the recovery.

Manufacturing expanded last month at the fastest pace in almost a year, the Institute for Supply Management’s factory index showed today.

Stocks rose after the manufacturing report, with the Standard & Poor’s 500 Index gaining 0.6 percent today to close 1,405.82.

Responding to a question from the audience, Plosser said that Nobel-winning economist Paul Krugman hasn’t described how pursuing higher inflation would reduce unemployment. Krugman has said the Fed should tolerate inflation of 3 percent to 4 percent to boost the economy and put Americans back to work.

Very Clear

Chairman Ben S. Bernanke “made very clear that that’s a very risky strategy,” Plosser said. “You don’t want to undermine the confidence or the credibility of the Fed to deliver on its target.”

Bernanke said last week that it would be “reckless” to risk the central bank’s credibility by allowing prices to rise with the aim of cutting the jobless rates.

Plosser reiterated his call today for the Fed to make its policy making process more transparent, urging the central bank to choose “a consistent set of variables” that would be used to explain policy changes to investors. That would be a better way to signal the likely course of action than using a specific timeframe, he said.

That way, the public can “form more accurate judgments about the likely course of policy -- reducing uncertainty and promoting stability,” he said.

To contact the reporter on this story: Aki Ito in San Francisco at aito16@bloomberg.net.

To contact the editor responsible for this story: Christopher Wellisz at cwellisz@bloomberg.net

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