Dudley: Why Fed may need to get 'more aggressive'

New York Federal Reserve President William Dudley
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New York Federal Reserve President William Dudley

The Federal Reserve may have to get even more aggressive with policy if its efforts to tighten aren't reflected in short-term interest rates, New York Fed President Bill Dudley said Friday.

In remarks delivered at a conference, the central bank official said if low short-term rates continue even after the Fed's Open Market Committee starts lifting its target funds rate off near-zero, then "it would be appropriate to choose a more aggressive path of monetary policy."

After more than six years of low rates, the Fed is contemplating modest tightening of policy, with the first hike expected to come later in 2015. However, the timing of the hike and the frequency of additional increases thereafter remain cloudy.

The CNBC guide to 'Fedspeak'
The CNBC guide to 'Fedspeak'   

Dudley said the Fed is unlikely to follow any particular set guidelines, such as the Taylor Rule, when deciding when and how to hike rates. The rule offers guides about increasing rates according to levels of unemployment and inflation, but Dudley said "monetary policy cannot be put on autopilot guided only by a fixed policy rule."

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"The fact that market participants have set forward rates so low has presumably led to a more accommodative set of financial market conditions, such as the level of bond yields and the equity market's valuation, that are more supportive to economic growth," he said, according tp prepared remarks.

"If such compression in expected forward short-term rates were to persist even after the FOMC begins to raise short-term interest rates, then, all else equal, it would be appropriate to choose a more aggressive path of monetary policy normalization as compared to a scenario in which forward short-term rates rose significantly, pushing bond yields significantly higher," he added.

Dudley said rates have remained where they are in the U.S. partly because of similar action in Europe and Japan.

Read MoreFed 'running out of excuses' for zero rates

On economic issues, he said it's too early to say whether growth is stuck in slow mode over a long period of time—so-called secular stagnation—but he did say gross domestic product growth will remain muted over the medium term.

"I do think that the real potential GDP growth rate will be lower over the medium term, held down by much slower growth of labor input and an anticipated continuation of lackluster productivity growth performance," he said.

Also, he predicted that the long-run funds rate will be 3.5 percent.