The Federal Reserve can keep interest rates on hold for the moment but should not repeat past mistakes by leaving them too low for too long, a top Fed policy-maker said Monday.
"Inflation expectations are higher than I would like, but they are stable," said Richmond Federal Reserve Bank President Jeffrey Lacker told business and community leaders.
"The apparent stability of inflation does not justify complacency, however," said Lacker, who is not a voting member of the Fed's interest rate-setting committee this year.
"Just as easing policy aggressively in response to emerging downside risks made sense, withdrawing some of that stimulus as those risks diminish makes eminent sense as well," he said.
The Fed has slashed interest rates by 3.25 percentage points to 2 percent since mid-September to shield the U.S. economy from a collapsing housing market that sparked a global credit crunch.
Lacker is one of the more hawkish members of the Fed's policy-setting committee and his deliberately moderate tone on inflation expectations signals that he may be comfortable leaving rates on hold for a while, but not indefinitely.
"I'm going to be awfully aware of the extent to which in the past it seems we've waited a bit too long," he said in response to a reporter's question on when the Fed should act.
Lacker said he considered experiences from both 2003/2004 and 1999 as lessons for policy-makers.
The Fed held rates at an ultra-low 1 percent between June 2003 and June 2004.
Back in 1998, it began cutting rates from 5.5 percent in August after the rescue of Long Term Capital Management, getting down to 4.75 percent by November 1998, and holding them there until June 1999.
Lacker said the risks of a recession had diminished "appreciably".
"The risks have shifted since the beginning of the year and they have definitely shifted away from a severe downturn, toward the dangers imposed by elevated inflation," he told reporters.
But he separately noted there were still headwinds facing the U.S. economy.
"There are legitimate concerns on the growth outlook. Most importantly, if the labor market continues to contract, consumer incomes and spending are likely to suffer and restrain overall economic activity," he said in the speech.
Stronger-than-expected May retail sales might have been influenced by rebates under a government stimulus package, he said, and it would be a while before anyone could be sure.
"For several months it is going to be really hard to know what the trend in consumer spending is, because it is going to be clouded by the potential that what we're seeing is fallout from these stimulus checks," he told reporters.
Lacker also balanced this with a warning that the U.S. central bank had to defend its anti-inflation name by raising interest rates if the inflation outlook worsened.
"Maintaining credibility depends on continuing to conduct policy in a way that is consistent with the stability of inflation expectations, and acting forcefully should those expectations erode," he said in the speech.