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As the U.S. job market improves, the risk is receding that an unexpected setback could derail the recovery once the Federal Reserve raises interest rates, San Francisco Fed President John Williams told Reuters.
Concern that it could be forced to retreat to near-zero interest rates, where the Fed has little room to maneuver, if it pulled the trigger too soon has been a significant reason the Fed has kept rates pinned to the floor well into the recovery. With that less of a threat, policymakers can now focus on charting an appropriate rate path and worry less about sliding back to zero, Williams said in an interview late on Friday, expressing a view that appears to have taken root more broadly at the central bank.
"As we go through time, that probability of saying 'well, the shocks are going to push us back,' seems to be less, seems to be decreasing," said Williams, who this year is one of 10 voting members of the Fed's policy panel and whose views are seen as closely aligned with Chair Janet Yellen.
"More importantly, we are really thinking about a path, we are talking about moving interest rates from zero to a normal level over several years," he said, echoing recent comments by several other Fed policymakers.
"So even if the economy got some bad shocks, really you are probably just talking about flattening that path out a bit, or maybe raising rates more slowly."
Lift-off, data and T-shirts
To get that message across Williams has begun giving away T-shirts, printed at his own expense, showing an arrow busting upwards out of a computer and declaring: "Monetary policy—It's data dependent."
The slogan captures a shift increasingly evident in the language of some of the Fed's most influential policymakers - away from concerns about acting "too early" toward a focus on calibrating rates in a way that will sustain steady recovery.
In fact, the Fed now needs to weigh the risks of waiting too long before a rate lift-off, Williams said. The concern is a late start to rate increases could force the Fed to tighten policy more aggressively and potentially disruptively if stronger economic growth sparks inflation pressures.
"A little earlier and more gradual versus later and more aggressive: those are the options we have," Williams said.
To be sure, some policymakers, notably the presidents of the Minneapolis and Chicago Fed banks, still argue that raising rates too soon poses a bigger risk than waiting too long.
Economists last month pushed their expectations of a rate hike later into 2015 from mid-year after the Fed downgraded its economic outlook. However, recent policymaker comments suggest the Fed would be still poised to act if data over the next two months confirmed continued job growth and an expected rebound from the weak start to the year.
In the last two weeks, three Fed governors have laid out the argument that it is the longer rate path, not the date of lift-off, that matters. Jerome Powell in New York last week made the direct case that the Fed should not wait to act until its goals of full employment and 2-percent inflation are in view.
As the U.S economy nears full employment, there is less need to keep rates near zero for long to compensate for the central bank's inability to cut rates further in case of a shock, Williams said.
He also said that regardless of the timing of the first hike, rates should stay below neutral to help the economy grow at a faster-than-normal pace. Such accommodative policy is necessary to further reduce unemployment, which at 5.5 percent is still too high in his view, and push up inflation, which remains well below the Fed's 2 percent target.
The San Francisco Fed chief expects the U.S. economy to reach full employment in six to twelve months, and forecasts a tighter labor market will start lifting wages and inflation more broadly.
Comments from Fed officials and forecasts published in March suggest a majority of policymakers is prepared to raise rates either in June or during the June to September period, but Williams declined to be pinned down.
"June is a long ways off, we'll get more data before June," he said. "I am not going to talk about June or September. Look at the shirt!"