The Federal Reserve will act decisively when needed to tighten monetary policy and tamp down any prospects of inflation, a top Fed policy-maker said on Tuesday.
But Janet Yellen, president of the San Francisco Fed, said the early stages of recovery will be painfully slow, helping to keep inflation low for now, and that a return to full employment could take several years.
We glimpse the first solid signs ... that economic growth may be poised to resume. Indeed, I expect that to happen some time this year, Yellen said at a meeting of Oregon and Idaho bankers.
When the economy eventually recovers, we have the tools to tighten policy when the time is right, and we have the will to use them, Yellen vowed.
I can assure you that we will act decisively and appropriately to tighten the stance of monetary policy and maintain price stability.
But Yellen said the weak labor market, with payrolls still shrinking at a dreadful pace and downward pressure on wages, remains a concern, while the slide in commercial real estate market poses a downside risk as well.
A gradual recovery means that things won't feel very good for some time to come, she said. I expect to see subdued consumer spending for some time. Many American households still face tattered finances after the loss of trillions of dollars of wealth, she said.
Yellen, a voting member of the U.S. central bank's policy-setting Federal Open Market Committee in 2009, gave no hints about when the Fed might need to start raising benchmark interest rates. She reiterated the central bank's current view that rates are likely to be near zero for an extended period.
Meanwhile, Yellen dismissed suggestions that inflation is on the verge of jumping as a result of the Fed's expansionary monetary policies and massive balance sheet expansion.
Will this expansion of credit and bank reserves create high inflation? My answer is no, she said.
Monetary policy fosters inflation when it loosens the stance of policy enough to create excess demand for goods and services. Right now, we have exactly the opposite.
The United States needs more demand -- not less -- to offset slack in labor and product markets, Yellen added.
Core inflation, stripped of food and energy price rises, will likely remain below 2 percent for several more years, Yellen added.
Similarly, large budget deficits by themselves do not cause high inflation automatically, the policy-maker said.
With the United States still in what could become the most severe recession since the Great Depression, current fiscal policy in my view, is entirely appropriate, she said.
Yellen urged bankers in the audience, many from small and mid-sized community banks, to do their bit.
Although my message is that you should plan for the worst and exercise caution, I want to stress that it is also critical that you continue to make loans to credit-worthy borrowers.