The Federal Reserve could buy more bonds or make a commitment on the size of its balance sheet if the economy weakens and deflation reappears, though the time is not yet right for such moves, a senior Fed official said in Japan's Nikkei newspaper.
The remarks from St. Louis Fed President James Bullard laid out what many economists have said are the most likely remaining options available to the central bank.
With the global economy sputtering and volatility in financial markets on the rise, some investors are looking to the Fed for some form of assurance.
"If we did do QE3, then I've advocated that we do it on a meeting-by-meeting basis and that we add to our purchases based on the conditions at the particular meetings and that we not commit to a long string of purchases," Bullard said in an interview with the Nikkei published on Tuesday, referring to a third round of quantitative easing.
Economists say the Fed is likely to wait before taking further steps as it has already exhausted many of its policy tools.
Bullard said the central bank has already implemented a very easy monetary policy and that the risk of inflation has increased in the United States.
The head of the St. Louis branch does not have a vote on the policy-setting Federal Open Market Committee this year.
IN THE HOLE
Traders are waiting for a speech by Fed Chairman Ben Bernanke on Friday in Jackson Hole, Wyoming, at an annual gathering of policymakers and academics.
Recent market turmoil and signs of weaker U.S. growth have boosted expectations Bernanke may hint at more emergency stimulus for the economy.
Interest rates are already near zero, and the central bank's policy-setting FOMC meeting just two-weeks ago signaled it is willing to hold borrowing costs at rock bottom levels for two years if necessary. There is little more that can be achieved using rates.
Bullard, known for his hawkish views, said the Fed's ultra-easy policy has already raised consumer prices and inflation expectations. Still, he said the Fed could take further steps if needed to help the economy.
"We could lower the interest rate on excess reserves," he said. "We could do an operation 'twist' where we substitute longer bonds for shorter notes and bills. We can make a commitment on the size of the balance sheet."
At last year's meeting in Jackson Hole, Bernanke hinted at what eventually became a $600 billion quantitative easing bond-buying program, known as QE2. But some economists said Bernanke may hold off on aggressive easing plans this year.
Bullard said he expects stronger growth in the second half of 2011 and going into 2012.
"I would still think that the baseline would be for two and a half percent real growth in the U.S. over the second half of 2011," he said.
"If the economy weakens substantially, and especially if the inflation picture starts to deteriorate so that deflation becomes a risk again, then I think the committee would definitely take action."
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