UPDATE 1-Fed's Yellen outlines rate policy dilemma

(Adds details, background, byline)

By Ros Krasny

TACOMA, Washington, May 14 (Reuters) - San Francisco Federal Reserve Bank President Janet Yellen on Wednesday said the Fed is grappling with preventing 1970s-style inflation while facing down the chance of a "horrid" downward growth spiral, but warned its policy actions could result in short-term pain.

Avoiding high inflation is a key goal for the Fed, she said at an economic symposium in Tacoma, Washington.

Yellen said Fed policy actions had allowed inflation to increase in the 1970s, a mistake current policy-makers will strive not to repeat.

"During the 1970s the Fed failed to keep inflation low in the face of supply shocks (which) became incorporated into inflation expectations," she said.

Earlier on Wednesday, former Fed Chairman Paul Volcker warned that a 1970s-style period of skyrocketing inflation was possible if investors lose confidence in the buying power of the U.S. dollar.

Yellen did not address the value of the currency, but said that an inflation spiral or unchecked rise in inflation expectations has not developed.

Yellen gave a broad overview of the policy-setting Federal Open Market Committee at an event organized by the San Francisco Fed and the Pacific Northwest Regional Economic Conference.

Although inflation in brewing, the FOMC's greatest fear right now is a "negative feedback loop" with the tight credit, weak retail sales and low consumer confidence that are plaguing the economy resulting in greater caution that further slows growth, she said.

That would be a "horrid" outcome that can go "on and on in a spiral that can take the economy into a negative place," she said.

NO PAIN, NO GAIN

Yellen did not specifically address the policy outlook, but noted that the Fed must stay focused on long-term policy objectives, even at the risk of short-term pain.

The policy path chosen should "minimize societal losses," Yellen said, adding that the Fed's main tool, the federal funds rate, is not a cure for all ills.

"Monetary policy sometimes entails trade-offs. Sometimes the fed funds rate may not be able to achieve all you want," she said.

Yellen, the Fed's 12th District president, said, however, that a string of "very inventive" moves by the FOMC to bolster financial market liquidity during a global credit crunch have helped avoid monetary policy from becoming "clogged up."