Fed's Yellen still sees inflation risks

By Jim Christie

SACRAMENTO, California (Reuters) - San Francisco Federal Reserve Bank President Janet Yellen said on Friday she still sees upside risks to inflation but that U.S. interest rates were now "well positioned" to bring inflation down.

Yellen, speaking at Sacramento State University, largely repeated her speech on the economic outlook given on Wednesday.

"At this stage, the predominant risks center on whether inflation will continue to move down gradually," she said.

While core inflation remained higher than she would prefer, "it has begun to ebb modestly in recent months," she said.

Asked after the speech about her definition of price stability, Yellen said: "I don't have a firm ... view ... I would say that the current inflation rate of a little bit over 2 percent is at the upper end."

Some Fed officials, including Yellen, have previously cited a 1 to 2 percent range for the price index of core personal consumption expenditures, or PCE, which excludes volatile food and energy prices. Core PCE was up 2.2 percent in the past year.

Yellen indicated that current monetary policy would be enough to bring prices down.

Based on her forecasts for economic growth to slow a bit below potential and inflation to moderate, Yellen said: "I believe policy may now be well positioned to foster exactly such an outcome."

Moreover, she said she still supports the bias in policy toward tightening because of upside risks to inflation.

The Fed has left its benchmark federal funds rate at 5.25 percent since June. Yellen is not a voting member of the rate-setting Federal Open Market Committee this year.

CONCERN ON PRICES

Yellen said she expects prices to decline due to falling oil prices and stable inflation expectations. However, she remains concerned about tight labor markets contributing to upward pressure on prices.

"Given the probability of some tightness, we would need to see real gross domestic product growth remain moderately below its long-run trend for a time to have confidence that the economy is heading for a soft landing with inflation continuing to move lower," she said.

The economy grew at an annualized 3.5 percent in the last quarter of 2006. Most economists expect the figure to be lower when revised data is released next week.

Yellen remained optimistic the economy would weather a slowdown in the housing sector, although she said it was the main factor that could potentially destabilize the economy.