NEW YORK (Reuters) - Winding down the Federal Reserve's unprecedented policy accommodation is feasible even with the U.S. central bank's swollen balance sheet, though there are bound to be unforeseen challenges when the time comes, a top Fed official said on Wednesday.
New York Fed President William Dudley, whose branch of the central bank handles its massive bond-buying program, said in a speech that there "will undoubtedly be communications and operational challenges and unexpected consequences" when the Fed eventually tightens policy.
But he said that an "exit from (this) unconventional set of policies is certainly feasible," especially given the Fed's relatively new ability to pay banks interest on the excess reserves they store at the U.S. central bank.
In his prepared remarks, Dudley did not comment on when the Fed might start to reduce its $85 billion monthly asset purchase program, known as quantitative easing. Earlier this week he made waves saying the Fed needed to keep supporting the economy for now but still planned to reduce QE later this year.
Dudley, a close ally of Fed Chairman Ben Bernanke, was at the Museum of American Finance giving a speech commemorating the Fed's 100 year anniversary.
The central bank's record has been mixed over the years with roaring booms and painful busts, a major bout of inflation in the 1970s and, most recently, the brutal financial crisis that sparked the Great Recession that still hampers the United States.
Looking ahead, Dudley said a key challenge is putting financial stability on par with monetary policy. "As our experience from 2007 to 2009 has demonstrated, monetary policy cannot work properly when there is financial instability."
Drilling down into financial regulation, he noted there remain "significant barriers" to cross-border cooperation among regulators in the case of a large bank getting into trouble, and needing to be wound down. Also there aren't enough incentives for banks to shrink in the first place, Dudley said.
Reporting by Jonathan Spicer, editing by G Crosse and Cynthia Osterman