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SAN FRANCISCO (Reuters) - The Federal Reserve needs to be more aggressive in providing detail on what would lead it to eventually raise interest rates in order to prevent uncertainty among investors that could rile markets and hurt the economic recovery, a top Fed official said on Tuesday.
In an interview with Reuters, John Williams, president of the San Francisco Federal Reserve Bank, said the central bank needed to do more to convince investors that rates will stay low long after the Fed stops buying bonds. It should not wait to twin that message with a decision on cutting back its bond-buying stimulus, he said.
But once the Fed decides the economy is strong enough for the Fed to reduce its $85 billion in monthly bond purchases, it should announce an end date and a purchase total for the program, Williams said.
For now, he said, the Fed must drive the message of continued support for the economy.
"My view would be that we would not be raising the funds rate even if the unemployment rate was below 6.5 percent as long as inflation continued to be low, for some time," Williams said. "We need to be communicating more about the post-6.5-percent world now, because it could be with us much sooner than we expect, and I don't want market participants to be surprised."
The U.S. central bank last December took the unprecedented step of pledging to keep overnight interest rates near zero until unemployment falls to at least 6.5 percent, unless inflation threatens to rise above 2.5 percent.
But unemployment, which registered 8.1 percent when the Fed began its current bond-buying program in September 2012 and last month measured 7.3 percent, has been falling more rapidly than the Fed anticipated.
Although both Fed Chairman Ben Bernanke and Vice Chair Janet Yellen have emphasized that a fall in unemployment to below 6.5 percent will not trigger rate hikes, neither has offered clear guidance on what would. Yellen is expected to soon win Senate confirmation to become Fed chief when Bernanke's term expires on January 31.
"We could be a little more concrete about what we are going to be looking for liftoff," Williams said. "We're really going to be looking obviously for not only improvement in the labor market, but looking for continued growth."
The goal, he said, is that people understand the Fed is "not in a rush" to raise interest rates. For his part, he said, he does not expect rates to rise until the latter part of 2015.
U.S. policymakers have fretted about how markets reacted earlier this year to signals that the Fed was preparing to reduce its monthly bond purchases. Investors pushed up borrowing costs so fast that Fed officials worried they could undercut the still-fragile recovery.
An opposite but equally sharp reaction was seen in September when the Fed unexpectedly decided not to taper bond-buying, causing investors to push borrowing costs back down.
"The market swings way too much both ways," Williams said. "I wish in September we could have had some way of showing that any movement towards tapering is not an action that starts a whole tightening process. ... You can taper and still plan to keep interest rates low for a very long time."
Williams said he also supported cutting the interest paid to banks on the excess reserves they keep at the central bank as a way to signal the Fed's commitment to low rates. "I think it would make sense," he said, although he acknowledged that policymakers have considered, and rejected, the idea several times over the years.
As for the Fed's massive asset-purchase program, Williams said the Fed should only reduce it once it is "completely confident that the economy is on the right track."
Williams first publicly embraced the idea of capping bond buys in early November as a way to give investors clarity on the Fed's next steps, and the idea may be gaining traction. Philadelphia Fed President Charles Plosser, a hawk who opposed the Fed's current round of bond buys from the start, has also floated the idea of capping QE in order to shore up the Fed's credibility.
Williams declined to be drawn out on whether he thought it would be too soon to decide it was time to scale back the bond-buying program at the Fed's upcoming policy meeting on December 17-18.
"I don't like that phrase, 'is it on the table or not,'" he said. "At every meeting ... we have a discussion of the economy, we have a discussion of financial conditions, we have a discussion of the right stance of policy."
Most economists think the Fed will hold off on a reduction to the bond-buying program until March, but some say December is not out of the question, especially if job creation picks up. The Fed has said it will keep buying bonds until there is substantial improvement in the labor market outlook.
"I would think that, given my own views, we definitely could end this program by this coming year. I don't know when," Williams said.
Williams will not have a vote on the Fed's policy-setting panel again until 2015, but is a centrist whose views are often in sync with Fed leadership.
He also finds common ground with policymakers from both ends of the Fed's policymaking spectrum.
Minneapolis Federal Reserve Bank President Narayana Kocherlakota, one of the Fed's most ardent doves, has called for the Fed to vow low rates until unemployment falls to at least 5.5 percent. Williams said Tuesday he could not support such a move.
But Williams's call for more clarity about the Fed's policy intentions once unemployment reaches 6.5 percent echoes a point Kocherlakota has been pushing publicly for months.
Plosser has opposed the Fed's open-ended bond-buying program for as long as Williams has supported it.
But on Tuesday, Williams said he is "sympathetic" to Plosser's call to bring the program to an end by capping it.
Reporting by Ann Saphir; Editing by Leslie Adler