August 15, 2014 / 5:00 PM / 3 years ago

UPDATE 1-Fed's Kocherlakota: a 'mistake' to raise rates too soon

* Warns of risks of too-low inflation

* Fed is missing on both goals: Kocherlakota

* Kocherlakota is a voter at the Fed this year (Adds comments, background)

By David Bailey

BRAINERD, Minn., Aug 15 (Reuters) - The Federal Reserve should not make the mistake of exiting from its super-easy monetary policy too soon, a top Fed official said on Friday, warning of the risk of a downward drift in inflation that could choke the U.S. recovery.

Pointing to the “disturbing” situation in Europe, where inflation is well below 1 percent, and to Japan’s two-decade bout with deflation, Minneapolis Fed President Narayana Kocherlakota said the U.S. central bank should keep up its monetary stimulus as long as inflation stays low.

The Fed has kept rates near zero since December 2008. Kocherlakota projects U.S. inflation will stay below the Fed’s 2-percent goal until 2018.

“You hear a lot of concerns that it is time for us to exit, time for us to start thinking about leaving the zero lower bound and raising rates,” Kocherlakota told community bankers here. “But boy, it’s a mistake to go too early. And we should profit from the examples of other countries on that.”

Kocherlakota, who has a vote this year on the Fed’s policy-setting panel, said the Fed is falling short on its goals.

Unemployment, at 6.2 percent, is “unacceptably high” he said, and could drop to as low as 5.25 percent before undesirable inflationary pressure are likely to emerge.

While he projects the jobless rate to fall to 5.7 percent this year, that decline masks weakness, he said.

U.S. inflation, by the Fed’s preferred measure, is stuck around 1.6 percent, suggesting the economy is underutilizing its resources, he said.

“As long as inflation remains low, below 2 percent, below our target, we have room to be supportive and to be helpful,” Kocherlakota told the Independent Community Bankers of Minnesota, citing research from his bank that increasing inflation by a quarter of a percentage point could add 1 million jobs to the American economy.

Kocherlakota started his job in 2009 as a policy hawk, but abandoned that stance after the inflationary threat he thought he saw looming never materialized.

“You get beaten in the head with the numbers enough and you have to change your mind, and that’s what I have done,” he said.

Fed policymakers often first air their views behind closed doors to their colleagues, and then later repeat them for public consumption. Friday’s talk was Kocherlakota’s first public appearance since the Fed met in late July.

Fed policymakers are coming under increasing pressure to consider raising rates for the first time in eight years, as the jobless rate falls and inflation slowly firms. But Kocherlakota on Friday appeared determined to resist that pressure.

Citing the “disturbingly low” fraction of people aged 25 to 54 who actually have a job, and the historically high fraction of part-time workers who would prefer to work full time, Kocherlakota said he believes labor markets are still “some way from meeting the (Fed)’s goal of full employment.” (Reporting by David Bailey; writing by Ann Saphir; Editing by Chizu Nomiyama)

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