Mon May 4, 2009 6:24pm EDT
By Kristina Cooke
NEW YORK (Reuters) - The U.S. recession will likely end this year and policymakers must be ready to act quickly to ensure inflation does not take hold when the economy recovers, two top Federal Reserve officials said on Monday.
Richmond Federal Reserve President Jeffrey Lacker and Kansas City Federal Reserve President Thomas Hoenig offered slightly different views on when the world's biggest economy will begin to grow again.
Lacker, speaking to business leaders in Charlottesville, Virginia, said that given the resilience of U.S. consumers --whose spending drives the U.S. economy -- and the unprecedented stimulus injected into the U.S. economy by the Fed, he expects growth to resume by year end.
Hoenig, speaking in New York, was less confident saying the economic outlook remained "uncertain" and it would take "most of the rest of the year" to move out of recession before starting on a path of "steady, slow" recovery in 2010.
Housing and construction data released on Monday added to other recent signs that the worst of the longest recession since the Great Depression may be over, driving the S&P 500 stock index into positive territory for the year.
Last week, the Federal Reserve monetary policy committee said the outlook for the U.S. economy has improved a bit in recent weeks but that low interest rates would be needed for some time to ensure it recovers from its deep recession.
Hoenig, who is not a voting member on the central bank's policy-setting committee this year, said on Monday that the U.S. still has "a ways to go before markets will function effectively without government assistance."
The Federal Reserve's balance sheet has more than doubled to more than $2 trillion as it set up an array of emergency lending programs to support key credit markets.
Nevertheless, both officials said the Fed needs to be aware of the risk of inflation once the economy recovers. Last week the core personal consumption expenditures index, which many say is the Fed's favorite inflation gauge, came in at 1.8 percent -- holding well in positive territory.
Lacker, who is a voting member of the Fed's policy-setting committee in 2009 said the Fed should not wait too long to tighten policy.
"The challenge for us on the Federal Open Market Committee will be to shrink our balance sheet and tighten policy soon enough when the recovery emerges to prevent rising inflation," he said.
Other policymakers have warned that removing stimulus too quickly could plunge the U.S. economy back into recession.
A surge in inflation as well as undermining long-term U.S. economic growth could also make it more difficult for the U.S. government to attract buyers for the debt it needs to issue to fund its huge budget deficit.
Hoenig also noted the potential for political pressure to keep interest rates low once the economy begins to recover, threatening the central bank's independence and its ability to shift policy.
He added that the Fed's actions in this crisis have "almost certainly" set expectations among markets for similar aggressive actions in the future -- which may make investors more likely to take excessive risks.
Hoenig said the Fed needs to address these potential pitfalls now before any inflation problem appears -- though he said he didn't see inflation ballooning for another few years.
"Inflationary pressure builds slowly, but it builds irresistibly if you don't take the right policy actions," he said.
(additional reporting by Alister Bull in Charlottesville; Editing by Diane Craft)