A senior Federal Reserve official said on Tuesday that the U.S. central bank must remain vigilant about keeping inflation in check and not let patchy economic weakness deter it from beginning to withdraw extraordinary levels of support.

The Fed has slashed borrowing costs to near zero percent and pumped more than $1 trillion into the banking system to stimulate the economy since last year, and the question of when to begin an exit from those measures is a topic of intense discussion.

If we hope to keep inflation in check, we cannot be paralyzed by patches of lingering weakness, which could persist well into the recovery, the president of the Richmond Federal Reserve Bank, Jeffrey Lacker, said in a speech to members of the Virginia House of Delegates.

The president of the San Francisco Fed, Janet Yellen, also warned about the length that the central bank can maintain its ultra-cheap money policies because of inflation concerns, but said the recovery will be slow.

We all understand very well that we cannot have an accommodative policy for too long. That once these conditions no longer prevail, it is a core responsibility of the Federal Reserve to preserve price stability, she said after a speech in Hong Kong.

RISKS FROM RESERVES EXPANSION

Lacker, a voting member of the Fed's policy-setting panel, is one of the most outspoken anti-inflation hawks among senior Fed officials and did not soften that stance from past speeches.

He said the risk that businesses and consumers lose confidence in the stability of inflation is greatest in the early years of an economic recovery. The hundreds of billions of dollars the Fed has pumped into the economy to pull it out of a painful recession add to dangers, Lacker said.

This risk could be particularly pertinent to the current recovery, given the massive and unprecedented expansion in bank reserves that has occurred, he said.

A lack of confidence in the stability of inflation is seen by policy makers as negatively influencing the behavior of consumers and businesses.

Doubt over the Fed's willingness to pare those reserves adds to those concerns, Lacker said.

The Fed at a meeting last week pledged to keep rates exceptionally low for an extended period to support a fragile recovery.

Fed Chairman Ben Bernanke said on Monday the economy appears to be pulling out of the recession, but warned that tight credit and a weak job market would make the upturn sluggish.

Lacker gave a somewhat rosier outlook than Bernanke, saying he expects the economy to grow at a reasonable rate next year as housing recovers and consumers and businesses resume spending. Risks that inflation will fall -- a sign of further economic weakness -- have diminished substantially since the beginning of the year, he said.

In assessing when we will need to begin taking monetary stimulus out, I will be looking for the time at which economic growth is strong enough and well enough established, even if it is not especially vigorous, Lacker said.

He said the labor market would bottom out as the economy improves.

Even the most optimistic forecasters do not expect a rapid improvement in national labor market conditions, and we will need to carefully monitor employment and earnings for an extended period, he said.

ASSET BUBBLE CONCERNS

Yellen, also a Fed voter and among the most growth-focused doves among top Fed officials, said there was a need to monitor asset markets but that she saw no sign in credit spreads of an asset bubble or that U.S. stocks were overvalued.

We need to monitor developments in asset markets, she said. Low interest rates in the U.S. are triggering capital outflows.

Asset bubbles have been a key concern since the bursting of the U.S. housing market bubble helped spark the global financial crisis and economic downturn.

Addressing a related concern, Lacker echoed Fed Chairman Ben Bernanke's view that the Fed would pay attention to the falling value of the dollar but only insofar as it impacts the central bank's objectives of price stability and sustainable growth.

In a rare comment on the dollar on Monday, Bernanke said the weakness of the dollar could be contributing to the rise in some prices.

Lacker played down that weakness in the dollar undermines Fed credibility.

Our central objective is and always has been the domestic purchasing power of the U.S. currency, he said. The dollar plays some role in that, but to some extent it's a bit tangential to that.

(Additional reporting by Kevin Plumberg in Hong Kong; Editing by Leslie Adler)

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