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Fed creating 'unacceptable' risks to inflation: Kocherlakota

Narayana Kocherlakota, President of the Federal Reserve Bank of Minneapolis, speaks at the ninth annual Carroll School of Management Finance Conference at Boston College in Chestnut Hill, Massachusetts June 5, 2014. REUTERS/Brian Snyder

(Reuters) - The Federal Reserve is creating "unacceptable" downside risks to U.S. inflation by signaling it will gradually remove monetary stimulus next year despite low inflation, Minneapolis Federal Reserve Bank Narayana Kocherlakota said on Friday.

Instead, Kocherlakota said in a statement to be posted on the regional Fed bank's website, the U.S. central bank should have pledged to keep rates near zero until the inflation outlook improves. He added that the central bank should also have signaled its willingness to restart its controversial bond-buying program if that pledge does not work to bring inflation expectations back to the Fed's 2-percent target.

The U.S. central bank on Wednesday said it would be "patient" in deciding when to raise borrowing costs, a waiting period that as Fed Chair Janet Yellen clarified could open the door to a rate hike as soon as April.

Yellen said she expects a recent decline in market-based inflation expectations to be temporary, and suggested that the Fed could raise rates next year even if inflation remains below the Fed's 2-percent target.

Kocherlakota dissented from the decision, in what was his last vote on the Fed's policy-setting panel before he steps down from his post in early 2016. Kocherlakota began his term in 2009 as a one of the Fed's most ardent inflation-fighting hawks; today he is one of its most vocal policy doves.

On Friday he said the Fed was putting the United States at risk of a growth-sapping drop in inflation.

"In my assessment, the (Fed)’s failure to respond to weak inflation runs the risk of creating a harmful downward slide in inflation and longer-term inflation expectations of the kind that we have seen in Japan and Europe," Kocherlakota said. "I see this risk to the credibility of the inflation target as unacceptable, given how hard it would be for the (Fed) to respond successfully if this eventuality did indeed materialize."

Kocherlakota said a decline in market-based inflation expectations has kept the Fed from asserting the stability of long-run inflation expectations, a bedrock of sound central banking, for three meetings running.

(Reporting by Ann Saphir; Editing by Chizu Nomiyama)