At the moment, we are mired in a deflationary recession, but there is growing concern over future inflation.  After expanding its balance sheet to an unprecedented $2.2 trillion, the Federal Reserve plans to rely on interest paid on bank reserves to stem a potential bout of high inflation.  The strategy is a gamble, however.  Just last year, interest on bank reserves failed to prevent the benchmark interest rate from falling below  the policy makers’ target.  Are rising prices on the horizon for the US taxpayer?

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Here were some interesting quotes from a Bloomberg article:

“You’ve got the raw material there for a rapid monetary expansion and credit expansion,” said former St. Louis Fed President, William Poole.

Policy makers “have to be more aggressive than in the past about stopping inflation,” said Fed historian, Allan Meltzer.

Some are worried that the Fed will face a difficult quandry.  When the economy eventually recovers, unemployment will likely remain high for an extended period of time, but the Fed will have to begin raising interest rates in order to stem the tide of rising prices.  However, if it raises interest rates too high, too fast, then economic recovery may suffer, according to some economists.

Current New York Fed President, William Dudley, isn’t worried though.  He stated, “I am not worried at all that the Federal Reserve’s balance sheet will generate an inflation problem,” though he acknowledge worry by other Fed officials.  This is ironic, since the last New York Fed President didn’t predict this current economic meltdown, and now he’s the Secretary of Treasury.

On April 14, even Bernanke admitted that containing a potential bout of inflation now occupies a significant portion of Fed meetings.  Clearly, the Fed is worried.

Read the article here.