Can Fed Avoid Inflation Danger?

Fears of inflation because of the Federal Reserve's massive quantitative easing measures are overblown, because the Fed has the ability to pull the liquidity out of the market fast enough to prevent price rises.

Since the onset of the financial crisis, the Fed has cut interest rates near zero and injected about $1 trillion in the markets to prevent credit from freezing up.

Many people have warned the measures carry a high risk of inflation and drive down the dollar value in long term. But William Dudley, New York Fed president, expressed his optimism on inflationary pressure.

His view is that Fed has tools to manage our balance sheet so that we'll not have an inflation outcome, they are far along in terms of having the interest on excess reserves and, just in case, developing other means of pulling out the excess reserves.

Some of the exit strategies are already happening as lots of liquidity facilities were introduced with penalty interest rates and as the economy is recovering, firms return the liquidity to escape the punishment of high rates.

The Fed is also looking into the idea of banks depositing excess reserves with the Fed on a term basis, and into that of launching repo operations - selling securities to the market and withdrawing liquidity that way.

But it might be too early to speak about launching the exit strategy, as the economy still isn't growing fast and unemployment is high. Besides, it is possible that inflation could decline for a while because of the slack in economy and the banking system will take time to heal itself.