WASHINGTON - Chicago Federal Reserve Bank President Charles Evans Monday argued that current economic conditions call for "extremely strong" action from the central bank, warning of damage that will leaving lasting scars on the U.S. economy if nothing is done to tackle the stubbornly high unemployment rate.

In remarks prepared for the Saging Bangkok Forum in Thailand, Evans predicted the U.S. jobless rate will likely remain "well above" sustainable levels for some time, and cautioned that Asian economies, down the road, are likely to be confronted by the weak growth outlook currently facing the U.S. and other advanced economies.

He also made the case again for tying future monetary policy to the Fed's progress on boosting job growth, and said he would have preferred the Fed's policymaking Federal Open Market Committee to announce additional purchases of mortgage-backed securities following its June meeting.

Evans is a voter on the FOMC next year.

Evans acknowledged there is already "substantial liquidity" in place in the U.S. financial system, but that "with huge resource gaps, slow growth and low inflation, the economic circumstances warrant extremely strong accommodation."

The U.S. is not experiencing stronger growth right now, so Evans said he supports using the Fed's balance sheet to provide additional accommodation.

"I think our action in June that continued our Maturity Extension Program was useful; but I would have preferred an even stronger step, such as the purchase of more mortgage-backed securities," he said.

The additional monetary easing is needed, he said, "to more quickly boost output to its full potential level."

He cited the still-unresolved European debt crisis, as well as the looming fiscal cliff in the United States, and the "substantial downside risks" they pose, underlining the need for "a high degree" of monetary stimulus.

Evans said the crisis in Europe could have a severe impact on the U.S. either through financial contagion, or by spooking skittish U.S. businesses and households.

"Every hint of bad news seems to generate a wave of increased caution and an associated pullback in spending as firms and families seek to protect their individual balance sheets," he said. "So it would be no surprise if yet another wave of uncertainty put a further dent in consumption and investment."

As for the fiscal cliff, Evans warned how the public back-and-forth by lawmakers could cause "already jittery" business and consumers to put spending plans on hold.

"In sum, a messy resolution to the fiscal cliff problems presents an important downside risk to U.S. growth prospects and, by extension, to world economic growth," he said.

"Even absent any negative shocks, such tepid growth rates would close the large existing resource gaps only very gradually," Evans said. "Indeed, I expect that we will face unemployment well above sustainable levels for some time to come."

As for Asian economies, Evans warned that despite the pickup in growth in recent years, "they will not be immune to the tepid growth prospects that the U.S. and other advanced economies are now facing. Indeed, the weaker outlook for the U.S. and euro area has already contributed to reduced growth forecasts in Asia."

Counseling against any hesitancy on the part of the Fed, Evans said finding a way to provide more stimulus -- "whether it is monetary or fiscal" -- is particularly important now because any delay in lowering unemployment would prove costly.

He cited the "unusually large percentage" of unemployed workers who have been without jobs for quite an extended period of time -- "their skills can become less current or even deteriorate" -- and how the resulting lower aggregate productivity also weighs on potential output, wages and profits for the economy as a whole.

"The damage intensifies the longer that unemployment remains high. Failure to act aggressively now will lower the capacity of the economy for many years to come," he said. 

Evans indicated a willingness to tolerate inflation above the Fed's 2% target in pursuit of better news on the jobs front, especially with the unemployment rate currently 2 to 3 percentage points above its sustainable rate.

"I support a conditional approach, whereby the federal funds rate is not increased until the unemployment rate falls below 7%, at least, or until inflation rises above 3% over the medium term," he said.

Evans argued that the policy would clarify the Fed's forward policy intentions greatly and provide a more meaningful guide on how long the federal funds rate will remain low. The FOMC currently says it expects rates will stay low until at least late 2014.

"Clarification would increase both transparency and accountability. Importantly, it would help markets better anticipate Fed actions, creating one less source of risk for economic agents to manage," he said.

In addition, Evans said he does not foresee "much risk that inflation will rise above reasonable tolerance levels relative to this (2%) objective."

He noted the output gap remains large and likely to close "only slowly," and that wage pressures are "practically nonexistent" in the current economic environment.

"It is hard to envision how we could see major persistent inflation pressures without a parallel increase in wage costs," Evans said, and concluded that inflation will likely remain near or below the 2% target over the medium term.

Some have warned that the Fed's swollen balance sheet raises the risk of soaring inflation down the road, but Evans sought to defang this argument.

He noted that despite a balance sheet that has ballooned in size to almost $3 trillion since 2007, the dire predictions regarding inflation have not come to pass.

"Low long-term Treasury rates support the view that markets are looking for only modest economic growth with low inflation, and a there is a high degree of caution out there -- which itself is an important factor holding back economic activity today," he said.

Market News International is a real-time global news service for fixed-income and foreign exchange market professionals. See www.marketnews.com.

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