By Jonathan Spicer and Howard Schneider
JACKSON HOLE, Wyo. (Reuters) - Federal Reserve officials who are most anxious to hike interest rates said on Friday that continued turmoil in financial markets may cause the central bank to delay tightening monetary policy beyond next month, even though the U.S. economy remains strong.
St. Louis Fed President James Bullard told Reuters he still favored hiking rates at the Fed's next policy-setting meeting in mid-September, though he added that his colleagues would be hesitant to do so if global markets were volatile at that time.
Loretta Mester, head of the Cleveland Fed and another so-called hawk who sometimes runs against the grain at the central bank, said the U.S. economy still could handle a modest rate hike, though she did not commit to backing a move at the Sept. 16-17 meeting.
Their comments suggest the next three weeks will be critical as Fed policymakers weigh whether concerns about a slowing Chinese economy, the rising dollar, and falling commodity prices pose too deep a threat to U.S. inflation and economic growth for them to raise rates for the first time in nearly a decade.
The Fed's policy-setting Federal Open Market Committee (FOMC) "does not like to move right in the middle of a global financial storm," Bullard said in an interview on the sidelines of a global central bankers' conference here.
"So one of the advantages we have is that this storm is occurring now and, at least as of now, we think it will be settled down by the time we actually got to the FOMC meeting," he added. "If markets are extremely volatile right in the run-up to a meeting, everyone says the same thing - why don't we wait for this thing to settle down, see where it shakes out, and once we see that we'll make a decision."
Concerns about China's economy have whipsawed stock prices this week, including on Wall Street, even while U.S. economic data has been robust.
The U.S. government reported this week that the economy grew at a 3.7 percent annualized pace in the second quarter, sharply higher than its previous estimate, and that consumer spending, which accounts for more than two-thirds of economic activity, rose again in July.
Investors and economists have been betting the Fed would delay a policy tightening to December or later, prolonging years of monetary stimulus that pumped trillions of dollars into the global banking system.
"We're still watching how it unfolds. So I wouldn't want to go ahead and decide right now what the case is: more compelling, less compelling, etcetera," Fed Vice Chairman Stanley Fischer told CNBC on Friday when asked about the prospect of a September rate hike.
Fischer's remarks prompted traders to add bets the Fed would raise rates by the end of the year, with overnight indexed swap rates implying a 35 percent chance of a hike next month and a 77 percent chance of such a move at the Fed's December meeting.
U.S. stocks were mixed after days of tumultuous trading that featured both the market's worst day in four years and biggest two-day gain since the 2007-2009 financial crisis.
'HANG OUT' AFTER A HIKE
The recent market volatility prompted New York Fed President William Dudley, a close advisor to Fed Chair Janet Yellen, to say on Wednesday that a September rate hike now appeared less compelling.
Mester, in an interview with the Wall Street Journal published on Friday, said the U.S. economy remained "solid" and able to absorb a rate hike. But, she added, "I want to take the time I have between now and the September meeting to evaluate all the economic information that's come in, including recent volatility in markets and the reasons behind that."
Minneapolis Fed President Narayana Kocherlakota, who has long argued against lifting rates any time soon, said he does not see a case for a rate increase this year unless there is a major change in the economic outlook.
"Barring that, I don't see a near-term increase in interest rates as being appropriate, and by near-term I mean really through the course of 2015," he told CNBC from Jackson Hole.
Kocherlakota, who will leave the Fed at the end of the year to return to academia, said he thought it would take years for the U.S. economy to be strong enough to generate a healthier amount of inflation, and that it would be appropriate to consider further stimulus.
Bullard told Reuters the Fed could hike rates once then "hang out" at that level if inflation remains too low.
"Nothing has happened here that is so radically changing the U.S. outlook that the basic trajectory of policy would change," he said of the market turmoil.
"My preference would be, and we have a strategy, to go sooner but go gradually. So let's get going, and we can adjust the pace of increases depending on how data come in on the U.S. economy and the forecast evolves," said Bullard, who previously said there was a case for hiking rates next month.
Inflation has remained below the Fed's 2 percent target for a few years.
(Additional reporting by Jason Lange and Krista Hughes in Washington; Editing by Chizu Nomiyama and Paul Simao)
