By Michael S. Derby

Federal Reserve Bank of St. Louis President James Bullard said Friday the U.S. central bank should think seriously about shrinking its massive balance sheet starting next year, in an interview in which he also acknowledged moving his interest-rate outlook higher.

The big upward move in bond yields seen since the election indicates to him the need for a rate rise in 2017, Mr. Bullard told The Wall Street Journal Friday. Ahead of the Fed's policy meeting this week, where the central bank raised rates for the first time in a year, Mr. Bullard favored a single rate rise and then no additional action for the next few years.

"The contours of ouroutlook for the U.S. economy are the same" as they have been, despite the surprising outcome of the U.S. election in November, Mr. Bullard said. "We've probably got more upside risk than we had before, and we [the St. Louis Fed] did make the one adjustment to the policy rate, and we suggested that policy rate move could be made in 2017."

The shift in bond-market borrowing costs is the key issue in Mr. Bullard's rate outlook change. He said half of what has driven yields higher, and bond prices down, is a welcome increase in inflation expectations. The other half is an expectation of higher real returns, which Mr. Bullard considers a key driver of his monetary policy calculus.

"The real rate going up on the order of 25, 30 basis points, we did take that on board and we think that's important," Mr. Bullard said. But he also added the exact timing of the rate rise he would like to see isn't critical.

Mr. Bullard has been a votingmember of the interest-rate-setting Federal Open Market Committee this year, but won't be in 2017. He holds one of the most dovish views among policy makers. In its official outlook, the Fed penciled in around three rate increases for next year if the economy performs as expected, from its estimate of two increases made at the September meeting.

Fed officials have acknowledged now is a time of heightened uncertainty for the outlook given the unexpected election of Donald Trump as president, joined with continued Republican control of Congress.

Mr. Bullard said if the right policies are put in place, getting the economy on a path toward sustained 3% to 4% growth was possible. But, as he has said before, it will take a while before any changes happen and it is unlikely there will be any significant impact on the economy in 2017.

Write to Michael S. Derby at michael.derby@wsj.com

(END) Dow Jones Newswires

December 16, 2016 14:33 ET (19:33 GMT)

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