SAN FRANCISCO, Jan 18 (Reuters) - With the U.S. economy close to full employment and inflation headed toward the Federal Reserve's 2 percent goal, it "makes sense" for the U.S. central bank to gradually lift interest rates, Fed Chair Janet Yellen said on Wednesday.
"Waiting too long to begin moving toward the neutral rate could risk a nasty surprise down the road - either too much inflation, financial instability, or both," Yellen said in remarks prepared for delivery to the Commonwealth Club of California in San Francisco.
"In that scenario, we could be forced to raise interest rates rapidly, which in turn could push the economy into a new recession."
The Fed raised short-term interest rates last month for only the second time since the 2007-2009 financial crisis, when it slashed rates to near zero and began buying massive amounts of Treasuries and mortgage-backed securities to push down long-term borrowing costs.
The rate rise last December reflected confidence the economy will continue to recover, Yellen said.
The Fed chief added that she and other Fed policymakers expected the central bank to lift its key benchmark short-term rate "a few times a year" through 2019, putting it near the long-term sustainable rate of 3 percent.
That pace could change depending on how the outlook for the economy develops, Yellen cautioned.
"The economy is vast and vastly complex, and its path can take surprising twists and turns," she said.
Yellen did not make any comments on the incoming Trump administration.
Republican businessman-turned-politician Donald Trump, who will be sworn in as U.S. president on Friday, has promised tax cuts, regulatory rollbacks and infrastructure spending that he says will boost economic growth.
Other Fed policymakers have suggested fiscal stimulus, with the unemployment rate now at a healthy 4.7 percent, could lead to a faster pace of rate hikes than currently anticipated.
The U.S. economy is "close" on both its employment mandate and its inflation goal, Yellen said. But, she added, "our foot remains on the pedal in part because we want to make sure the economic expansion remains strong enough to withstand an unexpected shock, given that we don't have much room to cut interest rates."
Dramatic rate hikes probably won't be necessary because slow U.S. productivity growth is holding back economic growth, Yellen said.
"Nevertheless, as the economy approaches our objectives, it makes sense to gradually reduce the level of monetary policy support."
Reporting by Ann Saphir; Editing by Paul Simao