NEW YORK, March 30 (Reuters) - Federal Reserve Bank of New York President John Williams said on Monday that the current setting of monetary policy is in a good place to deal with a range of challenges that very likely herald higher near-term inflation.

"This is an unusual set of circumstances," Williams said in the text of remarks prepared for delivery before an event held by the Staten Island Economic Development Corporation. "But the current stance of monetary policy is well positioned to balance the risks to our maximum employment and price stability goals."

Williams said in his remarks that the war in the Middle East "could result in a large supply shock with pronounced effects that simultaneously raises inflation - through a surge in intermediate costs and commodity prices - and dampens economic activity," adding "this has begun to play out already." He added that there are also emerging signs of supply chain disruptions.

While uncertainty over the inflation outlook is "high," Williams said "the significant increase in energy prices resulting from developments in the Middle East will likely boost overall inflation in coming months." That said, some of that should reverse later in the year if oil prices retreat following the end of fighting.

Williams, who also serves as vice chair of the interest-rate-setting Federal Open Market Committee, did not suggest any need for a near-term change in monetary policy.

WAR UNCERTAINTY

The war, which started with joint U.S.-Israeli strikes on Iran, has created notable challenges for the Fed, with the most immediate economic impact felt in the form of big gains in energy prices, as Iran has blocked shipping through the Strait of Hormuz.

Expensive energy threatens to drive up overall rates of inflation, which all else being equal the Fed would be inclined to look through so long as it did not start bleeding into underlying price pressures and longer-run expectations of inflation. Energy prices also have the potential to put downward pressure on growth as consumers' budgets face higher energy expenditures.

That's put the Fed in a bind and complicated officials' ability to give clear signals about what lies ahead for monetary policy. Earlier on Monday, Federal Reserve Chair Jerome Powell said the current economic climate calls for caution on the part of the central bank. 

"We're facing events in the Middle East which will certainly affect gas prices, and we're, we feel like our policy is in a good place for us to wait and see how that turns out," Powell said as part of an event in Cambridge, Massachusetts. "There's sort of downside risk ​to the labor market, which suggests keep rates low, but there's upside risk to inflation, which suggests maybe don't keep rates low," he said.

Financial markets are currently eyeing the possibility of more Fed rate cuts this year, although only recently, investors were also mulling the prospect of a rate hike, given that war-driven inflation gains are coming on top of inflation levels that are already above the Fed's 2% target.

At its policy meeting earlier this month, the Fed kept in place its current federal funds interest rate target at between 3.5% and 3.75% while penciling in a single rate cut at some point in 2026.

In his remarks, Williams said that he expects growth to come in around 2.5% this year and for inflation to hit 2.75% before retreating back to the 2% target next year. He also said that he sees unemployment levels easing this year and next.

Williams' outlook on inflation and employment looks more optimistic than the majority of his Fed colleagues, who expect the unemployment rate to remain stuck at its current 4.4% through year's end and who see it taking until 2028 before inflation reaches the Fed's 2% goal.