Tax cuts mean Fed must be vigilant on 'overheating': Kaplan

DALLAS (Reuters) - The Federal Reserve must be wary of the "risk of overheating" the economy in the wake of sweeping tax cuts that could raise already unsustainable debt levels even while they boost business investment, Dallas Fed President Robert Kaplan said on Wednesday.

"We want to avoid a situation where we have such an overheating that we're playing catch up," Kaplan said at a business event. The cuts are in part a concern, he said, "because I think debt levels of the country are unsustainable."

Kaplan, who does not vote on policy this year as the central bank undergoes an unprecedented leadership overhaul, did not comment specifically on interest rates aside from saying the Fed has "got some operating room for a while." He added that cyclical inflation pressures are building with unemployment low.

The Fed raised rates three times last year and aims to do the same in 2018, even while tax legislation signed into law by U.S. President Donald Trump last month is expected to boost short-term activity.

The bill slashes the corporate tax rate and offers cuts for individuals, stimulus that Republicans argue will boost both business and consumer spending. But the individual cuts are skewed toward higher-income households, which economists say have a low propensity to consume, and the overall bill is expected to balloon the federal deficit by $1.5 trillion over 10 years. The national debt is roughly $20 trillion.

The Fed expects a modest economic boost from the bill that does not, for now, require tighter-than-expected monetary policy, according to a handful of interviews with policymakers in recent days.

"We have to be vigilant at the Fed" because there are concerns, Kaplan told the event called the Weitzman Group Annual Retail Forecast. Still, he added, the bill reforms the tax structure in positive ways that should attract investments to the United States and create incentives.

Kaplan said he was "pretty confident that business investments will be better this year" thanks to the tax cuts.

(Reporting by Lisa Maria Garza; Writing by Jonathan Spicer; Editing by Chizu Nomiyama and Susan Thomas)