Federal Reserve policy-makers may have to begin increasing interest rates early next year to contain price pressures, Bloomberg reported.

Stanford University professor John Taylor told the news agency this morning that the Fed must find a way to rein in its balance sheet, which has grown by $1.2 trillion during the past year.

“If inflation starts to pick up” as the economy rebounds, “the Fed’s going to have to raise rates as early as the first part of next year,” Taylor said.

A median of 61 estimates in a monthly Bloomberg News survey indicates that the economy will grow at a 2.9 percent annual rate in the third quarter, which would end the worst recession since the 1930s.

Taylor said the $787 billion economic stimulus program will add to the federal budget deficit, calling it “potentially inflationary.” According the Congressional Budget Office, the budget shortfall this year will likely total $1.6 trillion.

“We don’t see (the stimulus plan) having much impact yet,” Taylor said.

Taylor, who worked in the Treasury Department during President George W. Bush’s administration from 2001 to 2005, said he’s concerned the federal bailouts will lure the central bank into doling out credit to politically privileged industries, calling such actions “mondustrial policy.”

Since December, in an attempt to pull the economy out of a recession, the Fed has steadied the federal funds rate in a target range of zero to 0.25 percent. Yesterday, Treasury Secretary Timothy Geithner said the government is starting to withdraw some of its support for financial markets.