New Fed Chair (nominee) Warsh – Different approach in monetary policy?
● Warsh
is sounding more hawkish than earlier expectations—positive for USD and US bond yields
and negative for USTs, gold, and even equities.
● Warsh
is advocating for more QTs, no more QEs (leaner Fed B/S), and linking productivity
growth against inflation vs growth dilemma—the Phillips Curve is no longer applicable.
● Warsh
may consider the trimmed mean CPI
inflation as the Fed’s inflation targeting
tool rather than core PCE inflation.
It’s now almost
certain that the US DOJ will drop the ‘Fed building renovation scam/corruption
criminal’ case as alleged by Trump & Co., and thus there may be no real
hurdle for the Trump-selected Fed Chair nominee Kevin Warsh to be the next Fed
Chair after Powell’s exit in May. The U.S. Federal Reserve (Fed) is the world's
most influential central bank. The Fed is virtually the ‘global central bank.'
The Fed's monetary policies—actual actions & forward guidance—are
influencing not only Wall Street & Main Street but also other similar
‘Streets’ on both sides of the Atlantic as well as the Pacific. The Fed's
policy affects other cross currencies, global capital flows, equity valuations,
commodity prices, and investor sentiment from Wall Street to Dalal Street.
As Powell's term
as Fed Chair concludes on May 15, 2026, President Donald Trump's nominee,
Warsh, a former Fed governor (2006–2011), has emerged as the frontrunner to
lead the institution. Warsh's confirmation hearing before the Senate Banking
Committee on April 21, 2026, offered a revealing window into his vision: a
leaner, more focused Fed that prioritizes price stability, reduces reliance on
unconventional tools, and embraces structural shifts like AI-driven
productivity gains.
For Indian
investors and market participants, understanding this potential transition is
critical. U.S. monetary policy directly influences FII flows into Indian
equities, the rupee-dollar exchange rate, bond yields, and inflation dynamics
at home. A more hawkish stance on inflation, combined with optimism on
supply-side growth, could stabilize global risk appetite, while any aggressive
balance sheet normalization (QT) might trigger short-term volatility in
emerging markets like India.
Warsh, who served
during the 2008 financial crisis and later built a successful private-sector
career, sounded more hawkish than expected and positioned himself during the
hearing as an independent steward committed to the Fed’s dual mandate of
maximum employment and price stability, irrespective of any rate cut/loose
monetary policies narrative by President Trump or any other influential US
politician or policymaker. Warsh
repeatedly emphasized "monetary policy independence" while advocating
a "regime change" in how the Fed operates. This marks a departure
from the Powell era, which featured expansive balance sheet policies, average
inflation targeting, and highly communicative forward guidance.
In his opening
remarks and exchanges with senators, Warsh criticized past ‘policy errors’ —
especially the Fed’s slow response (‘transient’) to the post-COVID inflation
surge — and called for a narrower focus, better data tools, and a reduced
institutional footprint. He stressed that the Fed must ‘stay in its lane,’
avoiding mission creep into areas like climate or social policy. At the same
time, he highlighted American ingenuity, particularly in artificial
intelligence (AI), as a transformative force that could reshape the
inflation-growth trade-off.
Warsh’s key
positions (theoretically) as articulated in his confirmation hearing and prior
statements, contrast them with Powell’s ‘practical’ approach, assess the
likelihood and pace of change, and explore implications for global markets.
With headline inflation hovering around 3.3% and the Fed’s balance sheet near
$7 trillion, Warsh’s potential leadership could usher in a more disciplined,
rates-centric era — with significant consequences for asset allocation
worldwide.
Overview of
Warsh’s Vision: Core Pillars from the Confirmation Hearing
Warsh’s testimony
revealed a coherent philosophy rooted in restoring credibility to the Fed after
years of unconventional interventions. Several themes stood out clearly.
Fed Independence
and Accountability
Warsh repeatedly
affirmed that monetary policy must remain "strictly independent." He
stated unequivocally that President Trump never asked him to pre-commit to any
specific interest rate path, nor would he agree to such a request. "I’ll be
an independent actor if confirmed," he told senators, rejecting
characterizations of himself as a "sock puppet" for the Trump
administration. He acknowledged that elected officials, including presidents,
naturally always prefer lower rates but insisted decisions must stem from
rigorous, data-driven deliberation inside the FOMC.
This stance
addresses longstanding concerns about political pressure. While Democrats, led
by Sen. Warren, pressed him on potential conflicts of interest and past
associations, Warsh maintained a professional tone, emphasizing that the Fed
earns independence through sound policy rather than isolation from criticism.
Republicans largely supported his nomination, viewing him as a reformer capable
of correcting recent shortcomings.
A Smaller Balance
Sheet and End to Routine QE
One of the
clearest signals was Warsh’s preference for a materially smaller Fed balance
sheet. He described the current ~$7 trillion footprint as having done
"quite a bit of harm," turning monetary policy into "fiscal
policy in disguise. "Large-scale asset purchases (QE) benefited asset
owners disproportionately while distorting markets and blurring boundaries.
Warsh advocated
preferring the interest rate tool over the balance sheet—no more QEs?
"Interest
rates affect a far broader cross-section of the economy. Interest rates get in
the cracks." He suggested a gradual, deliberative reduction in holdings,
coordinated where appropriate with the Treasury, while cautioning against rapid
changes that could disrupt markets. QE, in his view, should remain an emergency
tool—as it was in 2008 when rates hit zero—not a recurring feature of normal
policy. This represents a significant shift from the Powell era’s repeated
expansions and cautious quantitative tightening (QT).
Inflation
Framework Reform and Price Stability Focus—Focus on Trimmed Mean CPI Rather
Than Core PCE Inflation?
Warsh criticized
the 2020 Average Inflation Targeting (AIT) framework and past policy errors
that allowed inflation to surge, imposing a heavy burden on households through
cumulative price increases of 25–35%. He called for a new inflation
framework, potentially incorporating trimmed-mean or median PCE measures
for greater accuracy, and a stricter commitment to price stability
"without excuse or equivocation." Warsh advocated reviewing the Fed’s
reaction function, data tools, and communications. Inflation, he noted, is
ultimately "a choice" that the central bank must own. While not
pinning exact thresholds (such as automatic hikes above 4%), his emphasis on
sustained above-target readings and credibility restoration implies a more
proactive response to persistent pressures compared to recent tolerance for
overshoots.
Warsh described
AI as "the most disruptive moment in modern economic history" and a
powerful supply-side force capable of boosting productivity and potential GDP
growth. This optimism underpins his view that stronger real growth need not
automatically generate proportional inflationary pressure — a subtle
challenge to the traditional Phillips Curve trade-off between
growth/unemployment and inflation.
If productivity
surges raise the economy’s potential output, the Fed could potentially allow
higher real GDP growth with lower neutral rates, without reigniting prices. He cautioned,
however, against over-relying on unproven effects given long policy lags (6–12
months or more) and measurement uncertainties. Democrats challenged whether
this justified near-term rate cuts; Warsh responded with data dependence and
analytical humility, rejecting simplistic linkages. This supply-side
optimism differentiates him from more conventional views that treat growth
risks symmetrically with inflation risks. It also aligns with broader Trump
administration narratives on American technological leadership while
maintaining a disciplined inflation anchor.
Warsh favors a
less "chatty" Fed — reduced forward guidance, potentially scaling
back or rethinking the dot plot and lengthy projections. He prefers genuine
internal deliberation over pre-packaged market signaling, arguing that heavy
communication can lock the Fed into suboptimal paths and create unnecessary
volatility when forecasts shift. A "back-seat Fed" that lets markets
do more price discovery could increase short-term uncertainty but enhance
long-term credibility.
Warsh also called
for narrowing the Fed’s remit/mandate—no Fed/US CBDC?
Warsh advocated
for the Fed’s focus strictly on the dual mandate of maximum employment and
price stability, resisting de-banking or reputational pressures and opposing
issuing a central bank digital currency (CBDC), which he views as lacking legal
basis and poor policy.
Financial
Disclosures and Ethics
A contentious
area involved questions over Warsh’s personal finances (> $100 million in
assets) and divestiture plans. He committed to divesting the majority before
taking the oath and all holdings within 90 days per Office of Government Ethics
guidelines, with proceeds in cash or T-bills. Republicans noted the signed
agreement ensures compliance.
The hearing was
partisan and occasionally testy, yet Warsh projected professionalism, data focus, and
mandate fidelity. No direct vote occurred; follow-up questions and committee
processes continue, with some Republican holds (e.g., over unrelated DOJ
matters) potentially delaying full confirmation.
Highlights of
Warsh’s Congressional Comments:
●
AI BOOM WON’T AUTOMATICALLY MEAN RATE
CUTS
●
AN AI-DRIVEN PRODUCTIVITY SURGE COULD
ALLOW LOWER INTEREST RATES WITHOUT STOKING INFLATION.
●
FED MUST STAY STRICTLY INDEPENDENT ON
RATES
●
WILL TELL LAWMAKERS HE IS COMMITTED
TO KEEPING MONETARY POLICY “STRICTLY INDEPENDENT
●
HE WILL WORK WITH THE ADMINISTRATION
AND CONGRESS ON NON-RATE-RELATED FED RESPONSIBILITIES, WHILE PUSHING FOR A
“REFORM-ORIENTED FED” THAT BETTER SERVES THE PUBLIC.
●
INFLATION TRAJECTORY IS IMPROVING,
BUT MORE WORK IS TO BE DONE
●
FED DOESN’T HAVE LEGAL RIGHT TO ISSUE
DIGITAL CURRENCY; IT WOULD BE A ‘BAD POLICY CHOICE’
●
PENDING CASE BEFORE SUPREME COURT,
WILL HEAR RESULTS SOON
●
WILL FOLLOW LAW, SUPREME COURT
●
FED INDEPENDENCE MEANS EVERYTHING TO
ME
●
POLITICS HAVE NO PLACE IN MONETARY
POLICY, REGULATION, SUPERVISION
●
ASKED IF HE WOULD COMMIT TO DEFENDING
FED'S COOK, SAYS FED SHOULD STAY IN ITS LANE, INAPPROPRIATE TO WEIGH IN ON SUPREME COURT CASE
●
MY OPINIONS CHANGE WHEN FACTS CHANGE
●
WHEN INTEREST RATES WERE AT ZERO, I
SOUNDED HAWKISH
●
TRUMP NEVER ASKED ME TO CUT RATES AT A PARTICULAR MEETING
●
CAN'T BANK ON THAT, BUT NEED TO
EVALUATE THIS PRODUCTIVITY WAVE
●
INCREASE IN CAPEX WILL INCREASE
DEMAND A FEW TENTHS OF A PCT
●
On the supply side,
THAT COULD BE CONSIDERABLY BIGGER
●
FEDNOW HAS BEEN DESCRIBED AS 'FED YESTERDAY.'
● FED
WILL WORK WITH BESSENT, RUBIO, TO MAKE SURE THE US IS ON ITS FRONT FOOT, IN A POSITION OF STRENGTH
●
OUTSIDE OF MONETARY POLICY, THE FED CAN WORK HAND IN HAND WITH THE REST OF THE GOVERNMENT
●
FED CAN HAVE A MORE ROBUST PAYMENT
SYSTEM
●
ALL NEED SUBSTANTIAL REFORM
●
FED CAN WORK WITH THE GOVERNMENT ON NON-MONETARY POLICIES
● IF
CONFIRMED, WILL HAVE TO SAY DOLLAR IS THE TREASURY'S BUSINESS
● DOLLAR
IS THE LYNCHPIN OF THE GLOBAL ECONOMY
● THE US AND FED ARE BENEFICIARIES
OF DOLLAR STRENGTH
●
TRUMP NEVER ASKED ME TO COMMIT TO A RATE CUT AT ANY PARTICULAR MEETING; I WOULD NEVER DO
THAT---
●
REPORTERS WHO REPORTED THAT TRUMP
PRESSED WARSH TO CUT RATES NEED BETTER SOURCES
● MORE
THAN 4 FOMC MEETINGS A YEAR IS APPROPRIATE
●
CRYPTO IS NOW PART OF THE US
FINANCIAL SYSTEM
● BALANCE
SHEET SHOULD BE SMALLER, SHOULD NOT HOLD LONG-TERM TREASURIES
●
A REGIME CHANGE ON THE BALANCE SHEET WOULD NEED TO BE WELL-ORCHESTRATED,
DELIBERATED, AND WELL-DESCRIBED
●
THE FED CAN ONLY INFLUENCE PERSISTENT
EFFECTS, NOT ONE-OFF IMPACTS
●
FED SHOULD REMAIN OPEN TO ALL TYPES
OF DATA
●
FED CANNOT AFFECT ONE-OFF EFFECTS,
BUT ONLY PERSISTENT EFFECTS
●
ANY CHANGES IN THE BALANCE SHEET WOULD BE PART OF A PUBLIC DISCUSSION
●
FED SHOULD HAVE AN OPEN MIND ON ALL
SORTS OF DATA
●
RISE IN PRICES SINCE 2020 IS A LEGACY
OF THE
FED'S PAST POLICY ERROR
●
ASKED ABOUT GAS PRICES, FERTILIZER
PRICES, SAYS FED NEEDS TO STAY IN ITS LANE
●
FED SHOULD COLLABORATE WITH THE GOVERNMENT BEYOND MONETARY POLICY
●
THAT'S PROBABLE MOVING FORWARD
●
MORE IMPROVEMENT IS STILL POSSIBLE FOR THE ECONOMY
● NEED
TO LOOK AT REFORM DURING THIS WINDOW SO FED IS PREPARED TO ADDRESS A NEW SHOCK
● SMALLER
BALANCE SHEET MEANS LOWER RATES, BETTER INFLATION, STRONGER ECONOMY
● IF
THE FED DID A SERIES OF POLICY REFORMS, INFLATION COULD BE LOWER, THE ECONOMY
COULD BE STRONGER
● IF
FED DID A SERIES OF POLICY REFORMS, INFLATION CAN BE
LOWER, AND THE ECONOMY CAN BE STRONGER
● TOO
MANY FED OFFICIALS OPINE ON RATES IN ADVANCE; THAT IS 'UNHELPFUL.'
● THE
WHOLE WORLD KNOWS WHAT THE FED IS ABOUT TO DO IN THE
NEXT MEETING
● RATES
NEED TO BE BASED ON BETTER DATA, FORWARD-LOOKING
● NEED
DEBATE INSIDE FOMC
● TEND
TO FAVOUR ‘MESSIER MEETINGS, FAMILY FIGHT’
● TEND
TO PREFER CHAOTIC MEETINGS AND FAMILY DISPUTES
● WE
DON'T KNOW THE STATE OF AI, GEOPOLITICS
● WON'T
PRE-DECIDE ON WHERE RATES SHOULD BE
●
DIGITAL ASSETS ARE ALREADY PART OF THE FABRIC OF FINANCIAL SERVICES
● COLLABORATING
WITH THE TREASURY SECRETARY TO REDUCE THE FED'S BALANCE SHEET
● TOLD
TRUMP USING RATES IS BETTER THAN BUYING BONDS
● NEED
GRADUAL AND CAREFUL BALANCE SHEET REDUCTION
● A BIG BALANCE SHEET IS A REASON FOR THE FED IS IN POLITICS
● NEED
SMALLER BALANCE SHEET SLOWLY, DELIBERATELY
● A
LARGE BALANCE SHEET FUELS THE FED'S POLITICAL ROLE
●
FED'S BALANCE SHEET HAS PLAYED AN UNHELPFUL ROLE IN
ACHIEVING DUAL MANDATE
●
PREFER USING INTEREST RATES AS THE DOMINANT FORCE
●
PREFER USING INTEREST RATES AS THE
DOMINANT FORCE; IF WE WERE TO CUT RATES, A BROADER RANGE OF PEOPLE WOULD
BENEFIT
●
THE FED'S BALANCE SHEET HAS PLAYED AN
UNHELPFUL ROLE IN ACHIEVING THE DUAL MANDATE
● IF
INFLATION MOVES UP, THAT'S BECAUSE THE FED HAD SOMETHING TO DO WITH IT
● ECONOMY
IS IMPROVING; CAN IMPROVE MORE; ECONOMY'S POTENTIAL IS STRENGTHENING
● ECONOMY
CLOSE TO FULL EMPLOYMENT NOW
● DIFFERENCE
BETWEEN CHANGE IN PRICES AND INFLATION
●
AMERICANS HURT BY RISE IN GAS PRICES
●
NEED ROBUST REFORM
●
FED MUST STICK TO KNITTING
●
THERE’S A QUESTION ABOUT WHAT AI
MEANS FOR JOBS, TOO
●
FED'S INFLATION TASK COULD EASE OVER
TIME
●
FED NEEDS REFORMS TO THE FRAMEWORK AND COMMUNICATIONS
●
DUE TO AI'S IMPACT, REVISITING THE
FED'S MODELS IS CRUCIAL
●
BECAUSE AI IS SO
CONSEQUENTIAL, IT'S IMPORTANT TO REVISIT FED'S MODELS
●
Over time, it could make the Fed's inflation job
easier
●
THERE'S A QUESTION ABOUT WHAT AI
MEANS FOR EMPLOYMENT, TOO
●
DUE TO AI'S IMPACT, REVISITING THE
FED'S MODELS IS CRUCIAL
●
BECAUSE AI IS SO
CONSEQUENTIAL, IT'S IMPORTANT TO REVISIT FED'S MODELS
●
PRIOR EXPERIENCE AT FED ALLOWS ME TO
HIT THE
GROUND RUNNING
●
HAVE A SHORT WINDOW TO BRING
INFLATION BACK DOWN
●
LIMITED TIME TO REDUCE INFLATION
●
I WANT TO CONDUCT A SURVEY OF A
BILLION PRICE
●
THE DATA BEING USED TO JUDGE
INFLATION IS QUITE IMPERFECT
●
MY BROAD SENSE IS INFLATION RISK HAS
IMPROVED SOMEWHAT
●
TRUMP NEVER REQUESTED ME TO SET OR
COMMIT TO RATE DECISIONS
●
CREDIBILITY IS KEY FOR ME, THE FED,
AND EFFECTIVE POLICY MANAGEMENT
●
DATA BEING USED TO JUDGE INFLATION IS
IMPERFECT
●
TARIFFS NOT WHY INFLATION IS RUNNING
HIGH
● I
WILL NOT BE PRESIDENT TRUMP'S ‘PUPPET’
●
TRUMP NEVER ASKED HIM TO
PRE-DETERMINE RATE DECISIONS, WOULD NOT AGREE IF HE DID
●
I WILL ABSOLUTELY NOT BE THE PRESIDENT'S 'SOCK PUPPET'
●
MONETARY POLICY WORKS WITH LAGS
●
I DON’T BELIEVE IN FORWARD GUIDANCE
●
B/SHEET AND RATE POLICY SHOULD BE
WORKING TOGETHER
●
THE FED WILL HAVE TO DIG DEEP IN
UPCOMING MEETINGS
●
THE SUPPLY SIDE OF THE ECONOMY IS
CHANGING SIGNIFICANTLY RIGHT NOW
●
FED INDEPENDENCE IS UP TO THE FED
●
PRESIDENTS TEND TO BE FOR CUTTING
RATE
●
WILL BE INDEPENDENT OF TRUMP
●
DON'T KNOW THE REASON FOR THE PRESIDENT'S
CHOOSING ME
●
CENTRAL BANKERS NEED TO QUICKLY FIX
ANY ERRORS MADE
●
THE IMPORTANCE OF FEDERAL OFFICIALS BEING ABLE TO REVISE THEIR VIEWS
●
FED ACHIEVES INDEPENDENCE BY KEEPING
COMMITMENTS
●
PRICE STABILITY MEANS A CHANGE IN
PRICES THAT GOES UNNOTICED
●
FED HAS LOST ITS WAY
●
I AM NOT PREPARED TO WANDER OUTSIDE
THE FED'S REMIT
●
The Fed has overstepped its bounds recently; I promise I won't do
the same.
●
WE AVOID POLITICS AT THE FED WHEN
ASKED ABOUT TRUMP'S 2020 ELECTION LOSS
●
I AM AGREEING WITH THE ETHICS OFFICE TO DIVEST BEFORE TAKING THE OATH OF OFFICE
●
FED RETAINS FORECASTS LONGER THAN
NECESSARY
●
WE NEED FRESH COMMUNICATION
STRATEGIES
●
INTEREST RATE TOOL IS MORE JUST A TOOL TO UTILIZE IN A NEW WAY
●
FED NEEDS A NEW FRAMEWORK TO ADDRESS
INFLATION
●
FED NEEDS A WAY FOR BASIC POLICY
CHANGES
●
WE ARE ADDRESSING THE AFTERMATH OF
FEDERAL RESERVE POLICY MISTAKES
●
THERE IS NO MORE PRESSING QUESTION
THAN THE
COST OF LIVING
●
DEALING WITH THE LEGACY OF THE FED'S POLICY
ERRORS NEEDS FUNDAMENTAL POLICY REFORMS
●
NEED REGIME CHANGE, NEW INFLATION
FRAMEWORK, NEW COMMUNICATIONS
●
NEED TO USE TOOLS DIFFERENTLY
●
INTEREST RATE TOOL IS FAIRER
●
WE NEED FUNDAMENTAL POLICY REFORMS
●
WE ARE DEALING WITH THE LEGACY OF
FED'S POLICY ERRORS
Warsh vs. Powell:
Key Differences and Potential Impact
Powell’s tenure
featured aggressive rate hikes to combat post-pandemic inflation, followed by
cautious pauses and communication-heavy guidance. The balance
sheet ballooned under QE rounds, and the 2020 framework allowed inflation to
run above target to compensate for prior undershoots.
Warsh signals a
partial return to pre-crisis instincts with modern adaptations:
●
Tools: Rates-first vs. heavy
balance sheet reliance. Powell oversaw repeated QE; Warsh wants
normalization and emergency-only use.
●
Framework:
Critique of AIT and push for reform vs. Powell’s continuity with adjustments.
●
Growth-Inflation Link:
Greater openness to productivity-driven room for accommodation vs. more
symmetric risk assessment.
●
Style: Less
forward guidance and dot plot emphasis vs. Powell’s transparent,
market-oriented press conferences.
These shifts
could lead to a leaner Fed with a narrower focus, potentially lower long-run
balance sheet size, and more emphasis on genuine debate. However, as
Chair, Warsh holds only one vote; building FOMC consensus will take time,
especially with lingering Powell-era members. Markets have already begun
pricing nuances: Warsh’s independence vow and productivity comments tempered
aggressive rate-cut expectations in some segments, while balance sheet talk
introduced caution.
How does Fed
chair nominee Kevin Warsh view the central bank’s inflation goal? With U.S.
inflation still hovering above the 2% target (around 3.3% in recent readings),
persistent price pressures continue to affect households and global markets
alike.
Warsh, a former
Fed Governor (2006–2011) with experience navigating the 2008 financial crisis,
used the hearing to outline a vision of reform. He advocated a “regime change”
at the Fed — emphasizing stricter commitment to price stability, reduced
reliance on unconventional tools like quantitative easing (QE), and openness to
structural changes such as AI-driven productivity gains. While pledging
unwavering independence, Warsh signaled potential departures from the
Powell-era approach of Average Inflation Targeting (AIT) and heavy balance
sheet usage.
Warsh’s stance on
the Fed’s 2% inflation target, introduced in 2012 and refined under Powell with
the 2020 shift to Average Inflation Targeting. AIT allowed inflation to run
moderately above 2% after periods of undershooting, a framework critic argue
contributed to the sharp post-pandemic surge. Warsh repeatedly stressed
that price stability remains a core mandate, describing it as essential
“without excuse or equivocation.” He critiqued past policy errors, particularly
the delayed response to rising inflation in 2021–2022, which resulted in
cumulative price increases that eroded purchasing power for American (and
global) households.
While Warsh did
not call for abandoning the 2% target outright, Warsh indicated
openness to reviewing and reforming the inflation framework. He advocated
better data tools — such as greater use of trimmed-mean or median PCE inflation
measures — to capture underlying price pressures more accurately than headline
or standard core readings. He also suggested the Fed should adopt a narrower
focus, avoiding mission creep and concentrating on its dual mandate of maximum
employment and price stability.
A notable line in
his testimony signaled a potential break from recent Fed practice: emphasis on
earning credibility through consistent delivery on price stability rather than
flexible averaging. Warsh views inflation as ultimately “a choice” that the central
bank must own, implying a more proactive response to sustained above-target
readings.
Warsh made clear
his preference for using interest rates as the primary
policy tool, arguing they affect a “far broader cross-section of the economy”
compared to balance sheet actions. He described the Fed’s current ~$7 trillion
balance sheet as having caused “quite a bit of harm” by blurring lines between
monetary and fiscal policy and disproportionately benefiting asset owners.
He called for
gradual, deliberative shrinkage of the balance sheet over time, coordinated
where necessary with the Treasury. QE, in his view, should be reserved for true
emergencies (as in 2008 when rates were at the zero lower bound) rather than
becoming a routine tool. A smaller balance sheet could, paradoxically, create
room for lower policy rates in a normalized environment while improving
inflation outcomes and reducing political exposure.
AI, Productivity,
and the Growth-Inflation Trade-off
One of the more
forward-looking elements in Warsh’s remarks was his optimism about artificial
intelligence as “the most disruptive moment in modern economic history.” He
argued that AI-driven productivity gains could raise the economy’s potential
GDP growth, allowing stronger real growth without generating proportional
inflationary pressure.
This perspective
subtly challenges the traditional Phillips Curve framework, suggesting that
supply-side improvements could ease the Fed’s task. However, when
pressed by Democratic senators, Warsh adopted a cautious tone, stressing long
policy lags, measurement challenges, and the need for rigorous data analysis
before “banking on” these gains for aggressive rate cuts. He rejected
oversimplified narratives that AI alone would solve inflation problems.
Fed Independence
and Institutional Reforms
Warsh firmly
rejected any notion of political capture, stating that President Trump never
sought pre-commitments on rates and that he would not agree to any such
requests. He positioned the Fed as earning independence through sound, credible
policy rather than isolation from elected officials’ input. Additional
priorities included improved internal data projects, reduced forward guidance,
and opposition to a central bank digital currency (CBDC).
Conclusions
Kevin Warsh’s
confirmation hearing portrayed a nominee committed to restoring the Fed’s focus
on price stability through a reformed framework, reduced balance sheet
footprint, and rates as the primary instrument. While supportive of the 2%
inflation goal in principle, he signals a stricter, more credible approach than
recent practice, tempered by optimism on AI and productivity as potential
game-changers for the growth-inflation dynamic.
Compared to
Powell, Warsh’s vision leans toward a leaner, less activist institution with
greater emphasis on institutional discipline and supply-side potential. If
confirmed, these ideas could mark a meaningful regime shift — though
implementation will require time and FOMC consensus, which may not be so easy.
In brief,
potential new Fed Chair Warsh may be seeking some monumental policy
reforms/recalibration for the Fed; under Warsh, the Fed may
● Target
Trimmed Mean CPI (TMC) rather than Core PCE Inflation; TMC is usually 50 bps
higher than core PCE
● Allow
inflation to go higher if underlying productivity growth, especially led by AI, consistently hovers above real GDP growth (like US
productivity growth was around +2.8% vs real GDP growth +2.1% in 2025)
● Go
for more QT to trim Fed’s balance sheet (B/S)
● Opt
for no more QEs unless it’s a big financial crisis
● Go
for fewer random Fed talks daily
● Opt
for no more official dot-plots
Under Trump,
Looking ahead,
‘war-mongering, imperialist and Modern-Day Hitler autocratic’ Trump is now
exploring various options for a face-saving exit from his Iran war mess. Iran
now proposes a full re-opening of the Strait of Hormuz (SOH), including
withdrawal of the US naval blockade, instead of the official end of the Iran
war. Iran proposes nuclear deal talks later (likely after the US midterm
election, Nov '26). In the meantime, Trump is bound to reopen the SOH to push
down oil & gas prices for any prospect in the election for his Republican
candidates.
But even if Trump
fully exits from his Iran war mess and reopens the SOH, it may take at least 6
months for the full normalization of the supply chain. Thus, US inflation and
unemployment rates may remain elevated, and there may be no scope for rate cuts
in 2026 till at least December.
Bottom line
New Fed Chair Warsh is sounding more hawkish than
expected. Despite Trump’s open addiction to rate cuts in almost every other Fed
meeting, even below zero, Warsh may not oblige. Moreover, Warsh’s ‘monumental
reform’ agenda may keep the FOMC fragmented, and the Fed may not cut rates at
all in 2026, despite the official projection of one 25 bps rate cut. As Warsh
is now sounding more hawkish than expected, he may be positive for USD and US
bond yields and negative for gold, USTs, and even equities to some extent.
Warsh led the Fed to allow higher inflation and higher growth if productivity
growth sustains above real GDP growth. But all of his rhetoric may not be valid
unless he secures a majority in the FOMC/Federal Reserve Governors' body. As of
now, Warsh may be in the minority camp.
