Warsh Calls for Fed Reform and Policy Alignment with Treasury

Former Federal Reserve Governor Kevin Warsh reportedly called Thursday for a sweeping overhaul of how the Fed operates, suggesting a policy alliance with the Treasury Department. He was once a candidate for Fed chair under President Trump. "We need a ‘regime change’ in policy execution," Warsh said in an interview with CNBC’s "Squawk Box." "In my view, the credibility problem rests with the current officials at the Federal Reserve." Of the current Fed officials, Chairman Powell, as leader, has repeatedly drawn the ire of Trump, and even if he isn’t prematurely fired, he certainly wouldn’t be offered another term when his tenure ends in May 2026. Warsh figures on a list of three or four potential next Fed chairs and holds several views consistent with Trump’s demands of the Fed, who has repeatedly demanded that the Fed cut its benchmark interest rate and urged Powell to resign for not pushing for rate cuts. Warsh’s comments indicate that if he were to head the Fed, he would not only diverge from Powell’s leadership but also potentially clash with sitting Fed members. "I think that their tardiness in cutting rates is actually… a major blemish," Warsh said. "Their failures on inflation cast a long shadow. So, I think the president is right to bring public pressure to bear on the Fed – we need a regime change in policy execution." The latest developments surrounding the Fed and its embattled chair: A Trump administration official confirmed Wednesday that the president met the day prior with Republican members of Congress to discuss firing Powell. The official said Trump plans to act soon, but Trump later denied this. In addition to the interest rate issue, White House officials have also made hay of Powell’s multi-billion dollar renovation plan for two Fed buildings in Washington, D.C. When asked if Trump should try to fire Powell, Warsh said: "I think a regime change at the Fed is ultimately coming." Trump’s main public rationale for pushing for lower rates is to lower the financing costs on the U.S.’s $36 trillion debt – clearly outside the Fed’s dual mandate of "low unemployment, stable prices." However, Warsh seems to extend this issue, suggesting the Fed coordinate with the Treasury Department on national debt issuance management. "We need a new ‘Treasury-Federal Reserve Accord,’ just like 1951 – when U.S. debt was high, and the goals of the central bank were at odds with those of the Treasury, and that’s the case now," he said. "So, if there’s a new accord, the Fed chair and Treasury Secretary can clearly and prudently state to markets: ‘Here’s our objective for the size of the Fed balance sheet.’" The Fed is currently shrinking its balance sheet by letting debt naturally mature (rather than reinvesting the proceeds, as is typical). Warsh broadly supports this policy, called quantitative tightening, but recently insisted that the Fed should partner with the Treasury to lower borrowing costs. "I think the Fed’s balance is wrong. Cutting rates is the first step to correcting that balance," he said. However, the last time the Fed cut rates, U.S. Treasury yields actually rose. Markets expect the Fed to hold its benchmark interest rate steady at its policy meeting at the end of July, potentially beginning to cut rates in September.

Analyzing Warsh's Proposals: A Deeper Dive

Warsh's suggestions raise several critical questions about the relationship between monetary and fiscal policy. While complete independence for central banks is often touted as a virtue, his call for coordination with the Treasury highlights potential inefficiencies that can arise when these two powerful entities operate at cross-purposes. The sheer size of the US national debt necessitates a careful consideration of how monetary policy decisions impact the cost of financing that debt. A coordinated approach could, in theory, lead to more efficient debt management and lower borrowing costs for the government. However, such coordination also carries risks. Some economists argue that it could blur the lines between monetary and fiscal policy, potentially leading to inflationary pressures if the Fed is pressured to keep interest rates artificially low to accommodate government borrowing. Maintaining the Fed's independence is seen as crucial for preserving its credibility and ability to effectively manage inflation. The debate over the optimal level of coordination between the Fed and the Treasury is likely to continue, particularly as the national debt continues to grow. Understanding the potential benefits and risks of such coordination is essential for policymakers and market participants alike.