By Nicole Goodkind

The Federal Reserve is widely expected to leave interest rates unchanged at its policy meeting next week. But even as policymakers weigh the near-term risks to the economy, a battle is brewing over the Fed's long-term mission.

Former Fed governor Kevin Warsh took the fight public on April 25, delivering a sharp critique of the central bank's recent policy record at the Group of Thirty's Spring Lecture. His message: The Fed is wounded, largely by self-inflicted mistakes, and needs a "strategic reset" to restore its credibility and independence.

Warsh's remarks come at a pivotal moment. President Donald Trump has escalated his attacks on Fed Chair Jerome Powell, tariff uncertainty is roiling markets, and speculation is swirling that Warsh could be tapped to lead the Fed once Powell's term ends in May 2026.

In response to Trump's criticism of Powell last fall, now-Treasury Secretary Scott Bessent suggested to Barron's the possibility of creating a "shadow Fed chair." Trump could unofficially nominate Powell's successor long before his term ends, and allow the designee to publicly influence market expectations through independent guidance.

Warsh could be taking on that role irrespective of any public nomination. He is already influencing the debate about the Fed's policy and purpose.

Warsh, 55, a graduate of Stanford University and Harvard Law School, is a veteran of both Wall Street and Pennsylvania Avenue. He started his career at Morgan Stanley and later served in the George W. Bush White House as an economic advisor, before being appointed to the Fed Board of Governors at the age of 35. As the youngest person ever to join the board, he played a critical role during the 2008 financial crisis, working to connect the Fed and financial sector.

Warsh left the Fed in 2011, frustrated by what he saw as an overreliance on quantitative easing, or the Fed's purchase of financial assets to increase liquidity and stimulate economic growth. Since then, he has served as a fellow at Stanford's Hoover Institution, worked closely with billionaire investor Stanley Druckenmiller, and conducted an independent review of the Bank of England's accountability practices. Warsh was also reportedly shortlisted for Fed chair in 2017 before Trump ultimately selected Powell.

Trump's dissatisfaction with Powell for not lowering interest rates this year, and Warsh's public presence have fueled speculation that a change in Fed leadership could be coming. Warsh's recent speech wasn't just a critique of recent Fed decisions, but an argument that the Fed has strayed from its core mission and lost credibility with the public.

He accused the central bank of committing "systematic errors in the conduct of macroeconomic policy," enabling fiscal irresponsibility through its $6.7 trillion balance sheet, and focusing on what he called politically charged issues like climate change and inclusion. Warsh argued that the Fed's credibility, "the coin that purchases American economic strength," has been depleted.

On Monday, The Wall Street Journal editorial board praised Warsh's message, endorsing his call for a narrower focus by the central bank.

Warsh's emphasis on narrowing the Fed's focus would be a departure from the post-2008 approach to central banking. If he goes on to lead the Fed, markets could see tighter financial conditions and less reliance on forward guidance.

There are already signs that the Fed's balance sheet, recently considered a secondary focus compared with interest-rate policy, is moving back to the center of policy debates. Cleveland Fed president Beth Hammack warned last week that there is a cost to "having a balance sheet that is larger than necessary in an ample regime."

Fed Gov. Michelle Bowman, nominated to become the Fed's next Vice Chair for Supervision, has argued that it's "important to continue to reduce the size of the balance sheet to reach ample reserves as soon as possible and while the economy is still strong."

The Fed's balance sheet remains large, holding what some may call an "abundant" amount of reserves. The central bank's aim is to eventually reduce these reserves to an "ample level" -- that is, the balance considered optimal for effective monetary policy. Persistently high reserves could weaken the impact of future interest rate changes.

Minutes from the Fed's March meeting showed policymakers debating whether to ease up on shrinking the balance sheet, while Fed Gov. Christopher Waller argued at that meeting that there was no need to slow down at all. Warsh's emphasis on restoring Fed discipline and shrinking its footprint puts him in the middle of this debate and suggests that if he ascends to leadership, markets should prepare for a central bank less inclined to provide support during periods of market volatility.

Still, many economists and investors say that the Fed under Powell has successfully navigated one of the most difficult economic periods in modern history.

Powell's Fed managed successfully through a pandemic and brought inflation down from historic highs without tipping the economy into a recession. His strategy relied heavily on transparency and frequent communication, including regular news conferences and forward guidance. While Warsh criticizes this approach as offering "false precision," others argue that overcommunication was critical to stabilizing markets during extreme uncertainty.

The battle over the Fed's future involves broad questions about what role a central bank should play in the economy and how to balance independence with accountability.

The Fed's May 6-7 policy meeting is unlikely to produce major changes. The battle for the Fed's future is under way, however, and Warsh has made clear he intends to be a part of it.

Write to Nicole Goodkind at nicole.goodkind@barrons.com

This content was created by Barron's, which is operated by Dow Jones & Co. Barron's is published independently from Dow Jones Newswires and The Wall Street Journal.

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April 29, 2025 14:38 ET (18:38 GMT)

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