Everyone expected Kevin Warsh to come into his first Federal Reserve meeting and immediately begin cutting rates because Trump put him in the chair. That was never going to happen. Markets have once again demonstrated they do not understand how interest rates actually function. The Federal Reserve left rates unchanged at 3.50% to 3.75%, but what mattered was not the decision itself. What mattered was the complete shift in tone.
The Fed removed language suggesting future easing and, for the first time this year, officials openly moved toward discussing potential rate hikes rather than cuts. Inflation is moving higher again, energy prices have surged amid Middle East tensions, and the bond market immediately understood what many economists still refuse to accept.
What I found far more interesting was Warsh’s attack on the institution itself. He announced five separate task forces to review how the Federal Reserve operates, how it communicates, how it measures inflation, how it uses economic data, how it manages its balance sheet, and how productivity and employment are evolving in a rapidly changing economy.
Warsh is openly signaling that he believes the Fed has become bloated, overly academic, and detached from reality. For years I have argued that governments and central banks are operating on outdated models that no longer reflect the world economy. Warsh appears to recognize the same problem.
The irony is that Warsh was selected largely because many believed he would be more dovish than Powell. Instead, his first meeting produced one of the most hawkish shifts we have seen this year. Officials now see inflation remaining elevated and several policymakers are looking toward possible rate increases before year-end. Bond yields jumped, the dollar strengthened, and equities sold off because traders suddenly realized the era of guaranteed rate cuts may be over.