TLDR;
Kevin Warsh, former Federal Reserve governor, discusses the Fed's performance, its role in maintaining price stability, and its impact on the US economy. He critiques the Fed's recent actions, particularly its quantitative easing policies, and suggests reforms to restore its credibility and effectiveness. Warsh emphasizes the importance of sound monetary policy, fiscal responsibility, and economic growth for America's future. He remains optimistic about the US economy's potential, citing innovation, human capital, and a shift towards better economic policies.
- The Federal Reserve needs to reform itself to regain credibility and effectiveness.
- Inflation is a choice, and the Fed should take responsibility for maintaining price stability.
- Quantitative easing policies have had unintended consequences, including encouraging fiscal irresponsibility.
- The US economy has the potential for a productivity boom if sound economic policies are implemented.
- The Fed should shrink its balance sheet and focus on managing interest rates to promote economic growth.
Introduction [0:00]
Peter Robinson introduces Kevin Warsh, a former Federal Reserve governor, to discuss the Fed's performance in maintaining price stability. Warsh's background includes experience on Wall Street, in Washington, and as a fellow at the Hoover Institution. Robinson highlights Warsh's tenure at the Fed during the 2008 financial crisis, setting the stage for a critical examination of the Fed's role and effectiveness.
Criticism of the Federal Reserve [1:33]
Robinson quotes Charlie Munger on the importance of currency integrity and then presents Warsh's critical remarks about the Fed, including "institutional drift," "failure to satisfy its statutory remit," and "underperformance." Warsh defends his critique as a "love letter" aimed at reforming the institution. He notes that this is the third experiment with a central bank in the US, and the previous two failed because they lost the consent of the governed. Warsh expresses concern that the current Fed may be losing track of the needs of the country's center due to preoccupation with special interests.
The Role and Performance of the Federal Reserve [4:05]
Robinson asks Warsh to explain the role of the Federal Reserve, established in 1913, in setting interest rates and regulating the money supply to achieve price stability. He quotes Milton Friedman's critical assessment of the Fed's historical performance, citing its role in the doubling of prices during World War I, the major collapse in 1921, and the Great Depression. Warsh recalls being a student of Friedman's at Stanford and researching Friedman's correspondence with Fed chairmen Paul Volcker and Alan Greenspan. He notes that Friedman revisited his views on the Fed over time, influenced by changes in approach and successes like the "Great Moderation."
Inflation as a Monetary Phenomenon [7:46]
Robinson brings up Milton Friedman's famous quote that "inflation is always and everywhere a monetary phenomenon," implying that inflation is ultimately the Fed's responsibility. Warsh agrees, stating that inflation is a choice and that the Fed was given the responsibility for price stability by Congress. He criticizes recent explanations for inflation, such as blaming Putin or the pandemic, arguing that these are merely changes in relative prices, not inflation. Warsh asserts that the central bank can hit any inflation level it wants and should not blame others. He emphasizes that a sound dollar is a choice and cites Paul Volcker's success in bringing inflation under control.
The Great Moderation and the Gold Standard [11:00]
Warsh suggests that the Fed became complacent after the "Great Moderation," a period of relative price stability that lasted for about a generation. Robinson defines the Great Moderation as the period from the mid-1980s until the 2008 crisis when inflation was low and the economy expanded. Robinson then brings up the gold standard, noting that President Nixon took the US off it in 1971. Warsh responds that there is no status quo ante to return to and that there has to be a third choice between letting the machine do it and having full discretion of a central banker's latest whims.
The Financial Crisis of 2008 and Quantitative Easing [16:10]
Robinson shifts the discussion to the financial crisis of 2008, during which Warsh served on the Federal Reserve Board of Governors. He notes the Fed's response of flooding the system with liquidity, with the balance sheet doubling in a quarter. Warsh supported this decision, explaining that the Fed was created to respond to panics and provide liquidity when markets aren't working. He contrasts this with the views of some who believed the system should be allowed to burn down. Warsh emphasizes that there was an implicit promise to return to being a rather boring central bank once the crisis ended.
Quantitative Easing (QE) Policies [25:30]
Robinson outlines the series of quantitative easing (QE) measures undertaken by the Fed from 2008 to 2022, noting the significant expansion of the Fed's balance sheet. Warsh expresses concern about the trillions printed during benign times, arguing that it signals to Congress that they can also spend freely. He recalls the debate around QE1, describing it as a radical measure taken during a time of crisis. Warsh notes that he resigned when QE2 was launched in 2010, disagreeing with the decision to continue QE during a period of reasonably strong growth and stable prices.
QE4 and the COVID-19 Pandemic [30:45]
Robinson brings up QE4, which took place during the COVID-19 lockdown. Warsh acknowledges the need to be radical during crises like the pandemic but argues that the central bank should have retreated during the decade between 2010 and 2020. He notes that Congress felt emboldened to spend trillions because the Fed was buying all the bonds. Warsh expresses concern that the Fed has become too involved in the private sector, blurring the lines of responsibility and accountability between fiscal and monetary policy.
Critique of the Fed's Actions and the National Debt [33:42]
Robinson presents a counterargument on behalf of the Federal Reserve, noting that inflation is now below 2.5% and the economy is growing. Warsh responds that "mission accomplished" is a dangerous thing for policymakers and that there have been costs to the Fed's errors, particularly for the least well-off. Robinson cites a Wall Street Journal article highlighting the increase in federal debt as a proportion of GDP since Warsh joined the Fed. Warsh acknowledges that Congress deserves criticism for reckless spending but argues that the Fed's bond-buying made it more acceptable.
The Need for Reform and Fiscal Responsibility [37:38]
Warsh emphasizes the need for the Federal Reserve to reform itself and for Congress to be more responsible with spending. He notes that the connection between fiscal spending and monetary printing is that when one is irresponsible, the other tends to be irresponsible too. Warsh points out that the rest of the world is watching the central bank and that the US needs to put its own house in order to regain its credibility.
The Ponzi Scheme Analogy and Economic Growth [40:24]
Robinson suggests that the Fed and Treasury have been running a Ponzi scheme, with the Fed buying the bonds the Treasury puts up for sale. Warsh clarifies that Robinson is the one making the Ponzi scheme analogy. Warsh expresses optimism about the US economy, believing it is on the front end of a productivity boom. He argues that economic growth is the most important thing and could do a better job at defeasing these liabilities than anything else.
The Tipping Point and the Fed's Balance Sheet [43:16]
Warsh warns against getting too close to the tipping point where alarm signals appear in world markets. Robinson notes that the Fed still has a balance sheet of $7 trillion and asks how it can shrink that balance sheet without raising interest rates. Warsh suggests that the administration inherited a fiscal and monetary mess and needs to get out of it. He proposes running the printing press a little quieter and allowing for lower interest rates.
Monetary Policy Instruments and Treasury Department [45:55]
Warsh explains that there are two monetary policy instruments: setting interest rates and managing the central bank's balance sheet. He believes that shrinking the central bank balance sheet would lead to less inflation and that the Treasury Department and the Federal Reserve need to come to an accord on who is responsible for what. Warsh advocates for shrinking the central bank balance sheet and taking the Fed out of these markets unless and until there's a crisis.
Visions of the Country and the Future [48:39]
Robinson contrasts Warsh's vision of a country where Americans scarcely thought about changes in the price level with Alan Greenspan's shock at discovering that the self-interests of banks were not sufficient to protect their own shareholders. Warsh rejects the idea that something basic is over and irreparable, expressing optimism about the country's potential for a productivity boom. He emphasizes the need for new economic policies in a new world that can drive the American spirit and individual liberty.
Restoring the Federal Reserve and Bitcoin [53:59]
Warsh believes that the Fed doesn't need a revolution but a restoration. He draws an analogy to golf course architecture, suggesting that the Fed should be inspired by its past but not bound by it. Robinson brings up Bitcoin, and Warsh responds that it does not make him nervous. He sees it as an important asset that can help inform policymakers when they're doing things right and wrong.
The United States vs. the World [57:49]
Robinson notes the economic growth in China, India, and sub-Saharan Africa and asks Warsh why he is still long the United States of America. Warsh responds that the US is the innovator of almost all of these technologies and that the most talented people in the world still want to come here. He believes that economic policy is trending in a better direction and that the American people are ready to be liberated from the shackles they've been under. Warsh is willing to bet that the central bank fixes matters that are broken and achieves price stability yet again.