Fed Chairman-designate Kevin Warsh suffered through his congressional hearings this week and is due to take up his post on May 16, after Fed Chairman Jerome Powell’s term ends. With his objective of “keeping the Fed in its lane” there is much structural reform he can undertake to remove the Fed from meddling in non-monetary policy matters. Within monetary policy itself, this column has a clear view of what he should do and is keeping its fingers crossed that he will do it.

Warsh’s desire to cut the Fed down to size is wholly admirable. Total staffing at the 12 regional banks is a staggering 24,000, with 3,000 at the Board of Governors in Washington DC. This is far more than is required to implement and design monetary policy, although to be fair the overstaffing goes back a long way – total staffing of the System peaked at around 30,000 in the early 1970s – presumably there were football-pitch-sized rooms full of “comptometer girls” solving the complex monetary equations dictated by Keynesian theorists.

Nevertheless, the grotesque $3 billion cost of what is supposed to be a mere “renovation” of the Fed’s main building indicates that bureaucratic bloat has got entirely out of hand. The Fed is supposed to be “self-financing” but the $200 billion accumulated deficit resulting from the Fed’s oversized balance sheet and its inept management of monetary policy suggests that these Pharaonic additional burdens should not be imposed on long-suffering U.S. taxpayers.

There is a more important structural problem. When the Federal Reserve was created in 1913, its Board of Governors was placed in Washington, as part of the Woodrow Wilsonian Progressive urge to enlarge the Federal government and bring all possible activities under its wing. Initially, this structure proved thoroughly artificial; the power through the 1920s rested with the head of the New York Fed (Benjamin Strong until his death in 1928) who took responsibility for dealing with the money markets, then as now domiciled in New York. Only after the New Deal did Fed power truly become centered in Washington, initially subordinated to the Treasury, but from 1951 a fully independent agency.

This presents an immense cultural problem. Washington DC votes overwhelmingly Democrat, by 90.3% in the Harris/Trump contest of 2024, and the inner suburbs of Montgomery and Arlington Counties are little better. (Fairfax County, Virginia was marginally Republican when I moved there in 2000, but it soon swung overwhelmingly Democrat, to the great detriment of my son’s secondary education, as the Federal bureaucracy and its lobbying and NGO nexus expanded under the leftist Presidencies of George W. Bush and Barack Obama.) As a result, the cultural and social miasma forcing even top-level Fed officials to the Left is overwhelming, and difficult for them to resist, especially under a feeble Chairman like Powell.

The 0.50% interest rate cut in September 2024 was a grave example of this. The markets did not expect any more than a 0.25% cut, if that, as inflation was still well above the Fed’s absurd 2% target. There was thus neither economic justification nor market demand for the larger cut, which can only have been made to goose the markets and provide a better economic environment for the November election of President Biden’s successor Kamala Harris.

A stronger Fed Chairman like Warsh might be able to resist such pressures, but with 3,000 staff the blizzard of leftist muttering and media leaks around the building if he did so would make life very difficult (and the other Fed Governors would not necessarily be so strong-minded). The solution is to move the Fed Board of Governors to one of the outlying Federal Reserve Banks whose politics are not perverted by location in a big-city ghetto. Kansas City, host of the Jackson Hole annual gathering and home until recently of the admirable President Esther George, would seem ideal, but there are also arguments for St. Louis, home of the best Fed collection of economic statistics.

In such a location, there would be no pressure on local staff to adhere to the Left, so Fed monetary policy decisions would be taken with political impartiality, as they should be. Staffing would not be a problem; those wishing to make a career with the Fed would find Kansas City restaurants and amenities perfectly adequate and real estate costs and commuting times much lower than in Washington – their children’s education would also be much improved. The separation of the Fed Board from the political nexus would further its independence from bullying by the President or Congress, while it would be little more remote from the money markets of New York than it is currently; in any case air travel and modern telecommunications have shrunk intra-U.S. distances and journey times to a trivial level.

Turning to monetary policy, Warsh has already expressed his wish to cut down the size of the Fed’s balance sheet. There is no advantage whatever in the Fed’s recently renewed program of quantitative easing; it monetizes the Federal budget deficit by laundering it into risk-free deposits with the Fed by the big banks. It also makes it far too easy for the slobs in Congress to carry on spending. The interest-bearing dross on the big banks’ balance sheets is easy risk-free money, therefore a direct subsidy to doing no corporate lending, which vitiates the banks’ purpose for existence.

At the very least, Warsh should resume the program of quantitative tightening that was abandoned last December, selling $40-50 billion of bonds per month into the market to reduce the Fed’s balance sheet from its current $6.9 trillion. To reduce further the drag from the Fed’s past QE, he should also reduce the interest paid on bank deposits with the Fed to no more than 2%, even while he keeps the official Federal Funds rate at its current level. That will please Trump’s desire for lower interest rates, while ensuring that the rate lowering does nothing to feed inflation but merely reduces an unnecessary subsidy to big banks.

Even more important than reducing the Fed’s balance sheet, however, is changing its inflation target to zero. As this column has frequently reiterated, the current 2% inflation target doubles prices every 35 years and prevents ordinary savers from planning their long-term futures. This is especially the case if, as at present, the Fed frequently misses its target on the upside and then makes no attempt to recapture the excess inflation it has created. Even President Trump’s eccentric objective of lower nominal interest rates would be assisted by the Fed having an inflation target of zero, since nominal rates would decline over a year or two to the current level of long-term real rates in the TIPS market, i.e. 2.6%-2.7% compared to the current 10-year Treasury yield of about 4.3%. The 2% inflation target resulted from Fed Chairman Ben Bernanke’s absurd phobia of deflation, which rested on ignoring the healthily deflating U.S. economy of the 1880s, which saw sharply rising living standards and excellent economic growth. The irrational and damaging manias of past Fed Chairmen must be swept into the trash where they belong.

There are other Warsh reforms that make sense. He wants to eliminate the published “dot-plot” forecast of short-term interest rates made by FOMC members. This is a sensible reform, because the dot-plot shows FOMC members to be absolutely lousy interest rate forecasters, which you would expect but monetary magic requires should not be advertised.

Outside monetary policy, Warsh is absolutely correct that the Fed should have no role in regulating “climate change” or in managing the Consumer Financial Protection Bureau, currently under its responsibility. It is also not very good at banking regulation, which can be left to the Office of the Comptroller of the Currency and the FDIC – having three separate agencies regulating banks is asking for trouble, and removing duplication will also reduce costs.

As for the newly refurbished Fed building, it can be sold for condominium development, turned into convenient downtown luxury residences for Washington’s army of lobbyists – preferably overpriced, to reduce unearned lobbyist wealth.

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(The Bear’s Lair is a weekly column that is intended to appear each Monday, an appropriately gloomy day of the week. Its rationale is that the proportion of “sell” recommendations put out by Wall Street houses remains far below that of “buy” recommendations. Accordingly, investors have an excess of positive information and very little negative information. The column thus takes the ursine view of life and the market, in the hope that it may be usefully different from what investors see elsewhere.)