Fed Nominee Warsh Backs Smaller Balance Sheet, Analysts Flag Challenge

Kevin Warsh, nominated by President Donald Trump to be the next chair of the Federal Reserve, has indicated he would like to reduce the central bank’s large balance sheet, but analysts say achieving that will be difficult and slow. Warsh, a former Fed governor, believes the current multi-trillion-dollar portfolio of assets distorts financial markets and should be cut with the aim of supporting lower borrowing costs for households and small businesses.

Key Highlights

• Kevin Warsh signals intent to reduce Federal Reserve holdings, emphasizing long-term monetary discipline and balance-sheet normalization.
• Experts warn shrinking Fed assets is complex, risking market liquidity disruptions and requiring cautious, phased execution.

The Federal Reserve’s balance sheet expanded sharply during the COVID-19 pandemic, reaching nearly $9 trillion, before falling to about $6.6 trillion through gradual reductions. More recently, technical purchases of Treasury bills have begun to lift holdings again to ensure sufficient liquidity for managing interest rates. Shrinking the balance sheet further while maintaining market stability and effective monetary policy, however, may be challenging because many banks and markets rely on high levels of reserves.

Experts point out that any significant reduction in holdings could tighten financial conditions and complicate the Fed’s ability to control interest rates. They also note that major changes would require broad support within the Federal Open Market Committee, which has traditionally used the balance sheet as a core tool of monetary policy. Analysts suggest that any shift toward a smaller balance sheet would likely be gradual and accompanied by adjustments to liquidity tools rather than abrupt cuts.

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Despite Warsh’s preference for a smaller footprint in financial markets, it remains unclear how quickly or extensively his vision could be implemented if he becomes Fed chair, as economic and regulatory realities may limit faster action.