The Deregulatory Push Just Got A Leg Up

In nominating Kevin Warsh to lead the Federal Reserve, President Donald Trump has cited his desire for lower interest rates. But, if confirmed, Warsh could have a greater impact on the central bank’s other responsibility: financial regulation.

Warsh has said the Fed has too much power in regulatory matters and has called for ceding some of that authority to the Treasury Department and other agencies. Those comments suggest that as Fed chief, Warsh would work to limit the Fed’s remit on regulation and supervision, and hand power to political appointees and the banks instead.

“I don’t believe the Fed is owed any particular deference in bank regulatory and supervisory policy,” he wrote in a Wall Street Journal editorial last year, arguing that the Fed has been “exercising powers that are the province of the Treasury department.”

That could further erode regulatory checks and balances already coming under strain in this administration, which has seen an unusually high degree of coordination across independent regulatory agencies. And it could pare back the Fed’s independence on regulatory matters, at a time when Trump has attacked the central bank on monetary policy.

While the various bank regulators have historically communicated around supervision and policy, the Federal Reserve is officially independent and granted broad power to supervise banks. Market watchers say that Fed supervisory independence is necessary for financial stability, because it helps to insulate regulation from political pressure.

“If Warsh comes in and just says that he thinks the policy of the board should be to put all the regulations through the White House, that would be a significant reduction in the Fed’s authorities that we have never seen before,” said Lev Menand of Columbia Law School, formerly a senior adviser at the Treasury Department.

The Trump administration has sought to test the independence of all regulatory agencies — including the Federal Reserve. An executive order from last February made regulatory agencies accountable to elected officials. In the statement, the president argued that, while the Fed is independent in determining monetary policy, it should report to the White House on supervision and regulation.

“Warsh is unusual in that he would be the first Fed chair to explicitly say that the Fed as an institution should follow the White House on bank regulation,” said Jeremy Kress at the University of Michigan, formerly a lawyer at the U.S. central bank.

Over the past year, the Trump administration has moved to scale back what Warsh has described as overregulation. Regulatory agencies have worked closely with the Treasury Department to reduce rules on banks and other financial institutions enacted after the 2008 great financial crisis. That has concerned critics, who say the typical regulatory checks and balances are not being heeded.

Warsh, a former Fed official who currently works as a fellow at the Hoover Institution at Stanford University, did not immediately respond to a request for comment.

In an op-ed last November, Warsh praised the administration’s deregulatory moves as well as the efforts of Fed Vice Chair for Supervision Michelle Bowman, a Trump appointee. Bowman has worked to make the central bank’s supervision more transparent and announced plans to reduce headcount in the oversight division by 30 percent by year end.

“The deregulatory agenda, the most significant since President Ronald Reagan’s, has begun to liberate households and businesses from the dictates of Washington’s bureaucracy,” he wrote. “Fed leadership should support rather than undermine the good early work of the new vice chairman for supervision, Michelle Bowman, who is crafting a new regulatory framework.”

The Federal Reserve declined to comment.

“He will throw in directly with Bowman, simply because she is clearly implementing the coordinated strategy of the administration. I get no sense at all that he will deviate from that,” said Philip Basil, director of economic growth and financial stability at Better Markets.

Under the Trump administration, the OCC, FDIC and the Fed have refocused supervision around material financial risks, rather than “reputational” risks, and have moved to usher digital assets into the financial system — all in lockstep with a Treasury Department that has taken unusually keen interest in the issue. Warsh has a longstanding professional relationship with Treasury Secretary Scott Bessent.

Warsh’s views on financial regulation have been consistent over the years. In a 2010 speech, shortly after the financial crisis, he urged a restrained approach to post-crisis financial supervision, and argued that firms should be to some degree responsible for their own regulation.

“If real reform were chiefly about the number of financial regulators in Washington — or even the precise relationships between financial regulation and the role of the central bank — we should find an institutional design among major financial centers around the world that lived up to its promise. We find no such example,” he said.

He has also regularly called on the Fed to shrink its asset portfolio, arguing that the money should be put to use in the economy rather than forcing banks to store it in their accounts at the Fed.

One reason the balance sheet has grown is that financial rules enacted after the financial crisis have forced banks to set aside funds at the Fed to prevent excessive risk-taking. Scaling back bank capital and liquidity rules, in line with the broader administration’s push, could support Warsh’s stated goal.

The pathway to a smaller balance sheet is to reduce the size of reserve balances, to give banks incentive to reallocate liquidity [away from] the Federal Reserve, and fixing liquidity requirements so that they don’t force banks to hold reserves” said Bill Nelson, chief economist at the Bank Policy Institute, a bank advocacy group, formerly an economist at the Fed.

Stephen Miran, a Trump appointee who joined the Fed last year, has made a similar point.

“The size of the balance sheet is a result of regulatory dominance,” he said at a conference last year. “Regulations boost demand for reserves, which in turn requires us to end runoff or purchase securities for reserve management purposes.”

The Federal Reserve will announce its revised Basel III international capital proposal in the coming months, intended to align U.S. bank capital standards with those of other developed economies. Bank regulators at the Fed, FDIC, and OCC are also expected to start rewriting liquidity rules that have been on the books since the great financial crisis later this year.

If Warsh is confirmed, proposals for lower capital requirements and less stringent liquidity rules will likely have firm backing from the next Fed chair.

“In the wake of 2008, we developed a much more aggressive regulatory supervisory apparatus designed to ensure that the banking system, as a whole, would never again need $100 plus billion dollars of public money to recapitalize it. This administration seems intent on reversing that,” said Menand at Columbia. “Warsh certainly shares this agenda.”