Warsh’s take on Fed independence is met with confusion, concern

Most people don’t know and don’t have much reason to care what a currency swap line is, except that the financial instrument could soon help markets understand what Federal Reserve Chair nominee Kevin Warsh‘s unique ideas about Fed independence really mean.

Warsh has said categorically the Fed should be “strictly independent” in the making of monetary policy. But he adds that he’s willing to work with Congress and the Trump administration on “non-monetary matters.”

In answers to senators’ questions following his April 21 confirmation hearing, he elaborated: “Fed officials are not entitled to the same special deference in areas affecting international finance, among other matters.”

Warsh has also talked often about a new “Fed/Treasury accord” that he’s suggested could govern the Fed’s balance sheet, though in ways he has yet to detail.

To six former Fed officials interviewed for this article, those comments were unclear or confusing at best. When it comes to Fed independence, they found his analysis worrisome at worst. The outcomes could be benign, tinkering around the edges of existing conventions, or more concerning limitations to the Fed’s ability to use its balance sheet in a crisis. Because of the lack of clarity in Warsh’s comments, none of the former officials who spoke with CNBC were ready yet to draw conclusions either way.

Former Richmond Fed President Jeffrey Lacker, long a hawk on interest rate and balance sheet policy, said he could welcome a new accord between the Fed and Treasury Department if it led to the Fed focusing on monetary policy, leaving credit policy up to Treasury. Under such an accord, for example, the Fed could be limited to just buying treasurys, not mortgages or other financial instruments.

But Lacker added, “I can also imagine a less constructive agreement that lets the Treasury use the Fed’s balance sheet to bypass Congress, perpetuating bad practices and compromising the Fed’s independence.”

One former high-level Fed official, who spoke on condition of anonymity to speak candidly, said, “If followed to its logical conclusion, the Fed could lose control of its balance sheet.”

Warsh’s views on what is and isn’t monetary policy aren’t fully clear. He may elaborate once confirmed by the Senate, but for now has left lawyers, economists and Fed observers to parse cryptic comments like those in his Senate responses.

Warsh declined to comment for this article.

One challenge facing Fed observers is that the difference between monetary and non-monetary functions at the central bank can be less than clear.

Swap lines occupy that gray area, several former Fed officials said. Used mostly during financial crises, the Fed gives dollars to…