GTHT has released a research report stating that Warsh's "practical monetarism" both signals to the market the Federal Reserve's determination to control inflation and can accommodate Trump's demands for interest rate cuts. Its purpose is to correct market distortions caused by excessive QE and achieve a convergence of the "K-shaped" economy. GTHT's main viewpoints are as follows: 1) "QT + Rate Cuts": The Policy Stance of the New Fed Chair Candidate Warsh's most notable policy stance is "rate cuts + quantitative tightening (QT)". He believes the Fed is responsible for inflation, and the persistent QE post-crisis is the primary cause of inflation. Therefore, QT is needed to control inflation. Once inflation risks and policy distortions are corrected, room for rate cuts can be created. Warsh terms this "practical monetarism". Behind this policy stance lies a reform of the monetary policy framework. Warsh has repeatedly criticized the Fed's massive balance sheet, arguing that QE distorted market incentives: after the 2008 financial crisis, the Fed shifted to an "ample reserves regime", releasing large amounts of excess reserves to banks and then controlling the interest rate corridor by paying interest on reserves. This allowed banks to passively earn interest income, reducing their willingness to lend to the real economy and causing capital to shift away from real sectors. Warsh advocates reducing bank reserve levels via QT to increase banks' lending appetite, reversing the post-crisis ample reserves regime and transitioning towards the pre-crisis "scarce reserves regime". 2) Balancing the White House and Wall Street: Why Trump Might Choose Warsh Trump's criticism of current Chair Powell as "Mr. Too Late" made the highly loyal Hassett a frontrunner for a time, but his aggressive rate-cut stance also raised concerns about monetary policy independence. As Wall Street's preferred candidate, Warsh's policy stance achieves a better balance between maintaining Fed independence and showing loyalty to Trump. "Practical monetarism" both demonstrates a resolve to control inflation and can satisfy Trump's rate-cut demands. QT can be understood as "responsible balance sheet management", focusing on correcting the mindset of "unlimited backstopping" of demand-side by monetary policy; rate cuts, coordinated with fiscal policy, focus on enhancing supply capacity from an industrial policy perspective. The essence of this policy approach is to prevent excessive capital flight from the real economy and channel low-cost funds to the real sector. This aligns with the supply-side reform ideas of Trump and Bason. 3) Practical Monetarism: Speculation on Warsh's Potential Governing Approach Based on the quantity theory of money, QT is indeed a powerful tool for controlling inflation. Evidence for this is that after the Fed announced the start of passive QT in 2022, CPI rapidly declined from 9% to around 3%. However, QT has its limits. Recently, due to liquidity tightness in the repo market, bank reserves approached what the Fed considers an "ample level", forcing a halt to QT and the initiation of RMP (Reserve Management Purchases). Operationally, a series of deregulatory measures for banks (such as easing capital constraints) and optimizing the Fed's temporary discount window facilities for banks could potentially create more space for QT. But the transition to a "scarce reserves regime" is long and arduous. In the short term, liquidity issues remain a binding constraint on implementing QT until bank reserves return to a relatively ample level. Furthermore, the Trump administration's policies, such as reshoring manufacturing and revitalizing the real estate sector, require bank credit expansion, which is dependent on ample reserve levels. The policy orientation of shifting focus from Wall Street back to Main Street is conducive to converging the "K-shaped" divergence in the US economy. However, in managing the conflict between the upper part of the "K-shape" (US stocks) and the lower part (inflation), Warsh would require superior balancing skills. Risk提示: Significant volatility in US stocks could damage consumer confidence; the recovery of the US real economy may fall short of expectations.
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