Misplaced relief? The market’s first take on the Kevin Warsh appointment

Financial markets reacted quickly to President Trump’s nomination of Kevin Warsh as the next Chair of the Federal Reserve. The dollar strengthened, and investors rapidly unwound many of the defensive positions they had built up in anticipation of continued monetary instability. Precious metals, which had risen sharply on expectations of prolonged loose policy, fell back as markets reassessed the likely direction of the Fed under Warsh. Beneath these immediate moves, the broader message was clear: investors view Warsh’s appointment as a steadier and more conventional choice than many expected and someone who might temper political pressure rather than amplify it.

These perceptions draw heavily on Warsh’s earlier tenure at the Fed. Between 2006 and 2011, he built a reputation as an independent thinker, unafraid to challenge prevailing views or question the rapid expansion of the Fed’s balance sheet during the financial crisis. He was sceptical of large‑scale asset purchases, wary of quantitative easing, and concerned about how deeply financial‑market expectations had become intertwined with monetary policy. For investors, these qualities implied a policymaker more inclined to resist demands for rapid or unconditional rate cuts.

Yet this image of Warsh sits uneasily alongside his more recent policy arguments. Over the past year, he has advocated lowering interest rates, grounding his case in the belief that artificial intelligence will generate significant productivity gains, boost supply and ultimately contain inflation. At the same time, he has argued that the Fed should reduce its balance sheet. Cutting rates while shrinking the balance sheet sends conflicting signals, easing financial conditions in one part of the system while tightening them in another. This tension will complicate communication and could make markets more volatile as they try to interpret the Fed’s intentions.

Furthermore, shrinking the balance sheet while easing monetary policy risks tightening long‑term borrowing conditions, raising mortgage rates and market risk premiums even as short‑term policy rates fall. That would create a contradictory environment and one that depresses investment appetite at a moment when fiscal and political leaders are pushing for more accommodative financial conditions.

Warsh’s policy record also warrants closer examination. In the years leading up to the 2008 crisis, Warsh repeatedly emphasised inflation risks even as the economy showed signs of deeper structural weakness. He underestimated the severity of the housing downturn and overestimated the threat of rising prices. While such misjudgements were widespread at the time, they underscore that his instincts did not always align with underlying conditions. His recent shift toward arguing for cuts - on an optimistic view of AI‑driven lower rate of inflation- raises additional questions. Is this a considered reassessment of the economic outlook, or a convenient alignment with the administration’s push for lower rates? If the productivity surge he anticipates does not materialise, or if inflation remains persistent, the foundation of his current policy framework could prove fragile.

Overlaying all of this is the political economy challenge that awaits him. If growth remains resilient, inflation stubborn, and labour‑market indicators mixed, the committee may resist

 aggressive easing. Warsh will have to reconcile his supply‑side optimism with his colleagues’ caution about preserving the Fed’s credibility.

His immediate tasks will be to balance three conflicting demands: cutting interest rates in line with his AI‑driven argument; reducing the balance sheet without disrupting financial conditions; and safeguarding the Fed’s autonomy under intense political pressure. If he pushes too quickly for cuts, he risks dividing the committee; if he holds the line, he may face public pressure from the President.