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Federal Reserve Chairman Kevin Warsh repeatedly deflected difficult monetary policy questions at his first news conference in June, citing his formation of five task forces to study the Fed’s operations and their pending reports. The Harvard University–trained economists, former central bankers, private-sector executives, and others chairing these committees will make their recommendations later this year regarding the central bank’s inflation and labor-market frameworks, communications strategy, balance-sheet policy, and data sources.
As it happens, these are the same topics that economist Jai Kedia has been studying as a research fellow at the Cato Institute, a libertarian think tank in Washington, D.C. Kedia, who earned a doctorate in economics in 2023 at the University of California, Irvine, co-wrote a nine-part report last year on what the Fed got wrong regarding monetary policy, and the changes that new leadership could make to get things right.
The issues he identified conspicuously overlap with the focus areas of Warsh’s task forces. And, based on Warsh’s statements about reforming the Fed, it seems likely that the task forces’ recommendations will also echo Kedia’s. In that way, his work could be seen as a road map for Warsh’s Fed.
Kedia envisions the Fed largely returning to its pre-2008 ways. That would mean sharply reducing its public communication about the interest-rate outlook and the scope of its work more generally. The “new” Fed, in his view, would regulate banks less and shrink its balance sheet, unwinding its holdings from roughly 26.5% of the level of all assets held by U.S. commercial banks to just 10%, the norm before the 2008-09 financial crisis.
Kedia believes that the Fed should revert to a rules-based approach to monetary policy, such as the Taylor rule, which establishes the ideal federal-funds rate based on a formula incorporating inflation and economic growth. The correlation between the rate a policy rule indicated and the actual fed-funds rate fell from 75% under Fed Chair Ben Bernanke to -2% under Fed Chair Jerome Powell, he wrote. Kedia thinks getting that number closer to 100% should be Warsh’s goal.
In a recent interview with Barron’s, Kedia elaborated on his vision for the Fed and monetary policy. An edited version of the conversation follows.
Barron’s: Why is adopting a rules-based approach to monetary policy preferable to discretionary policymaking, even if, as you have written, rules don’t always help to produce the best economic outcomes?
Jai Kedia: Optimal decision-making should never be the goal of monetary policy. It just isn’t possible. At the end of the day, the [Federal Open Market Committee] is just 12 people sitting in a room making decisions about a borrowing market that involves millions of people who are also making borrowing and lending decisions. The best the Fed can do is to follow a monetary-policy rule when setting interest rates.
We have discovered in economics that outcomes for regular people are better when the Fed follows a rule. From the mid-1980s to the mid-2000s, the U.S. had very low inflation and very low unemployment. Funnily enough, that period, known as the Great Moderation, is most closely aligned with the Fed following a predictable rule.
Rules-based policy provides markets with clarity and an objective direction for interest rates. It also serves as a buffer from attacks on Fed independence. If the Fed is following a rule, there is a clear link between the data and the interest-rate decision, and it is much harder for political interference to play a role.
If a rule can indicate to the public where rates are going, does that mean we wouldn’t need forward guidance from the Fed?
Yes. The rule will indicate the future path of interest rates, which is the most effective form of forward guidance. The whole point of forward guidance when it was rolled out after 2008 was to provide a trajectory for rates, under the assumption that if people could calibrate expectations for the future, there would be good macroeconomic outcomes.
But forward guidance has been just as likely to cause problems as to solve them. Take September 2025: The Fed had communicated in four forward-guidance terms that it was going to cut the federal-funds rate, no matter what. Then a horrible inflation report came in. [On Sept. 11, 2025, the government reported that annual inflation rose by 2.9% in August, as measured by the consumer price index.] Because the Fed had already set an expectation of cuts, it had to follow through.
It seemed odd to me that earlier this year no members of the FOMC expected a rate hike by year end. That has since changed, which brings us back to the problems with forward guidance. At some point this year, the Fed may have to raise rates because of inflationary pressures. No one would argue that tariffs or the Iran war are deflationary.
Warsh believes that productivity gains fueled by the use of artificial intelligence will be disinflationary, allowing the Fed to maintain lower rates. You don’t address the impact of AI in your writing. What is your view?
I disagree with Warsh on that. Most of his agenda is about having less discretion, with which I agree. But trying to make policy decisions today based on some AI bet for the future leans into discretion. There are differing estimates of the potential productivity grains from AI. Some people think productivity will grow by 1% over 10 years. Others say it will grow by 1% a year.
In a rules-based system, AI-related projections aren’t necessary. If there are massive gains from AI, that will show up in the data, and then, in the rule.
If, or when, AI structurally changes the economy, will the Fed’s inflation framework need to change, too?
We should revisit the inflation target every five years. The current 2% target doesn’t have any academic support. It is just a number we fixated on and calibrated our expectations to. The Fed already does a framework review every five years. Those reviews should expand in scope to take Fed reform more seriously, whether reform of the inflation target, Fed supervision, or other aspects of the Fed’s operations.
You advocate for evaluating the types of data the Fed uses to set policy. Are other types of data preferable?
The Fed relies on retrospective government data subject to many revisions, especially in the postpandemic era. For instance, we look at gross-domestic-product data only once every three months, so it is hard to get an accurate snapshot of the state of the economy. But when the government is providing a free product, it is difficult for a private company to offer an alternative product at a competitive price. The private data sources that exist mostly benchmark their offerings to data from the Bureau of Labor Statistics.
This may sound harsh, but the government shouldn’t be in the economic statistics business. This data system is so entrenched, however, that it would be hard to disentangle it quickly. The best we can do, at least in the short term, is pressure government statistics agencies to be more accurate in the methods used to compute their data. They could improve their surveys’ sensitivity to responses to be less prone to error.
Fiscal and monetary policy rescued the economy, and many companies, after the financial crisis and again during the Covid-19 pandemic. If another crisis unfolds, perhaps related to the AI buildout, should the Fed step aside?
Yes. Assurances of support create conditions that make it much more likely that companies fail in the future. If you instead say the Fed’s job is to maintain stable prices and maximum employment, not bail out private companies, you incentivize those companies to be careful about their investment in products and infrastructure, and not take needless risks. That is the correct way for the Fed to be engaged in private business.
I am an optimist about the tech sector. There could be short-term deflation in valuations of AI companies. But if you leave these companies to their own devices to figure out what is best for their products and consumers, the industry and the market will thrive.
Turning to the Fed’s balance sheet, you favor reducing it by trillions of dollars. How do you envision that happening?
It sounds like the Fed would quickly crunch credit by reducing its balance sheet, which would lead to bad economic outcomes. But the Fed doesn’t need to shrink its balance sheet overnight. I am willing to give the Fed 10 years to bring the balance sheet back down to its pre-2008 level. That is roughly the time it would take to avoid dumping too many assets into the market too quickly, especially when the economy faces so many other pressures.
What role should Congress play in instigating any reforms of the Fed?
The Fed Oversight Reform and Modernization Act was introduced in the House in 2015. [The bill passed the House but died in committee in the Senate.] Among other things, such as limiting the Fed’s bank lending, it would have forced the Fed to adopt a policy rule. It is a good template for how Congress could force the Fed to adopt a rule.
I agree with most of the things in that kind of bill, but would like some clarity on the time frame in which the Fed can change its policy rule. It has to be long enough to prevent the Fed from changing that rule too frequently, yet not so long that the Fed can’t adapt if it thinks it has made a mistake.
Do you have any personal advice for Warsh?
It is important to stay focused on his mission, because once he starts implementing changes, there could be criticism coming from across the board. If the correct thing is to raise rates, he should do that, irrespective of the opinions of the Trump administration.
Thanks, Jai.
Write to Emily Russell at [email protected]