Wash's logic for rate cuts has been questioned within the Federal Reserve, and the most rigorous audience at the hearing will be his future colleagues. Will he adjust his stance based on the latest developments and turn hawkish?
Nick Timiraos, a reporter for The Wall Street Journal often referred to as the 'new Federal Reserve communications channel' and 'Fed mouthpiece,' pointed out that Kevin Warsh, the nominee for the next Federal Reserve Chair, is facing dual tests of real-world conditions and policy constraints regarding his core judgment that 'artificial intelligence will suppress inflation, thereby supporting rate cuts.'
On one hand, technological changes have yet to manifest as price declines in the data; on the other hand, ongoing geopolitical conflicts continue to drive up costs, placing the Federal Reserve in a dilemma.
When Warsh appears at the Senate confirmation hearing on Tuesday, his toughest audience may come from his future colleagues, who have already expressed rather sharp skepticism about his stance in subtle but clear ways.
Can Warsh really cut interest rates based on AI logic?
Timiraos outlined that before receiving Trump’s nomination in January this year, Warsh’s argument framework was relatively straightforward: artificial intelligence would significantly boost productivity, enabling companies to pay higher wages without raising prices or maintain output with reduced labor, thereby lowering labor costs and curbing inflation.
However, the decline in inflation will not immediately be reflected in official data, which will place central bank officials who rely on evidence-based decision-making in a difficult position. Warsh previously stated that the Fed 'will have to take a bet.'
Yet, real-world progress has not fully corroborated this path. Several Fed officials noted that artificial intelligence currently plays a greater role in boosting demand—data center construction, rising electricity prices, and a stronger stock market further driving consumer spending, which in the short term could instead push inflation higher.
In this context, St. Louis Fed President Musallem warned that cutting rates prematurely based on expectations of future productivity growth would be 'risky' and emphasized that a truly 'pro-growth' stance involves maintaining low inflation.
Timiraos also noted that Warsh and Trump administration officials repeatedly cited the experience of the Greenspan era as an analogy, but this comparison has obvious limitations in the current environment.
At that time, Greenspan resisted pressure to raise interest rates and maintained them unchanged, betting that the productivity gains brought by the internet revolution would lower inflation, ultimately keeping inflation moderate and fostering economic expansion. But this judgment was not without cost: as the dot-com bubble heightened risks of economic overheating, the Fed swiftly pivoted and sharply raised rates between 1999 and 2000.
Timiraos argued that the policy discussions at that time revolved around whether to 'maintain or raise interest rates,' rather than whether to cut them; inflation had just fallen to 2%, fiscal deficits had turned into surpluses, and global trade expansion brought cheap imports that continuously suppressed prices.
In contrast, inflation has now remained above the 2% target for six consecutive years, fiscal deficits are at high levels, and tariffs, deglobalization, and geopolitical conflicts are disrupting supply chains and driving up costs, with the Iran war becoming the latest and most significant shock.
At the level of productivity evidence, the differences are also apparent. Greenspan's basis at the time was real-world application data at the enterprise level, such as retail inventory systems, GPS transportation scheduling, and computer-aided design, whereas the cases cited by Warsh and his supporters today mostly come from 'companies producing technology, rather than companies using technology.'
Vincent Reinhart, a former senior advisor to Greenspan, pointed out that this makes the assessment of productivity improvements lack an equivalent foundation. Former St. Louis Fed President James Bullard also frankly stated that the diffusion of technology will not progress as quickly as Silicon Valley anticipates.
The hearing will face rigorous scrutiny from future colleagues.
Timiraos emphasized that the Federal Reserve’s interest rates are jointly determined by the 12-member Federal Open Market Committee (FOMC), and the chair’s ability to push decisions heavily relies on long-accumulated prestige.
Greenspan had accumulated a decade of reputation when making key judgments, whereas Kevin Warsh, who served as a governor from 2006 to 2011, would start from a different position if appointed as chair. Former Federal Reserve Chair Janet Yellen stated that she does not believe Warsh possesses the same level of credibility and does not think the FOMC would adopt his policy framework in the short term.
At the upcoming Senate hearing, Timiraos noted that the toughest audience Warsh may face could be his future colleagues, who have already expressed doubts in subtle but clear ways. This makes the hearing not only a political procedure but also a critical juncture to test the practical feasibility of his policy proposals.
From a longer-term perspective, Timiraos pointed out that if artificial intelligence eventually boosts productivity, it might instead raise the neutral interest rate level: stronger growth expectations will drive investment up and savings down, necessitating higher interest rates to maintain economic balance.
This implies that, with the neutral interest rate shifting upward, even if current interest rates remain unchanged, the Federal Reserve’s constraints on the economy are actually weaker than in the past.
Timiraos pointed out that for Warsh, the crux of the issue lies in whether a policy bet on future productivity should be made before the data has been verified. In the current environment, the absence of a technological dividend and ongoing geopolitical conflicts driving up costs are undermining the feasibility of this logic.
Timiraos also noted that since Trump announced the nomination, Warsh has not made any public statements, while a series of shocks have occurred during this period. James Egelhof, Chief Economist for the U.S. at BNP Paribas, stated that the market expects him to adjust his views based on new circumstances.
Even among his supporters, attitudes have become more cautious. Joseph Lavorgna, former Senior Advisor to the U.S. Treasury Department, believes that artificial intelligence may indeed drive disinflation, but the war in Iran has changed the situation, and 'the Federal Reserve should wait.'
Timiraos also noted that Warsh himself has previously expressed a cautious stance. In a commentary article from 2023, he mentioned that the Fed's errors in inflation forecasting after the pandemic indicate that policymakers should not place all their bets on low inflation expectations or any single judgment.
Editor/KOKO