Warsh's Bid to Shrink Fed's $6.7T Balance Sheet Hits Limits
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- The Federal Reserve's balance sheet grew from roughly $800 billion before the 2008 crisis to a ~$9 trillion peak in 2022, then fell to $6.73 trillion after three years of runoff — though the Fed has resumed slowly expanding it since December 2025 stress in funding markets.
- Kevin Warsh, expected to be sworn in at the White House on Friday, has been a consistent critic of the balance sheet's size, telling his confirmation hearing that 'it took us 18 years to create this big balance sheet that's done quite a bit of harm.'
- Shrinking the Fed's holdings risks pushing up mortgage rates and longer-term borrowing costs, and could destabilize money markets if reserve demand isn't reduced first, per GMO's Roy Henriksson, who called significant near-term reduction 'incompatible' with rate cuts.
- The 2019 episode is the cautionary tale: the Fed had to sharply reverse its runoff when money markets seized up — a risk New York Fed's Roberto Perli flagged this week as extending 'not only for rate control but also for the stability of repo markets and, by extension, the Treasury market.'
- Fed Governor Michael Barr said in a speech last week that shrinking the balance sheet is 'the wrong objective,' arguing that proposals to do so 'would undermine bank resilience, impede money market functioning, and, ultimately, threaten financial stability.'
- Former Chicago Fed President Charles Evans was skeptical of proposals from Stephen Miran, Lorie Logan, and Darrell Duffie to reduce banks' demand for reserves, calling them 'Manhattan Project-like initiatives' and adding 'I have my doubts.'
Why it matters: Warsh's signature policy goal — paring the Fed's $6.7 trillion balance sheet — runs into direct opposition from officials like Governor Barr and the New York Fed's Perli, who oversee the operational levers. The binding constraint is reserve demand: contract the balance sheet faster than banks trim their reserves and the 2019 repo seizure could repeat, threatening to force the Fed to add liquidity precisely when Warsh wants to pull it away.
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