Independence, however, does not guarantee those outcomes.

The question that remains looks beyond the usual praise of central bank independence. It asks what happens when an independent central bank uses its discretion to suppress interest rates for an extended period and to engage in large-scale asset purchases, thereby injecting substantial amounts of base money into the economy.

What if such discretionary policy inflates asset values, pushes wholesale and consumer prices higher, and misallocates resources? If central bank independence can lead to such outcomes, is it still the best arrangement?

From Independence to Fiscal Dominance

Over the past two decades — and in earlier periods — the Federal Reserve has adopted policies that, in theory, central banks were designed to avoid. While it provided liquidity in crises, it then went on to suppress and hold interest rates near zero, it purchased and held exceptionally large quantities of government securities and created sizable reserve liabilities well beyond the period of crisis. These policies contributed to episodes of asset and price inflation and notable misallocations of resources.

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Also, the Fed has at times shown a reluctance to assert its authority to say “no” to monetizing the national debt. The ecosystem around monetary and fiscal policy — Congress, the Treasury, and Wall Street — has come to expect the Fed to make large purchases of Treasuries as a regular feature of monetary policy, not an exceptional response to extraordinary circumstances.

This pattern has left the central bank misaligned with its mandate and, in practical terms, less independent to pursue price stability, which is needed for maximum employment. The United States now faces, or is dangerously close to, fiscal dominance: a situation in which the central bank’s primary objective — stable prices — becomes subordinate to the Treasury’s financing needs.

The Scale of the Shift

To gauge where we stand, consider the following developments between 2005 and 2025:

• The gross federal debt has grown nearly fivefold, from about $7.9 trillion to $39 trillion.

• The Fed’s holdings of securities increased more than eightfold, from roughly $800 billion to $6.4 trillion.

• The Fed’s reserve liabilities ballooned about 350-fold, from $8.4 billion to $3 trillion.

• The Consumer Price Index rose roughly 1.7x.

• The Standard & Poor’s 500 index surged about 5.5x.

These numbers underscore how susceptible the Fed is to fiscal dominance and how far monetary policy has drifted from a clear, price-stability mandate. If the Fed is to remain independent in any meaningful sense, it must withstand the gravitational pull of fiscal commitments and market expectations that encourage it to fund government outlays or to “lean with” debt issuance through monetary expansion.

A Framework for Boundaries

What, then, is the prudent path forward?

The core proposition remains that central bank independence must be preserved, but that there must also be clear, enforceable boundaries around its discretion. The aim is to ensure that the central bank can navigate normal economic cycles without structural political entanglement, while operating under a credible, durable constraint that prevents the kind of unbounded monetization that could erode price stability and long-term economic health.

A practical mechanism for achieving this balance between independence and constraint is to establish fixed boundaries on the central bank’s ability to create reserves or set interest rates.

The boundaries should be broad enough to allow the central bank to respond to typical macroeconomic conditions, but firm enough to deter persistent policy misalignment with price stability and financial stability objectives. Within this framework, temporary exceptions would be permitted to address urgent, unforeseen circumstances, but with a clear, time-bound return to preset limits to ensure that the exception does not become the rule. To remain outside the boundaries would require Congressional approval.

In short, central bank independence remains essential, but should be complemented by credible, legislated guardrails. These guardrails would do the following:

• Preserve the central bank’s ability to conduct monetary policy through business cycles.

• Prevent it from becoming a perpetual enabler of fiscal expansion and financial leverage via unlimited asset purchases or reserve creation.

• Ensure that exceptions to the boundary rules are not a perpetual fixture but a temporary, auditable deviation with a clear path back to established constraints.

• Strengthen the independence of price stability by disincentivizing the use of monetary policy to finance the fiscal deficit on an ongoing basis.

The ultimate objective is not to eliminate reasonable discretion but to protect the central bank’s credibility and the nation’s long-run economic health. A central bank that operates within transparent, enforceable boundaries is less vulnerable to short-term political cycles or self-imposed drift that distorts asset prices and misallocates resources.

The Case for Legislative Constraints

Critics will no doubt argue that Congress cannot be trusted with the responsibility to set such boundaries.

In my view, money and credit fall within the purview of Congress, and if the Fed seeks to pursue experimental or extreme monetary policy as a persistent feature, it should be subject to congressional authorization. No system is perfect, and insulating a central bank from short-term political pressures should be a priority.

However, allowing a central bank or any committee to operate without boundaries erodes the very independence being sought by increasing its susceptibility to political influence and undermining the core mandates of price stability, maximum employment, and long-term economic growth and stability. If we accept that central banks should have discretionary authority, we must also accept that such discretion cannot be unfettered.

Independence Requires Boundaries, Accountability, and Transparency

This is not an argument against independence. It is a means of disciplining independence — one that recognizes the potential costs of unchecked discretion and seeks to protect both the central bank’s credibility and the public’s confidence in the monetary regime.

In the end, independence without accountability risks drifting toward a policy that undermines its own aims. Boundaries, combined with accountability and transparency, are the prudent path to a stable and resilient monetary order.

[1] See, for example, Alberto Alesina and Lawrence H. Summers, “Central Bank Independence and Macroeconomic Performance: Some Comparative Evidence,” Journal of Money, Credit and Banking 24, no. 2 (1993); Alex Cukierman, “Central Bank Independence and Monetary Policymaking Institutions—Past, Present, and Future,” European Journal of Political Economy 24, no. 4 (2008); Francesco Giuli, Serena Ionta, Valeria Patella, “Monetary/Fiscal Policy Dominance and Conflicts: Evidence from Crises,” Economics Letters 257, (December 2025).

Anticipating the course of the U.S. economy is always difficult, but the challenge is unusually great at present. The country is navigating trade and military conflicts, funding a massive and growing national debt, and dealing with a difficult transition in Federal Reserve leadership. These developments do not operate independently. They interact, shaping the outlook for inflation, interest rates, and economic growth and stability.

The near-term outlook may be stronger than many expect, but the forces supporting that growth may be reinforcing inflationary pressures, setting the stage for a more difficult adjustment later.

A Political and Fiscal Starting Point

A useful point of departure is the political setting in which fiscal and monetary decisions are being made. Congress, both parties, and the administration remain focused primarily on short-run political objectives, above all reelection. Accordingly, it is reasonable to assume that the nation’s chronic deficit and budgetary problems will continue to be deferred rather than addressed. That helps explain why near-term growth is likely to remain firm. It also suggests, however, that short-run economic support is being purchased at the cost of greater long-run vulnerability.

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Sources of Near-Term Economic Strength

The case for continued growth through 2026 is straightforward. Fiscal policy is expansionary and likely to remain so over the next year. The fiscal stimulus that began in January will continue to support GDP growth through the remainder of the year. The new tax cuts put in place in January will remain in effect. There will be no meaningful reduction in spending, and there will be a further increase in spending for the war in Iran.

These measures alone are sufficient to support aggregate demand.

The government sector, however, is not the sole source of momentum. The private sector is also contributing materially to the economy’s current strength. U.S. investment in AI will exceed $500 billion this year. Corporate earnings remain strong, and investment in other sectors should remain modest but steady. Consumers who have benefited from rising asset values will continue to spend out of those gains. Labor markets should remain steady as lower demand for labor is offset by lower supply. Labor productivity also remains a notable positive, at 2% or better, as technology continues to advance.

Taken together, these conditions form a strong case for continued expansion through 2026.

The Inflationary Character of the Expansion

The fact that growth may continue does not mean that the expansion is well balanced. The principal concern is that the same policy environment supporting activity is also imparting an inflationary bias. Expansionary fiscal policy in an economy that already has momentum adds demand to the system and raises the probability that inflation, asset and consumer prices, accelerates above a level consistent with long-term stability.

The distributional effects of this environment are also important. Consumers with rising asset wealth can continue spending, supported by appreciating portfolios and balance-sheet gains. Lower-income households, by contrast, face a more difficult situation. Their wealth is limited, and their incomes struggle to keep pace with inflation. Accordingly, some of what appears in the aggregate data as broad consumer resilience is, beneath the surface, more concentrated and less durable than headline figures suggest.

Energy, Trade, and the Risk of Stagflation

A second source of concern lies in the interaction of energy shocks and tariff-related disruptions. These pressures push inflation higher while also weighing on real growth — raising the risk of stagflation. The OECD estimates inflation will reach 4.2% later this year. If that occurs in the context of weaker trade efficiency, higher energy costs, and persistent fiscal expansion, the risk of stagflation becomes real.

Stagflation is especially difficult because it limits the effectiveness of any policy response. Measures designed to support growth may worsen inflation, while measures designed to restrain inflation may deepen the slowdown in growth. Cost shocks, trade frictions, and war-related pressures can become embedded in expectations, and should that occur, the line between a temporary inflation problem and a more persistent one becomes harder to maintain.

Fiscal Imbalance and the Debt Overhang

The fiscal backdrop intensifies these concerns. The federal deficit will exceed $2 trillion, and the debt will exceed $40 trillion by year-end. These figures are consequential not merely because of their scale, but because of the constraints and incentives they create. Persistent deficits place pressure on Treasury markets, reduce fiscal flexibility, and increase the likelihood that policymakers will rely more on monetary accommodation to ease the burden of financing. Over time, large and recurring borrowing requirements affect the relationship between the Treasury and the central bank, particularly when political incentives favor low nominal rates and continued spending.

The fiscal problem is therefore not separate from the inflation problem. It is part of it. Large deficits, when sustained into a period of already firm growth, make it more difficult to restore price stability without either tightening financial conditions significantly or tolerating further inflation. That tradeoff becomes more severe as debt levels rise.

The Dollar and External Pressures

The outlook for the dollar adds another layer of uncertainty. The U.S. dollar may remain temporarily strong as a safe haven, particularly in a world marked by geopolitical conflict and financial stress. But that strength should not be treated as permanent or self-sustaining.

Tariffs, persistent trade deficits, and possible shifts in capital flows tied to geopolitical developments could weaken the dollar over time. A weaker dollar would add to inflation pressure through higher import prices and could further complicate the already difficult balance between economic growth and price stability.

The Federal Reserve and the Problem of Accommodation

The Federal Reserve also is central to this outlook, and under present conditions it appears more likely to accommodate fiscal policy than to resist it. It has adopted the implicit mandate of ensuring liquid, smoothly functioning money and government debt markets, even if that means inflation remains above its announced 2% target.

The nominal Fed policy rate is 3.6%, but when adjusted for 3% inflation, the real policy rate is less than 1%. That is an accommodative setting in today’s economy, and it will become more so if inflation rises further, as it did last month, unless Fed raises nominal policy rates. The politicians and Wall Street, however, will put heavy pressure on the Fed to keep nominal rates low. While the Fed may resist cutting rates, it will also be very hesitant to raise them unless inflation moves above 4% and remains there for some period.

There is also the matter of balance-sheet policy. Since last December, the Fed has restarted its purchases of Treasury securities, adding more than $210 billion of securities to its balance sheet. In practical terms, that converts government debt into money. This is the essence of debt monetization. It makes fiscal deficits easier to finance and harder to discipline through market mechanisms.

The justification for these purchases is the need to preserve orderly market functioning. No policymaker wants disorder in money or Treasury markets. But market stabilization does not eliminate the tradeoff. If the Fed accommodates too much for too long during a period of large deficits and persistent political pressure, the likely result is not stable expansion. It is higher asset and price inflation in the near term and a more difficult correction later.

Outlook for 2026 and Early 2027

Sorting through the turmoil, the most plausible near-term outlook is that the U.S. economy will experience a mild inflationary boom through most of 2026. Real growth should exceed 2% as fiscal and monetary stimulus temporarily overshadow tariff and energy shocks.

Looking beyond this year, the outlook is less favorable. As the economy moves into 2027, inflation is likely to have risen and to remain elevated as the fiscal conditions worsen and lagged effects of higher energy prices, trade frictions, and war work further into the economy. If nothing is done to alter that trajectory, the Federal Reserve will eventually be forced to raise rates. And if it acts only after inflation has become more deeply embedded, the response will need to be more forceful, and the risk of a slowdown or recession greater.

This outcome is not inevitable. But it should be central to any serious assessment of the next two years. Strong growth in the near term may conceal the extent to which inflationary and financial pressures are accumulating beneath the surface.

New Fed Leadership and the Treasury–Fed Relationship

The coming transition in Fed leadership introduces an important additional question. Kevin Warsh, the nominee to replace Jay Powell as Fed Chair, has indicated a commitment to avoiding the outcome described above. He has proposed a Treasury–Fed accord, similar to the one established in 1951, under which the Fed would conduct policy independently of the Treasury’s debt-management needs.

That accord reestablished the principle that monetary policy would be guided by long-term price stability, not short-term fiscal convenience.

Warsh’s apparent goal is to honor that principle by having the Fed, with Treasury’s cooperation, shrink the size of its balance sheet, change its composition, and in doing so promote stable growth and moderate interest rates. It is a worthy objective, but it will be difficult to achieve given the current outlook.

During the 1950s, when the earlier Treasury-Fed accord was in force, federal deficits averaged a relatively low 3% of GDP, and Congress ran budget surpluses in three instances. Those conditions eased pressure on Treasury markets and gave the Fed more room to pursue price stability without having to raise rates aggressively.

The present environment is markedly less favorable. Deficits exceed 6% of GDP and are expected to remain elevated through the next decade. That makes it far more difficult to simultaneously shrink the balance sheet and keep rates low. Warsh and the FOMC nevertheless will face immense pressure from Congress and the administration to monetize the accelerating national debt and suppress rates. Thus, the challenge isn’t just the Fed’s to manage. It is political. Government deficits must be addressed first.

Conclusion

The U.S. economy may remain stronger in the near term than some expect. There is real momentum coming from fiscal policy, private investment, labor productivity, and spending. But strong near-term performance should not be confused with long-term stability. If deficits remain unchecked, if monetary policy stays too accommodative, and if inflation continues to build, the eventual adjustment will be harder, not easier.

The outlook is not fixed. Deficits can be restrained. Monetary policy can find better balance. Growth can continue without allowing inflation to become the defining feature of the expansion. But that outcome will depend on discipline in fiscal policy, discipline in monetary policy, and a willingness to look beyond the short run.

Chairman Lucas, Ranking Member Vargas, and members of the Task Force on Monetary Policy, Treasury Market Resilience, and Economic Prosperity, thank you for the opportunity to discuss “Revisiting the Treasury–Fed Accord.” The purpose of the original accord was to clarify roles and responsibilities between the US Department of the Treasury and the Federal Reserve System (Fed), both among the most important financial institutions in the world. The question of a new accord comes at a time when the US is running ever larger fiscal deficits, and monetary policy is under increasing pressure to help the Treasury smoothly fund those deficits; some fear this funding comes at the expense of too-high asset and consumer price inflation.

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I appreciate this opportunity to share my perspective on the topic, and I begin with my conclusion: An accord is needed, but I would emphasize that to be successful, it also will need the explicit support of Congress.

Over the past nearly two decades, the Fed and Treasury have expanded their roles within the economy. The Fed has been an increasingly significant buyer of Treasury debt, first to inject liquidity into the economy during crises, but then to support Treasury funding of an ever-larger national debt. The Fed’s support has helped keep interest rates stable and low. This situation is similar to what occurred in the period following World War II, when the Fed bowed to the Treasury’s insistence that the Fed help fund the nation’s debt at low interest rates.

In 1951, the Fed regained its independence from the Treasury by negotiating an accord that defined their respective roles and recognized that the Fed should focus on price stability and not be involved in fiscal policy. Circumstances today mirror that period, and the idea of a new Treasury–Fed Accord is a timely one.

The Fed’s Expanding Mandates

The Fed’s legislative mandate is to conduct monetary policy “so as to promote effectively the goals of maximum employment, stable prices, and moderate long-term interest rates.”1 In pursuit of these goals the Fed has remained mostly insulated, or independent, from short-term political control and influence.

In theory, when the economy is growing too slowly or below potential, the Fed can lower policy rates, as it judges necessary, to stimulate the economy to bring it back to potential. That’s the easy part of independence. When inflation is increasing, or threatening, because of too-rapid credit growth or related factors, the Fed can raise rates to slow the economy and bring it back to normal. That’s the harder part of independence.

When there is a crisis, a liquidity crisis for example, the Fed provides a temporary liquidity facility to preclude a possible collapse of the system. But then, as quickly as possible, the Fed is expected to remove the stimulus and return to a more normal policy, thereby minimizing the likelihood of unintended distortions within the economy.

In practice, however, the Fed has taken on an expanded role in financing the nation’s growing debt. Over time, an independent Fed, with no objection from Congress or administrations, has broadened its interpretation of the mandate, and at its own discretion has deepened and extended its role in fiscal matters and within the financial economy. This evolution toward fiscal policy is well illustrated in the way the Fed has operated since the great financial crisis (GFC) of 2008.

Although the GFC ended in 2009, the Fed continued its use of large-scale asset purchases of government and government-guaranteed debt—a practice called quantitative easing (QE)—into the next decade. This exceptional policy became one of the Fed’s standard operating tools, teaching Congress and the Treasury that it was a ready buyer of the federal debt. Between 2010 and 2015, for example, the Fed’s balance sheet increased from $2.3 trillion to $4.5 trillion. After the pandemic, the Fed again extended its QE program, increasing its balance sheet to nearly $9 trillion. Through these QE programs the Fed has come to dominate the Treasury debt market and has weakened the market’s role in controlling the government’s propensity to spend and borrow.

The Fed also purchased mortgage-backed securities during the GFC and still holds them today. These purchases further expanded the Fed’s fiscal reach by supporting the housing market, which at the time was under severe stress. While well intended, the purchases involved the Fed in a form of credit allocation, an issue that is proper to fiscal rather than monetary policy.

In 2019 and 2020, the Fed again engaged in large-scale asset purchases to support a highly leveraged government securities market that ran into difficulty from a significant spike in the securities repo rate. The purpose of the Fed’s intervention was to keep the Treasury market calm and operating smoothly, and to avoid economic volatility. It is noteworthy that the temporary liquidity intervention continued into 2020, well after the September 2019 repo rate spike.

Recently, the Fed began offering the banking industry a standing repo facility. This facility is a substitute for the discount window and is much easier for banks to access. It may be accurate to say that the facility makes the Fed the lender of first resort, the goal being to ensure that the Treasury market functions smoothly, remains highly liquid, and stays elastic as it grows ever larger.

My concern is that these Fed actions have left in their wake a less independent central bank, a less accountable market, and, I fear, a less constrained government budgeting process. There is now a deep-seated expectation on the part of the Treasury, Congress, Wall Street, and even some within the Fed, that the Fed has an implicit mandate to intervene as necessary to maintain asset values and a smoothly functioning securities market. The risk is that by embracing this mandate, the Fed also implicitly accepts the tradeoff of higher inflation in assets and consumer prices. For example, this past December the Fed lowered its policy rate and restarted QE, although inflation at the time remained close to 3 percent, already above the Fed’s 2 percent inflation target.

To get a further sense of the effects of the government’s growing debt and Fed’s expanded mandate, here are some economic trends that occurred between 2005 and 2025:2

• Nominal GDP increased two and a half times, from $13 trillion to more than $30 trillion, while real GDP has increased one and a half times.

• The Consumer Price Index (CPI) almost doubled (increased 1.7 times).

• The gross federal debt increased 4.8 times, from about $8 trillion to over $38 trillion, exceeding 100 percent of GDP.

• The Standard & Poor’s 500 index increased 5.5 times.

• The median price of a home increased 1.6 times.

• By contrast, real weekly earnings, wage and salary, increased 1.1 times over that same period.

The above numbers show how significantly large government spending and the Fed’s monetary accommodation affected US asset inflation and the CPI over a relatively short period.

Gross federal debt will reach $40 trillion this year. The US will add another $2 trillion to its debt this year and each successive year for many years to come. Should demand for Treasury securities among foreign or domestic buyers slow relative to this increasing supply, it would put upward pressure on interest rates. The Treasury would most likely expect the Fed to increase purchases of the debt to keep markets calm and prevent rates from rising.

This past fall, for example, the secured overnight financing rate rose above the Fed’s target rate, reflecting, in part, tightening liquidity conditions in the Treasury market. Not long after this, under the heading of assuring ample bank reserves, the Fed restarted QE by purchasing $40 billion per month of government securities. These purchases average close to 25 percent of the monthly increase in the nation’s debt. This action adds liquidity to the market and helps contain the cost of debt-financed government expenditures. But it also accelerates the growth in bank deposits and the money supply and, over time, contributes to asset and price inflation.

Had the Fed chosen not to purchase the $40 billion of Treasury securities per month, would a successful Treasury auction have required higher interest rates? Given the Fed’s implied mandate to assure a smoothly functioning Treasury market, did the Fed expand its balance sheet to accommodate this mandate instead of moving inflation more deliberately to the 2 percent goal? These are fair questions given the rapidly expanding national debt. Under current conditions, it seems likely that pressure will only build for the Fed to monetize future debt, thereby leading to fiscal dominance.

A New Treasury–Fed Accord

So long as the Fed continues to monetize the nation’s deficits, asset and price inflation will follow. Stable prices cannot be achieved without fiscal and monetary policy discipline. Fortunately, there is a playbook that points toward a solution. After World War II, the US had a similar problem. The federal debt was over 100 percent of GDP, and Treasury expected the Fed to keep interest rates low in order to keep the cost of the federal debt low. Inflation was also increasing, however, and the Fed could no longer both suppress interest rates on Treasury debt and control inflation. Treasury rates would have to be allowed to increase, raising the government’s costs of debt.

The conflict between the Treasury and the Fed was tense, so much so that President Truman called the entire Federal Open Market Committee (FOMC) to the White House to resolve the conflict. Ultimately, a compromise was reached in the form of the Treasury–Fed Accord of 1951, which confirmed the Fed’s right to set interest rates independent of the Treasury.

A new Treasury–Fed Accord that scales back the Fed’s role in the Treasury debt market is needed. The Fed must be allowed to focus on price stability, in terms of both assets and CPI. QE should not be a means to monetize Treasury debt. Importantly, also, such an accord does not have to shock the economy. It can be implemented over multiple years, allowing time for the government to reduce its deficits and for the Fed to concentrate on its price stability mandate. A reduction in the deficit from 6 percent to 3 percent, for example, would greatly reduce pressure on interest rates, facilitate private investment, and enable the economy to grow out of its debt dilemma.

To give you a picture of how this could evolve, consider the 10 years following the 1951 Accord. The debt-to-GDP ratio fell from 90 percent to 55 percent, and government deficits over the period averaged below 3 percent of GDP. Real GDP growth averaged near 4 percent while inflation averaged less than 2 percent. Such outcomes benefit all.

Admittedly, today’s economy is different from that of 1951. While the fundamental problem is the same, which is that the nation’s debt relative to income (GDP) is excessive, in the 1950s deficits were less severe, with surpluses in some years. Today it will be difficult to throttle back the nation’s growing deficits, which makes it difficult for the Treasury to fund the ever-rising debt without Fed backup. The pressure to monetize the debt will only increase as annual deficits continue.

Finally, assuming the deficit problem goes unaddressed, a last option would be for the Fed to cease monetizing the debt, thereby slowing the growth of bank reserves and letting interest rates rise, perhaps substantially. Such an option would mirror the policies of the FOMC in late 1979 under Paul Volcker’s leadership, in which the FOMC restricted the growth in reserves, letting interest rates rise to double-digit levels. Such a policy would significantly disrupt the Treasury market and plunge the economy into a deep recession. Such an action might cause Congress to more aggressively address the debt problem, but it also could quicken the demise of an independent Fed.

Thus, a new accord in which the Fed’s primary mission is price stability that enables maximum employment, and in which the Treasury is responsible for the management of the nation’s debt, is of vital importance. It also is imperative, however, that Congress control the growth of the nation’s debt, and that the deficit be reduced to closer to 3 percent of GDP, a far less burdensome level than it currently carries. Under such an accord, history suggests that the US debt-to-GDP ratio would decline, investment levels would rise, and real economic growth and income would increase.

This quote is from Paul Warburg, one of the architects of the Federal Reserve System, who was referring to the years just prior to the market crash of 1929. While we live in a different era, the warning is timeless. The façade of prosperity can be premised on policies whose consequences sometimes are too long ignored—and deadly. The U.S. economy today is the world’s greatest, but its fiscal and monetary policies are excessive and unsustainable, and because of that, they have placed the nation’s economy on thin ice.

The Dance Continues

For the moment, the economy continues to grow moderately. The year just finished saw better than 2% GDP growth, and for 2026 Congress has provided additional tax incentives and spending intended to assure growth through the year. As a result, the U.S. has experienced a record-breaking stock market, rising asset values and high housing prices, and consumers are taking advantage of these benefits to borrow against rising values and expand consumption.

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Also, while investment in capital goods is mixed, there is strong capital demand for AI investment, projected this year to reach $2 trillion globally and over $500 billion for the United States. The volatility of tariffs has added uncertainty to the economy, but their effects appear to be less significant than originally feared. Finally, the government is deregulating American businesses, thereby promoting innovation. This all suggests continued growth through this year at least.

Underpinning this economic story, however, have been highly stimulative fiscal and monetary policies that carry large risks to the nation as debt levels rise and the Federal Reserve (Fed) prints money to monetize that debt. At the start of this year, a series of tax incentives took effect: tax exemptions on employee tips and overtime pay, reduced taxes for senior citizens, tax deductions for car purchases and tax breaks on capital expenditures, all designed to boost growth. As a result, during 2026, the federal government again will spend over $6 trillion but fund only $4 trillion of that spending out of current revenues.

Complementing this fiscal expansion, and despite rhetoric to the contrary, the Fed restarted its accommodative monetary policy. The real fed funds rate is 1% (the Fed has lowered the nominal rate to near 3.5% while Consumer Price Index inflation is 2.5%.) The neutral, or equilibrium, policy rate is likely above 1% as U.S. productivity gains, returns on capital and corporate demand for capital have likely pushed the equilibrium real rate higher. Accompanying lower interest rates, the Fed has resumed quantitative easing operations, purchasing more than $40 billion per month of new government securities, thereby rapidly expanding its monetary base.

Fiscal Dominance Effect

These policies are designed to run the economy hot. However, while bullish and exciting in the moment, these policies come with risks.

The federal debt has exploded; liquidity demands to fund this debt have increased proportionately. The Fed once again has stepped forward, determined to assure a smoothly functioning, liquid and stable Treasury market. It will succeed in doing so, but at the cost of reallocating resources and undermining its primary mission, price stability.

Much is made of attempts to make the Fed bend to political pressure, but long before its independence became an issue, it had already surrendered much of that independence. For decades the Fed repeatedly intervened in nearly every U.S. money and financial market crisis, providing needed liquidity and making markets temporarily stable. It intervened in markets during the Great Financial Crisis, the pandemic and the 2019 bailout of the highly leveraged government securities market. Unfortunately, in each of these instances, the Fed left emergency measures in place long after the crisis had passed. Its actions reduced market accountability, changed market incentives and promoted speculation.

These actions also have changed incentive for the federal government, which has come to expect the Fed to ensure that the exploding Treasury debt market remains liquid and runs smoothly with low, stable rates. Beyond its mandates regarding price stability and employment, the Fed implicitly is determined to do “whatever it takes” to meet that expectation. The result has been dramatic. Consider, for example, all that happened between 2005 and 2025:

• Nominal GDP increased two and a half times, from less than $13 trillion to over $30 trillion, while real GDP increased one and a half times.

• The CPI index almost doubled.

• The gross federal debt increased nearly 5 times, from $7.9 trillion to $38 trillion.

• The Standard & Poor’s 500 index increased five and a half times, more than the national debt

• In contrast, real weekly earnings, wage and salary, increased only 1.2 times.

These numbers show the effects of voluntary fiscal dominance. If this trend continues, the U.S. will add $2 trillion or more of debt to its balance sheet each year well into future, and the Fed will print the base money to assure funding. For example, it has just committed to buying $40 billion of Treasury debt each month. The party continues, but another crisis is inevitable if the U.S. stays on this path.

Avoiding the Break

Without change, the ice on which the economy rests must break. Kevin Warsh, President Trump’s nominee to chair the Fed, recently proposed establishing a Fed–Treasury policy accord, like that established following World War II, the last time the debt-to-GDP ratio exceeded 100%. At the time, as now, the Treasury wanted the Fed to keep interest rates and the cost of the federal debt low. Inflation was rising, however, and the Fed couldn’t both peg low rates and control inflation. The conflict between the Treasury and the Fed was tense, but ultimately, they reached a compromise in the form of the Fed–Treasury Accord of 1951, which freed the Fed to pursue its price stability objective.

Over the following decade, the U.S. debt-to-GDP ratio fell from 90% to 55%. Fiscal deficits averaged close to 2% of GDP. Fed policy rates averaged to 2.5% and were never higher than 3.5%. The unemployment rate averaged 4.6%. And impressively, inflation remained near 2% while real GDP growth averaged 4%.

Thus, the new Fed chair, working with the Treasury, could establish a new Fed–Treasury Accord of 2026. Under it, the Treasury and the administration, working with Congress, could carefully reduce the deficit from nearly 7% of GDP to 2% or 3%. With less debt to fund, upward pressure on interest rates would ease, allowing the Fed to pursue real price stability, and the Treasury could steadily grow out of the debt dilemma. As history suggests, the nation would enjoy renewed, sustainable economic growth. While the postwar economy was different from today’s, there is no reason that a renewed discipline around fiscal and monetary policy couldn’t provide similar outcomes, before the ice breaks. The U.S. cannot continue its current path, consuming more than it produces and creating and monetizing enormous fiscal and international deficits, without devastating consequences. A new Fed chair and Treasury secretary are well positioned to deliver results. The U.S. is the greatest economic success story in all of history, and if it chooses, it will remain so.

A new accord is needed and will require cooperation from Congress as well as Treasury if the U.S. is to assure price stability, maximum employment, and moderate long-term interest rates. Congress must carefully but steadily reduce its budget deficits and ease the pressure on Treasury to issue ever larger amounts of new debt. If Congress fails to do this, Treasury must respect the Fed’s right not to purchase quantities of Treasury debt beyond levels consistent with price stability (both asset and consumer). Failure to reach such an accord will almost certainly lead to increased market volatility, constant inflation, and slower long-term growth. The first Accord served the Nation well and its lessons should not be ignored if we hope to secure long-term economic success.

By comparing recent proposals to ease capital requirements, improve the communication of examination findings, and clarify regulatory objectives with similar efforts from prior decades, we can better see both the potential gains and risks of deregulation, as well as the importance of proceeding at a deliberate pace.

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Capital Requirements: The First Level of Regulatory Relief

Bank regulatory relief efforts nearly always begin with capital requirements. Banking is fundamentally a leveraged business: the greater the leverage, the more credit available to borrowers and the higher the potential returns to investors. It is therefore not surprising that current policy proposals aim to simplify the most intricate risk-weighted capital frameworks, reduce required bank capital levels, and allow capital to move more freely between insured banks and uninsured affiliate firms.

The goal is to accelerate and facilitate the deployment of capital to productive uses. Congress is also considering proposed legislation that would lower capital requirements for smaller banks in an effort to level the competitive playing field between small and large banks.

Rethinking the Bank Examination Process

Changes to the current bank examination regime are also underway. Regulators are more precisely defining “material findings” related to financial or operational weaknesses identified during on-site examinations, particularly in areas such as liquidity risk management, governance, and risk appetite frameworks. While material findings are meant to address matters of significant risk and consequence, some observers note that excessive procedural requirements have crowded out strategic risk management findings in favor of box-ticking compliance.

The goal is to preserve the discipline that prevents fragility while reducing processes and redundancies that inhibit performance and innovation.

Living Wills and the Limits of Procedural Resolvability

Living wills, or orderly wind-down plans, also feature prominently in the debate over regulatory burden reduction. The Dodd–Frank era vaulted these instruments into the regulatory toolkit as a cornerstone of bank and bank holding company “resolvability.” Yet critics—including academics, think tanks, and regulators themselves—argue that living wills have proven expensive to prepare and are rarely used in crises to execute orderly liquidations. In practice, crisis resolution still falls on government-backed remedies rather than market-driven wind-downs.

As a result, there is growing discussion about rethinking, or even trimming, living will requirements in favor of more credible bank resolution and bankruptcy processes, rather than procedural rituals that are never invoked.

What Past Banking Crises Continue to Teach

Against these reforms, however, it’s crucial to remember the structural lessons of past cycles. The literature on banking crises—bolstered by industry voices and policy analyses—emphasizes a persistent truth: Crises tend to expose policy missteps as much as bank misjudgments. The roots of instability are often macroeconomic and policy-driven and are shaped by inflationary dynamics, monetary policy stances, and fiscal impulses that distort risk perceptions and pricing.

When policy ignites asset price booms and is later followed by somber rate shocks, banks can accumulate portfolios that look resilient on paper, due to opaque asset valuation and related capital calculations, but are fragile in reality. No amount of deregulation can shield banks and the financial industry from these forces. It is the unexpected, no matter the source, that exposes bank weakness and triggers crises.

When Capital and Liquidity Fail Under Stress

From this history and research, a lesson too often ignored is that under sudden stress, institutions that appear to be on solid ground can suddenly fail. Capital foundations reveal themselves to be shallow. Liquidity that once seemed abundant becomes visceral. In crisis after crisis, heavy reliance on liquidity backstops—such as deposit guarantees and bailouts—undermined both market and policy discipline.

The most recent 2023 episode involving several mid-sized and large banks illustrated how a mismatch between perceived safety nets and actual capital and liquidity positions can trigger rapid runs by uninsured depositors when policy shifts abruptly and confidence in the market erodes. Subsequent government interventions, while stabilizing in the short term, underscored the unintended and unwanted socialization of losses and further blurred the line between private risk-taking, accountability, and public protection.

Too Big to Fail and Persistent Market Distortions

The case for simpler, more transparent safeguards is inseparable from concerns about Too Big to Fail. The TBTF dynamic remains a central policy concern: The implicit guarantee that the largest and most interconnected banks will be rescued in a crisis fosters moral hazard, distorts competition, and concentrates systemic risk. TBTF institutions have also been used to justify the extensive regulations imposed on the industry, as an off set to their exemption from the ultimate market test: failure.

Reducing regulatory distortions that shelter TBTF institutions, while preserving robust resolution mechanisms rather than paper exercises, would arguably strengthen market discipline and level the playing field for smaller banks that face disproportionate scrutiny despite posing less systemic risk.

A Prudent Path Forward for Regulatory Reform

So, what might a prudent path forward look like in practice? A balanced approach would pursue targeted regulatory relief while preserving core safety nets and strengthening capital in ways that are both transparent and testable under stress. That balance points to several practical steps:

• Simplify capital standards.

  Move away from overly complex risk-weighted assets toward a stronger, more straightforward leverage metric, supported by credible loss-absorbing buffers and well-calibrated stress-testing. Use targeted risk-based capital overlays only where they demonstrably improve resilience and transparency. The goal is to reduce complexity, improve comparability, and keep the focus on true loss-absorbing capacity. In short: simplify where possible, but do not weaken the spine of capital that underwrites resilience.

• Demand credible resolution capabilities.

  Rather than relying on living wills that have not once been used for crisis response, insist on transparent FDIC resolution procedures for all banks and bankruptcy procedures for bank holding companies. Any reduction in regulatory burden should not undermine the system’s ability to unwind failing firms in an orderly and predictable manner.

• Align liquidity with bank and industry solvency.

  Liquidity runs are driven by fears about solvency. Effective reform should combine meaningful liquidity measures—not brittle rules—with transparent and credible capital standards, ensuring that banks cannot merely rely on backstops to mask underlying liquidity and capital weakness.

• Reduce redundancy, not oversight.

  Streamline regulatory structures by consolidating data within a single agency while ensuring access by all agencies. Apply consistent, cross-cutting standards to bank risk management, governance, and accountability.

• Seek a more market driven and level playing field.

  Propose reforms that curb subsidies and implicit guarantees that distort competition. A more explicit, credible resolution framework, paired with some degree of loss-sharing for uninsured creditors, would help restore market discipline across the banking landscape.

• Ground reforms in economic fundamentals.

  Recognize that macroeconomic policy—fiscal trajectories, inflation, and monetary regimes—shapes risk-taking as much as micro-prudential rules do. The consumer and investor communities respond to policy signals, capital costs, and perceptions of the financial system’s safety, and, thus, the degree of regulatory reform must account for those realities.

Why Deregulation Alone Cannot Deliver Stability

A note of caution should accompany any effort to reduce regulatory burden. Deregulation, while often productive, does not eliminate risk or neutralize policy mistakes. History and academic literature tell us that if carried out carelessly, deregulation, however attractive for efficiency and growth, can lead to larger and more costly crises down the line.

Five decades of banking crises repeatedly show that systemic stability hinges not on predicting every shock but on understanding that market and policy failures create fragility, and stability rests on the industry’s ability to absorb the unexpected. The rolling recessions of the 1980s, the financial and economic crisis of 2008, and the banking panic of 2023 all illustrate the same pattern: Easing regulations and enabling greater risk-taking without reinforcing the industry’s underlying infrastructure—capital, credible resolution, and accountable risk-taking—creates fragility.

Policy accommodation without market and regulatory guardrails may invite a repeat of past cycles that deliver short-term gains often at the cost of higher medium-term losses.

Stability as the Foundation for Sustainable Growth

Finally, the current enthusiasm for regulatory relief presents an opportunity. Bank supervisors have signaled openness to modernizing and streamlining the regulatory framework. Yet the enduring lesson of decades of financial crises remains: The system’s durability rests on a disciplined alignment of capital, credible resolution, and transparent incentives.

Regulating for stability is not anti-growth; it is pro-growth, preserving confidence, channeling capital to productive uses, and avoiding or mitigating the boom-and-bust cycles that hollow out the real economy. As policymakers, practitioners, and observers move forward, their efforts should focus on how reforms will strengthen the market’s infrastructure—not simply repaint its façade.

Looking to 2026, the consensus among private forecasters and international institutions has been adjusted up, showing GDP growth above the 2% mark, often in the 2.2% to 2.6% range. The core growth drivers are threefold: sustained fiscal and monetary policy stimulus in an election year, resilient household demand, and AI investment that keeps business capex elevated even as other investment categories remain unchanged or cool. Finally, regulators will continue their more risk‑tolerant financial framework, with proposals to ease certain bank capital requirements and a shift to streamlined supervision. If realized, these forces will boost credit creation and growth in 2026. However, they also introduce expanded vulnerabilities as the economy’s risk profile and reliance on ever greater leverage behind the growth take their toll on the nation’s credit infrastructure.

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Election-year fiscal stimulus and its demand implications

As 2026 unfolds, political incentives are aligned toward expansionary fiscal measures. Following 2025 legislation, tax relief, rebates, and targeted spending on infrastructure and defense projects are expected to lift aggregate demand in the near term, supporting employment, higher output, and confidence among middle-class households and firms. Historically, incumbents in election years lean away from austerity, and 2026 appears to fit that pattern. The magnitude and composition of this stimulus will be decisive for whether growth accelerates toward the upper end of forecasts or remains more modest.

That said, the Federal Reserve will play a major role in how the impending government spending, large deficits, and debt service costs will be managed forward. Recent history suggests that the Fed will accommodate fiscal policy. It is again engaged in quantitative easing (QE), purchasing $40 billion per month of Treasury debt, under its ample reserves framework, keeping interest rates subdued, an essential ingredient in assuring a favorable growth outlook. The Fed will be under enormous pressure to carry through on its part of the fiscal-monetary policy framework. However, this comes with risks beyond 2026. Should accommodative fiscal and monetary policies be extended too long, they raise the risk of future asset and price inflation, and ultimately the painful tightening of financial conditions as the Fed scrambles to restore price stability. Politics often favors one-off measures to raise near‑term GDP, but the durability of gains will depend on the policy mix and the degree to which higher debt burdens crowd out public and private priorities.

Tariffs, geopolitics, and global demand

Tariffs weighed on some sectors in 2025, but the global demand picture has shifted in ways that cushion the U.S. economy. Across the world, geopolitical pressures have spurred larger defense and infrastructure outlays, heightening demand for high‑tech equipment and capital goods, areas where the U.S. has strong competitive positions. Japan’s late‑2025 defense budget, for example, reflects a broader shift in Asia toward greater preparedness, while European partners have expanded defense and infrastructure spending, and NATO has reaffirmed a strong security commitment. These dynamics support U.S. defense and semiconductor manufacturing, providing a counterweight to tariff-induced drag on imports and exports.

International bodies, the IMF for example, have stressed that tariffs’ direct drag on U.S. output remains but are more modest than originally feared. The Wall Street Journal, quoting the Penn Wharton Budget Model, noted the U.S. effective average worldwide tariff is 10%, while that for China is just above 37%. Also, the rest of the world has been restrained in its response to U.S. tariffs, thus mitigating the hit to world and U.S. growth that was earlier expected. This response on the part of U.S. trading partners, combined with their stepped-up spending in response to global geopolitical events, is persuasive evidence that while trade frictions will persist, they are unlikely to derail the expansion in 2026, though some sector-specific effects will remain.

Middle-class consumption and housing wealth: the leverage channel

A defining feature of 2026 will be household-funded consumption through housing wealth. In recent years housing asset prices have risen sharply and have been especially beneficial to households holding substantial homeowners’ equity. As reported by Meredith Whitney Advisory Group, for example, the average cash-out refinance in recent quarters has been growing at a rate near 6-7%—a signal that households are extracting liquid funds as a cushion against slow income growth and tighter credit conditions elsewhere. The share of refinancings that are cash-out rose meaningfully as homeowners sought liquidity for discretionary purchases and debt consolidation. HELOC activity also remained robust, buoyed by large equity cushions and accessible borrowing baselines in many markets. This leverage channel will help sustain consumer spending even as wage earners struggle with inflation, or when other forms of credit remain comparatively costly. The upshot is a consumer sector that can maintain momentum through 2026 even as a mixed labor market challenges middle and lower-middle income groups.

But the leverage channel also carries risks. Delinquencies in consumer credit have risen in pockets of the market, highlighting that not all households are equally insulated. Should interest rates rise and the economy slow, or if incomes fail to match or exceed inflation and debt service becomes relatively more burdensome, the outlook for consumption and growth could falter quickly.

AI and high-tech investment: A boon to growth

Investment in artificial intelligence and related high‑tech infrastructure remains a bright spot for 2026. Goldman Sachs and other sources, for example, are projecting that global AI spending will approach the $2 trillion threshold, with data centers, GPUs, cloud services, and AI software driving capital outlays. U.S. corporations—led by major technology players—are also expanding their AI capacity and reinvesting earnings into AI-enabled platforms with spending estimates exceeding $500 billion. This not only boosts IT and semiconductor demand but is expected to have effects on productivity and profitability, supporting further investment forward.

IMF analyses also have suggested that AI-driven productivity gains can offset some tariff-related weakness by lifting efficiency and growth in output. Private-sector reporting highlights the wealth effects from rising AI‑led earnings, which can feed further spending through higher asset valuations and increased confidence. While there is concern that AI could impede employment growth, history suggests that over time the gains in productivity and new employment opportunities are worth the transition costs. A more immediate risk is that AI enthusiasm could overshoot fundamentals and eventually lead to a valuation correction.

Deregulation, open markets, and risk-taking

A defining feature of 2025 which is likely to accelerate in 2026 is the embrace of more open, less regulated markets. There has been, for example, an easing of bank capital requirements and a shift toward more streamlined, risk‑based supervision, with some areas permitting self-certification for non-critical compliance. Such changes, if expanded in 2026, will raise banks’ ability to leverage their balance sheet, ease underwriting standards and accelerate credit growth, particularly in mortgages, consumer finance, and higher-risk corporate finance.

This more laissez-faire economic philosophy, while it will accelerate consumption and investment, and help keep credit and economic growth buoyant, comes with its own risks. It will almost certainly raise the risk profile of banks and related capital market institutions. If it leads to less rigorous credit standards, it will raise the probability of mispricing evolving risks. With higher leverage, and eventually greater vulnerability to unanticipated shocks, markets can quickly become unsteady. The most likely path for 2026, therefore, is more credit access, faster growth, and the acceptance of a higher financial risk environment, especially as 2026 progresses.

Growth outlook and medium-term risks

Taken together, the forces described above point to a stronger‑than‑2025 performance in 2026, with forecasters generally placing GDP growth in the mid‑2% territory. IMF and OECD projections hover near 2.0%–2.5%. The composition of growth is likely to be led by resilient consumer spending—underpinned by housing wealth and favorable fiscal signals—and by business investment in AI and IT infrastructure, augmented by government demand from infrastructure and defense initiatives.

But there is a meaningful caveat. The same drivers that push growth forward—elevated leverage, abundant credit, and asset-based wealth effects—also sow the seeds of fragility. Distributional effects are also a critical piece of the story. A possible K-shaped pattern—where asset-rich households prosper while others struggle with stagnant wages and higher borrowing costs—could shape consumption, savings, and financial stability.

The federal government’s debt stack has grown rapidly, and by late 2025 the debt trajectory raised concerns about longer‑term inflationary pressures and tax responses. Corporate leverage has risen in parts of the economy, and delinquencies in consumer credit have crept higher, especially among households with tighter budgets. In other words, the economy in 2026 could be robust in the near term, yet more sensitive to shocks in the years that follow if leverage and financial vulnerabilities intensify.

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It is surprising that the media failed to ask for more detail as to why restarting large open market purchases of U.S. Treasuries was not a restart of quantitative easing (QE), a monetary policy action that perhaps should have required a FOMC vote. The purchase of $40 billion per month of Treasury securities, if it continues through May, as Chairman Powell hinted, would be an annual increase of nearly 7 percent in bank reserves and if continued for all of 2026, would be an increase of 16 percent. Such increases will exceed projected GDP growth over these periods and are a substantial increase in liquidity for the financial system. Such purchases through May would equal 10 percent of the government’s deficit, and if continued through year-end, would equal almost 25 percent.

The Fed indicates that the purpose of these actions is to preclude possible market disruption around tax payment dates, such as April 15, or following large Treasury auctions when Treasury’s general account at the Fed increases and bank reserves decline, reducing market liquidity. However, these are temporary disruptions and can be managed effectively through temporary actions such as the Fed’s discount window or repo operations.

It is a delicate balance for the Fed to choose policy that provides for non-inflationary growth when the government is incurring large and persistent deficits and insisting that interest be kept low. The reopening of QE will, on the margin, increase demand for Treasury debt and suppress short-term rates. If, because of this action, long-term rates rise, the Fed will confront pressure to re-engage in yield curve control by buying long-term Treasuries to keep these rates from rising and slowing the economy. It’s a slippery slope the Fed is traversing, and the outcome is uncertain.

The Fed was designed knowing of the stress that fiscal authorities would place on monetary policy, and over the next year this stress will be acute. The nation’s debt will soon be $40 trillion, the deficit will remain close to $2 trillion, interest on the debt will approach $1 trillion, and all must be funded. At the same time, the demand for capital to meet the needs for AI and other private investment projects will also grow. The Fed will be under enormous pressure to use its ample reserves and administered rate framework to conveniently accommodate all needs. Unfortunately, since resources are limited, the risk to the economy is higher asset and price inflation and the misallocation of resources. The Fed’s most recent action has set the course for next year and beyond, and it is uncertain as to where it will end.

With the onset of the GFC, the Fed’s response, as expected, featured the provision of significant liquidity through large-scale asset purchases (quantitative easing, or QE) and the suppression of short-term interest rates to stimulate the economy. The expectation at the time was that the balance sheet and the FF rate would eventually go back to pre-crisis levels, within an adequate reserves framework.

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However, as the crisis receded, the Fed’s policy stance remained highly expansionary, with several rounds of QE and the suppression of both long- and short-term interest rates. From the mid-2000s to the present, the Fed’s reported total assets have risen from under $1 trillion to about $7 trillion. Its portfolio of Treasuries and government-guaranteed securities has expanded from roughly $740 billion to $4.2 trillion, and reserve liabilities have increased from about $9 billion to approximately $3 trillion. This outsized growth in its balance sheet—initially driven by a policy experiment—has caused the Fed to change its policy framework from an adequate reserves framework to a new ample reserves framework.

Under the ample framework, the Fed maintains a large stock of bank reserves, reducing the need for active balance-sheet adjustment, steering policy primarily through administered rates. Coincidentally, the Fed’s operating toolkit broadened beyond QE to include interest on reserve balances, overnight reverse repos and a standing repo facility. The Fed’s footprint within the nearly $12 trillion repo market has also grown dramatically. This new framework developed as an iterative process without a deep analysis of its long-run efficacy or a comparison of its effectiveness relative to that of the framework it replaced.

In time, fiscal authorities realized that QE, the suppression of interest rates, and the growth in bank reserve balances could be used to facilitate the financing of federal debt under the new ample reserves regime. Today U.S. gross federal debt as a percent of GDP is at a historically high level of 120% and is projected to rise significantly higher over the coming decade. Thus, the Fed’s policy and these emerging trends have brought new challenges to the Fed in balancing its relationships with the Treasury and Congress. First among those challenges is that the Treasury’s funding needs may eventually dominate the Fed’s monetary policy.

Notable recent policy episodes highlight this risk. In September 2019, for example, a decline in bank reserves coincided with a sharp rise in repo rates, reflecting liquidity frictions in Treasury debt balances and market flows. The episode prompted the Fed to renew QE and heightened its resolve to assure an adequate liquid market for Treasury securities. This experience underscores the increasing interdependence of Fed balance-sheet policy, market liquidity, and Treasury funding demands in an environment of high and rising public debt.

In this regard, Dallas Fed President Lorie Logan recently proposed that within the ample reserves regime, the FF rate policy target should be replaced with a tri-party general collateral repo rate target. She correctly noted that FF market activity has diminished relative to the secured-repo markets as the latter has grown in size and importance. She argued that such a change would improve policy transmission and the resilience of the Treasury debt market. However, others have observed that an ample reserves balance sheet could reflect the government’s influence on the Fed to monetize its mounting debt. Consistent with this observation would be for the Fed to suppress its target repo rate to keep government borrowing costs low. Both actions would undermine the Fed’s ability to achieve long-term price stability.

As a comparison, history offers lessons in the usefulness of the adequate reserves framework. Post-WWII, for example, saw the U.S. carry a debt burden like today’s, and the Treasury expected the Fed to manage monetary policy and peg interest rates to keep interest costs low. Although controversial at the time, the Fed defied those expectations and stayed with a disciplined reserve policy, enabling it to focus on price stability while the Treasury managed debt issuance. The late 1970s again demonstrated that a credible, disciplined reserves policy was essential to curbing inflation, as seen under Paul Volcker’s leadership. Such historical periods underscore the importance of disciplined monetary governance that is separate from the Treasury’s debt management in the interest of macroeconomic stability.

While monetary policy can be conducted under either an ample reserve or an adequate reserve regime, the question remains as to which serves the nation’s long-term financial stability best. The policy risks seem high as the Fed embraces an ample-reserves policy framework while the nation’s debt continues its climb. Given these risks, the Fed should undertake a more systematic review of which framework yields the best long-term results. Such a review should include:

• A careful, transparent appraisal to judge whether an ample or an adequate reserve regime would better serve the Fed’s dual mandate in the current debt and liquidity environment.

• A structured analysis comparing costs, benefits, transmission channels and resilience under each regime, with explicit attention to policy signals, transparency and protection against fiscal dominance.

Finally, any framework chosen should include governance safeguards that preserve the Fed’s ability to pursue its inflation and employment mandates, leaving Congress and Treasury responsible for managing the national debt.

Crypto exchanges such as Coinbase currently offer “rewards” on customers’ stablecoin balances, but the banking industry would like to put an end to that. When the loudest voices calling for new restrictions are the incumbents facing competition, skepticism is usually warranted. Still, the question of stablecoin yield is more complicated than a simple fight between banks and crypto. Competitive markets generally benefit consumers, but the implicit guarantees built into our financial system create a moral hazard of privatized profits and socialized losses in the form of bailouts.

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So when crypto firms led by Coinbase launched a lobbying campaign with the catchy URL NoMoreBailouts.org, urging customers to “protect their rights” and “stop big banks from coming after you crypto rewards,” I was intrigued. And while it’s true the big banks may be coming for your crypto rewards, what’s harder to parse are the relative risks stablecoins impose on the financial system as outlined in the GENIUS Act—the law that set the regulatory framework for dollar-backed payment stablecoins in the United States.

As part of the compromise to get GENIUS across the finish line, Congress prohibited stablecoin issuers from paying interest or yield to holders, while remaining silent on distributors such as exchanges and wallets. The “rewards” some platforms advertise typically come not from the issuers themselves but from distributors—by passing through a portion of the income earned on stablecoin reserves, by funding promotions from their own revenue, or through lending and other incentive programs.

At first, it looked like the crypto lobby had outfoxed the banks with this “loophole.” Now, the bank lobby is pressing Congress to close it as debates over the next major piece of crypto legislation, the CLARITY Act, drag on. But the banks’ resistance to stablecoin rewards is just one facet of a much broader question: How do stablecoins fit into the larger monetary system?

The Banking Industry Pushes Back

Banks warn of deposit flight and financial instability if stablecoins start competing with banks on offering yield. They argue that allowing the practice to continue would drain deposits from traditional banks and make credit more expensive. Do banks’ warnings reflect legitimate risks to the financial system or simply their effort to preserve a comfortable status quo? After all, banks benefit from cheap customer deposits, for which they pay little or nothing in interest. Anyone who has checked the rate on their savings account will be sorely aware of this fact.

After digging into the issue, I’m not persuaded by the banks’ case. The banking industry has focused its arguments on the underlying risk that stablecoins present to financial stability as justification for a blanket ban to prevent stablecoins from competing with banks on yield. In a recent article warning about the dangers of allowing stablecoins to compete on yield, the Bank Policy Institute (BPI) begins its analysis with a simple premise: If stablecoins were allowed to pay interest, demand for them would rise—an outcome it treats as inherently risky. Based on a theoretical model, BPI estimates that paying interest could double the projected size of the stablecoin market. That, by itself, is not a policy problem, and policymakers shouldn’t pursue measures to keep growth artificially small. BPI concedes stablecoins may grow large even without yield, but its “macroprudential” push for a blanket ban risks stifling innovation without evidence of harm.

But that’s just the beginning of BPI’s argument. It warns that paying interest on stablecoins would draw funds out of bank deposits, reducing the pool of money banks use to make loans and, in turn, driving up borrowing costs. In other words, consumers choosing Treasury-backed stablecoins over checking accounts could make credit more expensive. That’s certainly possible in theory but hard to project and not obviously a policy failure. The goal of public policy shouldn’t be to shield one industry from competition to keep credit artificially cheap. Banks earn the privilege of holding people’s money by offering the best product in a competitive market, not by entitlement.

Are Stablecoins a Financial Stability Risk?

Perhaps the most formidable objection to allowing stablecoin interest is that stablecoins are a threat to financial stability. Stablecoins share features with their closest traditional-finance cousins—money market funds (MMFs)—that can make balances vulnerable to stress-period redemptions. After Lehman Brothers failed during the Great Financial Crisis (GFC) in 2008, the Reserve Primary Fund—then one of the largest U.S. MMFs—saw its share price fall below one dollar after disclosing exposure to Lehman’s commercial paper, sparking industry-wide withdrawals and prompting Treasury and the Federal Reserve to intervene.

Since then, regulators have overhauled MMF rules to reduce the risk of future runs. During the COVID-19 market panic in March 2020, prime MMFs experienced substantial outflows, prompting the Federal Reserve to once again provide a liquidity backstop. However, government MMFs, which are more analogous to stablecoins under GENIUS, saw no significant outflows and in fact experienced significant inflows as investors fled to safety.

The GENIUS Act’s guardrails for stablecoin reserves go even further than MMF reforms in limiting credit and maturity risk by prohibiting commercial paper and restricting reserves to cash, very short-dated Treasuries with maturities of 93 days or less, Treasury-secured overnight repos, and government-only MMFs. Additionally, reserves must be legally segregated and not rehypothecated by the issuer, with special protections in the event of failure—so holders are better insulated than MMF investors were in 2008. Because a portion of the backing assets can be held as bank deposits, stablecoins aren’t run proof, but they are meaningfully less exposed to credit and maturity risk than pre-GFC MMFs.

Still, the larger, more familiar source of systemic risk remains the traditional, fractional-reserve banking system. Payment stablecoins are designed as a narrower, fully reserved alternative, but issuers still depend on banks to hold money, which leads to another facet of the concerns around financial stability: the run-prone nature and flightiness of the uninsured deposits that stablecoin issuers hold at banks.

Learning from USDC and Silicon Valley Bank

Bank Policy Institute, in response to the “No More Bailouts” campaign, was quick to point out that crypto also benefited from a rescue when Circle, the issuer of USDC stablecoin, had $3.3 billion in uninsured deposits trapped in Silicon Valley Bank when it collapsed in 2023. This caused USDC to briefly de-peg below $1 before regulators stepped in and invoked a systemic risk exception to protect Silicon Valley Bank’s depositors.

The USDC event is both an example of what can go wrong with concentrated deposit risk and a lesson to stablecoin issuers and regulators. Stablecoins can create this type of risk by pooling many small, FDIC-insured deposits into a few large, uninsured deposits at select banks—a problem not unique to stablecoins—but this risk can be mitigated. GENIUS does not directly resolve this risk but does include language instructing the FDIC and NCUA to establish limitations on reserves kept as demand deposits or insured shares at banks and credit unions, to address safety and soundness risks’ at those institutions.

Also, the 2023 banking crisis that ensnared Circle, was during the height of “Operation Chokepoint 2.0,” when policymakers discouraged banks from doing business with the crypto industry. So it’s no surprise that a large share of Circle’s deposits was concentrated in a few regional banks catering to the high-risk tech sector, which was hit particularly hard by the Fed’s 2022 rate hikes. Circle learned its lesson, and today it holds its reserves at one of the Globally Systemically Important Banks, which, for better or worse, would be unlikely to fail during a crisis. The second Trump administration has moved to end debanking based on reputational risk and has signaled that banks are free to serve crypto firms like any other lawful business.

Stablecoins Are Still Small, for Now

Fears that crypto firms will siphon retail deposits from banks remain theoretical—at least until the data say otherwise. As of October 2025, the stablecoin market totals roughly $300 billion—a fraction of the $7.4 trillion held in U.S. money market funds. It’s not obvious consumers will ditch banks en masse anytime soon. According to a CNBC Select and Dynata Banking Behaviors survey, about 57% of American still keep their money in traditional savings accounts over higher-yielding options such as high-yield savings accounts, MMFs, and certificates of deposits.

As a payments technology, stablecoins offer real promise, but given the crypto industry’s reputation as the “world’s largest casino,” exchanges and wallets will likely face an uphill battle for market share—even if they continue to offer rewards. Banks also retain a major competitive advantage: FDIC insurance. If risks from stablecoins getting “too big” materialize, they’re likely years away, not months. Citigroup forecasts stablecoins could reach $1.9 trillion by 2030 in a base case or up to $4 trillion in a bull scenario, through steady adoption in remittances and DeFi. Policymakers still have time to observe real-world data rather than regulate based on hypotheticals.

Managing Stablecoin Demand for Safe Assets

Another systemic concern is that stablecoins would create excess demand for Treasury bills and other short-term government debt. In Without Warning, financial stability scholar Steven Kelly considers that if stablecoin demand for T-bills grows sharply, it could tighten supply and encourage hedge funds and other market participants to “manufacture” synthetic T-bills through basis trades or other short-term funding structures. That pattern—private markets creating near-money substitutes when official safe assets are scarce—has contributed to financial-stability problems in the past.

It’s a legitimate concern, but Treasury is not a passive observer. The supply of T-bills is designed to be elastic, acting as a shock absorber for funding volatility—including surges in private safe-asset demand, as noted by the Treasury Borrowing Advisory Committee. If a spike in stablecoin demand were ever to meaningfully tighten the market for short-term government debt, Treasury could expand bill issuance as part of its normal debt-management process to accommodate stablecoin-related demand—a development the Treasury market is well-equipped to absorb.

And this wouldn’t be the first time a policy change spurred demand for short-term Treasuries. Post-GFC, capital and liquidity rules mandated banks hold more High-Quality Liquid Assets (HQLA), including T-bills, creating sustained policy-driven demand—over the medium to long term—the Treasury successfully met without disrupting markets.

Additionally, the tokenization technology that underpins stablecoins could also alleviate the potential issue of stablecoins absorbing too many HQLAs. Efforts to tokenize collateral—turning Treasuries and repo agreements into real-time, transferable digital instruments—could help liquidity flow more efficiently through the financial system’s pipes. The Commodity Futures Trading Commission recently announced a digital-asset pilot program to test these kinds of experiments, allowing firms to test tokenized Treasury, repo and margin-collateral structures under regulatory supervision. If it works, tokenized collateral could ease the liquidity stresses critics highlight, helping markets clear faster and reducing the need for emergency intervention when volatility hits.

A Better Question: Who Gets Access to the Fed?

The fight over the so-called interest rate loophole distracts from a far more consequential question: Who should get access to the Federal Reserve’s balance sheet and on what terms? While the GENIUS Act establishes tight guardrails to limit risks from stablecoin reliance on the traditional banking system, it leaves the existing framework for Federal Reserve access unchanged.

As IMF economist Manmohan Singh points out, this policy keeps stablecoins on the fiscal side of the system (funded by Treasury bills) rather than the monetary side (funded by reserves), leaving them dependent on commercial banks and other intermediaries. If stablecoins are truly a form of digital money, shouldn’t they eventually have access to the Fed’s balance sheet and be able to hold reserves directly? For now, the Fed has signaled that the answer is no.

The political compromise behind GENIUS carved out a narrow space where stablecoin issuers can function with greater regulatory clarity and demonstrate real-world benefits without promising any broader integration with the monetary system. The law’s passage is a milestone for those who see the potential in blockchain- enabled payments and for privatized forms of money. But if stablecoin technology delivers on its promises, more policy battles are inevitable. The debate ahead will likely center on how digital payment systems fit within the broader monetary framework.

Let the Best Money Win

The fight over the “interest loophole” misses the plot. If banks were genuinely concerned about financial stability, they would urge policymakers to address the harder question: Who should be allowed to access the Fed’s balance sheet, and on what terms? That answer—not another skirmish over yield—is of greater consequence to the the financial system and the dollar. Until policymakers take it up, the least they can do is let people keep earning their stablecoin rewards.

Congress has delegated to the Fed substantial authority to create money and thereby influence interest rates, inflation and economic performance. This delegation and related independence, however, should not mean carte blanche in how the Fed interprets this authority. Without firm boundaries around discretion, Fed policy becomes susceptible to political, financial, labor and corporate influence, which ultimately diminishes its credibility. History provides ample evidence of such outcomes.

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Congress did assign the Fed boundaries, or mandates, to pursue stable prices, maximum employment and moderate long-term interest rates (12 U.S.C. §225a). Over time, however, under the banner of independence, the Fed has broadened its interpretation of these mandates and how best to achieve them. During the Great Financial Crisis (GFC) the Fed began supporting housing credit with its purchases of agency mortgage-backed securities (MBS). It conducted large-scale asset purchases (that is, quantitative easing) and managed the yield curve to provide abundant market liquidity, increase asset values and stimulate aggregate demand. These actions were taken during exigent circumstances and accepted as necessary for financial and economic stability.

As often happens following a crisis, however, these actions and their rationale were woven into the Fed’s ongoing policy framework. In 2010, following the GFC and without congressional approval, the Fed adopted quantitative easing as a principal policy tool and kept the fed funds rate near zero even as the economy recovered. Over a four-year period, the Fed more than doubled its balance sheet as it purchased government and government-guaranteed debt, with too little evidence that the purchases would enhance long-term productivity or real wage growth.

Then, in 2012, the Fed unilaterally defined price stability, not as zero, but as 2% inflation. During and (more significantly) following the pandemic, the Fed funded a majority of newly issued federal debt to facilitate the government’s fiscal expansion. With substantial funding support from the Fed, the national debt increased from about $8 trillion in 2005 to nearly $33 trillion in 2022 while long-term interest rates were kept muted. Today the national debt is approaching $38 trillion. It appears that the Fed has voluntarily subordinated its policy to congressional deficits.

For most of the past two decades, the Fed has repeatedly intervened to assure a smoothly functioning Treasury market and short-term financial calm. In doing so, it has created the expectation that it will do whatever it takes to support these markets and related interest rates, which has made it increasingly difficult for the Fed to say no to political and financial interests. This expectation will only deepen as the national debt accelerates and Treasury looks to the Fed to monetize the debt and suppress interest rates, further subordinating itself to Treasury. Fed independence is under threat, and this threat is difficult to defend for a Fed whose policy is increasingly entangled with fiscal policies.

There is, however, a better path forward. Following World War II, the federal debt also had increased above GDP and was costly to service. Treasury was insisting that the Fed continue to peg interest rates and monetize the debt. At the same time, inflation was rising, and the Fed found itself unable to both serve the Treasury and control inflation, which ultimately led to a clash between institutions.

Finally, in 1951, after tense discussions between the White House/Treasury and the Fed, an agreement was reached that acknowledged their separate duties within the government and the economy. This Accord acknowledged the Fed’s autonomy and recognized that it was not obligated to monetize federal deficits or peg the yield curve, as Treasury had come to expect. The Fed was solely responsible for monetary policy, focused on price stability and long-term employment. In contrast, Congress and the Treasury were responsible for fiscal policy and managing the debt load. This was a pivotal agreement ending years of Treasury-dominated monetary policy.

As important as this agreement was for Fed independence, the more critical outcome was that it confirmed that Congress was responsible for the nation’s debt. Congress and Treasury could not expect printing money to substitute for spending constraints or tax increases in managing the nation’s fiscal program. And what was the result? During the decade following the Accord, the gross federal debt-to-GDP ratio declined from approximately 90% in 1949 to 55% in 1959, and the annual federal deficit-to-GDP stayed below 2%. Real GDP growth averaged just over 4%, CPI inflation averaged 2%, and the unemployment rate averaged 4.6%. Although Fed controlled interest rates increased from their pegged levels, they averaged about 2.5% over the period and at no time exceeded 3.5%. We can only speculate on what the outcome would have been without the Accord, and Congress and Treasury accepting their responsibility to manage the nation’s budget.

Economic conditions are different today, but the lessons of this earlier period still apply. Over the past two decades the Fed has again taken on a greater role in fiscal policy. Under headings such as “the only game in town” and a “smoothly functioning Treasury market,” the Fed turned emergency liquidity facilities into ongoing Treasury accommodation, and if federal deficits continue at their current pace, the Fed will be pressured to continue doing so. Under these conditions, a realistic assessment of the future must include a sharp rise in consumer prices and an explosion in asset prices.

It is time to revitalize the Accord. The Fed should focus on its primary mandate of stable prices and maximum employment. It should stop interpreting the mandate to cover every contingency. Congress and the Treasury should again be responsible and accountable for fiscal policy and address the out-of-control growth in debt. If Congress fails to do so, under the Accord, higher interest rates must follow as the Fed can no longer monetize the debt and suppress interest rates. In contrast, if the debt is managed more responsibly, prices and interest rates will stabilize, business and consumer confidence will rise, and more sustainable economic growth will result. Yes, if the economy experiences acute stress—such as a liquidity crisis or systemic risk—the Fed is empowered to provide temporary liquidity relief, but there should be a hard limit in its duration.

Finally, policy independence, while a core principle of central banking, is of little value if central bankers fail to confine themselves to their mission. There are many challenges that a central bank confronts, but the most challenging is the belief that the Fed can solve all economic problems with the push of its money creating button.

At a recent symposium in Jackson Hole, Wyoming, Fed Chairman Jay Powell outlined many of these forces and their potential effects on the economy. He paid particular attention to the balance between employment and inflation. He acknowledged that unemployment remained low and inflation remained above its target, but he was increasingly concerned that given recent adjustment in the employment numbers, the labor market could quickly weaken, slowing consumption and economic growth. While he also recognized that inflation was above the Fed’s target rate, he appeared to put less emphasis on inflation, concluding that “the baseline outlook and the shifting balance of risks may warrant adjusting our policy stance.”

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The Fed is in a difficult spot as the economy seeks a new equilibrium. Powell is right to acknowledge the tradeoffs and risks that the Fed must consider in its policy choices. The case for an interest cut isn’t all that clear, however. With high and rising inflation, an ever-increasing national debt and the public’s fear of inflation, the Fed would be wise to wait until the employment and inflation numbers are reported before the September FOMC meeting before hinting at the FOMC’s next move.

Changing Dynamics

The U.S. for decades has consumed more than it has produced, going from the world’s largest creditor to its largest debtor nation. The current administration is seeking to change this balance and advance the nation’s industrial base and global economic standing. It has imposed higher and more volatile tariffs—taxes—on goods and services imported from U.S. trading partners. It is changing the nation’s fiscal policies to promote industrial growth and assure its financial dominance. Such policies, however, carry their own set of risks and tradeoffs. Tariffs are less efficient than free trade and raise the cost of goods and services. Expanding fiscal policies intended to accelerate economic growth often have the unintended consequences of higher inflation, reduced productivity and slower growth.

Reacting to these dynamic changes is the Fed, with its mandate to assure price stability while also pursuing maximum employment and a stable financial system. In the best of times, this is no easy task. The Fed understands, for example, that tariffs meant to protect domestic productions mean higher prices, often slowing the economy and risking higher unemployment and recession. Such outcomes put pressure on the Fed to lower interest rates to stimulate the economy and maintain maximum employment. Offsetting the new tariffs, however, recently enacted fiscal programs will add stimulus to the economy, and lower interest rates may very well intensify inflation . The timing and net effects of these forces are difficult to anticipate and manage as the U.S. economy seeks balance.

Tariffs and Risk to Growth

U.S. tariffs are higher than they have been in nearly a century, averaging between 15% and 18%, and it’s possible they could go higher still. This supply shock is raising the costs of imports and related goods and services and will tend to slow the economy. The recent strong downward adjustment in jobs data and the more modest declines in industrial production and capacity utilization tend to confirm the tariffs’ slowing effects.

It is also unlikely that the full effects of the tariffs have worked through the economy, leaving it vulnerable to further deterioration, perhaps significantly so. And while inflation remains above the Fed’s target of 2%, and tariffs will keep it elevated, it can be argued that their effect is a one-time shift to a higher price level, not ongoing inflation. Also, current inflation is down significantly from its high in 2022 of 9%. Thus, some economists, including some within the Fed, favor cutting rates now as insurance against an economic slowdown or, worse yet, a recession.

Fiscal Policies and Risk of Inflation

Such reasoning has wide support. However, it discounts the probable effects of recently enacted fiscal policy, which provides new tax cuts and subsidies supporting consumer spending and business investments, both designed to stimulate future growth. And while the jobs number have declined in recent months, the unemployment rate remains low at 4.2%, and average hourly earnings continue to outpace inflation at a rate of close to 1.5%.

Credit markets also appear strong. Although the nation’s debt is a growing concern, the market’s access to capital and credit is readily available and financial conditions are accommodative. Loans at U.S. banks increased at a rate exceeding 2%, second quarter over first of 2025, its fastest pace in 3 years. Equity markets are booming with markets achieving new highs almost daily. Overall, while the risks to economic growth are real, the economy appears strong. Fiscal and credit policies are expansionary and supportive of economic growth.

Interest Rates

It remains for the Fed to thread the needle between the contractionary effects of rising tariffs and the expansionary effects of fiscal policy. Should Fed policy focus on avoiding a possible slowdown in activity, or bringing inflation to the Fed’s self-imposed 2% target?

In judging the appropriate policy rate of interest, the Fed often compares the real fed funds rate (nominal fed funds rate less the inflation rate) to an estimate of the equilibrium natural rate of interest, which is the rate in which the economy experiences neither excessive expansionary nor contractionary pressures. Estimates of this rate, called r*, vary, but estimates provided by institutions such as the International Monetary Fund and Bank for International Settlements suggest it may be within a range of 1% to 2%. The nominal fed funds rate is now 4.3%, and CPI inflation is between 2.7% and 3.0%. Thus, the real fed funds rate is between 1.3% and 1.6%, within the range of the neutral rate, r*.

Also, the demand for capital in the U.S. to fund the growing demand for new technology, and the onshoring of manufacturing activities, appear to be accelerating. This trend, added to the rising national debt, would tend to increase r*. Under these conditions, if the Fed were to lower rates, it would imbed or accelerate the economy’s inflationary impulse, undermining stable prices, maximum employment and ultimately financial stability.

The economy is being pushed in different directions as tariffs are imposed on imported goods, raising costs and slowing the economy, while an expansionary fiscal policy keeps aggregate demand taut and inflation above the 2% target and well above price stability. In balancing the risk tradeoff, lowering interest rates in reaction to the tariffs’ effects while ignoring policies that accelerate aggregate demand will most likely worsen inflation and ultimately undermine economic growth.

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First, I asked David Beckworth—Senior Research Fellow, host of the Macro Musings podcast, and author of the Macroeconomic Policy Nexus newsletter—for his take. He offered the following questions:

Structural Reform

Questions drawn from your 2024 paper with Dan Katz, “Reform the Federal Reserve’s Governance to Deliver Better Monetary Outcomes.”

1. You propose nationalizing Reserve Banks and letting state governors appoint their boards. Why should state politicians, who are also subject to electoral incentives, be trusted more than current directors?

2. You criticize the Fed for “mandate creep” into areas like climate risk, fiscal stimulus advocacy, and racial equity initiatives. Where should the line be drawn between legitimate monetary analysis and inappropriate political engagement?

3. You propose moving bank regulation and crisis-response powers away from the FOMC. How would you structure those functions to remain effective in a fast-moving financial crisis? Would separating monetary policy from supervision risk dangerous blind spots, since supervisory insights often inform rate policy.

Targeting and Operational

4. What do you think about the Fed’s new framework that was introduced at Jackson Hole? The Fed gave up its 2020 framework called Flexible Average Inflation Targeting (FAIT) and has returned to something more like traditional Flexible Inflation Targeting (FIT).

5. If you could start from scratch and wave a magic wand, what would be your preferred monetary policy framework?

6. What type of central bank operating system is ideal in your view: a floor system, a corridor system, or a ceiling system?

7. What would you recommend the Fed do to make the Discount Window and Standing Repo Facility more effective so that they are used as a normal part of business for banks and other financial firms?

8. What type of assets should the Fed be able to buy up in a severe financial crisis?

Fed Independence

9. How do you balance increased accountability and oversight for the Fed with the need for Fed independence to make tough choices?

10. If push comes to shove and fiscal costs are getting prohibitively costly, would you be willing to have the Fed step in to buy up treasury securities and lower interest costs on them? If so, what would be your exit plan to get out of such a situation after fiscal costs get reined in?

11. Do you see the current pressure on the Fed as more of a threat to its legal, political, financial, or economic freedom? See table below for details:

Thomas Hoenig—Distinguished Senior Fellow, former FDIC vice chair, and former president of the Kansas City Fed—would ask the following questions:

1. The FOMC recently updated its monetary policy framework and reestablished its 2% flexible inflation targeting framework. Do you support the updated framework?

2. With inflation now at close to 3%, and unemployment at a relatively low 4.2%, can interest rates be lowered and the 2% inflation target be achieved?

3. The real federal funds interest rate is close to 1.5%. Chairman Powell says this is a "mildly restrictive" rate. Given the current demand and returns on invested capital, and the government's increasing borrowing needs, do you judge this rate to be restrictive? If so, why?

4. Is Fed independence important to achieving price stability, maximum employment, and long-run economic stability?

I also have a few of my own questions:

1. The Fed’s inspector general (IG) is appointed by, and reports to, the Board of Governors—a clear conflict of interest. Would a presidentially appointed, Senate-confirmed IG better ensure impartial oversight and accountability?

2. Should the Fed, as Treasury Secretary Scott Bessent suggests, launch an internal review of its non-monetary operations to ensure that "mission creep" does not jeopardize the independence of its core monetary policy mission?

3. In your 2024 paper with Dan Katz, you argued that the Fed’s governance has fostered “groupthink.” Do you think this still persists, and what changes would you prioritize to fix it?

Federal Reserve Chairman Jay Powell opened the symposium with remarks focused on two topics: potential interest rate cuts and the Federal Open Market Committee’s (FOMC’s) new policy framework.

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Interest Rate Cut

First, Powell laid out the possibility of a rate cut this September. The critical sentence in his remarks was, “Nevertheless, with policy in restrictive territory, the baseline outlook and the shifting balance of risks may warrant adjusting our policy stance.” This is being interpreted as a statement that rates will be cut, which predictably has led to debates among economists and others over its appropriateness. Wall Street is celebrating, with stocks rising last Friday. Others are questioning the wisdom of cutting interest rates, given that inflation remains above the Fed’s 2% target and is rising, while unemployment remains low at 4.2% and the real rate fed funds rate is low at 1.5% (nominal fed funds of 4.3% minus inflation of 3%).

To ease policy when inflation remains well above the announced 2% target is a mistake, and it’s particularly unfortunate in this instance since inflation appears to be rising, while unemployment remains near historic lows. Powell’s remarks also failed to acknowledge the significant future stimulus effects of Congress’s recently passed budget. The budget will add to the nation’s debt and worsen the inflationary pressures confronting the U.S. economy.

Finally, Chairman Powell continues to insist that current monetary policy is restrictive. In saying this, he must be assuming that the real equilibrium policy interest rate, r*, is below the current real fed funds rate of 1.5%. But given the current strength of the U.S. economy and demand for capital to fund both private investment and the growing national debt, r* is likely to be closer to 1.5% than 1%. Thus, the Fed’s more prudent action would be to focus on the risk of higher inflation and avoid easing rates when the economy is strong and the policy rate may already be at equilibrium.

New Policy Framework

Second, the chairman outlined the FOMC’s new “Policy Framework,” which pretty much reestablishes its original 2012 framework. He suggested that the FOMC will again emphasize the dual mandate of maximum employment and stable prices, and it will deemphasize the Effective Lower Bound (ELB) issue, when interest rates were exceptionally low and inflation was below the FOMC’s 2% target. Powell also emphasized that the revised framework is meant to support the FOMC’s goal of keeping long-run inflation expectations anchored.

The framework reflects modest changes and a return to its earlier version. It does nothing to bind the FOMC’s actions. It provides no policy boundaries or rule to follow. Monetary policy remains fully discretionary, allowing the FOMC to conduct policy as it deems appropriate. The framework would better serve both the FOMC and the public if it provided more specific guidelines or rules to govern its actions. While the Fed should be independent from short-run political pressure, it should have rules, or at least more specific guidelines, governing its actions in the tradeoffs between inflation, maximum employment and financial stability.

Demographic Challenges

Following Powell’s comments, the conference attendees turned to the main theme of the symposium. Highly regarded economists and leaders of central banks from around the world attended to discuss demographic changes, their effects on the labor force and their implications for economic growth and monetary policy.

The challenges arising from these trends have become more apparent in the post-pandemic period and have influenced economists’ research, including the effects of demographics on monetary and fiscal policies as nations expand social support and healthcare programs. Early trends show an unsurprising decline in the growth of the labor force and a decrease in the participation rate of working-age populations. These trends will place increasing pressure on nations’ resources and budgets, raising already high debt-to-GDP levels. Such trends make productivity gains all the more important if nations are to grow economically. Ruth Porat, President and CIO of Alphabet and Google, spoke of the rapid advancements in AI as one part of the solution.

How these trends move, and what policies are implemented, will influence how nations’ wealth and debt trends evolve. Should these trends be ignored, nations will face considerable risks to their future economic growth and prosperity.

In recent years, the Federal Reserve’s actions—from quantitative easing to emergency lending and aggressive rate hikes—have kept it in the headlines.

As Kevin Warsh, a contender for the next Fed chair, recently put it, the Fed once aspired to be “a rather boring central bank,” buried on “page B12 of the newspaper” with “six little paragraphs” about modest rate changes. That, he said, was the implicit promise of the 2008 crisis—that extraordinary powers would be temporary. But, as Warsh noted, “from that moment until this moment, the central bank became front page news.”

Last month, however, the Fed found itself in the headlines for something other than monetary policy: a $3.1 billion overhaul of its Washington headquarters, punctuated by a presidential tour that included a tense (and highly memeable) exchange between President Trump and Fed Chair Powell. Operational details rarely draw national headlines, but the steep price tag and public filings describing high-end amenities, including major structural changes, caught the attention of the media, Congress, and the White House. Looking past the headlines, the HQ upgrade raises broader questions about the Fed’s stewardship of public funds and provides a concrete—or, in this case, marble—illustration of the relationship between the Fed’s spending and the federal budget.

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The Hidden Budget Impact of Federal Reserve Spending

The HQ upgrade is just one visible example of a larger point: The Fed’s spending influences how much money flows to the Treasury. While many understand that the Fed has a unique self-financing structure, it’s often wrongly assumed this means its spending has no impact on taxpayers. By law, the Federal Reserve must remit its operating profits to the U.S. Treasury for the benefit of taxpayers. In profitable times, every dollar spent on headquarters renovations is a dollar less remitted to the Treasury—money that could otherwise help fund the government or reduce the national debt.

These expenditures don’t affect the debt ceiling, but they still matter for accountability. In defending the project’s overruns, Chair Powell has emphasized the Fed’s duty to be a good steward of public resources.

The Deferred Asset and Mounting Losses

Since its founding more than a century ago, the Federal Reserve has almost always operated at a profit, earning income from interest on its securities holdings and fees for services it provides to the financial system. That changed in mid-2022, when the Fed began recording sustained operating losses—largely because of a fourth round of quantitative easing, or QE4, which doubled the size of its balance sheet from around $4 trillion to nearly $9 trillion between 2020 and 2022. As the Fed raised interest rates to fight inflation, it also raised its own expenses, effectively hiking itself into a loss, as the interest it now pays on bank reserves and reverse repos quickly outpaced the low, fixed returns on its long-term securities.

The result has been billions in monthly losses and the buildup of an unusual item on the Fed’s balance sheet: the deferred asset. The Federal Reserve, unlike private businesses, can’t go bankrupt, but that doesn’t mean losses are written off. Instead of recognizing a traditional loss, the Fed records the cumulative shortfall as a negative liability, known as a deferred asset, on its balance sheet. Like a household that runs up a credit card and must pay it off before saving again, the Fed must clear this balance before resuming remittances to the Treasury. Simply put, these losses delay Treasury transfers, indirectly burdening future budgets until the Fed’s earnings recover.

More Than a Rounding Error

This brings us back to the question of the HQ overhaul. Whether the Fed is running a profit or a loss, how it spends money—including on its headquarters—still affects the federal budget indirectly. While some argue that this spending warrants scrutiny, a common counterargument is that the renovation costs are trivial in context: a few billion on a project is no more than a rounding error on the Fed’s balance sheet.

But that misses the point. The Fed is a steward of public resources and should be held to the same standards of transparency and accountability as any other federal agency. Rounding errors can do immeasurable damage to public trust that’s easy to lose but hard to regain.

Unlike other federal agencies such as the Securities and Exchange Commission, which is also self-funded but still subject to routine oversight, the Fed operates with relatively few external accountability checks. For example, the Fed has an inspector general, but the Fed’s IG is not truly independent because it reports directly to the Fed Chair instead of Congress. On July 14, Chair Powell informed Congress that he would instruct the Board’s IG to “take a fresh look at the project.” That announcement came just four days after OMB Director Russell Vought sent a letter to the Fed demanding answers about the project’s cost overruns, alleged mismanagement, and compliance with the National Capital Planning Act.

A Symbol of Deeper Problems

The headquarters project stands as a telling symbol of the Fed’s broader financial problems and lack of transparency—one the public can easily grasp. When you tell someone the Fed is spending as much on renovating its headquarters as it would take to build a sports stadium, people get it. What’s harder to visualize are the costs of the Fed’s pandemic-era bond-buying program, QE4. As discussed earlier, since mid-2022 the Fed has been running sustained operating losses, and as of August 2025, $238 billion has accumulated in the deferred asset. Economist Andrew Levin, in research published by the Mercatus Center, estimates that QE4 post-2022 operating losses could ultimately result in $1.5 trillion in foregone remittances to the U.S. Treasury. Figure 1 illustrates this point:

FIGURE 1.

Levin notes: “The Fed did not alert Congress about the potential costs of QE4 while this program was being conducted, nor has it provided any cost-benefit analysis in the three years since the program ended.”

The Fed is accountable to Congress, yet the Fed’s opaque, hierarchical structure and lack of transparency have kept lawmakers in the dark on what could amount to over $1.5 trillion in costs to taxpayers—more than a rounding error by any measure. These concerns are especially urgent against the backdrop of increasingly unsustainable budget deficits, which risk putting upward pressure on rates if not addressed. A return to the low interest rates of the 2010s is far from guaranteed.

Restoring Accountability

How can the Fed recede from front-page controversy and find itself tucked away on page B12 once again? More oversight could help.

Treasury Secretary Scott Bessent recently called on the Fed to conduct a thorough internal review of its non-monetary policy operations. He cited headquarters cost overruns, mission creep in areas like climate initiatives, and the management of its balance sheet amid operating losses. This would be a start, but in many ways would be more of the same internal oversight that already exists. A more meaningful reform would be the creation of a truly independent inspector general—one nominated by the president and confirmed by the Senate, as is standard for every other major federal agency.

Other reforms are also worth serious consideration. Other central banks offer useful examples: the European Central Bank is regularly audited by the European equivalent of the GAO, and the Bank of England recently welcomed an external review led by former Fed chair and Nobel laureate Ben Bernanke. If the Fed truly wants to restore public trust, it should embrace similar mechanisms: independent evaluations, clear reporting requirements, and stronger channels for congressional oversight.

Congress could also establish a blue-ribbon commission to examine the Fed’s governance structure. The current FOMC structure gives the Fed chair outsized control over both policy decisions and public messaging, and dissents on the 12-person committee are rare. This was recently illustrated in July, when the dual dissent by Governors Waller and Bowman—the first time multiple governors dissented since 1993—made headlines. Reforming the FOMC to promote measured dissent, inspired by the Supreme Court’s transparent debates, could enhance accountability and public trust. Such changes could also reduce the outsized political pressure that tends to concentrate on the chair.

A More Trustworthy, Less Flashy Fed

These reforms wouldn’t compromise the Fed’s independence in setting monetary policy. Instead, they would strengthen the institution’s capacity to make sound decisions and rebuild public trust.

And in doing so, the Fed could perhaps once again become the kind of “boring central bank” that belongs on page B12 rather than the front page.

The proposal would slash required capital at the G-SIBs’ FDIC-insured bank subsidiaries by $210 billion or 27 percent, with potentially large releases of holding company capital as well. Such steep reductions would significantly diminish the capital capacity of G-SIB bank subsidiaries to lend to households and businesses, particularly in times of economic stress. The proposal will also make bank failure and risk of bailout more likely, increasing risks to the Deposit Insurance Fund as well as the banks and US taxpayers who back it.

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A stated purpose of this proposal is to provide more capital capacity to support the G-SIBs’ US Treasury (UST) dealer operations, thereby stimulating more demand and lowering rates. As such, the proposal appears to be an indirect attempt to use capital regulation to ease monetary conditions and reduce government funding costs, an approach the Federal Reserve has steadfastly refused through its monetary tools. Even assuming the legitimacy of this purpose, which we do not, the proposal is unlikely to achieve it. The G-SIBs’ UST dealer operations are conducted through their broker-dealer affiliates, not their insured banks. Reducing insured bank capital requirements will therefore have no direct impact on broker-deal capacity. At the holding company level, most of the G-SIBs are constrained by risk-based capital requirements, not the eSLR, so weakening the eSLR at the holding company would provide little capital benefit. In theory, G-SIBs could reallocate capital from their insured banks to their broker-dealer affiliates to support UST market-making, but there is no guarantee they would do so. It is just as likely the G-SIBs will invest that capital in higher yielding, riskier assets. In addition, if risk-based rules are loosened—as seems likely—much of it may be distributed to shareholders.

A key assumption of this rulemaking is that the eSLR is limiting UST dealer operations. Yet the fact that most G-SIBs broker-dealers are not constrained by the eSLR suggests otherwise. Studies of the impact of excluding UST from the eSLR denominator during the pandemic are mixed on whether eSLR had any noticeable impact on banks’ UST market-making. One study, published by the Federal Reserve in 2023, concluded that it did not.[1] Even some G-SIBs have publicly acknowledged that the proposal is unlikely to increase G-SIBs’ UST holdings.[2] At the same time, the proposal will have a number of negative consequences.

Support for Main Street Lending

Lending to households and businesses is primarily conducted by G-SIB’s insured banks, while riskier securities and derivatives activities are carried out by nonbank affiliates. This $210 billion in capital supports about $2.625 trillion in lending at G-SIBs banks. Under this proposal, however, this capital could be redirected to the holding company and its nonbank affiliates. Thus, it would no longer be available to support lending at the banks. It would no longer be available to absorb losses on loans during periods of economic distress. If the 2008 financial crisis taught us anything, it is that capital regulation must be sufficient to ensure that banks can continue lending in both good times and bad. This proposal increases the likelihood that G-SIB banks—a major source of credit for our economy—will lack sufficient strength to continue lending during downturns, when Main Street borrowers need it the most.

Increased Risk of Bank Failures

This reduction of loss absorption capacity also increases the likelihood of G-SIB insured bank failures, exposing the FDIC to potentially catastrophic losses. The losses would have to be absorbed by all banks, large and small, that pay premiums to fund the FDIC’s reserves, and potentially US taxpayers, who stand behind the FDIC’s deposit insurance guarantee.

It has been argued that holding companies would ride to the rescue if their insured banks got into trouble, under a Fed doctrine that requires them to be a “source of strength.” History suggests otherwise. We recall how, during the 2008 financial crisis, the FDIC repeatedly accommodated Fed requests to allow insured banks to upstream capital to their holding companies to bail out their troubled broker-dealers and other nonbank affiliates. This is why the 2010 Dodd-Frank financial reform law mandated that the Fed promulgate source-of-strength rules. Yet the Fed has never issued them. Lack of holding company support continues, as demonstrated by the 2023 failure of Silicon Valley Bank (SVB). Indeed, SVB’s holding company continues to dispute the FDIC’s claim to nearly $2 billion in deposits. In a future crisis, G-SIBs’ holding companies will likely—again—confront stress in their nonbank affiliates, which engage in higher risk activities and are more vulnerable to sudden market movements than insured banks. They will need to cling to all their capital. They will be in no position to redirect it back down to their insured banks.

In 2010, Congress gave the FDIC new authority to take control of a failing bank at the holding company level, which in theory could allow the FDIC to downstream capital to keep the insured bank subsidiary open. This strategy has never been tested. Its success depends on the holding company’s strength—which may be tenuous in times of stress (particularly if the Fed weakens their risk-based requirements)—and the ability of regulators to agree to execute on it. It is better to maintain strong capital levels at the insured bank to reduce the chances of a failure in the first place.

Of course, holding companies will be in no position to support either their insured banks or their broker-dealers if they distribute freed-up capital to shareholders. The proposing agencies have argued this cannot happen, because the holding companies are constrained by their risk-based requirements. However, we have no confidence that risk-based capital will remain binding given the ease with which the G-SIBs can reduce those requirements by changing their asset mix. This ability to game risk-based rules is a key reason why we need meaningful, overall caps on leverage. Yet under this proposal, G-SIBs would have an additional $200 billion of headroom to game the rules before the eSLR becomes binding. In addition, most observers expect regulators to loosen the risk-based rules. The Fed has already made it easier to pass the stress tests.

Adding to G-SIBs’ Competitive Advantage from Their Too-Big-to-Fail Status

G-SIBs have argued that reduced capital requirements will allow them to offer lower interest rates on Main Street loans. It is true, their ability to fund themselves with less equity and more debt could reduce their costs of capital—which they may or may not pass on to borrowers. However, their borrowing costs are lower compared to smaller banks, because of the lower risk premiums demanded of depositors and bond holders who perceive them as “too big to fail.” Indeed, G-SIBs are required to hold as much as 30 percent less capital per dollar of assets than smaller banks. The proposed reductions in the eSLR will allow them to undercut “small enough to fail” bank competitors further, tilting the competitive playing field more steeply in favor of the G-SIBs.

Increasing Market Concentration

An added benefit of strong capital requirements is that they limit G-SIB leverage for further expansion. G-SIBs already account for well over half of the banking system’s assets. This proposal will increase industry concentrations in the biggest banks. If regulators want to deregulate, we suggest they focus on reforms that will strengthen smaller bank competitors, not increase financial system fragility by easing leverage constraints on G-SIB growth.

Monetary Impact

The proposal requests comment on whether to exempt UST securities held in the trading account from capital requirements. The purpose of capital regulation is to ensure the safety and soundness of the financial system, not to help government finance its deficits. Exempting USTs would enable large banks to dramatically leverage themselves with US Treasuries at virtually no capital cost. The effect would be to enable banks to engage in a form of quantitative easing and to lower interest rates. This would significantly increase the industry’s exposure to interest-rate volatility. By asking this question, the Fed appears open to achieve through regulatory policy what it has resisted doing through monetary policy.

In addition, we believe exempting UST securities from the leverage ratio denominator, even in a limited way, would create a precedent. As the notice itself suggests, it could end up being a slippery slope, leading to additional requests for more exemptions for supposedly “safe” assets. This would undermine the leverage ratio’s effectiveness as a risk-neutral backstop to risk-based standards. The history of risk-based standards has not always been pretty, as we saw during the 2008 financial crisis. It is essential that the capital framework maintain a strong leverage ratio—one that does not purport to exclude or favor particular assets based on regulatory or bank judgments of risk.

Conclusion

We respectfully urge the agencies to reconsider this ill-advised proposal. If the agencies still proceed, as seems likely, we strongly recommend that any reductions be limited to the holding company level. If the agencies are intent on lowering capital requirements for insured banks, they should, at a minimum, strengthen risk-based requirements by applying both stress testing and the G-SIB surcharge at the insured bank level. The agencies should also wait to propose eSLR changes concurrently with any changes to the risk-based rules. Only then can public commenters be able to understand and provide input on the combined capital impact of both reforms.

[1] Paul Cochran et al., “Dealers’ Treasury Market Intermediation and the Supplementary Leverage Ratio,” FEDS Notes, Board of Governors of the Federal Reserve System, August 3, 2023, https://www.federalreserve.gov/econres/notes/feds-notes/dealers-treasury-market-intermediation-and-the-supplementary-leverage-ratio-20230803.html.

[2] Colby Smith and Joe Rennison, “Wall Street’s Regulatory Reins Start Loosening as Fed Proposes New Rule,” The New York Times, June 26, 2025, https://www.nytimes.com/2025/06/26/business/fed-banks-capital-rule-change.html.

Statutory Authority

Is the Fed authorized to spend unlimited amounts on its buildings? No. Section 10 of the Federal Reserve Act authorizes the Fed to provide “necessary” and “adequate” offices for its officials and staff. Identical terms appear in numerous statutes governing other agencies such as SEC and FDIC. Unlike other agencies, however, the Fed is uniquely authorized to make such determinations “in its judgment” without relying on congressional appropriations, but such judgments must be consistent with the statutory requirements. Indeed, GAO’s Red Book has an entire chapter about the “Necessary Expense” doctrine, i.e., an agency’s expenditures must be essential for carrying out its statutory mission, while the term “adequate” is consistent with GAO’s prohibition of expenditures on luxury items or frivolous amenities. Evidently, the Fed may not use its discretion to construct a golf course, an amusement park, or a palatial structure.

Can the Fed exempt itself from all relevant building statutes? No. Section 10 of the Federal Reserve Act authorizes the Fed to construct, upgrade, and furnish offices for its staff “notwithstanding any other provision of law.” That phrase is commonly used in hundreds of U.S. statutes. The Supreme Court has ruled that when one statute appears to conflict with another, “the intention of the legislature to repeal must be clear and manifest”; general language such as the “notwithstanding” phrase does not repeal an existing statute unless the conflict is irreconcilable. This principle is now embedded in the canons of statutory interpretation. Consequently, the Fed must submit all of its building plans to the National Capital Planning Commission (NCPC), and any modifications to those plans must be submitted for further review. Moreover, the Fed’s HQ buildings are directly adjacent to the National Mall, and hence all changes to the exterior and landscaping of those buildings must be submitted to the U.S. Commission of Fine Arts (CFA) for review.

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Total Cost of the HQ Upgrade

What is the total cost of the Fed’s HQ upgrade? The Fed’s latest budget allocates a total of $3.6 billion for its long-term space plan. As shown in Table A2.8, this amount includes $2.5 billion for the upgrade of the Eccles and 1951 Constitution Avenue buildings, $540 million for the nearly-completed upgrade of the Martin building, and $30 million for post-upgrade reconfiguration. The budget item of $510 million for upgrading the Fed’s building at 1709 New York Avenue (NYA) has been deferred and is not included in the current multiyear capital budget of $3.1 billion.

How large is that cost relative to other federal buildings and corporate headquarters? When the Eccles-1951 project is completed, the Fed’s HQ will be one of the most expensive structures in the world. For example, the buildings owned by the U.S. Congress—including the Capitol, six congressional office buildings, the Library of Congress, and the U.S. Botanical Garden—have a combined valuation of $2.6 billion. The Bank of America building (a 55-story skyscraper in Manhattan) was completed in 2009 at a cost of about $1 billion—the equivalent of $1.6 billion at current construction prices. JPMorganChase has spent about $3 billion on its new 60-story HQ.

What about the standard metric of cost per square foot? When the HQ upgrade is complete, the Eccles and 1951 Constitution Avenue buildings will have a total area of 1.1 million ft², and hence upgrading these two buildings will cost about $2,300/ft². In contrast, a premium 10-story office building in Washington DC now has a construction cost of about $600/ft², while the construction cost for the JPMorganChase skyscraper is about $1,200/ft²—only half as much as the cost of the Fed’s HQ upgrade.

Will the Fed’s HQ upgrade produce savings over the longer run? No. Premium offices in the vicinity of the Fed’s HQ can be contracted at less than $60/ft², and a high-end contract would allocate about 200 ft² per employee. Thus, for the 960 Fed staff who will be working at 1951 Constitution Avenue, a comparable 30-year lease would cost about $260 million (assuming a 4% interest rate and a 2% inflation rate). In effect, a long-term lease would have cost only one-sixth as much as acquiring and upgrading this building.

Pre-Upgrade Building Conditions

Did the Eccles building have any comprehensive renovation prior to the HQ upgrade? Yes. In 1999-2003 the Eccles Building Infrastructure Enhancement Project (EBIEP) included removal of all asbestos insulation and lead paint; replacement of the roof and all major building equipment; upgrades to electrical, lighting, plumbing, and security systems; refurbishment of elevators; restorations of interior, terrace, and courtyard areas; and upgrades to security at building entrances; see here and here. The total cost of the EBIEP was $24 million, consistent with a frugal design and careful management, and did not entail any major alterations to the historic design of the Eccles building.

Was the Eccles building “unsafe” prior to the HQ upgrade? No. This building was fully occupied by staff prior to the onset of the COVID-19 pandemic. Public events and ceremonies were held at the building, and public tours were advertised on the Fed’s webpage and special tours were arranged by Smithsonian Associates. When the Fed submitted its project plans to the National Capital Planning Commission (NCPC) and Commission of Fine Arts (CFA), it gave no indication of any current or impending safety issues at the Eccles building.

Did the Eccles building require scheduled maintenance prior to the HQ upgrade? Yes. Satellite photos confirm that the new roof installed in 1999-2003 was a white-coated single-membrane “cool roof” (the standard energy-saving approach for federal office buildings with low-sloped roofs), with a typical lifespan of 15-25 years. Thus, it is not surprising that by 2018 the building was subject to localized leaks that warranted a full replacement of the roof. Given the Eccles roof area of about 100,000 ft², a new roof would be expected to cost about $1.2 million, including labor and materials. Similarly, the rooftop unit and electronic controls for the heating, ventilation, and air conditioning (HVAC) system should be modernized every 15-20 years. An office building of this size (~275,000 ft² prior to the HQ upgrade) requires ~1000 tons of cooling capacity, and hence the cost of HVAC modernization is about $2.5 million.

Did the 1951 Constitution Avenue building need a comprehensive renovation? Yes. When GSA transferred the building to the Fed in 2018, its press release stated that the building would need to be renovated. For a building of that size (~128,000 ft² prior to the HQ upgrade), the asbestos abatement would cost about $2 million, and lead paint removal could cost up to $5 million. Modernizing its HVAC system might require replacement of all ventilation ducts (about $10 per ft² of building area) as well as a new rooftop unit, and hence a complete HVAC modernization might cost up to $5 million. More broadly, a comprehensive renovation—similar to that of the EBIEP and the 2014-18 renovation of the USDA’s historic Whitten Building—would encompass all major building systems at a cost of about $50 million at current construction prices.

Primary Cost Drivers

Has inflation been the primary factor for the total cost of the HQ upgrade? No. In November 2018, the Fed approved a multicycle capital budget that included $75 million for renovation of the Eccles and 1951 Constitution Avenue buildings—roughly similar to the inflation-adjusted cost of the EBIEP and to the GSA’s renovation of the USDA’s Whitten building. In February 2020, the Fed’s budget expanded that allocation by a factor of nearly 20x to a total amount of $1.4 billion for “revitalization” of these two buildings. The cost index for commercial office building construction rose 44% from December 2019 to December 2024, and hence inflation alone would account for about $620 million, i.e., about one-fourth of the current budget allocation of $2.5 billion.

Why is the upgrade of the Eccles building costing more than $1 billion? The basic answer is simple: The Fed decided to fully enclose the two courtyards and install skylights, thereby converting these two spaces into glass-covered atriums. In its project plans submitted to NCPC and CFA, the Fed stated that “the west atrium will function as a space of respite for Board employees” while acknowledging that major structural alterations of a historic building “presents a number of unique challenges.”

Why is the 1951 Constitution Avenue upgrade so expensive? Three key design features have determined the overall cost of this upgrade: (1) Demolition of the central wing of the historic building, construction of a new north wing, and installation of a skylight over the central courtyard. (2) Excavation and construction of an extensive new concourse level that will provide underground facilities and connections to the Eccles and Martin buildings. (3) Excavation and construction of a vast underground parking garage beneath the front lawn of the building. The project plans submitted to NCPC and CFA state: “The pedestrian tunnel connection will facilitate communication, permitting staff and escorted visitors to move freely between buildings without having to go through security screening at each building. The tunnels intersect in a newly created atrium space within the Eccles East Courtyard which becomes the hub, or fulcrum, for the three buildings. A new dignified entry for staff and VIP visitors allows entry into the space at grade level.”

Luxury Amenities

Should the new underground parking garage be viewed as a luxury amenity? Yes. This 318-space garage may turn out to be one of the most expensive parking facilities in the world, due to the combination of the high water table and deeply-submerged bedrock (at depths of 8-10 feet and 40-60 feet, respectively), the soil conditions of water-saturated silt and clay, and the sensitive location beneath the front lawn of a historic building adjacent to the national mall and the nearby tidal basin. The Fed has not disclosed any building contracts, but commercial rates for excavation and construction of waterproof underground structures point to a likely cost of about $125-250 million. By contrast, the Fed could have contracted with nearby commercial garages whose current rates are about $250/month, and hence a 30-year lease for 300 spaces would have cost about $20 million—far less than the cost of the Fed’s new underground parking facility.

Should the Eccles building’s new rooftop dining be viewed as a luxury amenity? Yes. The top level of the Martin Building has private dining rooms that have been used since it was completed in 1974; at that time, the dining rooms on the fourth floor of the Eccles Building were converted into office space, and Fed officials in the Eccles building simply walked across the street for lunch. The Fed’s project plans indicate that the Eccles dining suite will now be restored and that “the Governors’ private elevator will be extended to discharge at the dining suite level.” Of course, the cost of this amenity is at least an order of magnitude smaller than the cost of the new underground parking garage.

Should rooftop garden terraces be viewed as a luxury amenity? Yes. The term “green roof” is generally used to describe roof systems with soil depth of 2-5” that is sufficient for grass species; such systems can be very cost-effective. By contrast, the term “vegetated roof terrace” refers to deeper soil depth (thereby accommodating a wider variety of plant species) and occupiable space for building users. Thus, a vegetated roof terrace imposes a much heavier load on the building’s pillars and beams, roughly 10x that of a conventional roof or a green roof. Thus, incorporating a vegetative roof terrace into the design of a new building may be very reasonable, whereas adding this feature to a historic building requires major structural changes; indeed, engineering experts warn that such structural upgrades can be “cost-prohibitive.”

Will the Fed’s HQ upgrade include rooftop garden terraces? Unclear. The Fed’s project plans indicated that the Eccles and 1951 Constitution Avenue buildings would each have a new pair of “vegetated roof terraces” with soil depths up to 8” (to facilitate the planting of diverse native species) as well as paved areas furnished with moveable tables, chairs, and 30” planters. The plans stated that “Both roof terraces will be accessible and will seek to create usable outdoor space for building users.” However, as of 15 July 2025, the Fed’s FAQs on this project indicate that “some features of the buildings, including rooftop spaces and new water features on the building grounds, were scaled back or eliminated.”

Transparency and Public Accountability

Does Congress approve the Fed’s budget for its buildings and operations? No. The Fed has unique authority to set its own budget. All other federal departments and agencies have budgets that are determined by congressional appropriations.

Is the Fed’s spending shown in the federal budget? No. Since its enactment in 1921, the Budget and Accounting Act has required every “department, commission, board, bureau, office, agency or other establishment of the Government” to submit its budget for inclusion in the federal budget and to provide all of its budget-related records to OMB (31 U.S.C. § 1108). However, the Federal Reserve Board has quietly exempted itself from this statutory requirement. Thus, the federal budget simply reports the remittances that the Fed transmits to the U.S. Treasury; the Fed suspended such remittances in 2022 when it began incurring net operating losses.

Does the Fed publish the minutes of its budget approval meetings? No. The Federal Reserve Board approves each annual budget using an electronic notation vote. Any member of the Fed Board may request that the budget be discussed at a Board meeting, which would be open to the public under Government-in-the-Sunshine regulations. However, the Fed’s budget has never appeared on the agenda of any of its meetings.

Does the Fed disclose the details of its building contracts? No. The Fed’s budget memos and annual reports provide information about its total expenditures, but the Fed does not disclose any information about specific contracts for its building projects. By contrast, construction and renovation projects for all other federal departments and agencies are overseen by GSA, and those contracts are posted in a searchable database.

Has the Fed alerted NCPC and CFA regarding changes to its upgrade plans? No. The Fed’s webpage states that the water features in the plans approved by NCPC and CFA in 2021 have subsequently been “eliminated.” However, the Fed “does not regard any of those changes as warranting further review” and hence has not submitted any modifications to NCPC or CFA.

Does GAO review the Fed’s building projects? No. Under current statutes the Fed has sole authority to acquire property and to build, upgrade, and furnish offices for its officials and staff. By contrast, GAO conducts comprehensive reviews of the budgets and spending of all other federal departments, offices, and agencies.

Does the Fed have a fully independent inspector general? No. The Fed’s inspector general (IG) is an employee of the Federal Reserve Board who works “under the authority, direction, and control” of the Fed Chair on all policy-related matters. By contrast, at every other major federal agency (with an operating budget exceeding $5 billion), the IG is a fully independent federal official, nominated by the President and confirmed by the Senate, who reports directly to Congress.

Has the Fed’s IG examined the design or cost of the HQ upgrade project? No. Over the period from March 2014 to February 2022 the Fed’s IG issued a series of reports about the Fed’s contract management process, but the IG has never investigated the design or cost of the HQ upgrade project. On 14 July 2025, Fed Chair Powell directed the Fed’s IG to conduct an investigation of the Eccles/1951 project.

In the near term, the answer is quite straightforward: The dollar will remain the world’s reserve currency. However, in the longer term, its status may be less certain. Reserve currency status is not a birthright but a privilege that is earned, and one that can be lost through arrogance and neglect—the longer-term threat.

The Dollar's Global Role and Global Dynamics

Recent geopolitical events and U.S. economic policy are causing nations to be less sanguine about U.S. dollar dominance. As the U.S. pivots away from international entanglements and adopts policies that favor less open trade, its relations with Europe, Japan, and other parts of Asia are increasingly strained. These developments have raised questions about security agreements, introduced unsettling trade disputes, and created new uncertainties about the future global economic order. Even within the Americas, U.S relationships with its neighbors Canada and Mexico are under strain, all of which contribute to eroding the trust that underpins the dollar's hegemony. Whether the U.S. is charting a wise course will be widely debated. In the meantime, the world and this nation’s role in it are changing.

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For decades, the U.S. dollar has been the linchpin of the international financial system — a status cemented by the Bretton Woods Agreement of 1944. This agreement set the framework that established the dollar as the world’s primary reserve currency, initially backed by gold and later sustained by the sheer economic might of the United States. Despite the recent global turmoil, the dollar still accounts for more than half of the world's trade invoicing and approximately two-thirds of official foreign exchange reserves, and it continues to serve as the dominant currency for more than half of global gross domestic product (GDP). The dollar’s status has facilitated international trade, investment, and financial stability, providing a reliable store of value and medium of exchange.

Tariff Wars and the Dollar

For now, the dollar's reserve currency status remains robust. But it is not without its challenges, and there are clear signs of growing discontent.

Recent U.S. tariffs have triggered growing resentment among trading partners. Imposed harshly and unpredictably, U.S. tariffs have created an unstable environment and threaten global economic stability. The International Monetary Fund (IMF) noted that U.S. tariffs, imposed between 2018 and 2019, disrupted supply chains and weakened global economies. Economists, drawing from historical examples like the Smoot-Hawley Tariff Act of 1930, warn that such policies can provoke a vicious cycle of economic retaliation among nations, harming all.

As a result, the world is showing increased frustration with the U.S. and the power of its dollar. As early as 2019 Mark Carney, then governor of the Bank of England and now prime minister of Canada, delivered a significant speech in which he revisited the idea of creating a global "synthetic hegemonic currency" aimed at reducing dollar dominance. Originally proposed by John Maynard Keynes in the 1940s, this concept envisions a supranational currency that would lessen reliance on any single nation's money. While Carney’s remarks had little immediate impact, more recently, leaders such as Christine Lagarde, president of the European Central Bank, have begun to question the dollar’s dominance and advocate for a global reserve system that incorporates a mix of leading currencies.

Emerging economies have also voiced their goal of being less dependent on the dollar. The BRICS nations (Brazil, Russia, India, China, and South Africa) have discussed alternatives to the dollar-dominated system, including forming bilateral agreements in local currencies. China has been especially aggressive in this regard and has attempted to expand its currency’s role, particularly in Asia. These developments, while nascent, could gain momentum if U.S. trade relationships sour and trade agreements stall, potentially ending in a more fragmented global economy and currency landscape.

U.S. Debt Financing: The Dollar’s Achilles Heel

While U.S. tariffs may handicap global growth and create heightened resentment among U.S. trading partners, they alone are not likely to end the dollar’s reserve currency status. As long as the U.S. remains the world’s leading economy, no other country or mechanism is likely to replace it. The true long-term threat to dollar dominance lies in a loss of confidence in the U.S. economy and its policies. U.S. tariff policy may be a factor, but the more critical vulnerability stems from its fiscal and monetary policies.

Since 2007, government expenditures—driven by entitlement programs, defense spending, an interest on the national debt—have increased from nearly 18 percent to over 23 percent of GDP, while revenues have been steady at around 17 percent. During this period, the national debt has increased from $9.3 trillion (63 percent of GDP) to over $36 trillion (121 percent of GDP). Projections suggest that without meaningful fiscal reform, federal debt could exceed $55 trillion within the next decade.

Such policies significantly increase the supply of U.S. government debt on the market. The foreign sector, because of the dollar’s relative safety and reliability, has historically been a dependable buyer, holding nearly $9 trillion of U.S. Treasury securities. But there is no guarantee that this demand will persist. As U.S. debt levels rise and trade dynamics shift, foreign appetite for dollars may diminish, placing pressure on domestic buyers to pick up the slack. As supply exceeds demand, interest rates will have to rise to attract investors—raising borrowing costs and hampering capital investment and economic growth.

Perhaps unfortunately, Congress has learned that the Federal Reserve System (Fed) can be very useful as a standing facility capable of creating trillions of new dollars to absorb the public debt, temporarily suppressing interest rates. Over recent decades the Fed has seldom disappointed Congress in fulfilling this role, with unfortunate effects on the allocation of U.S. resources and increases in asset and consumer price inflation. As long as the Fed continues this practice, it enables Congress to spend beyond sustainable limits, perpetuating the cycle of debt accumulation. The immediate effects may be an inflationary boom, but over time the dollar will lose value and lose appeal as a reserve currency. Already, interest payments on the national debt exceed U.S. defense spending.

The Congressional Budget Office (CBO) and most economists warn that continuing deficits at current levels is unsustainable. The CBO projects that U.S. real growth over the next 10 years will decline from an average rate above 2 percent to less than 1.8 percent. Institutions such as the IMF also warn that these trends are destined to undermine long-term stability. Despite these warnings, Congress continues its pattern of excessive spending and debt accumulation, relying on the Fed to back the Treasury. History warns that economic strength follows from budgetary and monetary discipline, not reckless spending.

A Better Choice

The global economic system must evolve toward a more balanced framework. Drawing on historical models like the Bretton Woods Agreement, policymakers must establish clear rules to govern trade and financial conduct. For the U.S. to maintain its leadership role and the dollar’s dominance, it must more responsibly manage its economy in the decades ahead. If it continues to prioritize short-term goals and to accumulate massive debt, its economic influence will gradually erode along with the dollar’s global role. China understands this, as does most of the world.

On June 25, during the Federal Reserve's semiannual Monetary Policy Report to Congress, Chair Jerome Powell was questioned by members of the Senate Banking Committee about the escalating costs of the Fed's headquarters renovation project. In response, Powell described media reports on the renovations as “misleading and inaccurate in many, many respects,” asserting that features such as VIP dining rooms, special elevators, water features, and rooftop gardens were not part of the current plans. However, planning documents submitted to the National Capital Planning Commission (NCPC) in 2021—documents that have not been revised—appear to contradict these claims. Shortly thereafter, economist Andrew Levin documented these discrepancies here on FinRegRag.

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Since then, the situation has escalated considerably. Senator Cynthia Lummis told the NY Post that Powell “made a number of factually inaccurate statements to the Committee” and “should be embarrassed.” Federal Housing Finance Agency (FHFA) Director Bill Pulte issued a press release calling for Congress to immediately investigate Powell over alleged “political bias and deceptive Senate testimony,” conduct Pulte argues is sufficient grounds for Powell to be removed “for cause.” On July 3, Chair Powell responded in writing to a June 24 letter from the Senate Banking Committee, which pressed Powell for details on “lavish renovations.” Powell agreed to a meeting between Federal Reserve and Senate committee staff to discuss the project, emphasizing the Fed's commitment to being “good stewards of public resources.”

Some may dismiss this controversy as little more than palace intrigue, but it highlights a deeper underlying issue. While it’s a positive development that the Fed Chair has agreed to provide more details to Congress, the Fed never should have found itself in this position in the first place. With more effective oversight—such as a truly independent inspector general (IG)—costly design decisions, like glass atriums and rooftop terraces, likely would have been flagged and curtailed early, to the benefit of taxpayers.

The public's insight into these renovation expenses comes not from intentional transparency, but a quirk of geography. Because the Fed’s headquarters—the Eccles Building and the adjacent FRB-East Building—sit directly on Constitution Avenue, the Federal Reserve was legally required to disclose and obtain approval from the National Capital Planning Commission (NCPC) and the Commission of Fine Arts (CFA). These agencies oversee compliance with federal planning requirements, historic preservation laws, environmental impacts, and architectural consistency. Had these mandatory disclosures not occurred, the public—and Congress—might still be in the dark.

True Stewardship Necessitates Oversight

As the nation’s central bank, the Federal Reserve is one of the most powerful institutions in the federal government. Unlike most agencies, the Fed operates with an extraordinary degree of autonomy: It sets its own budget, owns its own buildings, pays staff under its own compensation system, and is exempt from the normal congressional appropriations process. Its Inspector General is not an independent, Senate-confirmed official like those at other major agencies. Instead, the Fed’s IG is appointed by and reports directly to the very institution it is supposed to oversee. Meanwhile, Congress’s main watchdog, the Government Accountability Office, is legally restricted from reviewing most of the Fed’s operations. This insulated structure is meant to protect the Fed from short-term political pressures, especially when it conducts monetary policy.

But independence in monetary policy does not justify a complete lack of accountability. Congress is the Fed’s boss. Congress created the Federal Reserve and retains full constitutional authority to oversee how the central bank uses its power and resources.1 Until recently, the only external oversight of the Fed’s headquarters renovation came from planning commissions primarily concerned with aesthetics and zoning, not stewardship of public resources. While Congress has now, rightly, begun asking questions, that oversight is reactive when it should be routine.

If the Fed wants to maintain its independence, it must first earn and sustain public trust through genuine transparency—not only in monetary policy, but also in governance and fiscal stewardship. Congress has both the authority and the responsibility to ensure that the Fed does just that.

The Case for an Independent Inspector General

As Levin has argued, the Fed should welcome the appointment of a Senate-confirmed IG who answers directly to Congress. Such an IG would ensure genuine accountability and transparency, reinforcing, not undermining, the Fed’s institutional independence. Other leading central banks have embraced this model. The Bank of England, for example, has established an Independent Evaluation Office that reports to its oversight board and has invited external reviews of its policy framework. In practice, accountability can actually protect independence, not undermine it.

A truly independent IG would have the authority to conduct comprehensive reviews of the Fed’s operations, including spending decisions, staffing practices, building projects, and internal governance. This authority would not involve second-guessing monetary policy, but would ensure regular, public accountability for how the Fed manages its resources. As Levin notes, every major federal agency with a comparable budget already has such an IG. The Fed should be no exception.

True stewardship of public resources requires more than good intentions. An independent IG would be a meaningful step toward structural accountability, helping to ensure taxpayers never again foot the bill for palatial-inspired water features and private rooftop dining rooms.