Stephen Miran on Regulatory Dominance, Shrinking the Fed’s Balance Sheet, and the Return of Monetarism

Stephen Miran is a former governor of the Federal Reserve, a former chairman of the Council of Economic Advisers under President Donald J. Trump, and currently a senior strategist for Hudson Bay Capital Management. In Steve’s third appearance on the show, he discusses his life as chair of the Council of Economic Advisers and as a Federal Reserve governor, the Fed’s balance sheet, regulatory dominance, the future of the discount window, the possible return of monetarism, and much more.

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This episode was recorded on August 20th, 2026

Note: While transcripts are lightly edited, they are not rigorously proofed for accuracy. If you notice an error, please reach out to [email protected]. 

David Beckworth: Welcome to Macro Musings, where each week we pull back the curtain and take a closer look at the most important macroeconomic issues of the past, present, and future. I am your host, David Beckworth, a senior research fellow with the Mercatus Center at George Mason University, and I’m glad you decided to join us.

Our guest today is Steve Miran. Steve is a former Federal Reserve governor, a former CEA chair, and a former two-time Macro Musings guest, and he returns today to join us and discuss his work on the Fed’s balance sheet as a governor, and also his recent work on the role of money in monetary policy. Steve, welcome back to the podcast.

Steve Miran: Thanks for having me back. It’s great to see you again.

Beckworth: It’s great to have you on, and if I have got my dates correct, the last time you were on the podcast was September 2024, so this show will be coming out in September 2026, so two years to the date, and a lot has happened in your life since then, a lot, right? Who knew? Maybe you did know it was coming, but you were a CEA chair, wow, for the president, then you became a governor, and who knows, you might be a governor again as openings appear on the Board of Governors.

I want to talk about your work on the Fed’s balance sheet because that is a big topic now. It seems to have momentum. We have a Balance Sheet Task Force, and I think some of this momentum is due to you and your work, your paper, your speeches. Then also, time permitting, we’ll get to your work on monetary policy and the role for money in that. 

Life as CEA Chair

Before we do that, though, I’m sure listeners are dying to know, I’m dying to know, the behind-the-scenes part of being a CEA chair and a Fed governor. Maybe give us a quick overview. What was it like to be a CEA chair? Let’s start with that. Did you, every morning, get up and go visit Trump, give him an economics brief, or how did that role operate?

Miran: Well, not every morning, but often. The role of CEA chairman, it’s in the name; it’s the Council of Economic Advisers, right? You’re providing economic analysis and economic advice to the president, to other members of the administration, to different parts of the government on a regular basis. Whatever the issue of the day is, whatever the big thing that people are working on, that’s what you want to try and analyze and study and prepare on so you can give them the best advice you can. It applies from the president all the way on down. Anybody who needed economic assistance on anything that they were working on, I was more than happy to give it.

Beckworth: You were in the old executive building. In fact, I visited you once in that role. It’s not that far of a walk to the White House, so you get a call, do you grab your laptop, and you run down the hall and cross the little road there into the West Wing? Is that how it worked?

Miran: That’s how it works. Yes, the CEA offices are in Eisenhower Building, as you said, and then you just cross West Exec. Avenue, and you walk right into the West Wing and into the old one. You’re there. You’re part of the admin. You’re part of the White House complex. 

One of the interesting things about CEA is that you really work on a really, really wide variety of subjects. In the morning, it’s tax policy, and then a little bit later, it’s tariffs and industrial policy, and then a little bit later, it’s regulations, and then later on, it’s healthcare policy and education or something else, right? You really are bouncing from subject to subject to subject in a really, really fascinating array of stuff that you work on. It really is a very, very interesting and very, very cool job.

Beckworth: Now, briefly describe the difference between the CEA, which you chaired, and then also the NEC office, the National Economic Council. Is that the name of it?

Miran: Yes, the National Economic Council, NEC. CEA and NEC are really the two economic components of the White House, the two economic policy components of the White House. The difference is that the word “advisers” is in the name of CEA. CEA is really an advisory body. CEA exists to help formulate economic analysis and economic advice, economic policy, right? CEA might be really involved in trying to figure out what a good policy is. How would a good policy be structured? What types of things would we care about, and what types of things can move the needle on the economy? What’s going on in the economy? What are the data saying? Where are things likely to go?

CEA is really about providing economic analysis and advice to other people who have actual implementation authority; NEC is about getting things implemented. Once a policy is decided, NEC’s job is to coordinate the interagency process of implementing a policy. 

For example, if you think about, let’s just call it the CARES Act, or the One Big Beautiful Bill Act, or whatever, they will have policy directives in that legislation. Some of them have to be implemented by Treasury, and some of them have to be implemented by Commerce, and some of them have to be implemented by Energy, and some of them have to be implemented by Interior, if they’re regulations around energy and land use, right?

NEC’s job is really to coordinate across all the different agencies to make sure that the policies are being implemented, and that each agency is doing what it needs to be doing to implement administration policy. NEC is a hands-on implementation job; CEA is a big-picture policy advisory job.

Beckworth: Okay. Well, let’s talk about your time at the Federal Reserve. You were a governor. You weren’t in the Eccles Building, right? Because they were remodeling that, reworking all that. You were in a different building at the time when you had that role?

Miran: Yes. There’s been a few news cycles about that building. I have not been in it. The entire Federal Reserve is out of that building at the moment. We were in the Martin Building, although some staff are scattered in some other buildings that the Fed is renting while Eccles is under construction. I was located in the Martin Building, as was the rest of the board and certain other divisions of the Fed. The Martin Building is beautiful. It’s a very comfortable building.

Beckworth: Yes. I’ve recently visited some people in the Martin Building. It is a beautiful view. You overlook into the mall area. Great, great view there. I’m wondering, though, do you have hallway water cooler conversations? I know in the Eccles Building, I visited Rich Clarida when he was vice chair. My sense was the offices weren’t that far apart from each other. You could walk into another governor’s office or run into someone in the hallway. Do you have those kinds of conversations in the Martin Building?

Miran: Some. In the Martin Building, the board members’ offices are all on the top floor, and so is the cafeteria, the staff cafeterias. The top floor is basically the staff cafeteria and the governor’s offices, and a few meeting rooms as well. The governor’s offices are all in a row right next to each other. When I was there, it was then-Chairman Powell, now Governor Powell, and Chairman Powell’s office was in the middle, and then Governor Cook’s office was next to his on the right, and then my office was next to hers. I suppose Governor Powell is now in the office that I used to be in. All the offices are right in a row. Yes, on the one hand, you see people, but on the other hand, a lot of people travel a lot.

Beckworth: Oh, yes.

Miran: A lot of people are off doing different things. A lot of people are very busy. Even though all the offices are right there, you’d actually end up seeing people surprisingly a lot less than you might think. It’s more a case of regularly scheduled meetings that you have with everyone to catch up and discuss policy and the economy and policy items. On top of that, of course, there’s the Sunshine Act, which prevents you from meeting with more than a couple of people to begin with.

Because if you had four members of the board, you’d have a quorum, and then you’d be subject to the Sunshine Act, meaning that you’d have to issue a public notice and open it to the public, or have some other reason why you weren’t discussing policy, and therefore, it was exempt from that for the rules of the Sunshine Act. You can never meet with more than a couple of people at a time. As a result, most meetings end up actually just being paralyzed.

Beckworth: Okay, fair enough. Well, it sounds like a very interesting time and experience. We’re going to delve into one of the big topics you dealt with while you were there at the Federal Reserve, and that’s the Fed’s balance sheet. You had at least two speeches I’m aware of. Maybe you had more, but I know you had a speech, one titled “Regulatory Dominance of the Federal Reserve’s Balance Sheet.” That was in November 2025. Then your big one that made the big, big splash was the speech in March 2026, “Prospects for Shrinking the Fed’s Balance Sheet.” You had an accompanying paper, a research paper, co-authored, “User’s Guide to Reducing the Federal Reserve’s Balance Sheet.”

Reducing the Fed’s Balance Sheet

The speech was more of like you’re making the case, and then the paper was a neutral, like, “If you want to do it, here’s what you can do.” You go through this menu of options. It’s really interesting. Let me begin with a very basic question: How did you get on this topic? Why did you care about it and start writing papers and doing speeches on it?

Miran: First, let me first underline something that you just said, which is the paper. I like to give credit where it’s due. I had three co-authors on the Federal Reserve staff, staff economists who wrote the paper with me: Alyssa Anderson, Alessandro Barbarino, and Anthony Diercks. The paper, as you’re saying, is neutral. It doesn’t take a view about what good policy is; it lays out a series of tools. The speech reflects my actual views. That’s because that’s just me, right? It is important both to give them credit for the work that they did, but also to say none of the blame for any actual policy view of it is attributable to them, only to me.

Look, I got interested in this for a couple of reasons. One is we did spend a lot of time at FOMC meetings discussing the balance sheet and short-rate funding markets. It does seem that we’re stuck in a bit of a rut with a big balance sheet. Then the third reason is that upon the president’s nomination of Kevin Warsh as the Fed chairman, it didn’t take a lot of work to realize that he cared very deeply about this issue and has for a very, very long time. That made me start doing research on it, and as I did more and more research, it became a more interesting subject. What started as an observation in the November speech about regulatory dominance blossomed into a bigger research agenda.

Beckworth: Yes. If I recall correctly, when you first came on the podcast in May 2024, you had that paper with Dan Katz, who’s now at the IMF, that was on reforming the Fed. You touched on some of this a little bit. This is not completely foreign to you. You’ve been thinking about this for a while. The winds of change are upon us in terms of this Fed balance sheet: your paper, clearly, Kevin Warsh. 

What I thought was really interesting is when you had your co-authored paper come out, I think it was just a week later that Lorie Logan and Sam Schulhofer-Wohl had theirs come out. Then, the same day, I believe you did your talk, Darrell Duffie had his come out. It’s like all drought or a complete rainstorm. Everything happens at once. Again, I guess the writing’s on the wall. We see Kevin Warsh as Fed chair. There’s interest, so I just found that all interesting that just the full-court press was happening.

Miran: Yes. I think there’s a number of folks who’ve been interested in this for a while, and as you say, things came to head. There’s a moment now to actually accomplish something, and therefore, devoting work and devoting energy is attractive. There’s probably a billion things that you care about, and if none of them have a chance of actually moving the needle, you’re going to direct your resources to where you think you can be effective.

Beckworth: Yes, great point. Now, something that Bill Nelson and I talk a lot about on the podcast, and Bill’s written a lot on this as well, I’ve done a little bit on the Substack, is just we have what’s happening here in the US, but abroad there’s also a lot of change happening. There’s this push among many central banks overseas and advanced economies to move toward a demand-driven operating framework, which would also imply smaller balance sheets.

Many of them want to keep ample reserves or a floor system, but they really want to resurrect interbank markets; they want banks to first go to other banks for liquidity needs, and then, maybe for long-term structural growth, they come to a ceiling facility. There was this movement overseas that was happening. ECB had a whole framework review on the operating system, Bank of England, Bank of Canada, the RBA. They’re all moving in a direction, and the Fed is like the last holdout. Now, it seems we’ve joined that journey as well. All these banks are on journeys. We don’t know exactly where they’ll end up. We don’t know what version of demand-driven system they’ll have. I’m delighted, as someone who’s talked about this for a long time, to see the Federal Reserve—

Miran: You have, yes.

Beckworth: —having a conversation about it.

Miran: We cited you on the first page, yes.

Beckworth: You did, yes. By the way, thank you so much.

Miran: Because you’ve worked on this for a long time. Yes.

Beckworth: You’re very, very gracious in your papers. I appreciate that. That’s why I’m excited to talk to you about this more. People across the spectrum of views, I think, are citing your paper, your co-authored paper. Again, it’s a neutral paper. Maybe that’s part of the story there, but they’ve also mentioned your speeches as well. Stephen Cecchetti, and I forget his co-author; they write a lot. They cited that on their blog. I’ve seen some other papers have just mentioned this. You have come up a lot because you’re a governor and that carries weight, and it helps push the conversation forward.

Okay, let’s talk about your paper. Again, you had two speeches. In the first one, you mentioned regulatory dominance. I like that phrasing because we talk about fiscal dominance, monetary dominance, but hey, there’s this thing called regulatory dominance, which is something that I’m sure part of the CEA work, as well as what you did at the Fed, was something you were thinking about. It definitely plays into what the Fed’s able to do and what it’s been able to do since Dodd-Frank in 2008.

Your paper, the one that I think really made the big impact, again, the title is “User’s Guide to Reducing the Federal Reserve’s Balance Sheet.” Let’s talk about why we should care about this issue. You care about it, I care about it, but to someone who’s maybe just joining for the first time, why should we care that the Fed’s balance sheet has gotten so large? What are the costs to it?

Miran: Thanks. There’s a handful of reasons why I think a small balance sheet is better. Economically, the economic ones are that, in general, economists think that markets do a pretty good job allocating resources. It’s the first welfare theorem of economics. There are times when that fails, and there’s a market failure, and you want a big government intervention. When there’s a market failure, you have a case for government intervention; there’s a failure of the first welfare theorem. You don’t have that in terms of the balance sheet, right? There’s not really a market failure that would justify a big government intervention.

The default position of economics that a smaller government footprint is better and letting markets do their thing is better is the appropriate reasoning, right? In this case, by having a large intervention, governments have basically disintermediated funding markets. Many, many loans, many, many credits that used to be made from one market participant to another market participant now basically have the government as the counterparty, so the government has cannibalized parts of the economy and probably doing it less efficiently than markets would because markets tend to do a better job with this.

In general, there’s a view that government should have a smaller footprint in the economy; the Fed should have a smaller footprint in the economy. Government actions tend to be distortionary. Unless there’s a strong justification for reducing the distortion, you should let the market solve something on its own. Then there’s a whole set of other consequences, too, some of which are political, so I think that it’s bad for Fed independence also to have a large balance sheet.

When the Fed starts engaging in large-scale asset purchases out of the yield curve, they are interfering in fiscal decisions. The choice of the distribution of public debt, the choice of the distribution of where the government is going to be borrowing from the public, is traditionally thought of as a fiscal decision, as a decision for fiscal policymakers. Now, that’s fine when the Fed gets involved for monetary policy purposes if it really has to, but it is blurring the line between monetary and fiscal policy, and that blurring of the line means that fiscal policy then has taken an interest in what the monetary authority is doing and vice versa, and it’s just better to keep those two things as separate as you can.

It’s better for Fed independence from a fiscal perspective; it’s also better from a credit perspective as well because when the Fed buys QE, it doesn’t only buy Treasuries; it also buys mortgages. What the Fed ends up doing is injecting credit preferentially into one sector of the economy over other sectors of the economy, and that’s ultimately a political decision, and it’s a political decision with real consequences.

I think it’s no mystery that the Fed was buying mortgages during the pandemic, even when home prices were up 20% year over year, and they were still saying that’s not enough. More, right? More credit into the housing sector, right? By buying mortgages, they were directly injecting credit straight into the housing sector above other sectors, and the housing market got way out of whack as a result. I think the housing market is now, unfortunately, distorted. It’s messed up for an entire generation in terms of how out of whack those prices got. That’s very unfortunate.

There’s real political reasons why the Fed should stay out of having a large balance sheet because it’s bad for Fed independence. Then the final reason is it’s bad for the Fed itself in the sense that it induces volatility in the Fed’s own net equity, right? If you have a large balance sheet, you’re exposing yourself to the risk of losses. We saw in the post-pandemic period how those losses became acute, and the deferred asset position exceeded $1 trillion, and the Fed had a big hole in its balance sheet as a result of that.

Yes, it is true. In principle, a central bank can operate with an infinitely negative capital position if it had to, but in practice, I don’t think that’s the case. I think it’s bad for the reputation of the institution. I think it’s bad for the credibility of the institution if it experiences large losses. Those large losses also induce volatility in the remittance of profits from the Fed to the Treasury, which, of course, then have their own set of fiscal implications. Public borrowing will then become more volatile. Interest rates will then become more volatile because you induced unnecessary volatility into the stream of remittances from the Fed to the Treasury in terms of operating profits.

I think there’s really a variety of reasons, and this is one of many, many subject areas in which the argument for a small balance sheet is overdetermined. There’s a wide variety of reasons. I think they’re good reasons, and I think it would be an improvement in policy if we managed to reduce the balance sheet.

Beckworth: Well, that’s a great list. I want to go back to the first one you mentioned, just going back to first principles. Why should there be an intervention here in this particular case? Is there an externality? Is there a market failure? Yes, I think maybe you could say when markets are not functioning, you want to do QE and temporarily expand the balance sheet, but the flip side is you want to reverse it. There’s no need to continue to keep it going large after we’ve gone back to normal, so this first principle of letting markets do what they do best and pulling back, and I appreciate that about your perspective there.

I think part of the challenge is that once the Fed got into this, it just seemed to work well enough. Why rock the boat? They got comfortable without going through and thinking through these issues. I’m glad you’ve challenged the consensus and have brought these issues up.

Miran: If I can add one thing on that.

Beckworth: Sure.

Miran: There very clearly is a justification for intervening on monetary policy in terms of changing the interest rate, short rates, right? If you go back to basic economics, in a world of no distortions where all prices are flexible, you don’t have involuntary unemployment, and monetary policy has no role, right? That’s a real business cycle type of model. Once you go down the road of introducing rigidities into the economy, as all the new Keynesian economists do, you start to get those rigidities leading toward market failures and distortions that introduce involuntary unemployment and open a role for monetary policy to be countercyclical, for it to fight recessions, and to restrain inflation when inflation is too strong.

These principles still work in monetary policy, right? If you have a market failure, if you have a credit crisis in the housing sector or the banking sector or somewhere else, then you’re at the zero lower bound, and there is a good reason for doing QE, fine, do it. But if you don’t have a really, really good reason for doing it, you shouldn’t do it just because. It’s like antibiotics. You use them when you’re sick; you don’t use them when you’re not sick.

Beckworth: Right. You bring up a good point about the effect on housing. I had Aaron Klein on the podcast not too long ago. He has a paper on the effect that the extended QE program had on housing, buying up those mortgage-backed securities, well beyond the period you can really justify it based on purely a business-cycle perspective, and that is a big thing. I think that itself feeds into political independence, right? If there’s a whole generation who can’t get into housing, and people like myself have locked in a home—as you know, I recently sold my home. But I had a home locked in at a really low rate from 2021, that really, really impairs certain groups. Yes, I think it creates problems.

At the end of the day, though, your last set of points really center around Fed independence. The Fed should be doing everything possible to insulate itself from attacks from the outside. I think the balance sheet is something that unwittingly makes them a target. Even if it’s misunderstood, even if some of these calls to get rid of interest on reserves altogether, as opposed to being a lower balance, it creates confusion, and it creates attacks. It just would be in their own interest, I think, as you said, to make life easier for them and protect their independence.

All right. Let’s get into your paper. You provide, again, a menu. You have a nice summary. You have a table of it up front that also provides an estimate of how much potentially one could shrink the balance sheet. If I read the paper correctly, you and your co-authors, under certain circumstances—and again, this is a model, and you could tweak things here and there—but anywhere from $1 trillion to $2 trillion smaller, you could shrink the balance sheet.

Right now, the balance sheet’s about $6.7 trillion. It’s about 20% of GDP. You could shrink that down to 15% of GDP or so. Is that what you’re hoping for is just to go all the way down, shrink it to $2 trillion, or just to get $1 trillion out of it? What would be your aspirations on a journey to reducing the Fed’s balance sheet?

Miran: Let me step back a little bit. There’s about $3 trillion of reserves, a little bit more than $3 trillion of reserves on the balance sheet of the $6-plus trillion that you mentioned. Of course, there’s currency and the Treasury’s account as well, and a few smaller items. The reserves that exist, you mentioned my work on the regulatory dominance as a balance sheet, but basically, as a result of the way that the regulations are set and the way that the implementation framework is set, banks hold more reserves than they need for liquidity purposes because they are, A, afraid of drawing down the reserves when they actually need the liquidities. They hold extra. They hold precautionary buffer stocks of reserves. And, B, there are stigmas against accessing the Fed’s liquidity facilities: the discount window, standing repos, intraday credit, daylight overdrafts.

The $1 to $2 trillion figure is what you could do if you take steps to reduce demand for reserves. If you take steps to reduce demand for reserves, you can then reduce supply of reserves as well without causing undue stress in the short-rate funding markets. If demand goes left, you can shift supply left too without changing prices. Simple, Econ 101. Our calculations were that you could do $1 to $2 trillion of reserve reduction by taking steps to reduce demand for reserves while remaining in an ample reserves framework.

If you took the step to go out of an ample reserves framework and go back to scarce reserves, you could go way beyond $2 trillion of reserve reduction. Before the GFC [Great Financial Crisis], there were $50 billion of reserves or something like that supporting a balance sheet of $800 billion on the Fed. That was a huge disparity versus how we are now, and the reason is because daylight overdrafts were so big. When banks didn’t have enough reserves to hit their day-to-day reserve requirements, there wasn’t a stigma about borrowing intraday credit so they could make up the extra reserves with borrowed reserves from the Fed.

In a scarce reserves regime, you can do that. You can shrink the balance sheet even beyond the $1 to $2 trillion we suggested. Can you go all the way back to $50 billion? Probably not. Can you go materially below $1 trillion? Absolutely, but you have to be willing to deal with the associated funding market volatility that comes with that, right? That’s a decision the Fed will have to take when it decides whether or not it wants to reduce the size of the balance sheet. The $1 trillion to $2 trillion is what you could do within ample reserves or leaving ample. If you want to leave ample, then you can go a lot further.

Beckworth: Yes. I think that approach is smart. I think everyone would agree. People who want to go to scarce reserves, people who want to stay in ample reserves, where you start at is with reducing the demand for reserve. That’s your starting point. That, to me, is what I was alluding to earlier. 

This used to be a conversation, simply, people wouldn’t have. Now, again, people who support ample reserves, scarce reserves, they’re both willing to discuss shrinking the demand for reserves as a starting point. Now, to go to the next level, though, as you mentioned, would be to go to a scarce reserves system. I would say this, and Chair Warsh has said this as well: We can never go back completely to what we had pre-2008, and here’s my reason for why I think that’s the case.

Pre-2008, we did not have interest on reserves. We did it effectively at zero. Zero would have been the interest on reserves, and that created a huge effective tax on banks for their reserves holding, and that’s why reserves are so small. They did everything they could to avoid it. Had it been a scarce reserve or corridor system with interest on reserves, like many other central banks that had scarce reserve systems in the past, they had a ceiling and a floor—and the target rate was between so it was a scarce-reserve system, you got compensated at something, just less than the market rate—and I think if the Fed had had that back then probably reserves would’ve been higher.

I feel pretty certain, and I’d like to hear your thoughts on this: I don’t think we’ll ever go back to a world where we get rid of interest on reserves. Even if we go to scarce reserves, there’s still going to be that lower floor interest on reserves there, which would pay something rather than nothing on them.

Miran: I would agree with you. I would agree with you. If you change the remuneration on reserves to zero, banks aren’t going to hold any, right? If you’re remunerating reserves at some competitive interest rate, relative to where other interest rates are, then they’re not going to mind holding them, right? That’s what we have now, is we have IORB, and banks are very, very happy to hold future reserve portfolios because they get compensated for doing so, especially if their deposit franchises are so sticky and large that they’re paying their deposits significantly below IORB and therefore making a nice spread on that.

I think you’re right about that, and I think that Chairman Warsh is right, too: You can’t completely turn back the clock. Another reason why you can’t turn back the clock completely is because of the Basel system and Dodd-Frank. We have statutes from the Congress that demand the implementation of some of these regulations that boost reserve demand. You can’t get rid of them completely, right? Congress gives you some leeway in terms of how you implement them. The LCR could be reduced, could be broadened. It can’t be abolished. If you can’t abolish it, you have windows within which you can work.

You can loosen things to the margin, but you can’t go back completely. You can go in the direction, but you can’t go back completely. One of the jokes that I made in the speech to accompany the balance sheet paper was that I have a personality problem, which is that whenever somebody tells me, “You can’t do something,” I have to find out if it’s true, and that gets me into trouble. It got me into trouble on the trade paper, and the same principle is in effect here.

The question is, what are really the binding constraints? To your point, people are talking about this now. The dam has broken. I think a year ago, two years ago, people would have been saying, “Oh, well, you just can’t do that.” Then if you asked why, the answer is, “Oh, well, you just can’t. Short-term markets will go haywire. You just can’t do it.” That’s where the conversation stopped. Then, of course, my personality is I can’t help myself from asking, “Really? You can’t do it? Not even if you can change policy, you can’t do it?” That’s where we are now. The ultimate question is, what constraints are really binding and what constraints are not binding?

Beckworth: Yes, and that’s something you bring up in the paper. You note up front in the menu paper that for a long time, people just took as given the regulatory framework, but you can make changes. Let’s talk about them. One of them would be to incorporate a number of liquidity regulations, LCR, Liquidity Coverage Ratio, Internal Liquidity Stress Test, and tie those into collateral held at the discount window, right? You could count that toward these. That’s something you could do differently. You still hold onto these requirements, but you can incorporate assets the banks already hold at the discount window and those things that can be easily converted into liquidity, but people wouldn’t consider this before. That’s a good example, I think, of what you’re saying.

Miran: Yes. I agree completely. Those are things that I expect to happen because they’re good policy, and they should happen, and they’d allow you to start reducing the balance sheet. It is important to note that you don’t have to solve everything at once. “A User’s Guide to Reducing the Federal Reserve’s Balance Sheet” is a menu of options. You don’t have to eat everything on the menu at once. Some of these things may come relatively soon. I hope that liquidity regulations come relatively soon. Some of the other things may take a long time, right? I don’t know how long it’ll take FIMA expansion to happen, if it happens at all.

Beckworth: Yes. If you go to the paper, you go in great detail to explain these, but you’ve got a nice table that summarizes them. You’ve got 15 items, but you also have 11A, 11B, so maybe 16 total different things you could do. A lot of them, though, center around these regulation fixes. You mentioned there’s, I think, six liquidity regulations, things that you could work with. You also talk about other options like tiered reserves, although I know in the paper, you guys aren’t terribly fond of that.

I’ve talked about the voluntary reserve version of that, where the banks would choose their own. Bill Nelson, in fact, in a recent podcast, said, yes, that’s a better version of tiered reserves, but you still would want to do these other things. You’d want to get reserve demand as well. You touched on adjusting the supplemental leverage ratio, either cyclically or making reserves and currency exempt from them. You talk about expanding access to the FIMA Repo Facility, which is something Secretary Bessent has brought up recently in the news. In fact, what did you think about that when he brought that up?

Miran: Expanding FIMA access?

Beckworth: Yes.

Miran: I think expanding FIMA access is a great thing. Look, when you buy a long-duration US Treasury, what you’re doing is locking up your money in long-term paper, and if you need it for short-term liquidity purposes, it can be costly to get that liquidity because you have to sell the Treasury and cross the bid-ask spread, and maybe it’s long duration, so the price can be volatile.

If you expand FIMA access so that right now only some of the Fed’s counterparts, sovereigns, central bank, can access the FIMA facility and post their longer-duration Treasuries at FIMA in exchange for short-term liquid cash, if you expand access to that facility so that other, say, quasi-sovereigns, for example, sovereign wealth funds, can access that facility as well and more easily convert duration into liquidity, you’re increasing the attractiveness of long-duration US paper, right?

If it becomes more attractive, then two things happen. One is reserves become less relatively attractive because you can now get additional yield by taking the duration risk. The other thing that happens is that the asset class as a whole, the Treasury asset class as a whole, becomes more attractive too. If you can convert your long-duration US Treasuries into reserves at the Fed through FIMA, you might be more willing to hold US Treasuries, right? That’ll cause inflows into the dollar as a whole and reinforce dollar dominance, reinforce the supremacy of the US Treasury as the world’s premier financial asset, and those are both good things, right?

Now, to be clear, one thing we said in the paper is that you would want to have haircuts for taxpayer protection. It’s one thing when the Fed is giving access to the Bank of Japan or the European Central Bank through FIMA. There’s no default risk, essentially, from those counterparts. They’re not going to default on the Fed. However, if you’re expanding access beyond those counterparts to other counterparts as well, then you now start to think about protection for the US taxpayer and for the Federal Reserve, and then you’d want to think about haircutting as well.

There are tiers to doing this. I think it’d be a good policy. I think it’d be a good policy for reducing reserve demand so that you can reduce the Fed’s balance sheet. I think it would be a good policy for increasing demand for US financial assets, causing inflows into the United States financial system and reinforcing dollar dominance as well.

Beckworth: All right. One other push that you make in the paper is improving access to the discount window in terms of reducing stigma, making it more user-friendly, making it business as usual; let banks feel comfortable going to the discount window and using it, and that’s something I also share. I share that same vision. Part of the challenge is the Liquidity Coverage Ratio, and all of these regulations for liquidity end up becoming like a bare minimum, and then you’ve got to hold it. You can never tap into it, so you want to have something like the discount window you can go to and not be hoarding liquidity, not be hoarding, sitting on cash.

Some of the pushback I’ve gotten, Steve, and I discussed this recently with Bill Nelson on a podcast, is I’ve gotten pushback that says, “David, you’re a pro-market guy. You’re at the Mercatus Center. Why would you ever want banks going to the Fed more often at the discount window? How dare you bring this up?” To me, a couple of things. It’s a question of tradeoffs. 

One, there’s all these other issues we went through earlier: why a large Fed balance sheet itself is distorting on the market and shuts down interbank lending. It has its own host of issues. It creates a ratchet effect, Raghu Rajan’s story. There’s all of those issues versus a little bit, maybe, more moral hazard, easier access. I’m willing to take that tradeoff, number one. But number two, it’s not clear to me why having open market operations as a way to inject liquidity is any more market-friendly or neutral than having access to the discount window. The Fed was originally created to provide liquidity through the discount window. As a fellow market person, Steve, how do you respond to that pushback? How can a market guy want to have the discount window more accessible to banks?

Miran: It’s a good point. The first point I’d make is what you said, which is about cost and benefits. The alternative to this is not doing anything. The alternative to this is having a large balance sheet, which I would agree with you is probably more distortionary. The second thing that I’d say is that it’s about the implementation of a regulatory framework. The United States has decided that bank failures are too costly because they create credit crunches and depressions, deflationary depressions. Therefore, we’re going to have bank regulations that minimize bank failures.

Of course, it’s a very fair economic question, what is the right number of bank failures? The answer is not zero. Like the old economist joke, if you never miss a plane, you’re always getting to the airport too early. There’s an optimal number of planes that you should miss, of flights that you should miss, and it’s not zero. If you never miss a flight, you’re wasting too much time at the airport. Obviously, we don’t want huge waves of bank failures that induce depressions, but we probably also don’t want zero bank failures. The right number is probably low but positive.

We have decided to regulate banks to avoid deflationary depressions with double-digit unemployment. If that’s what we’re going to do, we need to do that in one of the best and most efficient manner. The alternative to the discount window is not a no-regulation, no-government-activity role whatsoever. It’s a less efficiently implemented bank regulatory system. Part of the reason why banks need liquidity from the Fed is to hit their regulated levels of reserves and their regulated levels of HQLA, which reserves are the easiest thing to manage on a short-term, day-to-day basis.

If you didn’t have those regulations that you didn’t need the banks to hit these HQLA levels, sure, you wouldn’t really need the discount window because they wouldn’t need to borrow liquidity on a day-to-day basis. Then you’d have these bank failures of the types that lead to the environments that we don’t really love.

Beckworth: Let me ask you a question about moving toward more use of the discount window. Also, the standing repo operation, the SRP. You also outlined that in your paper as well. Again, I think from what I’m seeing, there is a moving consensus toward that. We’re going to try to get banks and financial firms to use those more readily, maybe bring a central clearing in to the standing repo operation. Find ways to make this more accessible. I think that’s great. I think it’s a way to bring liquidity into the financial system.

As the economy grows, you can imagine that’d be one way for long-term growth and liquidity and real money demand. Also, I think it’s useful to think about how one would respond to maybe short-term demands for liquidity in those settings. In a world where we go that path, we have fewer reserves; first, we would have more interbank lending. I think that’d be useful. First thing a bank would do would be go to another bank for liquidity. Maybe over the long run, the Fed is still providing long-term growth and liquidity via reserves, via maybe discount window.

Maybe we introduce something like a term auction facility. I think there’s a place for that. I want to invoke my good friend Chris Waller, your former colleague, because he has said he’s used this analogy, and I love Chris on many things, but on this one particular issue, I disagree with him. He used this analogy of why would we ever want banks to be digging through their couches for a spare change or for liquidity? If we went back to these scarce reserves or if we shrunk the balance sheet. Maybe his views have changed since he said this.

Here’s the way I think about it, given what I’ve just said. If a bank is someone on the couch digging for a spare change under the cushion, the way I would think about it is that person has a credit card. That credit card is borrowing from another bank. I can get liquidity short term from another bank if I need it. Alternatively, I can go to the discount window. That’d be like someone on the couch with a HELOC loan. Their home is collateral at the bank, and they can draw money against it. Is that a fair way to think about those scenarios?

Miran: Yes. I would say we want banks to feel like their assets are so employable and so profitable elsewhere, they don’t have piles of cash sitting on top of the couch, and therefore, they’ve got to look in the cushions. If they’ve got piles of cash sitting on top of the couch, they don’t have to look in the cushions. There’s not really a good use for their money, for their assets, because we’ve overregulated them. If we’ve overregulated them, they’re not making loans into the economy. Small businesses, families, households, firms can’t get the credit they need from the banking system, and that’s not a productive banking system.

You see that in the growth of private lending and private credit. That exploded because we made it too difficult for the banks to lend, and it’s a form of regulatory arbitrage. I have nothing against private credit, and I want private credit to prosper. I don’t want people making borrowing and lending decisions to maximize our being the regulatory system. I want them doing it for the economic fundamentals. It’s better for me, in my view, if banks feel that their assets are so deployable into the real economy that they’re not keeping them on the couch.

Beckworth: Yes. That’s a great point. What you’ve just highlighted is that all of this idle cash that the banks are sitting on, and they’re earning a return on it, that’s affecting their lending to the real economy. It’s reducing their lending to the real economy, and somebody else is picking it up, private credit. In a different world, maybe there’s a better balance to be struck. We want to keep banks safe, but maybe also we want them to be able to do more lending to the real economy, more economic growth.

There’s a lot more in this paper we could get into, but again, I encourage listeners to check it out. We’ll provide a link to it in the transcript. It’s called “A User’s Guide to Reducing the Federal Reserve’s Balance Sheet.” Last question on the balance sheet, Stephen, before we move on to your work on money. What are your hopes and aspirations of the Balance Sheet Task Force?

Miran: Well, I hope that the Balance Sheet Task Force picks up, I would say, a subset of the ideas in the “User’s Guide” that I wrote with Alyssa Anderson, Alessandro Barbarino, and Anthony Diercks, as well as some new ideas that have never occurred to me, and I haven’t thought of before, and yet I find brilliant and amazing because they’re great ideas. I hope that the task force does a top-down, soup-to-nuts reimagining of what’s possible with the balance sheet and comes up with an actionable plan for how to get us there. Then I also hope that we start moving swiftly on the regulatory and implementation changes to start accomplishing it.

A Return to Monetarism?

Beckworth: All right, let’s move on to a new paper that you have written, Steve, along with Nouriel Roubini and Peter Ireland, a friend of the show. This paper is titled “A Return to Monetarism?” That seems like a pretty provocative title, but what are you doing in this paper?

Miran: Thank you. Yes. Again, to give credit where it’s due, my Hudson Bay Capital colleague, Nouriel Roubini, and Peter Ireland from Boston College wrote this paper together with me. Our goal in this paper was, again, going back to before, it’s very clear from Chairman Warsh’s speeches, essays, and writings over the last couple of decades, that he very, very firmly views money as being a part of monetary policy. Monetary policy has something to do with money. This is a view that has been out of fashion at the Fed and other central banks for a long time.

The reasons for that are well known. If you sort of go back to the ’80s, there started to be what economists would call instability in money demand. For people who are not economists, just imagine, go back to your first-year freshman macroeconomics class and picture MV equals PY in your head. If V starts moving around—velocity of money—then MV equals PY ceases to be very useful for predicting P or Y. If that is the case, then monetarism as a useful framework goes away. Economists would call this instability of money demand. V is money demand.

Therefore, monetarism slowly faded and faded and faded until, in the last 10 years or so, Bernanke, Yellen, and Powell started saying that it has nothing to do with monetary policy. Implementation has nothing to do with monetary policy. Forecasting contains no valuable information type of stuff. I dove into this subject, sort of saying, “Okay, what’s going on here?” There is a literature that’s emerged over the last dozen years or so, which Peter Ireland has been a key figure in spearheading, to resuscitate monetarism. The way that this literature operates is super interesting.

It coalesces around what are called Divisia monetary aggregates, named after a French economist, François Divisia. When you think of a money aggregate, like M2, the most popular, simple money aggregate, it basically just adds all the types of money together. What the Divisia literature says is, “No, no, you can’t do that.” Different types of money do different things. If you, again, go back to your freshman macroeconomics, some money is a means of transactions, a means of payments. You’re buying a soda, you pay for it with money, and some money is a store of value.

It’s a savings account or a money market fund or a Treasury bill that you don’t actually use for transactions. It’s a store of value. If you’re adding the two types of money together, some money is used for transactions, some money is used for savings, and then this money that’s used for savings explodes; it’s not going to tell you anything about transactions. Therefore, as you get financial innovation that occurs over the course of recent decades, for example, the introduction of money market funds, money market funds are predominantly used for savings, not for transactions.

If you include that at the same time as a checking account, at the same weight, you’re going to be misled. It’s that type of financial innovation that led simple-sum monetary aggregates to become less useful. Now, what the Divisia folks say is you just got to weight these things. When you’re constructing the consumer price index, you weight housing more highly than you weight video games because people spend a larger share of their consumption bundle on housing than they do on video games. Housing gets a much bigger weight than the video games.

What the Divisia approach says is, “Okay, well, you’ve got to do the same thing here.” You’ve got to weight currency, central bank reserves, and the checking account more highly than you’re going to weight a savings account and a money market fund and a Treasury because the former are very transactions-focused and the latter are very savings-focused. If you’re interested in predicting transactions, which is nominal GDP growth, then you care about transactions-based money. Once you start doing this, the basic monetarist frameworks become a lot more useful and far from being useless as the critics claimed.

Rewind 15 years ago to the post-GFC environment when the Fed was doing QE; there were countless op-eds and essays about how M2 was exploding because of QE, and then there was going to be hyperinflation. Then, of course, we continued to have deflationary pressures for some time after that. This was viewed as a failing of monetarism. The Divisia folks would argue, “Well, you were just measuring money wrong. It’s just that you were measuring money wrong.”

Once you start measuring money correctly through using the Divisia-type approaches, where you’re weighting things based on how money-like they are, and in economists speak the amount of liquidity services they provide, once you start doing that, the tools regain their usefulness. Once you start measuring money the right way, first of all, monetarism becomes a lot more useful in history. It gets the post-GFC environment correctly, where, despite the explosion in simple sum M2, it really did capture the strongly deflationary pressure coming from the shadow banking system and would have told you that monetary policy was not easy enough, let alone being hyperinflationary.

It gets the post-pandemic experience correctly, where it says, “Hey, there’s a ton of latent inflationary pressure. Something’s really strongly out of whack here.” It gets the post-pandemic disinflationary experience as well, where inflation starts coming down in 2022, ’23, into ’24 and ’25. Once you start measuring money correctly, monetarism becomes a much more useful tool. Our goal in this paper is not to say that, “Hey, look, everything you know is wrong, every other model is useless.” The goal in the paper to say is that this is useful information.

As useful information, it shouldn’t be thrown out. It should be looked at. It’s another useful arrow in the quiver. As useful information, it’s something that you should look at and use as a cross-check on the other work that you’re doing.

Beckworth: That’s the key takeaway I got from the paper, is this is useful information that should be put to use by monetary policy officials. Cross-check yourself. Maybe had they cross-checked in 2021, 2022, it may have given them another, not the only, but another early warning sign that, “Hey, maybe things are a little hotter than they anticipated. Maybe less focus on transitory definitions. Maybe look at some of these burgeoning liquidity pressures.” Another way of saying this about the Divisia measures is that it leads to a more stable velocity term or a more stable relationship between money, at least as they measure it, and nominal GDP?

Miran: Yes, that’s exactly it. The Divisia velocities are more stable than simplistic velocities because the Divisia velocities are allowing you to account for financial innovation. When different types of money become more or less transaction-focused, or a new type of money is more or less transaction-focused, it ends up not distorting the entire integration because it gets weighted based on how money-like it is.

Beckworth: Yes, and the nice thing also about it is it comes out monthly. You can look at labor market data monthly, but you could also take a look at the Divisia measures monthly. Again, cross-check yourself. See what’s happening now, Stephen, I know there’s the Center for Financial Stability that hosts this data, or at least the ones that are made public in New York City. They also have a range of measures in terms of breadth of assets. There’s a Divisia M1 all the way to Divisia M4. Do you have a preference for which one of those you would use?

Miran: I think they are all useful. I think the thing is that, like all economic data, they require nuance. You’ve got to think about what’s driving things at this specific moment. When you have divergences between them, is that a divergence that has a message, and what’s the message. Look, if you could only choose one measure, I think the plain Divisia M2 is probably the best one. However, the M4 has very, very valuable information. Right now, the growth in the M4 is somewhat above where the growth in M2 is. The difference, of course, is M4 includes a lot more financial system stuff than M2 does.

What that tells you is that maybe the market is starting to see some financial excesses. If that wedge between the two grows from here and expands further, it might be telling you, “Hey, this is actually a significant amount of frothiness. Financial markets are becoming unmoored from fundamentals.” That’s the type of nuance that you have to try and draw from these data. There’s no question in my mind that I prefer the Divisia data to the simple sum data. I think this is where the profession has gone in terms of the people who look at monetarism and money aggregates.

This is where the research has gone in the last 12 years, dozen years or so. Because of that, this is where, as the Fed starts to incorporate more of this into their work as well, I think this is where they’ll end up as well because it makes sense. Do I have a strong view that Divisia M2 is always and everywhere better than M4 or vice versa? No, I don’t.

Beckworth: The next question I was going to ask you kind of answered, but do you think the Fed under Kevin Warsh will start publishing Divisia measures of money versus the simple sum that they currently do?

Miran: I don’t know if they will. For one thing, as he points out, the Center for Financial Stability is already publishing them. If somebody else has already given you data, you don’t really need to reproduce it yourself. I do think that they’ll end up using those data because it makes sense. The economic argument is very strong. I think that the Fed is already moving in the monetarist direction. Again, to be clear, I don’t think that monetarism is going to wholesale replace everything that people do with monetary policy. I think it’s going to be an additional tool in the toolkit, and it’s going to be a useful cross-check.

As you said before, if you looked at this in late 2020 and early 2021 and into 2022, you would have said, “Holy crap, we’re really behind the curve. We got to shift policy ASAP and sharply” way before they actually did. To be clear, that’s not what the data are saying now. The data right now are not saying they’re behind the curve in any possible sense. They were in 2021, very, very clearly. It’s another useful tool. The Fed is already moving in this direction. 

As I’m sure you are aware, ahead of his first Humphrey-Hawkins testimony, Chairman Moore sent a monetary policy report to Congress. That monetary policy report included, for the first time in many, many years, a box on M2. What the box on M2 said was that M2 growth is at similar levels to what it was in the 2010s. The velocity of M2 is slightly below where it was in 2019. I think we are going to get more and more of this stuff and in this direction as time goes on, as indeed we should, because I think the techniques have proven themselves to be useful.

Beckworth: I would also note that it’s actually in the Federal Reserve Act that the Fed’s supposed to be reporting and following the credit and monetary aggregates. 

Miran: We said this in the paper. The Fed’s mandate is to manage long-run growth of monetary aggregates consistent with maximum employment, stable prices, and moderate long-term interest rates. The Fed’s mandate is explicitly about those monetary aggregates.

Beckworth: Yes, which I was actually surprised. I learned this, Steve, only recently. I was like, “What? Are you serious? It actually says that?” It does. Again, the more practical side is, it can help the Fed out. It can make a difference. It can minimize all the criticisms that it gets. If it can stay ahead of the curve, another cross-check, it’s so useful. I think that paper is an important paper. We’ll provide a link to it. Also, hopefully, people at the Fed are listening. We’ll check it out. 

With that, our time is up. Our guest today has been Stephen Miran. Thank you so much for coming back on the show, Steve.

Miran: Thanks for having me. Great to see you.

Beckworth: Macro Musings is produced by the Mercatus Center at George Mason University. Dive deeper into our research at mercatus.org/monetarypolicy. You can subscribe to the show on Apple Podcasts, Spotify, or your favorite podcast app. If you like this podcast, please consider giving us a rating and leaving a review. This helps other thoughtful people like you find the show. Find me on Twitter @DavidBeckworth, and follow the show @Macro_Musings.