At GIC Insights 2024, GIC’s annual thought leadership event, Kevin Warsh, former member of the US Federal Reserve Board of Governors, reflected on the evolving role of central banks amid economic uncertainties, the long-term drivers of inflation, and the US dollar’s future as the global reserve currency.

The following is an adapted transcript of Kevin’s full interview and has been edited for clarity and brevity.

How do you see the Federal Reserve’s interest rate policy evolving over the next few years?

KEVIN: The Federal Reserve keeps giving us quarterly forecasts and projections. So, four times a year, they say what their expectations are for interest rates, the economy, and inflation over the next several years.

They do that in the name of transparency. But I worry whether it constrains them from doing the right thing as different facts and events unfold. Their forecasting record on what’s going to happen a year into it has not been a great one because they have been hit by unexpected shocks. I happen to think they would probably be better off keeping their cards a little closer to the vest, so when the facts and circumstances change, they can change interest rates with them.

How should central banks respond to the current macroeconomic environment?

KEVIN: I think good central banks start out very humble. Being the Federal Reserve in particular, you have got to be very focused on the US economy, but also focused on what’s happening in the rest of the world because it can affect the US economy. The world is, as my former mentor and boss, George Shultz said, at one of these “great inflection points”.

So I would be more humble even than normal as a central banker. I think the other few questions they need to ask themselves is, “What really is inflation?”

That is a change in prices happening broadly because of some exogenous shock. That’s more like the weather. Inflation’s more like the climate—the structural change in price levels over time based on long term structural factors. So I would suggest that there be a more serious and more transparent theory of the case of what really is the climate versus the weather, what is inflation versus a relative change in prices.

What are the key drivers of inflation moving forward?

KEVIN: In terms of what’s going to drive inflation going forward, I think a lot of that is [based on] the decision-making of the world’s fiscal and monetary authorities. If they decide that we need bigger governments and more spending, or if we need more money printing because there is an absence of liquidity in markets, well, that sure sounds like a recipe for structurally higher inflation.

The changes in climate are real and are going to be hugely consequential. But again, inflation is a choice. The central bank can have inflation, broadly speaking, at whatever level it wants over time. We don’t have [such] finely tuned instruments that we can solve for it every day, month, or quarter. But inflation is within the control of the government.

What role should the Federal Reserve play in the global economy?

KEVIN: We have come to the view, especially over the last couple of decades, that the central bank is the front page of the newspaper, not just here in New York, but everywhere around the world. I understand that in crisis times.

J.P. Morgan, who preceded the Federal Reserve in his import, had to do that as a man and as an institution. The idea is a central bank should be having that role. Somehow over the last couple of decades, the central bank has become more common in our everyday activities, more common in financial markets, in setting prices and making prices instead of listening to prices and taking them. My own view is that in crises like the 2008 financial crisis, that’s the time the central banks in the US and around the world need to step up. This is also true for the 2020 pandemic. But we have had long periods of time, for example, between the 2008 crisis and the 2020 crisis, when we should have gone as central bankers from the front page of the news to being buried in the business section—where we would say the Federal Reserve met today and we raised rates 25 basis points and no one much paid attention.

But the more we played this prominent role, the more expectations are in markets and among businesses that we would do so. I think that hurts us in two respects: when another crisis comes, we won’t have the capacity to be as aggressive as necessary, or we will have to cross more lines, to really do extraordinary things, which can crowd out private investments. The second reason why this balance troubles me a bit is [because] the central bankers I know in the US and around the world are incredibly talented, competent and well-intentioned. But there can be mission creep. And if we are entering these markets most days, all in the context of monetary policy, we can see where monetary policy and fiscal policy can overlap.

That always happens in crises, but in order to preserve the credibility of the central bank—which is its most important asset and more important than the printing press—I would suggest that we be prepared to act in exigent circumstances and prepared to get off the front page of the news most other days.

What is the US dollar’s role as a reserve currency going forward?

KEVIN: I think the US benefits from having the dollar as the world’s reserve currency. It makes it better and easier for households and businesses to do business with the world. I think it’s better that the dollar is used in something like 80%-85% of all transactions as a unit of account, even if the US isn’t central to it. And why does the world do that?

Because the US has earned that—the US economy in the post-World War Two period has been so productive, the output so strong, innovation so robust, that it’s a privilege that has been earned. I think it accrues benefits not just to the US, but to the world for there to be an integrated global economy. And this, here I will sound like a parochial American, for policymaking and the dollar in the US to be leading that, because…

So I think the dollar has an important role to play and the Federal Reserve has an important role to play in ensuring that continues.

How is innovation and the entrepreneurial spirit preserved in the US economy?

KEVIN: We have been a source of foreign capital, a source of foreign innovation and a source of foreign talent. And it’s quite exciting. We policymakers tend to think it’s because of us: somehow we did monetary or fiscal policy just right. But the most important things that we learn over and over in the US economy isn’t macroeconomic policy, but rather what we used to call the micro foundations of macro. Those micro foundations still seem to be working better in the US than the rest of the world, and that’s probably the best thing we can do to advance the US economy and advance American prosperity.