In 2018 President Trump is expected to replace 5 of 7 members of the Federal Reserve Board. Many believe billionaire Kevin Warsh will replace Janet Yellen as Chairman. Warsh has been skeptical of quantitative easing and zero interest rates.
If Warsh becomes Fed chair, interest rates are headed higher faster and the bloated Fed balance sheet will be reduced. While Warsh lacks Yellen and Bernanke's PhD in economics, he does have a J.D. from Harvard, and was a Federal Reserve Governor, during the financial crisis in 2010. Warsh's Father-in-law, Ronald Lauder, is the billionaire heir to the Estee Lauder Companies, the president of the World Jewish Congress, and a life long friend of Donald Trump.
Kevin Warsh, as Federal Reserve Chairman, may find himself boxed in. As interest rates bounce along the zero lower bound, few realize we are trapped with high debt. With U.S. debt at $20 trillion, each 1% increase in interest rates will increase the deficit by $200 billion. If short-term rates went back to 5%, the carry cost on $20 trillion in debt is $1 trillion annually.
The Federal Reserve balance sheet increased from $915 billion in 2007 to $4.5 trillion in 2017. With net capital of $53 billion, its capital to asset ratio is 1%. If Fed assets were marked to the market, unrealized losses would give the Federal Reserve a negative net worth. An increase in interest rates is expected to kill the real estate and stock market bubbles and throw the U.S. into a recession. The top 25 U.S. banks have 222 trillion dollars in exposure to derivatives. The nominal value of futures contracts held by banks often dramatically exceed assets, and are used more for gambling than hedging. Kevin Warsh may find it difficult to restore interest rates to market levels without a financial crash.
Dr. Steve Johnston
