Goldman Sachs Interprets Federal Reserve's "Five Working Groups": If Waller Wants to Use This to "Cut Rates," It's Hard to Get Support

Goldman Sachs believes that the recommendations of the Federal Reserve's "Five Major Working Groups" are not binding on the FOMC, and Chair Kevin Warsh’s aggressive positions in multiple areas—including cutting forward guidance, shrinking the balance sheet, and promoting easing under the narrative of AI-induced deflation—are unlikely to win majority support within the FOMC. The ultimate outcome will be a series of "compromises that appear significant to Warsh but have limited impact for other officials."

According to CryptoDesk, Fed Chair Warsh recently announced the formation of the "Five Major Monetary Policy Working Groups," aiming to reshape the Fed’s approach in five dimensions: communication mechanism, balance sheet, data acquisition, AI and productivity, and inflation framework. However, in its July 20 research report, Goldman Sachs provides a sobering reality check: if investors are betting that Warsh can leverage the "AI’s structural deflation effect" narrative to push for current rate cuts (dovish monetary policy), they are destined to be disappointed.

Goldman Sachs points out that although Warsh, as Chair, holds significant power in press conferences and other communication channels, his radical propositions (such as sizable balance sheet reductions or dovish policies based on AI expectations) sharply conflict with the institutional inertia of the Federal Open Market Committee (FOMC).

Therefore, the bank believes that the Fed's policy path will not turn radically. The FOMC is extremely unlikely to agree to ease policy today based on forecasts of future productivity. On the balance sheet and forward guidance, the most probable outcome is a compromise that is "superficially satisfying to Warsh while having limited real impact" (for example, ceasing publication of the median dot plot in projections or making minor adjustments to asset purchase composition). The Treasury will also offset the market impact from Fed asset structure changes by adjusting its issuance strategy.

Goldman Sachs maintains its federal funds rate forecast: the target range is 3.50%-3.75% throughout 2026 and gradually falls to 3.00%-3.25% in 2027.

Working Group One: Communication Mechanisms—The "Dot Plot" May Be Marginalized, But Won’t Vanish

Warsh’s Position: Advocates sharply reducing forward guidance, so far has made few public statements even on his own economic outlook.

Working Group Leaders: Economist Peter Fisher (University of Washington), former Central Bank of Brazil Governor Arminio Fraga, and former Bank of England Governor Mervyn King. All three believe central banks should clarify their reaction function while openly admitting the uncertainty of their forecasts.

Core Controversy: Whether to revise the Summary of Economic Projections (SEP)—especially the interest rate "dot plot" section.

Goldman Sachs notes that although the FOMC discussed communication reform last year, no consensus was reached; pushing for major changes again in the short term will be even more difficult. Warsh has hinted that the dot plot may be discontinued, and a few FOMC members are also skeptical of the current approach. However, Goldman Sachs believes that completely eliminating the dot plot would be too great a step backward in transparency for the majority of officials.

Most Likely Compromise: Adopting former Vice Chair Don Kohn’s proposal—not publishing the median forecast in the SEP to prevent it from being interpreted as the official stance of the FOMC. For Warsh, this change is symbolically significant, but investors can still calculate the median themselves, so the actual information loss is limited.

Additionally, Goldman Sachs suggests two ways to enhance reaction function transparency: First, linking each member’s economic forecasts with their rate forecasts; second, releasing Fed staff scenario analyses. At present, the eight pages of uncertainty quantification appended to the SEP draw virtually no market attention.

Working Group Two: Balance Sheet—"Ample Reserves" Framework Is Hard to Shake

Warsh’s Position: A long-term critic of quantitative easing (QE) and the Fed’s large balance sheet, calling for a review of the "ample reserves" framework and asset composition. Recently, he admitted, "I am not naïve enough to think that we can return to the state of affairs when I joined the Fed in 2006."

Working Group Leaders: Harvard Economics Professor Karen Dynan, University of Chicago Professor Raghuram Rajan (former Governor of the Reserve Bank of India), and Harvard Professor Jeremy Stein (former Fed Governor).

The three have differing views: In his Jackson Hole paper, Stein argues that a large balance sheet supports financial stability by ensuring ample reserves, thus reducing financial intermediaries’ reliance on run-prone short-term funding. Rajan, on the other hand, warns that balance sheet expansion has a "ratchet effect"—increased bank deposits during QE shift business models, which is hard to fully reverse during quantitative tightening.

Goldman Sachs’s View: There is virtually no support within the FOMC to abandon the ample reserves framework, and regulatory measures to reduce banks’ reserve demands (and thus shrink the balance sheet) have very limited room. The ratchet effect is viewed mainly as a reason to raise the bar for future QE, not as a current major concern.

The Real Unresolved Question: What assets should the Fed hold in the long run? The two options are: buy Treasuries in proportion to Treasury issuance (supporting Treasury’s debt management function), or mainly hold short-term bills (to match asset-liability duration and reduce profit volatility). Goldman Sachs believes the Treasury can offset whichever approach the Fed chooses by adjusting its issuance strategy, leading to limited net impact on rates.

Working Group Three: Data Quality—Private Data as Supplement, Not Substitute

Warsh’s Position: Criticizes "old-fashioned survey methods" and the tendency for official statistics to be revised, calls on the Fed and statistical agencies to make more use of private data, especially for new measures of inflation.

Working Group Leaders: Harvard Professor Raj Chetty, University of Chicago Professor Kevin Murphy, former Walmart CEO Doug McMillon. During the pandemic, Chetty’s “Opportunity Insights” lab pioneered systematic use of private data from credit card processors and payroll services for real-time tracking of jobs and consumption.

Goldman Sachs’s Assessment: The use of private data has advanced for years at both the Fed and statistical agencies, with little controversy over its direction—but faces increasingly tight budget constraints.

The key challenge is that private data often fails to meet the three core requirements of high-quality economic statistics: representativeness, accurate seasonal adjustment, and sustained availability. For example, the “Opportunity Insights” job data now shows a sizable gap versus nonfarm payroll data. More seriously, some companies that began providing data during the pandemic have since stopped, while official statistical series must remain consistently comparable for decades.

Goldman Sachs’s Judgment: Private data is more likely to supplement than replace official data, and raw data still needs to be processed by Fed staff or statistical agencies before it can be used for policy.

Working Group Four: AI and Productivity—"Future Deflation" Is Not Sufficient to Support Current Rate Cuts

Warsh’s Position: Believes AI will create a “structural deflation” effect whose impact could dwarf past technological advances.

Working Group Leaders: Andreessen Horowitz co-founder Marc Andreessen, Microsoft Xbox CEO Asha Sharma, Stanford Economics Professor Charles Jones (currently on leave at Anthropic).

In a recent NBER working paper, Jones concludes that AI will eventually significantly boost productivity, but since tasks still requiring human involvement will become a production bottleneck, the full effect will take considerable time to materialize, giving the labor market time to adjust.

Goldman Sachs’s historical research finds: Periods of accelerated technological progress are associated, on average, with slightly higher job displacement and unemployment, and somewhat lower inflation, allowing the Fed to moderately cut rates to support the labor market’s transition.

But Goldman Sachs makes clear that this logic is not enough to support the current dovish stance for two reasons: First, productivity forecasts have historically been extremely hard to get right, with predictions remaining bleak even at the end of the last cycle. Second, several FOMC members have warned of near-term inflation pressures from AI demand, in direct contrast to Warsh’s downplaying of these risks.

Goldman Sachs concludes: Most FOMC members will remain skeptical of arguments to "ease policy today based on anticipated future gains from AI-driven productivity." Warsh’s reference to the Greenspan era—when strong productivity growth kept the Fed from hiking rates despite robust GDP—might be accepted, but pushing for rate cuts today solely on productivity forecasts will be a hard case to make.

Working Group Five: Inflation Framework—Monetarism Resurgence Is Limited, Consensus on Dealing with Supply Shocks

Working Group Leaders: Harvard Economics Professor Greg Mankiw (former CEA Chair), NYU Professor Thomas Sargent (Nobel Laureate), C.D. Howe Institute Senior Fellow William White (former BIS Economic Adviser).

Goldman Sachs’s View on Three Main Issues:

(1) Inflation Target Statement: Both Warsh and Mankiw propose treating the inflation target as “2%” rather than “2.0%,” avoiding excessive self-criticism for small deviations. Goldman Sachs finds this view uncontroversial in the current context.

(2) Money Supply: Warsh advocates renewed attention to monetary aggregates, but made clear in Congressional testimony that “I am not a monetarist.” Mankiw also suggests “it may be time to reconsider the practice of ignoring money supply.” In its economic forecasts, Goldman Sachs uses price-based financial conditions indices rather than M2 or other quantity measures. Fed staff may be skeptical about the relevance of traditional aggregates but are open to exploring alternatives such as Divisia indexes to see if they improve inflation models.

Notably, Warsh has included M2 in the latest Monetary Policy Report, but Fed staff added a mild disclaimer: “In a modern economy, money stocks are hard to measure accurately.”

(3) Responding to Supply Shocks: Since 2020, supply shocks have become markedly more frequent. Warsh’s view—ensuring initial price shocks “do not become entrenched and spread”—is likely to be broadly supported by other Fed officials. Goldman Sachs tracks inflation diffusion measures to assess these risks but notes that judging the persistence of supply shocks remains a core challenge, and neither economic theory nor the working group can offer simple answers.