AI could drive up the neutral rate of interest in an economy
As improvements in artificial intelligence (AI) continue apace, so do questions about how AI will influence economies, asset prices and—the question of the moment—interest rates in America: Is AI more likely to make them go up or down? You might think economists would have a simple handle on such a straightforward query, but the both macroeconomics and AI are complex. Nevertheless, I have a bold prediction: Real or inflation-adjusted rates will go up, and for a considerable period of time. The conventional wisdom is that rates tend to fall as wealth and productivity rise in an economy.
It is easy to see where this view comes from, as real rates of interest, especially in the US, have been generally falling for four decades. As for the theory, lending becomes safer over time, even as the wealth available for saving is higher. So why might these mechanisms stop working? My counter-intuitive prediction rests on two considerations.
First, as a matter of practice, if there is a true AI boom, or the advent of artificial general intelligence (AGI), the demand for capital expenditures will be extremely high. Second, as a matter of theory, the productivity of capital is a major factor in shaping real interest rates. If capital productivity rises significantly due to AI, real interest rates ought to rise as well.
Think about capex in a world of AI. The scurry to produce more high-quality semiconductor chips will continue. Those investments are not easy or cheap.
But the demand for investment will not stop there. The more that AI is integrated into lives and business plans, the higher will be the demand for computation. That will induce a significant expansion of energy infrastructure.
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