There’s been much discussion of AI’s deflationary potential, but this issue must be viewed in the broader context of other megatrends influencing a new investment regime.
There is a long history of automation leading to deflation, or at least disinflation—it was one of the key economic narratives before the COVID-19 pandemic. Does the rollout of AI offer a possible new impetus for deflation? If it does, it would have massive implications for asset allocation as well as imply that nominal fixed-income assets are attractively priced after the recent rise in yields.
However, we think this issue needs to be seen in the broader context of other megatrends that are influencing the investment regime.
We’ve made the case in recent notes, including our black book, that we were already in a new strategic investment regime even before AI exploded into the public consciousness. Specifically, we mean a new regime versus the dominant paradigm that has been in place since the 1980s. The confluence of deglobalization, a shrinking working-age population in most key economies and the need to pay for the energy transition all imply a default setting of higher inflation.
A Potential Counter to Inflationary Secular Trends
What forces could work against this trend? AI is the strongest contender. In meetings with CIOs and asset allocators over the past six months, AI has been brought up by many investors struggling to assess how, as an economic force, it will interact with these other trends. Two potential narratives are key here, viewed through the narrow lens of economic and investment concerns: AI’s roles as a potential deflationary source and as a force for higher growth through better productivity.
Assessing the potential impact on prices requires untangling the near-term cyclical inflation wave from longer-term inflationary forces likely to act on prices over the next five to 10 years. The cyclical wave took much longer to tame than central banks expected and was essentially a hangover from supply constraints born in the pandemic and simultaneous extra demand from fiscal support. Russia’s invasion of Ukraine added another inflationary impetus. AI is a force that acts over much longer time horizons, so it’s appropriate to compare it to the other mega forces we noted earlier.
It’s incredibly hard to quantify the scale of AI’s impact at this early stage of its rollout, especially as the role of automation in the disinflationary environment of recent decades is hotly debated. There is an unavoidable joint-hypothesis problem: How much of the disinflation in recent decades was from automation and how much was from the extra supply of labor from globalization and favorable demographics along with policy choices and independent central banks?
Even if AI’s impact is hard to quantify at this stage, through what mechanism could it impact prices? As with the internet, it’s about giving powerful tools to a wide range of economic agents at low cost, enabling them to reduce the cost of producing many services.
The Labor Dimension of AI’s Productivity Inroads
A specific impact on wages is a key part of any narrative of AI and deflation. As with many previous technology waves, AI in the near term creates a risk of displacing workers, reducing labor’s bargaining power. What is notable and different from the recent past is that the professions most at risk from AI have very low rates of unionization (Display). Other things equal, this implies that workers may have less bargaining power in the face of disruption.
