AI productivity could push interest rates up OR down.
The difference is whether the productivity boom is expected before it arrives.
Chicago Fed researchers modeled a 10-year productivity surge.
When an extra 1 percentage point of annual productivity growth is fully anticipated, their model implies interest rates about 50 basis points higher during the surge.
Why?
Expected future productivity makes households feel richer and pulls spending forward before all of the additional productive capacity exists.
That raises the natural rate of interest.
But when the same productivity gains arrive unexpectedly, the model produces the opposite result: lower costs and inflation push the appropriate rate down.
This is a model, not a Fed forecast.
But the investment implication is important.
The AI bull case doesn't automatically mean lower rates.
Markets can price enormous future productivity gains while today's economy still faces stronger demand, heavy investment and a higher discount rate.
That means AI companies can deliver real growth while their valuations still face pressure from rates.
AI can improve future earnings and raise today's cost of capital at the same time.
The difference is whether the productivity boom is expected before it arrives.
Chicago Fed researchers modeled a 10-year productivity surge.
When an extra 1 percentage point of annual productivity growth is fully anticipated, their model implies interest rates about 50 basis points higher during the surge.
Why?
Expected future productivity makes households feel richer and pulls spending forward before all of the additional productive capacity exists.
That raises the natural rate of interest.
But when the same productivity gains arrive unexpectedly, the model produces the opposite result: lower costs and inflation push the appropriate rate down.
This is a model, not a Fed forecast.
But the investment implication is important.
The AI bull case doesn't automatically mean lower rates.
Markets can price enormous future productivity gains while today's economy still faces stronger demand, heavy investment and a higher discount rate.
That means AI companies can deliver real growth while their valuations still face pressure from rates.
AI can improve future earnings and raise today's cost of capital at the same time.