Federal Reserve Board Chairman Jerome Powell holds a press conference after the Fed raised interest rates by a quarter of a percentage point following a two-day meeting of the Federal Open Market Committee (FOMC) on interest rate policy in Washington, March 22, 2023.
Leah Millis | Reuters
As the Federal Reserve continues to tighten monetary policy, with another quarter-point rate hike expected May 3it’s time to ask whether the central bank has looked further to see if deflation – not inflation – is the next approaching economic condition.
With the advent of generative artificial intelligence, one could argue that this short burst of post-pandemic inflation will soon be eclipsed by deflationary forces fostered by the rapid adoption of AI.
The rapid adoption of AI tools – like ChatGPT, machine learning, natural language processing programs and the deployment of robots to handle human tasks – inflationary pressures, especially in labor markets, could evaporate much faster than currently assumed.
We can save for another day the apocalyptic concerns of an emerging Skynet moment which, if it occurs, renders all inflation and deflation concerns irrelevant.
People better informed than I are debating these risks as I write.
From an economic perspective, however, AI and all of its associated tools are extremely deflationary.
AI as a deflationary force
AI is rapidly being adopted by businesses. According to Goldman Sachs estimates, this could reduce the global need for labor by a few 300 million jobs.
It is true that with each technological advance, workers are displaced and the costs of specific goods and services decrease accordingly.
This has been true since the invention of the wheel, the plow and the internet. Of course, more jobs in each new industrial or information revolution were also created.
But generative AI may be different: it is quickly becoming a pervasive force in the workplace. For starters, it’s affecting coding — currently a high-paying job — even as other aspects of a new tech revolution replace humans with robots in everything from advanced manufacturing to fast food.
I’m not saying much new here in terms of conventional wisdom about what AI will do for the future of the workforce, other than to add that inflation may fall quickly and strongly as these new tools are rolled out. This was the case in the 1990s.
A lesson from the 1990s
The Fed of the 1990s, under the leadership of Alan Greenspan, witnessed the persistence of lower-than-expected inflation as the Internet age dawned.
Indeed, the Fed allowed interest rates to stay lower for longer at the time. The central bank took this approach despite very rapid economic growth and strong job creation, as it watched the prices of goods and services remain calm, defying the Phillips Curve the orthodoxy long accepted as gospel among economists of the time.
The Phillips curve suggests that inflation accelerates faster when labor markets reach full employment and competition for scarce workers pushes up wages. This is an argument the Fed is making once again today.
Whether this is true in another wave of rapid technological advancement remains to be seen.
Post-pandemic inflation remains high, relative to recent history, but is down sharply from its peak.
As the US and global economies continue to normalize, AI could be an accelerator for lower inflation, leading to 1990s-style disinflation or a prolonged wave of outright deflation.
The cost of a robot, for example, has plunged and will likely down another 50% in the next few years, making robots cheaper than humans in logistics jobs. This would not only lead to greater efficiency, but also to lower costs for end users of manufactured goods.
Even service jobs could be affected, bringing down inflation which remains stubbornly high in this huge sector of the economy.
A change in the Fed’s view of the economy?
The 1990s can seem relatively inflationary compared to the coming decade, when AI helps workers or eliminates them entirely, even rendering some creative jobs entirely obsolete.
Yes, there are downsides to an idle workforce. New means of support, such as a universal basic income, may be needed to help those made redundant.
This too would be deflationary, as government compensation would probably not reach the level of current wages.
All these debates around AI will rage on for years.
However, in terms of the overall impact on the economy, is the central bank prepared to change its stance on interest rate policy with a more forward-looking view of what is likely to happen in the near term? ?
For now, he is setting his policy by continuing to look in the rear-view mirror to avoid the mistakes of 50 years ago.
It won’t take 50 years for a new set of economic realities to change the course of inflation which is largely the product of twin shocks to the economy that have already largely run their course.
— Ron Insana is a CNBC contributor and senior adviser at Schroders.