Fed risks fueling a stock bubble by overlooking AI-driven inflation: BCA

Investing.com -- The Federal Reserve's reluctance to raise interest rates risks amplifying a brewing stock market bubble by underestimating the inflationary impact of artificial intelligence, BCA Research warned.

Chief Strategist Peter Berezin pushed back on the view previously stated by Fed Chair Kevin Warsh that AI will lower inflation and allow the Fed to cut rates, calling that assessment wrong in the near term.

"AI is currently raising prices for everything from electricity to memory chips," Berezin wrote, adding that a soaring stock market has encouraged households to spend more, adding further inflationary pressure.

BCA believes the long-term picture is less clear-cut. Berezin explained that standard economic theory suggests that faster productivity growth, a higher depreciation rate, and an increase in capital's share of income should all lift the equilibrium real interest rate, arguing against the view that AI is inherently disinflationary over time.

The firm identified two scenarios in which AI could ultimately lower inflation and interest rates, neither of which would be welcome.

The first is a major AI capital expenditure bust, and the second is a significant increase in income inequality.

BCA’s MacroQuant model is said to indicate that stocks are currently overbought but have not yet reached a level consistent with an imminent bear market.

"The Fed's reluctance to hike rates is understandable, but it risks amplifying what may already be a brewing stock market bubble," Berezin wrote.

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