When AI is part of the inflation problem
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Chicago Fed president Austan Goolsbee. Photo: David Paul Morris/Bloomberg via Getty Images
The AI-related data center buildout may be fueling overall demand — and inflation — in ways that compel a response by the Federal Reserve, a top official said this morning.
Why it matters: After last week's interest rate hike, it's now an open question how much further the Fed will push rates upward — and the more the AI buildout is viewed as a culprit, the higher rates will need to go to get aggregate demand and supply into balance.
Driving the news: Chicago Fed president Austan Goolsbee, speaking in London, noted that the negative supply shocks of this decade have proven more frequent and more sustained than in the past — suggesting that the Fed may need to eschew the usual central banking orthodoxy to look past them.
- But he also went a step further, pointing to evidence that the AI investment boom — with its large-scale data center construction, purchases of semiconductors and more — may be fueling excess demand.
- That, in turn, implies that rates may need to be higher even if one believes the supply shocks from tariffs and the Iran war will prove to be one-time events.
What they're saying: "I'm especially attuned to elevated inflation in service-sector industries and to any evidence that AI data center construction is spilling out of its own lane and raising aggregate output beyond what the economy can absorb," Goolsbee said at an Official Monetary and Financial Institutions event.
- "Either could be signs of old-fashioned demand overheating — and if demand overheats, there is no ambiguity about how the Fed needs to respond."
- "On the supply side — oil, tariffs, and commodity prices — forecasters have spent more than a year pushing back the date when inflation was supposed to peak and start falling," he noted.
- "Whether you attribute this to a steady stream of new supply shocks or to old shocks proving more persistent than expected, this has been nothing like the 'one and done' pattern that underpins the case for looking through."
Reality check: With hyperscalers forecasting massive investment needs to satiate demand for AI computing power, and anticipating soaring returns, it is not clear that slightly higher interest rates will curtail spending enough to dampen demand.
Yes, but: Even if rate hikes don't slow data center development, they may curtail other spending enough to lower demand and inflation.
- "It doesn't have to be that the AI is interest rate sensitive," Goolsbee told reporters. "What has to happen is aggregate output needs to be brought into balance, and by changing the interest rates, where you're going to see that is business investment, construction slash housing, and consumer durables."
