Public and Waller "singing a different tune"? Multiple Federal Reserve officials state: AI-enhanced productivity may imply "higher neutral interest rates"

Several Federal Reserve officials recently stated that the productivity growth brought about by artificial intelligence may imply higher interest rate levels, a view that sharply contrasts with the stance of the Trump administration and its Federal Reserve chair nominee, Walsh.

Federal Reserve Governor Michael Barr said in a speech in New York on Tuesday that he expects the AI boom is unlikely to be a reason for lowering policy rates. He pointed out that factors such as capital demand and household savings may exert upward pressure on interest rates.

San Francisco Fed President Mary Daly also stated that under the "standard model," the acceleration of productivity growth triggered by AI will lead to a higher neutral rate, as investment demand will rise relative to savings supply.

This analysis poses a challenge for investors hoping for rate cuts. According to futures market pricing, investors currently expect the Federal Reserve will not cut rates before mid-year. After holding steady at the January meeting, the Fed has maintained the benchmark rate in the range of 3.5% to 3.75% following three rate cuts in 2025.

Divergence from Trump Camp's Position

The Federal Reserve officials' judgment on the relationship between AI and interest rates starkly contrasts with the views of the White House and its Federal Reserve chair nominee, Walsh. President Trump has continuously pressured the Federal Reserve to lower borrowing costs. Walsh echoed the government officials' viewpoint, suggesting that AI could unleash a productivity boom, leading to non-inflationary growth accompanied by lower rates.

However, differing opinions are forming within the Fed. Federal Reserve Vice Chairman Philip Jefferson had already suggested in a speech on February 6 that, all else being equal, a sustained increase in productivity growth could lead to a rise in the neutral rate, at least temporarily.

As President Powell's term is set to expire in May, the issues of AI and productivity are expected to play an increasingly important role in this year's interest rate debates.

Transmission Mechanism of AI Pushing Up Rates

Barr elaborated on several reasons why AI could push up interest rates in his speech. He pointed out that leveraging this technology requires strong corporate investment, which will lead to increased capital demand, thereby exerting upward pressure on interest rates.

Additionally, due to stronger expectations for real wage growth and higher lifetime income, household savings may decline, which would also exert upward pressure on interest rates.

After an event in San Jose, California, Mary Daly told reporters that because investment demand will rise relative to savings supply, the acceleration of productivity growth triggered by AI will require a higher neutral rate under the "standard model." However, she also acknowledged that any analysis is far from definitive. "Perhaps it will lead to a slight increase in the neutral rate," she said, "we need to maintain a degree of humility regarding the impact on the neutral rate."

Signals of Policy Shift Becoming Apparent

The Federal Reserve has cumulatively cut rates by 175 basis points over the past year and a half, having previously raised rates by over 500 basis points in 2022 and 2023. Currently, several officials believe that the current rate level is close to the neutral level for the economy, using this as a reason to slow down or halt rate cuts.

Futures markets indicate that investors currently expect the Federal Reserve will not cut rates again before mid-year. This expectation aligns with the latest judgments from Fed officials regarding the impact of AI, suggesting that monetary policy may maintain its current stance for a considerable time. **