Warsh says AI revolution is 'in the first or second inning' as central banks flag financial stability risks

By Seo Ji-yeon, The Herald Business

Federal Reserve Chair Kevin Warsh said the world is "in the first or second inning of the AI revolution" and that artificial intelligence will fundamentally reshape the global economy. Central bank chiefs from major economies warned that AI poses new risks to financial stability — from financial markets and labor markets to bank lending and cybersecurity.

AI dominated nearly every agenda item at the European Central Bank's annual forum in Sintra, Portugal, which concluded Tuesday local time, covering monetary policy, financial stability and regulation, according to Reuters.

Warsh, attending the forum for the first time, said this is "the most consequential period for economies in our lifetimes." He drew on the internet's early days to illustrate how unpredictable AI's impact could be. "When the internet first appeared, who would have predicted millions of jobs for Uber drivers?" he said. "We are in the first or second inning of the AI revolution."

Participants broadly acknowledged AI's potential to boost productivity and economic growth, but agreed it also introduces new vulnerabilities to the financial system.

The Bank for International Settlements warned of near-term downside risks in financial markets, saying the current AI investment frenzy resembles the British railway investment boom of the 1840s, the asset bubble of the 1920s and the dot-com bubble of the late 1990s.

Torsten Slok, chief economist at US asset manager Apollo Global Management, said AI-related capital expenditure has already added roughly 1 percentage point to US GDP, and that AI-related stocks — whose valuations were built on that foundation — have recently come under pressure.

"Whether AI succeeds beyond expectations or falls short of them, it can threaten financial stability," he said. "No scenario is safe."

Concerns were also raised about AI algorithms distorting market prices.

Itay Goldstein, a professor at the University of Pennsylvania, said AI algorithms "are actually demonstrating the ability to find price manipulation pathways on their own, creating bubbles and triggering sharp selloffs." He called this "a very serious problem from a financial stability perspective."

Participants also raised concerns that wider adoption of AI in bank lending decisions could make it harder for regulators to identify risks.

Tobias Adrian, director of the IMF's Monetary and Capital Markets Department, said regulators would struggle to evaluate lending decisions made by AI. "AI is in effect a black box — it is difficult to explain the basis for its judgments," he said. "This will be a core challenge for supervisors."

Sarah Breeden, deputy governor of the Bank of England, proposed that the financial sector consider protections similar to deposit insurance to guard against the growing threat of AI-enabled cyberattacks.

Bank of Canada Governor Tiff Macklem noted that while the internet gave rise to new industries, it did not prevent the dot-com bubble, and said a correction in AI investment after a period of overheating cannot be ruled out.

Participants agreed that AI poses a threat to financial stability under either outcome: if it develops as hoped, it could displace human labor on a large scale, driving unemployment and weaker consumer spending; if it falls short, the enormous capital already invested could sour and destabilize financial markets.