Wosh's Hot Potato: AI Disrupts the Federal Reserve's Monetary Policy Framework

On March 4th, the White House announced the official nomination of Warsh to serve as Federal Reserve Chair, succeeding Jerome Powell, who will step down in May. In November last year, Warsh authored an article titled “The Collapse of Federal Reserve Leadership,” criticizing the monetary policy framework led by Powell as severely outdated. He argued that AI is driving the United States into a new era of innovation, with productivity gains becoming a powerful deflationary force and increasing real incomes.

In recent years, as AI technology has rapidly spread, it has gradually shifted from a technological variable in the tech sector to an important force influencing macroeconomic structures, and has begun to enter the core discussions of monetary policy. Over the past six months, Federal Reserve officials have increasingly discussed AI’s potential impacts on economic growth, inflation, and the labor market in public speeches. The frequency of these discussions has surpassed the total of the previous two years.

How Will AI Affect the Federal Reserve’s Policy Framework?

First, AI will raise the neutral interest rate (R*). Current research considers AI as a significant structural shock affecting R*, thereby influencing future monetary policy paths. Over the past thirty years, the global economy has experienced prolonged periods of low growth and low interest rates, with R* steadily declining; since the pandemic, global R* has increased by about 1 percentage point, with AI-driven productivity improvements viewed as a key reason.

Within macroeconomic research frameworks, the most direct impact of AI is through boosting productivity, which alters economic growth expectations. Under the assumption of widespread AI adoption, the total factor productivity (TFP) growth rate over the next decade could increase by approximately 0.75 percentage points, maintaining a long-term increase of about 0.25 percentage points. This would significantly raise potential economic growth and capital returns. In a capital market equilibrium framework, higher capital returns mean increased corporate investment willingness, thereby shifting the capital demand curve to the right.