Economic growth has moderated, but fears of a synchronized global downturn have repeatedly failed to materialize despite successive shocks, from tariffs to the conflict in the Middle East. This resilience has been supported largely by investment spending related to artificial intelligence (AI), even as financial vulnerabilities have increased.

It’s the AI, stupid

The world is currently experiencing one of the largest technology-driven investment cycles in history. AI sits at the centre of this transformation, and its significance extends far beyond technological innovation. Its deployment requires enormous investment in computing capacity, data centres, communication networks, energy infrastructure and software development. As a result, AI has become a powerful catalyst for capital expenditure across a wide range of industries.

The largest hyperscalers1 are expected to spend around two trillion US dollars between 2025 and 20272. These commitments are increasingly outpacing earnings and free cash flow, prompting some firms to raise debt financing. This raises the risk of capital being allocated to projects whose returns remain highly uncertain, leaving companies vulnerable to disappointments in AI-related payoffs. Should expectations fall short, funding conditions could tighten abruptly, turning today’s investment boom into a protracted downturn with broader implications for financial markets and economic activity.

At the same time, the AI boom is running into supply-side constraints. The rapid build-out of AI infrastructure has exposed growing bottlenecks in electricity generation, advanced semiconductors and grid equipment. Looking ahead, these shortages may further encourage over-investment, as firms attempt to secure future capacity through long-term contracts that increase their exposure to any eventual shortfall in demand.

The key question is whether these investments can translate rapidly into meaningful productivity gains. Not only does the magnitude of such gains remain highly uncertain, but economic history also suggests that transformative technologies often require years of complementary investment and organisational change before their benefits are fully realised.

Indeed, previous investment booms have shared a common characteristic: a genuine technological breakthrough that attracted more capital than commercial returns could ultimately justify. Most episodes eventually ended in an investment reversal, generating economy-wide turbulence. The scale and speed of the current AI investment cycle, combined with expectations of substantial productivity gains, bear clear similarities to these historical precedents and highlight meaningful downside risks.

Trade war’s financial ramifications

Alongside the AI investment boom, the global economy is becoming increasingly fragmented. The era of ever-deeper globalisation appears to be giving way to a more complex landscape shaped by strategic competition, supply-chain reconfiguration and rising economic nationalism.

This does not imply the end of globalisation. Rather, companies are increasingly seeking to reduce strategic dependencies and strengthen the resilience of their production networks. While these adjustments may lower exposure to disruptions, they also risk raising costs and eroding some of the efficiency gains that characterised previous decades.

The evolving trade environment also raises broader questions about economic leadership. For decades, the US has benefited not only from the size of its economy and its technological leadership, but also from a vast network of economic, financial and political alliances. These relationships have supported global trade, attracted foreign capital and reinforced the central role of the US within the international economic system.

Recent tensions with some of America’s closest trading partners illustrate the risks associated with weakening these relationships. In the short term, tariffs may offer limited benefits to certain industries or modestly support fiscal revenues. However, the longer-term consequences could prove far more significant. Persistent disputes with allies may encourage supply-chain diversification away from the US, weaken confidence and reduce foreign partners’ willingness to align with American economic priorities.

The financial implications may ultimately be more important than the direct effects on trade. The privileged position of the US rests in large part on the role of the dollar as the world’s dominant reserve currency. This status confers substantial advantages, including lower borrowing costs, a deep and liquid Treasury market, privileged access to global savings and significant influence over international financial conditions. Yet reserve-currency status ultimately depends on confidence, institutional stability and the attractiveness of the broader economic ecosystem.

No realistic alternative to the dollar currently exists. Nevertheless, repeated tensions with allies and trading partners are gradually encouraging greater diversification in trade settlement systems, reserve portfolios and cross-border investment flows. These shifts are likely to be slow, but even a modest reduction in global demand for dollar-denominated assets could carry significant consequences over time. Higher financing costs, weaker capital inflows and a reduced capacity to finance large fiscal deficits at low interest rates would constitute meaningful headwinds for the US economy. The greatest risk therefore lies not in the immediate impact of individual tariffs, but in the gradual erosion of the economic relationships that have long underpinned American financial dominance.

Higher interest rates amid persistent inflation

Meanwhile, the inflation outlook remains challenging, especially as most central banks have yet to achieve their targets after more than five years. Services inflation remains elevated across many economies, while food price inflation could stay high in the coming quarters as geopolitical and climate-related pressures continue to constrain agricultural supply. The conflict involving Iran has pushed up energy prices and disrupted fertilizer markets, increasing production costs across the agricultural sector. Higher fertilizer prices are likely to weigh on crop yields while raising food production costs worldwide.

At the same time, climate change is increasingly affecting agricultural output. The extreme heatwaves, droughts, and weather-related disruptions experienced this summer across several key producing regions have damaged harvests and reduced food supplies. Together, these factors are likely to sustain upward pressure on food prices and slow the decline in headline inflation. In addition, the enormous investment requirements associated with the AI boom, combined with persistent supply-side constraints, are also contributing to inflationary pressures.

Long-term interest rates have risen to their highest levels in more than fifteen years, partly reflecting this more challenging inflation outlook. At the same time, widening fiscal deficits are increasing government borrowing needs, while the AI boom is adding further upward pressure as massive financing requirements boost demand for long-term capital.

Overall, the AI boom presents two sides of the same coin. On the one hand, it has the potential to deliver substantial productivity gains, supporting stronger long-term growth and higher living standards. On the other hand, it is fuelling inflationary pressures and pushing long-term interest rates higher, thereby increasing financial vulnerabilities, particularly if expectations regarding future productivity gains and capital spending ultimately prove overly optimistic.

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