In an exclusive interview withDeepshikha Sikarwar, the former Spanish central bank chief, who is in India to attend the Global Fintech Fest in Mumbai, also stressed the need for global regulatory coordination to face the challenges posed by advanced AI technology, regulate stablecoins and mitigate negative spillovers.
Edited excerpts:
The West Asia crisis and geo-political developments in recent times have exposed economies to supply shocks. What is your assessment of the global economy right now?
If you consider the monetary-policy strategy reviews of different central banks over the last few years, one common theme is recognising that geopolitical risks and supply shocks are now more likely. The global economy in the last six years has faced a series of negative supply shocks, starting with the pandemic, then the war in Ukraine, later the tariff shock and, more recently, the conflict in the Middle East. These are negative supply shocks which pose a very serious challenge for policymakers because, in the short run, they move growth on the negative side and inflation on the positive side. For central banks, the appropriate monetary policy response therefore requires a deep analysis of their impact in the medium run.
We still see inflation risks in many economies, which is related to the continuing disruption to shipping in the Middle East. From the very beginning, when the conflict started, we stressed that the impact of the conflict depends very much on its duration, particularly in terms of inflation.
What we have observed is that oil prices and some other commodity and energy prices more generally have increased in most economies. As to what extent has this increase translated into core inflation and the rest of the consumption basket, there is a lot of heterogeneity across countries. These indirect effects and the potential second round effects are what central banks are monitoring in order to fine-tune their monetary policies. As to the impact on growth, the global economy has still been resilient to this shock, with AI investment and exports playing an important role in providing support to many economies.
How should economies shield themselves from such sudden and repeated supply shocks?
The message we are giving from the BIS is that central banks have to be focused on price stability. Confronted with these negative supply shocks, it is very important that they monitor the potential second-round effects coming from increasing energy prices, including on inflation expectations. This should also condition the monetary-policy response. At the same time, central banks cannot solve all the problems related to a shock like this.
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There are other policymakers and instruments to face the challenges generated by supply shocks. We are all worried, in the context of these geopolitical tensions, about the impact on our economies when they materialise. This depends very much on dependencies and global value chains. Energy is a good example, but there are many other products that can be impacted. Many governments are trying to confront and reduce these dependencies, and many companies are doing the same.
We observe a three-pronged strategy: In the very short run, the best option for corporations, firms and countries is to build up inventories to form a buffer. If a shock hits, the use of those inventories can provide resilience. What we are seeing with the oil shock is a good example of how inventories can provide resilience against a given shock.
In the medium run, diversification is also an important strategy. There is already some evidence that countries are moving in this direction, and companies are doing so as well to be less dependent on one provider. In the long run, technological developments can also give a response to these challenges. A good example here is again oil. Many economies are trying to find other ways to produce energy in order to be less dependent on this scarce commodity, while others are adapting supply chains.
You have drawn a parallel between today’s AI boom and what happened at the time of the dot com boom. Do you see a financial-stability risk given the valuations and financing of AI infra by debt and leverage?
I should start by stating the obvious. We see very important and critical opportunities coming from the development of AI. But, of course, our role is also to emphasise the risks that may be associated with this new technology.
The conclusion of the analysis that the BIS has been doing and what I presented here in Mumbai, related to the analysis we published in our Annual Economic Report, is that there are some signs that the AI investment boom may become unsustainable. The reasons are two-fold.
On the one hand, like many previous technology booms, there has been a race among firms to capture and obtain market share. This naturally leads to a certain degree of overinvestment. By definition, if there is overinvestment, that can also be a source of a bust at some point, particularly if returns disappoint.
The second is related to the fact that the capital expenditure behind the AI investment boom is increasingly reliant on debt and leverage. An important element is that there are also relatively opaque private-credit structures and circular financing arrangements that create very complex interdependencies. So, if there is a disappointment in returns, we might have a bust in investment and this could be amplified by these financial channels. Why is this important? It is important per se, but also because, as we all know, the AI investment boom has been critical for the resilience of the global economy in recent years.
For a long time, we have been discussing how, despite all these negative supply shocks, the global economy has remained resilient. One of the reasons, and I would say perhaps the main reason, has been precisely the role of AI investment and the impact this has had on stock-market valuations and, of course, on financial conditions.
AI has been supporting investment, but there are also wealth effects coming from the valuation of AI related stocks that have also boosted consumption. This is particularly the case in the US, where households participate in capital markets more than in many other countries. Therefore, these wealth effects are also important. We also know that, for some countries, particularly some Asian economies, AI investment has driven the boost in exports.
Therefore, if there is a bust, these channels, investment, consumption and exports, could also move in the opposite direction, with the potential amplification coming from the financial elements I mentioned.
There are two key challenges that a number of economies face in relation to AI. First is access to frontier technology and second is the broader impact on the workforce—joblessness and the potential widening of inequality.
Maybe I should start with the second question. In the previous question, I was mainly focused on the impact that AI has already had, and eventually will have in the future, on demand.
But, of course, the focus of our analysis has also been to understand the impact of AI on supply. Our analysts have been looking in particular at the potential impact on productivity. We already have evidence that, for certain tasks, AI can improve productivity in a very significant manner. To what extent this translates into higher productivity for the economy as a whole, of course, also depends on the reaction of capital and labour.
The second aspect is related to the impact of AI on the labour market. Here, we see that for certain tasks AI could be a complement, while for other tasks it could be a substitute for labour. There are also clear sectoral differences. And the final impact will depend on the extent to which the labour market and the infrastructure in the economy are well prepared. In other words, there will be many idiosyncratic factors in our economies that will make it more or less likely that the impact of AI on the labour market will be positive or negative. But, for sure, the potential negative impact on unemployment is something that concerns everyone. This is why one of the key messages of our Annual Economic Report is that we also need to be prepared for this. Training, and active labour-market policies more generally, are absolutely critical to prepare our citizens, particularly in developing economies, to try to obtain all the benefits coming from AI while minimising the negative effects.
In particular, workers whose jobs will be more negatively affected need to be retrained and redirected towards new activities.
Access to frontier tech…?
This is more of a geopolitical discussion. We know how geopolitics is conditioning our economies. One aspect could be the potential access to AI for economies that are not in the value chain of AI production—–economies that are not on the supply side but are more on the demand side. We know that there are significant economies of scale and very significant costs associated with this technology. Therefore, it is natural that there could be concentration in some countries and in some firms. In this case, what the BIS is stressing is the need for global cooperation, precisely so that the benefits of AI can be distributed more evenly across economies. And, by the same token, in the emphasis we are placing on the risks, global cooperation is absolutely critical. Financial stability is a public good, but it is a global public good. Therefore, we should be able to minimise and confront the financial-stability risks related to the development of this technology only through global cooperation.
On Mythos, many central banks and treasuries have expressed concerns. What is BIS’ assessment of the risks?
Our assessment is very much aligned with what other national and international authorities have already expressed. For sure, we know that such technology can be very useful in preventing cyber incidents. But at the same time, we know that it can be used for the opposite purpose.
And again, let me come back to my previous answer. These models are already implemented to a greater or lesser extent in many economies. The interconnections between our economies are very significant. Therefore, a potential cyber event in one country can spread to other countries. We need to consider its global nature. The message from the BIS is, again, that some form of global coordination on this matter would be the only effective way to confront the challenges that this technology creates for cybersecurity and financial stability more generally.
Is regulation keeping up with innovation? How do you see the trajectory of the [fintech] sector going forward? Could it result in regulators losing control of financial stability, and could that emerge as a challenge?
I should emphasise that regulators are reacting, and certainly regulation is adapting. In my view, where I see the greatest risk at this moment is not so much regulation being behind innovation. The greater risk is related to the divergence of regulation across countries. Jurisdictions might be reacting, but if they do not do this in a coordinated manner, there could be problems of fragmentation and negative spill-overs. Coordination of the regulatory response is absolutely critical in order to face the challenges of a technology that is widespread across countries and that has the potential to generate very significant benefits for citizens, because, at the same time, the risks may also be cross-border.
In terms of the extent to which regulation is adapting, I think India is a good example of how authorities have played a leading role in strengthening regulation in these domains. This has been the case with fast-payment systems, data privacy and, more generally, the areas where fintech companies have been focusing in recent years. This shows that it is possible.
Authorities have to focus on making the benefits of these technologies available to citizens and businesses while ensuring that this is done in a durable manner and on safe foundations.
Stablecoins are growing, especially after the US administration backed them. Other countries, including India, are looking at digital currencies. How do you see the future of monetary systems and stablecoins? Could divergent concerns lead to fragmentation of the monetary system?
On stablecoins and tokenisation, the BIS focuses on three main areas. First, the technology is very promising and can significantly improve cross-border payments by reducing costs and improving efficiency. There is significant potential in tokenisation more broadly.
We’ve compared stablecoins against the properties money needs to ensure trust, since stablecoins are often perceived as an alternative form of money. Our conclusion is that stablecoins currently fall short on some key properties. Singleness, the ability to redeem different forms of money exactly at par for central bank money, is not guaranteed, particularly during crises. We also have concerns about integrity, about the extent to which the technology behind stablecoins could itself lead to fragmentation, and about whether interoperability can be guaranteed—- all properties that are closely tied to the underlying question of whether stablecoins can be trusted as money.
Second, what would widespread adoption of stablecoins mean? In this year’s Annual Economic Report, and in my Jackson Hole remarks, we simulated different scenarios and found significant potential macroeconomic effects. One key concern is that, since stablecoins have so far been largely dollar-denominated, wider adoption could raise monetary-sovereignty concerns for emerging economies.
Here we emphasise two key messages—– the need for global coordination to regulate stablecoins and mitigate negative spill-overs, and, domestically, that the best defence against loss of sovereignty is good economic policy that reinforces trust.
Third, what do we do about this? Two compatible paths need to be pursued. One is strengthening stablecoin regulation to minimise the risks, though in some cases the technology itself may limit how far issues like integrity and scalability can be addressed. Regulatory options should be coordinated internationally to be effective.
The other is that the BIS also supports adopting tokenisation within the traditional two-tier system—– tokenising deposits for commercial banks and central-bank reserves for central banks. This is the path we believe eliminates the risks noted above.
Project Agorá, our collaborative initiative with central banks and commercial banks on exploring the potential of tokenisation for wholesale cross-border payments, is now entering Phase Two after promising results in Phase One, though many issues remain to be analysed in the months ahead.