AI inflation and UK economic outlook (with Guy, Anna, Tom)

AI capex is inflationary near-term via chip prices but disinflationary medium-term via productivity. Oil remains the key geopolitical inflation risk; recent de-escalation eased pressure but flare-ups could feed second-round effects. UK economy is not growing much, labor market soft, but lower oil improves consumer outlook. Fed focus on price stability is correct given above-target inflation; a rate hike is possible if second-round effects materialize.

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Royal London Asset Management 6.0
Asset Manager $230.00B
Melanie Baker 7.5

AI inflation and UK economic outlook (with Guy, Anna, Tom)

wti

Melanie says oil has fallen but we've been through an oil shock; she expects more volatility from the Strait of Hormuz and inventory rebuilding, and is not convinced oil will stay at current levels.

yields

She sees risk of second-round effects from oil feeding into wages and prices, which could push yields higher if central banks need to hike.

AI inflation is becoming a big topic; how much effect are you seeing in your models?

Guy
Melanie Baker

Not much discernible effect at the moment. It can be inflationary near-term through consumer electronics as chip prices rise due to explosive demand, but most economists focus on medium-to-long-term disinflationary effects via productivity.

Central banks are worried about oil's indirect and second-round effects on inflation expectations and wages.
How is the UK economy looking as we await a new Prime Minister?

Tom
Melanie Baker

Better with oil prices lower, but the economy still isn't growing much. Business surveys suggest weak growth, labor market is soft. Lower oil improves the consumer outlook for 2027.

I had one hike penciled in as insurance against second-round effects, but if oil stays low and everything behaves, the BoE can probably stay on hold.
Is Kevin Warsh right to focus on price stability rather than the dual mandate?

Guy
Melanie Baker

It makes sense to focus on the part that isn't in balance. Inflation has been well above target for years. Getting back to target is important for credibility.

If the labor market changes, I'd expect him to switch focus.

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