Fed's Cook says AI and oil sustain inflation pressure, rate hikes hinge on data

Cook's comments were marginally hawkish, as she sees inflation pressures broadening and regards the labor market as strong enough to withstand higher rates, a stance that typically bolsters the dollar and keeps short-term yields elevated. Her belief that the pass-through of higher oil costs is still affecting the economy keeps energy prices and the underlying Middle East conflict a factor for rate outlooks. Her opinion that the Fed's instruments are too broad for specific sectors implies that policy will not directly target AI-driven price increases. Separately, a report suggesting higher asset thresholds for banks could benefit regional lender stocks, though the plan is still being developed.

Cook believes AI and oil are sustaining inflationary momentum, but contends that raising interest rates is inappropriate for addressing price surges in specific sectors.

Summary:

• In a Monday speech in Oakland, Fed Governor Lisa Cook stated she anticipates ongoing inflation pressure from the expansion of AI, elevated oil prices, and supply chain issues related to the Middle East conflict.
• She indicated that the quantity and magnitude of any additional rate increases will be determined by the economy's reaction to past policy moves as well as inflation and employment figures, and that the labor market seems capable of enduring higher rates.
• Cook noted that using monetary policy to combat AI-specific inflation might be erroneous, yet she perceives some broad economic pressure from data centers' demand for construction workers and energy.
• She highlighted that electricity and water expenses have risen about 5% over the last year, core goods prices are above 3% this year, and AI-related stock increases are boosting household expenditure.
• Cook anticipates that productivity improvements will reduce inflation slightly within a few years, but not quickly enough to counter expanding pressures later this year, and she is monitoring whether AI causes even a temporary rise in joblessness.
• In the reviewed material, Vice Chair for Supervision Michelle Bowman did not comment on the economy or policy. News focused on a report that the Fed is evaluating higher asset thresholds for more stringent bank regulations.

On Monday, Federal Reserve Governor Lisa Cook stated that she expects the expansion of AI, combined with the spillover of higher oil prices and supply chain disruptions from the Middle East conflict, to continue driving inflation up in the months ahead. During a speech in Oakland, California, she noted that any additional interest rate rises will hinge on upcoming data, and that the labor market seems ready to absorb a rate increase.

Cook explained that the quantity and scale of any future changes will be guided by how the economy has reacted to previous policy measures, as well as by inflation and employment figures in the months ahead. She stated she will assess what level of policy rate is necessary to keep steering inflation toward the Fed's objective.

Regarding AI, Cook distinguished between sector-specific and overall price pressures. She noted that prices for AI-related products like chips, computers, and software have jumped due to demand in those segments, and she warned that using monetary policy to address that could be a mistake because the Fed's tools are too crude for narrow sectors and it is not their role to address relative price changes. Nevertheless, she sees some economy-wide pressure, citing data center investment that uses construction labor and energy and spans many sectors, with further investment still planned. Evidence of broadening: electricity and water costs have increased around 5% over the past year, and core goods prices are above 3% this year. Cook also stated that a significant portion of the stock market rise in recent years stems from AI excitement, and that the resulting wealth seems to be fueling household spending. That, she said, creates a risk that new, more widespread price pressures could supplant those in the narrow AI sector as they ease.

Cook recognized that a well-timed productivity surge could offset broadening price pressure if it increases supply capacity more than demand. She stated she anticipates productivity improvements will yield a modest reduction in inflation within the next few years, but not soon enough to counteract what she termed broadening inflationary pressure later this year. On employment, she said there is limited evidence so far that AI is altering the labor market's structure, though she expects it to change business practices and employment going forward. She hopes AI adoption occurs in a way that job creation matches or exceeds job destruction, and she is monitoring for even a temporary uptick in unemployment, noting that the Fed's tools would be limited in that scenario and that lowering rates to cushion the job market could stoke inflation.

Michelle Bowman, the Fed's vice chair for supervision, did not discuss the economic or policy outlook in the reviewed coverage. Instead, attention focused on a report that the Fed is considering increasing the asset thresholds that trigger stress tests and stricter capital, liquidity, and reporting requirements, to account for inflation and economic growth. Bowman has previously argued that fixed thresholds become more stringent over time, and in January suggested linking them to nominal GDP. Current requirements tighten at asset levels of $100 billion, $250 billion, and $700 billion, and raising the upper threshold to near $1 trillion could provide larger regional banks with more room for expansion. The proposal is still being developed.