Tracking inflation beats natural rate rules during AI transition

Using a New Keynesian model calibrated to the euro area, Lucia Esposito, Andrea Fabiani, Elia Moracci, Andrea Papetti, and Massimiliano Pisani examine four AI scenarios.

An immediate 1 percent jump in total factor productivity proves disinflationary because supply outpaces consumption and investment, which face adjustment costs.

Conversely, a gradual 1 percent productivity gain over five years generates inflation as demand anticipates future wealth before supply expands.

A 0.3 percentage point increase in trend labor productivity growth permanently lifts the annualized natural rate from 1.4 to 1.7 percent.

A temporary 1 percent boost to investment efficiency spurs persistent price pressures.

The policy simulations evaluate three Taylor-type interest rate rules.

Central banks encounter severe stabilization risks when anchoring policy to long-run equilibrium real rates during structural transitions.

When trend productivity growth accelerates, raising the policy rate immediately to its eventual steady state induces premature tightening, pushing output into contraction.

Conversely, rules that track contemporaneous natural rates or aggressively penalize inflation deviations with a response coefficient of 5.0 avoid deep policy mistakes and prevent macroeconomic volatility.