Hernández de Cos: AI, inflation, debt challenge future foundations

A year ago, fears of significant global growth slowdown due to higher tariffs, especially in the US, proved unfounded.

The global economy showed resilience for three reasons: effective US tariff rates were lower than the announced 25%, averaging closer to 10%, accounting for about a third of 2025 growth revisions.

Firms adapted quickly by front-loading shipments and absorbing costs.

Crucially, a surge in AI optimism spurred a capital expenditure boom in AI-related infrastructure, particularly in the US, with global spillover along the supply chain, buoying risk appetite and keeping financial conditions loose.

However, the global economy's solid momentum entering 2026 was disrupted by the Middle East conflict, leading to an unprecedented oil supply cut larger than the 1970s energy crises and subsequent growth downgrades across countries.

The global outlook faces four pressure points: the return of inflation, risks from AI-related exuberance, amplification from existing financial vulnerabilities, and pressures on public finance.

Global inflation has risen by one percentage point since the Middle East conflict, with risks of persistence through supply chains and de-anchored expectations.

Mitigating factors include labor market slack and higher starting interest rates.

AI promises long-term productivity gains but raises questions about the future of work and income distribution; US industries with higher AI exposure already show lower employment growth.

Monetary policy implications for the natural rate of interest (r-star) depend on how these tensions resolve, potentially leading to higher inflation if policy does not keep pace.