Top Economist Warns AI Debt Could Pose Risk to Financial System

WASHINGTON — The top economist has a very clear and direct warning about the global debt of AI sector; he cautions that this kind of extraordinary debt can lead to the risk of a broader collapse of the financial system.

Mark Zandi, chief economist at Moody's Analytics, has been bearish on the U.S. economy and mainly recession-threat for the whole 2023. Nevertheless, in his recent speech, he emphasized the emergence of the debt trend as a possible source of economic instability: the debt of the AI hyperscalers and tech companies increased so rapidly.

Zandi indicated that electronic bond issuance by AI and telecommunications firms has broken the record for the amount of money raised throughout the late 1990s, three years before the dot-com crash, and it has now exceeded that level. "Issuance of technology companies so far this year including AI and telecommunication companies that did the bulk of the borrowing around Y2K to expand the internet dwarfs that done around Y2K," he posted on X (Twitter).

In fact, tech-style expansions are different from the ones in the past as per Zandi's statement not merely technology firms are refinancing existing debt but also they are raising cash to accelerate their share of the rapidly growing AI market. If we look at these figures from a historical perspective and even factor in inflation, the levels of debt are at their highest ever.

"Borrowing by AI companies should be on the radar screen as a mounting potential threat to the financial system and broader economy." He warns that such a reckless escalation in debt will come with very serious consequences.

Zandi's worries about the sector and his view on investment in AI are not far apart. He pointed out that the very high stock prices of AI companies—mainly due to optimistic concerns could be very much out of sync with the tough economic realities and the uncertain returns of AI investments.

“The are flying AI stock prices which discount this optimism, and, arguably, a lot more,” he said while indicating the huge investment in server rooms and AI infrastructure as evidence of an overblown market.

The skeptics have these concerns also and they are warning that the AI-related benefits may not come as planned thus a repeat of the dot-com crisis will be possible. When the crisis did hit in the early 2000s, it was caused by the crash of overinvestment and inflated valuation of the market which was leading to the burst.

He pointed out that the negative side of the tech bubble was that it impacted mainly equity investors, whereas now the spike in debt may have quite a significant influence on far reaching consequences. In case a company does not come up to its growth expectations, a correction will cause share prices to fall, thus affecting other tech stocks and investor confidence.

The most important thing, he said, is that those debts could greatly increase the systemic risks if things were to go downhill leading to an eventual fallout of the general financial markets — the very crisis that resembles the previous shocks in terms of scale.

With the AI industry going from strength to strength and being a money magnet, Zandi's caution is a reminder as to why it is necessary to keep a close watch on debt and market valuation. His point is radical: the rapid debt increase in the AI sector is the main reason of putting the spotlight on them. If the risks materialize, it can harm not only individual firms but also the financial system's entire stability.