Why robots mean interest rates could go even lower in the future
Source: Simon Kennedy

Optimists are banking on a productivity boom.

If robots rise, interest rates will fall.

That was the assumption of delegates at the World Economic Forum's annual meeting in Davos, Switzerland, as revolutions in automation and artificial intelligence reshape how economies work.

The argument goes like this: As machines become more and more advanced, many workers will lose their jobs and others will see their wages fall. New technology will also increase the chances of a 1990s-style jump in productivity. Those forces will combine to restrain prices across the world economy, meaning that the era of slow inflation now challenging central bankers may only prove a sign of things to come.




Over 5 million people jobs could be lost by 2020. Photo: Mick Connolly

"Technological progress will put a lid on how inflation can re-emerge," Axel Weber, chairman of UBS Group AG and a former president of Germany's Bundesbank, said in Davos.
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The worry is that the so-called fourth industrial revolution will hurt an increasing share of the labor force, generating unemployment and putting pressure on wages and therefore consumption, especially of low-skilled employees.
Disrupted politics

The Forum calculated more automation means over 5 million jobs will be lost by 2020 in 15 major developed and emerging economies. That prospect is already unsettling voters around the world, disrupting politics and fanning support for populists from Marine Le Pen to Donald Trump.

"The first effect is lower wages for those people who are replaced," said Adam Posen, a former Bank of England policy maker who now runs the Peterson Institute for International Economics in Washington. "That should adjust over time, but the initial impact is deflationary."

By making the remaining workforce more efficient, optimists are banking on a productivity boom akin to when the Internet age helped propel a 3.5 percent rate of productivity growth in the U.S. from 1996 to 2003, allowing central bankers to keep rates lower than otherwise. Bank of America Corp. calculates the adoption of robots and artificial intelligence could boost productivity by 30 percent in many industries.
Smashing looms

"The result is a low inflation environment," said Laura Tyson, a former economic adviser to President Bill Clinton who now teaches at the Haas School of Business at the University of California, Berkeley.

Another problem for the optimists is the impact on politics. As when Luddites smashed looms in the first industrial revolution, another reshaping of the world could provoke discord among voters and reactionary politics.

"It's going to be radical change," said Johan Dennelind, chief executive officer of TeliaSonera AB, a Swedish telecom operator. "It could be really painful. I think we have to admit that it will be, and use common sense to prepare for it."

Nobel laureate Edmund Phelps said governments may have to respond by redistributing tax income toward those who suffer from the profits enjoyed by those who utilise the new advances.

Central bankers are already preparing for the challenge. In November, Andrew Haldane, the Bank of England's chief economist, estimated automation could cost 15 million British jobs.
Policy rethink

"If substitutability between labor and capital is higher than in the past, labor's bargaining power and share of income might be commensurably lower," he said. "The upshot is a materially lower path for inflation."

Such an environment is another reason why central banks will have to rethink how they go about delivering price stability, having repeatedly missed their inflation goals since the financial crisis, said Paul Sheard, chief global economist at Standard & Poor's.

"It's a reason for stepping back and having a brainstorm," he said in Davos.