Fed's Daly: AI, Inflation Fog Blurs Rate Path

San Francisco Federal Reserve President Mary Daly said artificial intelligence and inflation uncertainty are clouding the interest rate outlook, complicating the central bank's path. She spoke at an event on the economic implications of AI.

The uncertainty runs through several channels. If AI adoption boosts productivity faster than expected, the non-inflationary growth ceiling rises. That gives the Fed room to ease earlier. If AI instead displaces workers or concentrates market power, inflation could prove stickier. Daly did not pick a scenario. Her hesitation explains why the Fed's dot plot keeps shifting.

The bond market has already begun pricing a slower cutting cycle. The two-year yield held near 4.70% after the comments. The dollar index stayed flat. Uncertainty about the input itself, what AI does to the economy over the next 12 to 18 months, forces the Fed to rely on lagging indicators. The reliance on lagging indicators raises the odds of a policy mistake.

For equity traders the read-through is split. Sectors levered to falling rates, real estate and small caps, lose a catalyst if the Fed stays on hold. Growth stocks tied to AI capex see the uncertainty as a reason to keep building positions. The eventual rate cut arrives when AI's output materializes. The financials sector sits in the middle. Banks need a steep curve, which uncertainty about rates prevents.

Daly's next scheduled public appearance is not yet announced. The next concrete data point for the Fed is the August payrolls report, due Sept. 5. Until then, the market will price rate expectations against each week's jobless claims and CPI prints. Weekly jobless claims have recently fallen unexpectedly, adding another layer of noise to the rate debate.