ECB experts warn that the AI bubble is close to bursting

BarcelonaThe artificial intelligence has been the engine of stock market success in recent years. The tech companies leading the AI market have reached unimaginable heights, to the point where the club of companies worth over a trillion dollars is no longer an exclusive affiliation. Nvidia exceeds $5 trillion in market capitalization, while both Amazon, Alphabet (Google), and Apple are above four trillion.

Investors' unlimited gains, however, do not necessarily suggest a rosy future: according to a recent publication on the European Central Bank's blog, a downturn is imminent. "A correction of current stock market valuations is highly likely," say several economists from the European monetary regulator in an article on the institution's official blog. It should be recalled that the opinions of the central bank's researchers on the blog do not necessarily represent the official positions of the regulator.

The authors of the report identify in the AI stock market boom similar patterns to other moments of technological disruption in the last century, from the expansion of the railway in the 19th century to the dot-com dotcom on the internet of the 90s. As in those cases, experts point to "excessive optimism" in investors that "drives up company valuations" above their results.

A clear case could be that of Elon Musk's tech company SpaceX, which will be close to doubling the share price just days after its stock market launch despite the millionaire losses it reported to the market. "When investor confidence fades, prices fall more sharply than in a rational scenario," economists warn.

European overexposure

Experts, it must be said, point out that a downward correction in AI on the stock market will not necessarily mean a failure of the technology. "If artificial intelligence is transformative enough, valuations could be even higher after the correction," they reason; while acknowledging that "it is impossible to know in advance if this will happen." More certain, in their eyes, will be the earthquake that a bubble burst will cause in European economies.

The great danger is the overexposure of private investors in the EU to large North American technology companies –the so-called "Magnificent Seven"–; which dominate global stock market indices. According to central bank calculations, private savers in the 27 countries have around 440 billion euros invested in these companies, mainly through financial products that replicate major stock market indices (ETFs). Insurers and community pension funds would also be highly exposed, both with technological bets around 200 billion euros.

This exposure means that a crisis in technological stock market valuations is, in the eyes of the authors of the publication, "a matter of financial stability for the eurozone, and not just a private problem." Furthermore, they emphasize, the room for regulatory maneuver is much lower than during the "dot-com" bubble. "The current scenario leaves much less room for maneuver to cut interest rates or use fiscal policy to cushion the fall," they argue.

In this regard, a sharp cut in the valuations of large US technology companies "would not be a purely American problem." Although European stock markets are markedly less dependent on AI euphoria – due to the practical absence of European champions in this field–, the exposure of local investors to US assets is high enough to worry experts. Furthermore, the health of European markets has historically been correlated with those of the United States; and a crash like the one they foresee could "extend beyond financial markets, towards financing conditions or hiring."