Andrew Bailey warns AI investment boom risks market shocks

Bank of England Governor Andrew Bailey has warned that the huge surge of investment into artificial intelligence could trigger financial market shocks. He said the central bank is watching the vast sums flowing into the sector 'very carefully' and that the UK must be prepared for potential asset price corrections if an AI bubble bursts.

Andrew Bailey pointed to cyber attacks as a major risk from the technology. He cautioned that 'not everybody always wins' in such investment booms, using the example of former market leader Netscape, which no longer exists. The Governor said asset prices of AI-developing companies have risen sharply on high expectations, with everyone currently priced to be a winner. He stressed the Bank of England is prepared for shocks and that the financial system must remain resilient.

Opportunities and risks of AI in finance under scrutiny

While Bailey believes AI has great potential to strengthen economic growth and can be a useful tool for policymakers, he said the UK must be on top of both the opportunities and substantial risks. One clear danger is what happens if the enormous bets on AI fail to pay off.

AI also creates a much more powerful way of uncovering software vulnerabilities. In the wrong hands, it becomes a very powerful weapon. Bailey highlighted the threat of deepfakes, which are AI-generated pictures and videos of people that look real and can fool the public. In June, deepfake images depicting Andrew Bailey and Nigel Farage in a physical fight were promoted on social media platform X. The Bank of England has struggled to trace their origin. "We've got to be able to trace these things back. And we need a lot of help from the tech sector to do that," Bailey said.

Market valuations and investment surge raise red flags

Money spent on and loaned to AI firms in recent years is causing markets to value some companies as multi-trillion dollar businesses. Tech giants are driving the surge, with Alphabet, Meta, Microsoft, and Amazon spending hundreds of billions of dollars. The soaring valuations are increasing systemic exposure.

These share sales could funnel hundreds of billions more dollars into the AI industry.

Bank of England identifies AI as a key vulnerability in latest report

The Bank’s latest quarterly financial stability report flags the multi-trillion dollar AI market as a major vulnerability. It warned that vulnerabilities across the financial system are becoming more interconnected. The report cautioned that AI valuations could suffer a steeper pullback than the shock seen in July, which was amplified by an unwinding of stretched positions and associated deleveraging activity. Officials have repeatedly warned about possible bubbles in AI-linked equities, parts of credit, and government debt.

Growth prospects are now partly tied to hopes that AI will boost productivity. Since the last review, AI shares have swung on fears of a slowdown in development, and equities more broadly have been choppier. Several firms, like smart-ring producer Oura, have postponed planned IPOs. The Bank's semiannual systemic risk poll showed more respondents than ever flagged AI-related dangers.

Policy responses and future outlook for financial resilience

Bank officials are reviewing specific risks, noting that hedge funds' use of leverage tied to UK government bonds, or gilts, remains high. They found that dangers tied to leverage in the gilt market are best addressed via forthcoming reforms to that market, which are set to go out for consultation in early 2027.

The Bank has held interest rates since its prior stability assessment, though derivatives markets imply up to five hikes by the end of 2027, beginning in November. Financial stability officials reiterated that households are still coping with rising debt costs and that banks hold ample capital to endure potential shocks. Additional study backs the Bank's July plan to ease the hard cap on banks' leverage.

Officials said they will keep watch and, should the risk outlook shift, could lift the buffer on banks' leverage ratios by 25 basis points.