Economist says the AI ​​bubble will “end in tears” and there are “cockroaches” in credit

Economist Mohamed El-Erian has issued a blunt warning about developments in the global economy, stating that while the underlying system remains intact, investors should prepare for significant individual losses within the Artificial Intelligence (AI) sector and expect numerous “negative credit events.”

Speaking at the Yahoo! Finance Invest, El-Erian described the current environment as one in which “there are cockroaches” but no “termites”. This differentiation is fundamental: cockroaches are unpleasant incidents that “appear in groups”, but do not “erode the integrity of the system”. Termites, on the other hand, deteriorate the structural foundation.

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While a systemic shock is unlikely, the president of Queens’ College at the University of Cambridge and chief economic adviser at Allianz said he expected negative economic and credit events as market participants “pushed too hard in search of additional returns.”

This has been encouraged by loose financial conditions and a strong economy, he added, and some investors appear to have gone “beyond their comfort zone and beyond their ability to do due diligence.”

The rational AI bubble

El-Erian told Yahoo that, in collaboration with Nobel Prize winner Mike Spence, he assessed the AI ​​boom and concluded that the market is experiencing a “rational bubble.”

While added value is being created significantly — making it rational for investors to adopt a venture capital approach and “overinvest” due to the potential high return — there is a downside: “There will be tears” and losses.

He said elements of this bubble reflect earlier speculative periods, such as the dot-com era, when companies applied a label — now it’s “AI” — to their operations to attract capital.

Also contributing to this dynamic is the fact that companies with fundamental models are attracting large investments, although “not all of them will prosper”.

A central concern for El-Erian is the insufficient focus on diffusion — the process of implementing AI in the workplace in a comprehensive and organized way.

Currently, the US does not have a comprehensive broadcast policy, unlike countries like China and the United Arab Emirates. If diffusion is not done correctly, he added, the full promise of AI will not be realized.

Regarding enterprise adoption, El-Erian noted concern about the prevailing mindset in companies, which currently see AI primarily as a “cost minimizer.”

AI’s true potential, he argued, lies in improving the workforce and acting as a “productivity enabler.”

If the US gets the diffusion right, the resulting significant increase in productivity could allow for more flexible monetary policy than would otherwise be possible.

Pressure on the K-shaped economy

In addition to financial events, El-Erian cited two major issues that could generate pressure: the need to refinance a large amount of debt at higher interest rates, and the significant pressure on the bottom of the income distribution.

That focus highlights concerns about the bottom half of the K-shaped economy. He said low-income consumers are “close to recession,” facing affordability issues — a social and political issue, not just an economic one — and high levels of debt, including maxed-out credit cards.

Additionally, insecurity about future income—driven in part by the increase in layoffs reported by Challenger, Gray & Christmas and the looming changes to the workplace brought about by AI—adds to their stress.

El-Erian warned that this pressure is not isolated: families with lower incomes may be forced to stop spending because they simply cannot afford it, and this “will contaminate the levels above in the economy as a whole”.

Although the upper class is doing well on measures of income and wealth, it is not immune to the difficulties faced by those on lower incomes.

El-Erian called on policymakers to recognize that the future will be determined by “the edges of the distribution, not the center.”

In today’s structurally changing and fragmented world, leaders must understand that they operate in a multimodal environment and must not be fooled by the assumption of a bell-shaped normal distribution, he said.