War and the AI Revolution

In the spring of 2026, the global economy faced two hot wars in the vicinity of Europe and signs of a new cold war in Asia. From a textbook economic perspective, the impact is as follows: on the supply side, war constrains the production and transportation of various resources—not only crude oil and natural gas, but also naphtha, ammonia, fertilizers, and even food. Furthermore, the rise in supply-side risks accelerates the shift in corporate risk management that began with the COVID-19 pandemic and the outbreak of the war in Ukraine—namely, the transition from “just-in-time” to “just-in-case”—leading to increased costs associated with diversifying suppliers and building up inventories.

On the demand side, as defense ceases to be an abstract concept and becomes a tangible reality, increased fiscal spending is required across a wide range of areas—not only for weapons procurement but also for human resource utilization, advanced information systems, and the development of medical infrastructure. Even if governments attempt to cut spending in other areas, reducing social security costs is difficult in many countries where populism is strong, and as a result, fiscal spending tends to expand. In short, while war suppresses aggregate supply, it boosts aggregate demand.

While tensions in international politics rise, the AI revolution is accelerating. AI has now permeated the daily lives of both businesses and individuals. Its penetration is occurring at a pace that exceeds many expectations. Since AI dramatically boosts productivity, there is a view that it will eventually lead to mass unemployment and deflation through an expansion of aggregate supply. However, at present, massive investments in related sectors—such as data centers, semiconductors, and power generation—are driving up aggregate demand. Consequently, prices in these sectors and the stock prices of related companies are surging. While AI may be a factor in expanding supply in the long term, in the immediate term, it is creating upward pressure on prices through increased demand.

The future trajectory of the global economy will be heavily influenced by the course of the wars, but here we will consider a relatively optimistic scenario in which tensions in Ukraine and the Middle East ease. Even in this case, excess demand and supply constraints are expected to persist, leading to a coexistence of slowing growth and high inflation. On the savings front, the IMF recently released a forecast predicting that fiscal deficits in advanced economies will widen by 0.5 percentage points of GDP in 2026. Regarding external balances, while the deficits of energy-importing countries are expected to widen, even oil-producing countries with growing trade surpluses are increasingly likely to liquidate foreign investments to fund war-related expenses. Economists are warning that higher interest rates resulting from these reductions or drawdowns in savings will trigger price adjustments in financial assets, and that adjustments in equities and private credit—which have seen particularly strong growth in recent years—could potentially lead to a new financial crisis.

However, the market remains optimistic. The S&P 500 index fell by 8% immediately after the start of the war with Iran but recovered rapidly. This stands in contrast to the 25% drop seen when Trump’s tariffs were announced last year. At least part of the market’s optimism is based on the expectation that the positive effects of AI on productivity will outweigh the negative impacts of the war. Since many economists also believe this will eventually happen, the difference in their views can be attributed to the time it will take for these positive effects to materialize.

Another factor underpinning this optimism is the absence of significant private-sector over-indebtedness in developed economies. Of course, public debt remains heavy. However, as long as AI-driven productivity gains continue, there remains room for fiscal adjustment. If market optimism were to falter, it might be when disappointment spreads regarding both the positive effects of AI and the stability of public finances.