An AI tech stock market crash could blow a £26 billion hole in Britain’s public finances, the spending watchdog has warned.
The Office for Budget Responsibility (OBR) published a report on Wednesday that detailed the potential damage to the economy if global stock prices fell by as much as 35 per cent. This comes amid growing concern that the artificial intelligence boom has created a giant stock market bubble.
The OBR said that “growth in global equity prices, driven by US equities, has outpaced growth in corporate earnings so far this year”. It said that in this century, comparable levels of growth have only been seen during the dotcom bubble and the 2021 post-pandemic rally. After the dotcom bubble equity prices fell 46 per cent, and they fell 25 per cent after the 2021 rally.
Since Sam Altman’s company Open AI launched ChatGPT in November 2022, the tech-heavy Nasdaq index in the US has doubled in value to about $18 trillion, according to the wealth manager Evelyn.
On Wednesday the European Central Bank warned that tech valuations had become “stretched”, and that “market pricing does not appear to reflect persistently elevated vulnerabilities and uncertainties”. The OBR also said that “a large global equity price correction poses a downside risk to both our economy and fiscal forecast”.
Its report models two scenarios to test the chancellor’s budget forecasts against these potential shocks. In the first scenario of a “global correction”, both UK and world equity prices fall by 35 per cent from a peak in 2026-27. This would cause a £27 billion fall in forecast tax revenue. About half of that would be from capital gains tax receipts, with inheritance and income tax take also dropping significantly.
Spending would increase significantly, with higher debt interest — as a result of more borrowing — meaning an increase of £2.8 billion in 2029-30.
These factors would mean that by 2028 the UK deficit would widen to £26 billion — far beyond Rachel Reeves’s £22 billion mandate. According to the forecast, this would narrow to £16 billion by 2030, giving the Treasury a narrow margin of £6 billion.
Another scenario, in which only global equity prices fall by 35 per cent, still has an affect on UK equities due to reduced risk appetite and lower domestic confidence. The OBR forecast that UK equities would fall by 15 per cent.
It said that, while this is a much smaller drop than the first scenario, “as a small, highly globally integrated economy, the effects on real GDP through lower household wealth and business confidence are similar.”