The Bank of England has issued a stark warning that rapid advances in artificial intelligence are increasing risks to financial stability, citing heightened cyber threats and overstretched stock valuations in the sector. In its latest Financial Stability Report, the central bank noted that vulnerabilities linked to risky assets and private credit have become more pronounced, exacerbated by geopolitical tensions in the Middle East.
AI Risks and Cyber Vulnerabilities
The Financial Policy Committee stressed that progress in AI technology presents a significant increase in risks from cyber and operational vulnerabilities. Frontier AI models are increasingly capable of exploiting software vulnerabilities, potentially raising the sophistication and impact of cyber attacks on firms, including banks and market infrastructure. The Bank warned that these developments could crystallise simultaneously, amplifying systemic threats.
Stretched Valuations and Potential Bubble
Over the same period, share prices of AI firms have surged amid heightened investor demand and positive earnings news. The FPC said valuations have become more stretched, raising concerns of a potential AI bubble. The report highlighted that a hypothetical fall in AI stock values could trigger a sharp correction in equity markets, particularly in the US, and spill over into the UK, potentially reducing UK GDP by as much as 2.2 percentage points.
Unprecedented Investment and Credit Market Activity
The Bank also noted unprecedented investment in the AI sector, with a rapid increase in AI firms accessing credit markets. This trend could amplify financial vulnerabilities if market conditions deteriorate.
Proposed Regulatory Changes
On Tuesday, the Bank proposed loosening parts of its capital regulations for lenders, introduced after the 2007 financial crisis. A new capital buffer framework would reduce leverage requirements on large domestic-focused UK banks by around 20 basis points (0.2 percentage points), though the impact will vary by institution. The FPC launched a review of the rules last year amid industry concerns that restrictions were too tight. A consultation is expected to conclude next year.
Resilience Amid Rising Risks
Despite the heightened risks, the Bank stressed that UK lenders and consumers remain resilient. Governor Andrew Bailey underscored the importance of monitoring these emerging threats to ensure financial stability.
