The Bank for International Settlements (BIS) cautioned that a constellation of global pressures - from record public debt to financial market fragilities and questions over the durability of the current artificial intelligence (AI) investment surge - is increasing systemic risks and calls for disciplined policymaking.
In its Annual Economic Report published on Sunday, the central bank umbrella group outlined a complex mix of vulnerabilities. The report pointed to strained fiscal positions in key economies, lingering supply-side disruptions and the possibility of a renewed episode of stubbornly high inflation as elements that could complicate the global outlook.
While recent months have seen economic activity remain broadly resilient, the BIS said policymakers must act decisively to preserve stability. "Policy actions must reinforce each other to avoid a pull and push on the global economy. Ultimately, success depends on sound fiscal and financial foundations," BIS General Manager Pablo Hernandez de Cos said.
Inflation and supply risks
The report documents a pickup in inflation and warns that more frequent supply disruptions could entrench higher inflation expectations among households and businesses. The BIS emphasised the importance of central banks being ready to respond if inflation expectations begin to anchor at higher levels. "The readiness to act if the central banks observe that there is the anchoring of inflation expectations is the main message that we want to set," de Cos told reporters.
De Cos also noted recent developments in the Middle East that eased some immediate geopolitical pressures. He described the ceasefire between the United States and Iran and the reopening of the Strait of Hormuz as "good news" that would help avoid extreme scenarios, while adding that it could take time for the oil market to "normalise".
Uncertainty over the AI investment wave
The BIS highlighted uncertainty around whether the current surge in investment linked to AI will be durable. Although AI has lifted confidence and supported growth through expectations of productivity gains, the bank warned that the same forces are also raising concerns about jobs and that supply constraints and intense competition could precipitate an overinvestment cycle similar to past boom-and-bust episodes.
For central banks, the AI boom raises fundamental questions about how economies may operate going forward. De Cos said it would be "unwise" at this stage to prescribe a specific reaction from monetary authorities, reflecting the current uncertainty about the longer-term economic implications of rapid AI-driven investment.
Financial vulnerabilities and the role of non-bank funding
Financial fragilities remain a central concern for the BIS. Elevated asset valuations and signs of investor complacency have increased fragility in core bond markets, the report said. The financing of the AI boom also appears increasingly reliant on debt and complex funding arrangements that extend across supply chains and outside traditional banking channels.
Record-high public debt, coupled with sovereign debt markets that are increasingly influenced by large, highly leveraged hedge funds, has given rise to what the BIS described as "a new sovereign-financial stability nexus." Frank Smets, acting head of the BIS monetary and economic department, warned: "The new fiscal-financial stability nexus may mean more frequent and sharper drops in sovereign bond values," adding that such swings could rapidly tighten financial conditions.
Echoing that concern, the BIS stressed urgency in reducing debt levels in key economies. De Cos framed the message as one of "urgency" and noted that "the fact is that today debt is high, and this is financed through non-bank financial intermediaries."
Policy recommendations
To address the risks identified, the BIS urged policymakers to prioritise price stability, secure fiscal sustainability and enhance oversight beyond the banking sector. The report called for better coordination of policy tools and the pursuit of structural reforms that strengthen fiscal and financial foundations. "Policymakers must act now. Delay will only make the necessary adjustments more costly," de Cos said.
The BIS report thus frames a policy agenda that emphasizes timely and coordinated action across monetary, fiscal and regulatory domains to mitigate a layered set of risks linked to inflation dynamics, elevated debt and the evolving financing patterns associated with AI investments.