Bank of England warns markets could crash if AI hype ends or Fed policy shifts

The Bank of England has issued a stark warning that global financial markets could experience a sharp correction if investor sentiment deteriorates due to disappointments in artificial intelligence (AI) technologies or unexpected shifts in U.S. Federal Reserve policy.

In its latest Financial Stability Report, the central bank highlighted that while markets have rallied strongly in 2025, underpinned by optimism around AI breakthroughs and expectations of lower interest rates, these gains remain fragile.

AI Hype: A Double-Edged Sword

The report notes that a significant portion of recent market gains has been driven by excitement around advanced ChatGPT-style AI tools and other innovations. However, there’s a risk that if these AI developments fail to deliver on lofty expectations, investor confidence could quickly unravel.

• AI-driven valuations may be unsustainable if real-world applications and revenue streams do not materialize as hoped.
• A negative AI surprise could trigger a broad-based sell-off, particularly in tech-heavy indices.

Federal Reserve Policy: A Wild Card

Similarly, markets are sensitive to the Federal Reserve’s interest rate trajectory. Any indication that the Fed might delay or reverse anticipated rate cuts could also unsettle investors.

• Markets have priced in a soft landing for the U.S. economy, with inflation under control and rates declining.
• If inflation resurges or the job market weakens, the Fed may need to hold rates higher for longer, catching markets off guard.

Implications for Investors

The Bank of England urges investors and financial institutions to stress-test their portfolios against a range of possible shocks, especially those stemming from:

• AI Disappointment: Underperformance or regulatory hurdles for leading AI companies.
• Monetary Policy Surprises: Faster-that-expected tightening or delayed easing by major central banks.

Looking Ahead

While the current market environment appears buoyant, the report cautions that complacency could be dangerous. Diversification and robust risk management remain essential, as the interplay between AI developments and central bank policies will likely dictate market direction in the months ahead.

The full report can be accessed on the Bank of England’s official website.