What to Expect From the UK Budget

Ariana Salvatore: Welcome to Thoughts on the Market. I'm Ariana Salvatore, Head of Public Policy Research at Morgan Stanley.

Today, I'll discuss the growing energy demands of AI and what the government can do in response.

It's Monday, October 12^th at 10am in New York.

Markets and policymakers are preparing for a potentially important debate following the November elections. The future of American energy infrastructure. And at the center of that debate is an increasingly urgent question: How can the U.S. build enough power infrastructure to support the AI investment cycle – without passing the costs on to everyday electricity consumers?

Late last month, lawmakers in Congress introduced the bipartisan American Affordability and Jobs Act. That legislation represents a significant effort to reform federal permitting. But importantly, it also includes provisions that require data centers to cover the transmission costs associated with their projects.

We think that's a notable development, particularly as we think about the legislative agenda after the November elections. Of course, the path forward still remains uncertain given substantial policy differences and a limited legislative calendar after the elections.

But why might this matter for markets?

Well, first, it's worth considering the scale of the energy challenge. My colleague Stephen Byrd and his team recently updated their projections for the U.S. data center power shortfall. They now see a potential 57-gigawatt gap through 2028, and that's before accounting for new solutions that could accelerate access to power. That's up from their previous estimate of 38-gigawatts.

And that's why the permitting proposal is so important. There are two elements that I'd highlight.

First is the effort to accelerate infrastructure development. The bill would reform federal environmental reviews and provide greater certainty for projects that have already received approvals. We think that can help reduce delays and uncertainty around new energy projects, although permitting reform alone won't resolve constraints involving equipment, labor, or grid capacity.

The second element is the growing focus on who pays for the infrastructure, and here the proposal actually builds on an existing policy initiative. Earlier this year, a number of hyperscalers signed on to the Ratepayer Protection Pledge.

That's a voluntary agreement under which companies commit to securing the electricity needed for their data centers and pay for associated power infrastructure upgrades rather than passing the costs on to residential consumers. The pledge was subsequently expanded to include a broader group of utilities, developers, and state participants.

Now, what's different about the permitting reform bill is its potential shift from voluntary commitments toward federal requirements. In particular, the proposal would require data centers to cover their associated transmission costs.

That's an area where we think policymakers from both parties appear to share concerns about electricity affordability, even though they may disagree over the broader approach to energy policy.

Looking beyond the elections, we think that creates two related policy catalysts for investors to watch.

The first is whether Congress can reach an agreement on permitting reform that helps accelerate the construction of energy infrastructure. And second, whether lawmakers move to establish a more formal cost-sharing requirement for data centers.

The eventual policy mix, we think, could influence both the timing and the economics of new projects. Faster approvals could make some investments more attractive. But requiring developers to absorb additional transmission costs could also change where projects are built and which power solutions they pursue. A changing policy framework could also reinforce the importance of alternatives.

Of course, legislation is far from guaranteed. The elections will shape the political environment in which these negotiations continue, and any final agreement could differ substantially from the current proposal.

But stepping back, I think there's a broader takeaway.

For much of the AI investment cycle, the focus has been on the pace of technological innovation and capital spending. Increasingly, though, policy decisions around electricity infrastructure, permitting, and affordability could become just as important in determining how quickly that investment translates into operational capacity.

The permitting bill is an early indication of how D.C. may approach those challenges after the elections. And for investors, the central question may be less about how much companies are willing to spend on AI and more about how quickly and at what cost they can secure the power needed to support it.

Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

Andrew Sheets: Welcome to Thoughts on the Market. I'm Andrew Sheets, Global Head of Fixed Income Research at Morgan Stanley.

Today, exploring further the question that seems to be on everyone's mind: At what point do higher rates become a problem for markets?

It's Friday, October 9th, at 2pm in London.

We recently hosted Morgan Stanley's ninth annual European Credit Conference here in London. Fifty companies, over a thousand investors, and to some extent, one dominating question.

The market has been impressively resilient this year – but as yields rise, at what point does this change?

I think a good place to start with this question is whether the current level of interest rates are obviously wrong. And I don't think it's clear that they are. Growth in the U.S., Europe, and Asia remains surprisingly robust and has for a lot of this year. Meanwhile, inflation across regions is still generally above central bank targets.

Too high, and a sign that conditions are more likely too hot than too cold. That's the opposite of what the wrong level of rates would imply – as rates that were too high would be curtailing activity and pushing inflation down below target.

Thanks in part to the scale of AI spending and how insensitive the spending has been to the level of interest rates; we're just not seeing this.

I think the yield curve is also confirming this message that the level of rates for now is okay. In an environment where the market thinks that central banks have raised rates too much, it will often so-call invert the yield curve. Pushing short-term interest rates above longer-term ones on the belief that rates that are too high today will need to be lowered when conditions weaken in the future.

We're not seeing that, and that is, I think, a pretty important indicator.

At the risk of being pedantic, I think there's also the premise of the question around resilience. At one level, without a doubt, markets have been impressively solid given the large rise in yields this year. U.S. and European stocks have been posting double-digit gains. Credit spreads, a measure of risk premium, sit near multi-decade lows.

But under the surface, that resilience isn't so apparent. Spreads on the lowest-rated credits, so-called triple CCCs, have increased significantly this year across both the U.S. and Europe. Publicly traded BDCs, which contain portfolios of lower-rated private credit, have traded at widening discounts to their book value.

And even in the mighty U.S. stock market, my colleague Mike Wilson and our U.S. equity strategy team note that over half of the 3000 largest stocks have seen a drawdown of at least 20 percent since June, which happens to be the month that yields started to rise.

2026 may be showing that global growth overall is just less sensitive to higher rates than was initially expected. Large government deficits in the U.S., Europe, and Asia, and large spending on AI may be two reasons why. With growth strong and inflation still too high, rates may be simply seeking out a level that they think will keep things in balance.

But the interest rate that helps balance – this technology and spending boom – are not the same rates that keep a smaller, weaker, or a more indebted company happy. If higher rates are needed to balance things overall, the weaker tails of the market can still suffer.

We've seen this in the past, particularly 2005. When simultaneous booms in CapEx in China and the U.S. housing market pushed up rates back then, the overall economy held up for several more years, while weaker pockets of credit suffered more quickly.

Back then, a large U.S. government deficit, booming China CapEx, and significant U.S. housing wealth all helped push up rates. The overall economy held up for several more years. But weaker parts of the credit market were challenged by those rates more quickly.

We think the same may be true today and therefore favor an upper quality bias. We favor high-yield bonds over loans and decompression across credit indices.

Thank you as always for your time. If you find Thoughts on the Market useful, let us know by leaving a review wherever you listen. And also tell a friend or colleague about us today.