Federal Reserve Chairman Alan Greenspan resisted calls to raise interest rates in 1996 despite strong economic growth and falling unemployment, convinced that advances in information technology had expanded the economy's productive capacity enough to prevent inflation from rising. His gamble paid off as inflation remained stable while the unemployment rate continued to drop, according to a new analysis published by the Federal Reserve Bank of St. Louis in July 2026. The report examines the 1990s productivity boom to draw potential lessons for today's policymakers as they navigate the rapid deployment of artificial intelligence.
By mid-1996, the unemployment rate had fallen to around 5.5% and was dropping further, widely seen as evidence the labor market was overheating. A "substantial minority" of Federal Open Market Committee members favored tightening monetary policy, the report states. Initial data suggested productivity growth had slowed sharply, from 3.4% in the third quarter of 1995 to just 0.4% in the third quarter of 1996. But revised data later showed productivity had actually increased from 1.6% to 2.5% over that same period. Headline consumer price index inflation hovered around 3% through 1996, while core inflation drifted lower throughout 1996 and 1997. The unemployment rate kept falling, reaching 4.7% by December 1997.
Greenspan believed greater use of information-processing technology was having two effects: boosting productivity growth and the economy's potential growth rate, and discouraging workers from demanding large wage increases for fear of losing jobs to automation. "Contrary to Fed staff estimates, Greenspan believed the unemployment rate could fall farther without generating higher inflation," according to the analysis. The report notes that firms today are increasingly discussing AI on earnings calls and expressing optimism that AI will generate large improvements in productivity, while surveys show AI tools are being adopted rapidly in the workplace.
The report explains that Greenspan's insight likely prevented rate increases in 1996, but policy remained relatively tight in real terms. The FOMC kept its policy rate at 5.25% even as inflation fell, pushing the ex post real rate to around 3% in 1997—comparable to the peak during the preemptive tightening period of 1994-95. The committee raised rates by 25 basis points in March 1997, citing "persisting strength in demand," and didn't ease until late 1998 when global financial crises hit. The 1990s experience shows how widespread adoption of a transformative technology can boost productivity and improve trade-offs between employment and inflation, the report concludes, though it cautions that differences in underlying conditions can limit comparability across periods. With AI potentially poised for similarly transformative effects, the lesson is clear: sometimes the biggest policy risk is acting too soon on incomplete data.