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- [00:01]
A
Welcome to Thoughts on the Market. I'm Ariana Salvatore, head of Public Policy Research at Morgan Stanley.
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I'm Michelle Weaver, US Thematic and Equity Strategist.
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And I'm Sarah Wolf, Senior Economist and Strategist with Morgan Stanley Wealth Management.
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Today, the politics, economics and market implications of America's AI data center build out. It's Tuesday, August 4th at 10am in New York. AI infrastructure spending is becoming a major force in the US investment cycle. But as you've heard on this podcast in recent weeks, local resistance to data centers is growing and projects worth hundreds of billions of dollars are being canceled or delayed. More than 300 local moratoria have passed since 2023, and restrictions now touch 40 states. Now, most are temporary pauses, not outright bans. But the community opposition is tangible. For investors, the key question is how these local pressures shape the broader buildout. So I wanted to talk to you both because Sarah, you've looked at this on the local level and Michelle, you've been leading some of our thematic work on this topic. So, Sarah, maybe we'll start with what happens when a data center comes to town. How does a large project ripple through a local economy, especially when so much of the expensive hardware is imported?
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I think we need to look at the data center build out from two lenses, first at the national level and then what's really happening at the local level, county by county. So at the national level, the headline investment can actually overstate the contribution to GDP because a lot of the components that go into data centers think chips, servers, networking equipment, most of that is imported. So it's actually an offset in the GDP accounting. But when we analyze the AI build out at a local level, we see that the town experiences the project very differently. A data center still needs a physical shell, concrete, steel, electricians, construction workers, and then the restaurants that feed the construction workers. So the local multiplier depends on how much of that spending around the data center stays. Nearby workers are going to get paid, local suppliers win contracts, and nearby businesses will see more demand. And then importantly, governments may collect more property and business tax revenue. When we look at county level research on the AI data center buildout, we do see positive effects on employment, business formation, wages, income, and tax returns. So these data centers are significant. They do have significant multipliers. But we need to dig a little bit deeper and look at how it affects different counties.
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A
So it sounds like there are some local economic benefits. How durable do you think those are?
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Some of the effects are durable and some aren't. The largest and most important Effects come through employment in the near term. If we look at the construction phase of these projects, let's look at a Data center that's 250,000 square foot in Virginia that supports more than 1500 workers during construction. But then if we look at what happens after construction is done, there's only about 50, 50 full time workers once it's operating. And I will say I think that's a high end estimate. If you look at how many workers these data centers employ state by state, some numbers are 10, some numbers are 20, and some are 30 employees. So 50 is maybe on the higher end. So the bottom line is that the labor market multiplier actually fades after the facility comes online. What does persist are the smaller share of data center processing jobs, ongoing supplier and service activity, and then importantly, of course, the property tax base. But even that fiscal benefit depends on how the incentive package is designed. If a locality, for example, grants a very large long lived sales or property tax exemption, it may give away much of the revenue that made the project attractive in the first place. So the job story is real, but it's much more front loaded. And then the tax revenue story is real too. But it really matters on how the locality negotiated the incentive package.
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A
So it sounds like there are some benefits and some potential drawbacks. How do you think communities should judge whether a trade off like that is worth it?
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I think communities should be asking this question of how much spending and tax revenue actually stays local after all the incentives. How many jobs remain after construction? Who pays for new generation, transmission, water system and roads? And who bears the spillovers through utility bills, housing costs or or land use? The evidence does suggest that data center growth can lift incomes and expand the tax base. But it also raises home prices and as we know, it raises electricity prices as well. A typical AI data center may use as much electricity as 100,000 homes. So cost allocation is critical. The strongest agreements make benefits durable and cost explicit through transparent reporting, sunset dates or clawbacks on incentives, infrastructure cost sharing and protections that keep the household from subsidizing this build out. The test is really whether the community captures enough lasting value to justify the demands on land, power, water, housing and public finances.
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A
Michelle, I want to bring you in here. The local picture that Sarah describes helped explain why the politics can be so uneven. How are moratoria and other local restrictions changing the pace and the location of the build out? Maybe on a national scale?
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I think you have to think about just the different type of moratoria themselves. Even so, we're not seeing Them uniform across different states and what's been proposed. However, the majority of moratoria are a pause, not a outright ban on construction. So they might say, okay, we want one year or we want three years to do local impact studies and think about the way these data centers are going to impact communities. So the primary risk is really to the pace of the build out. And as more and more of these moratoria pop up, you have to start to think about how that could shift the geography and the location of where these data centers will ultimately be built. We are seeing a shift towards more data centers being placed in rural locations. This also has implications for the international data center buildout. You're seeing more and more of these data centers go up in Canada and in Australia to serve US needs.
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The polling data show us that voters are increasingly skeptical of AI. Specifically, they're worried about electricity prices and local costs. How should investors read that concern?
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Well, there's a couple things we have to unpack here. First is really around perception. So in certain areas where you have both high data center activity as well as unregulated utility markets, yes, it's true, there is some of this raised cost ending up on consumer power bills from data center activity. But in other areas with unregulated utility markets and lower data center activity, you don't see the same link between consumer power bills and what's going on with data center electricity consumption. But perception is what really drives politics. And given that the perception is becoming spread across different states with both regulated and unregulated utility markets, politicians are reacting to it. And the second thing this gets at is affordability. Consumers have been stressed by inflation for years now and elevated prices. And given that they think that data center costs are now winding up on their power bills, it's not surprising that you're seeing this big reaction and that anything having to do with affordability has become a huge issue for voters.
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Translating that into how we think things evolve from here, what industry and financing trends do you think matter most going forward?
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We recently identified the three main bottlenecks for the data center buildout as power, people and politics. This whole episode has been about that third p politics. But let's unpack power and people on power. We still think there's a potential shortfall of around 38 gigawatts needed through 2028. So power is going to remain a huge bottleneck. And as layer gets placed on top of the power layer, you're seeing more and more of an issue there. And so what that really argues for is for data centers to be off grid. That way they can say, okay, there's no way we can potentially impact consumer power bills if we're not even connected to the grid. The second P people is another big bottleneck. And we're seeing a very tough time for data centers to get skilled laborers. It's very hard to find electricians right now and other skilled laborers needed to set up these data centers. Arianna, that brings us to the policy debate. Why is data center opposition moving from town halls into state houses and Congress? And what does this mean for a conditional build out?
- [08:31]
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Yes, I think the points that you both touched on really explain why we're seeing this sort of pushback evolve. Right. Local communities are concerned about their electricity prices. Again, we see that on more regional than a national basis. They're concerned about quality of life concerns, they're concerned about the environmental impacts. And so all of that has caused these efforts to sort of cross state lines. We see it in both Democrat held state legislatures as well as Republican held. So it's definitely resonating with voters. And this is an issue that we think is going to be a key wedge issue into the midterm elections. It started to move into Congress rhetorically, but we still think something like a federal ban or a federal moratorium is very unlikely. And that's because we see a different incentive structure for lawmakers in Congress from the state and local level principally. I'm talking about the US China relationship. So when you look at the geopolitical backdrop to this debate, there are certain things that you can't ignore. And one of those things is that the US and China are locked in this race for AI supremacy at the moment. And I think federal lawmakers have more of an incentive to respond to those policy demands and those policy needs, meaning they want to keep facilitating the build out. So that's why you're seeing the national level still relatively supportive of this buildout. We're seeing permitting reform, we're seeing Defense Production act being leveraged by the President. We're seeing still an overall very favorable environment trying to unlock sort of that power bottleneck, for example. So that's kind of what brings us to this conditional buildout. Now, what does that mean? We think that the hyperscalers in these companies are going to have to offer some concession to local communities to facilitate the build out. And that could be a number of things. I think it depends on the state's concern or the local community's concern principally. But we see a few different options. One of those Things is behind the meter power generation. So on site power is one of the clear kind of offsets to this debate. Another thing would be improving utilization rates. So our sustainability analysts found that the capacity utilization rates are actually quite low at some of these data centers in the range of 30 to 40%. So maybe that can be increased. We've got some potential new regulations or transparency requirements around water usage. So the short of it is there's not going to be a one size fits all solution here. But we think there's enough on the policy side that these companies can do or offer essentially to local communities so that the entire build out doesn't get delayed or doesn't get stopped. And that's kind of why we still expect elevated AI capex, not just this year but next year as well. We think that the risks are skewed to the upside for those numbers.
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C
Ariane, I want to touch back to the comment you made on low odds of a nationwide ban on AI data center buildout and tie it to to this broader competition between the US and China with global supremacy and AI. Can you talk a little bit more about how competition with China is going to prevent a nationwide ban and some of the national security concerns around that?
- [11:19]
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This ties into the theme of sovereign AI, which is something that we've been focused on recently, especially with all these discussions of more tech restrictions and controls between the US and China. And specifically it's one of the reasons that we think the geographical buildout will be constrained in to either just the US domestically or countries that we are closely aligned with. And really the point I want to make here is that there's three geopolitical realities that are going to form. We think the incentive structure for federal lawmakers and that are slightly different from the things that state and local policymakers tend to focus on. The first is that we're seeing China leverage its supply chain position to pressure the physical inputs required for AI infrastructure. Right. So we're seeing that tit for tat escalation in the context of a broader strategic detente. But there's still a competitive aspect. There's the second is that we know China is accelerating its own physical AI buildout. Reporting indicates they're spending something like $300 billion over five years on its own domestic network. So very much full steam ahead in terms of its own domestic potential. And the third is that research has identified China linked influence operations that use an American frontier model to generate social media posts, comments and political cartoons linking the data center construction to rising energy prices. So there's still a little bit of uncertainty as to whether or not those campaigns actually influence public opinion at scale, but in our view, it really underscores the linkage between national security and geopolitics and the AI data center build out. All these developments together, we think, underscore the physical component of the AI race and make something like a national data center ban or federal legislation toward those ends really difficult to reconcile with the growing bipartisan strategic imperative around AI, which is something that we think persists past the midterms as well. But at the end of the day, the pace of the AI buildout will depend not just on demand, but on how well projects address the concerns of the communities hosting them. That's why we think this conditional build out is probably the right base case for now. Michelle and Sarah, thanks so much for taking the time to talk.
- [13:14]
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Great speaking with you both.
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Thank you Arianna, and thanks for listening. If you enjoy thoughts on the market, please leave us a review wherever you listen and share the podcast with a friend or colleague today.
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