Trillions of dollars are being plowed into building U.S. data centers to handle future AI compute demand. These are being paid for by rich people and organizations, anticipating juicy returns on their investments. Those juicy returns depend on consumers (individuals or businesses) being willing to pay enormous amounts for access to AI. Commentators are so enamored with the glorious prospects of how AI will end poverty and maybe even death, that it is hard to find a clear statement of who exactly will pay how much for all this. Lots of folks are happy to pay $20/month for AI. $200/month? Not so much.
I predict that those earnings will fall far short of expectations. We observe that AI consumption is bifurcating into two main markets, a commodity tier and a premium tier (with, of course, sub-tiers within each of those broad categories). Chinese models are readily available over the internet, and they have proven capable of performing well enough to handle most AI tasks. The Chinese models are priced far lower (on the order of 10X lower) than the big U.S. “frontier” models (ChatGPT from Open AI, and Claude suite from Anthropic). By far the most U.S. compute usage depends on these two labs. Western users are starting to use the Chinese models more and more. This keeps prices so low that the frontier labs are losing money on their AI sales. Sophisticated users automatically route their AI workload to the cheapest feasible provider.
Their will always be a subset of AI usage in the West that requires the highest level of performance, or freedom from Chinese government spying or manipulation, that will be directed to a premium tier. But if that premium tier ends up being only, say, 20% of AI usage in 2028, there is a real question as to whether the financial bases of the data centers being built now can be sustained. There are huge bear and bull arguments on both sides here, which are tough to balance. I got only equivocal “it depends” answers from AI on this.
If the data centers don’t make expected profits, what then? It all depends on how they were financed. Most of the build-out to date has been the big 4 hyperscalers, Google, Amazon, Microsoft, and Meta spending their free cash flow from their other business lines. If it turns out they simply flushed that money down the toilet, no big deal. Just a trillion-dollar whoopsie. The CEOs will still get their bonuses, don’t worry.
But now as more debt financing enters in, the stakes get higher. Analysis seems to show that the debt loads that the big 4 hyperscalers have incurred is manageable – -their base cash flows are so huge that they can manage their own debt. But in the past year we have seen the emergence of monstrous “Special Purpose Vehicles” (SPVs) with a mixture of equity, debt, and guarantees, to finance practically all the upcoming trillion dollars of data centers. This pushes the financing of the balance sheets of the hyperscalers.
If those newer data centers flop, their equity investors will take a hit, leaving their creditors in the hole and in control. One really needs to analyze exactly who those equity and debt holders are for the SPVs. If the creditors decide to recoup some of their investment by selling the data center for say 60 cents on the dollar, the most likely buyers would be…Google and Amazon. There is a school of thought that this (let the SPVs fail, scoop up their assets at discount) has been their plan all along. World domination in AI compute! Just like they have achieved world domination in online search and video and shopping. Maybe.
The resulting slowdown in data center investing would likely throw the U.S. economy into slowdown or recession, considering that it’s estimated that fully half of our recent GDP growth has been from circularly-financed AI buildout. Chipmakers’ (Nvidia, Micron, AMD, etc.) profits depend on continued acceleration in AI build-out. If that build-out stalls, or even slows down, chipmaker profits will crater. Whether this risk is already priced into their share prices is debated.
Boilerplate disclaimer: Nothing here should be considered advice to buy or sell any security.
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