State And Local Pensions Must Confront AI’s Systemic Risks

Stock prices are soaring due to investor enthusiasm about the potential of generative AI to transform the economy. Ignoring concerns about GenAI’s lack of profitability to date, many investors are rejoicing. But pension trustees, charged with protecting the financial security of workers and retirees, do not have the luxury of complacency. Their duties of prudence and loyalty require assessing and mitigating risks, and GenAI undoubtedly presents portfolio-wide risks. One such risk is the U.S. tech industry’s approach to building data centers for GenAI, which is poised to hijack the global economy’s transition toward clean energy and reduced greenhouse gas (GHG) emissions.

An energy-intensive construction frenzy

A massive speculative boom in building “hyperscale” data centers began following the release of OpenAI’s GPT-4 Chat in late 2022. By the end of this decade, capital spending by technology, real estate and utility companies will likely represent the largest wave of private sector infrastructure spending in world history. McKinsey, for example, estimates 6.7 trillion dollars in investment spending by 2030.

Although predictions for the scale of data center construction vary widely, anything close to this projected scale has enormous climate implications. The most obvious concern is emissions generated by powering the massive hyperscale complexes, which are designed to consume up to 2 gigawatts (GW) of power, or about 15 times the capacity required by the entire city of Philadelphia during summer peaks. According to energy analyst Rystand’s 2025 analysis of industry announcements, data centers consuming up to 100 GW of power could come online within the next 10 years. Much of this energy would come from gas-fired power plants.

A second concern is that the capital available for building infrastructure is limited and that large-scale data centers divert resources away from electrifying heavy industry, buildings and transportation, and powering these sectors with clean energy. U.S. technology industry leaders believe their hyperscale model of data centers, with their enormous power consumption, is critical to delivering the GenAi applications customers want. However, so far, customer demand has not emerged; revenues represent only a small fraction of expenses.

Meanwhile, as the Center for Strategic and International Studies and others have pointed out, recent innovations could lead to the creation of competitive GenAI applications at a tiny fraction of the cost and without the need for large-scale data centers. If this happens, the United States will be forced to deal with a massive waste of capital and stranded assets on a large scale.

Growing concerns about pollution and electricity costs

In communities where data centers are located, residents are increasingly angry about secret, backroom deals and the unaccounted-for impacts of gargantuan facilities on health, the environment and electricity costs. As Louisiana Public Service Commissioner Davante Lewis Says“the real health risks come from utilities rushing to build more gas plants and delaying their commitments to renewable energy,” locking communities into “decades of pollution and higher bills.”

The power of pensions to shape the direction of AI

For institutional investors invested in technology, real estate and utility companies that build and power data centers, the key question is how to best use their ownership power to mitigate GenAI’s systemic risks to the value of their portfolios.

With 6.170 billion dollars From retirement savings under management, state and local pension trustees – which include elected officials such as treasurers and comptrollers – have enormous power to shape corporate decision-making, including the power to shape technology, utilities and real estate’s approaches to data centers. The commitments of these pensions and their asset managers to portfolio companies in these sectors must now make data centers a priority.

THE vast majority Retirement portfolio returns are determined by systemic factors (those that affect the economy as a whole) rather than idiosyncratic factors (limited to specific companies or sectors). This means that in these missions, pension fund administrators and their asset managers must not limit themselves to the profitability of the company. Likewise, diversification or security selection will not be enough to protect beneficiaries. They must work with businesses on strategies to reduce the impact of data centers on the overall economy.

The systemic climate risks of AI

The science of climate change clearly shows that building a new generation of fossil fuel infrastructure to power data centers would cause irreparable damage to the economy and the savings of millions of workers and retirees.

Some pension fund administrators are well aware of the threats that increased GHG emissions pose to portfolio value. The Minnesota State Investment Council, for example, declared that “market returns depend on the long-term health of the economy, which in turn depends on the productivity of social and environmental systems” and that climate change therefore threatens the long-term viability of its funds. A Study 2024 by Ortec Finance highlights this point, estimating that “US pension funds could suffer the most significant impact [of a failure to reduce GHG emissions]with a decline in investment returns approaching 50% by 2040, followed by further declines with no recovery until at least 2050.

Fortunately, climate solutions that provide affordable electricity and economic recovery to American workers and communities are readily available. Perhaps the most exciting technology success story is the rapid rise and falling costs of renewable energy and battery storage over the past decade. Despite federal policy headwinds, these clean technologies represent 93% of new capacity additions to the American network this year.

State and local pensions, as well as other climate-minded institutional investors, have played an important role in the growth of these sectors. However, as global GHG emissions continue to rise, they do not have the luxury of resting on this success. They must help accelerate the pace of the energy transition.

This requires accepting the radical changes underway in the electricity sector. Industry analyst Rystad predicts global electricity demand to increase 30% over the next decade. Data centers are a major contributor to this increase, particularly in the United States, which currently accounts for about half of the world’s data center electricity demand.

Near-term clean energy deployment opportunities

Transitioning sectors such as industry, construction and transport to carbon-free electricity requires time and significant capital expenditure for electrification. In contrast, the technology sector is well positioned to harness carbon-free electricity in the near term. A host of cost-effective clean energy solutions are ready to meet data center demand:

• Large-scale renewable energy projects can be combined with battery storage, as has been the case with Gemini solar and battery project in Nevada;
• Enhanced geothermal energy can provide electricity 24 hours a day, as well as Fervo Energy he did it for Google in Nevada;
• Increasing the flexibility of grid managers to balance supply and demand can eliminate the need for new power plants. Rewireing America shows how technology companies could achieve this and reduce household energy costs by investing in distributed energy resources such as heat pumps, rooftop solar and home batteries; And
• Off-grid solar “microgrids,” combined with batteries and small backup gas generators, can be built in sunny locations, research by Scaling Microgrids and Stripe.

Pension plan fiduciaries have a fiduciary duty to evaluate these and other strategies aimed at mitigating systemic climate risks to their portfolios. Once they conclude that the technology industry’s energy-intensive, fossil fuel-dependent data center construction strategy generates systemic risks that can be avoided through a change in strategic direction, it is their duty to seize the opportunity to help bring about that change.