Imagine a world where the engine driving the AI revolution – and potentially the U.S. economy – grinds to a halt. That's the very real threat posed by China's dominance over a critical resource: rare earth elements. These obscure materials are the unsung heroes powering everything from your smartphone to advanced military systems, and crucially, the infrastructure underpinning Artificial Intelligence. But here's the catch: China controls the lion's share of the global supply.
Kristina Hooper, chief market strategist at Man Group, highlights the precarious position the U.S. finds itself in. Capital spending on AI has been a surprising, yet consistent, boon for the U.S. stock market, consistently exceeding expectations and representing a large portion of S&P 500's capital expenditures. Some experts are even claiming AI is the primary driver of economic growth.
Jason Furman, a Harvard University economics professor, made a startling calculation: a staggering 92% of total U.S. GDP growth in the first half of 2025 could be directly attributed to AI spending. To put it bluntly, without the boom in AI-related data center construction, GDP growth would have been a paltry 0.1% on an annualized basis. It's like AI is the oxygen mask keeping the economy breathing!
With so much riding on the AI spending spree, it's crucial to understand the potential roadblocks that could derail this growth – and with it, the U.S. economy and stock market.
A major, and often overlooked, risk is access to rare earth elements. Think of it like this: just as the U.S. was vulnerable to oil shocks in the 1970s due to its dependence on foreign oil, a similar situation could unfold with rare earths. Limited access to these elements could cripple the AI industry and, consequently, the broader economy.
But what exactly are these rare earth elements, and why are they so important for AI? They're essential components in various AI technologies. From the disk drives that store massive datasets to the cooling servers that prevent overheating, and especially in the fabrication of semiconductors, they are indispensible. Artificial intelligence demands immense computing power and memory, making high-capacity, high-performance semiconductors the backbone of the AI revolution. Rare earths are also crucial for national security, used in radar, lasers, and satellite systems. So, it's not just about the stock market; it's about national security too.
From the 1960s to the 1990s, the U.S. actually led the world in rare earth element production. However, in 1995, two key decisions dramatically altered the landscape, effectively handing over the advantage to China.
First, the U.S. government approved China's acquisition of Magnequench, a U.S. rare-earth magnet company owned by General Motors. This deal granted China access to advanced technology that would have taken them years to develop independently. This decision is still being debated, with some arguing it was a strategic blunder. What do you think?
Second, China's application to join the World Trade Organization (WTO) was approved. This allowed China to flood the global market with its rare earth elements, often at prices lower than U.S. producers could compete with. This contributed to the closure of the U.S. mining company, MP Materials Corp. (MP), in 2002.
MP Materials was later reopened in 2017 due to national defense concerns, highlighting the strategic importance of these materials. U.S. production has since increased, reaching 45,000 tons in 2024. But here's the rub: that's still less than one-sixth of China's production.
The U.S. Department of Defense has set an ambitious goal of meeting all defense-related demand for light and heavy rare earths by 2027. However, given the limitations in American rare-earth mining and processing capabilities, achieving this target may be a long shot. Even if the defense needs are met, the enormous commercial demand, fueled by the AI boom, will likely remain unmet.
Currently, China controls about 70% of the world's rare earth resource output and a staggering 90% of the world's rare earth processing capabilities. This near-monopoly gives China significant leverage. Access to rare-earth elements has already been a key bargaining chip in U.S. trade negotiations with China.
In response, the U.S. is actively seeking to diversify its rare-earth supply and secure reliable access through alliances with countries like Australia and Canada, both of which possess significant rare-earth resources.
Furthermore, there's hope that technological advancements could lessen or even eliminate the need for rare earth elements in certain applications. Improving rare earth element recycling (currently, only about 1% are recycled) could also significantly reduce reliance on new mining. And this is the part most people miss: policies can also play a role. The U.S. government could discourage demand for rare earth element-intensive products, such as electric vehicles, by, for example, eliminating EV tax credits as the Trump administration did.
Achieving rare earth element independence should be a top priority for the U.S., just as energy independence was half a century ago. Until a viable alternative to the China-dominated supply chain emerges, AI capital spending – and, in turn, the U.S. economy and stock market – will remain vulnerable. Therefore, stock investors should closely monitor trade deals and policymakers' statements, and carefully assess supply-chain risks when evaluating AI-related investments.
This critical issue, explored by Kristina Hooper, underscores the urgent need for strategic action. What steps do you think the U.S. should take to secure its rare earth supply chain and ensure the continued growth of its AI industry? Should the government subsidize domestic mining, incentivize recycling, or focus on developing alternative materials? Share your thoughts in the comments below!
