Substitution and Complementarity Effects in AI

When the price of one production input falls, producers substitute toward it and away from more expensive inputs—but simultaneously, inputs that complement the cheaper input become more valuable. This dual dynamic, fundamental to economics since the marginal revolution, explains why AI produces both compression and expansion in knowledge-work labor markets. AI substitutes for execution (writing code, drafting documents, building models), putting downward pressure on wages for workers who primarily execute. It complements judgment (deciding what to build, evaluating quality, identifying problems), putting upward pressure on compensation for workers who primarily direct. Both effects operate simultaneously on different populations, and sometimes on different components of a single worker's job, producing the experiential vertigo of feeling both threatened and empowered by the same tool.