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Cathie Wood discusses the rise in inflation: We have a problem that is not transitory

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Dr. Arthur B. Laffer, Founder and Chairman, Laffer Associates and Cathie Wood, CEO of Ark Invest, discuss inflation and supply issues during an ECNY webinar.

Video transcript

[MUSIC PLAYING]

ZACK GUZMAN: I just got a tweet from somebody asking for a big interview. Well, guess what? Here's a big interview for you, ARK Invest CEO, Cathie Wood speaking with Laffer Associates founder, Art Laffer about emerging investment decisions, capital markets, and cutting edge technologies. Let's watch.

CATHIE WOOD: On inflation, we do have a controversial call here. I think the prevailing wisdom is we have an inflation problem, this is not transitory. And I will say that the supply chain bottlenecks have lasted a lot longer than I would have expected and the latest version of that is consumers running out and buying holiday gifts before, well before they normally would because of supply chain issues that might prevent them from buying presents later.

So we believe that the bigger risk here is deflation. And there are three reasons for this, two are secular, one is cyclical. The secular reasons, one is good, and one is bad. So we are experiencing today the biggest uplift in innovation, we're in an innovation age the likes of which we have not seen before. And the learning curves associated with the technologies that Barbara mentioned upfront, the learning curves are characterized by cost declines, and I'll give you some of those.

We focus our research on Wright's Law, which is a relative of Moore's Law but it's a function of units and not time. And so for every cumulative doubling in the number of whole human genome sequence, costs are dropping 40% and we're at a very low base so we're going to see a lot of cumulative doublings. For industrial robots that number is 50%. For battery technology or battery pack systems, that's 28%. When it comes to artificial intelligence, we are learning that training costs, so AI training costs, are dropping at a rate of 60% per year. So these are massive deflationary forces. And this is disruptive innovation at its best and most prolific really, in the history of all time.

The bad form of secular deflation is associated with the creative destruction associated with disruptive innovation. Now we have seen since the tech and telecom bust, and then again maybe even more so the '08, '09 meltdown, increased risk aversion in the traditional asset management world. And part of that was a shrinking of time, investment time horizons. And the demands for profits and dividends now, which we believe to the extent companies cater to that short term point of view, that many companies have not invested enough in innovation and are going to be disrupted or disintermediated. They bought back shares to manage earnings. So a lot of financial engineering and leveraging up. And to service that debt now if their products are going obsolete, and we think a lot of products are going obsolete, they will have to cut prices to move these products.

The third source of deflation which this is the most controversial, cyclical. We're looking at the behavior of businesses versus consumers since really mid-2019. In 2019 the yield curve inverted and China-US trade tensions got worse, businesses became risk-averse and they stopped growing their inventories faster than sales, they cut back on capital spending.

Then we move into the COVID crisis and they shut down. And of course, the government puts in place stimulus payments, the consumer saving rate hit 33% in April of last year. So consumers went to market, really it was to buy goods which are only a third of total consumption. So they spent the year buying goods, they couldn't really buy services. And businesses have not been able to keep up with them. What we think is happening now is double and triple ordering, which will end up in we believe, a significant inventory overhang next year. And that will be cleared by cyclical price cuts.

Now in terms of monetary policy, and this is where-- and fiscal policy-- this is where you and I discuss and debate a lot, Art. I remember after '08, '09, I was sure that the monetary easing would unleash-- and fiscal policy easing-- would unleash inflationary forces. And I was wrong. What had happened was-- and I know you and I joust about this but what--

ARTHUR LAFFER: No, I was wrong too by the way. If you saw my piece in 'The Wall Street Journal' I made an utter ass out of myself but at least I know it and learned from my experience.

CATHIE WOOD: So velocity, which I know you consider only a residual but velocity went down, so the rate at which money turns over went down. People were scared and we know from the '70s it is when velocity picks up and when consumers and businesses try to get ahead of price increases and interest rate increases by buying now, that we see an inflation problem building and moving into wages as well. We are at a very important moment right now. Velocity is stabilized, it's ticked down in recent months and I believe it will continue to tick down because what I just gave you was a deflation story, a secular deflation story, which, if we're right at how powerful this story is, will mean that velocity will continue to fall because prices are going to fall.

And interest rates are falling. I think interest rates-- you asked me the other day why I thought real yields were negative, 10-year yields negative? Do we really believe real GDP growth is going to be down negative for the next 10 years? I think there's a lot of mismeasurement right now taking place in the nominal GDP accounts. And if we're right, these statistics having been born in the industrial age do not account for the digital age. So that probably means that real GDP growth is higher and inflation lower but it's very confusing. I will give you that because the markets are contradicting each other.

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