The Debt Crisis and Investment Strategies: Insights from Ray Dalio
Introduction
In a March 3, 2025, interview on Bloomberg's Odd Lots podcast, Ray Dalio, the founder of Bridgewater Associates and a billionaire, delved deep into the increasingly severe debt problem in the United States. The issue seems unlikely to be resolved in the short term, and Dalio warns that without effective measures, the US could face a sudden debt crisis within the next three years, comparable in severity to a "heart attack." This article explores the key points from the interview, including debt cycles, risk factors, policy recommendations, and investment strategies.
Debt Cycles and Risk
Dalio emphasizes that rising debt levels do not immediately trigger a crisis. However, when the debt-to-income ratio becomes imbalanced and investor confidence declines, it can quickly lead to systemic risks. Debt crises are typically triggered by a loss of confidence, rising interest rates, or an expansion of fiscal deficits, which can cause bond market turmoil, currency depreciation, and economic recession.
Policy Suggestions
To avoid a debt crisis, Dalio advises the US government to adopt a more prudent fiscal policy, controlling spending and increasing revenue. In the current environment, he recommends that investors focus on assets such as gold and Bitcoin to hedge against potential currency depreciation.
The "Mar-a-Lago Agreement"
Dalio also discussed the recently much-discussed "Mar-a-Lago Agreement." Trump and his economic team proposed a conceptual plan to reshape the global trade and financial system and address the US's economic problems through measures such as dollar depreciation and debt restructuring. However, Dalio emphasized that this should not be misinterpreted as a depreciation of the dollar relative to all other currencies. Instead, it is a depreciation of the US relative to hard assets, including gold.
Why Focus on Debt Cycles?
Dalio's interest in debt cycles stems from his early experiences in the financial markets. In 1971, before graduating from college and entering business school, he worked as a trader on the New York Stock Exchange, responsible for market reporting. He developed an interest in the markets from a young age and started investing in stocks with money he earned as a caddie. This experience allowed him to closely observe the market from the trading floor.
On August 15, 1971, Richard Nixon announced on a Sunday night television speech that there would be a major change in the monetary system. At that time, currency that could be exchanged for gold was considered real money, while paper money was regarded as similar to checks in a checkbook, lacking intrinsic value. Due to a fixed exchange price, they could not actually exchange paper money for gold. Nixon also fabricated some reasons to explain the change, but the real reason was that they did not have enough gold to support the demand for currency.
That day, Dalio walked into the trading floor of the New York Stock Exchange, expecting a major crisis and a significant stock market decline. To his surprise, the market reached a multi-year high. Confused, he began to study the reasons in depth and discovered that on March 15, 1933, President Roosevelt had made a nearly identical announcement on the radio for the same reason.
He further investigated why the market rose significantly in such circumstances and realized that currency depreciation made it easier to make money, leading to rising prices. This not only helped him understand the nature of the mechanism but also made him realize that many events that surprised him had occurred in history but had not happened in his lifetime.
As a result, he began to study the history of the Great Depression and realized that he should study major historical events in depth. This led him to explore the Great Depression in detail, and it was through this research that he was able to predict the global financial crisis in 2008. When the debt crisis broke out and interest rates dropped to zero, there was no further room for interest rate cuts. From his study of the events in 1933, he learned that when this happens, the government prints money and buys bonds. This understanding of the events in 2008 completely changed his decision-making approach and is the reason for his recent research.
The Current Fiscal Situation
Dalio's thinking always focuses on economic mechanisms and understanding how they work. He believes that the US is at a critical turning point, but economists, policymakers, and most people do not yet fully understand the so-called "big debt cycle." While people have a relatively good understanding of short-term debt cycles, the operation mechanism of "big debt cycles" is not really understood, and the US is at the critical point of this cycle.
Key Signals of the Turning Point
Dalio wrote the book How Nations Go Bankrupt to explain the operation logic of the mechanism and provide warning signals for reference. For example, the first step is to conduct a supply-demand analysis. When such a dynamic occurs in the market, one can observe a signal: the willingness of the private sector to buy government bonds has significantly decreased. Traditional bond buyers (such as banks, funds, and sovereign wealth funds) either reduce their purchases or stop increasing their holdings. As a result, the central bank has to intervene, printing a large amount of money to buy bonds to fill the financing gap, leading to currency depreciation and inflation.
The US saw a "warning" in 2020-2021, like a mini heart attack. At that time, the government injected a large amount of money into the market due to the epidemic, actually doubling the total amount of money issued compared to the economic losses. In 2021, the government issued another round of funds without the same urgent need. This shift in fiscal policy from a more conservative stance to one closer to a universal basic income policy orientation led to questions about where the funds came from. The government issued the funds by printing money through the central bank. Although everyone received money, they were surprised by the subsequent price increases. This inflation was a warning, like a mini heart attack, reminding us that if the debt growth pattern is not changed, more serious consequences will follow in the future.
Dalio cannot accurately predict the specific time of the debt crisis, just as he cannot predict the exact time of a heart attack. However, he is certain that the US is approaching this critical point. His judgment is that it will occur in about three years, with a possible fluctuation of about one year.
Helping People Identify Signs
Dalio's research aims to help people identify these signs. In his book, he reviews multiple similar cases in history to help people distinguish between real debt crises and situations where risks are gradually accumulating beneath the surface. He poses a question, especially to those in government agencies or involved in policy-making: Have you noticed that this debt crisis is gradually emerging? This is like a heart attack in the economy, and we can observe these warning signals from the market's supply-demand changes on a monthly or even daily basis. He details these signs in his book and hopes that people will first ask themselves: Does this make sense? Have these situations occurred in history? If the answer is yes, then we should consider how to respond rather than simply saying, "There's nothing to worry about." Debt default can occur in various forms.
What a Debt Crisis Might Look Like
If a debt crisis were to occur, Dalio describes it as similar to August 15, 1971, but on a larger scale. On that day, President Richard Nixon announced a major policy to end the direct convertibility of the dollar to gold, marking the end of the Bretton Woods system. The market would experience a severe supply-demand imbalance, with soaring interest rates, a sudden tightening of financial conditions, currency depreciation, especially relative to gold or other major currencies. Although all major economies face similar fiscal problems, during the market adjustment process, some currencies may depreciate faster than others. Even if the Federal Reserve begins to relax policy, interest rates may continue to rise. When the market experiences significant volatility, the Federal Reserve may take action to intervene, as it did in 2008 and 2020, by launching quantitative easing and expanding bond purchases. The market's reaction may be similar to 2020 and 2021, with not only rising inflation but also a significant increase in the prices of gold and other assets.
In 1971, Nixon directly announced that the dollar would no longer be linked to gold, completely changing the global monetary system. Today, could a major event with similar influence occur? They will not take exactly the same approach because the current system is a pure fiat currency system that does not rely on gold reserves, so there is no need for a similar official announcement. However, this does not mean that a shock of similar magnitude will not occur.
Is it possible for the US to announce the suspension of debt repayment to certain countries, such as China? Some things are almost certain to happen, while others are only potential possibilities. It is certain that the Federal Reserve will intervene in the market on a large scale to buy bonds to fill the fiscal gap. This will not require a formal announcement but will be directly implemented through market operations, similar to 2008 and 2020, but possibly on a larger scale.
Regarding some possible countermeasures, the government may choose to extend the maturity of national debt, essentially alleviating short-term debt pressure in a disguised manner. The US government may also impose sanctions on certain countries and use this as an excuse to stop repaying the US debt they hold. This will not be officially called "debt default." They may say it is to safeguard national security or adjust fiscal policy, but in essence, it is a default. The government may not change the final repayment amount but will extend the payment period, essentially constituting a debt restructuring, accompanied by a certain degree of debt monetization (in other words, the central bank will buy some of the debt). If the situation deteriorates further, more extreme measures may be taken, and the dollar will depreciate relative to hard assets such as gold.
Trump Administration's Policy Research
Since the interview also touched on some policy research during the Trump administration, especially the hypothetical ideas of the "Mar-a-Lago Agreement," which aims to maintain the US's dominant position in the global financial system while actively promoting dollar depreciation. Dalio believes that this possibility exists and may be carried out in part secretly. However, he clarifies that this will not be just a depreciation of the dollar relative to all other currencies. Instead, he believes that all major currencies will depreciate together. In other words, central banks will take separate measures, and it will be more like a global "race to see who depreciates faster." The situation of the euro is bad, the yen is burdened with a large amount of debt and is being monetized, and it is also difficult for the yuan to become a stable store of wealth. Overall, no major currency is truly "strong." This situation is very similar to the 1970s, or even a repeat of the 1930s, with currencies depreciating relative to gold or other hard assets.
Alternative Currencies
If major global currencies generally depreciate, what are the possible alternative currencies? This is a key question. What is a stable alternative currency? Bitcoin may play an important role, but what is the appropriate alternative currency? Because in the modern financial system, debt and currency are highly correlated. When you hold debt assets, it means that someone will repay you the principal and interest in the future. When you hold currency, you are actually depositing it in a financial instrument that promises to pay (such as bank deposits, national bonds, etc.). Therefore, they have similar characteristics in essence. However, when there is too much debt, the value of the currency will decline. Therefore, Dalio believes that future stores of value may be more inclined to gold and Bitcoin.
When people compare the "Mar-a-Lago Agreement" to the "Plaza Accord," the logic is to promote US manufacturing through dollar depreciation. However, the current situation is different. This time, the dollar will depreciate not only relative to other fiat currencies but also relative to hard assets such as gold. Gold should be a long-term allocation asset rather than being blindly chased due to short-term market increases.
Current View on Gold
Dalio's current view of gold is more positive than it was ten years ago. He believes that the value of gold is more prominent in the current environment, but he emphasizes that he is not recommending excessive investment in gold. He wants to cool everyone's enthusiasm and avoid excessive optimism. He points out that there is far more uncertainty in the future than we know, so we must remain humble. The correct approach is to establish a reasonable investment portfolio and make appropriate diversification. In an economic crisis, when other assets in the investment portfolio perform poorly, gold can usually play a stabilizing role. If you hold a large amount of bonds or similar assets, a reasonable gold allocation in a typical investment portfolio is about 10%-15%. This allocation can provide protection while optimizing the risk-return ratio of the investment portfolio. The most important point is that investors should not blindly increase their positions when the market is overheated.
Common Investment Mistakes
Dalio means that many investors make the mistake of "chasing the rise." In investment, the biggest problem for most people is that they often think that the asset that has performed best in the past will continue to perform well. In fact, when an asset becomes too expensive, it is more likely to fall rather than continue to rise. This phenomenon is common. For example, the current boom in artificial intelligence companies. Many investors enter the market only after the price has risen significantly. However, the fact is that the best companies are not necessarily the best investment targets, just like the best-performing horse in a horse race, whose value is often fully reflected in the odds. The market is like a game. Only by finding value beyond the odds can one obtain excess returns. Therefore, the core point he wants to emphasize is that it is crucial to know how to balance the investment portfolio. We cannot be absolutely sure about the future direction of the market, but by reasonably allocating the investment portfolio, we can effectively reduce risks without reducing the expected return. Gold is an important part of achieving this goal.
Policy and Economic Balance
To achieve a 3% target, a correct policy mix is needed. Treasury Secretary Scott Bessant verbally supports the 3% plan proposed by Dalio. He also mentions a 3% GDP growth target and the intention to further extend tax cuts. Is this policy consistent with the 3% plan proposed by Dalio? Or will the permanent extension of tax cuts instead exacerbate economic imbalances and increase the systemic risk of a "heart attack"? This depends on the overall operation of the economy. The key lies in the total amount of tax revenue, not just the tax rate itself. Raising the tax rate does not necessarily lead to higher tax revenue because if the economy is healthy, tax revenue may still increase even if the tax rate remains unchanged or is reduced. The entire mechanism also involves key factors such as the change mechanism of interest rates and the response of the market.
One can look at the fiscal situation from 1992 to 1998. During that period, a series of measures were taken, and the deficit was finally successfully reduced. A correct policy mix requires finding a balance between austerity and stimulus. Dalio calls this "elegant deleveraging." If taxes are raised or spending is cut, it is contractionary for the economy. However, if it is accompanied by a loose monetary policy, it can play a balancing role, ultimately reducing the debt-to-income ratio. A well-designed deleveraging strategy can ensure that the two offset each other without causing the economy to enter a recession while reducing debt risks. This is a successful trading example based on Dalio's understanding of the debt cycle.
Successful Trades in Investment Career
Dalio previously mentioned that he has made a lot of money by understanding the debt cycle, especially during the 2008 financial crisis. He can share some specific successful trades in his long-term investment career. First, he wants to clarify that 100% does not mean that the probability of occurrence is 100%. Instead, it means that the risk has reached the highest level in history, indicating that the risk has reached the limit, but it does not necessarily occur.
Before 2011, Dalio observed that leverage in the market was rising rapidly. A clear signal was that debt was growing much faster than income, and this situation was unsustainable. He analyzed the main buyers of these debts and found that although there were multiple institutions involved, the core was European banks. These banks used leverage to buy bonds, and as the leverage ratio increased, their capital requirements and capital restrictions also increased. This meant that when they reached the leverage ceiling, they could not continue to buy bonds at the same rate. Their bond holdings might remain unchanged, but their purchases would decrease. At the same time, he saw that the fiscal deficits of various countries were still large, and bond issuance would continue to be high. This created a supply-demand mismatch - the increase in debt issuance, but one of the largest bond buyers, European banks, could not continue to increase their holdings on a large scale. As a result, he deduced the market mechanism of this mismatch and decided to withdraw from credit risk, reduce credit exposure, and also reduce stock market risks. This is an example of practical application.
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