Ray Dalio on COVID-19

Ray Dalio of Bridgwater Associates made a virtual TED appearance to discuss the context and consequences of this current COVID19 crisis. I’ve tried to paraphrase his ideas in this article.

What are the consequences of COVID19?

To imagine who will be affected and how, globally, one has to think in terms of incomes and balance sheets, and realize there will be holes in both. The response we are seeing, as in similar historical situations such as 1930 to 1945, is the creation of money and credit. Who are the major producers of this money and credit? The United States and Europe. The US Federal Reserve is buying Treasury’s debt, and the Treasury is distributing that money primarily to Americans. The Europeans are doing the same. The European bank is smaller, as the world runs on about 70% dollars. It’s important to observe that there aren’t many banks around the world, and so the rest of the world will have holes that are not filled. Much of the world will not get the money and credit being created, and this will result in disparities. This question of who gets what, and the resulting wealth distribution is a defining moment.

Defining moments repeat

Such defining moments happen every 75 years or so, and generally occur as the result of four forces that drive economies.

1. Productivity — This comes from people learning, investing and doing things well. It results in slow growth, 1% to 2% per year. It’s not volatile, because knowledge isn’t volatile. It improves the quality of our lives.
2. Short-term debt cycle — This is the business cycle. Recessions and expansions, that are about 8 to 10 years in duration.
3. Long-term debt cycle — These happen with a periodicity of about 50 to 75 years, and whose end are marked by disruption, in which new types of money and credit emerge. The last was 1945, with the end of WWII and emergence of the Bretton Woods monetary system. This created the new world order, the American world order, that we have today, in which 70% of the world runs on the US dollar.
4. Politics — This is all about how we deal with each other. Internal politics are how we deal with wealth and value gaps. Do we have a common national mission, or do we fight over wealth? Internal struggles lead to revolution, peaceful or otherwise, and shifts in wealth. External politics happen between countries, as rising powers challenge existing ones, producing risk of wars where cooperation isn’t achieved.

Are we headed towards a global depression?

Yes, but with caveats, because that’s a loaded term, often used for fear mongering. What do we actually mean by a depression?

• Between 1929 and 1932 we had a large drop in the economy, and double-digit unemployment. Are we like that today? Yes.
• Back then, they printed a lot of money. Interest rates hit zero. Are we like that today? Yes.

So this is not a recession. It’s a structural breakdown that we’ve seen many times in history, and we’ll see the same four levers used in response:

1. Cutting spending. Austerity.
2. Debt restructuring, forgiveness.
3. Redistribution of wealth through taxation.
4. Printing of money.

Will those things get us out? How will they be balanced? These are the open questions. What we do know is that the greatest force we have is our capacity for inventiveness and adaptation, if we can cooperate. We also know that when we emerge after two or three years into a new world order, that the restructuring should make us healthier. The people who haven’t saved, or those who have prioritized luxury over saving will face a reckoning, and society will adapt/evolve towards healthy behaviors.

Has the market failed to recognized this?

This is something we can’t know. What we do know is:

• Developed markets are off 20%. Emerging markets are off 45%, as they won’t benefit so much from the new money and credit being created.
• We’ll see a huge restructing, and it will be defined entity by entity. For example, we will some some hospitals go bankrupt. Supply lines will change. What it means to be self-sufficient will change.
• In the crisis of 2008, we had banks with leverage that faced insolvency when things went south. Governments decide which are systemically critical, and then create money and credit to keep those alive. Those not systemic are allowed to fail. This current crisis is more complex. There are banks, but there are far more affected entities beyond banks. All those little businesses. Who will we save, and how?

What kind of industries have the best prospects going forward?

1. Those that are stable —The lifelong meat & potatoes industries, that are not leveraged.
2. The innovators—Those who can adapt and innovate and don’t have balance sheet problems. They will be the big winners.

What should an average investor or 401k holder be thinking?

Investors must understand they will not be successful trying to “play the game”. Being successful in the market is more difficult than winning gold medal in the Olympics. Nobody thinks about competing in the Olympics, but everybody feels they can compete in the markets. This is the very worst thing you can try to do. Don’t try to time the markets, chase winners, or avoid losers. So what is the most important thing to do? Be diversified. Have some stocks. Have some bonds. Have a bit of gold. Have a bit of what might be found in a new world order.

Are we retreating from globalization?

Yes, and we have been. There is idealism, and there is reality. Who will write what checks to people in countries that are outside their domain? The reality is a lot of those people won’t be helped. How will people react? Over the last 500 years there’s been a lot of internal rivalries and wars. There’s no global legal system. Power is the currency. Dalio is a globalist in ideology; a dreamer that the best of the best can work together for the common good. But the reality is that we’re in a fragmented world. Can I depend on someone not taking advantage of me? No, you can’t. Within countries, nor between countries. China has been helping many parts of the world during this crisis, but to even acknowledge that is dangerous politically. The world is so fragmented, that it’s dangerous to say thank you.

How does capitalism need to be reformed?

Dalio is a capitalist through and through. But there comes a time when reform is necessary, and that’s when we see that the outcomes of the systems in place aren’t what we want, and understanding the system dynamics that lead to those outcomes. All throughout history, societal systems work for those who control it. The government and entrepreneurs have a symbiotic relationship, and help each other. The consequence trickles down to education; the top 40% spend 5X more on their children’s education, than those in the bottom 60%. It’s self-perpetuating. The solution is not to give money away, but find ways to expand productivity to those places where it’s low. This is even a psychologically important distinction—earning vs receiving.

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