Summary of The Changing World Order by Ray Dalio

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  • Post last modified:February 2, 2024

Chapter 2: The Determinants

Countries are born, develop, and decay.

  • The Internal Order describes what happens inside countries.
  • The External Order describes what happens between countries.
  • The World Order describes…the world order.

The stages of the orders are determined by determinants.

By looking at the determinants of one country, we can understand where it stands in the orders.

There are 18 determinants.

The three most important determinants are:

  1. The Cycle of Debt and Capital market (the Long-Term Debt Cycle)
  2. The Internal Order Cycle
  3. The External Order Cycle

We can also add:

4. Pace of Innovation
5. Act of Nature (volcanoes, drought, flood)

These are the big 5 determinants. When they move in the same direction, everything else follows.

The rest of the determinants are:

6. Education
7. Cost competitiveness
8. Military Strength
9. Trade
10. Economic Output
11. Markets and Financial Center
12. Reserve Currency Status
13. Geology
14. Resource-Allocation Efficiency
15. Infrastructure and Investment
16. Character/civility/determination
17. Governance/Rule of Law
18. Gaps in Wealth, Opportunity, Values

These determinants can be classed in two ways:

  1. Inherited:
    1. Geography: the US is one country because of its geography. Europe, for the same reason, is several.
    2. Geology: having access to natural resources.
    3. Acts of Nature: pandemics, drought, etc.
    4. Genealogy: genes play partially in behavior, and the behavior plays in how a country performs.
  2. Human Capital:
    1. Self-interest: strong indicator of the will to survive, but depends on the scale: individual, familial, national, etc.
    2. The Drive to Keep and Gain Wealth and Power: those that earn at least as much as they spend are more likely to survive.
    3. Capital Markets
    4. The Ability to Learn from History: it’s useless to learn from your lifetime since history is mostly a cycle.
    5. The Big Multigenerational Psychological Cycle: generations do and act differently due to being born in different worlds. It starts with the first generation that is poor, think of themselves as poor. Then the next one is rich, but thinks of themselves as poor. Then we have the rich-rich. Then the rich-poor. Then the poor-poor again.
    6. Favoring Short-Term Gratification Over Long-Term Well-Being
    7. Human’s inventiveness
    8. Culture: It matters enormously
    9. Openness to Global Thinking: open-minded people fare better because they improve their methods.
    10. Leadership
    11. Wealth Gaps
    12. Value Gaps
    13. Class Struggle
    14. The Political Left/Right Cycle
    15. No Prisoner’s Dilemma: this dilemma states that since you don’t know if the other will attack you, you attack him first. In reality, the best is to always cooperate.
    16. Win-win VS lose-lose relationships
    17. The Balance of Power Cycle
    18. Military Strength and the Peace/War Cycle
  • While the inherited determinants are important, human determinants are far more important.
  • When humans produce more than they spend, they can be self-sufficient -> countries, people, and companies should aim at that for financial security.
  • Human capital is more important as it exists forever – resources don’t.

These determinants come together and influence cycles.

  • Cycles are constantly evolving.
  • Meritocratic (as opposed to “woke”) societies are the most successful in the long term because
    • 1. they put the best people in the best places.
    • 2. they have a diversity of perspectives.
    • 3. meritocracy is perceived as the fairest system, which fosters peace.

Chapter 3: The Big Cycle of Money, Credit, Debt, and Economic Activity

You can learn about short and long-term debt cycles by reading the summary of Ray Dalio’s video called How the Economic Machine Works.

Everyone wants wealth and power. The rise of wealth and power is heavily influenced by money and credit.

To understand how the system works, you need to understand money and credit.

  • All entities—people, companies, nonprofit organizations, and governments—deal with the same basic financial realities, and always have.

This is how it works: everyone has money coming in (revenue) and money going out (expenses).

Revenue – expenses = net income.

If your net income is positive, you have bigger savings. If it’s negative, you have to borrow money, or take it from your savings.

If you have a lot of assets, you can spend more than you earn and sell your assets to make up for the difference.

If you have more liabilities than debt, you’ll have to cut your expenses or restructure your debt.

Assets and liabilities are shown on the balance sheet.

If you look at everyone’s finances and link them to each other, you will see how the whole system works.

One’s spending is someone else’s income. As a result, if one decreases spending, someone else earns a lower salary.

By the same token, one’s debt is someone else’s asset. If one defaults on his debt, someone else’s net worth will decrease, hence, he will be forced to decrease spending too.

-> when spending is widely cut, there is economic contraction.

  • Debt eats equity.

The amount of debt is not capped but can be created infinitely by banks and the central bank. Everyone in the economy loves it when the state prints money as it enables them to spend more.

Asset value increases, so people feel richer. What they ignore is that at some point, the debt must be repaid – meaning that at some point, they will have to spend less money.

-> this explains how the economy is essentially cyclical.

But…what if the debt is not repaid?

Then, the interest rate is really low, so it hurts those who own cash and bonds, as it means they are not getting any return.

The situation we are in at the moment is one where:

  1. The expenses of governments are way bigger than their revenue.
  2. Their debts are way bigger than their assets.

While they are financially weak, they look rich because they’re spending so much.

These basic economics work for everyone, except countries that create money out of thin air – those with reserve currencies.

  • Debt eats equity…but central banks can avoid the debt crisis dynamic by printing money and giving it to borrowers so they can refund their debt.

Not all money from all governments is equal.

Money from reserve currencies is worth much more. At this moment, the USD is the main reserve currency, followed by the euro, then the British pound, the Chinese renminbi, and the Japanese Yen.

  • A reserve currency gives you enormous buying and spending power.

Because of this power, the country is going to borrow and spend much more than it should, and will eventually lose its reserve currency status.

If you are another country with debt in the reserve currency, then you’ll need that reserve currency to refund the debt (you won’t be able to print it). If you somehow don’t get it, you’ll go bankrupt.

What Is Money

Money is a medium of exchange that can also be used as a store of wealth.

Money and credit are often associated with wealth because they can buy wealth, but they’re not the same.

You can’t create more wealth by printing money. Wealth is created when you actually make stuff. You have to be productive and create things.

The relationship between money creation and wealth creation is often confused. One is the financial system. The other is the real economy, with real things.

image 16
On the right, the real economy that makes stuff. On the left, the financial economy that dictates who receives and enjoys the stuff that is made.

When the demand for goods is higher than the supply of goods, the price rises (it often happens due to too much money in the economy), this is the phenomenon of inflation. So the central bank raises interest rates to limit the volume of money and curb inflation.

When there is not enough demand for things, the central bank decreases interest rates to put more money in the economy and stimulate growth.

This is the short-term debt cycle.

The problem of the central bank is that it does not control where the money goes. If people use it to stuff, good! But if they use it to buy foreign currencies or stocks, it doesn’t stimulate the economy.

And it’s a problem. The excessive supply of money makes money lose its value; hence, prices rise.

Since there is little demand for goods, people that make the goods aren’t earning much money. Prices rise, salaries decrease. This is called inflationary depression. Cash is losing value, and no one is buying anything.

-> both the movement of goods and money need to be watched.

People also confuse the price and the value of things.

When the government prints money, prices go up because people are buying more. Two things need to be highlighted.

  1. They’re buying with debt, and the debt will have to be paid back (which will decrease the economic activity).
  2. The price is rising, but the intrinsic value does not change.

This game of printing money and then hiking interest rates due to inflation is called the short-term debt cycle, and it lasts eight years on average (understand: you’ll have an economic crisis every eight years).

The long-term debt cycle plays out for 50-75 years. They happen once in a lifetime, so people don’t pay attention to them – and always get surprised.

These tend to happen when the economy only grows by means of printing, which artificially inflates the value of assets. Holders of these assets want to sell, and the whole system collapses.

The 6 Stages of the Long-Term Debt Cycle

1. Little or no debt, money is “hard”.

After the restructuration of the last cycle, there is a return to hard money such as gold, silver, copper, or the money is linked to another currency.

Because the money is backed by something (linked to another currency, or backed by gold) or is that something, there is trust.

People use gold as means of exchange. Gold is valuable.

2. Claims on hard money

Carrying gold is annoying, so the gold is stored away and money (“paper money”) is issued. Now credit can also be created, this is the beginning of banks. The paper money is actually a claim on gold, but people forget that and soon treat the money as gold itself.

This system is called a linked-currency system.

image 19
The paper money is directly backed by gold. That means it can be exchanged for gold.

3. Debt increases

Those who have money lend it to the banks which lend it to other people at a higher interest rate to make a profit. The borrowers buy stuff with that money, which leads to the stimulation of the economy and increases asset value.

-> everyone likes debt!

Problems arise when:

  • Borrowers aren’t earning enough to refund debt
  • The volume of debt increases faster than the services and goods available in the economy for purchase.

When lenders realize that they may not be enough money in the bank because the bank lent too much of it, there is a “run”. Everyone tries to exchange the debt they hold for money.

4. The central bank prints money to remedy the debt crisis, default, and devaluation. This breaks the link between the currency and the “hard money”.

The central bank prints money to enable debt holders to exchange their debt against money and keep interest rates low.

The key is to create enough money to offset the devaluation, but not too much so that it creates inflation.

If the bank prints too much, then people will not be able to exchange their money for the hard money (gold) that backs the currency, or for goods and services in the economy.

5. Then comes fiat money

When the amount of money is too big for the amount of hard money due to an extensive borrowing cycle, then the government debased the currency which becomes “fiat currency”.

  • We shouldn’t rely on the government to protect us financially.
  • When one can manufacture money and credit and pass them out to everyone to make them happy, it is very hard to resist the temptation to do so.

Printing money devalues the value of the asset (debt). It’s a way to shift the wealth from those who have it (the lenders) to those who don’t (the borrowers), and it’s much more efficient than taxing (rich people don’t like getting taxed).

  • All currencies devalue or die, and when they do, cash and bonds (which are promises to receive currency) are devalued or wiped out.

Once the debt burden is eliminated, the whole credit/debt expansion begins again.

There are four levers that countries can use to decrease debt:

  1. Austerity -> deflationary + painful.
  2. Debt default and restructuring -> the borrower goes broke and has his assets seized, and the lender also loses his asset. Too painful.
  3. Transfer of wealth (taxes) -> politically challenging.
  4. Printing money -> the easiest, in appearance.

6. Flight back into hard money.

When the money printing scheme is taken too far, people fly away from cash (as it devalues fast) and debt (that will never be repaid, or repaid with cash worth nothing) to go into hard assets, like gold.

At this stage, there are great social-economic differences. The state tries to tax the rich who flee, so the state prevents them from doing so by establishing control of capital.

Devaluation and default have become so extreme that to reestablish trust, the government goes back to hard money.

The Long-Term Debt Cycle
The Long-Term Debt Cycle

I wrote an in-depth article about how money works if you want to know more.

Chapter 4: The Changing Value Of Money

Out of 750 currencies that have existed in 400 years, 80% disappeared due to being worthless.

Now, what do they devalue against?


The money is devalued to make it easier to repay debt.

When devaluation hurts the lender too much, the lender sells the debt and invests in another asset.

So, the best time to hold cash is at the very beginning, when cash is backed by gold and interest rates are quite high.

Once cash starts to get devalued against gold, then the link to gold is broken. Cash becomes a fiat currency, and holding it isn’t interesting (and so it goes for holding debt).

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