Ray Dalio on the Economy, Pandemic, China's Rise: Full Interview

ray let me begin with this you've described the current environment in various ways as a non market economy as a political economy as a new paradigm tell us more about the new paradigm hmm well I I think there are three big forces that are at work that have not existed in our lifetimes before and they are a long-term debt cycle and we've reached the part of that cycle where interest rates are at zero monetary policy is a major driver what this looks like in a world where we're going to print a lot of money monetize debt and so on there are three stages really in monetary policy and the cycle that we are in the whole world cycle began in 1945 but that was the beginning of the new world water 1944 we established the dollar as the world's reserve currency it was connected to gold and then until 1971 that broke up and so there was an arc in which central banks have the capacity to produce demand by producing credit just sort of hit a button and poof and demand rises because credit comes out but when interest rates no longer are effective and hits zero as they did in 2008 you have we go to a monetary policy which I call monetary policy - which is the printing of money and the buying of financial assets and with that there was the implications of that lots of liquidity in the world bidding up asset prices and we had an environment which was very good for capitalism corporate tax cuts all of that cause asset prices to rise and then of course it also contributes to the wealth gap so this first influenced monetary policy which I hope we'll talk about the long-term debt cycle monetary policy is an overarching influence it's important to understand where we are in that cycle related to that cycle is also the wealth gap cycle periods of prosperity that occur after wars during periods of peace there are periods of peace because there's a dominant power that no one wants to fight and you have a prosperous period and during those periods there's a lot of development of credit a lot of also expansion of prosperity and so on technology development and that creates wealth gaps and those wealth gaps and then along with those wealth gaps values gaps and political gaps develop so our wealth gap is now the largest since the 1930s and the political gap is also a very large and so that influence is a giant influence so that's number two and there number three as the major influence is the rise of a great power to challenge the existing world leadership of the United States and these cycles have happened over periods of time that competition that Wars of various types trade wars and the like is another factor so those factors are in place and were in place before we had the corona virus the corona virus came along and is a knock-back and it has big financial implications but so I think those are the three factors and now when we look at monetary policy I'd like to get into what that means what the value of money is and how that affects the markets and the currencies that were now dealing with well perhaps I could could ask that question you this way I've heard you say ray that central banks control the capital market now what does that mean in an in the normal world at normal times the way the system works is central banks put money on deposit and banks come along and they borrow that money and lend it to those who they expect will pay back and that then passes through the credit system and then all financial assets compete with each other and it spreads out credit gets expanded and then there's the issue of pay back and then we have the cycles the money's too loose inflation rises central banks put money on the pause tighten money and it's slows down and we go through our cycles um that's no longer the case for the most part today the economy and the markets are driven by the central banks and the coordination with the central government what I mean by that is the purchases right now of financial assets by the Federal Reserve or the purchases by the Federal Reserve of government securities are the drivers of that market so the production of the money if you look at money and you look at who is in the market so the Federal Reserve for example we'll set an interest rate that for different types of creditors based on its economic objective in the old days let's say when we had the 2008 financial crisis we had we needed to protect banks because they were systemic ly important and then money market funds and and commercial paper in the light now it's much broader than that the whole economy is systemically important if they didn't go out and make lending to companies including what we call fallen angels those that were just above investment-grade and fell into investment-grade we would lose large parts of our economy and so we're in a situation now where the them they're the market makers take the market out take the central bank's out and you have a different story um including the value of money what is the value of money I mean think about it in Europe for example the central bank will lend to banks at a minus 1 percent so that means you don't have the interest payments in fact you have interest credits and the central banks will take that debt on they'll loan it and they have a political agenda not a economic agenda in which they'll determine whether they'll be paid back or when they want to be paid back based on how the economy is doing and what will happen so in that case like example in Europe and the similar situations in the United States and Japan and varying degrees they will make loans that will have interest credits almost or let's say zero you don't pay interest rate that and you may not have to pay principal back it depends on what the conditions are at the time so those are markets which are driven by central banks not only their actions but their desire to be an owner of those assets and their priorities about that ownership when they buy and when they sell are not the same as the classic free market allocations and as a result the capital markets are not free markets allocating resources in the traditional ways one of the questions investors are wrestling with Rea is how far central banks are willing to go in their effort to reflate financial assets to begin with and then of course they hope you know transmit something through to the real economy that would result in growth and jobs how far are central banks willing to go with this power they've they've discovered they have so banks are willing to go and the and need to go as far as it takes in order to keep the system afloat and because we're in the late this late stages where we have a lot of debt you are going to see central banks balance sheets explode they they they they have to because the choice is the sinking ship I've studied the Rises and decline of reserve currencies because I I think we're at a a key moment and I studied the rise in decline of the Dutch Guilder the rise and decline of the British Pound the rises and decline of currencies throughout history and the track record is a perfect track record when the time comes where it you're faced with political disruptions is there enough money there will be or not there will be enough money the question will be what the value of the money is and how far they can go what are the limits to that and so when we look at the limits we can discuss what the limits but the you know what are the market limits or how does that become manifest I can describe that but what's their willingness to go there willingness to go is enough to keep order which means acceptable economic conditions well before we get to limits and that is a very important part of the conversation let's stick to the intervening period which is what we're at the beginning of right now ray should investors stop worrying about things like p/e ratios to traditional asset valuations apply in a capital market that as you say is effectively being run by central banks yeah they don't apply I think what I think the important thing to understand is that there's a real economy and then there that has a supply demand of stuff there's a financial economy that has its applied demand of money and credit and that the price of an asset will equal the risk free return which you can see is something close to zero and a risk premium so when you're looking at a bond and let's say in the United States Treasury bond less than 1% or if you take a corporate bond a good quality corporate bond slightly more than 1% and you look at that or you go to other countries and it's essentially zero that is the return that investors are getting for the risk-free return and in terms of equities you have to ask yourself what will the premium be for equities and the central bank has the capacity to put money in the system and them and the money excuse me and the money and the money competes for getting returns and so if you ask yourself what could the risk premium be or what would the expected excess return for equities be over cash and they put they buy assets that number could go from 4% let's say to 2% the p/e is just the inverse of that so just by way of example you could make the p/e go from 20 or 25 times up to 40 or 50 times by the demand that may seem implausible that's just because people have sticker shot but it's it's no less implausible than the zero interest rates so the risk premium will be driven by the amount of liquidity put in and multiples are not shouldn't be used as in the traditional way of a frame of reference I think you have to understand that the capital markets drive the economy and the Pease and the risk premiums more than the real economy drives the capital markets so if that's the case so June is that what a lot we were money yeah what we're oh I'm sorry go ahead no that that's fine continue your thought right continue your thought um think of it this way you don't want cash because and and and and and and and I don't think you want bonds because you you get no interest rate you get a negative real rates so you get taxed at that negative real rate and then so from a holding point of view it's it's it's got no return and then the central banks go to print plenty more of it and produce its supply so there's a move to what is a store hold of wealth you know think about it you know like all of us what is a good store hold of wealth and if you look at history through times it's basically almost the reciprocal of the value of money and and we see that from financing you know when you think a company or an individual thinks I could borrow money at this level and I can lend it at that level or it could buy my stock back at that level you see that kind of movement and so you want through history sees that there are different store holds of wealth with that are basically almost the mirror image or the reciprocal of the value of money and so that store hold of wealth is equities in other words if you were to think about certain types of equities that are not let's say economically sensitive but if you just buy a company and and so on and you think it's the reciprocal of that and you think that the and you why's that they have to put liquidity in the system then it it's equities it's gold it's it is what is the thing that is the reciprocal of the value of money that you have to hold hold you know your wealth in and so that's what we're seeing and you see it if you've seen it through history at the you can go to the dates it's happened you know I mean March 1933 same thing on August 15 1971 Nixon the same thing to values you could see it when Mario Draghi in 2012 said we'll do whatever we it takes you produce liquidity and you produce money and that creates the bottoms in those markets because really you're dealing with the liquidity issue the same in 2008 in November of 2008 it was the the tarp plan and quantitative easing so through history I can take you back to the Dutch and so on that decision that they're going to print money and buy financial assets and lend money to the government which will also disperse money to the poor to those who need money and the companies that process has happened over and over and over again in history and it means that you know what do you hold during such things you hold reflation assets doesn't mean inflation assets what I mean is where there's inflation and goods and services let's put that aside for a moment but there's first the inflation in financial assets as those risk premiums have put are driven and that liquidity is put into the system and there's the competition through trying to get returns so let's talk then Rea about the limits of money printing how long can this continue before central banks do run in to the limits of their capacity to explode as you say the balance sheet and print money well the the limiting the limiting factor has to do with the demand for that money in debt in other words what debt is a bond is a promise to receive a lot of currency and so when it gives no good return or a bad return and there's a printing of a lot of currency clearly it's not desirable relative to other things for private investors however the central bank can buy a - and so the limit has to do with the limit of demand and that limit of demand has to do with the central bank's purchases of that because they could buy it and and hence there's no problem so you look at periods of time of where in history where was the most of it that has ever taken place and to try to define the limits and the war years was an example or I think the most analogous period we're in now was 1930 to 1945 I'll explain the various ways it was analogous but more importantly I'd like to deal with the question of the limits and so you first had the depression and in that depression and when you hit zero interest rates you had the printing of money and the buying of financial assets and then you had a lot of muck fiscal policy so programs that produce large deficits which then were monetized by more of that and then you went into the war years and the war years very similar to now in terms of the need for a lot of money and credit produced an enormous amount of money and credit but it was managed by the central bank in a way where they were de facto taking that on and it produced it it was a good example of testing the limits of that now we went into periods where you know what is an alternative source of wealth and as I say it could be stocks told it can be other assets um but that those became the the boundaries what would happen in terms of this limit is if something transpired where the dollar as a reserve currency the holders outside made another market that was a better market it could it could be gold it could be stocks but or it could be an alternative currency like let we're in the earlier session which I listened in to China as a reserve currency there will need to be an alternative assess when that happens and I think it will happen then it looks like a currency defense what I mean by currency defense is if money leaves that asset if those who are holding bonds don't want to hold the bonds because they have lousy returns in the printing a lot of money and they want to go to something else and that starts to accelerate should that happen then what that does is it as money leaves it puts the central bank in the position of having to decide whether it buys more bonds in order to fill in that gap or it lets interest rates rise well they can't let interest rates rise there's there's too much debt and then also interest rates rising means that the asset prices all go down and it's too vulnerable so like all currency defenses what it means is that they then have to accommodate that and the act of dominating that in and of itself is a big problem should that happen that would be that would be terrible for the United States with earlier I heard about the discussion of the privilege that's right the United States dollar is a tremendous privilege and we are certainly pushing the limits of that and if we were to think that the dollar was to be any other currency because of us pushing the limits if that were to happen it would be probably the you know the biggest disruptor not only to the markets but to the whole world geopolitical system so we're in a Fiat monetary system what I mean is through history throughout most history there was there was gold let's say 1944 we create the Bretton Woods system linked to gold the United States printed a lot of money and more claims on gold than there was gold and in 1971 which wasn't very long ago the we couldn't meet those claims on gold because we had too many IOUs so we had about a devaluation and the dollar as a world's monetary system or a currency is critical but it very much depends on the dollar of the United States competitiveness and so on so it's a longer-term risk as norio was pointing out in the earlier session one of the things that's been a prop for the dollar is the fact that there's a lot of dollar-denominated debt so what that means it creates a doll a demand for dollars that debt will either be satisfied in some fashion other because there'll be the dollars to produce it or that dollar will debt will be defaulted on and in one way or another week that's a whole other discussion we can get into if you want but at that point it'll reduce the limit the desire that the short squeeze for dollars which will serve to weaken the at the same time and also as we you know look longer term as the real was pointing out the squeeze the politicalization of it changes the nature of the capital flows because we are in a situation where you you can apps you can be squeezed and so when you start to think about it yes if you're china and you're owed you're holding a trillion dollars of Treasuries would you want to do that well particularly I mean given the returns given all that and given the conflict so this China piece is a portent piece I said today there's three things we're spending a lot of time discussing the monetary and debt cycle the second is the what I'll call the gap the wealth gap and the values gap cycle which and then the third is China so if we look at those things in combination I think that's the best way to look at the whole picture rate you've been fascinated and impressed by China for the past three decades you started to go to China in 1984 and I'm sure it would be hard to count the number of times you've been there and the number of friends you've made there as you well know increasingly the West's views China as the enemy do you think you'll ever as an American come to think of China as the enemy how should we understand the situation well I I think we tend to think of sort of like good guys bad guys rather than systems that are operating we have a system and they have a system and we're sharing the world and you know you can have an enemy it depends what you mean by the word enemy you can have somebody on the opposite side of the chessboard who was an enemy and you can approach that unemotionally that's the end party on the other side of the chessboard that's playing their hand the best way that they know and the United States has to play it sad the best way it's no no and so I I just look at it very sort of matter-of-factly in terms of what the systems are like and what the cultures are like to to affect that dynamic and so it's true throughout history you know there's greymouth and wrote the book for facility strap win which he referred to the fact that over the last 500 years have been sixteen times that there have been rising power challenging existing power and then twelve of those that got into shooting wars but there's certainly competitions that are in the world that we live in are not like inside competitions and according to rules they're brutal competitions in terms of playing the game and so we have whatever you want to call that relationship a relationship in which China is growing becoming powerful playing the game in the best way it knows how we have a different system we're playing the game the best way that we know how and my main issue is you know how well are we playing the game how well is the United States and in that world and then you go back to basics and the basics are things like education you know the quality of education over a period of time whether you are United in a common purpose when you have a highly fragmented world fragmented psychology fragmented economics everybody's got an opinion of what should be done but are we actually achieving those things and you have those kinds of problems I worry about that in terms of the competition but it's a it's a very impressive system and you know and they're they're very smart wise people with with great historical perspectives but they're on the other side of the chessboard in that game so that you know that's what it looks like to me right I want to thank you very much for joining us here at Bloomberg global asset owners forum kind of view to share all this time with us

Channel: Bloomberg Markets and Finance

Views: 1,125,301

Rating: 4.8222985 out of 5

Keywords: Bloomberg, front row, dalio, money, economy, recession, pandemic investing, china, covid, ray dalio

Id: 7WxfQ2zKXeA

Length: 29min 20sec (1760 seconds)

Published: Thu Jul 02 2020

Reddit Comments

[u/[deleted]]

Ray Dalio's book has really helped me change course. I am always happy to see him posted =D

[u/[deleted]]

Wow.

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He is basically saying Bitcoin will moon.

[u/TrickyKnight77]

Misleading. Here's what Ray Dalio really thinks about Bitcoin.