The Macro Masterpiece: Ray Dalio's Principles for Dealing with a Changing Global Order: Why Nations Succeed and Fail

• Learn about Ray Dalio’s Principles: We detail the hedge-fund legend’s insights from Principles for Dealing with the Changing World Order, focusing on how global powers rise and fall and what it means for investors in the 21st century.

• Dalio’s Big Cycle is outlined, setting the stage for how and why nations gain stature on the international stage but then lose power; investment opportunities turn to risk as the cycle progresses

• Key determinates that drive economic growth, stagnation, and decline are detailed, providing the “why” behind the Big Cycle.

• Investors must recognize the historical context of bull and bear markets, the rise and fall of societies, and how all of these factors apply to today’s macro picture.

• Unstable governments, out-of-control monetary policy, and soaring debt levels underscore the risks apparent across many developed economies right now, and these should affect your portfolio management decisions

Investing risks extend beyond quantitative measures like standard deviation, beta, and Sharpe ratios. Ray Dalio, founder of the world’s largest hedge fund, Bridgewater Associates, blueprints how today’s investors should go about managing not only portfolio risk, but also how important the rise and fall of global powers is to build and maintain long-term wealth.

The precepts Dalio details in Principles for Dealing with the Changing World Order: Why Nations Succeed and Fail are at the core of what we believe. Allio’s team of portfolio managers and analysts embark each day on a mission to push for transparency and empower individual investors to be informed. Our ethos is built on providing clients with the tools and insights they need to grow their wealth confidently. Consider this missive the overarching framework of our modus operandi. 

Investing in Light of the Big Cycle

So let’s dive in. It’s so easy to get caught up in the latest trends and lose sight of the big picture. Moreover, the mainstream financial media pushes a certain narrative that serves as a distraction from truisms that have guided markets over the centuries. Think of investing in light of the Big Cycle as a game – each of us is tasked with spotting patterns to figure out how the world works, determining principles that endure long cycles, and invest accordingly.

Dalio writes about the “Big Investing Cycle.” He bypasses the noise of the day and so many complicated nuances that get bantered about by so-called experts and academics. After 50 years of putting capital at risk daily, Dalio asserts that all markets are driven by four determinants: growth, inflation, risk premiums, and discount rates. We take that to heart in how we form portfolios for everyday investors. Our tools are designed to help people better track their investments and wealth. 

What is the Big Cycle?

Dalio’s theory of the Big Cycle explains the rise and fall of great world powers throughout history. The cycle typically spans several generations, running between 50-100 years with three phases: the rise, top, and decline. The big cycle is bookended by new world orders.

The rise phase is characterized by a country building or rebuilding itself with strong leadership and a collective desire to improve the quality of life of all classes. Innovation is embraced, education is prioritized, and optimal resource allocation occurs, improving the nation’s competitiveness. Financial markets develop and soon thrive with a society’s middle class boasting a determined work ethic and strong income growth with inflation held in check. Overall, the empire gains a larger share of world trade and becomes a macro powerhouse.

The top phase marks the peak of an empire. Its currency may evolve into the world’s reserve, but excessive confidence breeds hubris among its leaders. Debt accumulates, asset bubbles emerge, workers and companies turn less productive, and wealth gaps grow. The economy begins to lose its competitiveness, investments turn sour, and market crashes can transpire quickly.

The decline phase features accelerated economic and political downturns. Financial markets sink and fail to recover, the currency is dethroned from reserve-currency status, the country’s leaders are unable to manage short- and long-term challenges, monetary authorities’ hands are forced to print money, inflation often soars, and workers worry. Uneasiness turns to unrest, leading to internal conflicts and eventually civil war or a revolution. Soon, a new world order takes charge, and the big cycle starts over.

The Big Cycle

Source: Principles for Dealing with the Changing World Order: Why Nations Succeed and Fail (all charts courtesy of this book unless otherwise noted)

The Big Cycle in the 21st Century

What’s challenging today is that governments and central banks have muddied the macro waters. Their major influence in private markets can make cycles play out faster than before, and once the government grows too big in free enterprise, macro shifts can come about suddenly. For instance, trillions of stimulus dollars during and after the COVID-19 pandemic turned a somewhat deflationary economic system into one that is likely to battle above-average consumer price increases for decades to come. So, while nominal growth may be high, inflation reduces real growth. A positive correlation between stocks and bonds then adds to risk. Fixed-income investors demand a greater risk premium to compensate, resulting in higher discount rates. Finance 101 dictates that a higher discount rate will eventually result in lower asset values.

That’s just one instance of how growth, inflation, risk premiums, and discount rates interplay, but there are so many moving pieces to global macro investing. It’s helpful to take a cue from Dalio – he describes it as building blocks using the four determinants. Through the lens of growth, inflation, risk premiums, and discount rates, it’s possible to allocate to specific markets (i.e., countries and regions) with purpose. In this top-down method, you can then choose to over- or under-weight certain sectors and, with today’s vast universe of investment vehicles, even parts of the bond market using credit spreads as an x-factor.

The Building Blocks of a Well-Diversified Portfolio

Dalio calls out that most investors are too lazy to use historical analogs as guides for future price action. We must all embrace Shakespeare here, “Whereof what's past is prologue; what to come, in yours and my discharge.” It’s his competitive advantage at Bridgewater, and Allio’s mission is to bring that principle to everyday investors.

Look back just over the past 100 years, and it’s easy to think that stock market returns are strong for those who can just stay invested. US and UK equities have indeed been impressive, but they have been among the winners since the middle part of the 20th century. There’s a shockingly different data set when scanning global markets before 1945. In the 35 years before the end of World War II, almost all wealth was destroyed or confiscated in most countries; we don’t read as much about them due to survivorship bias. As part of the Big Cycle, capitalism can create winners and losers, sometimes ending with capitalists being executed during revolts. 

But before overthrows and murders, basic booms and busts were commonplace. The Second Industrial Revolution and the Gilded Age were followed by transition periods, which included rising internal conflicts and international tensions. Those tensions turned to tragedy in wars as a battle for supremacy on the global stage escalated. 

The 20th century can teach us a lot about how economies will change in the decades ahead, but a deeper inspection of the history of money yields an even better perspective. Beginning in Italy in 1350, “the alchemy of lending” came about following centuries of societies prohibiting extending credit with an interest rate charge. Rules for lending changed and new types of money fueled economies. Wealth became promises to pay rather than an account of one’s hard holdings. Financial worth was no longer constrained by a link to, say, gold and silver, but built on a system of trust, and those who could create new wealth and use it (bankers, entrepreneurs, and capitalists) became rich. The rich, in turn, wielded significant power. 

Power can be fleeting, however, particularly in an economic system built on credit. There are periods of stress when financial assets (and hence those at the top of the power stack) fall. Thus, understanding the factors impacting credit cycles is a must. When credit is created, an economy is stimulated in the near term, but it must eventually be repaid, so the longer-term effect is contractionary. Promises to repay are often broken during a crisis, and that’s when financial losses can turn into revolt and human tragedy.

The Big Cycle from the Investor’s Perspective

Investing in light of the Big Cycle is critical because you have to earn enough to meet your needs. The biggest investment risk of all is seeing your portfolio’s purchasing power diminish due to macro forces working against you. So often, individuals think risk equals standard deviation (or some other quantitative measure), but really it’s forces like inflation and taxes that chip wealth away all the time, leaving your net worth in jeopardy. 

Now, you might assume that taxes and inflation are things you have little control over. While that may be true, there are steps you can take (such as owning a global macro portfolio) that can temper your overall risk. Consider that among the 10 greatest powers at the start of the 20th century, seven of them endured periods of turmoil so bad that virtually all wealth was wiped out at least once. Even the three winners couldn’t escape decades of financial hellscape (like the US in the 1930s). World wars and governments’ inability to foster a conducive environment for risk-taking and trust resulted in periods of great wealth destruction. 

Even for an investor in a balanced portfolio of 60% stocks and 40% bonds, drawdowns were dramatic. Notice in the chart below that losses in this relatively conservative allocation reached 50% on several occasions across countries. While the last 40 years show softer max losses, it leaves most investors with a false sense of security as the Big Cycle progresses.

60/40 Losses Can Be Devastating

Keeping with this analysis of the 60/40 portfolio, digging into the single-country performance view reveals startling data. Even some of the world’s greatest powers at times over the past few centuries saw stock and bond market returns get destroyed. Russia, China, and Germany were each effectively marked to zero (either by government rule or hyperinflation) over the first half of the previous century. Go down the list, and you’ll find that some countries felt multiple periods of intense financial pain. Smaller nations, such as Belgium, Greece, New Zealand, Norway, Sweden, and Switzerland, didn’t escape hardship too. 

Crippling Drawdowns Are Actually Common Throughout History

Now, put yourself on the floor of a stock exchange within any of these countries at the start of the 20th century. There was reason for optimism following decades of relative tranquility around the world leading into the 1900s. There was great innovation and productivity growth, major world powers weren’t battling each other for the most part, and globalization was on the rise as countries traded around one another’s comparative advantage. Trouble brewed under the surface, though, as wealth gaps widened, and resentments rose amid burgeoning debt levels. 

Conditions turned more dire in the century’s first decade, eventually leading to material losses in markets such as Russia, Austria, Italy, France, and the UK. Angst among citizens became so intense that governments were compelled to act through means of wealth confiscation, exorbitant taxes, capital controls, and shutting down markets. It’s hard for Americans to envision such a punitive scenario, but this was just a century ago in developed markets. 

Even for US investors, markets were difficult to manage during the first half of the 20th century. Market timing proved perilous, and taxes were a drag. Indeed, some things never change, and among them are poor decisions by investors. Just as they do today, most people sell around market lows when they need the money or are simply frightened by volatility and buy close to market tops amid euphoria and when FOMO is at a fevered pitch. The result is a worse realized return for the everyday investor compared to what was available in the market. This behavior gap was apparent 100 years ago, and it’s alive and well today. 

Yes, most investors can be their own worst enemy, but (for us in the US) Uncle Sam is no friend either. Taxes eat away at returns, but this is not a missive on sage personal finance advice. Rather, it should make you consider what a government can do to its investor class when its debt climbs. A higher tax rate can turn paper gains from incredibly positive to paltry on an after-tax basis. This is a risk Allio sees in the decades ahead, and preparing for it today is critical. 

Taxes Eat Away at Total Returns

The Big Capital Markets Cycle

Dalio’s depiction of the big capital markets cycle begins with the upwave in which debt is increased, and financial wealth grows. Promises to pay are the lynchpins to economic prosperity. Eventually, the delicate balance is torn, and a “run-on-the-banks"-type of debt cascade emerges. Those in charge of monetary policy print money to ease system strains, such as debt defaults and plunging stock values. That, in turn, results in the devaluation of money and the destruction of real wealth. The cycle begins anew when the value of financial assets reverts to being low relative to tangible wealth. 

We don’t have to look abroad or go back to esoteric periods to see the cycle unfold. Since 1900, the US has experienced periods of terrific financial asset appreciation followed by a return to financial assets being valued modestly compared to tangible wealth. A pattern we find, and one that Dalio boldfaces, is that when there is a high amount of financial wealth relative to real wealth, there is a subsequent reversal. The government’s hand is forced to create money in an attempt to stimulate growth and monetize debt; it’s classic late-cycle behavior within the debt cycle. The currency usually devalues and turns cheap compared to other currencies. The ensuing period features poor inflation-adjusted returns, particularly for cash and bonds as debtholders since that’s the only way issuers of debt can be relieved. 

Once the opposite extreme in the currency’s value is reached, the trend ends, the cycle inflects, and a period of excellent real returns transpires. It’s also when peace and prosperity often prevail.

The Big Cycle: Financial Assets Rise and Fall Relative to Total Assets

The Big Cycle: Following Periods of Excess, Falling Real Returns Endure

This brings us to an actionable part of the Big Cycle for you as an investor. Hard money and hard assets, like gold, can help weather periods of financial chaos. When a currency is devalued and the monetization of debt happens, markets time and again have flocked to the stability of gold. Now, we are not suggesting that the yellow metal is an elixir (there are plenty of times when gold’s real return is dreadful over many years and decades), but the inverse relationship between the 60/40 portfolio and gold is remarkable. 

The chart below illustrates that when financial assets (stock and bonds) fall in value, gold often jumps. Maybe not right away, but macro turbulence and governments’ penchant for money printing are bullish gold right when investors need safety the most. 

Gold: The Safe-Haven Asset During Macro Distress

Gold is not the only asset that can help investors weather bear markets in stocks and bonds. Energy commodities, namely oil, can rise significantly when inflation is a top issue. Furthermore, geopolitical unrest and outbreaks of war are bullish catalysts for ‘black gold.’

Data from the European Central Bank (ECB) show that a 1% weakening in the US dollar causes oil prices to rise by 0.73%. There’s a causal relationship the other way, too, in that a 10% increase in the price of a barrel of oil leads to a depreciation of the dollar’s exchange rate by 0.28%. While this research was conducted many years ago (when the US was less of a global energy-producing powerhouse), the notion that a sort of commodity-currency price spiral can unfold should make investors who are all-in on stocks and bonds nervous.

We saw in the mid-2000s when inflation began to become of concern that oil and gold prices could shoot higher with few corrections to allow new investors in. Back then, the US Dollar Index was on the descent and the US Federal Reserve was forced to raise interest rates, eventually bringing the country’s housing market to its knees. A financial crisis ensued in 2008, only months after WTI crude oil hit a record high just shy of $150 per barrel. 

2000-2008: WTI Crude Oil’s Rise and the US Dollar Index’s Fall 

Source: Stockcharts.com

Then more recently, the Russia-Ukraine conflict was a positive oil shock that was associated with a surge in global inflation. Once again, monetary policy authorities had no choice but to hike interest rates during an already fragile macroeconomic backdrop. Europe, which was targeted by Putin, saw the value of the euro currency fall, ultimately hitting parity with the US dollar. Other so-called soft commodities and agricultural products exhibited enormous rallies in the wake of Putin’s invasion of Ukraine as well. Wheat, grains, and corn all spiked when Europe’s breadbasket was threatened. This came on the heels of supply-constrained commodities markets immediately after the worst of the COVID-19 pandemic. 

2022: Euro Currency Falls while Brent Crude Oil, Wheat Surge After Russia’s Invasion of Ukraine

Source: Stockcharts.com

Go back a decade, and the Arab Awakening was another bullish catalyst for oil and a bearish spark for stocks. In the spring of 2011, an uprising across the Middle East drove geopolitical uncertainty and a steep rally in WTI and Brent crude oil. A 5% oil price jump occurred immediately when fears that traffic through Egypt’s Suez Canal could be curtailed. Concerns of further escalations led to volatility in the global stock market in the second quarter of that year. 

So, when analyzing recent historical geopolitical macroeconomic events, Allio’s conclusions from scouring hundreds of years of financial data and asset-price relationships hold water. What’s too commonly lost in the shuffle of meteoric oil price jumps and negative impacts on stocks and bonds are currency swings. When questions arise about the long-term health of a nation’s currency, volatility can increase in short order. Dalio underscores that one of the biggest questions you as an investor must address is whether the amount of interest that’s paid more than makes up for the devaluation risk faced.

Dalio underscores that financial money and paper wealth are valuable only to the extent that they help you acquire real money and real wealth. During the rising phase, the levels of financial money and financial wealth increase compared with real money and claims on real assets. The availability of capital and credit fosters prosperity, giving people the illusion of wealth when they see higher numbers on their investment statements. During this rising phase, financial assets go up and interest rates decline. Risk premiums and expected future returns fall, and the more claims there are on financial assets, the more risk is in the system. 

Now, when systemic risk increases, market interest rates should increase in sympathy. That doesn’t happen during the rising phase, however, since economic conditions look and feel good in the moment. Additionally, memories of toxic debt and capital markets crises have faded during this stage of the cycle. In many instances, a majority of market participants were not even alive during the previous market calamity. 

You should now see how macroeconomic conditions during the rising phase lay the foundation for heightened risk of peril. Dalio ends his inspection of this part of the cycle with a look at interest rates. The upshot is that he spotted risk signs from just how much real interest rates had plunged in recent years, though there were even lower levels in the 1930-45 and 1915-20 great monetization periods. 

Real & Nominal Rates Plunge Following the 2010s Central Bank Bond Buying

Nominal rates near 0% and significantly negative inflation-adjusted yields destroy one of the most basic investing principles: to have money in a storehold of wealth that grows in buying power over cycles. Back in 2021, $100 invested in developed-market long-term bonds would have taken multiple generations to earn a real return. For some countries, protracted negative real interest rates corrupted the storehold of value principle so badly that it was impossible to net a positive real return in government bonds.

As a result, nominal payback periods were extended compared with historical norms, while real payback periods were ridiculous, as Dalio put it. 

Fixed-Income Payback Periods Went Parabolic From the mid-2000s to 2021

The rest was history. 2022 was a modest reset in global markets with stocks going through a tough bear market. Bonds suffered, too. The global 60/40 portfolio produced one of its worst 1-year returns in history outside of the Great Financial Crisis and the US bond market notched its worst annual performance on record. Calls for the death of the 60/40 were loud by the fall of 2022. The euro currency continued its fall, and had it not been for the AI revolution that was born late that year, another leg lower may have transpired. 

As it stands, the US is far from out of the woods. By 2024, the government’s annual interest expense had topped the cost of funding defense, and the Fed's fight against inflation continues. 

To wrap up this section, Dalio’s Big Cycle reveals that trends that shaped the 20th century are not unique. They have played out repeatedly from one great world power to another over many periods. The point is to invest with protections in place as the next great cycle turn is very difficult to identify – even for Ray Dalio.

Take control of your investments—access Allio Capital’s Macro Dashboard for real-time insights and data-driven strategies to stay ahead in today’s markets.

The Determinants

Students of markets and history writ large understand that while specific global factors vary, human behavior is a constant. Viewing today’s macro investing landscape through that lens is thus a useful exercise when putting capital at risk. Quantifying and programming historical relationships, trends, and cycles is how Dalio goes about it. Understanding what caused the Roman, Greek, Egyptian, Byzantine, Mongol, and Persian empires (among others) to rise and fall helps us determine future winners and losers today. 

All peoples throughout history have had “internal orders” - a sort of self-governance system. “External orders” are between-country systems, while interactions among countries are “world orders.” Each order set determines who has what level of power and how decisions are made. While the US stands atop the mountain today, history reveals that the system is ever-changing. Driving changes are key determinants. Everything that has happened and will happen has drivers that make them happen, as Dalio says. Spotting those determinants now helps prepare for the next leg of the Big Cycle, thereby protecting against risk in financial markets.

Most people frankly don’t go about portfolio management this way. They believe that the world’s future is unknowable and that investing based on who might rise to power next is a fool’s errand. But, as mentioned above, human behavior doesn’t change – when a nation reaches prosperity, it takes on more debt, engages in riskier behavior, and eventually cedes power to the next rising force.

Dalio writes of three big cycles: 1) the cycle of good and bad finances, 2) the cycle of internal order and disorder, and 3) the cycle of external order and disorder. From here, it’s sort of like a high-stakes game of slotting each country today into each of the three big cycles; when a country simultaneously has all three in the good phase, then that nation is strong and rising. Conversely, when a country is in the three bad phases, they are weak and declining. It’s also important to call out that technology and the threat of natural disasters are two more determinants, making the “Big Five.” Geography, rule of law, and infrastructure matter too. 

The Determinants

Short of summarizing the entire text, let’s focus on the eight key measures of power and how globalization has impacted these. From there, we’ll center on how the US has shifted politically left, leading to weakening cultural and governmental circumstances, which potentially undermines our power on the international stage.

Eight Key Measures of Power

While Dalio’s book spans centuries, we’re going to home in on the US today. Think of this as a case study, an application of Dalio’s principles. This is what we do day in and day out at Allio to craft portfolios and manage risk. Connecting the macro dots leads to better allocation decisions and potentially improved risk-adjusted returns for long-term investors.

Here are the eight key measures of power, outlined by Dalio, with our analysis of where the US fits in today after decades of globalization:

1. Education

The US education system is broken. It’s perhaps the most over-funded and least efficient area of the federal government. States and municipalities are better at handling the school system, but the billions of dollars that have been dumped into the federal Department of Education have failed students and parents for decades. We see wealthier families opting for private schools or homeschooling while children subjected to corrupted public schools are disadvantaged. From a global level, our K-12 system is below average despite the US being the world’s financial powerhouse. The country’s college system remains flocked to, but the left has a near-stranglehold of curricula and administrative control which threaten the nation’s long-term power.

2. Innovation & Technology

The US drives global innovation. We rank exceptionally high on this measure of power. The most valuable tech companies are domiciled within our borders. Silicon Valley is the center of the tech world, though California’s tax policy and other legislative actions lately have caused companies to relocate to more business-friendly states like Texas. While some tech CEOs adopt a pro-globalization stance, one that is in line with the World Economic Forum’s (WEF), others, such as Elon Musk, seem to grasp the notion that the US must stand on its own and take advantage of our technological might.

3. Cost Competitiveness

Globalization has weakened the US when it comes to cost competitiveness. It’s difficult for domestic companies to compete with cheap labor in less developed countries. That’s not necessarily a bad thing, though, as US workers demand higher wages. Recent inflation only makes expense-control all the more challenging for businesses today, particularly smaller firms which are the engines of job growth within our borders. Compared to Europe, however, the US is strong when it comes to energy independence. Energy companies are pumping out more oil than ever thanks to technology and price signals here while Europe remains partly dependent on Russia for its needs.

4. Military Strength

There’s no doubt that the US ranks strong in its military capabilities. Fourteen percent of annual spending ($179 billion) goes to national defense, so there’s good reason we are not to be messed with. Globalization has resulted in the US footing too many overseas bills, however, and we have become a piggybank of sorts for less powerful countries. The WEF has bullied the US into taking undue financial responsibility for many global tragedies, but external forces are not solely to blame. Many US politicians take apologetic stances and willingly aid other nations who may not hold the same values and political positions as us. 

5. Trade

Globalization’s negative impact is seen perhaps most starkly with trade. The US now has record annual trade deficits which threatens our long-term financial and political power. The private sector has done its part to promote security – we are a leading energy producer, the best technological innovations happen here, and the American consumer seems to drive global GDP growth. High consumption has a cost, however. The US is forced to borrow from countries with excess savings, like China. Moreover, global economic shifts, such as the breakdown of the Bretton Woods system, led the US dollar to become the world’s reserve currency, thereby enabling the government to issue large amounts of dollars and Treasury securities. 

The decline in US manufacturing is another negative impact on trade while decades of allowing China and other countries to take advantage of the US economically has hurt our position. NAFTA, TPP, and other ham-handed international agreements worked to the detriment of the US, but President Trump has worked to remove us from those trade deals or rework them.

6. Economic Output

Despite the negative impacts of globalization, the US remains the world’s biggest and most influential economic player. Though our manufacturing superiority is gone, capitalism fuels technological innovation. China and India, though they are much larger in terms of population, are less productive and lack many structural advantages compared with the US. Consumption fuels our economy, but the government still holds too large of a presence, often crowding out private-sector activities. Investments into business and real estate ebb and flow with the economic cycle, but those areas generally contribute to the expanding economy and our firm power among nations. 

7. Markets and Financial Centers

Globalization has impacted our financial markets. There was a time when young companies wished to list overseas, but we have recently seen non-US firms choosing the NYSE or Nasdaq to list when going public. Still, regulatory hurdles are many, and the IPO process is riddled with red tape, incentivizing smaller companies to remain private today. China’s crackdown on its financial markets has weighed on growth in emerging markets, but we’ve seen lately in Argentina how the principles of free-market capitalism can turn a once-depleted economy into one that is rising through the global ranks. 

8. Reserve Currency Status

The US dollar remains the world’s reserve currency, but its share of global FX reserves has declined from more than 70% in the early 2000s to less than 60% today. Certainly, high nominal economic growth in emerging markets has reduced the dollar’s foothold in international trade, but central banks around the world have also diversified their currency holdings. China’s growth in the 2000s led to its currency rising, but it has given back ground amid the world’s second-largest economy’s weak demographic trends and restrictive government policies. De-dollarization has played a critical role in the greenback’s gradual decline, and the elephant in the room today is the US’s soaring national debt. Financing foreign wars and burgeoning domestic entitlement programs cast dark clouds on the country’s fiscal future and, hence, the US dollar. 

Dollar Remains Strong, But Losing Ground in the 21st Century

Source: Bloomberg

To sum this section up, globalization has broadly worked against the US across the eight categories. The positive countervailing force is our capitalist private-sector culture. While other countries embrace leftist ideas, American society is centered on always wanting a little bit more. Though the cost of living, taxes, and a corrupted federal government work against families, entrepreneurs, and overall free-market progress, the US remains atop the global stack today. The problem is the future. Liberal ideology and an enduring shift left work to undermine our economic success and future power.

Looking Ahead: Dynamics to Pay Attention To

With an eye on the decades to come, Dalio lists 14 indicators that portend where a country is positioned and what’s likely to happen next. 

Self-Interest

It used to be that the US prided itself on our self-interest working for the greater good. Call it the invisible-hand idea – the cycle of working to get ahead, when aggregated across society, promoted broad economic prosperity. That notion has been called into question, and in some areas, it has gone from a virtue to a social offense. The substantial shift left as it pertains to self-interest has worsened cultural divides – blue states centering more on social welfare and red states fostering individualism. 

Desire to Gain Wealth and Power, Learning from History, Time Frame of Decision Making, Multigenerational Cycle

The result is less desire to gain wealth and louder demands for the federal government to offer a wider array of services. There are still plenty of risk-takers, though, but the general trend seems to favor government support rather than capitalistic endeavors. Moving further down the above list, we must learn from history – not only our own, but also from cautionary tales of other once-dominant nations that succumbed to Pollyanna leftist ideas. The rise and fall of major global players are sometimes dictated by what Dalio refers to as a five-stage multigenerational psychological cycle in which citizens are: 

1. Poor and think of themselves as poor: People work hard, save money, and have little debt. These are "early-stage emerging” countries.

2. Rich but still think of themselves as poor: People remain cautious, invest in productivity, and experience rapid growth. These are "late-stage emerging" countries.

3. Rich and think of themselves as rich: They have high living standards, shift to luxury spending, and often become world powers. These are at "peak health" countries.

4. Poorer but still think of themselves as rich: Here, debt increases, productivity slows, and military spending often rises. These are "early declining" countries.

5. Poor and think of themselves as poor again: Reality sets in after bubbles burst, debts grow, and global influence declines. These are "clearly declined" countries.

Leadership

Naturally, the stronger a country’s capitalistic system is, the better it is suited to think and position itself for the long run. That outlook depends on its private sector and government leadership. President Trump seems to take a longer view compared to his predecessors who sought to appease foreign leaders, but all it takes is a slight left shift every four years to undue progress in that dynamic. 

Openness to Global Thinking

When it comes to openness to global thinking, there is nuance. Liberal politicians might interpret that dynamic as an opportunity to further degrade the US’s financial power by funding foreign endeavors and those promoted by outfits like the WEF. Pragmatists interpret global thinking as a game of chess – taking strategic stances to maintain and build power. The Chinese are great at learning from history (they have a longer one than us) and patiently positioning themselves while other nations focus on the short term. For investors worried about financial markets today, the business cycle will reflect short-termism, including booms and busts. It’s critical to monitor how politicians respond to such noise – large-scale stimulus programs are often the reaction, but the long-term trade-off is less stability and weakness compared with other long-sighted countries.

Culture

Moving down the list of dynamics, culture commonly determines how the world order is reshaped. The old saying goes, “Culture is destiny.” Ways of life are based on a nation’s perception of reality, and historical thinkers, philosophers, and politicians broadly underpin a society’s values. Religion (and the decline thereof) influences virtues, but business and government increasingly dictate how productive or unproductive a country is and can become. Those who uphold and embrace freedom and capitalism stand to rise in prominence.

Class Relationships

That brings us to class relationships. All countries go through struggles at times, and power is often shared among three or four classes who in aggregate comprise just a fraction of the population. It’s this cohort of the powerful that form alliances and make enemies. During good times, there is general harmony among classes, but infighting grows when division becomes starker among religious groups, the political right and left, rich and poor, urban and rural, among other differences. Class warfare has significant effects on the internal order; the more divisive class relationships are, the weaker the country.

Political Left/Right

Delving deeper, the political left and right is a battle most readers are likely familiar with. A moderate delineation fosters greater country strength while sharp partisanship is a clear negative. The big cycle in capital markets drives political trends, including how far to the left or right liberals and conservatives venture. Ironically, during a boom, wealth gaps grow, leading to rising social unrest. Dalio notes that a cycle is roughly 10 years, which is about right in American politics. Revolutions (which mark the end of the Big Cycle) are much less frequent.

Prisoner’s Dilemma

Helping to promote general welfare among classes is cooperation in all policy actions. The prisoner’s dilemma asserts that even when the best thing for two parties to do is conspire together, the logical action at the individual level is to kill the other person first. Mutual understanding at the country level, namely concerning avoiding wars, keeps a nation in power. Exchanging benefits and harnessing competitive and comparative advantages in trade creates interdependence, reducing the risk of conflict. It’s a balancing act, though, and geopolitical and macro black swans can quickly break alliances.

Relationships

Within this exchange, both parties determine the outcome. As a result of a turn left in American politics and culture in recent decades, there’s a more combative interplay between culture and policy. No longer is there a win-win relationship at the federal level – and that jeopardizes US strength. Democrats and Republicans working together to limit governmental influence on the private sector is a win-win in that prosperity is gained, inflation is held in check, and growth can endure. Politicians choosing winners and losers creates a more tenuous situation and more lose-lose propositions.

Balance of Power, Peace/War

Ultimately, the peace/war cycle and the balance of power dynamic is fractal – it’s apparent over the short term and throughout centuries. Additionally, this interplay exists among individual power wielders and entire countries. Dalio describes how it works in Western nations, as much like a game of chess. In Asian societies, it’s played more like Go. The objective is the same: to dominate the other side. Regardless, military might and strategic acumen are usually the ultimate arbiters of the big game. Peace through strength is the most bullish situation while war can make even the most revered global figure vulnerable to a fall. 

For the US today, the left’s control over the media and academia drives societal divide, threatening so many of the dynamics listed above. But so long as human inventiveness and innovation thrive within our borders, the US stands a chance to remain the dominant force in global markets.

China, the 6 States of an Empire & Resulting Increasing US Internal Divisions

Tensions between the US and China rose leading up to President Trump’s first term. Even once President Biden took office in 2021, there was angst between the world’s two biggest economies. Trade wars have been heated, and tariffs have been used by both presidents to help level the playing field. China’s re-emergence on the global stage did not happen overnight, of course. The Big Cycle rise of China and the Renminbi has transpired over decades. History shows that the typical dynastic cycle may last 250 years, give or take 150 years, per Dalio’s research. Thus, the US needs to remain focused on how China’s economy and society evolve, lest we lose further ground.

So let’s dig into the cycle of how a world power gains prominence via a new order. The typical cycle begins with strong leaders who win political power and then control the country’s people and economy. That’s the first step to building a durable empire. It may take years or decades (and conflict) to win the people’s approval. Once united, peace and relative prosperity ensue. That is all part of Stage 1.

The new ruler or ruling party then seeks to build up its strength. That requires cooperation among the people and minimal class warfare. Referring to the Dynamics to Pay Attention To, you’ll see several of the green boxes being checked as an empire ascends. A rising power also needs money – an internal economic growth engine fueled by productive workers and a sound educational system ultimately becomes a self-financing mechanism. It’s crucial that the vocational lattice allocates the right people to the right jobs via meritocracy. Chinese dynasties have historically implemented effective educational reforms and imperial exams to put workers in the right industries. Other factors or production and resources must be allocated properly too. That’s Stage 2.

Stage 3 is less about laying a foundation and more about feeding growth that has already been set in motion. The economy is strong and self-sustaining. The country’s people are prosperous, perhaps with a burgeoning middle class. There are significant achievements not only in the business world, but also in academia, the arts, architecture, and other facets of what makes a society great. Stage 3 also brings about military strength and the ability of the nation to protect itself from global threats.

Stage 4 begins the decline of an empire. The forces that bred innovation, creativity, and growth fade and a rival power emerges. The government’s leadership may become corrupted, brash, and overconfident. Debt snowballs, and its central bank or monetary policy authority is forced to default or print money; the latter is almost always the chosen route. As a result, the currency devalues, resulting in a less stable economic system. When money is worth less, people grow worried, and anxiety breeds angst, leading to fragmentation within society. The wealth gap grows, undermining productivity, and eventually causes political conflict. The dynasty is then much more susceptible to an external shock like a natural disaster. Stages 5 and 6 are hallmarked by bloodshed and civil war with a new leader taking charge, and the cycle begins anew.

Dalio details how the 6 stages have unfolded in China over the centuries. Its history provides the needed context since US history is relatively limited to just 250 years. 

For us today, it boils down to three key elements: an internal divide, increasing debt, and declines in innovation and education. Decades of outsourcing production and being drawn into the supposed allure of globalization have worked against American workers and households. Let’s explore that further before we conclude

1. Internal Divide

Outsourcing production has caused divisions within the US have only grown as China has risen to power over recent decades. Though its economic growth has declined compared to the US just in the last few years (mainly post-pandemic), the threat remains significant. The divide is not just along partisan political lines, either, but also between the public and business leaders and academics. It’s clear that most workers see China as a threat, but many individuals and groups who hold power in society are more supportive of engaging with China. 

Republicans, led by President Trump, take a firm stance against China. Seeing that the public broadly sides with the GOP, some Democrats have adopted a somewhat hawkish stance too. Still, the left favors cooperation and even, at times, concessions with China in hopes of improving the relationship. That’s a dangerous endeavor that puts the US economy at risk.

The economic implications of this internal divide result in policies that can switch from viewing China as a threat to a complicated friend. That impacts national security actions and distorts relationships with other foreign allies and adversaries.

2. Increasing Debt

Outsourcing production has also negatively affected the financial position of the US. Our debt has soared, shooting through $30 trillion and fast approaching the $40 trillion mark. Compounding the problem are calls for the government to fix a problem that the government created. The solution lies in the private sector and returning factors of production to within our borders. 

The debt burden is now so great that interest expense on the national debt has eclipsed annual spending on defense. As outlined earlier in the 6 stages of an empire, the Fed will probably be forced to print money in response to the government’s weakening financial situation. A Treasury default would send shockwaves through the global economy. While it might seem distant today, a macro black swan could quickly escalate today’s fiscal and monetary issues. Stage 4 highlights that such external events, like a natural disaster, exacerbate a country’s problems.

The US’s high debt levels compared with China threaten our future relative standing. The more fiscally constrained we become, the less we can invest in crucial areas like infrastructure, education, and innovation. 

3. Declines in Innovation & Education

Going further on that point, without a sharp course correction, it will be challenging for the US to maintain technological and educational superiority over China. This is another area where outsourcing production has worked to the US’s long-term disadvantage. Working in our favor at the moment are: 1) leadership under President Trump, and 2) China’s unfriendly internal policies, led by President Xi Jinping. The macro chessboard could look quite different later this decade, however. On the tech and consumer side, we see hostility between the two nations when it comes to companies like TikTok and PDD Holdings (the parent company of Temu). 

As for education, China has a long history of promoting effective educational reforms. We wrote earlier of its meritocracy-based system that breeds workers for future industrial trends. In the US, the Department of Education has failed students and parents. Our classrooms’ rankings among other developed economies are too low. 

The next great race between the US and China may be on the artificial intelligence and quantum computing fronts. The semiconductor industry is in the crosshairs of this technological battle, and both countries are investing heavily in it. The winner will be particularly important for future economic and military superiority.

1971: The Macro Turning Point

The final section of the Allio Macro Masterpiece zooms in on what might have been the ultimate inflection for the US. In 1971, the US finally abandoned the gold standard. A series of 20th-century events resulted in the dollar turning into a fiat currency, with each step coming as a governmental response to fiscal problems. 

The Federal Reserve was born in December of 1913, which sought to better control the monetary system. Almost concurrent with the Fed’s creation was the 16th Amendment (ratified on February 3, 1913), granting Congress the power to issue an income tax without having to determine it based on population. Together, these actions laid the foundation for the government to have more wiggle room in how it conducted both fiscal and monetary policy.

The Emergency Banking Act of 1933 sought to stabilize the banking system during the Great Depression. In an attempt to thwart bank runs, President Roosevelt formally suspended the gold standard, prohibiting gold exports and the conversion of currency into gold coins.

The macro turning point came in 1971. Less than three decades after a modified gold standard was implemented after World War II via the Bretton Woods System, the Nixon administration ditched the gold standard. In the preceding years, the US faced economic pressures, including high inflation and a growing balance of payment deficit. Faced with fears of the US depleting its gold reserves and being unable to maintain the dollar’s convertibility to gold, the “Nixon Shock” occurred. It was announced that the dollar would no longer be convertible into gold. The stroke of a pen effectively ended the US gold standard and the adoption of a fiat money system.

In the years and decades that followed, real wages for US workers fell and the country lost ground to other nations. The 1970s through the early 80s were marked by protracted recessions, bear markets, and crippling inflation. A free-market rebirth, led by President Reagan, helped the US regain its might, but today’s economic foundation, built on the fiat dollar, is less stable.

The Bottom Line

Ray Dalio’s Principles for Dealing with the Changing World Order provides a blueprint for how nations rise and fall. The global economy is constantly shifting, with powers jostling for the leading position. The US has enjoyed major stock market growth, but it has come with unstable monetary and fiscal policy. All the while, China has gone through its own stages of growth and decline. The future will look much different than the past, and today’s investors need a global macro portfolio that can adapt to these changes.