Until Debt Tear Us Apart (or “How the Economy Works”)

Quite a few people may have seen this before, but I thought I’d highlight one of the best explainer videos on how the cycles of the economy work. The explainer video is by Ray Dalio who runs Bridgewater Associates, one of the most successful Hedge funds in recent years.

Even though it takes a broad brush to some topics (and will take 30mins of your time), it was well worth it for me. The content covers transactions, growth, debt, debt cycles and role of governments + central banks.

Most of what’s in the video likely isn’t really surprising to most people. However, the perspective which zooms out to explain the interactions between short and long term cycles is very helpful. Most of us only ever see the economy up-close in a very short time frame. Worse, most mainstream media is driven by the short term expediency of what’s up and down without considering why.

There are a couple of observations I’d add to the video:

  1. The rise and fall in asset values is a huge part of the economy because this is the collateral which underpins loans. These asset values are what made the “creation” of investment vehicles from low fidelity home loans in the united states so dangerous. Car loans are next.
  2. The interest paid on loans is somebody’s profit. This means that, although debt is valuable fuel for growth, it is also a means of gradual wealth transfer (typically from those with wealth or good credit from those who have poorer credit).
  3. The rise and fall of cycles aren’t entirely mechanical. It is based on confidence and the actions of individuals. This means it can be very hard to tell if a cycle is changing.
  4. As the video points out, the central bank printing money does not necessarily cause inflation (which would seem obvious). Instead, it is dollars spent which causes inflation, a figure which is often contracting quickly in a recession.
  5. The video doesn’t talk about the difference between income from assets and from employment or the distribution of asset ownership. Typically it’s the distribution of asset ownership which drives long term wealth distribution, not employment. When cycles end and crashes happen people who are over-extended in terms of debt often lose their assets for pennies on the dollar. If you have money, a bust is often as good as a boom.
  6. Not all productivity or other gains are reflected in GDP figures. Many products and services available today are vastly superior to those available 10 or 20 years ago and cost less. This means that pure dollar values don’t necessarily reflect today’s standard of living

Lastly, there is a larger point which the video doesn’t directly make which is that:

  • Don’t over-extend yourself in debt, otherwise you may loose assets when a crunch hits and credit dries up.
  • But, judicious use of credit when it is cheap likely makes a lot of sense if you are buying property, other assets, starting a business or something similar. Ride the escalator on the upswing.

The most disturbing thing about these economic cycles is the lack of knowledge media and political discourse display of them. The lack of open, honest debate about what is happening (rather than “interest rates are up, panic…”) means poor decisions are made and all but the few are in the dark about what is really happening.

For something more recent by Dalio, see excerpts from recent speeches here. The headline quotes:

‘Capitalism basically is not working for the majority of people’

Ray Dalio, Summit Conference November 2018


The President of the United States should declare the current wealth gap a national emergency.

Ray Dalio, Summit Conference November 2018

I’d say a lot of that is to do, not just with the cycles in the economy, but the way that they and other factors redistribute assets. Many people simply can’t escape the cycles in the economy because they don’t have the resources to survive the downturns. Then in the upswings it’s easy to over-extend, setting people up for the next crash.

The recent upswing in the economy has caused huge gains in the stock market. From its lowest point in 2009 ($756), the S&P500 has risen to $2,707 today. A gain of 2.5x in value. However, this only benefited you if you owned stocks. It’s estimated that 52% of American’s own some stock, but in most cases, the amount owned is very small (401k plans and similar vehicles). It is estimated that the top 20% of American’s by wealth own 92% of stocks. This makes the stock market a very poor indicator the general health of the economy.

[Footnote: Ray Dalio’s view is a simplified one and I’m not a trained economist, so there are no doubt gaps in the above content. Hopefully, it’s directionally useful though!]

Photo by Ehud Neuhaus on Unsplash. (And thank you to this image for the inspired title for the piece, the original title was a lot more boring!)

Also published on Medium.

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