Welcome to Lession 2, where we zoom out and look at long-term cycles. In the video, Ray Dalio shares his "Principles for Dealing with the Changing World Order," which offers a compelling historical analysis of the past 500 years.
Dalio points out that history is not a linear progression but rather a series of repeating patterns. The only things that really change are the names of the people, their culture, and the technology used.
By understanding these patterns, we can better anticipate the future and navigate the complexities of our current world.
Below, this article is a summary of the video above, which includes all of the key insights and Dalio’s framework.
History Repeats Itself
Events that seem surprising are often not novel but rather repetitions of patterns from the past. By examining the Dutch, British, and US empires, as well as Chinese dynasties, we can spot a recurring "big cycle" that characterizes the trajectory of these powers.
This cycle involves a succession of stages, from the establishment of a new order to its eventual decline, which provides a framework for understanding the present and anticipating the future.
The Cyles of Empire
The "Big Cycle" outlines the typical phases of an empire's rise and decline. This cycle can be divided into three main phases:
The Rise: This phase begins after a major conflict establishes a new leading power.
Insightful Leadership: The new order is characterized by strong leadership, the establishment of effective systems and institutions, and a focus on education and innovation. These leaders often bring a new way of seeing the world and solving its problems and are capable enough to execute on their vision.
Competative: The country becomes more competitive in global markets and develops a strong military and financial center.
Demographics: They tend to have a large young population looking for opportunity and work.
Economic Power: The country's currency eventually becomes the world's reserve currency, giving it a significant advantage.
Growth: This period is marked by economic growth and prosperity.
The Top: During this phase, the empire sustains its strengths, but the seeds of its decline begin to germinate.
Increased Costs: As the country grows richer, it becomes more expensive and less competitive.
Demographics: As people move to city centers, their costs rise, and they have fewer kids.
Complacency: When life is easy, people tend to become complacent and less focused on hard work.
Bubbles: Financial bubbles develop, and wealth gaps widen.
Diminishing Returns: The cost of maintaining infrastructure and rebuilding exceeds the value it produces, which means that in the long term, the cost of maintaining the empire begins to exceed its revenues.
The Decline: This phase is marked by internal economic weakness, the bursting of financial bubbles, and the printing of money, leading to currency devaluation and inflation.
Internal Economic Weakness: The video explicitly states that decline comes from "internal economic weakness together with internal fighting or costly external fighting or both. This includes the bursting of financial bubbles, which leads to the printing of money
Internal Conflicts: The conflict between the rich and poor escalates, leading to political instability.
Currency Devaluation and Inflation: As the video describes, when a country prints a lot of new money, "that devalues the currency and raises inflation
Political Instability: Political extremism shows up as populism of the left or the right. Democracy is most challenged, and there is a move to a strong populist leader who will bring order to the chaos.
Foreign Investors Pulling Money Out: When the empire begins to run out of new lenders, those holding their currency begin to look to sell and get out rather than to buy, save, lend, and get in, and the strength of the empire begins to decline
Increase in Corruption & Poor Leadership
External Rivals Challenge the Weakened Empire: Internal conflict makes the empire weak and vulnerable to rising external rivals. This often leads to a great international conflict with the rising power.
Loss of Reserve Currency Status: When debts and currency holders lose faith and sell, that marks the end of its big cycle.
Eventually, the empire's currency loses its reserve status, marking the end of the cycle.
Key Concepts
Several key concepts are central to Dalio's analysis:
Reserve Currency: A currency widely accepted globally, used for international transactions and savings, granting the issuing country significant borrowing advantages.
Internal Order: The governing system within a country, often laid out in a constitution.
World Order: The governing system between countries, typically established through treaties.
Financial Bubble: Unsustainable rise in asset prices due to excessive borrowing and speculation.
Wealth Gap: Unequal distribution of wealth that can lead to social and political conflict.
Internal Conflict: Conflict within a country, often resulting from wealth gaps and political polarization.
External Conflict: Conflicts between countries, often driven by competition for power and resources.
Debt and Money Printing: Governmental practice of printing money to deal with debts, which often devalues the currency.
Vital Signs: Eight indicators are used to measure an empire's power, and these are used as the "vital signs" to assess its health and stage in the "big cycle":
Education: The quality of education, including the teaching of knowledge, skills, character, civility, and work ethic, is a crucial factor.
Inventiveness and Technology Development: The ability of a country to innovate and develop new technologies is a key indicator of its strength.
Competitiveness in Global Markets: A country's ability to compete in the global market is essential for economic success.
Economic Output: The total value of goods and services produced by a country is a measure of its economic power.
Share of World Trade: The portion of global trade controlled by a country indicates its influence in the world economy.
Military Strength: A country's military power is a crucial factor in protecting its interests and maintaining its position.
The Power of Their Financial Center for Capital Markets: The strength of a country's financial system and its ability to attract and distribute capital is important for economic growth.
The Strength of Their Currency as a Reserve Currency: A currency that is widely accepted and used around the world as a medium of exchange and store of wealth provides significant advantages to the issuing country.
Insights into the Present
The world is currently undergoing a transition, with the US facing challenges from a rising China.
He points to the following factors:
Internal Conflicts: The US is experiencing internal conflicts due to wealth gaps and political polarization.
Debt and Money Printing: The US has accumulated massive debt and funds its deficit by borrowing and printing money, which is a pattern seen in declining empires.
External Challenges: The US faces external challenges from a rising China, which is increasingly seen as a rival power.
Reserve Currency Status: While the dollar remains the world's reserve currency, its status is being challenged as other currencies gain acceptance.
Empires can extend their longevity by paying attention to their vital signs and making necessary adjustments. Overall, a country must earn more via taxes than it spends and treat its citizens well.
Next Lesson: Demographics is Destiny
Exploring how Demographics over the past 50 years led us here.
In Lesson 3, we will do a deep dive into how demographics produced wholesale changes in our economic system, which ultimately led to our current economic situation and the core challenges we face today.
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