Ray Dalio Warns: History Is Repeating Itself—How Far Are We from a Total Collapse?

Original Author: Ray Dalio

Original Compilation: TechFlow

Introduction: Legendary investor Ray Dalio, combining his "Big Cycle" theory, has issued a stern warning about the current global turmoil. He meticulously dissects how societies slide from the "fifth stage" of wealth inequality and fiscal bankruptcy into the conflict-ridden "sixth stage." This article is not only a summary of historical patterns but also a deep diagnosis of the current political and economic landscape in the United States and globally. By comparing the collapse of 1930-1945, Dalio points out dangerous signals such as the failure of rules, intensifying polarization, and the loss of truth.

For me, observing what is happening now is like watching a movie I have seen many times in history. I am a global macro investor, and my way of betting on the future is by learning historical lessons to understand the underlying mechanisms of how things work. I have found that what is happening now has repeatedly occurred for the same reasons, and understanding the cause-and-effect relationships has been immensely helpful to me.

I am now at a stage in my life where I want to share these experiences that have helped me, rather than keeping them for personal gain. For this reason, in my book *Principles for Dealing with the Changing World Order*, I described the typical sequence of events that leads to the rise and fall of monetary orders, domestic political orders, and international geopolitical orders. I call this sequence of events the "Big Cycle" because it is massive in scale and long-lasting, typically spanning about 80 years (roughly a human lifespan).

The last time these orders collapsed was during the 1930-1945 period, which led to the post-war monetary, domestic political, and international geopolitical orders that began in 1945—the very orders we now see collapsing. My book comprehensively describes the symptoms that can be used to identify which stage of the "Big Cycle" we are in, as well as the forces driving the "Big Cycle." Most importantly, I detail the processes and event sequences that typically lead to the collapse of monetary, domestic political, and international geopolitical orders, so people can compare the actual sequence of events with the template outlined.

For readers of the book, it should now be clear that we are on the brink of transitioning from Stage 5 (the eve of the existing order's collapse) to Stage 6 (the collapse of the existing order).

My original intention in writing that book was: 1) to help policymakers understand the process leading to collapse and prevent it; 2) to help people protect themselves from these collapses. I realized while doing this that my explanation might not materially affect the trajectory. And indeed, it has not.

Nevertheless, since we are now clearly on the brink of crossing from Stage 5 (pre-collapse) to Stage 6 (collapse), and the choices made can have a huge impact on the outcome, I feel compelled to reiterate what I believe are the key dynamics underlying the current situation and clarify which choices lead to better or worse outcomes.

To illustrate this here, I will now briefly share the parts of *Principles for Dealing with the Changing World Order* most relevant to the current situation, particularly the key points on how Stage 5 (pre-collapse of order) leads to Stage 6 (collapse of order). This will allow you to compare the current situation with my "Big Cycle" template. To be clear, although the possibility of repairing the monetary order through the fiscal discipline needed for financial health is slim, and the return of rule-based domestic political and international geopolitical orders—crucial for peacefully resolving differences and democratic functioning—is doubtful, these improvements are still possible because we have not yet fully crossed the threshold from Stage 5 to Stage 6.

Below is an excerpt from the book that paints this picture. After sharing it, I will explain how what I wrote five years ago applies to the current situation (see "Where We Are Now" below).

"Stage 5: When Financial Conditions Are Bad and Conflict Is Intense"

"Since I comprehensively covered that cycle in Chapters 3 and 4, I won't explain it in detail here. But to understand Stage 5, you need to know it follows Stage 3 (peace and prosperity, good debt and credit conditions) and Stage 4 (excess and decadence begin to bring deteriorating conditions). This process culminates in the most difficult and painful stage—Stage 6—when the country runs out of money and terrible conflicts, usually in the form of revolutions or civil wars, typically occur. Stage 5 is the period when interclass tensions, accompanying deteriorating financial conditions, reach a peak. How different leaders, policymakers, and populations handle the conflict has a significant impact on whether the country can make the necessary changes peacefully or violently."

"The Classic Toxic Mix"

"The classic toxic mix of forces that leads to significant internal conflict consists of: 1) the country and its people (or state, city) being in bad financial shape (e.g., having huge debt and non-debt obligations), 2) large income, wealth, and value gaps within that entity, and 3) a severe negative economic shock." "This confluence typically leads to chaos, conflict, and sometimes civil war."

"To have peace and prosperity, a society must have productivity that benefits most people.

The average is not as important as the proportion of people suffering and their power." In other words, when there is no widespread productivity and prosperity, risks rise.

A key element of success is that the debt and money created are used to generate productivity gains and favorable investment returns, rather than being directly distributed without generating productivity and income growth. If simply distributed without generating these gains, the money will depreciate to the point where the government or anyone else loses purchasing power.

History shows that using loans and spending for projects that generate widespread productivity gains and investment returns (with returns exceeding borrowing costs) leads to rising living standards and debt repayment, so these are good policies."

"History shows and logic proves that good investments in education at all levels (including vocational training), infrastructure, and research that yields productive discoveries are highly effective. For example, large-scale education and infrastructure plans almost always pay off (e.g., in the Tang Dynasty and many other Chinese dynasties, the Roman Empire, the Umayyad Caliphate, India's Mughal Empire, Japan's Meiji Restoration, and China's education development plans in recent decades), although their payoff cycles are long. In fact, improvements in education and infrastructure, even those financed by debt, are almost always necessary ingredients for the rise of empires, and the decline in the quality of these investments is almost always an ingredient in the decline of empires. If done well, these interventions can offset the classic toxic mix." In Stage 5, this does not happen.

All of this makes the economy more vulnerable to economic shocks. "Economic shocks can arise for many reasons, including financial bubbles bursting, natural disasters (such as pandemics, droughts, and floods), and wars. It creates a stress test. The financial condition at the time of the stress test (measured by income relative to spending, assets relative to liabilities) is the shock absorber. The size of the income, wealth, and value gaps is the best indicator of the system's fragility."

"When financial problems occur, they typically hit the private sector first, then the public sector. Because governments never let private sector financial problems bring down the whole system, the government's financial condition is most important. When the government loses purchasing power, breakdown occurs. But on the path to breakdown, there is a great deal of fighting over money and political power."

"From studying over 50 civil wars and revolutions, it is clear that the single most reliable leading indicator of civil war or revolution is bankrupt government finances combined with huge wealth gaps. This is because when the government lacks financial strength, it cannot financially rescue the private entities it needs to save to keep the system running (as most governments, led by the US, did in late 2008), it cannot buy what it needs, and it cannot pay people to do what it needs them to do. It loses power."

"A classic marker of being in Stage 5, and a leading indicator of losing the ability to borrow and spend (one of the triggers for entering Stage 6), is the government having huge deficits that create more debt than buyers other than its own central bank are willing to purchase. This leading indicator is triggered when governments that cannot print money have to raise taxes and cut spending, or when governments that can print money print a lot of it and buy a lot of government debt. More specifically, when a government runs out of money (via huge deficits, large debts, and inability to get sufficient credit), its choices are limited. It either raises taxes and cuts spending dramatically, or prints a lot of money, which devalues it. Governments that have the power to print money always do so because it is a much less painful path, but it leads investors to flee the currency and debt being printed. Governments that cannot print money must raise taxes and cut spending, which leads the wealthy to flee the country (or state, city) because paying more taxes and losing services is intolerable. If these non-money-printing entities have large wealth gaps among their constituents, these moves typically lead to some form of civil war/revolution."

"Those places (cities, states, and countries) with the largest wealth gaps, largest debts, and most severe income declines are most likely to experience the most intense conflicts. Interestingly, in the US, the states and cities with the highest per capita income and wealth levels also tend to be those with the heaviest debt burdens and largest wealth gaps—cities like San Francisco, Chicago, and New York City, and states like Connecticut, Illinois, Massachusetts, New York, and New Jersey."

"Faced with these conditions, spending must be cut, or more money must be raised somehow. The next question becomes: who pays to fix these problems, the 'haves' or the 'have-nots'? Obviously, it cannot be the have-nots. Spending cuts are most unbearable for the poorest, so more taxes must be levied on those who can afford to pay more, which increases the risk of some form of civil war or revolution. But when the haves realize they will be taxed to pay for debt repayment and deficit reduction, they typically choose to leave, leading to a 'hollowing-out' process. This is precisely what is driving migration between US states now. If economic conditions worsen, this will accelerate the process. These conditions largely drive the tax cycle."

"History shows that raising taxes and cutting spending in the presence of huge wealth gaps and bad economic conditions is a leading indicator of some type of civil war or revolution more than any other factor."

"Populism and Extremism"

"Amid chaos and discontent, strong-willed, anti-elite leaders emerge who claim to fight for the common person. They are called populists. Populism is a political and social phenomenon that appeals to ordinary people who feel their concerns are ignored by elites. It typically develops when there are wealth and opportunity gaps, perceived cultural threats from different values domestically and abroad, and 'establishment elites' in high positions failing to work effectively for the majority. When these conditions spark anger among ordinary people, prompting them to want political warriors to fight for them, populists come to power.

Populists can be right-wing or left-wing, and they are much more extreme than moderates, tending to appeal to the emotions of ordinary people. They are typically confrontational rather than collaborative, and exclusive rather than inclusive. This leads to fierce battles between left-wing populists and right-wing populists over irreconcilable differences. The degree of revolutionary extremism under their leadership varies. For example, in the 1930s, left-wing populism took the form of communism, the right-wing took the form of fascism, while non-violent revolutionary changes occurred in the US and UK. Additionally, four democracies turned into autocracies.

More recently, in the US, Donald Trump's election in 2016 was a shift toward right-wing populism, while the popularity of Bernie Sanders, Elizabeth Warren, and Alexandria Ocasio-Cortez reflected the rise of left-wing populism. In many countries, political movements leaning toward populism are increasing."

"Observe populism and polarization as markers. The higher the degree of populism and polarization, the further a country is in Stage 5 and the closer it is to civil war and revolution. In Stage 5, moderates become a minority. In Stage 6, they cease to exist."

"Class Warfare"

"In Stage 5, class warfare intensifies. This is because, as a rule, during difficult and intensifying conflict periods, people increasingly tend to view others in stereotypical ways as members of one or more classes and see these classes as enemies or allies. In Stage 5, this begins to become more apparent. In Stage 6, it becomes dangerous."

"A classic marker of Stage 5 that intensifies in Stage 6 is the demonization of people from other classes, which typically produces one or more 'scapegoat' classes widely believed to be the source of problems. This leads to a drive to ostracize, imprison, or destroy them, which happens in Stage 6. Ethnic, racial, and socioeconomic groups are often demonized. The most classic and terrifying example of this comes from the Nazi treatment of Jews, who were blamed and persecuted for almost all of Germany's difficulties.

Chinese minorities living in non-Chinese countries have also been demonized and scapegoated during periods of economic and social stress. In the UK, Catholics were demonized and scapegoated during many stressful periods, such as the Glorious Revolution and the English Civil War. Wealthy capitalists are often demonized, especially those seen as profiting at the expense of the poor. Demonization and scapegoating are classic symptoms and problems we must watch closely."

"Loss of Truth in the Public Domain"

"As people become more polarized, emotional, and politically motivated, not knowing what is true due to media distortion and propaganda increases."

"In Stage 5, those engaged in the struggle typically work with the media to manipulate people's emotions to gain support and destroy opponents. In other words, left-wing media people join the left-wing camp, and right-wing media people join the right-wing camp, participating in this dirty fight. The media becomes like vigilantes gone wild: people are often attacked in the media and essentially tried, convicted, and have their lives ruined without judges and juries.

A common move by both left-wing (communist) and right-wing (fascist) populists in the 1930s was to control the media and appoint 'ministers of propaganda' to guide them. The media they produced was explicitly designed to turn the populace against groups the government saw as 'enemies of the state.' The democratically functioning British government established a 'Ministry of Information' during WWI and WWII to disseminate government propaganda, and major newspaper publishers were promoted by the government if they cooperated to win the propaganda war, otherwise they were vilified and punished.

Revolutionaries engaged in the same truth distortion in various publications. During the French Revolution, newspapers run by revolutionaries promoted anti-monarchy and anti-religious sentiments, but when these revolutionaries gained power, they shut down dissenting newspapers during the Reign of Terror. During periods of large wealth gaps and populism, stories attacking elites tend to be popular and profitable, especially those attacking left-leaning elites in right-leaning media and right-leaning elites in left-leaning media. History shows that a significant increase in these activities is a classic problem of Stage 5, and when combined with the ability to impose other punishments, the media becomes a powerful weapon."

"Rule-Following Fades, Primitive Fighting Begins"

"When a cause that people are passionately devoted to becomes more important to them than the decision-making system, that system is in danger. Rules and laws only work if they are very clear and most people care enough about them and are willing to compromise within them to make them work well."

"If neither is ideal, the legal system is precarious. If competing parties are unwilling to try to remain rational and pursue the overall well-being in a civilized manner—which requires them to give up some things they want and might win in a fight—to make decisions, then a civil war testing the relative strength of the parties emerges. In this stage, winning at all costs is the rule of the game, and dirty tactics are the norm. In the later part of Stage 5, reason is replaced by passion."

"When winning becomes the only thing that matters, unethical fighting becomes increasingly powerful in a self-reinforcing way. When everyone has a cause to fight for and no one can reach consensus, the system is on the brink of civil war or revolution."

"This typically happens in several ways: In the later part of Stage 5, the legal and police systems are often used as political weapons by those who can control them. Additionally, private police systems form—such as thugs who beat people up and seize their assets, and bodyguards who protect people from such events. For example, the Nazi Party established a paramilitary wing before coming to power, which became an official force after the party took power. The short-lived British Union of Fascists in the 1930s and the Ku Klux Klan in the US were essentially paramilitary organizations. Such cases are so normal that watch their development as markers of moving into the next stage."

"In the later part of Stage 5, protests become more frequent and increasingly violent. Because there is not always a clear line between healthy protest and the beginning of revolution, those in power often struggle with how to allow protests without giving people perceived freedom to rebel against the system. Leaders must handle these situations properly. A classic dilemma arises when demonstrations begin to cross over into revolution. Allowing protest freedom and suppressing protests are both risky paths for leaders, as either path can lead to revolutionary forces becoming strong enough to overthrow the system.

No system allows people to overthrow it—in most systems, such attempts are treason, typically punishable by death. Nevertheless, the revolutionary's job is to overthrow the system, so the government and revolutionaries test each other's limits. When widespread discontent simmers and those in power let it grow, it may boil to a point where when they try to cap it, it explodes. Conflicts in the later part of Stage 5 typically build to a climax, triggering violent fighting, which marks the entry into the period formally stamped by historians as civil war, which I define as Stage 6 in the 'Big Cycle.'"

"Deaths in fighting are a marker that almost certainly signals entry into the next, more violent civil war stage, which will continue until a clear winner and loser emerge."

"This leads to my next principle: