One of the many wonderful questions raised by Ray Dalio’s work-in-progress Changing World Order: Why Nations Succeed or Fail is whether Dalio, multibillionaire founder of the world’s largest hedge fund, may actually be... a Marxist? I don’t mean that as a comprehensive claim—Dalio is a macroeconomist and self-proclaimed capitalist, so it would be hard to infer what he thinks about, say, the microeconomics in Book I of Das Kapital—but I don’t mean it superficially either. Yes, Dalio’s book eulogizes Marx as “a brilliant man” whose theory of dialectical materialism “sounds right to me,” and yes, Dalio begins one sentence with the helpful heuristic to “Put yourself in Mao’s position,” and yes, Dalio follows that sentence by declaring that “it makes sense why Mao was a Marxist and pursued his version of Marxist policies.” But this is also a book that venerates Paul Volcker and Henry Kissinger and runs from the shadow of political polarization, so, well, I don’t mean to say that Dalio is a Marxist in prescriptive terms.
Rather, I mean that Dalio is something of a Marxist in diagnostic terms—that is, how he sees history unfolding in response to the contradictions of capitalism.
Let’s start with Dalio’s most striking claim: that while nations can continue to find creative ways to devalue currency in order to solve debt crises, eventually such crises will only be resolved through class war. Here’s Dalio.
“Civil wars and revolutions inevitably take place to radically change the internal order (i.e., the system of distributing wealth and power). They include total restructurings of wealth and political power that include complete restructurings of debt and financial ownership and political decision making. Almost all systems encounter them. That is because almost all systems benefit some classes of people at the expense of other classes, which eventually becomes intolerable to the point that there is a fight to determine the path forward. “
And here, of course, is The Communist Manifesto.
“It is enough to mention the commercial crises that by their periodical return put the existence of the entire bourgeois society on its trial, each time more threateningly. In these crises, a great part not only of the existing products, but also of the previously created productive forces, are periodically destroyed… Hitherto, every form of society has been based, as we have already seen, on the antagonism of oppressing and oppressed classes.”
The comparison here runs deeper than the fact of some eternal battle between classes. Rather, for both Dalio and Marx, a capitalist “ruling class” (Dalio’s words!) will exacerbate contradictions of capitalism that can only be resolved in class war.
More importantly, though, the fundamental contradiction of capitalism is arguably the same for both: the mirror-illusion of debt itself, an instrument that represents money that doesn’t yet exist. Dalio and Marx tell a similar tale. For a while, while things are good, debt can be used as money in the form of loans and government bonds. But as debts build and build, their interest rates rising and ROI falling, the economy starts to stagnate and lenders ask their loans to be repaid. What results is a self-fulfilling demise. Once it’s suspected the economy can’t generate returns to service the loans, the economy will collapse, and it truly won’t be able to service the loans.
This is the feedback loop. A booming economy will convince people that debt is money, and so debt will function as money, leading to a booming economy. But a collapsing economy will awaken people to the fact that debt is an empty promise, making it an empty promise and leading the economy to collapse as a result.
In other words, every economic cycle is a bubble of sorts: debt will finance a prosperous economy and technological and innovation until the day that it crashes both.
Dalio’s archetypical cycle goes through six stages in 50-75 year periods, from the foundation of a new economic order to its demise (typically in war), and he suggests that personal experience is the worst guide for economic forecasting since any individual will have only lived through quite different stages than those to come.
At first, debt is cheap: the economy is increasingly productive and capital-generative, so money-lenders are well assured of a return. For the moment, debt creates a virtual cycle of stimulating productivity, which produces prosperity, which leads to more demand for debt and production. In Dalio’s formulation, “debt growth fuels productivity and in turn real income growth, which makes debts easy to service and provides excellent excess returns that make equity returns excellent. Incomes exceed expenses and savings exceed liabilities with the savings financing investment in the future.”
Marx’s emphasis is slightly different—on low interest rates rather than high productivity—but his point is the same. Cheap debt furnishes a prospering economy. “Commercial credit,” he writes in Book 3 of Das Kapital, “forms the "sound" basis again for a ready flow of returns and extended production. In this state the rate of interest is still low... The ready flow and regularity of the returns, linked with extensive commercial credit, ensures the supply of loan capital in spite of the increased demand for it, and prevents the level of the rate of interest from rising.”
But at some point, per Dalio, we move from “low debt and debt burdens” with their “high likelihood that the lender who is holding debt assets will get repaid with good real returns” to “high debt and debt burdens with little capacity to create buying power for borrowers and a low likelihood that the lender will be repaid with good returns.” How does good debt suddenly turn bad? Both Marx and Dalio blame an economy whose prosperity encourages loans that can never be repaid. Again, their emphasis is slightly different while their story is the same. For Dalio, the problem is that borrowers “tend to assume that the future will be like the past so they bet heavily on the trends continuing,” taking out greater sums of debt that future cash flows will never be able to service. Worse, their immediate prosperity correlates directly to their ultimate demise since their short-term, debt-driven success is what allows them to take out larger loans. Great success is, some sense, a sign of great failure.
Marx focuses his version of this story of unpayable debt not on the borrowers but the lenders and rising interest rates. A prosperous, increasingly overextended economy encourages loans with higher and higher interest rates to fund far-flung projects with diminishing rates of return. At some point, these rates cross paths, and, as Dalio specifies, the interest on the loan becomes greater than the ROI of the project. “Cavaliers who operate completely on a money credit basis begin to appear for the first time in considerable numbers,” writes Marx, to service “the opening of new enterprises on a vast and far-reaching scale.” This is the peak of the bubble. “ The interest… reaches its maximum again as soon as the new crisis sets in. Credit suddenly stops then, payments are suspended, the reproduction process is paralyzed, and with the previously mentioned exceptions, a superabundance of idle industrial capital appears side by side with an almost absolute absence of loan capital.”
Marx summarizes the entire technological bubble in a single line: “On the whole, then, the movement of loan capital, as expressed in the rate of interest, is in the opposite direction to that of industrial capital.” The economy grows as long as productivity is greater than debt and collapses when debt becomes greater than productivity. The problem—and the key contradiction of capitalism for both Marx and Dalio—is that the economy also needs debt in order to sustain its growing productivity.
From here, we face collapse marshaled by “high inequality, high debt and deficits, inflation, and bad growth” (Dalio). Long-term, the solution is the same for both: class war and the restructuring of a new economic order. Strange as it is to say, Dalio in some ways paints a more dire portrait here of capitalism than Marx—one in which class warfare is not the ineluctable solution to centuries of exploitation, but merely one stage of a cyclical process in which a bankrupt state fertilizes a new one and the problems of capitalism renew. But then, so do the glories.
Dalio does add a crucial nuance, however. First, states have four mechanisms to resolve debt crises before devolving into war: “Austerity (spending less), Debt defaults and restructurings, Transfers of money and credit from those who have more than they need to those who have less than they need (e.g., raise taxes),” and the only solution that isn’t painful for the populace, “Printing money and devaluing it.” This is why not every debt crisis results in war and a changing of the imperial guard. For the British, “it took two devaluations before it fully lost its reserve currency status,” just as the US has repeatedly devalued its currency (most notably in 1933 and 1971) while maintaining reserve currency status.
These devaluations can only go on for so long, however. At some point someone has to get hurt, and the empire has to fall.
Here Dalio proposes an archetypical cycle for empires.
Where is the US?
In other words, America appears to be at the end of two cycles: at the end of the 300 year imperial cycle and at the end of the 75 year debt cycle. It is no surprise that Dalio wavers between affection one moment for an authoritarian Chinese regime that portends the next great empire and wistfulness, at the next, for a semi-socialist system that would redistribute wealth to those who need it. This is Dalio’s 1848—and, likely, ours as well.
Still, as easy as it is to cherry-pick comparable passages from the world’s favorite communist and hedge fund manager alike, it’s likely more helpful to think of the ways they differ—or rather the ways that Dalio’s historical research helps fill out some of Marx’s theoretical analysis.
Here another story might be in order.
It is, of course, another story of debt and its magical ability to be turned into assets when things are good but remain a liability when things are bad.
Here’s the story. Your friend Hyman wants to borrow $100 from you and promises to pay it back with 5% interest over the next 20 days. He gives you an IOU for the money he’s borrowing that you can probably sell to some other friends for $100 (that’s how much it’s worth, after all). But he goes off and spends the entire $100 on cheeseburgers and… it’s gone. The cheeseburger joint might be reinvesting that money in productive ways to grow the economy, but Hyman isn’t.
There are three points here:
Hyman has to get the money to pay you back from somewhere else since he didn’t invest the $100 in any way that will give him any returns.
There was $100 circulating at the beginning of this story, but now there’s $200: the $100 that Hyman spent and the $100 IOU that you can use as currency.
Or can you use Hyman's IOU as currency? The IOU has value only as long as everyone believes Hyman will actually be able to repay it. And as we saw in #1, we’re not really sure that Hyman is creditable long-term. In other words, points #1 and #2 are at odds with each other. Hyman's IOU adds value to the economy, but the act of creating the IOU risks that very value.
The story of Hyman is the basic story of Book 3, Chapter 29 of Das Kapital. It’s the story of what happens when we buy bonds—that is, when we loan money to a government that will have to repay us in taxes. Here’s Marx’s version of the same story:
“The state has to annually pay its creditors a certain amount of interest for the capital borrowed from them. In this case, the creditor cannot recall his investment from his debtor, but can only sell his claim, or his title of ownership. The capital itself has been consumed, i.e., expended by the state. It no longer exists… in all these cases, the capital, as whose offshoot (interest) state payments are considered, is illusory, fictitious capital. Not only that the amount loaned to the state no longer exists, but it was never intended that it be expended as capital, and only by investment as capital could it have been transformed into a self-preserving value. “
In other words, if the state had invested the money in production, it would have been preserved: this is what Marx means by “capital,” which is to say real money. Fictitious money, by contrast, is that IOU that serves as an uncanny doubling of the original $100. We might trust it for the moment, but we have to trust the state to vouch for it—a state that potentially has just spent $100 in non-productive ways.
So in a way, when we buy a bond, we replace a real $100 bill with a fake $100 bill because there is no way to get that original bill back from the state. As Marx puts it, “With the development of interest-bearing capital and the credit system, all capital seems to double itself, and sometimes treble itself, by the various modes in which the same capital, or perhaps even the same claim on a debt, appears in different forms in different hands.”
Marx compares the claim of a government bond, which promises interest that can’t come from any invested returns, with the claim of stock, which promises future cash flows from returns on invested capital. The stock, by contrast, is real capital: the money paid for equity is invested in assets that then return dividends over time, so a stock is capital that generates capital in return through an investment in production. (Marx was, let’s remember, a speculator in the stock market.) And yet, the value of the stock is necessarily speculative, based on the presumed future cash flows that haven’t come into existence yet.
Or in short: government money is fictitious while industry money is real, if speculative. Despite appearances, this is not necessarily a strange conclusion for a socialist to come to—after all, his belief is that value is derived from and belongs to the hands of the workers, not a chicanerous state propelled by its own IOUs.
So what happens during a crisis? Expected future cash flows drop, so stock prices drop too, but Marx suggests they’ll eventually recover as long as business is able to continue. “As soon as the storm is over, this paper again rises to its former level, in so far as it does not represent a business failure or swindle.” Marx’s suggestion is that stock valuations during minor bubbles may, in fact, be rational: the reason they collapse is because expected cash flows collapse during big crises, not because the stock was overvalued. These “soap bubbles” on the surface of the economy don’t affect the underlying activity unless the crisis is so severe as to destroy businesses. “Unless this depreciation reflected an actual stoppage of production and of traffic on canals and railways, or a suspension of already initiated enterprises, or squandering capital in positively worthless ventures,” says Marx, “the nation did not grow one cent poorer by the bursting of this soap bubble of nominal money-capital.”
What about government currency during a crisis? Here things are more perilous. If there is a run on the bank during a crisis, a bank may not have the reserve to cover its account-holders’ savings (the bank, after all, has been lending out that money). At first, Marx says, “the whole crisis seems to be merely a credit and money crisis… it is only a question of the convertibility of bills of exchange into money.” When that IOU can’t be repaid, however, actual productivity falters as businesses start to collapse. After all, “the majority of these bills represent actual sales” that will no longer take place, and fictitious capital becomes just that—fictitious. “Commodity-capital has depreciated or is completely unsaleable,” and “everything here appears distorted, since in this paper world, the real price and its real basis appear nowhere, but only bullion, metal coin, notes, bills of exchange, securities.” In Dalio’s terms, we are at the end of stage five, at the brutal moment where the impossible repayment of debt leads to the collapse of an economy that makes it even harder to repay.
But this is also the point where Marx and Dalio—and if you like, Marx and MMTers—start to differ. Like Dalio, Marx suggests that printing and devaluing currency is the only solution here, and he points to a historical example: the suspension of the Bank Act of 1844, which allowed banks to issue currency directly without the backing of the gold standard. For Marx, however, this devaluation is woefully insufficient since it only multiplies a fictitious currency without any backing by hard metal. Dalio, we’ve seen, disagrees here, seeing devaluations as one of the key levers for solving a debt crisis.
Or does he? In fact, Dalio tells a similar tale as yet another cycle: countries use banknotes to stand in for hard currency, but when these can’t be repaid, they make a necessary but potentially dangerous move to fiat currency to service debt, which allows them the blessing-and-curse of printing money as needed. This is, Marx agrees, a necessary step—if not one that he saw as fully feasible. “Capitalist production continually strives to overcome the metal barrier, which is simultaneously a material and imaginative barrier of wealth and its movement,” writes Marx, “but again and again it breaks its back on this barrier.”
Dalio’s solution is only to say that such instability is recurring: governments can and do make a move to fiat currency to solve debt crises (he goes back as far as the Dutch in the 1700s), but these in turn lay the foundations for greater crises that ultimately are resolved by a return to hard money.
In other words, Dalio agrees with Marx’s principle if not always in practice. While he also draws a difference between a good, “real” capital that’s invested in production with high returns and a bad, “fictitious” capital that generates less that what is invested, he clarifies that government spending can certainly serve as the former when funded by printing rather than debt. In fact, it’s imperative that government spending be invested in production—once it fails to deliver returns, it will suffer the fate that Marx describes. “To be clear, central banks’ “printing money” and giving it out for spending rather than supporting spending with debt growth is not without its benefits,” he writes. “Money spends like credit, but in practice (rather than in theory) it doesn’t have to be paid back. In other words, there is nothing wrong with having an increase in money growth instead of an increase in credit/debt growth, provided that the money is put to productive use.”
Ultimately, however, continual devaluations will weaken reserve currencies and incentivize its holders to move their savings back into hard money. “When taken too far,” Dalio writes, “the over-printing of fiat currency leads to the selling of debt assets and the earlier-described bank “run” dynamic, which ultimately reduces the value of money and credit, which prompts people to flee out of both the currency and the debt (e.g., bonds).”
The key difference between Dalio and Marx, then, may simply be that Dalio is talking about two different crisis cycles that Marx treats as one. For Dalio, short-term debt crises can be resolved through devaluations as a government moves from hard currency to fiat, but long-term, these continual weakenings will enable greater debt cycles while incentivizing holders to move to a new reserve currency. In the final debt cycle of an empire, there is no paper currency to turn to that will service debt because the money itself counts for very little. Marx, of course, sees every debt crisis this way, forcing governments to flee to fictitious capital that only exacerbate the problematic move away from real capital born of a productive economy.
So where are we now? In the next couple weeks, I’ll come back to Dalio and pair him with some other theorists of bubbles: Carlota Perez, Robert Shiller, etc. Still, it’s hard to imagine any economist sharing Dalio’s diagnostic of the American economy quite like Karl Marx. This likely sounds absurd, of course—not just the comparison of communist and capitalist, but the notion that American currency is at risk of complete devaluation in 2021.
Historically, however, that’s very much the direction we’re on. Consider the following charts from the team at Equilibrium.
Four questions remain to be resolved, however. First, is the trend reversible? Second, is this the last of the short-term debt cycles, or does a relatively strong dollar give the US power to continue devaluing the currency for decades to come? Third, how does the rest of the world’s holdings in US dollars affect its longevity in an unprecedented era of globalism? And finally fourth… what is that hard currency that US dollar holders will seek out when they recognize their own fictitious capital as fictitious?
It’s consideration of that last question that’s most exciting and terrifying right now. After all, it is all too tempting to see a mass move to a new currency playing out as a mass move to digital currency—which, depending on how you look at it, may be the hardest of hard currencies (secured by a blockchain and unalterable by governments) or the softest of soft (entirely user-generated in terms of value). But that is another question for another time.