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Economic Principles: How the Economic Machine Works by Ray Dalio

After Ray Dalio's well-known book Principles, his second book Principles for Navigating Big Debt Crises is released recently. It is attractive for investors, bankers and anyone who is interested in economics.

This book is actually an expansion of Ray's 30 minutes video How the Economic Machine Works that was first released in September 2013.

The notes below compress it to even shorter to be learnt within 10 minutes. Let's start:

English Version

The three forces driving economic:

  1. Productivity growth
  2. The short term debt cycle
  3. The long term debt cycle


  • An economy is simply the sum of the transactions that make it up.
  • Each transaction consists of a buyer exchanging money or credit with a seller for goods, services or financial assets.
  • Money + credit = total spending
  • Total spending / total quantity = price


  • Like transaction is made up by buyers and sellers, credit is made up by lenders and borrowers.
  • Credit is the most important part in economy, because it determines spending.


  • A person's spending is another person's income.
  • Income increase, borrowing increase, spending increase, hence income increase. This self-reinforcing pattern leads to economic growth.
  • To increase income, needs to increase productivity. Productivity is the force to ensure long term economic growth, determined by inventions, etc, it’s not changing suddenly. But in short term, debt is the key as it allows us to consume more than we produce when we require it.

Debt cycles: (because we borrow! due to human nature)

  1. Short cycle: 5 - 8 years.
    1. Borrow money from future self, would need more working hence income to cover it. So every borrowing itself initialized a cycle.
    1. This cycle is controlled by the central bank by interest rate.
  2. Long cycle: 75 - 100 years.
    1. Caused by human nature of inclining to borrow and spending than to pay back credits. So the total debts increase over cycles, faster than income increase.
    1. Economic looks “great” as spending increasing, income increasing, debts increasing. The debt burden is hidden by the high income. But this does not last forever, at some point, debt repayments start growing faster than incomes force people to cut back on their spending, hence income goes down, debt down, economic down.
    2. Deleveraging: similar to recession but the difference is that interest rate is already 0, cannot be lower to save the day.

4 ways to handle deleveraging:

  1. Cut spending
  2. Reduce debt
  3. Redistribute wealth
  4. Print money

The first 3 ways are to cut debt amount indirectly or directly causing deflation. The 4th way causes inflation.

The deflationary ways needs to work with the inflationary ways to deleverage beautifully by the cooperations between the central bank and government. Simply, the growth rate of income needs to be higher than the interest rate. But simply printing more money to make income growth can easily leading to unacceptably high inflation, so balancing is important.

Chinese Version

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