Principles for Dealing with the Changing World Order: Why Nations Succeed and Fail

by Ray Dalio

As you read on, keep in mind that the two things about war that one can be most confident in are 1) that it won’t go as planned and 2) that it will be far worse than imagined. It is for those reasons that so many of the principles that follow are about ways to avoid shooting wars. Still, whether they are fought for good reasons or bad, shooting wars happen. To be clear, while I believe most are tragic and fought for nonsensical reasons, some are worth fighting because the consequences of not fighting them (e.g., the loss of freedom) would be intolerable.

the financial strength to outspend one’s rivals is one of the most important strengths a country can have. That is how the United States beat the Soviet Union in the Cold War. Spend enough money in the right ways, and you don’t have to have a shooting war. Long-term success depends on sustaining both the “guns” and the “butter” without producing the excesses that lead to their declines. In other words, a country must be strong enough financially to give its people both a good living standard and protection from outside enemies. The really successful countries have been able to do that for 200 to 300 years. None has been able to do it forever.

and to oneself, and know how to trade them.1,2 Skilled collaborations to produce win-win relationships that both increase and divide up wealth and power well are much more rewarding and much less painful than wars that lead to one side subjugating the other. Seeing things through your adversary’s eyes and clearly identifying and communicating your red lines to them (i.e., what cannot be compromised) are the keys to doing this

Winning means getting the things that are most important without losing the things that are most important, so wars that cost much more in lives and money than they provide in benefits are stupid. But “stupid” wars still happen all the time for reasons that I will explain.

Though it is generally desirable to have power, it is also desirable to not have power that one doesn’t need. That is because maintaining power consumes resources, most importantly your time and your money. Also, with power comes the burden of responsibilities. I have often been struck by how much happier less powerful people can be relative to more powerful people.

What is fascism? Consider the following three big choices that a country has to make when selecting its approach to governance: 1) bottom-up (democratic) or top-down (autocratic) decision making, 2) capitalist or communist (with socialist in the middle) ownership of production, and 3) individualistic (which treats the well-being of the individual with paramount importance) or collectivist (which treats the well-being of the whole with paramount importance). Pick the one from each category that you believe is optimal for your nation’s values and ambitions and you have your preferred approach. Fascism is autocratic, capitalist, and collectivist. Fascists believe that top-down autocratic leadership, in which the government directs the production of privately held companies such that individual gratification is subordinated to national success, is the best way to make the country and its people wealthier and more powerful. The US and

Raising tariffs to protect domestic businesses and jobs during bad economic times is common, but it leads to reduced efficiency because production does not occur where it can be done most efficiently. Ultimately, tariffs contribute to greater global economic weakness, as tariff wars cause the countries that impose them to lose exports. Tariffs do, however, benefit the entities that are protected by them, and they can create political support for the leaders who impose them.

All markets are primarily driven by just four determinants: growth, inflation, risk premiums, and discount rates.

things. For example, when growth is stronger than expected, all else being equal, stock prices will likely rise, and when growth and inflation are higher than expected, bond prices will likely fall.

them into contact with faraway empires. Like all periods of great evolution, the Age of Exploration was enabled by technological developments that could make people rich—in this case, the invention of ships that could travel the world to accumulate riches by trading with and taking wealth from those who the explorers encountered.

China’s Ming Dynasty had its own version of the Age of Exploration but abandoned it. Starting in the early 1400s, Ming Dynasty Emperor Yongle empowered his most trusted admiral, Zheng He, to lead seven major naval expeditions—“treasure voyages”—around the world. Though not colonizing expeditions (and historians debate the extent to which they were commercial), these naval missions helped project China’s power abroad. Yongle’s navy was the largest and most sophisticated in the world, featuring larger and better-constructed ships than any country in Europe would produce for at least a century. China’s international influence, as indicated by the number of foreign cities engaged in formal tributary relationships with the mainland, increased rapidly. However, the Ming emperors chose to end these voyages and pulled the empire into itself. It remains a matter of conjecture whether that is because Yongle’s military and naval expeditions were expensive or because the emperors believed that they had all they needed within China so there was no need for this exploration.

On its surface, the Thirty Years’ War pitted Protestant countries against Catholic ones; however, the full story was more complicated with wider geopolitical interests related to wealth and power playing a role of who lined up with whom. At the end of the war the new order was laid out at the Peace of Westphalia. The most important breakthroughs that came from it were the establishment of geographic borders and the sovereign rights of the people within those borders to decide what happens in their domains. Like most periods after major wars and the establishment of new orders, there was an extended time of peace between countries, with the Dutch emerging from the chaos as the leading global economic power.

Also known as the Age of Reason, the Enlightenment was essentially the scientific method applied to how humans should behave. This way of thinking became widespread in Europe in the 1700s and 1800s and was an extension of the diminishing of the rights of the monarchy and the church and the increasing of the rights of the individual that characterized earlier intellectual movements.

Economics and politics have swings between the left and the right in varying extremes as the excesses of each become intolerable and the memories of the problems of the other fade. It’s like fashion—the widths of ties and the lengths of skirts change through time. When there is great popularity of one extreme, one should expect that it won’t be too long before there will be a comparable move in the opposite direction.

When there are capital controls that prevent the free exchange of a domestic currency internationally, that currency is more susceptible to being devalued. By definition reserve currencies have no such controls. So, as a principle: when you see capital controls being put on a currency, especially when there is a big domestic debt problem, run from that currency.

It is easy to see the important role that period has played in shaping Chinese leaders’ perspectives—e.g., why Mao saw capitalism as a system in which companies pursued profits through imperialism (i.e., through the control and exploitation of countries, just as the British and other capitalist powers did to China), enriching the greedy elites while exploiting workers. Mao’s view of capitalism differs from my own because his experience with it was so different, though both of our views of it are true. Capitalism has provided me and most others I know, including immigrants from all over the world, with enormous opportunities. The America I came of age in was the land of opportunity, in which one could learn, contribute, and be rewarded fairly and without boundaries. This experience of seeing through another’s eyes was another reminder for me of how important radical open-mindedness and thoughtful disagreement are to finding out what is true. It led me to study Marxism a bit, so I could understand why it made sense to Mao and others as a philosophy. My inclination up until then was to think of it as at best impractical and at worst a potentially evil threat, yet I was ignorant about what Marx had actually said.

Also, as far as the wealth gap goes, I share the view that it has been a big issue throughout history that can threaten all systems. I too believe that conflicts produce struggle and that working through struggle produces progress. I consider the conflicts between the classes (i.e., the “haves” and the “have-nots”) to be among the main drivers of the rise and decline of empires, and hence the progress of history, with those drivers being the three big cycles—money and credit, internal order/disorder, and external order/disorder—discussed earlier in this book.

In short, I would worry a lot if we were to see a “Fourth Taiwan Strait Crisis.”

To understand their circumstances and perspectives, I suggest that you not view what they are doing through stereotypes (e.g., of “what communists do”) and accept that they are trying, and will continue to try, to juggle these two seemingly inconsistent things. In their view capitalism is a way of raising the living standards of most people and is not meant to serve capitalists.

It is impossible to visualize what the next major military war will be like, though it probably will be much worse than most people imagine. That is because a lot of weaponry has been developed in secret and because the creativity and capabilities to inflict pain have grown enormously in all forms of warfare since the last time the most powerful weapons were used and seen in action.

do want to get across that the cultural differences that make Americans American and the Chinese Chinese are deeply embedded. Given China’s impressive track record and how deeply imbued the culture behind it is, there is no more chance of the Chinese giving up their values and their system than there is of Americans giving up theirs. Trying to force the Chinese and their systems to be more American would, to them, mean subjugation of their most fundamental beliefs, which they would fight to the death to protect. To have peaceful coexistence Americans must understand that the Chinese believe that their values and their approaches to living out these values are best, as much as Americans believe their American values and their ways of living them out are best.

With these evolutions in mind, let’s start looking toward the future. If we look back carefully to see how the present was created, we can see that these evolutionary advances didn’t just happen on their own: every day, there were events that affected the present while people’s actions shaped them. At the same time, we know that we never could have anticipated them individually—if we had tried to predict each of the specific wars, droughts, pandemics, inventions, prosperous periods, declines, etc., we would have failed. But even without knowing about any of those specific developments, we could have pretty confidently said that advances would occur that would enable significantly larger populations to live significantly longer while enjoying significantly higher standards of living because of the evolution that has already occurred, and that we have every reason to expect to continue to occur, from humanity’s inventiveness. We could have also confidently asserted that there would be booms and busts, feasts and famines, and periods of great health and disease along the way.

That’s why while extrapolating the past is generally a reasonable thing to do, also be prepared to be surprised because the future will be much different than you expect it to be.

While the United States looks like it is in the precarious Stage 5 of the cycle, it also has the longest-lasting and most widely admired internal order (its constitutional system). As explained in Chapter 5, this makes it less likely that it will be abandoned, but more traumatic if it is. The most reliable signs of an escalation to civil war are 1) the rules being disregarded, 2) both sides emotionally attacking each other, and 3) blood being spilled. While Stage 6 is the most dysfunctional and harmful stage, increasing amounts of dysfunction happen in the stages leading up to it. These sorts of conflicts can exist throughout society, not just in government.

US? As I explained in Chapter 11, our measures suggest that it is very roughly 70 percent through its big cycle. Can it slow or reverse its relative decline? History shows us that reversing a decline is very difficult because it requires undoing so many things that have already been done. For example, if one’s spending is greater than one’s earnings and one’s liabilities are greater than one’s assets, those circumstances can only be reversed by working harder or consuming less. The question is whether we Americans can face our challenges honestly and adapt and change to meet them. For example, while the capitalist profit-making system allocates resources relatively efficiently, Americans now need to ask themselves: “Who is it optimizing these efficiencies for?” “What should be done if the benefits are not broad-based?” “Will we modify capitalism so that it both increases the size of the pie (by increasing productivity) and divides it well?” These questions are especially important to answer in an era when, thanks to new technologies, employing people will increasingly become unprofitable, inefficient, and uncompetitive. “Should we, or should we not, invest in people to make them productive, even when it’s uneconomic to do so?” “What if our international competitors choose robots over people?” These and so many more important, difficult questions come to mind. But while we can’t know for certain whether the splits and conflicts in the US will increase or reverse, we do know...

Whatever success I’ve had has been more due to my knowing how to deal with what I don’t know than anything I know. Betting on the future is betting on probabilities and nothing is certain, not even the probabilities. That’s just the way it is. While what I’ve given you up until this point is what I believe I know about the future based on my reasoning about the past, what I want to pass along that is probably more important is how I make decisions in life and in the markets based on what I don’t know. In a nutshell, here’s what I try to do: Know all the possibilities, think about the worst-case scenarios, and then find ways to eliminate the intolerable ones.