A short video from Ray Dalio: How the Economic Machine Works

[CA renter]

[quote=FlyerInHi]Another falsity is that we are borrowing from our future selves bit. Why not keep it simple say that we are borrowing from someone else (or our aggregate selves) in the present?

First, we cannot borrow from the future, if that’s what he meant.

Also why would repaying debt in the future cause a cycle? Sure the people repaying debt would have less money to spend. But that would be negated by the other side of the transaction. As Dialo illustrated, there are two sides to each transaction. It’s total spending that matters[/quote]

I think you need to watch it again, brian. What you spend on consumption today (plus interest) will have to come out of future earnings if you are using debt to finance that consumption. Just because there is more debt in the future does not mean that you (or a country) will have more money in the future with which you can pay it off. You are borrowing money today against tomorrow’s productivity/growth.

[FlyerInHi]

CAr, what is true for the individual is not true for the whole. That’s where the falsity comes in.

More debt doesn’t not cause recessions, it’s the deleveraging process that does. Dialo correctly makes that point.

[CA renter]

Bubbles can cause recessions. The deleveraging is what happens when bubbles burst. Should we grow bubbles in perpetuity, or should we prevent them from happening in the first place?

[FlyerInHi]

Let’s look at the past housing bubble in a simple way. Easy credit caused higher demand and rapid price rises. When prices began to taper then fell, even people who could afford to pay made the rational decision to walk.

Nothing to do with consuming more than we produce or borrowing productivity from the future. In fact it was all about the present. We consumed exactly the amount of housing we produced, except that housing prices kept rising. When prices fell, there was massive default and deleveraging.

Dialo started off his video by saying that total spending is what matters. He should have stayed with that simple theme.

[Hobie]

C-mon Brian, as mentioned by the OP, this is just a simple econ lesson. Nothing more, nothing less. Just a down and dirty econ introduction.

[CA renter]

[quote=FlyerInHi]Let’s look at the past housing bubble in a simple way. Easy credit caused higher demand and rapid price rises. When prices began to taper then fell, even people who could afford to pay made the rational decision to walk.

Nothing to do with consuming more than we produce or borrowing productivity from the future. In fact it was all about the present. We consumed exactly the amount of housing we produced, except that housing prices kept rising. When prices fell, there was massive default and deleveraging.

Dialo started off his video by saying that total spending is what matters. He should have stayed with that simple theme.[/quote]

They could “walk away” only because the govt enables them to do this. Still, somebody is taking this loss, and their future spending will be affected by these losses.

Without the ability to default, it would be the debtors who take the loss. With BK and foreclosure laws, it’s the creditors who take the losses.

As for the recent housing bubble, the Fed is sitting on a lot of the potential losses. If the debt they hold were put on the open market, everything would fall apart. It’s a ruse, but people will buy into it because acknowledging reality is too frightening for them. The savers (those in cash) are also taking a hit via artificially low/negative interest rates, and this will affect both their current and future consumption as well.

And people on fixed incomes (including workers) are also taking a hit as their dollars lose value. This affects their current and future purchasing power, too.

[FlyerInHi]

CAr, you maybe aware that Dialo’ video is in contradiction to you., although you agrred with it earlier.

I generally agree with Dalio. I just took exception to some of the falsities he perpetuates.

Another falsity or inconsistency. Dalio states at first that total spending is what matters. Simple and true enough. He also states that the government is the biggest buyer and seller in the economy. Further into the video, he says that the government needs to increase deficits and spending during a recession. But then towards end in his beautiful deleveraging section he talks austerity balanced with more money printing. Inconsistent!

Maybe he meant austerity as in deleveraging in the economy as a whole. But in the same breath he talks about the role of government in printing money. The fallacy is that what’s good for one is not necessarily good for all. Kinda like the paradox of thrift.

I’m critiquing the video just because I can. Otherwise there wouldn’t be a discussion.
I think Dalio should have kept his focus on where he began in his economic machine: total spending as a whole

He then could discuss the mechanical ways to soften recessions and create beautiful deleveraging that support total spending.

[CA renter]

I think we’re talking past each other and venturing into very theoretical territory. We could debate the causes and effects of different forms of monetary (and fiscal) policies for years. Unfortunately, we can’t really know the very long-term effects of any particular policy because we can’t put them into practice. So, we all theorize and use modeling to try and predict outcomes of things when we know far too little about all the different variables and how they interact.

[FlyerInHi]

With reference to Dalio, he’s said that the recovery after the 2008 recovery was pretty much a beautiful recovery thanks to the Federal Reserve’s money printing.

What’s missing that could have made the deleveraging more beautiful, perhaps fabulous, is fiscal stimulus to further support total spending. As Dalio said, just add up individual transactions to get total spending. It’s just that simple.

[CA renter]

It was a “beautiful” recovery only if you were on the winning side of it. Many people were/are not. People on fixed incomes (including workers) were particularly harmed by the Fed’s actions.

[FlyerInHi]

I don’t think Dalio cares about the winners or losers. He just wants to predict economic cycles so that his hedge fund can buy low and sell high.

[FlyerInHi]

CAr, I’m curious what theories and prescriptions of Dalio’s you agree with.

Of his 4 ways of handling a beautiful deveraging I think you like transfer of wealth the most. Still the elephant in the room is printing money, according to Dialo.

[CA renter]

[quote=FlyerInHi]CAr, I’m curious what theories and prescriptions of Dalio’s you agree with.

Of his 4 ways of handling a beautiful deveraging I think you like transfer of wealth the most. Still the elephant in the room is printing money, according to Dialo.[/quote]

What’s best in his video, IMO, is the acknowledgement of short-term and long-term debt cycles, and how the peak of the long-term cycles will have severe impacts on the economy for many years afterward.

Of the 4 ways that deleveraging occurs (and he says that they all occur to some extent in every deleveraging event), I favor the deflationary forces, particularly default and the redistribution of wealth back to those from whom it was taken. That’s because the peak of a long-term debt cycle usually marks the maximum income/wealth gap between the rich and everyone else. Historically, economies and societies have worked best when the wealth/income gap was kept to fairly low levels.

Debt makes the rich grow richer because debt is mostly used for consumption and asset price speculation. Both of these grow the wealth of the richest people in the economy because the rich take a portion of all consumption (profits, financial/transaction fees, interest on debt used to purchase goods and services, etc.), and the wealthiest people own the greatest portion of assets, so when asset prices go up, their relative wealth goes up. When you have leverage and a fractional reserve banking system, the rich will almost always benefit most.

By allowing defaults to occur, asset prices tend to go down faster than wages, so workers and others on fixed incomes (the vast majority of those in the bottom half of the economy) gain purchasing power at the expense of the very wealthy. This shrinks the wealth/income gap while also reducing the debt burden of those who tend to have the most debt (relative to income).

It should go without saying that spending does indeed need to be reduced. We need to stop financing consumption with debt. There might be some exceptions like very large purchases (houses and cars), or for medical care, but other than that, people should using savings for consumption. Even for large purchases, every effort should be made to keep debt as close to zero as possible, IMO.

It’s okay to print money, but if the printing occurs in the way it does in the video, it does not reduce the overall debt burden because the Fed is buying new government debt, so for every dollar that the Fed is printing to buy govt debt, the govt increases its debt burden by one dollar (plus interest!). IMHO, this money printing must be offset by higher taxes on those who are most able to afford it; otherwise, the debt will increase at a faster rate. Of course, there are multipliers and fractional reserve lending; but for every dollar additional lent, there is less and less “real” money to back it up.

Also, how that money is printed and how it is used will determine if the relative wealth/income gaps will be maintained or not. The way it’s been done the past few years, the focus has been on asset price reflation (to insane, bubble levels) as opposed to spending this money almost entirely on infrastructure and R&D (I favor R&D in energy and healthcare). With this more productive type of spending, we could reap benefits as a society for many years to come. Instead, we have been left with reflated bubbles and a very high debt load that we will not likely be able to pay off.

But at least the wealthy have maintained — and grown — the wealth/income gap, which was the goal all along. So, bonus points for a job well done in that respect, I suppose. 🙁

———-

I would like to point out that of his three suggestions at the end, #2 [paraphrasing]” “Don’t let income rise faster than productivity because it will make you less competitive,” is a bit silly. In the past ~30 years, incomes for the vast majority of workers have gone down in real terms while productivity has increased greatly. This is NOT the cause of our current economic malaise. I always look at purchasing power as opposed to nominal or “inflation-adjusted” (by CPI) numbers because they don’t tell the story accurately. If you look at purchasing power, the income of workers has gone down drastically over the past few decades.

Also, he says that debt should not increase faster than income, but since we have a fractional reserve banking system and debt-based monetary system where interest accrues every moment of every day, I’m not sure if this is possible (am I missing something here?).

[CA renter]

One more thing…

Spending is not everything. As with debt, how that money is spent matters greatly. Is everyone buying up existing assets in the hopes that some greater fool will pay more for those same assets at a later point in time? That’s not productive spending (or borrowing, if leverage is used).

Also, what percentage of that money is going to the people who create the goods and provide the services in an economy, and what portion is being skimmed off the top by those who control distribution channels, finance markets, and those who profit from the transaction without doing any of the work? If most of the money is going directly to the person providing the goods/services, that is healthy; but if most of the money is be siphoned off and shunted to those who already own a disproportionate portion of the world’s wealth/resources, then we are bound to find ourselves, once again, at the breaking point socially and economically.

This leads to unsustainable wealth/income gaps and debt burdens, which tend to go together, because income growth will fall further and further behind asset price growth as the rich accumulate more and more wealth and and then chase the same asset markets around the globe, pushing prices well above sustainable levels, and well beyond the reach of lowly workers whose incomes can’t possibly keep up with price increases.

I would argue that speculation is one of the most destructive forces in an economy. Speculation that is fed by massive amounts of debt is the surest way to destroy an economy and society. Not enough is said or done regarding speculation. That’s because those who hold the greatest wealth and power tend to be the winners in the speculative game. But that game is zero-sum, so everybody else will have to lose in order for them to win.

[FlyerInHi]

[quote=CA renter]
By allowing defaults to occur, asset prices tend to go down faster than wages, so workers and others on fixed incomes (the vast majority of those in the bottom half of the economy) gain purchasing power at the expense of the very wealthy. This shrinks the wealth/income gap while also reducing the debt burden of those who tend to have the most debt (relative to income).
[/quote]

Interesting long post. I don’t quite follow all the points you’ve made, but I’ll pick one.

On this one argument you made, is that just theoretical or can you show where it’s happened before.

You’re assuming debt goes away but assets remain with the borrower? The poor to average person has auto loans, a mortgage and some unsecured consumer debt.

How does default help people if they lose their cars and their houses?

Aren’t people at the bottom more likely to get laid off in a recession?

[Author]

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