Bridgewater Associates Founder Ray Dalio talks with Yahoo Finance reporter Julia La Roche on the current state of the world as well as the 2020 election and U.S. monetary policy.

Video Transcript

- Ray Dalio is one of the most influential investors in the world today he started his company Bridgewater out of his two-bedroom apartment in New York City in 1975 and has grown it into the world's largest hedge fund.

Dalio is the author of "The New York Times" number one best-seller, "Principles, Life and Work," in which he shares a blueprint for success, personal and professional. Dalio is an active philanthropist and conservationist, with a special interest in ocean exploration and conservation.

JULIA LA ROCHE: I'm pleased to bring in our next guest, Ray Dalio, the founder of Bridgewater Associates, the world's largest and most profitable hedge fund firm. Ray is also a well-known philanthropist and an author of multiple books. Ray, it's great to have you with us.

RAY DALIO: So nice to be here.

JULIA LA ROCHE: So I mentioned at the top that you're an author of multiple books, and I know that you're writing one now, called "The Changing World Order." And you've been talking about three forces at play that were here pre-pandemic. Would love for you to share your world view with our viewers and listeners.

RAY DALIO: Yeah, I do research. And so this is a study that I've been doing. And then I've decided to share it with people because I think it's so important. Yeah, a number of years ago, first with 2008, we got into a monetary situation, of course, where we're printing money, creating a lot of debt, monetizing it.

And then, populism emerged around the world. And President Trump, who is more of a populist, emerged. And it affected tax policy. It affected markets in a lot of different ways. And that led me to realize that there are three big things that are going on in the world that are dominant. And then COVID came along.

Those three forces are, first, the long-term debt and monetary cycle, which I mean they-- creating a lot of debt, monetizing it, and the implications of that, which reverberate through the system in terms of all the markets and everything.

The second is this conflict, this polarization, this wealth gap, and how we're at each other's throats. And I looked at the wealth gap, and I looked at a lot of measures of conflict going back in time. And I found that they were in the 1930 to '45 period. The printing of money, as I described in debt monetization, was also in the 1930 to '45 period.

And the third big influence is the rise of China, so the rise of a great power, challenging an existing great power, the United States. And that has enormous implications. As investor, I think, what are the relative appeals of the markets? But it has a lot of implications. It's not just a trade war. So the markets and everything were reverberating-- the trade war, the technology war, the geopolitical war in Taiwan and the South China Seas, and then also the capital war. We're seeing that emerge.

So those three factors required me to then go back in history. And I wanted to study the rises and declines of reserve currency empires. So I needed to go back far enough that I would have a few. So I had to go back 500 years so I could see the rise and decline of the Dutch empire and its reserve currency, the rise and decline of the British empire and its reserve currency, the rise and beginning of decline for the United States and its reserve currency, and China.

And so those are the forces. And that's what I did, which you're referring to. And by the way, that's available for anybody to read on LinkedIn.

JULIA LA ROCHE: So to recap, it's the high levels of debt, extremely low interest rates, the large wealth gaps and political divisions, and the rising world power, which was China, versus this kind of overextended power being the US. And I just heard you say, Ray, in that thesis there that you said this was the most analogous to the 1930, 1945 time period. Of course, if we go back in history, we understand what happened. And that sounds really concerning.

RAY DALIO: Well, it is really concerning. And it's even more concerning when I went back to find the 500 years in the times that repeated over and over again. And what I found was, there's a cycle. There's a big cycle. You know, you start a new world order. In 1945, we began a world order. After the war, they decided how the world would be divided. They created the dollar as the world's reserve currency, and so on.

And then, because there's so much fighting and then you've established a power that is a dominant power, you have a period of peace and prosperity. And then that gets extrapolated. And it leads to more debt. Fear of bad times diminishes. Opportunities of borrowing and getting in debt, particularly if you have a reserve currency, because the world wants to save and have a reserve currency. And that gets the country deeper and deeper in debt.

And so you have those debt increases and you have bubbles, but you have prosperity. And bubbles are really fun. They're really enjoyable. They're great. But then you get to the point that there is a limitation to that. And those limitations start become apparent when the central bank can't easily produce money and credit. That starts when you hit zero interest rates. Because then you can't do it the same.

OK, then you go to what-- monetary policy one is interest rate monetary policy. When that doesn't work anymore, you go to the next type of monetary policy, which is printing money and buying financial assets. But that financial-- purchases of financial assets, another thing, widen the wealth gap because those who have financial assets do better than those who don't have financial assets. And you have a wider and wider wealth gap.

And when you have that wider wealth gap and then you have another downturn in an economy, that's a formula for a lot of conflict. And so that's what we see. So what does a central bank then do? If it taxes, it takes money out of the economy, that's not good. It's a problem. And if it cuts expenses, that's [INAUDIBLE]. That's a problem.

So the central bank always, through history-- this goes back literally thousands of years. The central bank, or the entity that controls money, then prints more money. Think of it. We got all those checks in the mail, and we needed to get all those checks in the mail. But you can't take it away from anybody. So where does it come from, and what are the implications?

So that happens for logical reasons. And it often happens at the same time as there's a rising power externally as a competitor, which is a challenge in that environment. So yes, it's one of those times. And I think people are not aware of it.

Because I learned from my experiences that many things that happened in my lifetime that surprised me never happened in my lifetime before. But they happened many times before, and in history. And that if I would go back in history, I could see that.

The first time that happened was in 1971. I was clerking on the floor of the New York Stock Exchange. And Richard Nixon gets in front of the camera and says we're not going to give you the gold and devalues the dollar. And I walked on the floor of the Stock Exchange. I figured there was a big crisis.

And I walked on the floor of the Stock Exchange, and the stock market was up 4%, which was the most in a couple of decades. And I said, wow, that's surprising. And then I found out that Roosevelt did the exact same thing on March 5, 1933.

And what was done in those two times is the same thing that was done on April 9th of this year when the federal government and the Federal Reserve decided to produce a lot more money and credit. So yes, you need these perspectives, and I want to pass that along, which is why I'm passing along that research on the LinkedIn piece.

JULIA LA ROCHE: Yeah, and it's always interesting, especially when you mentioned a mistake that-- 1971 on the floor of the Stock Exchange, what you thought was happening or going to happen, and it didn't. So you looked back in history and did this deep study.

A couple of things I'd like to kind of double click on here, Ray-- monetary policy. You were just talking about monetary policy one, monetary policy two. And, you know, when you think about what's happened, first, you had the low interest rates. You couldn't go any lower. So then you had to purchase the financial assets. You mentioned it benefits the wealthier because they own the stocks.

So I guess, are we exacerbating wealth inequality here? And do we need a rethink of monetary policy that's more targeted, that actually can help stimulate those who really need it?

RAY DALIO: Well, that's what monetary policy three is. The monetary policy one is interest rate based. Monetary policy two is the classic quantitative easing. Federal Reserve buys, or central banks buy financial assets.

Monetary policy three, which is now what we are seeing and what is needed, is the production of that debt through government borrowing and the government direction of those checks to those who need it most. That's what we just saw. And that being then monetized by the central banks.

And so we're in a new era, OK, of monetary policy three, as I call it. Monetary policy three will mean that the free market will play a much less role in determining those capital market flows that the government, as we come into the future, will be thinking, how do I get that money to those who need it the most?

So it will be a highly political decision, much more political than it was in the past. And that the central bank then will monetize those political decisions. So monetary policy three means there's that type of cooperation. So those are the two dimensions of the big change environment.

You're going to see much more government influence and direction of where money goes, which will have a big impact on not only the economy, but of markets. You have to watch what they're going to spend their money on, and have to watch where they're going to get their money from, what taxes and so on. It means the government will play a bigger role.

And it also means that there will be much more debt that is monetized. And that has implications for the value of financial assets. It has implications for the value of the currencies and so on.

JULIA LA ROCHE: Let's unpack that further, the monetization of the debt and what the implications could be. I mean, you're talking about, you know-- of course, when we think about the US, we have the world's reserve currency. That sounds like that status is very much, I guess, is it under threat here? Is that what you're essentially saying?

RAY DALIO: Yes. If you look at those arcs, there are many characteristics of those. But when you get to the end of the arc, if money is hard, when it was connected to gold, or it was gold, they always broke that link. And if it was soft, they would always print more money.

And you can't raise living standards by printing more money. You can redistribute it. Certainly the money that is being received by those in the form of checks, and they go out and spend it, helps their living standards.

But what it does is it diminishes the value of that cash, and it diminishes the value of bonds because bonds are a promise to receive a lot of currency. And it shifts wealth to financial assets. It always send stocks higher, like my 1971 level-- lesson. It always sends gold higher. And it always shifts the impact of currency.

So when we're looking at this, we're going to also see, I think, the rise of the increased importance of China's renminbi as a currency. It's got a long way to go before it's going to be a reserve currency. But I think that one of the important things to see is that you're going to see favorable capital flows for China.

And if you do a comparison of their markets where their interest rates are, where their capital markets, who's doing IPOs, you know, nearly half of the IPOs, depending-- we'll find out, but something like 45% of the IPOs that will be done in China's markets, Shanghai and Hong Kong, this year, new offerings. That will drive cap.

And more and more, you're going to see the internationalization of the renminbi. You're going to see capital flows move in those directions. And those kind of analogous movements have repeated through history.

JULIA LA ROCHE: And then, I guess, tying it back to the investors who are watching, a lot of retail investors and a lot of folks who are of my generation as well, how should they be thinking about this? It sounds like, you know, the kind of-- I guess the outperformance that we've seen in the US stock market for so long, they need to kind of think beyond the US. Is that what I'm also hearing?

RAY DALIO: Well, I think first-- the most important thing is to realize, first, cash is a risky asset. I think so many people think if I go to cash, I'm going to be safe because it's much less volatile. But please realize in this environment of producing a lot more cash, the real returns go down. It's a seductive, risky asset.

Because let's say relative to inflation, you might get taxed 2% a year. And as you're taxed 2% a year, that's a huge amount of money over time, but it's a subtle tax. So first, watch that. Think about, OK, currency issue or the value of money issue.

Then, in terms of that, yes, you want to diversify to store holds of wealth. And the second big thing is diversify well. Diversify well into diversify of asset classes, but diversify of countries. Diversify currencies. So think about diversification.

If you diversify well, you lower your risk without lowering your expected returns, if you know how to do that well. But I would say, you know, what are the three main things? I don't know. Diversify, diversify, diversify, I would say. So I would-- those would be kind of the main headlines that I'd like to pass.

JULIA LA ROCHE: And of course, you know, we're heading into an election in just a matter of days. And you have to wonder some of the themes that we've talked about here, whether it's the wealth gaps, the political gaps, the populists on the left and the right, how do you think about the election and, I guess, the scenarios and the probabilities and how that might play into some of these bigger themes that we have talked about earlier?

RAY DALIO: Well, first of all, I think, like, what is the most important thing for the United States? And I think the most important thing of the United States is to do the fundamental things right-- we'll talk about that in a second-- and also to come together. I'm most concerned about one side trying to beat the other side and doing damage.

Because history has shown that when you get those gaps, those wealth gaps and the values gaps and anger, you do get demonstrations. You do get violence. And you can move to the point that the respect for the system is not good.

I have a principle which is, when the causes that people are behind are more important to them than the system, the system is in jeopardy. So bringing it together and making sure that we can do that, I think is of paramount importance.

Then what are the fundamentals? The fundamentals-- there's so many important fundamentals, but let me go through the important ones. Are you going to earn more than you spend so that you're going to build-- we as a country. Are we going to earn more than we spend so that we build our balance sheets? That's important.

For every individual, for every company, for every organization, and for every government, you can judge the health by-- the financial health by those things. Then you have to go to the fundamentals that produce those things. And they start with educating your children well, broad-based. I think broad-based, good public education.

And civility. When I say education, I don't just mean that you know how to read and write and all of those things. That's very important, of course, but also to behave civilly with each other because societies that row in the same direction with a common mission, like an American dream, work better. And so I believe it starts with education and, you know, the basics, basically.

Now I was lucky to have-- I went to a public school. I had parents who cared for me and loved me and taught me some values. And so much, those things are the most important fundamentals, save more than, you know, those things. If we can do that, that will be the most important thing. Because wherever we are in relation to China or any place is going to be dependent on how we are with ourselves to do those fundamental things correctly.

JULIA LA ROCHE: Ray Dalio, founder of Bridgewater Associates, thank you so much.