Why Ray Dalio is backing gold and Bitcoin to hedge against the debt crisis

Billionaire investor Ray Dalio also thinks we could be set to experience an unsustainable imbalance in the supply and demand for debt. 

According to the Bridgewater Associates founder, the combination of the Japanese government looking to support the yen by selling off some of its US bond holdings, yields rising for long-dated US Treasuries alongside a weakened dollar, and Bessent’s announcement fit the template he laid out in his concerningly-named book How Countries Go Broke: The Big Cycle.

“The debt dynamics work the same for a central government as they do for a person or a company, except that a central government has a central bank that can print money (which devalues it) and it can take money away from people via taxes,” Dalio says.

“For these reasons, if you can imagine how the debt dynamics would work for you or a business you run if you could print money or get money from people by taxing them, you can understand the dynamic. But keep in mind that your goal is to make the overall system run well, not just for yourself, but for all citizens.”

What to watch

There are three main areas that Dalio says investors need to keep an eye on. The first of these is the amount of government debt service there is relative to government revenue.

Then there is the amount of government debt being sold relative to demand to buy government debt, followed by the amount of money the central bank prints to purchase government debt to cover the shortfall.

“These all typically increase in a long-term, multi-decade cycle of rising debt and debt service payments relative to incomes until that can’t continue because 1) debt service expenses unacceptably crowd out other spending, 2) the supply of the debt that has to be bought is so large relative to the demand to buy that debt that interest rates have to rise substantially, which sends the markets and the economy down a lot, or 3) rather than allow interest rates to rise and the bad market/bad economy outcome to happen, the central bank prints a lot of money and buys a lot of government debt to make up for the demand shortfall, which sends the value of money down a lot.”

The long story short is that until the money and the bonds become cheap enough that they attract demand again (or until the government can buy it back for cheap and restructure it) returns on bonds are going to be poor.

“Now, imagine that you are running a big business called the US government. That will give you a perspective that will help you understand the US government’s finances and its leadership’s choices,” Dalio says.

Under this scenario, revenue is US$5.5 trillion but expenses are US$7.5 trillion, leaving your “organisation” spending about 40% more than it's generating. On top of that, it’s hard to cut expenses and total debt is about six times your yearly revenue (US$32 trillion excluding intergovernmental holdings).

“The interest bill on the debt will be about US$1 trillion, which is about 20% of your enterprise’s revenue and half this year’s budget shortfall (deficit) that you will have to borrow to fund. But that US$1 trillion is not all that you have to give your creditors because, in addition to the interest you have to pay on your debt, you have to pay back the principal that is coming due, which is around US$10 trillion.

“You hope that your creditors will either relend or lend it to you. So, the debt service payments - in other words, the paying back of principal and interest that you have to do to not default - is about US$11 trillion, which is about 200% of the money coming in.”

It doesn’t look like it will get any better any time soon, either. In 10 years, that debt is expected to be around US$55-60 trillion.

Fixing the debt cycle

Dalio believes that the US financial situation is at an “inflection point” because it essentially has to be dealt with now or the debt will reach a point where it “can’t be managed without great trauma”.

“It is especially important that this operation happens while the system is relatively strong rather than when it is weak. That is because when the economy is in a contraction, the government’s borrowing needs increase a lot,” he says.

So, what’s the solution? According to Dalio, the key is to reduce the budget deficit to 3% of GDP, balancing spending cuts, tax increases, and interest rate cuts.

“All three need to happen concurrently so as to prevent any one from being too large because, if any one is too large, the adjustment will be traumatic. And these things need to come about through good fundamental adjustments rather than by force (e.g., it would be very bad if the Federal Reserve unnaturally forced interest rates down).”

A 5% cut in spending alongside an equivalent increase in tax revenue, plus interest rates falling in the range of 1-1.5% would lower interest payments by around 1-2% of GDP over the next decade.

What should investors do?

This isn’t exactly something that individual investors can actually do anything about, so what can you invest in to protect against the risks coming from the bond market? According to Dalio, the answer is gold and Bitcoin.

“Most economies have similar debt and deficit problems. The UK, the EU, China, and Japan all do. That is why I expect a similar debt and currency devaluation adjustment process in most economies, which is why I expect non-government-produced monies like gold and Bitcoin to do relatively well.”

That shouldn’t be too shocking for anyone watching markets, as both assets have experienced sharp growth over the last week to reach their highest levels since May.

“As general advice, I suggest diversifying well in asset classes and countries that have strong income statements and balance sheets and are not having great internal political and external geopolitical conflicts, underweighting debt assets like bonds, and overweighting gold and a bit of Bitcoin,” Dalio adds.

“Having a small percentage - maybe 10-15% - of one’s money in gold can reduce a portfolio’s risk, and I think it would also raise its return.”