Where Does Ray Dalio Go Wrong in Understanding National Debt?

Chief Economist of BoC International Xu Gao argues China Should Increase Debt and Government Spending, Not Deleverage, to Boost Insufficient Domestic Demand

A prominent Chinese economist is challenging conventional wisdom about debt, arguing that China should abandon its deleveraging policies and instead embrace strategic debt expansion to boost its economy.

Xu Gao徐高, Chief Economist at BoC International, uses a critique of renowned investor Ray Dalio's debt theories to make the case that China's approach to managing national debt is flawed. While Dalio warns that excessive debt inevitably leads to crisis and advocates for "deleveraging," Xu argues that this microeconomic thinking fails when applied to countries like China.

Xu Gao, Chief Economist at BoC International

According to Xu's analysis, China's combination of excess production capacity and insufficient domestic demand creates a unique situation where increased government spending and debt expansion are not only safe but necessary. He argues that China actually needs more debt, not less.

Recent debt servicing issues in China aren’t due to excessive debt risking a crisis but to overly harsh deleveraging creating liquidity problems. With deleveraging already weighing on the economy, China needs not more deleveraging but a correction of that mindset.

He writes. This directly contradicts the conventional approach that has guided many policies in recent years.

The argument represents a significant departure from mainstream thinking and suggests China should fundamentally rethink its economic strategy as it grapples with persistent deflationary pressures. Thanks to Xu's kind authorization, I’m able to present this English translation.

https://mp.weixin.qq.com/s/Jmam37zOGfv1m6OFTfeQJg

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• There are three levels of thinking to understand debt issues. The first level, microeconomic thinking, recognizes that the prerequisite for a microeconomic entity’s debt sustainability is that its cash flow can cover the principal and interest payments of its debt at any point in time. The second level, macroeconomic thinking, realizes that for a country, the real constraint on debt lies in its production capacity—countries with overcapacity and insufficient domestic demand have sustainable debt, while those with insufficient capacity and excessive domestic demand have unsustainable debt. As the issuer of the international reserve currency, the United States’ debt constraint is not even tied to its supply capacity but to “dollar hegemony.” This is the third level of thinking: the perspective of the international monetary system.

• Ray Dalio, the founder of Bridgewater Associates , the world’s largest hedge fund, is a world-renowned investor. His core view on debt is that any economy—be it a company or a country—will face debt crisis troubles if it accumulates excessive debt. To reduce the risk of such crises, he advocates compressing debt through “deleveraging” measures. However, Dalio makes two serious methodological errors in analyzing macroeconomic issues: (1) He mistakenly applies microeconomic thinking to macroeconomic problems, keeping his analysis of national debt stuck at the first level of microeconomic thinking; (2) He wrongly sees the macroeconomy as a machine, missing the differences in macroeconomic logic under varying conditions. These methodological flaws lead to numerous misconceptions about national debt.

• Dalio’s mistakes in macroeconomic analysis are highly representative, reflecting traps many people fall into without realizing it. Though everyone lives within a macroeconomy, its operational logic is unfamiliar, even bizarre, to most. The first step to understanding it is acknowledging one’s ignorance about it. Overcoming that ignorance requires learning. Dalio’s failure to recognize his own ignorance and his unreflective “taking things for granted” are the root of his errors. Macroeconomic analysis should lean less on intuition and more on logic, be cautious with common sense, and prioritize knowledge. Only then can one avoid pitfalls, grasp the truth, and make sound judgments on issues like national debt.

Born in August 1949, Ray Dalio is the founder of Bridgewater Associates , the world’s largest hedge fund, and a globally celebrated investor. Dalio is a prolific writer, having published several best-selling books. In 2018, the Chinese edition of his book Principles was released [1] and topped the 2018 Douban Annual Business and Management Books List [2]. Dalio has consistently focused on debt issues, particularly the risks of debt crises following excessive accumulation. In 2019, he published the Chinese version of Debt Crisis: My Coping Principles [3]. In 2025, his latest work, Why Nations Go Bankrupt: The Big Cycle , came out in Chinese [4].

Dalio believes that any economy—whether a company or a country—will run into debt crisis trouble if it piles up too much debt. To lower the risk of such crises, he suggests shrinking debt through “deleveraging.” In Why Nations Go Bankrupt , Dalio writes: “The difference between sustainable and unsustainable debt cycles lies in whether the debt creates enough income to cover the debt service costs.” (Page 47). He also states: “Debt is essentially a promise to pay money. When the total promises exceed the available funds, a debt crisis erupts. At that point, the central bank faces a choice: (a) print lots of money, leading to currency devaluation, or (b) stop printing, triggering a massive debt default crisis. History shows central banks inevitably choose the former—printing money and accepting devaluation—but whether through default or devaluation, excessive debt accumulation ultimately reduces the value of debt assets (like bonds).” (Page 11).

Though Dalio’s take on national debt feels intuitive and has many supporters, it’s misleading. His problem isn’t just that he reaches some flawed conclusions about national debt; it’s his misuse of methodology in macroeconomic analysis. He improperly uses microeconomic thinking for macroeconomic issues, leading to wrong conclusions from a flawed approach. Below, we’ll unpack his methodological errors through an analysis of debt.

I. Three Levels of Thinking to Analyze Debt Issues

Debt can be understood at three levels: microeconomic thinking, macroeconomic thinking, and international monetary system thinking.

Let’s start with the first level: microeconomic thinking. This is the logic people naturally turn to when considering the debt of microeconomic entities (individuals or companies), and it aligns with intuition. For a microeconomic entity, debt sustainability hinges on whether its cash flow can cover principal and interest payments at any time. If it can’t, the entity defaults, sparking a debt crisis. At this level, Dalio’s claim that “whether debt creates enough income to cover debt service costs” is indeed a key test of sustainability.

Next, the second level: macroeconomic thinking. When we shift focus to the debt of macroeconomic entities (countries), microeconomic thinking no longer applies. At the macro level, you have to account for economic mechanisms ignored in micro analysis. As we’ll explain, a country’s debt constraint isn’t about cash flow but its production capacity—a nation with production capacity exceeding domestic demand (in a state of insufficient domestic demand) has sustainable debt.

A country’s debt is the sum of debts from three sectors: residents, companies, and the government. Among these, the government is the last line of defense before a debt crisis. If residents and companies rack up too much debt they can’t repay, the government can step in with policies to prevent a crisis. But if the government can’t manage its own debt, a crisis becomes hard to avoid. Thus, a country’s debt sustainability hinges on the government’s debt sustainability.

For microeconomic entities (individuals and companies), cash flow is largely fixed externally—they can’t just generate more at will. This fixed cash flow is a hard limit on their debt. But a national government is different. With the power to issue its own currency, it can, in theory, print as much local currency cash flow as it wants. In other words, the government’s local currency cash flow is endogenous, under its control. It can always print money to pay off local currency debt, avoiding default.

Some might grumble here: if governments can just print money to solve debt problems, why do debt crises still happen? Take the 2011 “European debt crisis” in the Eurozone —countries like Greece, Italy, and Spain saw their sovereign debt default risks spike and bond prices plummet. A key reason was the Eurozone ’s creation, which stripped member states of their currency-issuing powers. Greece and others couldn’t print money because the European Central Bank took away their printing presses, leaving them unable to repay national debt in their own currency. Yet even sovereign governments with currency-issuing rights don’t always escape debt troubles by printing money. The 1997 “Asian financial crisis” in Thailand, Malaysia, and other Asian nations is a case in point.

Whether a government can print money to fix debt depends on whether doing so destabilizes the macroeconomy, which then limits currency issuance. In a country with excessive domestic demand and insufficient capacity (where production falls short of domestic demand), printing more money boosts nominal purchasing power, ramps up demand, and fuels demand-driven inflation. If inflation isn’t tolerable, the country must import more, bringing in goods from abroad to offset the supply gap. This inevitably widens the trade deficit and speeds up foreign debt buildup. Foreign debt must be priced and repaid in international hard currency (mostly the US dollar ). Except for the United States, no country can issue dollars. When a government’s foreign debt balloons and its dollar reserves run low, it faces a balance of payments crisis—aka a foreign debt crisis.

So, in a country with excessive domestic demand, printing money either spikes inflation or triggers a balance of payments crisis, both threatening macroeconomic stability. In such cases, the government can’t repay local currency debt by issuing more money. The bigger the domestic debt, the higher the crisis risk.

But a country with insufficient domestic demand and overcapacity can entirely avoid debt crises. First, such a country typically runs trade surpluses year after year, building credits against other nations and dodging foreign debt issues. Second, with low domestic demand, printing money doesn’t cause excessive inflation (it might even ease deflationary pressure) or destabilize the economy, allowing the government to repay domestic local currency debt by issuing more currency. This aligns with the state described by Modern Monetary Theory ( MMT ), which gained traction in recent years [5]. Thus, in economies with insufficient demand, there’s no inevitable link between domestic debt size and debt crises. With proper government handling, even high domestic debt won’t spark a crisis. Some casually say “domestic debt isn’t debt,” and that’s the logic behind it.

Thus, a country’s debt constraint lies in its production capacity—this is the core takeaway of the second level, macroeconomic thinking. Countries with overcapacity (insufficient demand) face neither foreign debt woes nor repayment pressure on local currency debt, so crises don’t arise. Conversely, a country with insufficient capacity (excessive demand) and high debt struggles to avoid a crisis.

Though we’ve shown how economies with insufficient demand can repay local currency debt by printing money, a bit more explanation might help convince skeptics intuitively that, in such cases, domestic debt—however large—remains sustainable. First, understand that debt channels savings into investment: debt demands savings, and savings supply debt. To judge if debt is excessive, don’t just look at its size—compare it to savings. If domestic savings fall short of domestic debt, even small debt is too much; if savings exceed debt, even large debt isn’t enough.

In my article “The Logic and Way Out of China’s Economy,” published on January 16, 2025, I wrote: “Insufficient effective demand is, at its root, an income distribution issue, stemming from a mismatch between purchasing power and spending desire caused by the income distribution structure—entities with purchasing power lack spending desire, while those with spending desire lack purchasing power.” [6] The fact that an economy has insufficient demand shows that, even with debt’s demand for savings, savings remain excessive, meaning total purchasing power isn’t fully turning into demand. Printing more money here just taps into excess savings, stabilizing the macroeconomy. This is why countries with insufficient demand can avoid debt crises.

Finally, the third level: international monetary system thinking. The macroeconomic level helps us understand debt issues globally, except for the United States. As the issuer of the US dollar , the top international reserve currency, the US can borrow foreign debt in its own currency. Its debt constraint isn’t even its supply capacity—it’s “dollar hegemony.”

As noted earlier, a country with excessive demand that doesn’t want inflation must import goods via a trade deficit to cover its supply shortfall. This piles up foreign debt, risking a balance of payments crisis. That crisis makes foreign debt a tight constraint for most nations—but not the US. By borrowing foreign debt in US dollars , it can repay by printing more dollars. So, despite its national debt climbing to high levels and long-term trade deficits, the US faces a very low risk of debt crisis. As long as the US dollar remains accepted as the global reserve currency and nations keep holding dollars, US debt stays sustainable.

Thus, only threats to “dollar hegemony” pose debt risks to the US. As I analyzed in my May 8, 2025, article “Deep Understanding of the Logic and Impact of the US Tariff War,” the hollowing out of US industries and this year’s “reciprocal tariff” policy are long- and short-term factors threatening “dollar hegemony” and, in turn, raising US debt risks. [7]

II. Where Does Dalio Go Wrong?

With the three levels of thinking for analyzing debt issues in mind, we can now revisit where Dalio goes astray. Dalio makes two serious methodological errors in his macroeconomic analysis:

1. He mistakenly applies microeconomic thinking to macroeconomic problems, keeping his analysis of national debt stuck at the first level of microeconomic thinking.

2. He wrongly views the macroeconomy as a machine, failing to see how macroeconomic logic shifts under different conditions.
   These methodological flaws lead to numerous misconceptions about national debt.

Dalio’s core logic in analyzing national debt is that when a country accumulates too much debt, it will face a debt crisis. His criterion for whether debt is excessive is whether the income generated by the debt can cover its costs. This is microeconomic thinking, applicable to individuals and companies. While this logic feels intuitive, it can’t be blindly applied to national debt. Macroeconomics often defies intuition and common sense—especially when an economy faces insufficient demand and overcapacity. As previously analyzed, for countries other than the US, supply capacity is the true constraint on debt, while for the US, it’s “dollar hegemony.” Despite the 360,000 words in Why Nations Go Bankrupt, Dalio misses these crucial points, reflecting his limited perspective due to methodological errors.

Of course, as the founder of a macro hedge fund, Dalio’s book does include analyses of various macroeconomic phenomena. For instance, in Why Nations Go Bankrupt, he discusses central bank interventions in debt, as well as the impacts of banking, credit, interest rates, and even geopolitics on debt cycles. However, his analyses remain rooted in a microeconomic framework—essentially micro analyses dressed in macro clothing.

Dalio’s second methodological error is treating the macroeconomy as a machine. This mistake is partly tied to the first, by not seeing a fundamental difference between the macroeconomy and a micro machine, he applies micro thinking to macro issues. Back in 2008, Dalio wrote a widely circulated report titled How the Economic Machine Works [8], which opens with “The economy is like a machine.” The first section of Chapter 1 in Why Nations Go Bankrupt (2025) is also titled “How the Machine Works.”

Treating the macroeconomy as a machine is a mechanistic approach long disproven and abandoned by economists over half a century ago. The macroeconomy is not a machine! If you must think of it that way, it’s a bizarre one—its internal structure and parameters change based on how it’s operated. Imagine a strange car: when the driver rarely steps on the gas, occasional presses speed it up. But if the driver keeps flooring it, pressing the gas no longer accelerates—it might even slow the car down (the gas pedal turns into a brake). That’s the macroeconomy. You can’t fully grasp it with everyday car logic.

The macroeconomy is a strange “machine” because it’s made up of living, breathing people who have expectations about the future and change their behavior based on those expectations. When expectations shift, behavior follows, altering the “machine’s” structure. A famous example is the disappearance of the “Phillips curve.” In 1958, New Zealand economist Phillips found a negative correlation between inflation and unemployment in UK data, later named the “Phillips curve.” Economists found this in other Western nations and accepted it as an economic “iron law.” But in the 1970s, as governments increasingly used the curve to manage the economy—trying to lower unemployment by raising inflation—the curve vanished, and Western nations fell into “stagflation” (high inflation and high unemployment).

Economists later realized that in the 1950s and 1960s, the Phillips curve existed because people expected low inflation. Back then, rising inflation was seen as a sign of economic improvement, prompting firms to hire more and lower unemployment. But when governments actively pushed up inflation, expectations changed. High inflation was no longer seen as a positive signal but as the government “fooling” the public. Thus, inflation no longer spurred hiring or reduced unemployment. The Phillips curve’s disappearance sparked the “rational expectations revolution” in macroeconomics during the 1970s, leading economists to ditch the mechanistic view of the economy.

This lesson isn’t just for economists—it’s for anyone trying to understand the macroeconomy: don’t imagine it as a machine. Causal links and reactions in the macroeconomy can shift with changing conditions. Dalio makes this mistake, assuming specific actions always lead to specific outcomes. He claims that when central banks print money to stave off debt crises, it inevitably leads to currency devaluation (Why Nations Go Bankrupt, page 11). But as we’ve seen, that’s not always true. Printing money can lead to currency depreciation or appreciation, depending on the macroeconomic context—especially whether demand is insufficient. By wrongly assuming a mechanical link between money printing and devaluation, Dalio doubts central banks’ ability to solve debt crises through printing, leading him to believe high national debt inevitably causes crises.

This mechanistic view leads to other errors. For example, in Chapter 18 of Why Nations Go Bankrupt, Dalio proposes his “3% solution”—arguing the US should cut its fiscal deficit to 3% of GDP. Behind his seemingly complex calculations is a key assumption: there’s an ideal level for a country’s fiscal deficit (he thinks 3%). Many share this idea, wondering: what’s the right fiscal deficit or debt level for a country? But this is the wrong question—it assumes a one-size-fits-all answer, steering thought down the wrong path.

In reality, the appropriate fiscal deficit and debt level depend on a country’s macroeconomic conditions. There’s no timeless, universal standard. Seeking one is not only futile but dangerous, as it leads people to overlook the actual economic context and the need for case-by-case analysis.

There’s a Chinese saying: “A weak foundation leads to collapse.”(基础不牢，地动山摇) In analysis, methodology is the foundation. Get it wrong, and your conclusions crumble. Dalio’s errors in Why Nations Go Bankrupt stem from his flawed macroeconomic methodology. His misleading conclusions, wrapped in seemingly solid logic and data, are more deceptive and dangerous than obvious fallacies like “debt is opium” [9].

Here are two examples of his errors:

• First, his misjudgment of US debt risk. On page 289, Dalio says: “Currently, I judge the long-term debt risk of the US government to be very high because current and expected government debt, debt service costs, new debt issuance, and debt rollover scales are all at historic highs, with significant rollover risks ahead. In fact, I believe the US government’s debt situation is approaching an irreversible tipping point… triggering a self-reinforcing debt ‘death spiral.’” Using microeconomic thinking to view US debt does suggest this. But understanding “dollar hegemony”’s support for US debt prevents such a bleak judgment based solely on debt size. Unless the US government makes blunders that erode global confidence in the dollar, US debt isn’t nearing a “death spiral” threshold.

• Second, his misjudgment of China’s debt risk. On page 248, Dalio says: “Ideally, China’s policymakers should have both the ability and courage to quickly achieve ‘harmonious deleveraging.’” He clearly thinks China’s debt is too high and needs “deleveraging” to reduce risk. But he overlooks that in China’s current environment of insufficient demand and excess savings, debt accumulation is reasonable and necessary. In fact, overly strict deleveraging measures in recent years have curbed reasonable debt growth, hindering the conversion of savings into investment, worsening demand shortages, and pressuring growth and prices downward. Recent debt servicing issues in China aren’t due to excessive debt risking a crisis but to overly harsh deleveraging creating liquidity problems. With deleveraging already weighing on the economy, China needs not more deleveraging but a correction of that mindset [10].

III. The First Step to Understanding the Macroeconomy Is Recognizing Your Ignorance

Dalio’s mistakes in macroeconomic analysis are highly representative—traps many fall into unknowingly. This is evident from his sizable following both domestically and internationally. His analyses resonate because they align with intuition and common sense, but that’s precisely why they’re wrong.

Macroeconomic research seems accessible—everyone lives in a macroeconomy and has some understanding from their perspective. This creates an illusion that the macroeconomy is familiar and can be grasped intuitively. But daily experiences are microeconomic—how to handle personal finances or run a business—not macro issues like designing policy. People sense macroeconomic changes, but these are just reflections through their micro environments, not the full picture.

Nobel laureate Paul Krugman wrote an insightful piece in 2014, “Successful Businessmen Don’t Understand Macroeconomics” [11], highlighting the gap between everyday experience and macroeconomic logic. He says: “A country is not a company. National economic policy, even in a small country, must consider feedback effects often irrelevant in business. For example, even the largest company sells only a small fraction of its products to its own employees; yet even the smallest country sells most of its goods and services domestically.”

Imagine a company struggling with declining demand due to a market downturn. Basic economic sense says it should cut costs to preserve profits and survive the “winter.” No one would suggest raising employee wages—that’s a tiny fraction of customers, and it would just hike costs and risk bankruptcy. As Krugman notes, “even the largest company sells only a small part of its products to its own employees.”

But if a country faces insufficient demand, the right move isn’t cutting costs but expanding spending. As Krugman points out, “even the smallest country sells most of its goods and services domestically,” creating feedback between spending and income. If the government gives money to residents, their income and spending rise, boosting demand, growth, and tax revenue. This “boomerang effect” can even make the government richer by spending more—a counterintuitive outcome.

This simple comparison shows how macroeconomic logic differs from daily experience. Though everyone lives in a macroeconomy, its workings are alien to most. Thus, macro analysis should rely less on intuition and more on logic. Logic helps grasp unfamiliar things; intuition can mislead. Macro analysis should also be wary of common sense—widely accepted beliefs. But for something as misunderstood as the macroeconomy, common sense is often just microeconomic intuition, not macro truth.

The first step to understanding the macroeconomy is admitting your ignorance. Ignorance isn’t scary; not knowing you’re ignorant is. Dalio and many others err by not recognizing their ignorance, unconsciously applying microeconomic thinking to macro issues. Acknowledging ignorance prompts caution against “taking things for granted,” preventing missteps.

Overcoming ignorance requires learning. If Dalio understood why the Phillips curve disappeared, he might drop the “macroeconomy as a machine” view. But learning isn’t about adopting one school of thought—it’s about combining theory and practice to form a framework that fits reality. Current Western mainstream macroeconomics is dominated by the “New Neoclassical Synthesis,” which essentially views the macroeconomy through a micro lens. Its models feature “representative consumers” and “representative firms,” but lack the feedback effects (boomerang mechanisms) that define macroeconomics. This works for supply-constrained Western economies but not for demand-constrained China. Truly understanding China’s economy requires breaking free from Western mainstream macro and drawing from various schools, focusing on the dialectic between supply and demand to find China’s key constraints and core logic [12].

Failing to recognize one’s ignorance and unreflectively “taking things for granted” is a common error in macro analysis. If someone as esteemed and experienced as Dalio can make this mistake, others should be even more vigilant. Macroeconomic analysis should lean less on intuition and more on logic, be cautious with common sense, and prioritize knowledge. Only then can one avoid pitfalls, grasp the truth, and make sound judgments on issues like national debt.

References

[1] Dalio, 2018, Principles, CITIC Press, ISBN: 9787508684031. Book details: https://book.douban.com/subject/27608239/.
[2] https://book.douban.com/annual/2018/#16.
[3] Dalio, 2019, Debt Crisis: My Coping Principles, CITIC Press, ISBN: 9787521700077. Book details: https://book.douban.com/subject/30486499/.
[4] Dalio, 2025, Why Nations Go Bankrupt: The Big Cycle, CITIC Press, ISBN: 9787521776829. Book details: https://book.douban.com/subject/37370552/.
[5] Modern Monetary Theory (MMT) is a non-mainstream macroeconomic idea. It challenges mainstream views that fiscal policy must be balanced, excessive debt burdens future generations, and monetizing deficits causes inflation. Instead, it argues fiscal spending should prioritize employment and welfare. Like mainstream theories, MMT has specific conditions for applicability. It holds in economies with insufficient demand but not in those with excessive demand. Discussing MMT without context misses the point.
[6] Xu Gao, January 16, 2025, “The Logic and Way Out of China’s Economy,” https://www.bocichina.com/main/a/20250117/950115.shtml.
[7] Xu Gao, May 7, 2025, “Deep Understanding of the Logic and Impact of the US Tariff War,” https://www.bocichina.com/main/a/20250512/1542228.shtml.
[8] Dalio, 2008, How the Economic Machine Works, https://orcamgroup.com/wp-content/uploads/2013/08/How-the-Economic-Machine-Works-A-Template-for-Understanding-What-is-Happening-Now-Ray-Dalio-Bridgewater.pdf.
[9] For the bizarre claim likening debt to opium, see my February 14, 2023, article “Comparing Debt to Opium Is Absurdly Wrong,” https://baijiahao.baidu.com/s?id=1757770387214248742&wfr=spider&for=pc.
[10] My June 28, 2023, article “A Comprehensive Correction of China’s Debt Perception Is Needed” details the macro logic for analyzing China’s debt issues.
[11] Krugman, November 4, 2014, “Successful Businessmen Don’t Understand Macroeconomics,” http://finance.sina.com.cn/stock/usstock/c/20141104/155920728159.shtml.
[12] See my June 25, 2025, article “The Dialectic of Supply and Demand”.