Ray Dalio Depth Analysis of Tariff Impact: The Adjustment Process is Likely to be Accompanied by Severe and Unconventional Changes

Original Title: “The Effects of Tariffs: How the Machine Works” Written by: Ray Dalio, Founder of Bridgewater Associates Compiled by: Rhythm Xiao Deep

Editor’s Note: This article systematically analyzes the multiple impact mechanisms of tariffs: the basic level includes six major effects such as fiscal revenue, efficiency loss, inflation differentiation, and industrial protection; the deeper impacts depend on the dynamic adjustments of countermeasures by various countries, exchange rates, and monetary fiscal policies. The article points out that global imbalances must be resolved through drastic adjustments, with long-term effects depending on market trust and national competitiveness, and particularly discusses the debt dependency issue brought about by the privilege of the U.S. dollar, predicting that China and the U.S. may reach a monetary agreement through non-market means, triggering complex policy chain reactions.

The following is the original content (the original content has been organized for easier reading and understanding):

Tariff is essentially a special tax, and its impact is mainly reflected in the following six basic levels:

1. Revenue generation function: Shared by foreign producers and domestic consumers (the specific sharing ratio depends on the elasticity of demand from both sides), this dual tax base characteristic makes it a very attractive fiscal tool.

2. Efficiency Loss: Reducing Global Production Efficiency

3. Inflation differentiation: creates stagflation pressure on the global economy, causes deflationary effects in taxed countries, and exacerbates inflation in taxing countries.

4. Industry Protection: Enhancing the competitiveness of enterprises in the taxing country in the domestic market may lead to efficiency losses, but it can improve the survival rate of enterprises when monetary and fiscal policies maintain aggregate demand.

5. Strategic Value: A Key Means to Ensure Domestic Production Capacity during Great Power Competition

6. Balancing Effect: Synchronously improve the imbalance between the current account and the capital account, which colloquially means reducing dependence on foreign production capacity and capital - this is especially important during periods of global geopolitical conflict.

The above belongs to the first level of influence.

The subsequent development depends on four major variables:

• Countermeasures of the taxed country

• Exchange rate fluctuations

• Monetary policies and interest rate adjustments of central banks around the world

• The central government’s fiscal policy response

These constitute the second level of impact.

The specific conduction paths include:

1. If retaliatory tariffs are triggered, it will lead to broader stagflation.

2. Countries under deflationary pressure typically adopt loose monetary policies, leading to a decline in real interest rates and depreciation of the local currency; countries facing inflationary pressure tend to favor tight policies, which raise real interest rates and the exchange rate of the local currency.

3. Fiscal policy will be implemented selectively to stimulate in deflationary areas and contract in inflationary areas, in order to offset some of the effects of price fluctuations.

Therefore, assessing the market impact of large-scale tariffs requires consideration of numerous dynamic factors, which goes beyond the aforementioned six basic levels and necessitates a comprehensive analysis that combines the policy feedback mechanisms at the second level.

There are three basic judgments that always hold true:

1. The imbalance in production, trade, and capital (especially the debt issue) must be resolved, as it is unsustainable in terms of monetary, economic, and geopolitical dimensions — the current international order will inevitably be reshaped.

2. The adjustment process is likely to be accompanied by severe and unconventional changes (as described in my book “The Road to National Bankruptcy: The Great Cycle”)

3. The long-term impact of currency, politics, and geopolitics ultimately depends on: the credibility of wealth storage in debt and capital markets, the productivity levels of various countries, and the attractiveness of political systems.

The current discussion about the status of the US dollar is worth paying attention to:

The advantage of the dollar as the primary reserve currency lies in its ability to create excess debt demand (although this privilege often leads to excessive borrowing).

• A stronger dollar may be beneficial, but market mechanisms will inevitably induce abuse of privilege, ultimately forcing us to take extreme measures to address debt dependence.

It is particularly noteworthy that the US and China may reach an agreement on the appreciation of the Renminbi through a summit meeting between the heads of state, among other non-market adjustment methods, which will trigger the second-level chain reaction mentioned earlier. I will continue to monitor the developments and analyze the impacts at various levels in a timely manner.