Ray Dalio has a solution for China, but it will require radical changes

• Ray Dalio is again promoting the idea that China urgently needs to start “deleveraging beautifully.”
• The country has massive levels of debt, forcing businesses and people to hold on to cash.
• To revive the economy, Dalio said Beijing must free up indebted companies and encourage them to borrow again.

Billionaire investor Ray Dalio believes China can save its economy with two major debt policies, although it would require major changes to the way China has operated for years.

However, the founder of Bridgewater Associates said that if China does not implement them soon, the country risks suffering the same as Japan did in its “lost decade”.

In a LinkedIn post on Tuesday, Dalio wrote about what he called “beautiful deleveraging,” an aggressive, two-pronged approach to solving debt problems.

Dalio wrote that Chinese leader Xi Jinping’s unprecedented stimulus ushered in a “great week” of economic optimism, but it was not enough.

If China wants this big week to go down in the history books as a turning point to success, Beijing must “do everything it can, which will require much more than announced,” Dalio said.

What is “beautiful deleveraging”?

The idea is not new to Dalio, whose company runs the largest offshore hedge fund in China. He coined “beautiful deleveraging” after the 2008 crisis.

According to him, the first step is for the country to restructure bad debts to free beleaguered borrowers from their loan obligations.

They will need to be spread over time in a “sustainable manner” to avoid leaving debtors stranded and prevent a sudden economic shock, Dalio wrote.

The billionaire added that China should simultaneously lower interest rates to encourage new loans.

Ideally, interest rate cuts would be so drastic that they would be below inflation and the nominal growth rate, Dalio wrote.

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He added that if the government is unable to implement the policy, it could instead monetize the debt while weakening China’s currency to ease the burden.

These measures essentially aim to do two things: give China’s struggling borrowers – of which there are many today – a respite to grow their businesses, while encouraging them to borrow more and take more risks.

“This beautiful deleveraging can only be carried out in countries where most of their bad debts are denominated in their own currencies and most of their debtors and creditors are their nationals, which is the case of China,” Dalio wrote.

Why China’s huge debt is blocking the economy

China’s economy is feeling the effects of rising debt levels after years of companies and local governments borrowing at loose interest rates, which later led many people to become over-indebted.

The debt-to-GDP ratio is almost three times higher than it was 10 years ago, fueling growing pessimism in the country as major sectors such as real estate buckle under the weight of loan repayments.

Because of this, many companies and people are holding on to cash and not spending, which is dragging down the economy.

Dalio believes that “beautiful deleveraging” would help the country get out of this rut, mainly because keeping cash in the bank would be one of the most unattractive options in China.

“By doing these things, we are starting to reignite “bottom fishing” and “animal spirits.” Now we can clearly see it happening,” he wrote.

Serious “painful” changes are needed

Still, Dalio warned that his “fine use of leverage” would leave Beijing facing “difficult and painful changes.”

Dalio wrote that debt restructuring would fundamentally change the way long-term loans are currently handled in China and could severely hit many people’s wealth, especially if they lose out under the new terms.

“Imagine the situation of a perfectly good company that lends to local governments and/or is dependent on local governments for spending given the current situation,” Dalio wrote. “Who should do what, and in what quantities, to deal with this situation?”

Dalio also pushed for a sweeping reform of China’s tax system, saying it is “highly inefficient at the national, provincial and local government levels” and makes it difficult for regional governments to avoid mistakes.

He also warned of China’s rapidly aging society, calling a recent move to raise the retirement age “a minor policy change.” This decision was already deeply unpopular and changed the standard that had been in force for several decades, stating that retirement was possible at the age of 50.

Dalio, however, emphasized that China is at a crossroads. If Beijing doesn’t start “beautiful deleveraging,” he said, it risks dragging on the crisis and causing “an economic and psychological malaise like Japan has experienced.”

China’s debt crisis is just one of five challenges Dalio says the country faces as the “100-year storm” approaches. Others include the climate crisis, the tech war between the United States and China, fraying relations with Washington and rising wealth inequality.

The investor has long portrayed himself as bullish on China, but regularly speaks out on the fiscal decisions the country should make to avoid disaster.