Ray Dalio Deep Dive into Tariffs Impact: The Adjustment Process is Likely to Come with Severe and Unconventional Changes

Original Article Title: The Effects of Tariffs: How the Machine Works
Original Author: Ray Dalio, Founder of Bridgewater Associates
Original Translation: Deep in Motion

Editor's Note: The article systematically analyzes the multiple effects of tariffs: the basic level includes six major effects such as fiscal revenue, efficiency loss, inflation differentiation, and industry protection; the deep-level impact depends on each country's policy countermeasures, exchange rates, and the dynamic adjustment of monetary and fiscal policies. The article points out that global imbalances must be resolved through profound adjustments, and the long-term effects depend on market trust and national competitiveness. It especially discusses the debt reliance issue brought about by the U.S. dollar privilege, anticipates that the U.S. and China may reach a currency agreement through non-market means, triggering a complex policy chain reaction.

The following is the original content (reorganized for easier comprehension):

Tariffs are essentially a special type of tax, and their impact is mainly reflected in the following six fundamental aspects:

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

2) Efficiency Loss: Reduces global production efficiency

3) Inflation Differentiation: Creates stagflation pressures on the global economy, forms a deflationary effect on the taxed country, and exacerbates inflation in the taxing country

4) Industry Protection: Enhances the competitive strength of taxed country's enterprises in the domestic market, although it leads to efficiency loss, maintaining total demand through monetary and fiscal policies can improve business survival rates

5) Strategic Value: Key means to safeguard domestic production capacity during great power games

6) Balancing Act: Simultaneously improves the imbalance between the current account and the capital account, in simple terms, reducing reliance on foreign production capacity and capital—this is particularly crucial during global geopolitical conflicts

The above belongs to the first-level impact.

Subsequent developments depend on four major variables:

• Retaliatory measures by the taxed country

• Exchange rate fluctuations

• Monetary policy and interest rate adjustments by central banks of each country

• Fiscal policy responses by central governments

These constitute the second-level impact.

The specific transmission pathways include:

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

2) Countries under deflationary pressure usually adopt loose monetary policies, leading to a decrease in real interest rates and currency devaluation; while inflationary pressure countries tend to pursue tight policies, raising real interest rates and the currency exchange rate.

3) Fiscal policy will selectively implement stimulus in deflationary regions and contraction in inflationary regions to hedge against some price fluctuation effects.

Therefore, evaluating the market impact of large-scale tariffs needs to consider numerous dynamic factors, which have gone beyond the aforementioned six basic levels and require a comprehensive analysis combining the second-level policy feedback mechanism.

Three fundamental judgments always hold true:

1) Imbalances in production, trade, and capital (especially debt issues) must be resolved, as they are unsustainable on monetary, economic, and geopolitical dimensions—the current international order will inevitably be reshaped.

2) The adjustment process is likely to be accompanied by drastic and unconventional changes (as described in the book "This Time is Different: Eight Centuries of Financial Folly").

3) Long-term monetary, political, and geopolitical impacts ultimately depend on the credibility of debt and capital market wealth storage, the level of productivity in each country, and the attractiveness of the political system.

The current discussion about the U.S. dollar's status is worth noting:

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

• While a strong dollar is beneficial, market mechanisms will inevitably trigger privilege abuse, ultimately forcing us to take extreme measures to address debt reliance.

Of particular note, China and the U.S. may reach a yuan appreciation agreement through a summit meeting and other non-market adjustment measures, which will trigger the second-level chain reaction mentioned earlier. I will continue to monitor the developments and promptly analyze the impacts at all levels.

「Original Article Link」