Ray Dalio Warns UK Risks 'Debt Death Spiral' Without Deficit Cuts

The United Kingdom faces a debt crisis, with soaring borrowing costs, rising deficits, and a shrinking tax base fueling concerns of a prolonged economic downturn. Ray Dalio, a renowned founder of Bridgewater Associates, recently sounded the alarm, stating that the UK's rising debt costs and diminishing tax base could lead to a self-reinforcing cycle of economic decline.

"This looks like a debt death spiral in the making because it will either require more borrowing to service the debt that will have to be serviced, squeeze out other spending, or require more taxes," Dalio told the Financial Times.

As Dalio outlined in his latest book "How Countries Go Broke," this debt cycle follows a predictable pattern: rising interest rates lead to higher borrowing costs, which fuels more debt issuance, ultimately reaching a point where the country is forced into austerity or a monetary reset.

Reflecting on his book in an X post, Dalio, an astute student of history, pointed out the lack of understanding of the big picture.

"This dynamic is not widely understood because big, long-term debt cycles typically last about one lifetime—roughly 80 years (give or take 25 years)—so we don't get to learn about them through experience," he wrote.

The cost of UK government borrowing has surged in recent months, with yields on 10-year gilts hitting multi-decade highs. Since the UK's mini-budget crisis in 2022, confidence in British sovereign debt has remained fragile, exacerbated by the government's inability to rein in spending.

Dalio's framework identifies four stages of a debt crisis: the debt bubble, the top, the deleveraging, and the resolution. The UK appears to be in the early stages of the "top," where unsustainable debt growth meets tightening financial conditions. Dalio has called for the U.S. and UK to reduce their budget deficits to 3% of GDP, a target far from current levels. The U.S. deficit is expected to exceed 6% of GDP this year, while the UK's deficit is projected at 4.5%.

The warning signs about the UK's debt crisis are not new. Alex Krainer, portfolio manager and founder of Krainer Analytics, predicted in 2021 that the UK would face a severe economic reckoning. Krainer pointed to three key indicators: the collapse of the British pound, rising gilt yields, and continued gains in the FTSE 100 Index.

While the pound and gilts have experienced significant turmoil, Krainer argued that the FTSE 100 would keep rising as investors sought refuge in equities amid monetary debasement.

However, Krainer has been particularly critical of recent efforts to shift the clearing of U.S. Treasury futures to a London-based entity controlled by the Bank of England. In a recent interview for Commodity Culture, he laid out a case for funneling the trading collateral into sovereign debt, including UK gilts, to stabilize prices.

"This could unwittingly fund the British government, which is strapped for cash. This initiative reeks of desperation," Krainer explained.

For investors, the implications are clear: the UK's debt spiral represents both a risk and an opportunity, and the resolution could create the next billion-dollar trade, akin to George Soros' British pound short from 1992.

Still, nobody can certainly say when it will happen. As Dalio notes, "It's like a person who has a lot of plaque in their arteries that's building up fast. You can't tell exactly when it will cause a heart attack, but you know the risks are very high and rising."

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