The term “American exceptionalism” is often used to describe the American economy, which has performed better than economies in most other countries for many years. More recently, the term is being used to describe the US stock market, which has also outperformed most major developed country stock markets for several years running, as you can see in the table below.
Although exceptional US performance is recognised by investors, the recent election results suggest that most Americans do not fully appreciate the stellar performance of the US economy vis-à-vis the economies of most other nations, blinded perhaps by the period of high inflation following the pandemic, which – as an aside – was experienced by nearly every G7 economy. As an American living abroad, I can unequivocally state that most foreigners look at the American market with awe. Foreign investors lean into the performance of the US stock market’s diversity and like investing in many of its global, market-leading corporate titans. In this article, I will focus on the reasons I believe that US economic performance has been so strong, leading to strong relative returns in US stocks.
Some of the factors that underpin American exceptionalism are unique to America, and others are not. In addition, there is no reason that the gap cannot be closed although the litany of factors that make America’s economy unique date back decades and therefore would take decades to “compete away.” Moreover, many countries accept more mundane economic growth in exchange for a better (meaning fairer) distribution of wealth, and this of course is their prerogative.
I can divide the reasons for exceptional US economic and stock market performance into two broad categories – policy (i.e. government-driven) factors (three) and non-government factors (11), although arguably there is overlap among many of these. Below is the list of the attributes that I believe underpin American exceptionalism and have led to the outperformance of US stocks over many years.
Policy factors:
1. Unconventional (and accommodative) monetary policy
2. Accommodative fiscal policy and deficit spending, even when the economy is strong
3. Low regulatory thresholds / relatively less government bureaucracy than many peers
Non-policy factors:
1. Consumer-led economy
2. Deep capital markets and readily available (and fairly priced) financing
3. Entrepreneurial spirit
4. Favourable demographics
5. Composition of US savings
6. US residential real estate (and the mortgage market)
7. Friendly tax policies
8. Employment market flexibility
9. Immigrants
10. Size and diversity of the US economy
11. Abundance of natural resources and energy independence
You might think of other reasons, and if you do, please let me know. In the meantime, I have provided more colour below on the reasons I have mentioned in the list above.
Policy factors
Unconventional (and accommodative) monetary policy: The Federal Reserve introduced unconventional monetary policy in the form of quantitative easing (“QE”) in November 2008 to help the US economy recover from its worst economic collapse since the Great Depression. The decision to introduce quantitative easing was reached when the Federal Reserve had lowered its policy rate to effectively zero (the “lower bound”) at the onset of the Great Recession. Following the first round of QE, two additional rounds of QE were undertaken starting in November 2010 (round 2) and September 2012 (round 3). The Federal Reserve was not alone in introducing QE, as many other central banks in G7 countries followed suit, including the Bank of England, the ECB, and the Swiss National Bank. (The Bank of Japan had already been using QE off and on since 2001 to address a uniquely Japanese issue of deflation.) Concurrently with three rounds of QE, the Fed held the Fed Funds rate at effectively zero from December 2008 to December 2015. The onset of the pandemic sparked another shift towards unconventional monetary policy in March 2020, with the Fed lowering the Fed Funds rate to effectively zero again and starting a fourth round of QE. This accommodative monetary policy has been unusual and largely unconventional, although the Federal Reserve has not been alone in its approach (albeit arguably the most aggressive of central banks). The combination of the short-term policy rate being held near 0% and long-term yields been held artificially low via QE has undoubtedly sparked excessive risk taking and the aggressive use of leverage, promoting economic growth, stronger corporate profits, and a largely one-way upward move in stocks.
Accommodative fiscal policy and deficit spending: Unlike unconventional monetary policies that have been employed by a number of central banks, successive US administrations’ aggressive use of fiscal policy to promote economic growth – even during periods of economic resiliency (like now) – has stood out. Most recently, higher deficits leading to higher debt-to-GDP was driven by the economic malaise caused by the pandemic. However, even in this respect, the US stood alone in its aggressive approach to steer the economy back into growth. For example, one uniquely US fiscal stimulus measure during the pandemic involved the provision by the federal government of three separate rounds of direct stimulus payments to Americans, which occurred between March 2020 and March 2021 and totalled $814 billion.
The US has not run a budget surplus since the last years of the Clinton Administration in the late 1990s/early 2000s. Federal debt-to-GDP in the US was 58% in 4Q1999, 84% in 4Q2009, and 106% in 4Q2019. Not a single president – Democrat or Republican – has managed to address the spiralling debt of the US in the last 25 years. Currently, the debt-to-GDP (3Q2024) of the US stands at 121%, dangerously high except that the US enjoys unique “protections” associated with its deep government bond market and the reserve currency status of the US Dollar. The US Debt-to-GDP of 121% compares to 96% for the UK, 90% for the Eurozone (with its two largest member states France at 111% and Germany at 65%), and 77% for China. As we have seen more than once during the last two years, countries like the UK and France have been held accountable by bond vigilantes in the form of a sharp sell-off in government bonds (meaning sharply higher yields) when their respective governments drifted away from fiscal policies that were deemed sustainable. Deficits in the US are projected to worsen further under the incoming Trump Administration, which has promised a variety of tax cuts. Whether or not the new DOGE team can tighten the expenditure belt enough to offset the tax cuts is doubtful. In the meantime, fiscal policy remains unusually accommodative, out of synch with the normal approach of using fiscal stimulus during economic downturns and fiscal constraint during periods of economic growth. With bond vigilantes yet to hold the US accountable partially because of the US Dollar’s unique reserve currency status, the US can effectively continue to goose economic growth with little consequences aside from a potential resurgence in inflation.
Regulation and bureaucracy related to the size of the public sector: Although many Americans moan about the size of the US government and associated red tape, the percent of government employees relative to the total workforce in the US is smaller than in most other countries. According to data in an article from World Population Review, the US had 21.6 million people employed in the public sector in 2023, or 13.4% of the workforce. This compares to the UK with 23.6%, France with 20.1%, Japan with 7.9%, Israel with 31.4%, and Canada with 21.1%, to name a few. I am not sure how reliable this data is, but “eyeballing it” leads me to believe that the relative size of the US public sector is smaller than in many other countries, certainly if compared (for example) to many countries in Europe that Americans label as “socialist”. The size of the public sector as a percent of the total workforce is relevant simply because it is believed (and I am a believer) that governments generally operate with more waste and are less efficient than the private sector.
As far a regulation, my instinct is that the US is relatively speaking regulatory-lite compared to peers in many parts of the world. Developed countries like those in the European Union suffer from bloated regulatory requirements, often viewed as an excuse to provide (un-necessary) jobs for regulators. This was one reason the UK electorate voted to leave the EU, as Brits viewed the EU umbrella as loaded with costly and un-necessary bureaucracy and associated regulation and red tape. In summary, the US public sector is smaller than many other countries, leading to more efficiency (through greater reliance on the private sector) and less bureaucracy.
Non-policy factors
Consumer-led economy: Compared to most developed markets countries, the US has a low savings rate, estimated by World Population Review to be 18% (gross national savings as percent of GDP, 2021 data). The similar savings rates of other countries are 17% for the UK, 23% for France, 24% for Canada, 29% for Germany and Japan, and 46% for China. One could argue that a low savings rate is not positive for a country in the long-term. However, in the short-term, a lower savings rate means that Americans spend more, a feature of the US economy in that consumption is the key engine of growth. Consumption as a percent of GDP in the US is 67.9%, the highest percentage of any developed market country in the world. The developed market countries with a consumption spend near the US (albeit substantially lower) include the UK (60%), followed by Japan (55.1%), the Eurozone bloc (53.4%), and Switzerland (50.9%). This means that the consumer is the principal engine of US economic growth, so the US economy largely ebbs and flows with the well-being of consumers.
Deep capital markets and readily available (and fairly priced) financing: The US has the deepest corporate bond market in the world, providing companies with a ready source of capital to finance their growth. In addition, private debt markets have grown rapidly, offering an alternative to financing in the public or bank markets. The strongest banks in the world are in the US, and they stand ready to underwrite multi-billion dollar financing packages for US (and foreign) companies.
The US corporate bond market is liquid, transparent, efficient and fair, and pricing reflects the risk associated with a borrower’s credit profile. Large and small companies alike can access financing though the bond market, the private debt market and the bank market. “Golf club” lending by banks which characterises some European and other geographic markets is much less prevalent in the US, meaning risk is appropriately and fairly priced, and debt markets are very efficient. In addition, bankruptcy laws are well recognised and clear, meaning failing companies can be more easily restructured. The certainty and transparency regarding the path towards restructuring or bankruptcy results in strong investor risk appetite even among specialist distressed debt investors (since the procedure in the event of failure is well enshrined in bankruptcy case law). Ready access to debt capital means companies can easily target their optimal capital structure based on their risk profile, and the use of debt offers companies the ability to leverage their capital base.
Entrepreneurial spirit: Some might think the entrepreneurial spirit of Americans is directly related to less regulation and red tape, but I see it as much more. The spirit, drive, motivation and willingness to take risk defines Americans, recognising fully that the outcome of taking risks can cut both ways. The fact that Americans from poor socio-economic backgrounds can become incredibly wealthy in one generation inspires forward-thinking ideas, hope and risk-taking. This is very different than in many other countries, where it is difficult for people from “ordinary” or poor backgrounds to obtain the intellectual support and access to capital to develop unique, innovative products or services. As far as access to capital, there is a vibrant early stage investor market and plenty of experienced and deep-pocketed venture capital firms willing to finance founders with good ideas, from start-up throughout their natural evolution. The availability of early-stage financing for good ideas, regardless of the background of the entrepreneur(s) involved, might explain why nearly all of the dominant global technology giants are based in the US today, and also why cutting-edge emerging technologies are often developed in the US.
Favourable demographics: Relatively speaking, the US is a young country when compared to many of its developed market peers, meaning it has a huge pool of workers to drive America’s companies forward.
The US also has a reasonably low dependency ratio, which is the ratio of non-working people (generally those under 15 and those over 64) to working people (age 15 to 64). A low dependency ratio means that a larger number of working employees support the benefits of a smaller number of retirees, meaning more capital is available to redeploy in growing businesses rather than supporting a retiree base. However, this is changing both in the US and in other countries (generally worsening), as populations age and people live longer. Moreover, US fertility – similar to many other countries – is below its replacement rate, likely exacerbating the problem down the road. The strain an older population puts on economic growth is visible in many countries today, including for example Japan, Italy and Germany.
Composition of US savings: People in most countries save in the form of cash or bank deposits rather than investing in stocks (or public bonds). The US is different in this respect, since an estimated two-thirds of Americans own stocks, while the number of people in other countries is significantly less. For example, only 24% of French people own stocks, 23% of Brits, 18% of Germans and 12% of Japanese. The willingness of US retail savers to channel their savings into stocks, either directly or through asset managers and 401(k) plans, provides another leg of support for US stocks. Higher returns lead to higher wealth, and higher wealth generally leads to higher spending. This is the spiral up that creates momentum to the upside. Lest we forget, this can cut the other way should stocks ever again come under sustained selling pressure (and I suspect they one day will).
US residential real estate (and the mortgage market): With consumer spending underpinning exceptional US economic growth, the ebbs and flows of home real estate prices can cause both real losses as well as an erosion in consumer sentiment. Although there are certainly many attributes of the US real estate market that make it different than real estate markets in other countries, the one thing that I believe makes a big difference in the US is the structure of the residential mortgage market. Most US mortgages are fixed-rate, with a free option for borrowers to refinance if rates fall, but no immediate increase in monthly mortgage payments if rates increase. Most other countries (including the UK) rely on floating-rate or shorter-dated (two to three years) fixed rate mortgages. This means that the changes in policy rates by central banks filter through much more quickly to consumers that are borrowing against their properties, giving contractionary monetary policy actions a more immediate sting. Even though mortgage rates remain around 7% in the US (30y fixed), the residential real estate market remains balanced and the effects on consumers have been de minimis, at least so far.
Friendly tax policies – Taxes are a complicated subject when comparing rates across countries, mainly because of the large variety of taxes that influence consumer spending and business investment. However, according to the OECD (article here), the US overall has a generally favourable tax regime, with an overall tax-to-GDP ratio in 2023 of 25.2%, compared to the OECD average of 33.9%. The US ranks 8th in terms of (lowest) tax burden among 38 OECD countries. A relatively lower tax burden stimulates investment and growth, but it is also a contributor to huge and ever-growing US deficits and national debt.
Employment market flexibility: Flexibility in the US labour market – meaning the ability to hire and fire employees to address changing business prospects – is a key component of the exceptional performance of US companies on the global stage. The limited influence of organised labour allows such flexibility, especially pertinent when businesses are forced to quickly change their strategies in response to macro trends, including technological advancements that can lead to new threats. Labour market flexibility allows nimble US companies to remain competitive in the face of threats by adopting new productivity enhancing manufacturing processes or resizing their workforces. In this context, think about how AI might reshape businesses in nearly all sectors. US companies in this respect are leaders in broadening the scope of AI to improve business efficiency (and improve margins), and its technology giants are clearly investing enormous sums to develop and push AI into the mainstream.
Immigrants: Even though President-elect Trump has managed to rile Americans about the costs of illegal immigrants, Americans need to remember that the US is a relatively young country founded by immigrants, many of whom have been instrumental in contributing to US economic success. More recently, a new wave of immigrants helped address a chronic shortage of workers in the US in the post-pandemic period by filling unskilled positions. This, in turn, helped curtail wage inflation which could have been much worse otherwise. The idea of “managing” immigration to get the “right” workers in the right positions is something many countries aspire to, and it makes economic sense. I believe that most investors recognise that the availability of a relatively cheap labour pool in the form of immigrants has been a key support factor for the dynamic and growing US economy.
Size and diversity of the US economy: The US is the third most populous country in the world behind China and India, and the fourth largest ranked by area. Although a huge country comprised of 50 different states, Americans share a common language and can move freely around the country, both for personal and professional (i.e. work) reasons, making dynamism a big advantage and undoubtedly a contributor to US growth. Even though it is a large and diverse country – and in spite of its increasingly bipartisan approach to politics – the common bond of “America first” unifies the country and provides a powerful collective force in the global marketplace.
Abundance of resources and energy independence: The US is the second largest country in the world ranked by value of natural resources, behind only Russia. The US decided to target an objective of energy self-sufficiency following the OPEC oil embargo in the early 1970s, an objective that the country achieved in 2019 (before being interrupted by the pandemic). The US today is again believed to be energy self-sufficient, not necessarily uncoupling from oil prices on the global stage but having the ability to provide energy to its domestic audience without relying on foreign countries for supply. Ready access to natural gas and oil provide the US with a substantial advantage in the global marketplace, especially vis-à-vis countries that have limited or no oil or gas, and are forced to rely on foreign supply.
SUMMARY
American exceptionalism is real, and its results are visible. US stocks have been on a run because the American economy and its large array of companies involved in many different industries appeals to investors globally. The fate of the stock market is more nuanced and could change quickly due to reasons we might not even be aware of at the moment, although the non-policy factors that undermine exceptional US economic growth are probably here to stay, for better or – perhaps one day – for worse.
Comentários