Why America Can Be a Breakout Nation

07/10/2012 02:04 pm ET | Updated Sep 09, 2012
  • Ruchir Sharma Head of emerging markets, Morgan Stanley Investment Management

Economies should be scouted like baseball players -- against the competition in the same league. Brazil and Russia, with real incomes greater than $12,000, are not in the same league as India ($1400) or China ($6000), yet these nations are commonly lumped together as the "BRICs." I spend my professional life scouting the world for the economies most likely to post strong growth rates for their income class over the next five to ten years, and right now there aren't many of these Breakout Nations. The global economy is slowing, taking down developed and emerging stars alike, but one somewhat surprising prospect is the United States. If it gets a few key reforms right, it can be the breakout star among the established economies.

This is not how most Americans see themselves, due to the prevailing end-of-empire gloom. Polls show that a majority of Americans think China is already the world's "leading" economy, even though it is still about one third the size of the U.S. economy. The very real burden of debts that led to crisis in 2008 has slowed US growth from 3.4 percent between 1950 and 2007 to about 2.0 to 2.5 percent. But is that speed good or bad, given the competition?

It's rather good. This year, it means that the United States will grow faster than the global average for the first time since 2003, the year an unprecedented boom in emerging market growth began. For the next four years, emerging market growth doubled to over 7.0 percent, creating the widespread perception that the rich nations of the West were being overtaken by the rise of the poor. Now, the historic norm is reasserting itself -- the big emerging nations are slowing dramatically, and the coming years are once again likely to produce more laggards than winners. As of 2007 the emerging markets were on average growing three times faster than the United States; now they are growing only twice as fast.

Evidence of an American revival, against both developed and emerging world competition, is mounting, driven by the traditional strengths of the American economy -- its ability to innovate and adapt quickly. America's worst worries -- heavy debt, slow growth, the fall of the dollar and the decline of manufacturing -- will look much less troubling when compared to its direct rivals. While US growth has slowed by a full point so has growth in Japan and Europe, leaving the United States on top of the league of rich nations.

In a global economy that is increasingly shaped by competing forms of capitalism, the American brand appears to be winning. Consider the key challenge of "deleveraging" or digging out from debt. A new study from the McKinsey Global Institute shows that the United States is the only major developed economy that is even loosely following the path of countries that successfully negotiated similar debt-induced recessions, like Sweden and Finland in the 1990s. Total debt as a share of GDP has fallen since 2008 by 16 percent in the United States, while rising in Germany and rising sharply in Japan, the United Kingdom, France, Italy and Spain. As in Sweden during the 90s, government debt in the US is rising but total debt is falling due to sharp cuts in the private sector. The US financial sector has reduced its debts from $8 trillion to $6.1 trillion, down to levels last seen in 2000. American households have reduced their debts by $584 billion or 15 percent of household income, driven by mortgage foreclosures. In Britain, often seen as the twin pillar of tough Anglo-Saxon capitalism, banks are choosing forbearance over foreclosure and household debt is still rising. The swift cuts in U.S. debts, wages, employment and real estate prices are the opposite of what happened in 1990s Japan, which tried to dodge the pain of deleveraging but set up its economy for stagnation.

The weakness in the U.S. response is the government. The Scandinavian cases show that increased government spending makes sense in the early years of deleveraging, but the government needs to start containing the resulting debts roughly four years after the downturn -- exactly the stage where the US is today. Washington has so far failed to put in place a plan for long-term debt reduction, in part because some politicians and pundits are still pushing for more borrowing to ward off "depression." The Scandinavian cases suggest this is exactly the wrong worry right now. The public debt burden is a big reason that long-term US growth is likely to slow, but even 2.5 percent is still fast enough to restore America's place in a debt-burdened world.

China, now typically portrayed as a major creditor, has total debt equal to 180 percent of GDP. The more wealthy you are, the more debt you can carry, so America's total debt (350 percent) is actually less of a challenge. If China slows to under 7 percent in the coming years, which is likely, the United States would once again be the single largest contributor to global growth -- a symbol of economic status it lost to China in 2007.

The most dramatic signs of a US revival are in manufacturing. Even as it was losing out to emerging manufacturing powers in the last decade, the U.S. was responding much more quickly to this challenge than other rich nations, by restraining wage growth, boosting the productivity of remaining workers with new technology, allowing a steady fall in the dollar that has made US exports much more competitive, particularly relative to Euro nations, and incorporating inexpensive new foreign sources into its supply chains. China's rise came largely at Europe's expense. Since 2004 China has gained market share in the export of goods and of manufactured goods, while Europe's share is falling and the US share has held steady. In fact it now appears that the US share of global exports is climbing again. After losing 6 million manufacturing jobs in the last decade, the US gained half a million in the last 18 months while Europe, Canada and Japan lost jobs or saw no change.

Energy is also rapidly emerging as an American competitive advantage. After falling the for 25 years, the share of the US energy supply that comes from domestic sources has been rising since 2005, from 69 percent to around 80 percent, due to increasing production of oil and particularly natural gas. This is pushing US natural gas prices to the lowest rates in the world, inspiring manufacturers to relocate to the United States. Textiles was one of the first industries to leave the developed world, but recently Santana Textiles moved from Mexico to the US due to energy costs.

The big danger in the US remains that the government will fail to attack the debt problem, leaving a Japanese-style anchor on the recovery. Just as it makes no sense to analyze emerging markets in terms of generic rubrics like BRICs, developed markets also need to be analyzed as individual stories. The dramatically different approaches of the developed nations to the basic challenges -- de-leveraging and maintaining strength in manufacturing -- is going to put them on very different growth paths. And if you compare the United States to its rich peers, it has the best chance to be a Breakout Nation, particularly if Washington can get its game together and attack the public debt.