Trump will distance the US from Europe

Donald Trump will intensify American exceptionalism, widening US leadership and distance from stagnant Europe

The US stock market reacted to the elections with an upbeat run. I share this enthusiasm. In almost every way, the emerging policy mix favors American stocks—deregulation, tax cuts, and lower energy costs. What’s not to like? Furthermore, these measures are being implemented in a context of falling interest rates.

However, there are some important caveats to this optimistic outlook:

1. Inflationary impact of tariffs and immigration control: These measures are inflationary, which should limit the cycle of interest rate cuts. Before the elections, markets had already adjusted their estimate of the final level of interest rates upwards, from 3.4% to 3.75%.
2. Deficit-financed spending: Donald Trump, in his second term, seems willing to take more risks, promoting deficit-based spending, in something similar to Reaganomics. This should result in a steeper yield curve, which raises medium-term concerns.
3. Dollar strength: Rising interest rates should support a strong dollar, which will negatively impact international profits and revenues. However, foreign earnings represent just 28% of the S&P 500 and 21% of the Russell 2000, according to Goldman Sachs.
4. High market valuations: The US stock market is expensive, with cyclically adjusted price-earnings multiples at levels near 20-year peaks. This premium valuation reflects the market’s confidence in “American exceptionalism,” with the U.S. leading industries of the future such as artificial intelligence. Since 2008, the US economy has distanced itself from other developed economies, especially Europe.

Trump’s victory tends to amplify this divergence. Although some economies, such as India, Japan and certain emerging markets, present alternative attractions, the US continues to lead by embracing the free market economy and promoting innovation. Trump’s agenda will reinforce this trend, further widening the disparity with Europe.

Since 2009, U.S. GDP per capita has nearly doubled, reaching $86,600, while the euro zone’s has grown just 17%, reaching about half the U.S. level, according to the IMF. The EU has chosen regulation over innovation, resulting in a lack of leadership in AI and technology. Furthermore, unilateral adherence to net-zero emissions targets is exporting energy production to the US and Middle East, and industrial production to the US and China.

Mario Draghi pointed out these issues in his recent report on EU competitiveness, but his criticisms have been watered down, especially in relation to energy policy and net zero targets.

The United Kingdom, which could have disassociated itself from this scenario through Brexit, unfortunately followed a similar path to the EU. It adopted aggressive deadlines to reach net zero and has a government with high taxes and spending. Trump has indicated a willingness for a separate trade deal with the United Kingdom, which would be a strategic opportunity. The question is: which economy do we want to align ourselves with in the next 50 years? With the economic locomotive or with the world museum? The answer is clear. The UK must seek to integrate with the superior economic model of the US. Prime Minister Sir Keir Starmer will need to prioritize country over ideology to achieve this goal, a challenging task.

On the other hand, Europe will face even greater challenges from Trump’s tariffs, which are expected to increase pressure on the eurozone economy. With only modest GDP growth expected for 2025, rising deficits and political instability become inevitable. Despite relatively low valuations, European stock markets are expected to continue to underperform. While there are well-run companies in Europe, they are in jurisdictions that will face increasingly higher taxes, affecting their competitiveness.

Opportunities for investors in Europe will mainly focus on private equity, taking advantage of well-managed businesses amid the deterioration of the once-prosperous region.

By Paulo Marshall, President of Marshall Wace, a multi-strategy investment managerfor the Financial Times*