The Political Stock Market

Many economic and financial analysts complain that emerging countries' stock markets are often heavily manipulated by their governments and are more political than economic. The unstated assumption seems to be that, in contrast, some pristine force of economic nature drives stock markets in advanced countries, and that forecasting their performance is thus like forecasting the growth of trees.

This description of stock markets in emerging countries is not wrong, just biased, because the same description applies to stock markets in advanced countries. Indeed, the best analysts know that forecasting the performance of any country's stock market substantially means forecasting how well the government wants stock market investors to fare in the current political environment.

Consider the United States stock market, by far the world's largest. The general perception is that the government leaves companies alone and that the returns from investing in the US stock market reflect the fundamental forces of a strong capitalist economy. This is one reason why the US is a magnet for portfolio investors from around the world.

But the returns that make US stock markets so attractive reflect a delicate political balance. In particular, tax rates that affect stocks have varied through time as political pressures change. During World War II, for example, political support for great fortunes diminished and the government sharply increased taxes on capital gains, dividends, and high incomes in general. When World War II produced a strong recovery from the Great Depression of the 1930's, President Roosevelt and Congress slapped on an excess-profits tax to ensure that shareholders would not benefit too much.