U.S. Equities

Wages fell ~8 percentage points of GDP from 1980–2022, funneling more output to owners of firms. This structural shift — not animal spirits — explains why P/E ratios persistently drifted above historical norms rather than mean-reverting as Shiller-CAPE bears predicted.

Heathcote argues AI further reducing labor's share of output would be a direct bullish force for equities under his framework — extending the same dynamic that has driven stocks higher since 1980 — potentially offsetting the capex drag on free cash flow.

Just as declining labor share mechanically grew corporate free cash flow since 1980, AI adoption that further reduces labor's cut of output would be 'a plus for stock values' — potentially sustaining today's elevated valuations.

Fed research shows the price-to-free-cash-flow ratio for US equities lacks the alarming upward drift seen in the Shiller CAPE and standard PE ratios, suggesting markets may not be as overvalued as traditional metrics imply.

US markets are underperforming because American tech firms bear massive AI infrastructure capex, while international companies — European chemicals, drug discovery, and other adopters — may capture AI productivity gains without the spending burden.

Corporate labor's share of output has fallen roughly 8 percentage points of GDP since 1980, with earnings growing because more of the economic pie flows to firm owners rather than workers — a shift that directly underpins higher equity valuations.