A retooling of the U.S. economy around cheaper domestic energy and a competitive exchange rate could be a headwind for developing economies more used to seeing U.S. growth as a boon.

In a week which saw U.S. equity markets stalk record highs again and many investors again mulling a long-term turn in the U.S. dollar, investors have simultaneously been puzzling over what is shaping up to be yet another year of emerging equity underperformance.

Theories abound on why stock markets of the fast-growing emerging giants have lagged bourses of credit-hobbled western bourses for almost years—valuations, profit squeezes, liquidity, politics and thin domestic investor bases all play a part.

But for Manoj Pradhan, Morgan Stanley’s global emerging markets economist, structural economic shifts prompting many economists to posit a “re-industrialization” of the world’s biggest economy bear closer scrutiny and raise serious questions about the relative competitiveness landscape in the years ahead.

Playing on the old adage that when the U.S. economy sneezes the rest of the world catches a cold, Pradhan reckons the potential nature of its return to rude health now could send a chill through many of the developing world’s economies too.

“Against the backdrop of a deleveraging U.S. household sector, it could well be investment and manufacturing that lead to sustainable growth,” he said. “Think for a second about what that means for emerging markets: it means the U.S. will return to sustainable growth as a competitor—not as a consumer.”

Structural Shifts

A transformation of the U.S. economy away from more than a decade of consumption-led growth, which helped underwrite the export-led booms of the emerging world over the past decade, to one based more on manufacturing and investment has been mulled for some time.

A central driver is a shale gas revolution creating a new cheaper domestic energy source. But Pradhan also adds to that the likely releveraging of cash-rich U.S. businesses and the lagged competitiveness boost of what he estimates as a 36 percent inflation-adjusted drop in the dollar against emerging currencies over the past decade.

With slower global growth limiting the total size of the pie being fought over, a U.S. move down the so-called ‘value chain’ into manufacturing could intensify the competition for firms in emerging economies.

Pradhan argues this also challenges an emerging market outperformance model that relies of continued advances in the sophistication of exports well above what per capita incomes would suggest. Research shows Chinese exports, for example, three times more advanced than incomes would point to.

And if the United States moving down the value chain puts a ceiling on this advancement for the likes of China, Malaysia, Brazil, Russia, South Korea and Taiwan, then they may have to accelerate their owns shifts more toward domestic sources of consumption away from heavy reliance on exports.

As ever, there will be winners and losers. Mexico’s border and free trade links with the United States mark it out as a beneficiary, while South Korea’s superior global brands may insulate it too. The effects on exporters of raw materials or on energy importers may also be softened.

Rising Dollar & T-Bond Yields

However, this potential U.S. mega trend comes at a time of other financial market headwinds for emerging market investors.

Many economists are eyeing a long-term recovery of the dollar on the back of both the “re-industrialization” story as well as expectations about the Federal Reserve being the first of the world’s major central banks to “normalize” monetary policy away from money printing over the next two years.

And periods of a rising U.S. dollar have often railroaded emerging markets by tightening global financial conditions, squeezing dollar borrowing by emerging market firms and limiting U.S. investor outflows overseas. The serial emerging crises of the late 1990s coinciding with a multi-year dollar rally was a classic case in point—channeling many U.S. investors back to ‘safer’ emerging or growth markets back home in Silicon Valley.

While Friday’s upbeat U.S. employment report for February underlines the U.S. recovery story for now at least, long-term dollar bulls suspect the currency may be bottoming out.

“The dollar is cheap,” said hedge fund manager Stephen Jen. “One does not need to run complicated valuation models to know that it is much cheaper to travel in the United States than anywhere in Europe and many emerging markets.”

After years of Fed ‘debasement’, he added, “it has simply become difficult to artificially depress the dollar further.

What’s more, the impact on recently booming emerging bond markets of rising U.S. Treasury yields— where 10-year yields jumped above 2 percent to their highest level in almost a year after Friday’s payrolls data—will hurt too.

“Rising U.S. yields are potentially a big problem for flows to emerging markets,” said Maarten Jan Bakkum, emerging markets strategist at ING Investment Management, adding they increase the chances that the Fed will take liquidity off the table.

“You can expect more nervousness in emerging markets.”