The Week Ahead: Elections and the Economy: A Historical Review

Foreign Exchange: The Week Ahead
Elections and the Economy: A Historical Review 
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Andrew Kositkun
Andrew Kositkun
Foreign Exchange Head Trader
Much has been made of the differences between the specifics of the Trump and Biden economic agendas. But what does history have to say about the difference in economic performance under Democratic and Republican presidencies?

To answer this, researchers looked at data from 1949 to 2019 and broke it down into two scenarios: a sweep where the president’s party controls Congress and a divided government in which the opposition party controls at least one chamber of Congress. Under each scenario, the researchers looked at GDP growth, job growth, federal spending (defense and non-defense) and changes in the debt/GDP ratio. The time frame was defined as the eight quarters between when an election was held (presidential or midterm) through when the next election was held.

The main finding of the study was that the configuration of power in Washington did not appear to have a significant impact on GDP and job growth. Since 1949, Democratic presidents had significantly stronger GDP and job growth than Republicans but that was driven by rapid growth during the Truman and Kennedy/Johnson years. If you started from 1985, the difference is smaller and no longer statistically significant.

Caveats to these findings are plenty. The first caveat concerns the lag between when a policy is implemented and when it affects the economy. Even after allowing for a lag in the economic variables, the research outcome is little changed. The second caveat is the small sample size. Because of this, it can’t be said with confidence that the configuration of political power doesn’t affect economic outcomes. But what can be said is that there is no clear evidence that it does, which is actually a good thing. This suggests that growth is fundamentally driven by business-cycle fluctuations, as it should be in a capitalist economy.

To be clear, this doesn’t mean election outcomes are unimportant, as they clearly are. This is especially true this cycle with so many major policy differences on the table and the possibility of a contested election hanging over the markets. But the bigger and more general point is that elections are not simply a red-versus-blue story for the economy. It is the specific policy mix that matters. Policy choices can amplify or dampen the business cycle, but they do not typically change the economy’s trajectory.

FORECASTS

EUR

Reduced U.S. election hedges and rising hopes for post-U.S. election stimulus in the case of a blue wave have put pressure on the U.S. dollar (USD). However, U.S. dollar weakness is mitigated by concerns around European growth as momentum pulls back and as European COVID-19 numbers and lockdown measures continue to rise. Further, the debate around the ECB’s Strategic Review and its shift to a more aggressive inflation targeting framework continues, with ECB Chief Economist Phillip Lane arguing that euro area GDP would not return to pre-pandemic levels until 2022. Overall, the expectation is for the euro to remain in a 1.16–1.20 range ahead of the U.S. election.

GBP

Brexit remains a concern, and even if a deal is ultimately reached, the path from here to there is likely to be a bumpy one with periods in which a no-deal exit looks like a high probability. Beyond Brexit, U.K. economic performance remains a concern. From a near-term growth perspective, the introduction of a tiering system for lockdowns is better than blanket lockdowns, but health officials doubt the system’s effectiveness. This means the risk remains for more aggressive measures down the road. Additionally, the government’s furlough program is ending, and its replacement is seen as less effective, meaning unemployment is expected to rise. Taken together, the above factors argue against a sustained British pound rally even if a deal is reached.

JPY

USDJPY continues to range trade despite headlines surrounding U.S. elections and mixed signals on U.S. fiscal stimulus hopes. Given this, the risk for higher volatility into and around the U.S. election still supports being long safe haven currencies such as the yen. Further supporting the bias for appreciation is the pullback in outbound investment flows relative to the pace set at the beginning of the year. All else being equal, this pullback in outbound flows has neutralized what was an idiosyncratic source of yen weakness.

CAD

Canada is seeing an uptick in virus cases that has led to lockdown restrictions being reimposed. However, the economic downside of these lockdowns should be mitigated by fiscal and monetary support as well as targeted lockdowns versus blanket ones. On the monetary policy front, BoC Governor Tiff Macklem has touched on tools the bank still has at its disposal. This list included more QE, yield curve control and negative rates. Governor Macklem noted none of these tools are being actively considered but also didn’t rule anything out. The expectation remains for the loonie to be driven by the global risk backdrop and broad U.S. dollar moves.

CNY

After weeks of yuan appreciation, Chinese officials finally signaled their concern about the yuan’s advance by removing the requirement for financial institutions to hold 20% reserves against forward positions. This requirement was put in place in August 2018 at a time when the yuan was under pressure. While an argument can be made that Chinese policymakers removed this requirement because they felt current market conditions allowed for such a change without hurting market liquidity, the fact that this change came one day after sharp yuan appreciation was not lost on the markets. Given this, a recovering Chinese economy and relatively high interest rates should continue to support the yuan.

AUD

While the labor markets are always important, the Reserve Bank of Australia (RBA) has put increased focus on jobs. To this point, Australia’s labor market remains under stress, as September’s jobs report showed the country’s first jobs contraction since May. On the monetary policy front, dovish rhetoric continued out of the RBA, with Governor Lowe exceeding already dovish expectations, as he discussed the possibility of including the 10-year bond in the yield curve control program, adding to speculation for further rate cuts and an expansion of QE. Near term, expect the Aussie to track equities and the U.S. dollar.

MAJOR CENTRAL BANK ACTIVITY THIS WEEK

No Major Central Bank Meeting

KEY MARKET MOVING ECONOMIC RELEASES

United States and Canada

10/22 U.S. Initial Jobless Claims Expectations for 848K claims
10/23 U.S. Manufacturing and Services PMI Expectations for a 53.4 and 54.6 print, respectively
10/21 Canadian CPI  Expectations for the year-over-year rate to rise to 0.6% 

Europe/Eurozone 

10/22 EZ Consumer Confidence Expectations for a -15.0 print
10/23 EZ Manufacturing and Services PMI Expectations for a 53.0 and 47.0 print, respectively 
10/23 German Manufacturing and Services PMI Expectations for a 55.0 and 49.4 print, respectively 
10/23 U.K. Manufacturing and Services PMI Expectations for a 53.0 print for both data series

Asia/Japan, and New Zealand 

10/22 Japanese CPI YoY Expectations for the year-over-year rate to drop to 0.0%
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