Political Cause and Effect

Political Economy Mike O’Brien Composition II Mrs. Kovarik February 15, 2011 Abstract Politics and the stock market are at times quite interdependent. On can very easily affect the other; this is usually a negative effect. It has be theorized that the stock market can, single-handedly, change the Presidential approval rating. Dramatic political events also help shape the returns from the stock market. Political parties, political party transitions, and the policies of these parties have a major effect on the returns from the stock market.

Many studies have been conducted on the topic of political economy and also many papers have been written about it. Political economy is the study of these simple ideas and many others that are more extensive. As Bryan Keller (2008) stated in his article Political party power and its affect on U. S. market return, “Few things cloud a person’s objectivity faster than the insertion of politics into a conversation.

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Simply stated, when political issues and platforms can be boiled down to bumper sticker slogans and backpack patches to bolster support, the absence of perspective and detail greatly detract from one’s ability to objectively analyze the topic at hand” (p. 1). This is a true statement when conversing about any type or category of politics; however, never is it so true as when it is concerning the topic of political economy. This is a rather broad topic and for that reason it is usually pulled apart into different classes. As Harry B.

Ellis (1968) writes, in his book entitled Ideals and Ideologies, “The American economy is a gigantic, interlocking mesh of daily, hourly decisions taken by millions of men and women, acting independently of one another, motivated by their knowledge of the business conditions under which they work” (Ellis, p. 172). The basic class of political economy is the effects of politics on the stock market and conversely how the stock market affects politics. There are historically and currently numerous factor which negatively effect the United States stock market.

The Merriam-Webster (2011) web site posts the definition of political economy as “The theory or study of the role of public policy in influencing the economic and social welfare of a political unit” (n. p. ). This is every book and paper about political economy summed up into one short sentence. Politics and the stock market have been intertwined since the beginning, one can hardly move without the other reacting is some form. As time progresses they only become more and more interwoven into a single fabric.

As Bryan Keller (2008) mentions, the common held belief is that Republicans are better for the stock market in that they lower taxes, strive for smaller government, increased free trade, fight for a stronger defense, and support more small business owners. While Democrats are worse for the stock market due to the fact they promote large entitlement programs, raise taxes, work for a larger government, increased government spending and tend to support larger corporations instead of small businesses. Despite that being the accepted way of thinking for many years, these are overly simplistic ideas and they fail to capture the actual facts (p. ). Many political actions have effects on the stock market, and all to varying degrees. In Frank Newport’s (2009) article, entitled Presidential approval and the Dow: No clear relationship, he analyzes data gathered from Gallup polls and compares these to the Dow Jones Industrial Average (p. 1). According to the Gallup (2011) web site, “Gallup polls aim to represent the opinions of a sample of people representing the same opinions that would be obtained if it were possible to interview everyone in a given country” (n. p. ). These polls are examined by experts all over the world to track many different indexes.

As defined by the Wordnet (2011) web site, the Dow Jones Industrial Average is “An indicator based on the share values of 30 blue-chip stocks listed on the New York Stock Exchange, the Dow Jones Industrial Average is the most widely cited indicator of how the stock market is doing” (n. p. ). Newport (2009) went on to put both the Gallup poll of Presidential approval rating and the Dow Jones are both graphed and compared, at first there seems to be an interesting correlation. At many times while the past 6 Presidents were in office, the stock market generally move in the same direction as their approval rating.

But upon closer inspection, it can be discovered that there is minimal connection between the two. Yes, they can affect each other, but that in no way means they are related. Sometimes, when the President has enacted a new bill that positively affects the economy, both his approval rating and the Dow go up. This is most probably where the idea of the connection comes from. Also when the market is falling and the President either can’t or won’t fix it, his approval rating tends to lower along with the market. So in some ways the Dow and the Presidential approval rating are connected but only by a thin, controversial link.

It may just be safer to say that experts are finding data to fit their theory instead of finding a theory to fit the data (p. 3). There have been major political events that have cause dramatic change in the Dow. As Mark Jickling (2001) studied data for writing his report to Congress, entitled The stock market’s response to dramatic historical events, he began to observe many reactions in the stock market surrounding days of important political events. This report was written only three days after the tragic attack on September 11, 2001.

It was written to show that, while drastic political events do adversely affect the stock market, those effects to not, for the most part, last for an extended period of time. Immediately after the attacks on September 11, the stock markets were closed to prevent frightened shareholders from panicking and withdrawing all their money, which would in turn cause an extensive decrease in the stock market. Historically this appears to be a very wise decision. On December 7, 1941, the Japanese military bombed the U. S. Naval Base on Pearl Harbor.

On that day the stock market declined over 5%, it did appear to be recovering until we began to take part in World War II. On November 22, 1963, John F. Kennedy was assassinated. On that day the stock market dropped three percentage points. It did however recover in about one week. On October 27,1997, the stock market dropped 7. 2%. This tremendous drop was due to the fact that the Asian financial crisis had spread to Hong Kong. This caused thousands of Americans to withdraw their money since they thought it was spreading to the United States. The next day the stock market went up almost 4. % (p. 3). Historically, the stock market can react very dramatically or not even at all to major political actions. It is impossible to predict how one action can affect the stock market. At times there can even be effects without a single cause. On October 19, 1987, the stock market dropped an astounding 23% and it stayed below the previous level for several months reported Jickling (2001). There was absolutely no cause or reason for it to drop like it did. Due to the fact the market was closed September 11 and the days following, the Dow never did go down an irregular amount.

Historically the market has reacted unfavorably to dramatic historical events (p. 4). As Claude Pepper once stated “A stockbroker urged me to buy a stock that would triple its value every year. I told him, ‘At my age, I don’t even buy green bananas’” (n. p. ). This quote basically sums up the volatility of the stock market today. It has been found that through extensive studies performed by Bryan Keller (2008), that the Dow perform better under a Democratic President but under a Republican House of Representatives and Senate.

Since 1928, Republicans have had control of the presidency for 485 months, which translates to roughly 50. 4% of the time. On the other hand, Republicans have been in the majority in the House for 31. 2% of the time and the Senate for 26. 2% of the time. The average return while a Republican was in office is 8. 96 %, compared to when a Democrat is in office the return is 13. 09 %. This is a difference of 4. 13%, which is quite substantial when considering the enormous size of the market. However, in the Senate the Republicans had 2. 52% more than the Democrats, and 0. 95% in the House.

Also during the transition period from a Republican President to a Democratic President the stock market in much larger than when the change happens in the reverse (p. 2). These same results are consistently repeated when different factors are taken into consideration, and also when performed by different people. As Pedro Santa-Clara (2003) suggests in his article entitled The Presidential puzzle: Political cycles and the stock market, if all this is true and the stock market reacts that way when these affairs transpire, shouldn’t the general public understand these facts and use them to invest?

His answer is no. As he so wisely states, this is just what has happened historically on paper. There is no way to tell what may take place next time. Also much of the change occurs gradually, since the market is slow to respond to such small of a stimulant right away (p. 25). This is just one of the many extensive ways in which politics can effect the stock market. American politics and it’s economy are hopelessly intertwined and shall remain so far into the foreseeable future. Sometimes the actions that politicians take affect the stock market, not always directly.

The stock market can also, at times, affect politics here in America. Be it the election of President or passing a bill in Congress, as time progresses there is becoming less and less of a distinction between each. Politics and the economy both cause effects on the other. References Ellis, H. B. (1986). Ideals and Ideologies. New York, New York, United States: World Publishing Company. Gallup Inc. (20011). Public opinion polls: How does Gallup polling work? Retrieved Feb 11, 2011, from Gallup. com: http://www. gallup. com/poll/101872/How-does-Gallup-polling-work. aspx Jickling, M. (2001).

The stock market’s response to dramatic historical events. CRS Report for Congress , RS21001. Retrieved on November 11, 2011 from MasterFILE Premier database. Keller, B. (2007). Political party power and its affect on U. S. return. Applied Financial Economics , 17 (8), 597-605. Retrieved on November 11, 2011 from MasterFILE Premier database. Newport, F. , Jones, J. M. , & Saad, L. (2009, Aug 28). Presidntial approval and the Dow: No clear relationship. Retrieved Feb 11, 2011, from Gallup: http://www. gallup. com/poll/122567/presidential-approval-dow-no-clear-relationship. aspx Merriam-Webster Incorporated. 2011). Political Economy-Defintion from Merriam-Webster Dictionary. Retrieved Feb 11, 2011, from Merriam-Webester Dictionary Online: http://www. merriam-webster. com/dictionary/political%20economy Santa-Clara, P. , & Valkanov, R. (2003). The presidential puzzle: Political cycles and te stock market. Journal of Finace , 58 (5), 1841-1872. Retrieved on November 11, 2011 from MasterFILE Premier database. Trustees of Princeton University. (2011, Feb 3). Wordnet Search 3. 0. Retrieved Feb 11, 2011, from Wordnet: http://wordnetweb. princeton. edu/perl/webwn? s=dow-jones%20industrial%20average



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