In today’s society, politics and economy are two domains deeply intertwined. Fluctuations in either area will send ripples of effect throughout the other. Therefore, understanding the correlation is crucial to making informed foresights of our society. In my analysis, election cycles have a profound and lasting consequence on economic policy making and financial markets. As elections are the foundations of a democratic governance, the fact that in 2024 at least 64 nations in the world, accounting for 49 percent of the global population, is going to vote this year [1] makes it even more important for us to recognize the potential economic upheaval in the world market.
To begin with, let’s go through some key definitions: 1) Election cycles are defined as the applicable time period in which elections occur. For example, the United States’ presidential election cycle lasts four years, the congressional election cycle lasts two years, and the European parliament election cycle lasts five years [2][3]. Both the type of the elected seat and the duration of the election cycle impact the economy. 2) Economic policies are policies implemented and regulated by the government, most important of which include government spending, taxation and welfare. 3) The financial market is a general concept that includes the money market, the commodities market and the stock market. The stock market is an important economic indicator because it reflects investors’ prospects on the future. And as the stock market rises and falls, so too, does sentiment in the economy. As sentiment changes, so do people’s spending, which ultimately drives GDP growth. As a result, analyzing the factors mentioned above can prove the election cycles’ influence on economy.
The correlation between economy and politics is commonly known as the political business cycle (PBC) [4]. My analysis will regard the following three aspects: the opportunistic theory describes how governments tend to intentionally manipulate the economy to sway votes in to their favor, the partisan theory describes how changing terms of office influence the economy in different ways, and finally, elections themselves create uncertainty and temporarily halt economic growth.
To begin with, historical patterns indicate that governments often increase spending and decrease taxes during election years. Governments usually implement what is called expansionary policies just prior to elections, when they take a set of measures to try to stimulate the economy. An economic factor that has remained consistent for the past 110 years in the United States is that if a recession starts within two years prior to election day, the standing president has not been reelected [5]. It is absolutely essential for the incumbent government to provide a promising economy if they are seeking reelection. This is known as the opportunistic theory, since the expansionary policies during election years are opportunistic, solely aimed for reelection, but not systematic or based on the political principles of any specific party.
Therefore, on the monetary aspect, the government will aim to increase liquidity, or in other words increase the money supply of the economy. This can be achieved through lowering lending rates by the central bank, discourage savings and encourage consumption and investment, which promotes economic growth. Economics professor Mike Walden reacts to the U.S. federal bank’s potential cuts to interest rates by commenting that voters “may be more likely to reward incumbent politicians by voting for them.” [6]
On the fiscal aspect, governments might also increase spending on infrastructure projects, subsidizing the job market, and cut taxes. It is easier for the current administration to be reelected if unemployment rates drop and the economy seems promising. Goldman Sachs research shows that government fiscal balances decline by about 0.4 percent of the GDP, which means the government spends more than it receives on average in election years [7].
Notably, comprehensive studies conducted by Alan S. Drazen show that developing countries with weaker democratic institutions and with less oversight, such as those without an independent central bank, provide more opportunities for PBCs to occur. The phenomenon is also prevalent in systems with frequent elections or high political competition, according to the researcher [8]. On one hand, the presence of challengers in an election creates uncertainty for the authoritarian incumbent, increasing the likelihood of producing an opportunistic behavior. On the other hand, in inaugural elections, the absence of a free press or other institutional checks means there is less chance of such constraints on PBC. Not only prior to elections, but also post elections, do government have the incentive to manipulate the economy. Post-election policy changes that commonly differ significantly from their predecessors can yield great effects on economic growth, sectoral performance, and long-term investment strategies. Markets would react strongly to the new policy direction, with some sectors benefiting from new policies seeing gains and others who suffer seeing declines. For instance, a study conducted on provincial elections in Canada reveals a prevailing tendency that decrease spending in Health, Social Services and Industrial Development in election years vis-a-vis non-election years, while spending in Education, Transportation and Communication, and Recreation and Culture increases in election years versus nonelection years. This tendency is attributed to provincial governments preferring areas that are “visible and identifiable” [9].
In the long-term, the opportunistic manipulation of the economy would bring further impacts. For example, after the election, once the immediate pressure to win has passed, the temporary economic measures may be reversed. This could involve spending cuts, tax increases, or other adjustments, leading to a potential economic downturn or slower growth. Furthermore, a study by the International Monetary Fund (IMF) indicates that due to 2024 being the biggest election year seen in decades, fiscal tightening might increase many countries’ burdens on public debt, and sending the outlooks of fiscal development into uncertainty. According to the IMF, primary deficits will remain above debt-stabilizing levels in 2029 in about a third of advanced and emerging market economies and in almost a quarter of low-income developing countries [10].
Secondly, term alternations commonly exhibit long-term patterns on the economy. When the governing power alternates regularly within a few parties, long- term patterns of the economic cycles emerge, thus acquiring the name the partisan theory, since these economic impacts are results of specific partisan policies. On the one hand, research studying stock market performance shows that democratic presidencies in the US typically accompany a CRSP (Center for Research in Security Prices) index, which reflects the vitality of the stock market, higher than that of republican presidencies [11]. According to data from the Bank of England, stock markets in the UK exhibit stronger growth under Conservative governments compared to Republican governments [12]. Both examples can explain how shareholders usually have different expectations toward different administrations. More generally, a study of OECD countries yields results suggesting that leftwing governments expand the economy when elected, and then inflation expectations adjust and the economy returns to its natural growth rate. When rightwing governments are elected, they fight inflation, causing a recession or a growth slowdown. Later in their term, the economy goes back at its natural growth rate and inflation remains low [13]. On other hand, regarding economic policy making, a partisan review argues that Democratic Administrations in the US have typically pursued more expansionary aggregate demand policies than Republican Administrations which, as much previous research also has concluded, yield better (especially) early-term, real output performance and worse (especially) late-term, inflation performance.
Finally, general elections influence stock markets significantly due to uncertainty. The uncertainty surrounding their results usually leads to heightened market volatility prior to the election. After the election, markets also continue to fluctuate as the new government’s policy priorities become apparent. This is more remarkable in majoritarian electoral systems, also known as the “winner takes all” scenario, such as with the first-preference plurality principle in the UK and the electoral college in the US, where it is harder to predict the outcome of the election [14]. Political uncertainties would also discourage investments in the market, as research indicates that corporate investment rates drop by an average of 4.8% in the period leading up to elections relative to investment rates in nonelection years. In addition, even after the election has happened, changes in government often lead to shifts in foreign policy and international relations. Geopolitical risks that result from such changes are typically linked to declines in share prices [15].
In conclusion, election cycles undeniably play a significant role in shaping economic policymaking and influencing financial markets. The transition of power often introduces shifts in economic priorities and strategies, affecting both short-term and long-term financial outcomes. Furthermore, as political candidates vie for office, their campaign promises and proposed policies can create periods of uncertainty or anticipation in the markets. Finally, partisan biases generally create different economic policies and yield varied impacts on the economy during different administrations.
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