johnnymk

NY TIMES


Many Democrats are certain the Federal Reserve has a Republican bias. They point out that the Fed raised interest rates six times from June 1999 to May 2000, holding the economy back while Al Gore was running for president, but lowered them 13 times once George W. Bush defeated him.

Some Republicans have a chip on their own shoulders. They contend that in 1992, the Fed helped Bill Clinton defeat President Bush's father by not lowering interest rates fast enough in the face of a sluggish economic recovery.

Most economists dismiss such complaints of political favoritism. But the Fed is not totally above the fray. Indeed, there seems to be one clear political pattern in interest-rate decisions - one particularly relevant to today's circumstances. Precisely because of the potential impact of changes in monetary policy, the Fed tries not to start raising interest rates in the months before a presidential election.

"The Fed considers itself apolitical, but that does not mean ignoring politics; rather, it means trying to avoid becoming a political issue itself," said Laurence H. Meyer, a former Fed governor who advises investors on monetary policy. "It tries to do this by avoiding actions that are unnecessarily provocative."

This year, avoiding provocation could be awkward. With the economy perking up and interest rates at historic lows, there is little doubt that the Fed's next move will be to raise rates, for the first time since May 2000.

But when? Starting to raise rates in September, at the last meeting of the Federal Open Markets Committee before the election, could be seen as a slap at President Bush. Raising rates at the November meeting, a week after the election, might elicit charges that the Fed waited to avoid harming Mr. Bush's electoral chances by putting the brakes on the economy. The committee meets again in December, but few economists expect sharp policy changes in a month when financial market activity traditionally tails off.

So if the Fed does not move by August, the betting is that it is not likely to do anything until next January. The futures markets are predicting that short-term rates will rise from the current 1 percent to 1.25 percent by the summer.

Evidence of the Fed treading carefully before presidential elections extends back at least 40 years. Gary Hufbauer and Paul Grieco of the Institute for International Economics found that from November 1959 to October 2003, the Fed changed interest rates only about half as frequently in the six months before an election as in other six-month periods. Most of the Fed's moves in the months before an election have involved staying a previously set course of raising or lowering rates.

"The Fed wants to maximize its long-term independence," Mr. Hufbauer explained. "The way to keep your long-term independence is you don't do anything that seems highly political around the elections."

That is not to say that the Fed chairman, Alan Greenspan, will stay silent in economic policy debates. He angered Democrats by supporting President Bush's first round of tax cuts in 2001. Last year, he angered Republican backers of further cuts by warning about the long-range danger of continued fiscal deficits.

"He is marching into territory which is inviting a clipping of wings," Mr. Hufbauer said. "He's walked to the edge and risked it."

Despite the chairman's taste for the political, the Fed vehemently rejects the notion that politics affects its monetary policy decisions.

"The F.O.M.C. does not in policy or practice refrain from taking action on monetary policy in election periods," a Fed spokesman said yesterday.

Mr. Meyer - who expects the Fed to raise interest rates in January of 2005 - stresses that electoral considerations would not keep the Fed from acting if something drastic were to change in the economy, say a spike in inflation.

Dick Rippe, chief economist at Prudential Equity Group, noted that under Chairman Paul A. Volcker, the Fed reversed course on monetary policy and started a period of steep interest rate increases in September 1980. That move gets at least some of the credit - or blame, depending on your politics - for Ronald Reagan's defeat of President Jimmy Carter that November.

Mr. Rippe noted that Mr. Volcker's Fed acted during a period of very high inflation that could justify drastic action. "Barring some sort of emergency," Mr. Rippe said, "once beyond Labor Day, it would be hard to make a move. It would inject the Fed into the political debate in a way that they would not like."

Do these political considerations matter in 2004? Alice M. Rivlin, a former vice chairwoman of the Fed who is now at the Brookings Institution in Washington, said that given the sluggish job growth and the virtual absence of inflation, the Fed has no reason to tighten monetary policy for quite awhile, regardless of the electoral calendar.

But Mr. Meyer said the calculation changes if the economy shows signs of further heating up. Then, to avoid acting at the height of the political season, "the Fed might get uncomfortable and act sooner," he said.

Or, said Mr. Hufbauer, the Fed might make the perilous choice to delay action. In the past, he said, the most common monetary policy error has been failing to raise interest rates aggressively enough. This time, he argues, economic growth will probably justify a pre-emptive interest rate rise by the spring. Yet he worries that, given the election, the Fed governors "will act less pre-emptively this year than they would normally."

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Government's view of the economy could be summed up in a few short phrases: If it moves, tax it. If it keeps moving, regulate it. And if it stops moving, subsidize it. - Ronald Reagan (1986)

LegendKiller

Gawd, these politicians will use anything.


Hrm, the economy is flying high in 99-00, so lets NOT raise IR's and have the LRAD exceed LRAS, resulting in rampant inflation. Putting the breaks on spending by raising interest rates is one of the better tools to fight inflation.

Even better are the claims that he is helping Bush right now. Yeah, lets keep IR's HIGH to ensure that businesses DON'T borrow as much!! BRILLIANT!

As far as the tax cuts, there has been a VERY strong corellation to LOWERING the higher-bracket marginal taxes, resulting in MORE tax income for the gubment, it's just the following of the Laffer curve.

Of course, most moronic voter's won't have even rudementry economics and will buy into this BS.


Sigh.


LK

johnnymk

The main reason that the boom of 1999-2000 occurred was incredible spending for Y2K, the expected profits from the dotcom era and pure speculation in the stock market.

Obviously, soon after the year 2000, spending for Y2K diminished, the dotcom era went bust and the stock market came to it's senses. And shortly after, 911 ground everything to a halt for a period of time.

I am not sure if the Fed has a bent toward any particular party, but like you said, connecting the dots would seem to indicate a trend to an untrained reader.

LegendKiller

Do you know of any study that shows the total estimated aggregate spending for y2k? It'd be interesting to see how much y2k contributed to earnings increases, extrapolate that out to irrational P/E's.

LK

ray

I'm sure there were plenty of studies conducted during Y2K, especially in the tech sector where everyone was fearing a Y2K bug and corporate spending hiked up for that quarter.

Perhaps Barron's or better yet, the WSJ or FT have some old articles. I don't have my online subscription to either one anymore, so unfortunately I can't dig through their archives.

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johnnymk

If I recall, the total spending was between $100 billion to $600 billio. I know that is a big spread and I am not sure if that was worldwide spending or if it just applied to America.

As to irrational P/E's, I don't think they were reflected in Y2K companies (solar panels, generators, embedded chips, survival food, computers, etc.).

I believe those ridiculous P/E's applied to many dotcom startups like Yahoo and many of the companies that have faded away during the past several years.

LegendKiller

Most likely, a very small part of the overall "boom" was due to Y2k, but it would be interesting to study anyway (wish I had the time).

It is unfortunate that people do not take the time to fully understand monetary policy and what it means to the overall economy. Raising and lowering interest rates as so much more to do with the economy that simply getting a better mortgage. FUD like that article is slung by both parties and all it does is befuddle the average american who hasn't had a decent economics class in their education.


LK

zippyjuan

Jobs is another reason that the Fed choses not to raise interest rates at this time. Lower rates here in the USA relative to the rest of the world has driven down the value of the dollar quite a bit in the last year or so. This makes imports more expensive (so people will be more likely to buy more domestic items instead) and exports cheaper so foreigners will buy more US goods. Without this, the 1000 jobs created in December (yes- one thousand) would have been a negative number. There is an election coming up so they don't want to do anything now that may hurt the economy. Plus there are no real signs of inflation yet. In their usual cryptic way of saying things, the Fed did not rule out the future raising of rates as they did last time.

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