John RapleyYOU CAN'T beat the market. It's not a hard-fast-rule in American politics, but it's as close as it gets. Incumbents tend not to lose presidential elections held during a bull market, and seldom win them during bear markets.
And that, arguably, is Democratic vice president Al Gore's biggest problem. Pundits have followed the ebb-and-flow of the election campaign in order to explain the shifting dynamics of this neck-and-neck race. But I wonder how much any of that matters. With most Americans apparently ignoring the campaign, the candidates have had to go on the talk show circuits just to get an audience. Put plainly, even though this is a very important election, presenting Americans with some stark choices, most voters appear to have tuned out. In the end, other factors appear likely to weigh on their decisions.
Indeed, the stock market, which arguably drives the sense of economic well-being that has fed the US boom, can be seen to explain much of the variation in the presidential campaign. Since April, it has been soft. So too have the approval ratings for the President and, with him, Mr. Gore. Then in August, there was a brief rally, at which time the president's approval rating rose and Mr. Gore inched ahead in the race. But since then, it has gone downhill. Consequently, George W. Bush has pulled back into the lead.
Appreciating the importance of the stock market to the election may explain one of the apparent paradoxes in US policy this year. Anxious to rein in the US boom before it drove up inflation, the Federal Reserve began raising short-term interest rates. At the same time, the Treasury Department started using the government's budget surplus to buy back debt. By thereby reducing the supply of government bonds, the administration has caused their price to rise. As their price rises, their yields come down. Thus, interest rates fall. This not only lowers the cost of debt, but diminishes the value of bonds relative to stocks, encouraging stock-buying.
Now, the idea of using surpluses to buy back debt makes eminent sense over the longer term. But the logic of doing it at the peak of the business cycle escapes me. In effect, at a time when the government should be trying to temper growth to keep it within sustainable limits, it is injecting tens of billions more dollars into the economy. The Federal Reserve and Treasury Department appear to be caught in a dangerous tug-of-war, operating at apparent cross-purposes. The only ready explanation that comes to my mind is that the government has been anxious to keep liquidity good to forestall a sharp downward stock market slide in an election year.
But the strategy has been risky. Investment by manufacturers tends to be influenced by short-term interest rates. Consumption, however, is governed more by long-term interest rates on such things as mortgages and home equity loans. So, as the Federal Reserve has reined in interest rates, output has slowed considerably. Looking further down the road, diminished capital spending translates into lower productivity gains, which erodes profits and can stoke up inflation.
However, spending, governed by the long-term rates the government has succeeded in curbing, has not come down so much. And anyone who has studied basic economics knows its first rule, that when demand outruns supply, prices are bid up and inflation rises. This has been the case in recent months. So the worst-case scenario now seems to be coming into play: profits are declining and inflation is rising. The result is a stock market that has entered a decidedly bearish phase, and is now at risk of an eventual free fall.
My guess and it's only a guess is that the administration judged it could temper a decline in the market at least through the end of this year, and possibly soften the blow of a bear market when it came. But the stakes on the gamble appear to have been raised considerably. Al Gore faces an even more difficult task in trying to win the election. However, given that the eventual victor may end up inheriting an imploding market and with it, an economy at risk of recession that may be just as well for him.
John Rapley is a Senior Lecturer in the Department of Government, University of the West Indies.
