Kevin Lamarque / Reuters A security guard walks in front of an image of the Federal Reserve following the two-day Federal Open Market Committee (FOMC) policy meeting in Washington, DC, on March 16, 2016.

Democrats, Republicans, and the Federal Reserve

Partisanship and Monetary Policy

In the United States, the normalization of interest rates seems inevitable. With the unemployment rate back to its pre-crisis level and inflation slowly moving toward the Federal Reserve’s two percent target, international investors and central bankers expect the rate to move to around three percent from the current 0.5 percent over the next two to three years. Given the body’s high degree of independence, markets assume that Fed Chair Janet Yellen’s decisions will solely rest on macroeconomic data, not on the outcome of the presidential election in November. But history shows that transitions in the White House from Democrats to Republicans are not inconsequential for monetary policy. And a victory by Republican contender Donald Trump would likely confirm the rule.

Janet Yellen is sworn in to testify at her U.S. Senate Banking Committee confirmation hearing in Washington, November 14, 2013.

Janet Yellen is sworn in to testify at her U.S. Senate Banking Committee confirmation hearing in Washington, November 14, 2013.

Independence from the executive branch does not mean that the Fed ignores politics at all costs. And in fact, the body’s political attentiveness might be especially high during a presidential vote, which could bring ideological change and a new policy mix, affecting the economy as a whole and, ultimately, the monetary policy response.

A glance at the evolution of the Fed funds rate, the Reserve’s main interest benchmark, since the 1960s points to a sort of political monetary cycle: When a Democratic presidential term came to an end (whether John F. Kennedy/Lyndon Johnson, Bill Clinton, or Barack Obama) benchmark interest rates were always higher than they were at its beginning. When a Republican was in office (Richard Nixon, Ronald Reagan, George Bush, and George W. Bush), on the other hand, interest rates moved down. In other words, a transition from a Democratic to a Republican presidential era was always associated with a long cycle of monetary loosening, whereas when a Democrat took power, monetary policy tightened (rates fluctuate quite substantially between the beginning and the end of a presidential term).

The least plausible explanation for such odd macroeconomic regularity is that the Fed acts strategically to benefit the party that first appointed its chairman, meaning that

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