This column was originally published on RealMoney on Nov. 2 at 3:00 p.m. EST. It's being republished as a bonus for TheStreet.com readers.
By now, everyone is well aware that the U.S. will hold midterm elections on Nov. 7, and that most polls suggest the Democratic Party may garner a majority in the House of Representatives and could get control of the Senate as well. Nonetheless, investors have taken a favorable look at U.S. assets.
The equity market has rallied strongly, with new record highs in the
Dow Jones Industrial Average
and a double-digit gain for the
, with about a third of this year's gain being scored over the past month, even as a Democrat victory looked more likely.
While the U.S. Treasury market has moved lower in recent weeks, it has held up better than the European and Canadian bond markets. The dollar has held its own. The euro has been mostly below its 100-day moving average since the start of October. The greenback recorded its high for the year against the Japanese yen on Oct. 13, just below JPY120.
Plains and Politics
It makes perfect sense, unless you believe the pundits and partisans, who are frequently the same people. The political bias of most Wall Street commentaries seems clear: A Democratic victory would result in higher taxes, more regulation and insipid protectionism. It is almost as if the analysis is taken straight from a stump speech, like Vice President Dick Cheney's, who warns that a Democratic victory would "sabotage" the economy.
The fact is that the U.S. political parties are not ideologically distinct. This is readily grasped by most observers outside the country. Just like a mountain is clearer from the plain than from the summit, a lot of domestic analysis suffers from the hubris of small differences. What passes for political dialogue in the U.S. would be little more than a hair-splitting debate, for example, within the right wing of the U.K.'s Tory Party or right wing of Germany's Christian Democrat Party.
Indeed, the historical record shows that Democrats have done no worse and, in some respects, have done better than Republicans in delivering economic prosperity. But the point is not to counter conservatively biased analysis with a liberal bias. Instead, the point is to show that there's good reason for the markets to pay little mind to the U.S. election.
One of the most startling characteristics of the U.S. electoral system is the power of incumbency. Over time, something like 90% to 95% of the incumbent national legislators who run get re-elected.
To appreciate the significance of this, consider by contrast the power of incumbency in undemocratic regimes like the Soviet Union and China. A 1998 essay by Chinese scholar Minxin Pei noted that before glasnost, the re-election rate of full members of the central committee of the Communist Party hovered around the high 80% area in the late 1970s and early 1980s. In China, the power of incumbency was weaker, hardly ever moving above 50% since the death of Chairman Mao. In 1997, the last data that Pei included, China's re-election rate was 43%, less than half the U.S. rate.
Regardless of the election's outcome, important parts of macroeconomic policy are unlikely to change. This is especially true of monetary policy. Fiscal policy probably won't change fundamentally, either. Most of the Bush administration-pushed tax cuts expire in 2011, thus appearing relatively safe. Even the most optimistic scenarios do not call for Democrats to achieve a veto-proof majority.
In addition, even if Republican candidates do unexpectedly well, the power of the executive branch that has grown markedly in recent years will be more checked. Due to the unpopularity of the war in Iraq and a high degree of economic anxiety, many Republican candidates have distanced themselves from the president. In addition, Bush's trade promotion authority (fast-track) is set to expire next year and is unlikely to be renewed, even if the Republican Party is able to maintain its majority in both chambers.
No Derailment Ahead
If the Democrats do achieve a majority in the House, which would require a net gain of 15 seats, California Congresswoman Nancy Pelosi would most likely be the next speaker. The Democrat strategy calls for three immediate legislative goals: raise the minimum wage; lower interest rates on student loans guaranteed by the government; and lower prescription prices for Medicare. These issues do not appear to be the stuff that would derail a $12 trillion economy.
The war in Iraq is a significant issue for Americans. It's not simply a point of disagreement between the parties, but is dividing the parties themselves. Shortly after the election, a blue-ribbon commission headed up by former Secretary of State James Baker will issue a review of U.S. policy and is widely expected to call for a fundamental shift in strategy. This and the passing of the election likely will create an opportunity for the political elites of both parties to hammer out a bipartisan approach. This will help depoliticize the issue and possibly reduce its saliency for the 2008 presidential race.
The argument here is not that the election does not matter. It surely does, but not in terms of macroeconomic policy or the direction of the U.S. dollar. Of the myriad factors that move the foreign-exchange market, which party enjoys a majority in Congress is not among them.
The most important point is not to confuse partisan claims with analysis. Your overall view on the direction of the U.S. economy, interest rates, equity prices and the dollar should not be impacted by the electoral outcome.
Marc Chandler has been covering the global capital markets in one fashion or another for nearly 20 years, working at economic consulting firms and global investment banks. Currently, he is the chief foreign exchange strategist at Brown Brothers Harriman. Recently, Chandler was the chief currency strategist for HSBC Bank USA. He is a prolific writer and speaker and appears regularly on CNBC. In addition to being quoted in the financial press, Chandler is often a guest writer for the Financial Times. He also teaches at New York University, where he is an associate professor in the School of Continuing and Professional Studies. While Chandler cannot provide investment advice or recommendations, he appreciates your feedback;
to send him an email.