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Economists challenge Fed independence
We find evidence that the Fed sets an unusually aggressive monetary policy in the run up to presidential elections when the Fed chair and the president have a political affiliation, Abrams said, and that this relationship holds, on average, for both Republicans and Democrats. Abrams and Iossifov evaluate the Fed's monetary policy actions for the period 1957-2004 by assessing its usual response to various economic conditions. The Fed seems to target its primary interest rate, the federal funds rate, quite predictably in response to inflation and unemployment considerations until a presidential election looms and the Fed chair and the sitting president have a party connection, Abrams said. At that point, the Fed seems to err on the side of over-stimulating the economy by targeting the federal funds rate lower than circumstances would suggest. Economists and political scientists have previously established a link between favorable employment news and subsequent votes for the sitting president or the sitting president's party. This link provides a political motivation for presidents to pressure the Fed and for Fed chairs with partisan affiliations to over-stimulate the economy in the run up to the election, Abrams said. Abrams and Iossifov find that, if there is no political party connection between the Fed chair and the president, the Fed abstains from over-stimulating the economy. Abrams and Iossifov also find that Alan Greenspan, the recently replaced chairman of the Federal Reserve, had performed significantly less politically than his predecessors. It seems that a strong or independent Fed chair may be able to resist the temptation to act politically, but this is the exception not the rule, Abrams said. Article by Neil Thomas |