By Desiree Rickett
When a new store opens down the street, the value of the stock market (specifically DOW or NASDAQ) rises, or the national currency is worth more, to whom should society give the credit? If the economy is doing great, it is common to see the president credit themself as the reason for such a feat. If the economy is failing, the responsibility is shifted to foreign nations or falling companies. If there is no change in the economy, it is the people who are accredited with neither doing better nor worse. This further shrouds the enigma of who really controls the economy. Although some may argue that the booms and busts of the economy are attributed to public and/or major corporations and only partly controlled by the government, many economists show that the majority of economic inflections are due to the influence and decisions of the federal government.
The most obvious effect of the federal government on the economy is seen through analysis of the effects of government spending in production models. In 1988, Steven Durlauf and Robert Staiger examined how changes in government spending influenced the market. They conclude in their working paper titled Compositional Effects of Government Spending in a Two-Sector Production Model, “Within a given period, a shift in the composition of government spending towards the non-tradeable good will raise the relative price of non-tradeables, and thus raise (lower) the real interest rate if the non-tradeable good is capital (labor) intensive. The real exchange rate, tautologically equal to the non-tradeable/tradable price ratio, appreciates as well.” Using a production model, Durlauf and Staiger were able to draw a connection between the budget of the federal government and the rise of interest and exchange rates. Of course, this model fails to consider outside influence from foreign countries and the spending habits of the public, but it is a good indicator that the government does affect the economy in some form.
As mentioned above, the president is often seen as the forefront figure responsible for the condition of the economy. It is, therefore, only reasonable to question whether or not the president’s actions truly affect economic growth. Presidential Leadership and the Reform of Fiscal Policy: Learning from Reagan’s Role in TRA 86 by Robert Inman explores the relationship between the notion that the president is the face of the economy with the actual bond between the two. The Tax Reform Act of 1986 (TRA 86) was passed largely due to the influence of the president of the time. “While perhaps not sufficient to re-align American politics, the presidential popularity gains from TRA 86 were large enough to influence congressional and gubernatorial races and subsequent congressional votes.” By utilizing executive resources and the veto strategy, presidents are able to influence major fiscal reforms. In the particular example of the TRA 86, President Reagon was able to use a veto threat to control the Senate to create tax loopholes and to insure that the median voters in a majority of congressional districts benefited economically due to the policy, causing what was perceived as a growth in the market due to policy reform to benefit and influence election candidates for the next voting cycle. While some may view the actions of the president of this time as those of someone who is abusing their power, it is undeniable that, to some extent, this was a reflection of the power of the president in influencing and changing the economy. For that reason, it is vital to understand and acknowledge the effect of the president’s actions on the economy.
After linking the actions of the president to the economy, it is important to further consider how the ideology of the president influences the market. Political partisanship in the government is a key factor in determining the types of economic policies that are to arise for the subsequent 4 years following a president’s election/reelection. In fact, Presidents and the U.S. Economy: An Econometric Exploration written by Alan Blinder and Mark Watson explores how partisanship changes the performance of the economy. Through their research, they find that, “The U.S. economy has grown faster—and scored higher on many other macroeconomic metrics—when the President of the United States is a Democrat rather than a Republican.” The success of the left over the right in economics, however, is attributed to oil shocks, superior TFP performance, and a more favorable international environment. Other explanations cannot explain the partisan growth gap; therefore, the authors conclude that the main reason for the difference between Democrat and Republican presidential influences on the economy is actually good luck with maybe a touch of good policy, effectively subduing the argument that the ideology of the president has a substantial impact on the economy.
After examining the effect of the government on domestic economic policy, it is imperative to also analyze how the government policies of foreign countries have affected their economic growth, like the effect of government policies on foreign economies such as China. Kaiji Chen and Tao Zha research such effects in their working paper series Macroeconomic Effects of China’s Financial Policies. Through analysis of the relationship between changes in regime changes in financial policies and the stability of the economy, Chen and Zha conclude that, “The regime switching from the SOE-led economy to the investment-driven economy and then to the new normal economy has been a product of changes in the government’s active financial policies.” Because of the drastic financial policy changes in China due to shifts in power, it is easier to see the consequences of a variety of policies on the market. Definite correlation can only be concluded in China—the country where this information was gathered—since what occurs in one part of the world does not always occur in another; however, this information can also be used to connect general government actions to market growth/decay to some extent.
Considering the evidence at hand, it becomes clear that there is an irrefutable connection between the actions of the government and the economy, which a majority of economists already agree to. There is, however, much debate over the extent and importance of this connection, especially during times of global pandemics, war, and economic depressions. Furthermore, while the public and major corporations may influence the economy and are oftentimes attributed with the results of the market, most change is actually caused by the federal government, leaving many in need of reestablishing the popular previous notion that the federal government a small role in determining the market or price of goods today.
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