ELECTIONS, INTEREST RATES AND EXCHANGE RATE IN EMERGING MARKETS: The case of Mexico

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1 ELECTIONS, INTEREST RATES AND EXCHANGE RATE IN EMERGING MARKETS: The case of Mexico Cesáreo Gámez Ph.D. Program in Business Administration Escuela de Graduados en Administración de Empresas (EGADE) Instituto Tecnológico y de Estudios Superiores de Monterrey (ITESM) Monterrey, Mexico January 2005

2 Abstract This paper analyzes the effects of Presidential elections on the patterns of behavior of the interest rates and the exchange rate in an emerging market, in this case, Mexico. Under the general framework of the political-business cycle theory, monthly data on interest rate and exchange rate are analyzed for the period between January 1986 and June 2004, in which three Presidential elections took place: in July 1988, 1994 and The method of analysis was autoregressive models with dummy variables. Evidence is found about increases in real interest rates and depreciation of the peso in the first and second quarters after elections, which is the period when the new President takes office. A comparison of the results of this paper with former research on this topic is offered, as well as some conclusions and lines for future research. Key words: Political-business cycle, emerging markets, Mexico 2

3 The purpose of this paper is to identify patterns of behavior of financial variables around election dates in an emerging country, in this case, Mexico. Under the general framework of the so called opportunistic political business cycle, the behavior of interest rates and the exchange rate between the Mexican peso and the U.S. dollar are analyzed in the period between January 1986 and June 2004, in which there were three Presidential elections in Mexico: in 1988, 1994 and In order to do that, it is used the methodology of autoregressive models with dummy variables, which has been extensively used in former empirical research on this area. Evidence is found about significant changes in the pattern of behavior of interest rates and the exchange rate around elections. In particular, there is significant evidence of increases in the interest rates and the depreciation of the exchange rate in the first and second quarters after the elections, which are the last quarter of the government in power during the election and the first of the new Presidential regime. These findings are consistent with the postulates of the opportunistic model and former empirical evidence in Mexico and other emerging economies. One contribution of this paper to the literature on this topic is that it includes the last Presidential elections in Mexico (2000) in which, for the first time in more than 70 years, the Partido Revolucionario Institucional (PRI) was defeated. Another contribution is that in the information used in the analysis id freely available in official Mexican web sites, which makes the analysis replicable for those who are interested in doing so. The paper is organized in seven parts: in the first there is a review of the main approaches of the political business cycle and empirical evidence in developed countries, 3

4 emerging economies and Mexico, after that, there is a discussion of the period under study and the reasons to choose it, in the third part the data used in the analysis are described, followed by the description of the model used in the econometric estimations, the fifth part show the results of the estimations, followed for a discussion of these results and the obtained in former empirical research, and, finally, the main conclusions are outlined, as well as possible lines for future research. I.- Antecedents The literature about the political-business cycle was developed in two stages. The first, which emerged in the middle of the 70 s uses traditional macroeconomic models in which governments can influence in the macroeconomic conditions in a systematic and predictable way. This first stage, in turn, was developed in two branches, one of the stresses the opportunistic behavior of governments, by assuming the politicians have no economic preferences of their own, but stay in power, whereas the other, known as partisan, states that left-wing politicians and parties have certain economic preferences (high growth, low unemployment), different from the right-wing politicians or parties, who prefer low inflation and macroeconomic stability (Alesina et. al. 1999). The second stage of the literature surged in the middle of the 80 s, with applications of game theory to the economic policy. These models incorporate rational expectations of the public and stress the capability of a rational public may limit the degrees in which politicians can influence the economy. In this branch there are also the opportunistic and partisan modalities. The differences not only have to do with the assumptions about the behavior of the political and economic agents, but also with the implications of these in the observed 4

5 patterns of the macroeconomic variables. Alesina et. al. summarize the empirical implications of the different approaches of the political business cycles that have been tested in the United States and the countries of the OECD, which are presented in the Table 1. Table 1 Empirical implications of the political- business cycles Opportunistic traditional - Expansion in the year or two before the elections; GNP growth above normal, unemployment below normal in the election year - Inflation begins to increase immediately before or immediately after the election - Recession (or downturn) after the election, with gradual reduction of inflation - No differences in policies and outcomes between different governments - Incumbent reappointed when growth is high and unemployment low in election dates Opportunistic rational - Short run manipulations of policy instruments immediately before the elections: increase in deficits, inflation, money growth in the two or three quarters before each election - Tightening of monetary and fiscal policies after the elections - No systematic, multiyear effects on growth and unemployment except for, possibly some minor effects immediately before the election - Incumbent reappointed when growth is high and unemployment low in election years Partisan traditional - Unemployment permanently lower, growth and inflations permanently higher during the tenures of office of left-wing governments then that of right-wing governments Partisan rational - Short-run partisan effects after the elections: unemployment temporarily lower then normal and growth temporarily higher than normal for about two years after an electoral victory of the left; the opposite outcome after an electoral victory of the right - Inflation permanently higher when left is in office relative to when the right is in office Source: Alesina et. al. (1999) 5

6 Evidence in emerging markets In developing countries, or emerging markets, the study of the relationships among political events and macroeconomic and financial variables, emerged later. The study of the relationships between political cycles and economic variables in emerging countries gained relevance with the expansion of democratic regimes in the world that took place in the last decades of the XXth Century. According with the World Bank (2000), the proportion of countries in the world governed by democratic regimes raised from 28% in 1974 to 61% in Among the factors that produced this phenomenon are the fall of the Soviet bloc and the end of military dictatorships in Africa and Latin America. The empirical studies of the political business cycle in emerging countries can be divided in two types: those focused in the study of a specific country and those which study the effect of the political cycle in an economic variable or set of variables for a group of countries. Among the first kind of empirical papers we find the following: Larraín and Assael (1997) study the main variables of the Chilean economy in nine Presidential terms, from Pedro Aguirre Cerda ( ) to Patricio Aylwin ( ), founding evidence of the presence of the political cycle in some instrumental variables, such as the money supply, the public deficit and the exchange rate policy. The authors found significant increases in the money supply and the public deficit in the months before the elections, as well as the delay of exchange rate adjustments (devaluations of the currency) until the elections have taken place. 6

7 Ogura (2000) analyzes the Brazilian economy from 1980 to 1999, using autoregressive models with dummy variables to test the postulates of the opportunistic political cycle model. This author finds evidence of increases in the growth rate of the GDP, real interest rates and credit supply before the elections and increases in unemployment and inflation, as well as a higher rate of depreciation of the exchange rate in the months following the electoral processes. Ergun (2001) uses the opportunistic model to analyze the effects of elections in the economic and financial variables of another emerging market; in this case, Turkey, using monthly data for the period between January 1985 and May, 1999, in which there were held four national elections. By the use of autoregressive models with dummy variables for the months before and after elections, he found evidence of the significant influence of the electoral processes in the behavior of inflation, interest rates, monetary aggregates and public expenditure. Among the empirical study of the effects of the political cycles in economic variables, we find those related to the behavior of the exchange rate and those which analyze the instruments of fiscal policy. Stein and Streb (1999) analyze the relationship between the timing of elections and the behavior of a variable that has very important influence in the financial systems of many emerging economies, as the exchange rate, specially the decisions to devaluate the currency, a measure that has strong political repercussions. The authors study 26 Latin American countries between 1960 and 1994, in which there were 242 elections, 131 of which were Presidential elections. In each case, the authors 7

8 observed the behavior of the exchange rate in a 19-month period, 9 before and 9 after the elections, considered the month 0. The study found evidence that in the months 2, 3 and 4 after the elections the depreciation rate of the currency is higher than in the rest of the period, which support the hypothesis that governments tend to delay devaluations till after the elections in order to increase the probability of victory of the party in power. Sibley (2001) employs event study methodology to investigate the impact of Presidential elections on nominal currency values for a group of 15 Latin American countries between 1980 and 1996, in which there were 41 elections. The results indicate that presidential elections are associated with a statistically significant decline in nominal currency values. A very interesting finding of the Selby s work is the fact that the main effects on the exchange rate are placed not after the elections, but after the new government takes office. Our empirical results indicate that the greatest currency depreciation tends to occur at or shortly following the time of inauguration, which is typically two or four months after the election outcome becomes known. This pattern suggests that actions taken by the new President may play an important role in many cases (p. 19). As a matter of fact, Sibley uses the 1994 election in Mexico as prime example of this pattern. The results found by Sibley suggest that the stage of the political cycle in emerging countries is an important factor influencing exchange rates and should be taken into account when making trade and investment decisions. Schuknecht (2000) studies the fiscal policy instruments by which governments try to influence election outcomes in 24 developing countries for the period. The 8

9 study finds that the main vehicle for expansionary fiscal policy is increasing public expenditure rather that lowering taxes, and public investment cycles seem particularly prominent. Institutional mechanisms which constraint discretionary expenditure policies and which strengthen fiscal control are therefore worthwhile considering to prevent opportunistic policy making around elections. Evidence in Mexico Gámez and Botello (1987) studied the relationship between the Presidential cycle and some macroeconomic variables in Mexico. In this study they analyzed five Presidential terms, from Ruiz Cortines to López Portillo ( ). The authors found evidence that the Presidential cycle influences significantly in the pattern of public consumption, exports and the aggregate income. The consumption function is free from Presidential influence and in the cases of imports and investment the evidence is inconclusive. Magaloni (2000) studies the influence of the political cycle in the Mexican economy between 1970 and 1998, using autoregressive models with dummy variables. She found increases in public expenditures, private consumption and the rate of growth of the economy before the elections, and a contraction of the economic activity after the elections. She also finds evidence of strategic delays of the adjustments in the exchange rate until after the elections. A very interesting aspect of the work of Magaloni is the fact that she divides the period under study in two subsamples: the period of the so called populist governments, which are the regimes of Luis Echeverría ( ) and José López Portillo ( ), and the technocrats or neoliberal governments, which include the regimes of 9

10 Miguel de la Madrid ( ), Carlos Salinas de Gortari ( ) and Ernesto Zedillo ( ). Magaloni identifies the populist governments as leftists and the neoliberals as right wing governments, incorporating elements of the partisan model to the analysis. She states that populist governments tend to favor economic growth and lower unemployment even at the price of higher inflation, and neoliberal governments tend to favor economic stability, even if it means a relative stagnation of economic activity. Under this criterion, she divides the period under study in two subsamples: the Populist period, from 1970 to 1982, and the technocrat period, from 1983 to 1998, finding evidence of partisan behavior of these two wings of the PRI, consistent with the postulates of the partisan model. González (2000, 2002) studies a variety of the political business cycle, the political budget cycle in Mexico between 1957 and The author finds evidence of manipulation of fiscal policy instruments in the periods prior to the elections. Among the fiscal instruments that follow an electoral cycle, she identifies public expenditure in general and some items as public investment, public works and transference payments. She also finds that the magnitude of the election cycle has been exacerbated during the country s most democratic episodes. Gámez (2003) used the coincident and leading indexes of Mexico to examine one implication of the opportunistic traditional model in the Mexican case: the so-called curse of the first year, the slowdown of economic activity which takes place after the new President takes office. He analyzed the last four changes of President in the country (1982, 1988, 1994 and 2000). 10

11 Using ordinary linear regression analysis with dummy variables, he finds evidence of the presence of this phenomenon in the period under observation, although the estimations were affected by the presence of autocorrelation. Gámez (2004) studies the effect of the opportunistic political cycle in a series of macroeconomic and financial variables for Mexico during the period. The variables included were: gross national product, coincident indicator, leading indicator, inflation, nominal and real interest rates, nominal and real rate of depreciation of the currency, using an autoregressive model with dummy variables. The study found evidence of the presence of the opportunistic cycles in the variables related with economic activity (GDP, coincident and leading indicators), but not in the financial variables. Gámez (2004a) tests some of the postulates of the opportunistic model of the political business cycle in Mexico during the last four Presidential elections (1982, 1988, 1994 and 2000). Analyzing information about economic activity and inflation between 1980 and 2004, evidence is found about one of the postulates of the model: the contraction of the economic activity after the elections, but there is not evidence of an expansion prior to the elections nor an increase of the inflation rate around the electoral dates. As we can see after this general review of the literature, there are theoretical basis and empirical evidence of the influence of the political cycle in two kind of economic variables: the so-called outcome variables, such as the rate of growth of the GDP, unemployment, inflation, interest rates; and the instrumental variables, which can be used by governments to influence the economy, such as monetary policy (money supply, credit), 11

12 fiscal policy (taxes, public expenditure, public deficit and debt) and the exchange rate policy (adjustments to the exchange rate). Regarding the political events, those most studied in the literature are elections and changes of administration. It has been observed that elections are more important in developed countries, whereas in emerging economies both elections and changes of power influence the economy. Another important difference between developed and emerging countries is that in the former the patterns of behavior seem to follow the partisan rational model, which is based in the differences between the economic policies followed by different political parties and their effects on the economy. In emerging countries, on the contrary, follow the patterns postulated by the opportunistic model, in which the behavior of the economy is explained by the electoral cycles. II.- The period under study The period under study goes between January 1986 to June 2004, in which there were held three Presidential elections: on 1988, 1994 and This period was selected by several reasons: in the first place, according with the classification proposed by Magaloni (2000), the elections that took place in this period were characterized by the fact that the party in power was the so-called technocrat or neoliberal wing of the PRI, which has its own preferences in economic policy. In the theoretical scheme of the political business cycle, the behavior of the party in power in Mexico in the last three Presidential elections falls into the so-called opportunistic-rational model. 12

13 Under this approach, the neoliberal wing of the PRI acted opportunistically in the three last elections in Mexico by signaling competence to the voters in the period before elections. Competence was signaled mainly through the stability of the economy, lower inflation, low interest rates and stability of the exchange rate. As a result, some decisions of economic policy, which were necessary, but unpopular, were delayed until elections have taken place, and this has caused strong adjustments after elections that have been extremely costly for the firms, households and economic agents operating and living in Mexico. A second reason is the fact that, in contrast with former Presidential elections, in the last three elections in Mexico there has been a high probability of a victory of the opposition parties. As a matter of fact, in the 1988 elections, which were the first to be processed electronically in the country, took place the famous fall of the system, and the possibility of a victory of the candidate of the leftist party (PRD), Cuauhtémoc Cárdenas, is still discussed in Mexico. A strong opposition also characterized the 1994 elections, and in 2000 the rightwing party (PAN) actually won the Presidential election, ending a period of more than 70 years of political hegemony of the PRI. In this context of strong opposition, the party in power (PRI), tried to ensure macroeconomic and financial stability before elections, in order to signal competence in the eyes of the voters. Neoliberal technocrats adopted policy choices carefully anticipating the reaction of the electoral market and, in doing so, maximized the chances of reelection of the ruling party (Magaloni, p. 3). 13

14 III.- The data The database includes monthly data of interest rates and the depreciation rate of the exchange rate between the Mexican peso and U.S. dollar, as well as 13 dummy variables, from January 1988 to June There are 222 observations. The variables included are defined as follows: Nominal interest rates (CETES) It is used the 28 days rate of the Certificados de la Tesorería de la Federación (Cetes), which is one of the main reference rates in Mexico. The series has a mean of 32.2%, with a maximum of 157.6% in January 1988 and a minimum of 5.11% in August 2003 and January 2004 (See Graph 1 in the Appendix). Exchange rate, (TDC), nominal depreciation rate It is included the exchange rate used to settle liabilities denominated in foreign currency, which is calculated and published by the Banco de Mexico. The nominal depreciation rate is the percent variation between the nominal exchange rate in a given month and the nominal exchange rate in the same month of the former year. This series has a mean of 28.3%, with a maximum of 152.4% in November 1986 and a minimum of 8.97% in June 2001 (Graph 2). Real interest rates Is the nominal rate of the Cetes divided by the annual inflation rate. This variable has a mean of 2.3%, with a maximum of 39.8 in March 1995 and a minimum of 43.6% in June 1988 (Graph 3). 14

15 Real depreciation rate The real depreciation rate is calculated by dividing the nominal depreciation rate by the annual inflation rate. This series has a negative mean (-2.7%), with a maximum of 68.5% in March 1995 and a minimum of 31.9% in December 1988 (Graph 4). Dummy variables Thirteen dummy variables are utilized, six for the six quarters before elections, one for the quarter in which elections take place and six for the six quarters after elections. The dummies take the following values: Q(-6) = 1 in the sixth quarter before elections = 0 otherwise Q(-5) = 1 in the fifth quarter before elections = 0 otherwise Q(-4) = 1 in the fourth quarter before elections = 0 otherwise Q(-3) = 1 in the third quarter before elections = 0 otherwise Q(-2) = 1 in the second quarter before elections = 0 otherwise Q(-1) = 1 in the first quarter before elections = 0 otherwise Q0 = 1 in the quarter when elections take place (July-September 1988, 1994 y 2000) = 0 otherwise Q1 = 1 in the first quarter after elections (in this quarter the new President takes office) = 0 otherwise Q2 = 1 in the second quarter after elections = 0 otherwise Q3 = 1 in the third quarter after elections = 0 otherwise Q4 = 1 in the fourth quarter after elections = 0 otherwise Q5 = 1 in the fifth quarter after elections = 0 otherwise Q6 = 1 in the sixth quarter after elections = 0 otherwise IV.- The model 15

16 In the econometric estimation, it is used an autoregressive model with dummy variables, according to Alesina et. al. (p. 83) and other empirical estimations (Ergun, 2002, González, 2000 and 2002, Magaloni, 2000, Ogura, 2000, Schuknecht, 2000). The model takes the following general form: Y t = α 0 + α 1 Y t-1 + α 2 Y t-2 + α 3 Y t-n + α 4 Q(-6) + α 5 Q(-5) + α 6 Q(-4) + α 7 Q(-3) + α 8 Q(-2) + α 9 Q(-1) + α 10 Q0 + α 11 Q1 + α 12 Q2 + α 13 Q3 + α 14 Q4 + α 15 Q5 + α 16 Q6 + ε t According with the postulates of the opportunistic model, we expect the dummies before elections (Q(-6) to Q(-1)) to have negative coefficients, and the electoral and postelectoral (Q0 to Q6) to have positive coefficients. V.- Results The first step to estimate the regression is to test if the series included are stationary. In order to do that the augmented Dickey and Fuller test is used (Studenmund, p ), with the following results: Nominal variables Null Hypothesis: CETES has a unit root Exogenous: Constant Lag Length: 2 (Automatic based on SIC, MAXLAG=14) t-statistic Prob.* Augmented Dickey-Fuller test statistic Test critical values: 1% level % level % level *MacKinnon (1996) one-sided p-values. Null Hypothesis: TDC has a unit root Exogenous: Constant Lag Length: 0 (Automatic based on SIC, MAXLAG=14) 16

17 t-statistic Prob.* Augmented Dickey-Fuller test statistic Test critical values: 1% level % level % level *MacKinnon (1996) one-sided p-values. As we can see, none of the nominal variables are stationary, according with the conventional criteria. Real variables Null Hypothesis: CETES has a unit root Exogenous: Constant Lag Length: 1 (Automatic based on SIC, MAXLAG=14) t-statistic Prob.* Augmented Dickey-Fuller test statistic Test critical values: 1% level % level % level Null Hypothesis: TDC has a unit root Exogenous: Constant Lag Length: 12 (Automatic based on SIC, MAXLAG=14) t-statistic Prob.* Augmented Dickey-Fuller test statistic Test critical values: 1% level % level % level Both of the real variables are stationary, according with the Dickey-Fuller test. Given the results of these tests, the model is estimated for the real variables. It also were estimated the regressions using the first differences of the original variables, which is one of the practices recommended to eliminate nonstationarity (Studenmund, p. 427). These 17

18 regressions give results very similar to those obtained by using the real variables, and are not reported in this paper. The order of autoregression was determined by using the Akaike and Schwarz criteria. The estimations were done with the E-Views statistical package, and the results are the following: Dependent Variable: CETES Method: Least Squares Date: 11/29/04 Time: 09:23 Sample(adjusted): 1986: :06 Included observations: 220 after adjusting endpoints Variable Coefficient Std. Error t-statistic Prob. C CETES(-1) CETES(-2) Q(-6) Q(-5) Q(-4) Q(-3) Q(-2) Q(-1) Q Q Q Q Q Q Q R-squared Mean dependent var Adjusted R-squared S.D. dependent var S.E. of regression Akaike info criterion Sum squared resid Schwarz criterion Log likelihood F-statistic Durbin-Watson stat Prob(F-statistic) The order of autoregression is 2. The coefficient of Q(-2) is negative and significant. The coefficients of Q1 and Q2 are positive and significant. This results mean that there is a significant reduction of the real interest rates in the second quarter before elections, which is the first quarter of the electoral year, and 18

19 significant increases in the first and second quarters after the elections, which are the last quarter of the electoral year and the first of the following year. Dependent Variable: TDC Method: Least Squares Date: 11/29/04 Time: 09:20 Sample(adjusted): 1986: :06 Included observations: 218 after adjusting endpoints Variable Coefficient Std. Error t-statistic Prob. C TDC(-1) TDC(-2) TDC(-3) TDC(-4) Q(-6) Q(-5) Q(-4) Q(-3) Q(-2) Q(-1) Q Q Q Q Q Q Q R-squared Mean dependent var Adjusted R-squared S.D. dependent var S.E. of regression Akaike info criterion Sum squared resid Schwarz criterion Log likelihood F-statistic Durbin-Watson stat Prob(F-statistic) According to these results, there is a significant increase of the real depreciation rate in the quarters Q1 and Q2. Generally speaking, the results follow the expected patterns of behavior, and allow the identification of critical periods around the election dates. The pattern of behavior of the interest rates and the exchange rate around elections can be outlined as follows: 19

20 In the first quarter of the electoral year, there is a reduction in the real interest rates, which is reverted in the last quarter of this year and the first of the following. Regarding the exchange rate, there are significant increases in the real depreciation rate in the last quarter of the electoral year and the first of the following. As we can see, according with these results, we can identify the quarters Q1 and Q2 as especially critical in the behavior of the variables under study. VI.- Discussion In general, the results obtained in this work coincide with former empirical findings in emerging markets, especially those related to the exchange rate. For the Mexican case, the findings are very similar to those identified by Magaloni, although she used the monthly (nominal) depreciation rate, and here the annual real depreciation rate is used. The model shows that the monthly currency depreciation is systematically tied to the election calendar. Although there is evidence of some pre-electoral adjustment of the exchange rate in quarter Q-2, most of the variance is captured in the election quarter (Q) and the quarter Q+2. Since elections normally take place in July, it appears that Mexican politicians have actually waited until just after the elections to devaluate the currency (p.26). Ogura finds evidence of an increase in the depreciation rate of the exchange rate in Brazil after elections. The results of this work also coincide with those obtained by Stein and Streb (1999) y Sibley (2001), who found an increase in the depreciation of the currency in Latin American countries after elections. 20

21 Particularly, the identification of the quarters Q1 and Q2 as critical for the behavior of the exchange rate, coincides with the finding of Sibley that the beginning of new governments is characterized by problems with the exchange rate. In the case of interest rates, some of the results obtained in this paper are similar to those obtained in former research, specially the increase observed after elections. However, the reduction of interest rates before elections was not detected in other studies. Ogura finds evidence of significant increases in real interest rates before elections in Brazil, but he does not find significant effects after the electoral dates. Ergun finds no evidence of a decrease of interest rates in Turkey in the months before elections; as a mater of fact, he find increases in the interest rate in the period, although there are no statistically significant. However, Ergun does find evidence of an increase in interest rates after elections. Specifically, he found the highly significant effect in the second month after elections. VII.- Conclusions and research lines In this paper, statistically significant evidence is found about the effects of the Presidential elections in Mexico in the pattern of behavior of the interest rates end the exchange rate. The pattern of behavior identified is: a reduction of real interest rates in the second quarter before elections, which is the first quarter of the electoral year, and an increase in both are interest rates and depreciation of the currency in the first and second quarters after elections, which are the quarter when the new President takes office and the first of the new administration. These findings are consistent with the theoretical expectations in the framework of the opportunistic rational model of the political business cycles, which states that 21

22 governments try to influence voters by showing signals of competence before elections, such as macroeconomic and financial stability, but at the cost of delaying important decisions that cause distortions in economic variables that have to be corrected after elections. Generally speaking, the findings of this paper are consistent with the obtained by former research in the study of the political business cycle in emerging countries and in Mexico. Among the lines suggested for future research, there are the following: To deepen in the research of the implications of these findings in economic and financial decisions, specially for multinational corporations that have presence in Mexico and other emerging markets. To design strategies of investment, hedging, operation and planning that take into account the political factors in emerging countries and their effects on economic and financial variables. Another possible line of research is the effect of the political cycle in the value of assets. If it can influence the behavior of the risk free interest rates, it also can influence the value and return of assets. Sabal (2002) offers a modified version of the Capital Asset Pricing Model (CAPM) for emerging countries that includes the variations of the exchange rates in addition to those of the risk free interest rates, that can used to test the effects of the political cycle in these variables. The extension of the analysis of the political business cycle to a group of emerging countries is another line of research. It will be specially interesting to compare countries that can be considered to have neoliberal governments, as was the case of many Latin 22

23 American countries in the eighties and nineties to see to what extent the patterns identified in this investigation can be generalized. Finally, there remains a big question: to what extent the patterns identified here will continue to be present in future elections in Mexico? The next Presidential elections in Mexico, that will take place in July 2006 will be different to those that were held in the past at least in two aspects. First, this will be the first time in more than 70 years in which the party in power is not the PRI. The question is; to what extent the right-wing PAN government will follow a behavior similar to that of the neoliberal wing of the PRI in the past? Second, as pre-electoral polls show, there is a very high probability of a leftist PRD victory in the next elections, if this probability remains high as election time comes closer, what will be the reaction of the economic agents and markets? Finally, what will happen if the leftist party wins the elections? If we look at the theory, we should expect the adoption of expansionary policies, increases in public expenditure and deficit, higher inflation and pressures on interest rates and the exchange rate. The findings of this paper can provide some guidelines about the expected behavior of financial variables in Mexico around next elections. The ultimate test will be performed by reality. 23

24 REFERENCES Alesina, Alberto, Nouriel Roubini y Gerald D. Cohen. (1999). Political Cycles and the Macroeconomy. Cambridge.The MIT Press. Banco de México (2004). Indicadores Económicos y Financieros. Banco Mundial (2000). En el Umbral del siglo XXI: Informe sobre el Desarrollo Mundial 1999/2000. Washington. Ergun, Mine (2002). Electoral Political-Businness Cycles in Emerging Markets: Evidence from Turkey. Russian and East European Finance and Trade. 36 (6) pp Gámez, Cesáreo and Jaime Botello (1987). La Influencia del Ciclo Presidencial en la Economía Mexicana: Un ejercicio econométrico con variables dummy, in El Dilema de la Economía Mexicana: Ensayos de interpretación. México. Universidad Autónoma Metropolitana, Ediciones de Cultura Popular. Gámez, Cesáreo (2003). La Maldición del Primer Año: Evidencia estadística. Paper presented in the course of Análisis Estadístico. Programa de Doctorado en Administración. EGADE. Monterrey. Gámez, Cesáreo (2004). Elecciones, Economía y Finanzas en México ( ). Paper presented in the course of Econometría. Programa de Doctorado en Administración. EGADE. Monterrey. Gámez, Cesáreo (2004a). El Ciclo Político Oportunista y la Economía Mexicana ( ). Paper presented in the II Coloquio Predoctoral Latinoamericano. XXXIX Asamblea Anual de CLADEA. Puerto Plata, Dominican Republic. González, María de los Angeles (2000). On Elections, Democracy and Macroeconomic Policy cycles: Evidence from México. Princeton University. González, María de los Angeles (2002). Do Changes in Democracy Affect the Political Budget Cycle? Evidence from Mexico. Review of Development Economics. 6 (2) pp Larraín, Felipe and Paola Assael (1997). El Ciclo Político Económico en Chile en el Ultimo Medio Siglo. Estudios Públicos. (Primavera), pp Magaloni, Beatriz (2000). Institutions, Political Opportunism and Macroeconomic Cycles: México Stanford University. INEGI (2004). Banco de Información Económica. 24

25 Ogura, Laudo Massaharu (2000). Political Business Cycles in Brazilian Economy ( ). University of Brazilia. Department of Economics. Sabal. Jaime (2002). Financial Decisions in Emerging Markets. New York. Oxford University Press. Schuknecht, Ludger (2000). Fiscal Policy Cycles and Public Expenditure in Developing Countries. Public Choice. 102, pp Sibley, Mike (2001). The Impact of Presidential Elections on Currency Values in Latin America. Multinational Business Review, 9 (2). pp Stein, Ernesto H. And Jorge M. Streb (1999). Elections and the Timing of Devaluations. Washington. Inter-American Development Bank. Working paper # 396. Studenmund, A.H. (2001). Using Econometrics: A Practical Guide. Addison Wesley Longman. 25

26 APPENDIX 26

27 Graph 1 Nominal interest rtes CETES MEAN 32.2% MAX 157.6% MIN 5.1% VAR S.D

28 Graph 2 Nominal depreciation rate TDC MEAN 28.3% MAX 152.4% MIN -9.0% VAR S.D

29 Graph 3 Real interest rate CETES MEAN 2.3% MAX 39.8% MIN -43.6% VAR S.D

30 Graph 4 Real depreciation rate TDC MEAN -2.7% MAX 68.5% MIN -31.9% VAR S.D