Macroeconomics and Presidential Elections

Macroeconomics and Presidential Elections WEEKLY MARKET UPDATE JUNE 28, 2011 With the start of July, it s now just 16 months until we have our next presidential election in the United States. Republican candidates have already begun the long process of party debates and fund-raising efforts. President Obama wasted no time as well, officially launching his re-election campaign effort back in March. This upcoming election will likely focus on the economy and involve major debates over important issues to investors such as basic policies regarding taxation, spending (notably entitlement spending), job creation and the fundamental role of the government in our economy. As a result, the election outcome could have significant consequences for the types of policies, incentives and legislation that will be pursued post-november 2012. Jim Finnegan, CFA Investment Writer It s Still the Economy With a Twist As campaign manager for former President Clinton s first election in 1992, James Carville made the now famous remark which defined Clinton s campaign strategy of It s the economy, stupid. Eighteen years later, much has changed in the landscape of presidential election campaign strategy. Perhaps the most important change has been the increased polarization of both ends of the political spectrum. One only needs to tune into certain programs on left or the right of the talk radio or cable television to understand this point. Nonetheless, economic issues will likely play a central role in the 2012 election. But due to this increased polarization of the electorate, the most important factor is how these issues will play out with the moderate, independent and swing voters who increasingly play a decisive role in election outcomes. However, it is also important for candidates to mobilize their support base (those individuals who would never shift alliances) because their money and votes (turnout among the faithful) are also crucial. And herein lies the challenge to frame a campaign strategy that energizes the loyal base but also appeals to independent voters. Lessons from Bush and Carter? Given the challenging economic situation we currently face and the fact that we have an incumbent president seeking a second term, many observers have turned to two past elections Jimmy Carter in 1980 and George H.W. Bush (Bush I) in 1992 for some insights. But the more you delve into the details of those elections, the more you realize that each election is unique despite the apparent similarities in economic circumstances. Carter faced a bruising challenge to his candidacy within his own party from Edward Kennedy, which reduced his support among liberal and traditional Northeast Democrats. (The impact of John Anderson as a third party candidate in the general election is less clear.) Bush I avoided the kind of intraparty conflict Carter faced at his party s 1992 convention in Houston, but had to contend with a strong third party candidate (H. Ross Perot). Perot, while not garnering a single Electoral College vote, captured nearly 20% of the nation s popular vote which was perceived as a blow to Bush I. (Clinton won the election with 43% of the total popular vote to Bush s 38%). 1

In contrast and barring any new surprise President Obama is unlikely to face either of these challenges when he runs for re-election in 2012. His greater challenge will likely be maintaining the energy of his core constituencies (e.g., organized labor, the green movement, young voters in general) while accommodating concerns of independent voters regarding budget deficits, government spending, taxes and slow economic growth. And an important wild card which will determine Obama s ability to maneuver during the campaign is whom the Republicans select as their candidate. A Tea Party favorite would provide him with much more room to navigate between the left and center than (for example) an established (right-center) political player such as Tim Pawlenty (former governor of Minnesota) or Rick Perry (current governor of Texas, who is rumored to be considering a run). Macroeconomics and Past Elections If we look at a range of past elections instead of focusing on one or two in particular, we can begin to draw some general insights for the role that the economy can play in an election. In the table on the next page, we ve collected basic but important economic data for the past 11 presidential elections going back 43 years. It includes the average rate of real annual GDP* growth in the three quarters of the year leading up to the election, the 12-month average rate of inflation as measured by the Consumer Price Index (CPI) for the 10 months leading up to the election (January to October), and the average rate of civilian unemployment over this same 10-month period. Also included are May 2011 data for the current Obama administration. The fourth factor is the Thomson/ Reuters University of Michigan Consumer Confidence Index, a survey-based measure of peoples confidence in both their current economic situation and their outlook for the coming year. Since this is based on perception that can be swayed in part by presidential campaigns, conventions and debates, the number shown for this index is the average of five months (June to October) leading up to the election. Because it s not just the average level of these four factors that influence people but any trends (positive or negative) associated with them, we ve also included arrows to show when a particular statistic had been trending up or down over the time frame in a meaningful way. And finally, in an effort to make all these data as visually intuitive as possible, we used color-coding where blue implies a positive/favorable result or trend, red implies a poor/negative result or trend, and black suggests a moderate/neutral result as it relates to Americans voting preferences. It s worth noting that none of these four factors captures the unique circumstances (e.g., war, political scandals, differences between candidates in funding, or intraparty challenges to the nomination) that are important to individual election outcome. So the goal of this analysis is to look for broad insights of which macroeconomic factors have been associated with successful or failed elections across a wide range and time frame of presidential elections. [Obama s] greater challenge will likely be maintaining the energy of his core constituencies (e.g. organized labor, the green movement, young voters in general) while accommodating concerns of independent voters regarding budget deficits, government spending, taxes and slow economic growth. *Gross domestic product (or GDP) is a measure of the total economic output in goods and services for an economy. 2

Macroeconomic Factors and Past Presidential Elections Election Year Incumbent & Candidate Real GDP Growth (%) Inflation Rate (%) Unemployment Rate (%) Consumer Confidence Election Result 1968 Johnson Humphrey (Dem) 6.1% 4.2% 3.6% 94 Humphrey Loses (43%) 1972 Nixon Nixon (Rep) 7.0% 3.3% 5.7% 91 Nixon Wins (61%) 1976 Ford Ford (Rep) 4.8% 5.9% 7.1% 80 Ford Loses (48%) 1980 Carter Carter (Dem) -2.4% 13.8% 7.1% 49 Carter Loses (41%) If we look at a range of past 1984 1988 1992 (Rep) Bush I (Rep) Bush I Bush I (Rep) 6.3% 4.4% 7.6% 103 3.1% 4.1% 5.5% 98 4.3% 3.1% 7.5% 63 Wins (59%) Bush I Wins (53%) Bush I Loses (37%) elections instead of focusing on one or two in particular, we can begin to draw some general insights for the role that the economy can play in an election. 1996 Clinton Clinton (Dem) 4.5% 2.9% 5.4% 96 Clinton Wins (49%) 2000 Clinton Gore (Dem) 3.1% 3.4% 4.0% 123 Gore Loses (48%) 2004 Bush II Bush II (Rep) 2.9% 2.5% 5.6% 97 Bush II Wins (51%) 2008 Bush II McCain (Rep) -1.4% 4.5% 5.6% 41 McCain Loses (46%) May 2011 Obama Obama (Dem) 1.9% 3.4% 9.1% 61 Obama??? Notes: (1) Real GDP Growth figures are the annualized rates averaged over the first three quarters of the election year. (2) Inflation Rate is based on the 12 month change in Consumer Price Index and is an average of the first 10 months (Jan to Oct) of the election year. (3) Civilian Unemployment Rate is an average of the first 10 months (Jan to Oct) of the election year (4) Consumer Confidence is based on the University of Michigan Index (1985=100) and is the average of the last five months (June to Oct) of the election year. (5) Color codes (general): Blue=Favorable; Black=Moderate/Neutral; Red=Poor. (6) Arrows indicate trend in statistic shown over the period on which the average is based on: upward arrow (increasing); downward arrow (decreasing); no arrow (steady). (7) Color codes combined with arrows indicate whether the trend indicated is favorable (blue) or poor (red). (8) Color codes for Real GDP Growth: 4.0% or higher (blue), 1.0% or less (red) and 1.1% to 3.9% (black). (9) Color codes for Inflation Rate: 5% or higher (red), 3% or less (blue), 3.1% to 4.9% (black). (10) Color codes for Unemployment Rate: 4.0% or less (blue), 7% or higher (red), 4.1% to 6.9% (black). (11) Color codes for Consumer Confidence Index: 90 or higher (blue), 70 or less (red), 71 to 89 (black). (12) Percent next to name in the Election Result column indicates percent of popular vote earned by candidate. (13) Dem in Incumbent and Candidate column stand for Democrat; Rep stands for Republican. (14) May 2011 data for Obama are based on most recent values for each statistic and trend since beginning of year. Sources: Real GDP Growth: U.S. Department of Commerce Inflation Rate: U.S. Bureau of Labor Statistics Civilian Unemployment Rate: U.S. Bureau of Labor Statistics Consumer Confidence: Thomson/Reuters University of Michigan Consumer Confidence Index Popular Election Vote Results: Library of Congress 3

One important insight from the table is that consumer confidence in their economic situation and outlook is highly correlated with presidential election outcomes for the incumbent and his party. An average index value of 80 or less (four instances Ford in 1976 where the average was 80 but falling substantially, Carter in 1980, Bush I in 1992, McCain in 2008) always led to a loss. And since this index is a reflection of economic reality in terms of GDP growth, inflation and unemployment, it s no surprise that in all four of these cases, there were red numbers for at least one of these statistics in the chart above. There were also two cases where incumbents had consumer confidence index values well above 80 but still lost Humphrey in 1968 and Gore in 2000. But there are unique circumstances to explain this. First, both Humphrey and Gore were vice presidents attempting to succeed their predecessors (Johnson and Clinton), not incumbents seeking re-election. Second, both faced third party challengers (Eugene McCarthy and Ralph Nader) which affected the votes they captured. And third, both were in situations where consumer confidence was rapidly trending downward indicating that recent trends are as important as average values to voters. Another insight (although hardly surprising) is that elections where the incumbent or his successor campaigned on strong economic performance (no red numbers for any of the four statistics in the table) has always led to a win Nixon in1972, Bush I in 1988 and Clinton in 1996 if we ignore Humphrey in 1968 (who was saddled with major dissent within his party over the Vietnam War). We could add in 1984 to this list since his only substantial weakness was continued high unemployment (averaging 7.6%), which was rapidly declining due to strong economic growth. The converse is also true: An incumbent or successor running with at least two red numbers Ford in 1976, Carter in 1980, Bush I in 1992, and McCain in 2008 always lost. Implications for 2012 Sixteen months is a veritable lifetime in the world of presidential politics and campaigns, and major factors such as President Obama s opponent have yet to be determined. However, even with those caveats, the current situation he faces for re-election based on the four economic statistics we show for May 2011 is a challenging one. It is very unlikely unemployment will drop below 7% (the threshold for a red number in the table) over the next 16 months. That would require the equivalent of creating approximately 6.5 million new jobs, or about 400,000 per month between July and October 2012. Since the current recovery began in July 2009, the average has been approximately 75,000 per month. The good news (as demonstrated in 1984) is that high unemployment is not a barrier to re-election so long as it is trending downward in a meaningful way and accompanied by robust economic growth. Most people recognize that unemployment is a lagging indicator. But the challenge for President Obama (and no doubt one area he will pay tremendous attention to) is how he can both reverse the recent slowdown in GDP growth and jump-start a trend toward the kind of real growth that can begin to add 200,000 to 300,000 new jobs each month over the course of his campaign. One risk he will run in aggressively trying to drive higher growth is that inflation could also rise given its recent trend in an upward direction and the U.S. s current accommodative monetary policy. Furthermore, attempts to achieve this substantially higher real GDP growth via additional Keynesian style government spending and stimulus will contribute to the budget deficit and run headlong into resistance among Congressional Republicans. High unemployment is not a barrier to re-election so long as it is trending downward in a meaningful way and accompanied by robust economic growth. 4

Jim Finnegan, CFA Jim is responsible for investment analysis, reporting and writing for three investment disciplines at American Century Investments. He joined the firm in 2007. He holds a bachelor of science degree in chemical engineering from Clarkson University, a master s degree in business administration with a major in finance from Harvard Business School and a master of science in investment management from Boston University. He is a CFA charterholder and member of the Kansas City CFA Society. The opinions expressed are those of American Century Investments and are no guarantee of the future performance of any American Century Investments portfolio. This information is not intended to serve as investment advice; it is for educational purposes only. IN-FLY-70900 1106 2011 American Century Proprietary Holdings, Inc. All rights reserved.