The Fed, Presidential Elections, and Coincidence – Part 8

I’ve recently had a few posts looking at whether the Fed acts to improperly influence elections. I want to take a step back, and consider the purpose of the Fed. Quite simply, the purpose of the Fed is to regulate the money supply, which means to ensure that there is always enough liquidity to lubricate the economy, but not enough for there to be runaway inflation.

The Fed’s primary tool for changing the money supply directly through open market operations. When it wants to increase the money supply, it buys treasury bonds with money it creates from thin air, thus putting the money it created from thin air into circulation. When it wants to decrease the money supply, it sells treasury bonds from its stash, and in effect destroys the money the bond buyers paid for those bonds. When the money supply is loose, people are more willing to spend, and when the money supply is tight, people are more likely to sit on money.

But the Fed has are other ways to influence the economy, such as changing the Fed Funds rate. When interest rates fall, people’s spending goes up, and when interest rates rise, people’s spending goes down.

Thus, the Fed both reacts to the economy, and causes changes in the economy. Which leads? Table 1 below shows how real M2 per capita correlates with real GDP per capita using data going back to 1959 – when the Fed’s M2 series begins. (Note… since GDP data is quarterly, M2 data was converted to quarterly by using data for three month averages ending in March, June, September and December.)

What does this show? Well, quarterly real M2 per capita is correlated with real GDP per capita, mostly on a real time basis – neither real M2 per capita nor real GDP per capita “leads.”

Now, let’s say we believe the Fed tries to actively manipulate elections. In that case, we would expect to see the biggest increases in real M2 per capita occur before elections in which an incumbent the Fed is friendly with is running for office, and we’d expect to see the smallest increases (and actual decreases) in real M2 per capita. Regular readers recall this is precisely what we saw in an earlier post.

But a true cynic would not stop there. He or she might feel that if the Fed is trying to influence an election, the Fed would start well before the election, and the Fed would bring as many of its tools to bear as possible, not just the money supply. He or she might also feel that such manipulation would take time, and thus the manipulation would occur before the results are seen. Put another way… in years leading up to elections that the Fed wants to influence, there will be a higher (absolute) correlation between the real M2 per capita and lags of real GDP per capita than between real M2 per capita and (unlagged) real GDP per capita. The cynic would also feel that in years when there is no election, the Fed would not engage in those shenanigans, so the correlations would behave pretty much as they do in Table 1 above, in that the highest correlation are “real time.”

Which leads us to Table 2.

So what do we see here?

In years in which there is no election (column 1), the highest absolute correlations between real M2 per capita and real GDP per capita occur in real time. Check.

In years in which the there is an election that the Fed wants to influence (columns 3 and 4), changes in the money supply will lead changes in the economy. Not so true in column 3, but as reader Sebastian Holsclaw never tires of pointing out, column 3 only has 2 observations. As to column 4, it looks pretty definite. Hence, check.

Now maybe you don’t think the Fed has all that much control over M2, or you like your correlations higher before you reach conclusions. Well, in that case, I was saving this table using real M1 per capita just for you.

(The earlier post looking at real M1 per capita is here.)

Extremely high correlations, and every one of the cynical predictions hold true with Real M1 per capita. Check, check, and check.

So… from earlier posts on this topic, we learn that the Fed manipulates the real money supply in precisely the way we’d expect if we were cynical enough to believe the Fed wants to manipulate elections. In this post, we learn that it actually has an effect on the economy, in fact, precisely the effect we’d expect if we were very cynical. At some point, one has to conclude this is not a coincidence. At some point, one has to conclude the fed is purposely manipulating the economy to influence elections, in violation of who knows what laws and even its own charter.

I haven’t chance to write it up yet, but I’ve also been looking at the real growth rate in the economy and the real growth rate of the real money supply per capita. When I get a chance, I’ll have a post showing both in November of each year, broken out by whether there is an election, whether there is an incumbent running, etc.

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Data:
Monthly M1 and M2
Monthly CPI
Quarterly population data which I then linearized into monthly
Quarterly real GDP per capita

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As always, let me know if you want my spreadsheet.

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