According to Nordhaus's original model of the 'political business cycle', politicians stimulate aggregate demand before elections to increase growth and reduce unemployment, in order to maximize their popularity and the likelihood of their re-election. They then eliminate the inflationary consequences of this policy by implementing a more contractionary policy after the election. The rational expectations approach to macroeconomics has produced a new generation of such models, in which the opportunistic cycles differ substantially from those derived from Nordhaus. In such 'rational' models, regular multi-year cycles in economic outcomes - such as GDP or unemployment - are very unlikely; they focus rather on the short-run, electoral manipulation of policy instruments.

In Discussion Paper No. 608, Research Fellows Alberto Alesina and Nouriel Roubini, with Gerald Cohen, test for political business cycles with variants of the Nordhaus and 'new rational' models. They use approximately 30 years of quarterly data on GDP, unemployment, inflation and the money supply and annual observations of fiscal variables for a sample of 18 OECD economies. They find four main results. First, there is very little evidence of 'electoral' movements in economic variables, such as GDP growth and unemployment, as the Nordhaus model implies. Second, there is some evidence of 'political monetary cycles', i.e. of expansionary monetary policy in election years. Third, we observe signs of 'political budget cycles', or 'loose' fiscal policy prior to elections. Fourth, inflation exhibits a post-election jump, which may be attributed either to the'loose'monetary and fiscal policies that are often adopted before elections, or to the opportunistic timing (after the election) of increases in prices controlled by the government or indirect taxes.

Overall, these results suggest that the Nordhaus formulation is mistaken and the 'rational political budget cycle' model is correct, while they are also consistent with the view that manipulating instruments is easier than controlling outcomes. Monetary and budget cycles seem to occur frequently and in several countries, but there is no country in which large political business cycles occur in every election (except possibly New Zealand). The authors therefore conclude that politicians in most OECD economies generally seek to avoid restrictive monetary and fiscal policies in election years and only occasionally adopt an openly expansionary stance.

Macroeconomic Policy and Elections in OECD Democracies
Alberto Alesina, Gerald D Cohen and Nouriel Roubini

Discussion Paper No. 608, January 1992 (IM)