The Federal Reserve’s decision to raise its key interest rate on Wednesday could hurt the Democratic Party’s chances of winning the presidency in 2016 by beginning a process that will slow down the economy.
It is hard to believe that the Fed influences voters, given that the vast majority of Americans have no idea who Fed chairwoman Janet Yellen is.
But inasmuch as Fed policy weakens or boosts the economy, it can have a big impact on voters’ calculus -- even if they don’t know it.
“The significant variable is not the rate hikes, but their effect on the strength of the economy,” said Larry Sabato, director of the center for politics at the University of Virginia.
History has shown that Americans are more likely to vote for the incumbent party in a presidential election if they think that the sitting president is doing a good job. A number of factors can contribute to public opinions of a president, including terror attacks and scandals, but the performance of the economy is near the top of the list.
If the economy is doing well, it can lift a president’s approval rating and help the candidate from his party vying to replace him. Conversely, if the public turns on the commander-in-chief over a souring economy, it can hurt the candidate from his party.
Just ask John McCain, who ran and lost while fellow Republican George W. Bush was president. His candidacy foundered after Lehman Brothers collapsed in September 2008, marking the onset of the most devastating financial crisis since the Great Depression.
The Pew Research Center notes that “what had essentially been a deadlocked contest between McCain and Obama before the Lehman meltdown turned into a solid lead for Obama in the weeks that followed.” Even media coverage of McCain started becoming more negative.
A similar phenomenon was at play in the respective defeats of Gerald Ford in 1976, Jimmy Carter in 1980 and George H.W. Bush in 1992, according to Sabato.
He even argues that it contributed to Richard Nixon's loss in 1960 and Al Gore's defeat in 2000, though Sabato noted that in those cases, "a hundred separate factors made the tiny difference."
Brad Miller, a Democrat who represented North Carolina in the U.S. House of Representatives from 2003 to 2013 and is now a financial regulatory policy analyst at the Roosevelt Institute, describes witnessing that dynamic over the course of his career.
“People vote on the economy along the lines that you should always change a losing game and not a winning game -- just do something different if it is not working,” Miller said.
“People vote on the economy along the lines that you should always change a losing game and not a winning game -- just do something different if it is not working.”
- Brad Miller, former congressman
Since President Barack Obama is in the White House through 2016, a proverbial losing game would hurt Democrats the most.
But whether the Fed will raise the influential federal funds rate enough to tip the scales against Hillary Clinton or Bernie Sanders, the two leading Democratic presidential hopefuls, depends a lot on what the Fed does next -- or how accurate Fed officials' predictions prove to be.
The federal funds rate is how much banks charge one another for overnight lending. It serves as a benchmark for almost all credit, giving it major power to affect the economy.
The Fed raises the federal funds rate, as it did Wednesday, to increase borrowing costs and slow the economic growth rate when it believes the pace of job creation risks prompting excessive price inflation.
Even critics of Wednesday’s decision conceded that the initial quarter-percentage-point increase will not in itself put major downward pressure on job creation.
But the move lays the groundwork for more significant increases in the coming year. Fed officials project that inflation will rise enough for them to raise the rate to 1.4 percent by the end of 2016.
Moody’s Analytics estimates that an increase in the federal funds rate of 1 percentage point over the coming year would reduce economic growth in 2017 by 0.15 percent, resulting in the creation of some 30,000 fewer jobs per month.
Josh Bivens, a Fed watcher at the progressive Economic Policy Institute, and a critic of Wednesday's rate increase, is even more pessimistic. He estimates that if the Fed raises the federal funds rate at the pace that Fed officials believe will be necessary, it will slow economic growth in a meaningful way by the time of the November election.
“An increase of 0 to 1.4 percent would have a noticeable effect on the economy,” Bivens said.
The Fed's top officials, including most of the members of the committee charged with adjusting interest rates, believe that the economy will grow enough to begin accelerating inflation in the meantime to a degree that will justify the gradual rate increases and offset their potential contractionary effects. Yellen said herself on Wednesday that if inflation does not rise as rapidly as they expect, they can hold off on additional increases.
Jared Bernstein, an expert in labor market trends at the Center on Budget and Policy Priorities, and the former chief economist for Vice President Joe Biden, has similar concerns to Bivens, but believes Yellen in particular will base her decisions on data to avoid making a “mistake” that affects the economy that adversely.
Bernstein hopes Wednesday’s rate hike, which he believes was not data-driven in light of below-target inflation, was an exception.
“It erodes my confidence a bit,” Bernstein said. “I hope chair Yellen was managing” the concerns of more inflation-wary colleagues at the Fed, “not following the data.”
“If you are Hillary Clinton or Bernie Sanders, the last thing you want is the Fed intentionally slowing down the economy, especially in light of the fact that despite some solid numbers, the labor market is already weak.”
- Ari Rabin-Havt, former Democratic presidential campaign strategist
Another thing Bernstein said he finds reassuring is the Fed’s tendency to avoid raising rates too close to an election so as not to cast aspersions on its political independence.
“You certainly don’t want Janet Yellen helping Donald Trump -- or otherwise playing a role in the election -- and they don’t want that either,” he noted.
Regardless, the mere pivot away from rock-bottom interest rates should worry Democrats, according to Ari Rabin-Havt, a former Democratic presidential campaign strategist who now hosts The Agenda, a progressive talk radio show on Sirius XM.
“If you are Hillary Clinton or Bernie Sanders, the last thing you want is the Fed intentionally slowing down the economy, especially in light of the fact that despite some solid numbers, the labor market is already weak,” Rabin-Havt said.
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