Friday, October 06, 2006

Partisan Markets?

Ezra wrote a thing on Tapped about how markets are flawed because some Stanford economists correlated suprise democrat election with stock market reaction. I don't read Tapped so I didn't see this a couple days ago. Some other guy critqued his attack on markets in general based on this one study, so Ezra responded on his site, which I do read.


Possible explanations abound, from rich investors rejoicing over the redistribution they're about to enjoy to businesses salivating over expected corporate welfare or regulatory favoritism. Whatever the reason…


There is a good chance that these findings are essentially inconclusive. There’s a reasonable chance that the Bloomberg story misinterprets what the authors found. And there’s a decent chance that there is a rational explanation…

You know what the great thing is about that interweb thingy all the nerds are talking about? You can look stuff like this (pdf) up and decide for yourself. If you look at the article referenced by the Bloomsburg blurb (same pdf) you’ll see the chart on page 23 which is the important reference for the article (that’s the chart that looks at stock market reactions since 1880, the rest of the paper looks much more closely at simply Dubya I and II).

If you clicked through and look at the graph, you’ll see that the correlation is heavily reliant on three outliers that occurred during the FDR and Truman. If we confine our study to the contemporary Post-War era, looking at data since 1952, the correlation is destroyed. The coefficient on Republican election goes from 0.02 to 0.0073 and probably more importantly, the Pearson’s coefficient, (which measures how well a correlation fits) going from an already weak 0.2 to a laughable 0.048.

This seems to say that the markets really liked Republicans, until they figured out that politics won’t influence equity prices that much. So the market really does figure it out eventually. That, or possibly the market really was much more heavily influenced by politics in the pre-war era, with the policies of the Republicans much more explicitly pro-big business and/or flat out corrupt.


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