Are Democrats Bad for Markets? History Suggests Not

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The United States’ exhausting election marathon is in its final sprint with only one week remaining before Election Day. Many polls, prediction markets, and other indicators point to a Democratic clean sweep, with the party wresting back control of the White House and U.S. Senate, while expanding on its majority in the House of Representatives. Would their victory be good for markets?

It’s a common misconception, with little foundation in fact, that Democrats are bad for markets. The longest sustained equity bull markets in the postwar period occurred during the John F. Kennedy/Lyndon Johnson years (1961-1969), as well as under presidents
Bill Clinton
(1993-2001) and
Barack Obama
(2009-2017). Selective memory of the difficult
Jimmy Carter
years may be to blame. But so too is a willingness by many pundits to ignore the onset of high inflation under
Richard Nixon
, the spectacular 1987 market crash under
Ronald Reagan
or the sweeping global financial crisis under
George W. Bush
. From 1947 until 2020, the U.S. S&P 500 has averaged an annual gain of 10.8% under Democratic administrations versus 5.6% when Republicans were in charge, according to research by the investment bank Liberum.

Of course, correlation does not imply causation. Democrats are frequently blamed for imposing high taxes, big government, and excessive regulation, which are presumed detriments to growth, corporate earnings, and equity market performance. But according to the Joint Economic Committee, average annual real GDP growth under Democratic presidents since World War II averaged 3.9% against 2.5% for Republicans (1945-2016). During the first three years of his term—that is, prepandemic—President
Donald Trump
oversaw the same 2.5% rate of real GDP growth recorded by his post-war Republican predecessors.

According to 2013 research by Princeton economists Alan Blinder and Mark Watson, “The U.S. economy has performed better when the president of the United States is a Democrat rather than a Republican, almost regardless of how one measures performance.” (Blinder is a former economic adviser to Bill Clinton and Federal Reserve vice chair.) Blinder and Watson attribute that stronger performance partly to luck (fewer adverse oil shocks when Democrats sat in the White House), but potentially also to sounder policies (such as evidence of stronger total factor productivity growth).

Contrary to conventional thinking, Democratic administrations have also supported free trade over most of the postwar period, beginning with the Marshall Plan and the reconstruction of Europe and Japan and the formation of the General Agreement on Trade and Tariffs (Truman), the Kennedy Round (Johnson), the Tokyo Round (Carter), the signing of Nafta (Clinton), and the negotiated entry of China to the World Trade Organization (Clinton). As Blinder and Watson note, U.S. GDP growth under Democratic administrations benefitted from faster rates of global growth underpinned by expanding world trade.

As the 2020 campaign draws to a close, what can we infer today about market attitudes to the prospect of Democrats calling the shots in Washington? Are investors jittery about higher corporate income and capital gains taxes and greater government regulation? Or are they looking forward to faster growth?

Attempts to answer those questions based on short-term market performance are, of course, imperfect. Other factors may be at work and caution should be exercised when drawing any inference. Nevertheless, the recent performance of real interest rates, inflation expectations, cyclically sensitive sectors and styles, and select emerging currencies strongly suggest that investors are warming to 2021 Democrat leadership in Washington.

From their lows in early August—just before the Democratic National Convention—U.S. long-term real interest rates have risen nearly 20 basis points, as have “breakeven” rates of inflation, signs that investors expect nominal GDP growth to pick up. Notably, growth expectations are improving despite the political impasse over a second U.S. fiscal stimulus package and in the face of accelerating Covid-19 infection rates in the US and Europe.

In all probability, therefore, investors anticipate significant policy stimulus following the elections, initiated by Democrats. After all, probabilities of a win by former Vice President
Joe Biden
, based on FiveThirtyEight’s polls of polls, have soared from 70% in early August to 88% at present. The odds of the…