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International Finance Discussion Papers
The International Finance Discussion Papers logo links to the International Finance Discussion Papers home page Money, Politics, and the Post-War Business Cycle
Jon Faust and John S. Irons

Abstract:  While macroeconometricians continue to dispute the size, timing, and even the existence of effects of monetary policy, political economists often find large effects of political variables and often attribute the effects to manipulation of the Fed. Since the political econometricians often use smaller information sets and less elaborate approaches to identification than do macroeconometricians, their striking results could be the result of simultaneity and omitted variable biases. Alternatively, political whims may provide the instrument for exogenous policy changes that has been the Grail of the policy identification literature. In this paper, we lay out and apply a framework for distinguishing these possibilities. We find almost no support for the hypothesis that political effects on the macroeconomy operate through monetary policy and only weak evidence that political effects are significant at all.

Full paper (720 KB PDF)

Simultaneity bias, omitted variable bias, political business cycle

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