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I hold multiple undergraduate degrees with concentrated focus in the fields of Psychology, Sociology, History, and Economics. Prior to working as an independent strategist for a handful of clients, I was employed as a behavioral economist for a private London based group. Before that, I worked... More
  • The Potential Market Pitfalls Of America's Political Polarization  8 comments
    Oct 28, 2013 5:49 PM

    When President Barack Obama defeated Republican challenger Mitt Romney in 2012 to retain his presidency and enter into his second term, the social reaction was equal parts jubilation and horror. From a behavioral standpoint, watching America's mixed reactions was both fascinating and terrifying. It was, as a response to a domestic political election, as equally divided a social response as I had ever seen. It appeared as though every American, both those who exercised their right to vote and those who didn't, felt some sort of personal satisfaction or devastation following the election night announcement.

    Historically speaking, the 2012 election didn't carry the contentiousness of Hayes' victory over Tilton in 1876, nor was it as feverishly controversial as Bush's election victory in 2000. So what was it that had made the 2012 election such a catalyst for social and political outcry? On the surface, one could argue that it was ideological. After all, Hayes and Bush were both republicans who had claimed victory over their democratic challengers. Obama of course had won from the blue side of the ticket. However considering the ideology of the Republican Party during Hayes' time, it hardly allows for comparison to the modern era. No, something in 2012 was different. It was something the American public hadn't seen before.

    At first I thought to myself, it must be technology's fault. If twitter, CNBC, and Fox News had existed during the time preceding the Civil War, today wouldn't seem so bad by comparison; right? Let's just blame media bias and move on with our lives. Unfortunately, it wasn't that easy. Sure, the political lines in mass media are clearly etched into stone, but it would be shortsighted to blame all of our ideological differences on a few news anchors and a couple of radio show hosts. Once again, something in 2012 was different. I was determined to figure out what had gone wrong, and when we had turned the corner. When and why had America become so polarized?

    1987: Ted Kennedy and Robert Bork

    On June 26, 1987 Supreme Court Justice Lewis Powell made the announcement that he would retire. Liberals immediately took to the streets. For them, this man's retirement represented the worst possible scenario. At the time, the presidency belonged to staunch conservative Ronald Reagan, and his track record regarding congressional appointments was well known. In the six years prior to Powell's announcement, Regan had already appointed Sandra Day O'Connor, Antonin Scalia, and William Rehnquist. Needless to say, Regan never hesitated to act as the driving force of conservative values. Thus, when Powell announced his retirement, liberals saw the writing on the wall. Regan was going to appoint another one of "his guys" to the Supreme Court, and in doing such he would swing the power back to republican circles.

    Before Powell could even finish his formal announcement, Massachusetts Senator Edward Kennedy, a man with steadfast liberal values and royal democratic bloodlines, sought out the nearest media outlet. In fact, his comments started to garner as much attention as those of Powell or President Regan. Immediately going on the offensive, Kennedy said;

    "Congress will ensure that President Regan does the right thing here, as opposed to the 'far right' thing".

    And so it began. Liberals felt that Regan was abusing his power blindly without even an ounce of bipartisanship, and Regan, quite frankly, didn't care. To this day, opinions of Regan can stir up as much animosity among political opposites as abortion, health care reform, or immigration law.

    Eventually, Regan announced his nominee for Powell's soon to be vacant seat. His selection was ultra-conservative, District of Colombia Court of Appeals judge, Robert Bork. Many Republican henchmen had wanted Bork appointed at the time Regan named O'Connor, so to hear Bork's name now sent the nations conservatives into a state of euphoria. Needless to say, the nation's liberals reacted in a manner adamantly opposed to the nomination.

    Bork was a competent man. He was educated at the University of Chicago, was on the faculty at Yale, and was considered to be one of the country's experts in antitrust law. Almost none of that mattered at this point. Who he was became irrelevant in comparison to what he was. He was a Regan nominee. He was the guy who could swing power in the Supreme Court to a president devoted to conservative causes as much as anyone in history. He was no longer just a man; he was a catalyst for significant change. Depending on one's political ideologies, that change could have been either good or bad.

    Enter into the fold the fear mongering, the impossible promises, and the linchpins of modern era politics, and the battle for Powell's vacant seat ensued. On the Republican side there was Regan and Bork. On the opposite side, the loudest voice was that of Senator Kennedy. As the media warfare continued, Americans became engulfed in the chaos. People, who had never before even considered or cared to understand what an ideological majority in the Supreme Court meant, suddenly had opinions, passions, and voices devoted to one side or the other. The nomination took on the momentum of a presidential election.

    Then it happened. Kennedy, doing his job as both a democrat and member of the Senate Judiciary Committee, arguing his perspectives on the Bork nomination, made the following comment;

    "Robert Bork's America is a land in which women would be forced into back-alley abortions, blacks would sit at segregated lunch counters, rogue police could break down citizens' doors in midnight raids, and children could not be taught about evolution."

    That was it. The gloves were off. Whether Kennedy was right or wrong is of no consequence. Whether Bork was a capable genius, or a detached and indifferent bigot, is of no consequence. Whatever ones opinion was, America had changed. Voters had changed. The electoral process had changed. The side of the ticket someone was on had become more important than who the candidate or appointee was. Bork would never see his nomination come to fruition. The senate, inevitably, rejected his nomination. Regardless, the damage had been done to the collectively psyche of the American public. The foundation had been laid for each citizen to firmly declare being either a republican or a democrat, and soon there would be no more middle ground.

    Where We Stand Today

    Since 1987 the divide between the parties has be growing considerably, as can be seen by the chart below (taken from a Duke University Study in May 2013).

    (click to enlarge)

    In the upper right corner of the above chart you can see a small modular measurement going back a century. Yes, there were spikes around the turn of the century, as well as at the onset of World War Two, but they fail to impress in comparison to modern times. This, of course, brings us back to the original question; what is so different about 2012? Why does the gap now seem so insurmountable? Why are politicians regularly compared to petulant children? What makes this era, these people, and this social construct so different? It is my contention that the state of our market economy over the last 8 years is the difference. For perhaps the first time, people are associating financial markets directly to ongoing political animosity, and nothing weighs on the conscience of an individual more than financial stress. The polarization of the political system is carrying over to the economic system in such a way where the two systems are functioning as catalysts for one and other to a degree that has never before existed.

    Consider also that the Bork nomination was rejected on October 6, 1987. This represented one of the first events in the recent political era that truly separated the parties with such ferocity. 13 days later, the stock market experienced "Black Monday". The losses were substantial. In fairness, there were many factors that contributed to the drop; the economy had been slowing since 1986, issues between Iran and Kuwait were escalating, and Treasury Secretary James Baker had gone public with his market concerns. However, it was in the wake of the growing divide between the parties, sparked from the Bork nomination, that led the global belief that if American's political stability was uncertain, then the continued growth of the American economy was in doubt. The economy had taken a fall off a cliff, largely in part to strictly political factors (see below).

    (click to enlarge)

    Behavioral Finance Theory

    In the simplest of terms, behavioral finance theory is the conceptual interdependence between the market and social behavior. It is a means for defining and understanding the relationship between everyday people and the everyday economy. It has always existed. This is not a new social paradigm. However in a historical context it has largely resided in obscurity . Classical economic theories focus more on supply and demand, currency and commodity, distribution and product. In recent years though, it has become clear that behavioral finance theory is growing not only in relevance, but in effect. As social behavior evolves, so does the economy. For this reason, political polarization in America is having an effect on financial markets, both directly and indirectly.

    During the government shutdown most of the coverage was saturated with details about the debt ceiling and potential default. Certainly, this was a matter of real concern and was worthy of the efforts committed to its coverage and exploration. However, there were additional concerns that went largely overlooked. Those concerns circulated around the everyday American and their everyday activities in the financial markets.

    When the government shut down, the basic systems which are often overlooked but largely depended on by the American people, were shut down with it. Recipients of social security benefits, disability benefits, the welfare system, and government pensions were in threat of not receiving their checks. Federal employees of lower and middle level public designations were without work. The Bureau of Alcohol, Tobacco, and Firearms was shut down. The U.S. Post Office was under threat as well. Small business loans, federal mortgage funding, business licenses, liquor licenses, firearm permits, and personal debt extensions with any government agency, were temporarily halted. These actions have real effects on real people in the everyday world. Sadly, all of it stemmed from a polarized two party political system incapable of bridging the gap between them.

    When everyday people can't function, they can't contribute. Small business owners awaiting license extensions can't continue to operate and generate revenue. Entrepreneurial Americans waiting on SBA loan funding can't start their contributions to commerce. The neediest members of the consumer construct; the elderly, the disabled, and the poor, can't receive their benefits. None of these people can make contributions to the economy if the system is not supportive.

    On the surface, maybe these seem like small factors. However, these are just a few of the many examples which exist. The bottom line is that when people can't go out and spend money, procure products, and live their lives, they are hurting the markets. Whatever your equity positions are, ask yourself where they would be if revenues fell, customers dried up, and growth ceased? The equities market is driven by growth and earnings, therefore without growth, and with reduced earnings, the markets go backwards. Eventually, potential gains grow more likely to become significant losses. When people don't spend, businesses don't grow.

    When everyday businesses, like grocery stores and gas stations, are suddenly without customers the entire market slows. The tanker companies that bring the oil, the shipping companies that deliver the grain, the manufacturing companies that make cereal boxes, the rubber and plastics companies that engineer gas pumps; they're all suddenly entities of less value. The everyday consumer is what makes the neighborhood store a client for the distributor. The neighborhood store is what makes the distributor capable of being a customer for the manufacturer. The consumer chain and the supply chain function in reliance of one and other. The self-sustaining economy that feeds capitalism is dead without reciprocity. Therefore, if one link in the chain is broken, then by definition, the whole chain is broken. Consumers drive markets.

    When political dysfunction leads to consumer destruction the economic system fails to thrive. In the event that dysfunction continues, then the economic system could theoretically cease to exist. All the world's great civilizations have followed the same reciprocal cycle; from servitude to autonomy, from autonomy to wealth, from wealth to complacency, from complacency to apathy, and from apathy back to servitude. The political cycles in these civilizations have changed alongside the economic climate. Whether it be totalitarianism, tyranny, anarchy, fascism, communism, capitalism, or a wildly dysfunctional two party democracy stuck somewhere between democratic republic and free market libertarianism. Where will it go next?

    One of the strengths of behavioral finance theory is that it is constantly adapting. It is reasonable. It moves forward with a willingness to assess new information as it becomes available. It's a shame that America's politicians can't function the same way. If this polarization between the parties continues, then the effects on the market could be dire.

    Conclusion

    America stands at an impasse in economic history. The fractures in the political system are adversely affecting the strength of the financial system. While recovery from the "Great Recession" is finally starting to gain traction, it would be tragic if this natural course of events was pulled off the rails by political upheaval. However one cannot blame the politicians alone.

    Politicians are products of the jurisdictions they represent. The people, who make up these jurisdictions, whether they are communities, corporate entities, or political action committees, are equally responsible. It is in fact the polarization of the people that is reflected in the polarization of the government.

    In today's world, one can't go to the grocery store without being overwhelmed with opinion. Every other car in the parking lot is covered with firmly opinionated bumper stickers. Tables are set up outside the entry to the store with people looking for donations for their causes. At the exit, tables are set up for people seeking donations for the exact opposite cause. It is chaos.

    It has long been proven that when two people can't agree on what to do, they often do nothing. This rarely brings about progress. I'm not a political scientist. I don't have the answer. I am however capable enough to foresee that the future of the economy, and the equity markets, will move hand in hand with political progression. Currently, this doesn't bode well. Whether one is a bull or a bear, they can at least usually agree that their perspective is one of measured opinion as opposed to divine certainty. In fact, that is what Seeking Alpha is, a platform for an exchange of ideas in order to allow investors to weigh both sides of a potential stake. All of us manage to co-exist here.

    Maybe donkeys and elephants should function more like bulls and bears. Perhaps congress should look to Seeking Alpha for a more functional communication model. Who knows? What is known is this; politics are broken in America, and for as long as this problem goes on unresolved to such a profound degree, then the future of the equities market will remain at risk. As long as politics in America remain massively uncompromising, the markets will respond in a reciprocal fashion. We've just endured the "Great Recession". Could we really handle another "Black Monday"?

    Disclosure: I have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it. I have no business relationship with any company whose stock is mentioned in this article.

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Comments (8)
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  • GrowthGeek
    , contributor
    Comments (3095) | Send Message
     
    Phrases like "in all things moderation" and "the art of compromise" seem like old school antiques in our current political climate. While my leanings are to the Progressive side of the spectrum, I find no joy in the current Gridlock which gets nothing done. As in our current healthcare situation, no one seems interested in fixing anything to benefit the populace--the parties are far more interested in launching "zingers" against one another and making each other look bad. Objectively, I think history will see our current president as a political moderate who tried to compromise on many issues, but had no takers, hence, could get little done. Today's climate is great for networks and persons with a strong political bias and that just reinforces the vicious cycle of lack of compromise and demonizing one's political opponents.
    Here's a metaphor for where we are at: during the government shutdown I was driving back home after a conference. I was in a rural area on a state highway and my bladder told me I needed to find a restroom soon. I stopped at a roadside stop where I knew there was a decent restroom. I went there--it was locked as this was a federal park area. There was a sign however that the other restroom at the location was still open--Phew! However, when I arrived I noticed this was one of those non-flush type restrooms complete with flies and you know what piled practically to the top--it hadn't been cleaned out for months--P.U.! That's about where we are right now in Washington D. C. The "stuff" is piling up, the situation stinks as the government is barely functioning.
    Here's hoping that America can find a charismatic moderate leader or movement to bring about some needed unity and compromise. It scares the heck out of me that those who are more moderate are getting challenges even in their own political party by those who are more extreme. If we continue down that path it will not be good. I'm hopeful that most Americans are fed up with the gridlock and polarization and we start getting back to those seemingly antique values of "moderation" and "compromise."
    27 Dec 2013, 01:35 PM Reply Like
  • The Behavioral Economist
    , contributor
    Comments (847) | Send Message
     
    Author’s reply » You may like this book GrowthGeek:

     

    http://amzn.to/1dICGM2
    27 Dec 2013, 02:41 PM Reply Like
  • GrowthGeek
    , contributor
    Comments (3095) | Send Message
     
    Thanks for the book recommendation--that does look like a good one showing how Reagan and Tip O'Neil were able to work together to get things done. It amazes me that many of those today who claim to be avid Reagonites would never consider that any Republican could ever compromise on a tax increase. Reagan did several times. There may well be examples on the other side of the political spectrum as well; I just think it's more blatant with the Tea Party folk, but perhaps I am biased.
    3 Jan 2014, 05:13 PM Reply Like
  • The Behavioral Economist
    , contributor
    Comments (847) | Send Message
     
    Author’s reply » Certainly, both parties have narrowed their spectrum in recent years. The divided has only grown and grown. It's not only childish, on many levels, but it also has detrimental effects on the economy and market conditions. The five members of the FRB tend to re-balance with every party shift in presidential elections, and as a result, regulation tends to move with political power. Thus, as the divide continues, the markets fail to gain any long term continuity. It's a shame, and, quite frankly, embarrsing at times. Our politicians represent all of us, as U.S. citizens, to the rest of the world. That's at tough pill to swallow sometimes.
    5 Jan 2014, 03:39 PM Reply Like
  • hingroyield
    , contributor
    Comments (601) | Send Message
     
    This especially manifests itself with the constantly changing/evolving tax code till we have a Frankenstein beast no one wants,understands or can control. I once worked for a German, who stated that the hardest thing about investing in America was the constantly changing rules related to investing & taxes.
    28 Feb 2014, 07:51 PM Reply Like
  • The Behavioral Economist
    , contributor
    Comments (847) | Send Message
     
    Author’s reply » Thank you for reading this. I appreciate your contributions. It's true - the tax code, and all its applicable subsidiaries and enforcements, is nearly impossible to understand for Americans. For foreigners, it is a hilarious and frightening bureaucratic monster designed to control the masses and their earning power. I remember years ago, when Forbes was running for President, that he wanted to incorporate a flat tax. I would have loved that - but, obviously, it came to no avail.
    28 Feb 2014, 08:40 PM Reply Like
  • P Man
    , contributor
    Comments (1519) | Send Message
     
    A flat tax meaning no deductions would be great. But a flat tax meaning a non-progressive tax plan as is normally proposed is not sustainable.

     

    And by the way, we sort of have a flat tax system in place - it's 39.6%. You just get a break on the first $450K.

     

    I think that in many ways history will show that the Reagan presidency was responsible for this ugly turn in our country as he emboldened a part of his base into believing in an unsustainable policy that not even he believed in. That is, that you can get something for nothing.

     

    And I say that he didn't believe in it because if you look at what he DID versus what he SAID, he was far more moderate and liberal than many are lead to believe. He said he believed in smaller government, yet he tripled the national debt. He stated he believed in lower taxes he raised that capital gains tax from 15% to 28%. He stated that he would stand up to the air traffic controllers, yet he hired them all back and more or less gave them what they wanted.

     

    The problem is that what he said makes good sound bites but what he actually did doesn't. And it certainly doesn't fit in with the current right wing philosophy either.
    3 Mar 2014, 10:34 PM Reply Like
  • The Behavioral Economist
    , contributor
    Comments (847) | Send Message
     
    Author’s reply » P Man, those are excellent points. Without question, the greatest obstacle to be overcome, in any policy reform, or in any introduction of new policy, is sustainability. The fact of the matter is, our current tax code is an exercise in ambiguity designed to enforceable at the enforcers discretion. That kind of subjectivity, in an area which allegedly strives so diligently to be objective, is nearly criminal. No country, not one, requires a 73,954 page tax code. It is absurd on a level so profound that the word "absurd" even feels sub-par.

     

    As for Reagan, I believe, personally, that his presidency was one defined by a great divide between ambition and execution. In honor of full disclosure, I liked Reagan, but admit I was often dumbfounded by his policy decisions in comparison to his platform based promises. In fairness though, every president, and I mean every one, has some form of a "something for nothing" policy. Sometimes this manifests itself in the form of overzealous and over financed social programs which are easily exploited by unworthy benefactors (generally liberal policies), and others are seen in the form of unscrupulous financial loopholes and tax benefits hiding behind the veil of "capitalism" (generally conservative policies). It's a double edges sword, and it is why most people are wise to remain politically agnostic and supportive only to reason. Reasonable people, after all, have the right to change their minds or revisit their stances when new information is presented.

     

    To me though, Reagan's tax policies were the most disturbing. For someone committed to reducing taxes, and not introducing any new taxes, he seemed to have a pretty heavy hand when it came to increasing taxes. That always befuddled me.

     

    As for current philosophies - political ideology has changed so profoundly over the years that it seems like from term to term the definition of a "democrat" or a "republican" is open for interpretation. I mean, Lincoln was considered the "First Republican", and yet he essentially fought an entire war based on dismantling state reserve banks in favor of nationalized economic conditions. The civil war supported the rise of, and gave support to, the secret service (which was founded essentially with the help of a counterfeiter) as an organization committed to government based financial control. Can we see any republican advocating for such administrative control these days? Of course not.

     

    So you hit the nail on the head; sustainability, whether in policy, or party ideology, is almost impossible. However, it is also, in many ways, the "Holy Grail" of stability.

     

    Thanks for engaging on this blog. I enjoy insight and opinion from capable and competent SA members. You are certainly that.
    4 Mar 2014, 09:27 AM Reply Like
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