Political Regime Change and the Real Interest Rate

Abstract

The effect of changes in policy regimes on real interest rates has important implications for financial and economic theory. There is little current evidence that policy regime changes have any impact on the level of real interest rates. We use large political changes as our measure of policy regime changes. Changes in presidential administration are more significantly correlated with real rate changes than are changes in the Federal Reserve Chair or the mean shift points identified by Garcia and Perron (1996) using time series methods. We also show that change of party control of congress is a significant factor explaining real rates. We argue that theoretical models built on the assumptions of constant or policy invariant real interest rates are at variance with the empirical evidence.