Surfing the credit wave: Government popularity as driver of credit cycles

Abstract

This paper analyses the interaction between credit and political cycles, arguing that short-termist governments will seek to ride and amplify credit cycles for political gains. Specifically, it tests for the existence of political credit cycles not only before elections but throughout the term when executives seek to bolster support in periods of popularity drops. Compiling a unique database on government approval from opinion polls in 57 countries starting in 1980 allows to test this accountability channel empirically. There is strong evidence that drops in government popularity are systematically associated with larger future private credit cycles. The existence of such political cycles appears to mainly target credit to households, increases the likelihood of bad credit booms, and is robust to multiple checks for confounding factors. This paper does not find similar cycles in public borrowing. In addition, a higher level of government debt and a decrease in fiscal spending appears to reduce the likelihood of such political cycles in private credit, which adds a new perspective on the interaction between private debt and fiscal policy.