Assume a country has presidential elections every three years. If a political business cycle exists in this country, explain any differences in the average annual growth rates of output for each year of a typical administration

Question

What will be an ideal response?

Answer 1

Political business cycles represent the outcomes of politically motivated policies that increase the chances of an incumbent's reelection. Specifically, policies that are implemented to increase the probability of reelection will cause, in theory, output growth to be higher in an election year. Such a cycle where output growth is highest just before an election is called a political business cycle. Because of the inflationary consequences of such a policy, it is more likely that contractionary policies would be implemented in the first year of any administration. So, we would expect output growth to be highest in the election year and lowest, depending on lags, in either the first or second year.