Kevin Hassett: Divided Washington could be ideal tonic for US economy

Chances are good that the power of the United States Government, squarely in the hands of Democrats the past two years, is about to become divided between the two parties.

Modern American history suggests this is the best of all worlds. With all respect to Abraham Lincoln, a house divided against itself often prospers.

Since 1970, the levers of federal government - the White House, Senate and House of Representatives - have been in the hands of one party, whether Republican or Democrat, 30 per cent of the time. By most measures, the US economy has been healthier the other 70 per cent of the time.

First let's look at gross domestic product. From 1970, median US GDP has grown 3.3 per cent in years of divided government (1970-1976, 1981-1992, 1995-2002, 2007- 2008), compared with 3 per cent when government was unified (1977-1980, 1993-1994, 2003-2006, 2009-2010).

The effect has been more pronounced in recent years. Since 1981, when Ronald Reagan took office, median US GDP has grown 3.3 per cent in years in which the government was divided and 2.8 per cent when government was unified.

Since 1993, when Bill Clinton took office, the economy has grown 3.6 per cent per year when power is split and 2.8 per cent in the other times.

How about unemployment? Divided government might be exactly what today's jobless should be wishing for.

Since 1970, median unemployment has been 6.1 per cent under one-party rule, 5.7 per cent when both parties have some control. The spread narrows (6 per cent vs 5.8 per cent) since 1981 and widens (6 per cent vs 4.9 per cent) since 1993.

Equity markets have practically jumped for joy at political division. Since 1970, the Standard & Poor's 500 Index has increased at a median rate of 13.5 per cent per year in divided times and 9 per cent per year under one-party rule.

That spread grew (14.6 per cent vs 9 per cent) since 1981 and even more so since 1993 (19.5 per cent vs 9 per cent).

I can think of two plausible explanations for the improved performance of our economy when the federal government is divided.

Under the "politicians are idiots" view, divided governments tend to be gridlocked, and gridlock - with apologies to Gordon Gekko - is good. A paralysed government is a boon to the economy because the changes that politicians contrive tend to be harmful.

Under the "politicians are sensible" view, divided governments produce better lawmaking because only sensible policies can achieve the necessary bipartisan support. When government is controlled by one party, common sense is cast aside as those in power use their muscle to reward friends and punish enemies.

One crude way to cast light on the relative merits of the two views is to test the gridlock theory directly. Does legislative activity tend to grind to a halt when government is divided?

One imperfect measurement, tallying the number of bills passed by Congress and signed by the President, counters the notion that government is paralysed when divided.

Since 1993, divided governments have passed a median of 241 bills into law each year, while unified governments have passed 210. A similar pattern holds if we expand the sample back to 1970.

This is, of course, not decisive evidence, because the number of passed bills is irrelevant if the legislation is meaningless.

Anecdotally, though, some of the great moments in modern legislation, such as the Tax Reform Act of 1986 and the Personal Responsibility and Work Opportunity Act of 1996, also known as welfare reform, were passed when each party enjoyed some control in Washington.

There is also some evidence that divided governments have been more fiscally responsible, especially recently.

The median federal budget deficit as a percentage of GDP has been 2.7 per cent since 1970 under both formats of government, slightly lower (3.1 per cent vs 3.4 per cent) in divided times since 1981 and even better (1.2 per cent vs 3.4 per cent) in divided times since 1993.

That last part shows that the showdown between President Clinton and House Speaker Newt Gingrich offered more than good political theatre; it produced some results.

It's not hard to see how political alignment might influence our leaders' virtue on deficits: Republicans are attracted to deficit reduction because it constrains the big-government tendencies of Democrats, while Democrats are attracted to it because it constrains the tax-cutting tendencies of Republicans.

Deficit reduction is tough work. It shows that divided government cannot easily be written off as inevitable gridlock.

As President Barack Obama and his team look ahead to the prospect of governing in collaboration with Republicans, they should look at history, and they should take heart. They can still think big, so long as they think sensibly.

* Kevin Hassett is director of economic policy studies at the American Enterprise Institute. He was an adviser to Republican Senator John McCain in the 2008 presidential election.

- BLOOMBERG