The Political Sources of Systematic Investment Risk: Lessons from a Consensus Democracy

Abstract

This study examines the relationships between democratic politics and systematic investment (or capital) risk. Low risk is crucial to any well-functioning economy, as it encourages capital investment, facilitates growth, and enhances overall economic performance. This article distinguishes preelectoral, postelectoral, and institutional factors and examines how these influence systematic investment risk using daily stock market data from Germany. The results suggest that more (less) favorable and reliable investment conditions during the incumbency of right (left)-leaning governments lead to lower (higher) investment risk. This partisan effect is stronger the more inflation increases and depends on whether government is unified or divided. Investors also anticipate the effect of government partisanship: systematic risk decreases (increases) if the electoral prospects of a right (left)-leaning government enhance. Finally, grand coalition governments as well as periods of coalition formation trigger higher investment risk.

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