US Corporate Investment Over the Political Cycle

The investment behavior of US firms exhibits systematic variation over the political cycle. After controlling for investment opportunities, US firms reduce investment expenditures approximately 2.0% during Presidential election years, 5.3% during periods of single-party government, and 8.7% during Republican presidential administrations. Neoclassical investment theory has little to say about direct links between investment and the political environment. I show that the empirical results arise naturally in a model of investment under regulatory and political uncertainty, provided that (i) regulatory policy affects the cash flows of the firm, (ii) firms have flexibility over the scale of their investments and (iii) regulatory uncertainty resolves quickly.