Lit Review: Investment Theory — Personal Financial Interests
As was previously established, domestic IR theory posits that all foreign policy begins as domestic policy, which gives rise to the influence of special interest groups through the iron triangle concept. This concept, first proposed in Freeman (1965), serves as an explanation for the relationship between the federal government and interest groups. While the focus of Freeman’s analysis was the activities of the Bureau of Indian Affairs during the New Deal period, the application has been applied to other federal agencies, most notably the defense department. The well-known military-industrial complex is rooted in the iron triangle concept. Iron triangles consist of special interest groups, a federal agency, and the corresponding legislative authority, typically a committee, although specialized subcommittees have been known to hold more power over their parent committees (Freeman, 1965).
The influence that interest groups bear on federal agencies and/or legislative (sub)committees is theorized under the investment theory of party competition and the ensuing business conflict model. On a broad level, investment theory explores the relationship between actors in the political system and posits that business elites determine political action, not voters nor popular movements. There is a great wealth of literature that discusses investment theory, although much of it pertains to the financial sector’s activities concerning federal and legislative oversight. These applications can be organized around three key relationships between firms and policymakers, all of which can be applied to the energy sector for the present study.
Personal Financial Interests
The first of the key relationships that can be explored is that of policymakers and the market performance of firms. Two recent studies that explored the personal financial interests of all members of the House of Representatives and the Senate suggested that congressional representatives have an advantage over the general population when it comes to investment opportunities. Ziobrowski, et al. (2004) used mandated federal investment disclosures from all members of the Senate between 1993 and 1998 to create a sample portfolio that imitated Senate member activities and compared it to the baseline market average. Their work found that the sample Senate portfolio of investment purchases beat the average by 85 basis points each month while the sample portfolio of investment sales beat the market average by 12 basis points each month (Ziobrowski, et al., 2004). Moreover, the study found that the return difference between the sample portfolios and the market average was economically significant at one percentage point each month (Ziobrowski, et al., 2004).
The team replicated their study in 2011 using House member activities between 1985 and 2001 and found similar results. The sample portfolio of House member investment purchases beat the market average by 55 basis points per month, and the yield differences were similarly economically significant (Ziobrowski, et al., 2011). Both studies found a negative correlation between seniority and higher returns, with those with less seniority in both houses outperforming their more senior colleagues (Ziobrowski, et al., 2004; Ziobrowski, et al., 2011). Additionally, the 2004 study found that while Democratic members outperformed their Republican colleagues, no statistically significant differences between portfolios by party affiliation existed in the Senate (Ziobrowski, et al.). In the House, Democratic members also outperformed their Republican colleagues, and the difference between the portfolios by party affiliation was, in contrast, statistically significant (Ziobrowski, et al., 2011).
The conclusions made by both Ziobrowski, et al. studies have been cited by many researchers as evidence that congressional representatives utilize their positions to enrich themselves. This line of reasoning lends itself well to investment theory and the iron triangle concept. Eggers & Hainmueller (2013) argued differently, however. While noting the, at times blatant, anecdotal evidence that supports the self-enrichment refrain, Eggers & Hainmueller took aim at the underlying artificialities of the Ziobrowski, et al. studies (2013). Both the 2004 and 2011 studies used portfolios built around the trades as legally reported, not around the actual portfolios that members held during the analysis period (Eggers & Hainmueller, 2013). Moreover, Eggers & Hainmueller (2013) noted that the critical abnormalities in the 2004 study were limited to specific members and did not represent the entirety of the Senate. To demonstrate their skepticism, Eggers & Hainmueller (2013) replicated the two studies for the House and the Senate using available data from 2004 through 2008 and found that member portfolios, before expenses, underperformed the market average between 2–3% each year.
The poor performance was attributed to current methods and procedures that ensure accountability and ethical activities for lawmakers who would otherwise have an unfair advantage given their policymaking positions (Eggers & Hainmueller, 2013). Additionally, the 2013 study did not identify statistically significant differences between member seniority, committee membership, nor party affiliation in the House and the Senate (Eggers & Hainmueller, 2013). The challenges of the Ziobrowski, et al. studies as identified through Eggers & Hainmueller serve to guide future research to focus on equities in the asset holdings of congressional representatives, not merely on revenue from individual trades. Moreover, the challenges lend themselves toward the merits of conducting both person-level and congressional body-level analyses in order to determine what levels of statistical significance within the body and the body-specific trendline exist against which to compare person-level analyses.
References:
Eggers, A. C., & Hainmueller, J. (2013). Capitol losses: The mediocre performance of congressional stock portfolios. Journal of Politics, (75)2, 535 University of Pennsylvania Journal of International Law 551. https://doi.org/10.1017/s0022381613000194.
Freeman, J. L. (1965). The political process: Executive bureau-legislative committee relations. Random House.
Ziobrowski, A. J., Cheng, P., Boyd, J. W., & Ziobrowski, B. J. (2004). Abnormal returns from the common stock investments of the US Senate. Journal of Financial and Quantitative Analysis, 39(4), 661–676. https://doi.org/10.1017/S0022109000003161.
Ziobrowski, A. J., Boyd, J. W., Cheng, P., & Ziobrowski, B. J. (2011). Abnormal returns from the common stock investments of members of the US House of representatives. Business and Politics, 13(1), 1–-22. https://doi.org/10.2202/1469-3569.1308.
