Business Cycle
What is a business cycle?
A business cycle is a cycle of fluctuations in
the Gross Domestic Product (GDP) around its
long-term natural growth rate. It explains the
expansion and contraction in economic
activity that an economy experiences over time.
A business cycle refers to periods of expansion
and contraction. A peak is the high point
following a period of economic expansion. A
trough is the low point following a period of
economic decline.
Business Cycle…
According to Arthur F. Burns and Wesley C.
Mitchell..
Business cycles are a type of fluctuation found in the
aggregate economic activity of nations that organize their
work mainly in business enterprises.
A cycle consists of:
Expansions.
General recessions.
Contractions
And revivals
which merge into the expansion phase of the next cycle.
According to Joseph Business Cycle has
4 steps…..
Expansion: Increase in production and prices, low
interests rates.
Crisis: Stock exchanges crash and multiple
bankruptcies of firms occur.
Recession: Drops in prices and in output high interests
rates.
Recovery: Stocks recover because of the fall in prices
and incomes.
Business Cycle…
Three Types of Business Cycle
Economic theory define three types of business
cycle:
Short-term cycle: from 2 to 4 years, it results
from the changes in business inventories.
Medium-term cycle: from 7 to 11 years, it results
from the new business investment.
Long-term cycle: from 30 to 50 years, it results
from the technological innovation.
Theories of Business Cycle…
• Keynesian Theory
Fluctuations in aggregate demand cause the
economy to come to short run equilibrium at
levels that are different from the full
employment rate of output. These fluctuations
express themselves as the observed
business cycles.
Theories of Business Cycle…
Realbusiness cycle theory..
Economic crisis and fluctuations cannot
stem from a monetary shock, only from
an external shock, such as an innovation.
Theories of Business Cycle…
Politically based business cycle….
The political business cycle is an alternative theory
stating that when an administration of any hue is
elected, it initially adopts a contractionary policy
to reduce inflation and gain a reputation for
economic competence. It then adopts an
expansionary policy in the lead up to the next
election, hoping to achieve simultaneously low
inflation and unemployment on Election Day.
How we measure business cycle ?
The business cycle is the periodic but irregular
up-and-down movements in economic activity,
measured by fluctuations in Real GDP and
other macroeconomic variables.
What is Real GDP and Nominal GDP??
Real Gross Domestic Product measures the
value of all the goods and services produced
expressed in the prices of some base year.
The Nominal Gross Domestic Product
measures the value of all the goods and
services produced expressed in current prices.
On the other hand
Stages of Business Cycle…
Expansion:A speedup in the pace of economic activity.
Peak:The upper turning of a business cycle.
Contraction : A slowdown in the pace of economic
activity.
Trough : The lower turning point of a business cycle,
where a contraction turns into an expansion.
Stages of Business Cycle…
Expansion
Production up
Employment up
Peak
Production highest
Employment highest
Inflationary pressure
Stages of Business Cycle…
Contraction
Production down
Employment down
Recession
Trough
Production lowest
Employment lowest
Revival
Parts of Business Cycle - PEAK
high levels of employment – shortages of labour
occur pushing up wage rates
High levels of consumer borrowing and spending
Firms working at full capacity
Profit levels high
Inflation Increasing
Interest rates increasing
Boom in housing market
Parts of Business Cycle: Recession…
Recession is a general slowdown in economic activity
over a long period of time, or a business
cycle contraction.
Production as measured by Gross Domestic Product
(GDP), employment, investment spending, capacity
utilization household incomes, business profits and
inflational fall during
recessions.
Bankruptcies and the unemployment rate rises.
Example: Recession in U.S….
The United States housing market correction a possible
consequence of United States housing bubble
and subprime mortgage crisis has significantly contributed
to a recession.
U.S. employers shed 63,000 jobs in February 2008.
The unemployment rate of US grew to 8.5 percent in
March 2009, and there have been 5.1 million job losses till
March 2009 since the recession began in December 2007.
Recession: Impact on India
Exports had declined by around 12 per cent in November
2008.
There was a double-digit decline owing to lack of demand
from most of the buying markets including the US, the
UK, Japan and other countries in the Euro zone. These are
India’s major export destinations.
Indian industry has also shrunk for the first time in 15
years with a 0.4 per cent year-on-year decline in October
2008. The growth was about 12.2 per cent in October
last. It had been partly due to a dip of over 12 per cent in
India’s exports.
How to tackle the Recession
Government Measures….
The government attempt to control fluctuations in
economic growth
Aims to achieve growth at around trend level.
The Government use Fiscal and Monetary policy to
achieve this objective.
Fiscal Policy....
It is represented by the executive and legislative branches
of government and captures changes in taxes (T) and
government spending (G).
If the economy is in a recession, a combination of tax cuts
and increases in government spending can stimulate
economic activity.
Monetary Policy.....
It is conducted by the central bank of a country.
Monetary policy embraces banking and credit policy
relating to loans and interest rates as well as the
monetary standards and public debt and its management.
In a depression a policy of cheap money may be adopted
to stimulate business investment and thus assist recovery.
RBI’S Monetary Policy…
The repo had been brought down to 6.5 per cent
effective November 3, 2018 and
The CRR reduced to 4 per cent effective November 8,
2018.
There is no doubt these measures have helped the
economy and thereby the demand for goods and services.