essay about business cycle

Explain the Four Phases of Business Cycle

This essay about the four phases of the business cycle breaks down the economic ebb and flow into expansion, peak, contraction, and trough. It likens the economy to the heartbeat, where each phase plays a crucial role in its health and rhythm. Expansion is the phase of growth and optimism, followed by the peak where things level off. Contraction brings a slowdown, potentially dipping into recession, and the trough is the economy’s lowest point, from which recovery begins. Understanding these phases is akin to checking the weather forecast, offering valuable insights for making informed decisions in investing, business, and personal finance. The essay presents this cycle not just as an academic concept but as a practical tool for navigating economic changes.

How it works

Cracking the code of the business cycle feels a bit like trying to predict the weather—just when you think you’ve got it figured out, a curveball comes your way. But just like weather forecasts, understanding the business cycle gives us a rough guide on what to expect in the economy. Think of it as the economy’s heartbeat, with four distinct beats: expansion, peak, contraction, and trough.

During expansion, it’s all systems go. The economy’s buzzing—businesses are churning out goods, hiring left and right, and everyone’s feeling pretty optimistic.

It’s like the economy’s having a great day, sun’s out, and wallets are open. But then, we hit the peak, the high point where things can’t get much better, and inflation starts to sneak up, hinting that what goes up must come down.

Enter contraction, the mood dampener. It’s when things start to cool off—sales drop, belts tighten, and jobs aren’t as secure. It’s the part of the cycle that gets all the press, especially if it dips into a recession, turning the economic weather from sunny to stormy.

Finally, we find ourselves at the trough, the economy’s version of hitting rock bottom and realizing the only way out is up. It’s a time of cautious optimism, where the seeds of recovery are planted, ready to grow into the next expansion phase.

So, why bother understanding these economic ups and downs? Well, just like checking the weather before you head out, knowing which phase the economy is in can help you make smarter decisions—whether you’re investing, running a business, or just planning your budget. Sure, the business cycle might be unpredictable, but having a heads-up on what could come next is always a good idea.

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Page One Economics ®

All about the business cycle: where do recessions come from.

"Expansions don't die of old age." 

—Macroeconomic adage

It might be tempting to think the stages of the business cycle are like the cycles on your dishwasher—regular cycles that occur in predictable patterns: The rinse cycle always begins after the wash cycle has completed, and each rinse always lasts the same length of time. In fact, the way business cycles are often illustrated in textbooks and websites often support this thinking (Figure). But there is nothing "regular" about the business cycle.

So, what does a "typical" business cycle look like? Business cycles include the following four stages: 

1. The upward slope of the business cycle is called economic expan sion . This is a period when economic output increases. That is, more goods and services are being produced in the economy.

2. It would sure be nice if the economy expanded continuously, but all expansions come to an end. In economic terms, each one reaches a peak, which, like a roller coaster ride, is the point just before the downward movement begins.

3. The downward slope of the business cycle is called economic contraction . This is a period when economic output declines; it's measured as a decrease in real GDP. During this phase, the economy produces fewer goods and services than it did before. When fewer goods and services are produced, fewer resources are used by firms—including labor. As firms decrease their output, they will hire fewer new workers and often lay off some existing workers. As a result, when output falls, employment tends to fall as well. 

Economic contractions often become recessions , which result in economic hardship for many people and can have long-lasting effects. For example, losing a job due to recession can lead to high levels of debt or the loss of key assets such as a house or car. In addition, if people are unemployed for long periods of time, they might find it difficult to keep their work skills sharp, and they might find it difficult to find another job.

While an economic contraction is objective—that is, it's a measured decrease in real GDP—a recession is more subjective: The National Bureau of Economic Research (NBER) uses a variety of measures of economic activity, not just real GDP, to assess whether the US economy is in recession. We'll discuss this more later in the essay. 

4. Recessions are challenging, but fortunately they don't last forever. In economic terms, each one reaches a trough, which is the point just before the upward movement begins—like the low point on a roller coaster run, just before the track turns upward. 

What Causes Recessions?

If you watch the "talking heads" on financial news networks, you'll sometimes hear them say that an expansion is getting a little "long in the tooth," or that we are in the late stages of expansion. While they might have reasons for expecting the expansion to end, the phrasing can make it seem that expansions have a lifespan—that they end simply because they've been around for a while (like watching fruit start to go bad in your fridge and knowing you've got to throw it out soon).

That's not how economic expansions work, though. In fact, economic theory suggests there is no reason for economic cycles to occur at all, as the economy's natural state is expansion—positive growth. 1 The economy gets knocked off its natural growth trend only when an economic shock knocks it off track. And, as the word suggests, a shock is an unexpected event. 

These shocks can be positive (booms) or negative (recessions), and they come from a variety of sources. Economists suggest that shocks that cause recessions might include financial market disruptions, international disturbances, technology shocks, energy price shocks, and actions taken by monetary policymakers to restrain inflation. 2 Of course, we'd like to avoid recessions; they are costly because unemployed workers (and resources) lose income and economic opportunities, and the economy loses output that cannot be regained.

Is Two Quarters of Negative Growth in Real GDP a Recession? It Depends

People often have heated discussions about whether the economy is in recession. How can you tell?

Using the informal "rule of thumb" definition, a recession is two consecutive quarters of economic contraction (negative real GDP growth). However, that is not the definition the NBER Business Cycle Dating Committee uses. The NBER is a think tank with a very important role: It plays "referee" and decides when economic recessions occur in the United States.

According to the NBER, a recession is "a significant decline in economic activity that is spread across the economy and lasts more than a few months." And the decline must be characterized, at least to some degree, by each of the following characteristics: depth, diffusion, and duration. 3 Thus, emphasis is placed on a variety of measures of economic activity rather than on a single measure, such as GDP growth. In assessing the "decline in economic activity," the NBER includes data about real personal income, nonfarm payroll employment, household employment, consumer spending, wholesale-retail sales, and industrial production in their assessment (Table 1). 4  

Because the NBER considers several economic indicators, the change in real GDP might be relatively small while other data indicate a significant decline in economic activity, which is characteristic of recession. The NBER also focuses on monthly assessments of the business cycle, while real GDP is reported quarterly. So, while it's possible that the economy could experience two quarters of negative real GDP growth and not have a recession, history shows there is a lot of overlap. In each of the past 10 times the economy shrank for two consecutive quarters, a recession resulted. However, there have been recessions where the economy did not contract for two quarters; the 2020 COVID-19 recession lasted only two months, and real GDP declined in only one quarter during the 1980, 1991, and 2001 recessions (Table 2). 5

How do peaks and troughs line up with contractions and expansions? The first month of a recession is the month following a peak. Table 3 notes that the business cycle peaked in February 2020, which means the COVID-19 recession started in March 2020. That recession ended in April 2020, the date of the trough. 6 The next expansion began in May 2020.

You'll hear people arguing about whether we're in a recession because the NBER doesn't often declare a recession until well after it has begun: The NBER uses data that are backward looking, so it takes time for the NBER to analyze all the data and make a judgment. Sometimes it doesn't make the call until after a recession has already ended. For example, the recessions of 1991 and 2020 were both relatively short and had already ended by the time the NBER announced the beginning date of the recession. Likewise, the economy is often well into the next expansion by the time the NBER calls the end of the last recession. For example, the NBER made the announcement that the COVID-19 recession ended April 2020 on July 19, 2021 (Table 3).

The NBER notes that it has taken between 4 and 21 months after a recession started to declare the recession had started and that "there is no fixed timing rule. We wait long enough so that the existence of a peak or trough is not in doubt, and until we can assign an accurate peak or trough date." 7 Again, in the meantime, you'll hear lots of discussion about whether the next recession has started.

What Do Recessions Look Like?

While they all start with a shock, every recession is a little different, which makes us think that Mark Twain's quote that "history doesn't repeat itself, but it often rhymes" also refers to recessions.

So, what does a "typical" recession look like? Recessions usually include the following characteristics:

A. A negative shock such as a financial crisis occurs.

B. Firms reduce investment spending on machinery, equipment, new factories, and new office buildings (physical capital). In fact, typical recessions begin with reduced business investment spending, which is the most volatile component of GDP because businesses can postpone this type of spending.

C. As business investment falls, affecting employment and demand for inputs, consumers reduce spending on new houses and durable goods such as furniture, appliances, and automobiles.

D. As spending declines, firms that produce these products see declining sales and increasing inventories. They decide to cut production levels and lay off some workers.

E. Rising unemployment and falling profits lead to further declines in spending. 

F. Eventually, the declines will end as consumers and businesses reduce debt and increase their ability to spend and as producers lower their prices to reduce inventory. 

G. Lower interest rates and resource prices make investment and spending more attractive. 

H. Firms take advantage of low interest rates and resource prices by increasing investment spending on capital goods as they anticipate the next expansion.

I. Consumers take advantage of low interest rates by borrowing to spend on new houses and durable goods.

J. The increased demand for products and services increases employment and income, and consumer spending levels rise. 

K. As consumer spending increases, businesses increase production and employment.

L. Recession ends, beginning the next expansion.

Like a roller coaster, the business cycle has ups and downs. However, when it comes to the economy, most people prefer a smooth ride with very few dips. It would be much easier to plan and invest for the future if recessions were easy to predict, but they are not. Rather, they are unpredictable and irregular. The NBER Business Cycle Dating Committee acts as the official referee when it comes to business cycles. This group of expert macroeconomists use economic data and their understanding of the economy to determine when recessions start. (See boxed insert, "Which Specific Economic Indicators Does the NBER Use?") The process takes time, as the stakes are high, so it's important to get the "call" right.

1 Kliesen, Kevin L. "A Guide to Tracking the U.S. Economy." Federal Reserve Bank of St. Louis Review , First Quarter 2014, pp. 35-54; https://doi.org/10.20955/r.96.35-54 . 

2 Kliesen, Kevin L. "The 2001 Recession: How Was It Different and What Develop­ments May Have Caused It?" Federal Reserve Bank of St. Louis Review , September/October 2003, pp. 23-38; https://doi.org/10.20955/r.85.23-38 . 

3 Extreme conditions for one criterion may partially offset weaker indications from another.

4 Owyang, Michael T. and Stewart, Ashley H. "Is the U.S. in a Recession? What Key Economic Indicators Say." Federal Reserve Bank of St. Louis On the Economy Blog , September 2022; https://www.stlouisfed.org/on-the-economy/2022/sep/us-recession-what-key-economic-indicators-say .

5 National Bureau of Economic Research. "US Business Cycle Expansions and Contractions"; https://www.nber.org/research/data/us-business-cycle-expansions-and-contractions . 

6 National Bureau of Economic Research. See footnote 5. 

7 National Bureau of Economic Research. "Business Cycle Dating Procedure: Frequently Asked Questions"; https://www.nber.org/research/business-cycle-dating/business-cycle-dating-procedure-frequently-asked-questions .

© 2023, Federal Reserve Bank of St. Louis. The views expressed are those of the author(s) and do not necessarily reflect official positions of the Federal Reserve Bank of St. Louis or the Federal Reserve System.

Business cycle: The fluctuating levels of economic activity in an economy over a period of time measured from the beginning of one recession to the beginning of the next.

Contraction: A period when real GDP declines; a period of economic decline.

Expansion: A period when real GDP increases; a period of economic growth.

Recession: A period of declining real income and rising unemployment. A significant decline in general economic activity extending over a period of time.

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What Is the Economic Cycle?

• 4 Stages of a Business Cycle
• How to Measure Cycles

Managing Economic Cycles

Economic theory, the bottom line, economic cycle: definition and 4 stages of the business cycle.

An economic cycle, also known as a  business cycle , refers to economic fluctuations between periods of expansion and contraction. Factors such as  gross domestic product (GDP) ,  interest rates , total employment, and consumer spending can help determine the current economic cycle stage.

Understanding the economic period can help investors and businesses determine when to make investments and when to pull their money out, as each cycle impacts stocks and bonds as well as profits and corporate earnings.

Key Takeaways

• An economic cycle is the overall state of the economy as it goes through four stages in a cyclical pattern: expansion, peak, contraction, and trough.
• Factors such as GDP, interest rates, total employment, and consumer spending can help determine the current stage of the economic cycle.
• The causes of a cycle are highly debated among different schools of economics.

Investopedia / Mira Norian

Stages of the Economic Cycle

An economic cycle is the circular movement of an economy as it moves from expansion to  contraction  and back again. Economic expansion is characterized by growth and contraction, including recession, a decline in economic activity that can last several months. Four stages characterize the economic cycle or business cycle.

During expansion, the economy experiences relatively rapid growth,  interest rates tend to be low, and production increases. The economic indicators associated with growth, such as employment and wages, corporate profits and output, aggregate demand, and the supply of goods and services, tend to show sustained uptrends through the expansionary stage. The flow of money through the economy remains healthy and the cost of money is cheap. However, the increase in the money supply may spur inflation during the economic growth phase.

The peak of a cycle is when growth hits its maximum rate. Prices and economic indicators may stabilize for a short period before reversing to the downside. Peak growth typically creates some imbalances in the economy that need to be corrected. As a result, businesses may start to reevaluate their budgets and spending when they believe that the economic cycle has reached its peak.

Contraction

A  correction  occurs when growth slows, employment falls, and prices stagnate. As demand decreases, businesses may not immediately adjust production levels, leading to oversaturated markets with surplus supply and a downward movement in prices. If the contraction continues, the recessionary environment may spiral into a depression .

The trough of the cycle is reached when the economy hits a low point, with supply and demand hitting bottom before recovery. The low point in the cycle represents a painful moment for the economy, with a widespread negative impact from stagnating spending and income. The low point provides an opportunity for individuals and businesses to reconfigure their finances in anticipation of a recovery.

Measuring Economic Cycles

Key  metrics  determine where the economy is and where it's headed. The  National Bureau of Economic Research (NBER)  is the definitive source for marking the official dates for U.S. economic cycles. Relying primarily on changes in GDP, NBER measures the length of economic cycles from trough to trough or peak to peak.

Since the 1950s, a U.S. economic cycle, on average, lasted about five and a half years. However, there is wide variation in the length of cycles, ranging from just 18 months during the peak-to-peak cycle in 1981 to 1982 up to the expansion that began in 2009. According to the NBER, two peaks occurred between 2019 and 2020. The first was in the fourth quarter of 2019, a peak in quarterly economic activity. The monthly peak happened in a different quarter, which was noted as taking place in February 2020.

This wide variation in cycle length dispels the myth that economic cycles are a regular natural activity akin to physical waves or swings of a pendulum. But there is debate as to what factors contribute to the length of an economic cycle and what causes them to exist in the first place.

Businesses and investors need to manage their strategy over economic cycles—not so much to control them but to survive them and perhaps profit from them.

Governments, financial institutions, and investors manage the course and effects of economic cycles differently. During a recession, a government may use expansionary  fiscal policy and rapid  deficit spending . It can also try contractionary fiscal policy by taxing and running a  budget surplus  to reduce aggregate spending to prevent the economy from overheating during expansion.

Central banks may use  monetary policy . When the cycle hits a downturn, a central bank can lower interest rates or implement expansionary monetary policy to boost spending and investment. During expansion, it can employ contractionary monetary policy by raising interest rates and slowing the flow of credit into the economy.

During expansion, investors often find opportunities in the technology, capital goods, and energy sectors. When the economy contracts, investors may purchase companies that  thrive during recessions , such as utilities, consumer staples, and healthcare.

Businesses that track the relationship between their performance and business cycles can plan strategically to protect themselves from approaching downturns and position themselves to take maximum advantage of economic expansions. For example, if your business follows the rest of the economy, warning signs of an impending recession may suggest you shouldn't expand. You may be better off building up your  cash reserves .

Monetarism  suggests that government can achieve economic stability through their  money supply's  growth rate. It ties the economic cycle to the  credit cycle , where changes in interest rates reduce or induce economic activity by making borrowing by households, businesses, and the government more or less expensive.

The  Keynesian  approach argues that changes in aggregate demand, spurred by inherent instability and  volatility  in investment demand, are responsible for generating cycles. When business sentiment turns gloomy and investment slows, a self-fulfilling loop of economic malaise can result. Less spending means less demand, which induces businesses to lay off workers. According to Keynesians, unemployment means less consumer spending , and the whole economy sours, with no clear solution other than government intervention and  economic stimulus .

What Are the Stages of an Economic Cycle?

An economic cycle, or business cycle, has four stages: expansion, peak, contraction, and trough. The average economic cycle in the U.S. has lasted roughly five and a half years since 1950, although these cycles can vary in length. Factors to indicate the stages include gross domestic product, consumer spending, interest rates, and inflation. The National Bureau of Economic Research (NBER) is a leading source for indicating the length of a cycle.

What Happens in Each Phase of the Economic Cycle?

In the expansionary phase, the economy experiences growth over two or more consecutive quarters. Interest rates are typically lower, employment rates rise, and consumer confidence strengthens. The peak phase occurs when the economy reaches its maximum productive output, signaling the end of the expansion. After that point, employment numbers and housing starts to decline, leading to a contractionary phase. The lowest point in the business cycle is a trough, which is characterized by higher unemployment, lower availability of credit, and falling prices.

What Causes an Economic Cycle?

The causes of an economic cycle are widely debated among different economic schools of thought. Monetarists, for example, link the economic cycle to the credit cycle. Here, interest rates, which intimately affect the price of debt, influence consumer spending and economic activity. On the other hand, a Keynesian approach suggests that the economic cycle is caused by volatility or investment demand, which in turn affects spending and employment.

The economic or business cycle refers to the cyclical pattern experienced by the economy. The economy remains in an expansion phase until it reaches its peak, reversing to the downside and entering a contraction before a trough, and begins to expand once again. GDP, interest rates, employment levels, and consumer spending can help define the economic cycle. Although there are different economic theories to explain what drives the economic cycle , the conditions associated with each stage can impact business and investment decisions.

Congressional Research Service. " Introduction to U.S. Economy: The Business Cycle and Growth ," Page 1.

National Bureau of Economic Research. " Business Cycle Dating ."

National Bureau of Economic Research. " US Business Cycle Expansions and Contractions ."

National Bureau of Economic Research. " NBER Determination of the February 2020 Peak in Economic Activity ."

International Monetary Fund. " Fiscal Policy: Taking and Giving Away ."

International Monetary Fund. " Monetary Policy: Stabilizing Prices and Output ."

International Monetary Fund. " What Is Keynesian Economics? "

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• 5 Things You Shouldn’t Do During a Recession 4 of 37
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All of these factors have an enormous impact on my selected business (Barclays) as the economy goes from growth and decline. As well as many others, Barclays is majorly affected as it is in the financial industry. These different factors appear throughout what is called the ‘Business Cycle’. The cycle shows the fluctuation of the activity within the economy over a period of time and consists of 4 main stages; as well as many others,

Economy And Voter Responsibility Study

The business cycle expands and contracts as the GDP grows or shrinks. The business cycle includes periods of recession and expansion, and peaks and troughs. Although the business cycle can appear to be a volatile up and down movement, the long term movement of real GDP is generally not affected and reaches upward. In an article by Langelett and Schug (2005), the authors discuss how real GDP and business cycle changes are related. A business cycle begins with an expansion where real GDP is rising and reaches the high point or peak of the expansion (Langelett &Schug, 2005). During this time, individuals and businesses feel comfortable with the current state of the economy and begin spending more. A good economy can last many years although, inevitably, the economy will begin to slow. During times of recession, individuals and business feel uneasy about the future and reduce their spending causing the GDP to decline. The GDP is an important measure for voters to comprehend when deciding between candidates and their economic

The National Bureau Of Economic Analysis (NBER)

The business cycle is a series of quantified ups and downs in economies across the world, similar to the manner in which humans breathe. A positive breath inward to bring oxygen to the lungs, a negative breath outward to push carbon dioxide out of the lungs, designed to keep the respiratory system at equilibrium. Without the outward breath, the inward breath would not occur. The business cycle works in the same manner ¬¬– expansions or “boom” periods acting as the breath inward, and contractions or “recessions” acting as the breath outward. Both are necessary for an economy to function, and one would not be able to exist without the other. This is the crux of the issue of recessions: they are a necessary occurrence, not an evil, in the context

Government Bonds: General Public Is Less Likely To Face Violent Revolution

In this way, the Fed manages price inflation in the economy. So bonds affect the U.S. economy by determining interest rates. This affects the amount of liquidity. This determines how easy or difficult it is to buy things on credit, take out loans for cars, houses or education, and expand businesses. In other words, bonds affect everything in the economy. Treasury bonds impact the economy by providing extra spending money for the government and consumers. This is because Treasury bonds are essentially a loan to the government that is usually purchased by domestic consumers. However, for a variety of reasons, foreign governments have been purchasing a larger percentage of Treasury bonds, in effect providing the U.S. government with a loan. This allows the government to spend more, which stimulates the economy. Treasury bonds also help the consumer. When there is a great demand for bonds, it lowers the interest rate.

Basic Econ Essay

1) According to the Law of Demand, the demand curve for a good will A) shift leftward when the price of the good increases. B) shift rightward when the price of the good increases. C) slope downward. D) slope upward. Answer: C 2) An increase in the price of pork will lead to A) a movement up along the demand curve. B) a movement down along the demand curve. C) a rightward shift of the demand curve. D) a leftward shift of the demand curve. Answer: A 3) An increase in consumer incomes will lead to A) a rightward shift of the demand curve for plasma TVs. B) a movement upward along the demand curve for plasma TVs. C) a rightward shift of the supply curve for plasma TVs. D) no change of the demand curve for plasma TVs. Answer:

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• Business Cycle Essays

Business Cycle Essays (Examples)

1000+ documents containing “business cycle” .

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Business cycle the idea of the business.

Business Cycle The idea of the business cycle goes back at least to Marx' description of capitalisms booms and busts in Das Kapital, and has been described in more detail by modern writers starting in the 1940s. Business cycles -- which do not occur at any sort of regular interval -- are generally understood in terms of when the direction of the economy changes (Romer, 2008). As Brad DeLong (2010) describes, Marx noted that business cycles occur when there is an overaccumulation of capital and overproduction of goods. In order to restore balance to the overheated economy, a crisis must follow. This crisis will create the depreciation of the value of assets. Marx further described what would happen to employment (it would go down). Real capital is destroyed, which means the equipment and factories must cease production, workers must be made unemployed and capital will inevitably sit on the sidelines --….

Works Cited:

Romer, C. (2008). Business cycles. The Concise Encyclopedia of Economics. Retrieved December 2, 2011 from  http://www.econlib.org/library/Enc/BusinessCycles.html 

DeLong, B. (2010). Karl Marx, first real business cycle theorist. Brad DeLong. Retrieved December 2, 2011 from  http://delong.typepad.com/sdj/2010/07/karl-marx-first-real-business-cycle-theorist.html 

NBER. (2011). U.S. business cycle expansions and contractions. National Bureau of Economic Research. Retrieved December 2, 2011 from  http://www.nber.org/cycles.html

Business Cycles and Economic Outlook

Thus, recession can be defined as a cure to the ill-policies of government and central bank that caused boom in certain sectors such as housing market. Because of that boom, easy credit policies, subsidies, easy lending and many other government and central bank caused factors, the prices soars to extreme high and causes inflation and money gets trapped in mal-investment. As the recession acts as a cure to this situation of extreme falsehood, it starts decreasing the extent of false demand and tries to bring the market to its actual true situation. The prices start declining and the economy starts recuperating from the illness of false heights. Since recession itself is the cure of problems of mal-investment that were caused by the government and central bank's ill easy money and credit policies, it cannot be cured by further stimulus. The stimulus will only sustain the recession for longer periods until all….

Browning, E.S. (2009), "After the Collapse, Guarded Hope for '09," the Wall Street

Journal, January 2, Retrieved 22 June, 2010 from:

 http://online.wsj.com/article/SB123084159289047143.html 

Cochran, John P. (2001), "Austrian Business Cycles, Plucking Models, and Real

Business Cycles Phases Indicators Measures Economic Evolution

Business Cycles: Phases, Indicators, Measures, Economic Evolution, Outlooks is currently recovering from its worst recession in over 25 years. Most economists consider the rapid rise in housing prices (the bubble) and the subsequent collapse in that market to be the primary cause of the recession. Explain what housing market circumstances were responsible for the collapse of that market. Observers attribute the 2001-2006 housing bubble to "everyone from home buyers to Wall treet, mortgage brokers to Alan Greenspan." (FactCheck.org.) Causes were five-fold -- and all reducible to the consumer: REALTOR encouraged people to buy (and sell) Builders built more homes than were needed. This was fed by the media's emphasis on the American myth of each American needing a home to call himself. There was a home-buying mania. Lenders created poorly designed loan products to fill demand. Economic derivatives, specially the "credit-default swap" were used irresponsibly in that swaps and other derivatives were sold and resold in….

FactCheck.org. "Who Caused the Economic Crisis?."

 http://www.factcheck.org/elections-2008/who_caused_the_economic_crisis.html 

Investopeida. What are leading, lagging and coincident indicators?  http://www.investopedia.com/ask/answers/177.asp#ixzz2NQavlUvd 

NY TImes,( 2012) Derivatives  http://topics.nytimes.com/top/reference/timestopics/subjects/d/derivatives/index.html

Business Cycle Analysis Overview- From the End

Business Cycle Analysis Overview- rom the end of World War II to the early 1970s, China was relatively isolated from the global landscape. It was a part of the Soviet Communist Bloc, but remained inwardly focused on improving its own infrastructure and economy, all the while poised for rapid modernization. Openness towards the West began around 1978 with increased trade, a small amount of additional transparency internally, and at least the semblance of allowing more capitalistic templates like ownership of businesses, development of more modernized factories, etc., and less journalistic control. After 1978, Mao's successor Deng Xiaoping realized that the government had to increase the standard of living for its population, or face revolt. Deng's, and subsequent regimes, focused on market-oriented economic development. By the turn of the century, for instance, Chinese output had quadrupled, living standards improved as well as personal choices -- to a degree. There has been increased….

Figure 15? SEQ Figure * ARABIC "2" - Consumer Confidence Comparison (China Internet Watch, 2013)

Figure14 - Housing Issues (Another Bubble, 2011)

Figure 15 - Debt to GDP

However, it is also necessary that everyone have a clear idea and common vision of why the party is being planned, and what is being celebrated. At the next meeting, some of the people who were at the company for a long time can talk about their involvement with the company like the 'rough times' they experienced early on during the organization's early years. The individuals with the most interest in event planning can talk about their ideas about what makes a quality event, and even the least committed members of the team can share with others what made other events they have attended in the past 'work,' what new things they would like to try, and also what working for the company means to them and how they would like to celebrate these values. Ideally, everyone should draw from one another's strengths, interests, and aptitudes. 4. What should she….

Business Cycles the Keynesian Approach to Recessionary

Business Cycles The Keynesian approach to recessionary gaps is to increase government spending and lower taxes -- run a deficit -- in order to spur aggregate demand. In the Keynesian model, aggregate demand is affected by a number of different factors -- consumer consumption, business investment, government spending and net exports. During a recessionary gap, consumer spending and business investment are probably both down, which leaves the other two factors to prop up the economy. Government spending is an efficient way of directly putting money into the economy, thereby giving consumers more money to spend and businesses more money to invest (FRBSF, 2013). Knowing that the government is working hard to spur economic growth can also change the underlying psychology of the market. Lowering taxes is another means by which government can spur growth under this scenario. Lowering taxes allows for more spending from both consumers and businesses, since both will have….

FRBSF. (2013). Major schools of economic theory. Federal Reserve Bank of San Francisco. Retrieved March 8, 2013 from  http://www.frbsf.org/publications/education/greateconomists/grtschls.html#A8 

Uchitelle, R. (2009). Economists warm to government spending but debate its form. New York Times. Retrieved March 8, 2013 from  http://www.nytimes.com/2009/01/07/business/economy/07spend.html?pagewanted=all&_r=0 

Yergin, D. & Stanislaw, J. (1998) The Chicago School. Commanding Heights. Retrieved March 8, 2013 from  http://www.pbs.org/wgbh/commandingheights/shared/pdf/ess_chicagoschool.pdf

Real Business Cycle

Business cycle theories have been the topic of discussion for many years. There are several business cycle theories that are reliable and trustworthy, while others are controversial and easily disproved. The purpose of this discussion is to distinguish among the different theories of the business cycle. These theories include Keynesian aggregate demand theory, the Monetarist aggregate demand theory, and the new classical and new Keynesian theories of the business cycle and the real business theory. In addition, this discussion will describe the origins of, and the mechanisms at work during, the expansion of the 1990's, the recession of 2001, and the great depression. Keynesian Theory Aggregate Demand Theory Aggregate demand simply describes the correlation between the amount of aggregate output and the price height when every other variable is held constant. According to an article entitled "Aggregate Demand and Supply Analysis" from the Keynesian point-of-view the aggregate demand is determined "in terms of its….

 http://www.questia.com/PM.qst?a=o& ; d=5001401079

Christiano, L.J., & Fitzgerald, T.J. (1998). The Business Cycle: It's Still a Puzzle. Economic Perspectives, 22(4), 56+..

GDP and the Business Cycle Government Financial

GDP and the Business Cycle; Government Financial Bodies, How Fiscal Policies Impact Production and Employment This memo will address three issues commonly discussed when talking about the economy. First, it will explain and describe how gross domestic product can be used to measure the business cycle. Second, it will describe the roles of the government bodies that are responsible for determining national fiscal policies. Third, it will explain how national fiscal policies impact the economy's production and employment. Specifically, it will examine how changes in government spending and taxing impact the economy's production and employment. Considered together, these three explanations should lead to a better understanding of fiscal policy at a national level. Gross domestic product (GDP) is the monetary value of all of the finished goods and services that are produced in a country within a specific time period, usually each year. It includes all items, whether produced or consumed publicly….

Anderson, L. (2002). Gross Domestic Product. Retrieved November 10, 2012 from Library of Economics and Liberty website:  http://www.econlib.org/library/Enc1/GrossDomesticProduct.html 

Garcia-Szekely, C. (2012). Fiscal Policy. Retrieved November 10, 2012 from Santa Monica

College website: http://homepage.smc.edu/szekely_claudia/onlinee2/lecturesf05/lecturefiscalpolicy.htm

The White House. (2012). The Mission and Structure of the Office of Management and Budget.

UK Business Cycle and Current Economy According

UK Business Cycle and Current Economy According to the basic tenets of the business cycle theory or model of economic trends, periods of high growth in GDP and rising prices (and wages) are followed by drops in economic activity as consumers/workers grow wary and spend less, producers start cutting back on supply and labor, and thus unemployment rises and consumers are able to spend less. As prices drop low enough and employment stabilizes, spending begins to resume, production and employment levels increase followed by wages, and a period of high growth is entered into again. The current economy in the United Kingdom is indicative of a nation at the bottom of a trough in the economic cycle, as various elements of the economy are beginning to stabilize yet a return to growth remains uncertain and very slow if it is occurring (BBC, 2012). Producer prices rose very slightly, which could be….

BBC. (2012). UK producer prices rise 0.7% in April. Accessed 12 May 2012.

 http://www.bbc.co.uk/news/business-18031202

Economics GDP and the Business Cycle Gross

Economics GDP and the Business Cycle Gross domestic product (GDP) is the economic measure which quantifies the production within a country's economy in a single period of time. The measure, which is usually on an annual or a quarterly basis, is usually calculated as the total market value of all the finished goods and services that country during the period (Nellis and Parker, 2000). In 2012 the GDP in the U.S. had reached $15,094 billion dollars, an increase on the 2011 figure of $14,582.4 billion (Trading Economics, 2013). This in turn was an increase on 2010, when the GDP was $14,043 billion. This would appear to indicate a growing economy, where there is an increase in output. However, this is the market value on current prices, each year the increase includes inflation, so the real growth, that is the actual growth less an allowance for inflation, is a better measure of how….

Baye Michael, (2007), Managerial Economics and Business Strategy, McGraw-Hill/Irwin

Economagic, (2013), [online] retrieved 5th March 2013 from http://www.economagic.com/gif/g93096010601680349036405265553593.gif

Nellis JG, Parker D, (2000), The Essence of the Economy, London, Prentice Hall

Quick MBA, (2012), The Business Cycle, [online] retrieved 5th March 2013 from  http://www.quickmba.com/econ/macro/business-cycle/

Life Cycle Financial Risks

The business cycle, or the seemingly inexorable ups and downs of the economy, is inevitable—there will be both recessions and periods of growth. But predicting when these highs and lows will come is challenging and has eluded even some of the wisest investors. “The key is to invest one cycle phase ahead,” and “investors need to have a forward-looking mindset so they can prepare their portfolios to capitalize" (Hicks, 2017, par.12). The difficulty of predicting the business cycle is one reason why investing low-cost mutual funds is often suggested versus the investor attempting to second guess the business cycle. For example, in regards to the current global economy, according to the World Economic Forum, although the world economy has rebounded from the global recession of 2008, “this has been the weakest post-recession recovery on record,” particularly in regards to productivity and investment (“Economic Storm Clouds,” 2018, par.1). In addition to the….

Business and Corporate

Business Strategy Business and Corporate business strategy analysis of kraft foods Analysis of Business Level Strategy Kraft Foods Inc. is the second largest food company in the world and makes annual revenues in excess of $54 billion (Kraft Foods Annual eport, 2012). It operates in a highly competitive consumer foods industry where high volume sales are essential for competitive success. Tapping into new markets and growing one's brand portfolio are also important for growth and success. Kraft Foods Inc. pursues a number of business-level strategies to support its corporate level strategies. The business level strategies are determined by answering the question How do we compete? (Ireland, Hoskisson & Hitt, 2008). Kraft Foods Inc. has selected product differentiation and brand development as its primary business level strategy. Product differentiation involves creating and conveying to the consumer a unique feature of the product portfolio that distinguishes the company from the competition and offers something that the consumers….

Furrer, O. (2011). Corporate level strategy: Theory and applications. (p. 2). Routledge

Ireland, R.D., Hoskisson, R.E., & Hitt, M.A. (2009). Understanding business strategy: Concepts and cases. (p. 88). Cengage Learning

McKern, B. (2003). Managing the global network corporation. (p. 125). Routledge

O'Grady, T.P., & Malloch, K. (2010). Innovation Leadership. (p. 371). Jones & Bartlett Learning.

Businesses Engaged in the 'Transfer

In contrast with the mutual funds, 'Mutual funds trade hundreds of stocks in many unrelated industries, with very little of the total portfolio in any single stock. By contrast, when a company expands into a new area, its portfolio consists of two stocks, typically 90% in the core operation and 10% in the new businesses' (Tirole, 2005). The diversification in majority of the cases is responsible for lower return and maximal risk factor. esearchers have observed that there is possibility of higher failure rates and lower returns for unrelated acquisitions than for related acquisitions. When the company acquires businesses in their own industry, it is observed that lowest failure rates and highest returns phenomenon occur. The reason why the diversification into unrelated business is considered to be risky is that the corporate is unfamiliar about the industry itself, and therefore the corporate is likely to overlook critical risk factors….

Montgomery, C.A. Corporate Diversification. Journal of Economic Perspectives. 1994. pp. 165

Tirole, J. The Theory of Corporate Finance. Princeton University Press. 2005

Yang, L. What Has Motivated Diversification: Evidence from Corporate Governance? 2005.

Uner Kirdar and Leonard Silk. People: From Impoverishment to Empowerment. Oxford University Press. 1995.

Business Analysis of iWatch

iWATCH Market Structure The Apple iWatch is centered in the smartwatch market. The market structure in which the product lies is oligopoly. Oligopoly refers to a market structure that is dominated by a few sellers. This is because the smartwatches are products which are produced by a few large companies, and every contribution of every company is considered substantial enough to be significant in the market. In addition, the companies in the market are cautiously aware of how rival companies react to change and particularly in association to price. This particular market structure is distinctive in the sense that the company's pricing as well as output decisions will also integrate the perceived or anticipated reactions of the competitors. For instance, in this case, the pricing and output decisions of iWatch will consider the anticipated reactions of other company products such as the Sony Smartwatch (Salvatore, 2015). Elasticity of the product (iWatch) The elasticity of….

Apple Website. (2015). Watch. Retrieved 12 June 2015 from:  http://store.apple.com/us/watch 

Bureau of Economic Analysis. (2015). Gross Domestic Product (GDP) Graph. United States Department of Commerce. Retrieved 26 June from:  http://www.bea.gov/newsreleases/national/gdp/gdp_glance.htm 

Fedgazette. (2009). How have current credit conditions affected your business, community or industry? Federal Reserve Bank of Minneapolis. Retrieved 26 June from:  https://www.minneapolisfed.org/publications/fedgazette/how-have-current-credit-conditions-affected-your-business-community-or-industry 

Mudida, R. (2003). Modern Economics. Nairobi: Focus Books Publishers.

Business Economics the Limitations of the National

Business Economics The Limitations of the National Income Accounts in How They Represent Our Standard of Living The national income accounts have been the center piece in all matters concerning economics across the globe. These rules are a primary source of reference in determining the economic status of a given nation. It is the most preferred indicator of the rate of improvement and making comparison across nations. However, it is not the perfect indicator for the economic state due to its limitations that give a false image of the highlighted economy (McEachern, 448). To start with, the national income accounts do not include other financial details such as the non-market productions in a given country. These include activities such as preparations in various productions. For instance, in preparing food in a restaurant, one does not include the energy used by the person preparing the food before taking it for sale. hen such….

Works Cited

Gwartney, James D., Stroup, Richard L., Sobel, Russell S., & Macpherson, David A. Economics: Private and Public Choice. New York: Cengage Learning, 2008

McEachern, William A. Economics: A Contemporary Introduction. New York: Cengage Learning, 2011.

Tucker, Irvin B. Macroeconomics for Today. New York: Cengage Learning, 2010.

Business Cycle The idea of the business cycle goes back at least to Marx' description of capitalisms booms and busts in Das Kapital, and has been described in more detail…

Thus, recession can be defined as a cure to the ill-policies of government and central bank that caused boom in certain sectors such as housing market. Because of that…

Business Cycles: Phases, Indicators, Measures, Economic Evolution, Outlooks is currently recovering from its worst recession in over 25 years. Most economists consider the rapid rise in housing prices (the bubble)…

Research Paper

Business Cycle Analysis Overview- rom the end of World War II to the early 1970s, China was relatively isolated from the global landscape. It was a part of the Soviet…

Business - Management

However, it is also necessary that everyone have a clear idea and common vision of why the party is being planned, and what is being celebrated. At the…

Business Cycles The Keynesian approach to recessionary gaps is to increase government spending and lower taxes -- run a deficit -- in order to spur aggregate demand. In the Keynesian…

Business cycle theories have been the topic of discussion for many years. There are several business cycle theories that are reliable and trustworthy, while others are controversial and easily…

GDP and the Business Cycle; Government Financial Bodies, How Fiscal Policies Impact Production and Employment This memo will address three issues commonly discussed when talking about the economy. First, it…

UK Business Cycle and Current Economy According to the basic tenets of the business cycle theory or model of economic trends, periods of high growth in GDP and rising prices…

Economics GDP and the Business Cycle Gross domestic product (GDP) is the economic measure which quantifies the production within a country's economy in a single period of time. The measure, which…

Book Report

Business - Information Systems

The business cycle, or the seemingly inexorable ups and downs of the economy, is inevitable—there will be both recessions and periods of growth. But predicting when these highs and…

Business Strategy Business and Corporate business strategy analysis of kraft foods Analysis of Business Level Strategy Kraft Foods Inc. is the second largest food company in the world and makes annual revenues in…

In contrast with the mutual funds, 'Mutual funds trade hundreds of stocks in many unrelated industries, with very little of the total portfolio in any single stock. By…

Business Proposal

iWATCH Market Structure The Apple iWatch is centered in the smartwatch market. The market structure in which the product lies is oligopoly. Oligopoly refers to a market structure that is dominated…

Business Economics The Limitations of the National Income Accounts in How They Represent Our Standard of Living The national income accounts have been the center piece in all matters concerning…

Business Cycle: Definition, Characteristics and Phases (With Diagram)

1. Definition of Business Cycle:

A capitalistic economy experiences fluctua­tions in the level of economic activity. And fluctuations in economic activity mean fluctuations in macroeconomic variables.

At times, consumption, investment, employment, output, etc., rise and at other times these macroeconomic variables fall.

Such fluctua­tions in macroeconomic variables are known as business cycles. A capitalistic economy exhibits alternating periods of prosperity or boom and depression. Such movements are similar to wave-like movements or see saw movements. Thus, the cyclical fluctuations are rather regular and steady but not random.

Since GNP is the comprehensive measure of the overall economic activity, we refer to business cycles as the short term cyclical movements in GNP. In the words of Keynes : “A trade cycle is composed of periods of good trade characterised by rising prices and low unemployment percentages, alternating with periods of bad trade characterised by falling prices and high unemployment percentages.”

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In brief, a business cycle is the periodic but irregular up-and-down movements in economic activity. Since their timing changes rather unpredictably, business cycles are not regular or repeating cycles like the phases of the moon.

2. Characteristics of Business Cycles:

Following are the main features of trade cycles:

(i) Industrialised capitalistic economies witness cyclical movements in economic activities. A socialist economy is free from such disturbances.

(ii) It exhibits a wave-like movement having a regularity and recognised patterns. That is to say, it is repetitive in character.

(iii) Almost all sectors of the economy are affected by the cyclical movements. Most of the sectors move together in the same direction. During prosperity, most of the sectors or industries experience an increase in output and during recession they experience a fall in output.

(iv) Not all the industries are affected uniformly. Some are hit badly during depression while others are not affected seriously.

Investment goods industries fluctuate more than the consumer goods industries. Further, industries producing consumer durable goods generally experience greater fluctuations than sectors producing non­durable goods. Further, fluctuations in the service sector are insignificant in comparison with both capital goods and consumer goods industries.

(v) One also observes the tendency for consumer goods output to lead investment goods output in the cycle. During recovery, increase in output of consumer goods usually precedes that of investment goods. Thus, the recovery of consumer goods industries from recessionary tendencies is quicker than that of investment goods industries.

(vi) Just as outputs move together in the same direction, so do the prices of various goods and services, though prices lag behind output. Fluctuations in the prices of agricultural products are more marked than those of prices of manufactured articles.

(vii) Profits tend to be highly variable and pro-cyclical. Usually, profits decline in recession and rise in boom. On the other hand, wages are more or less sticky though they tend to rise during boom.

(viii) Trade cycles are ‘international’ in character in the sense that fluctuations in one country get transmitted to other countries. This is because, in this age of globalisation, dependence of one country on other countries is great.

(ix) Periodicity of a trade cycle is not uniform, though fluctuations are something in the range of five to ten years from peak to peak. Every cycle exhibits similarities in its nature and direction though no two cycles are exactly the same. In the words of Samuelson: “No two business cycles are quite the same. Yet they have much in common. Though not identical twins, they are recognisable as belonging to the same family.”

(x) Every cycle has four distinct phases: (a) depression, (b) revival, (c) prosperity or boom, and (d) recession.

3. Phases of a Business Cycle:

A typical business cycle has two phases ex­pansion phase or upswing or peak and con­traction phase or downswing or trough. The upswing or expansion phase exhibits a more rapid growth of GNP than the long run trend growth rate. At some point, GNP reaches its upper turning point and the downswing of the cycle begins. In the contraction phase, GNP declines.

At some time, GNP reaches its lower turning point and expansion begins. Starting from a lower turning point, a cycle experiences the phase of recovery and after some time it reaches the upper turning point the peak. But, continuous prosperity can never occur and the process of downhill starts. In this con­traction phase, a cycle exhibits first a reces­sion and then finally reaches the bottom—the depression.

Thus, a trade cycle has four phases:

(i) depression,

(ii) revival,

(iii) boom, and

(iv) recession.

These phases of a trade cy­cle are illustrated in Fig. 2.7. In this figure, the secular growth path or trend growth rate of GNP has been labelled as EG. Now we briefly describe the essential characteristics of these phases of an idealised cycle.

1. Depression or Trough:

The depression or trough is the bottom of a cycle where eco­nomic activity remains at a highly low level. Income, employment, output, price level, etc. go down. A depression is generally character­ised by high unemployment of labour and capital and a low level of consumer demand in relation to the economy’s capacity to pro­duce. This deficiency in demand forces firms to cut back production and lay-off workers.

Thus, there develops a substantial amount of unused productive capacity in the economy. Even by lowering down the interest rates, fi­nancial institutions do not find enough bor­rowers. Profits may even become negative. Firms become hesitant in making fresh invest­ments. Thus, an air of pessimism engulfs the entire economy and the economy lands into the phase of depression. However, the seeds of recovery of the economy lie dormant in this phase.

2. Recovery:

Since trough is not a permanent phenomenon, a capitalistic economy experiences expansion and, therefore, the process of recovery starts.

During depression some machines wear out completely and ultimately become useless. For their survival, businessmen replace old and worn-out machinery. Thus, spending spree starts, of course, hesitantly. This gives an optimistic signal to the economy. Industries begin to rise and expectations tend to become more favourable. Pessimism that once prevailed in the economy now makes room for optimism. Investment becomes no longer risky. Additional and fresh investment leads to a rise in production.

Increased production leads to an increase in demand for inputs. Employment of more labour and capital causes GNP to rise. Further, low interest rates charged by banks in the early years of recovery phase act as an incentive to producers to borrow money. Thus, investment rises. Now plants get utilised in a better way. General price level starts rising. The recovery phase, however, gets gradually cumulative and income, employment, profit, price, etc., start increasing.

3. Prosperity:

Once the forces of revival get strengthened the level of economic activity tends to reach the highest point—the peak. A peak is the top .of a cycle. The peak is characterised by an allround optimism in the economy—income, employment, output, and price level tend to rise. Meanwhile, a rise in aggregate demand and cost leads to a rise in both investment and price level. But once the economy reaches the level of full employment, additional investment will not cause GNP to rise.

On the other hand, demand, price level, and cost of production will rise. During prosperity, existing capacity of plants is overutilised. Labour and raw material shortages develop. Scarcity of resources leads to rising cost. Aggregate demand now outstrips aggregate supply. Businessmen now come to learn that they have overstepped the limit. High optimism now gives birth to pessimism. This ultimately slows down the economic expansion and paves the way for contraction.

4. Recession:

Like depression, prosperity or pea, can never be long-lasting. Actually speaking, the bubble of prosperity gradually dies down. A recession begins when the economy reaches a peak of activity and ends when the economy reaches its trough or depression. Between trough and peak, the economy grows or expands. A recession is a significant decline in economic activity spread across the economy lasting more then a few months, normally visible in production, employment, real income and other indications.

During this phase, the demand of firms and households for goods and services start to fall. No new industries are set up. Sometimes, existing industries are wound up. Unsold goods pile up because of low household demand. Profits of business firms dwindle. Output and employment levels are reduced. Eventually, this contracting economy hits the slump again. A recession that is deep and long-lasting is called a depression and, thus, the whole process restarts.

The four-phased trade cycle has the following attributes:

(i) Depression lasts longer than prosperity,

(ii) The process of revival starts gradually,

(iii) Prosperity phase is characterised by extreme activity in the business world,

(iv) The phase of prosperity comes to an end abruptly.

The period of a cycle, i.e., the length of time required for the completion of one complete cycle, is measured from peak to peak (P to P’) and from trough to trough (from D to D’). The shortest of the cycle is called ‘seasonal cycle’.

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• 5 Phases of a Business Cycle (With Diagram)
• Business Cycles: Definition and Concept
• Business or Trade Cycles in an Economy: Meaning, Definition and Types
• Real GNP and Business Cycle (With Diagram)

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Business cycles essay.

Economists and historians have described a number of different cycles in economic history, patterns that we can see repeated over and over again, from the three-to-five-year Kitchin inventory cycle to the millennia-long cycle of civilization described by futurist Alvin Toffler. These cycles describe fluctuations in various activities or trends; while popular books are often sold on the premise that they are predictable both in frequency and in effect, it’s broadly true that the less specific the predictions of such a cycle, the more the data will bear it out.

When we talk about “the business cycle,” for instance, or “a business cycle” as a unit of time in American history, we are generally speaking of the theory put forth by Clement Juglar, a 19th-century French economist who posited a 7–11 year business cycle tied to the credit cycle. The modern notion of the business cycle is not purely Juglar’s—far from it—but builds on his suggestions and incorporates the work of Friedrich Hayek, Gustav Cassel, Arthur Spiethoff, and others. The idea of cyclical booms and busts, depressions and periods of prosperity, was especially compelling in the years following the worldwide Great Depression, to which many modern schools of economic thought can date their origins.

The easiest and most common statistic to track in discussing business cycles is real gross domestic product (GDP)—the total output produced by an economy. Since 1820, after the nation got on its feet following the expenses of the War of 1812, the United States has shown steady and significant growth in its real GDP, an average increase of 3.6 percent per year. That upward trend alone does not tell the story, however; it doesn’t even accurately describe the plot arc. Within that period there have been many short-term fluctuations, contractions of the economy followed by increases.

Those fluctuations, experienced by every capitalist economy and apparently an unavoidable feature thereof, are our business cycles. The two phases of the business cycle are the expansion and the contraction—at any given time, the economy is doing one or the other, though with respect to business cycles we look not at day-to-day trends but longer-term developments. During the expansion, the real GDP increases until it reaches a peak, at which point it declines during the contraction. The contraction reaches a trough, at which point the economy again expands.

Since the Civil War, there have been 29 business cycles in the United States, of varying lengths. The shortest was 17 months (August 1918 to January 1920) with a 10-month expansion, and the longest was a bit over 10 years (July 1990 to March 2001), with an expansion of exactly a decade. The variability of the cycles’ duration undermines the appeal of those popular futurism books that claim to be able to tell us what the economy will be like in 2020 or 2030, and at first glance may seem to leave us with nothing but “the economy will get worse, and then better, and then worse, and then better again.” However, even that simple fact is interesting—while it may seem obvious that every contraction or expansion must stop eventually, the cyclical nature still sheds light on American economic history, and provides an opportunity to investigate the inciting causes of the phases’ cycles.

Business cycles are characteristic of all capitalist economies, a fact that was highlighted after the Great Depression, when all the major capitalist economies of the world experienced contraction and all saw their real GDPs begin to rise again by the end of the decade. A casual read of a history text sometimes misses this fact, as well as the existence of the cycles themselves, because histories will generally use the language of the time—and the phrases that economists and the public have favored for expansions and especially contractions have shifted over time.

Contractions were originally called panics, as in the banking panics of the 19th century, but because that word implied a root cause in the hysterical actions (and overreactions) of the public, it was replaced by crisis, from which no such things can be inferred. Even crisis, though, implies a drastic situation instead of an ordinary part of the economic cycle—and the word sounds overblown for less severe contractions. The familiar depression took hold, eventually supplanted by the carefully neutral recession, which is the term most commonly used now—ever since the Great Depression, there has been a sense, especially among the public, politicians, and media, that the term depression should be reserved for contractionary phases that are long lasting with a deep impact on the American lifestyle. And there are, of course, always euphemistic phrases to be found, like growth correction (which even usually clear-headed economist John Kenneth Galbraith used) and rolling readjustment. However transparently those terms may be designed to ease the public mind, they are not actually wrong—they do emphasize the cyclical nature of contractions and expansions.

The terms for expansions do not vary nearly as much, because they are not as headline-grabbing, aren’t talked about as much. Usually boom or recovery will suffice, depending on how rapid the expansion is, and how bad the trough of the preceding contraction was. Compatible with the euphemistic tendencies in referring to contractions, though, expansions are often treated as a success, something to be proud of—quite often, expansions are spoken of as something that was accomplished, while contractions were something that happened or were suffered through.

The Great Depression And Beyond

It is not always obvious how to determine the endpoints of a business cycle. The National Bureau of Economic Research defines a recession, for instance, as a period of significant decline in total output, income, employment, and trade, “usually lasting from six months to a year”—but even that definition leaves wiggle room. The most well-known business cycle in American history lasted from August 1929 to May 1937—the Great Depression, minus its last two years (when the economy was expanding, but was still far from recovery). The unemployment rate averaged 18.4 percent and rose as high as 25 percent, while real GDP fell 27 percent and took seven years to recover to its pre-Depression level. Many saw it as the death throes of capitalism, long awaited, long feared. In contrast, more than 50 years after the end of the Depression, the United States experienced its longest expansion, from March 1991 to March 2001, a period of post–Cold War, pre-9/11 stability that was also the nation’s longest business cycle.

Since the Depression—when, whether coincidentally or not, presidential administrations began consulting more closely with economists, and the field of economics itself saw a boom—business cycles have been less severe. In the 10 cycles since the end of World War II, contractions have lasted an average of 10 months, while expansions have averaged 57 months—a figure helped, no doubt, by the steady growth of the Clinton years and the general prosperity of the early Cold War. Even in the most severe recession of that period, July 1981 to November 1982, output fell barely 3 percent (versus 27 percent in the Great Depression) and unemployment reached 11 percent (25 percent in the Great Depression). Before World War II, expansions were about half as long, contractions about twice as long.

Inflation has also been a constant since the Depression. In all but three of the years since—and every year since 1954—prices have increased, regardless of the phase of the business cycle. During expansions, prices rise faster—labor costs increase during expansions, which leads to accelerated price hikes; shortly after the expansion peaks, labor prices tend to fall, putting less pressure on rising prices. The rate of inflation, then, tends to follow a cycle that closely shadows the business cycle, while inflation itself more or less persists as a constant.

Much of the work of economists since the Depression has been the study of recessions and how they might be prevented or minimized. John Maynard Keynes, the foremost economist in the Depression’s aftermath, blamed declines in aggregate demand—declines in the number of goods and services sought—for recessions, because such declines lead to businesses reducing production and possibly jobs. His recommendation, issued while the Depression still raged, was for the government to intervene to increase demand, either by reducing taxes (leaving more money in consumers’ pockets) or increasing government spending to “pump money into the economy,” a prescription that has long since become familiar. This sort of manipulation is called countercyclical fiscal policy, because it is designed not only with business cycles in mind but with the explicit aim of changing them. (For his part, Juglar blamed overinvestment, overextension, and rampant speculation for recessions, essentially arguing that they were as bad as they were because the expansions that preceded them were “false” expansions, booms inflated by irresponsible and unsustainable financial behavior. Juglar was writing well before the Great Depression, but nothing about it contradicts him in the broad points.)

World War II seems to have borne out Keynes’s theories. The prolonged, high-tech, expensive war, fought with massive amounts of manpower and technology, with extraordinary and unheard-of efforts put into research for the war effort, rejuvenated the American economy—and accustomed many women to the workplace, which helped in the coming years by (in essence) providing more available workers. The existence of the war makes it difficult to say what would have happened to the economy without that massive spending and the historically low levels of unemployment caused by the one-two punch of military enlistment and increased domestic labor demand. Some economists believe the Depression would have ended around the same time without those effects. It is a bit like dropping a brick on a spider and then debating whether it would be just as dead had you only dropped a shoe; it’s not that the question is without merit, it’s that circumstance has placed a definitive answer out of reach.

Bibliography:

• Samuel Bowles and Richard Edwards, Understanding Capitalism (Harper & Row, 1985);
• Bureau of Economic Analysis, Survey of Current Business (v.82/8);
• John Kenneth Galbraith, Money: Whence It Came, Where It Went (Houghton Mifflin, 1975);
• Angus Maddison, Monitoring the World Economy 1820–1992 (Development Centre of the Organisation for Economic Co-operation and Development, 1995);
• S. Bureau of the Census, Historical Statistics of the United States, Colonial Times to 1970 (1975).

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What is Business Cycles? Phases, Types, Theory, Nature

• Post last modified: 1 August 2021
• Reading time: 40 mins read
• Post category: Economics

What is the Business Cycle?

Business Cycle , also known as the  economic cycle  or  trade cycle , is the fluctuations in economic activities or rise and fall movement of gross domestic product (GDP) around its long-term growth trend.

No era can stay forever. The economy too does not enjoy same periods all the time. Due to its dynamic nature, it moves through various phases.

Table of Content

• 1 What is the Business Cycle?
• 2 Business Cycle Definition
• 3.1 Expansion
• 3.3 Contraction
• 4.1 Cyclical nature
• 4.2 General nature
• 5 Types of Business Cycle
• 6.1 Hawtrey Monetary Theory
• 6.2 Innovation Theory
• 6.3 Keynesian Theory
• 6.4 Hicks Theory
• 6.5 Samuelson theory
• 7 Business Economics Tutorial

The change in business activities due to fluctuations in economic activities over a period of time is known as a business cycle . Business cycle are also called trade cycle or economic cycle. Business Cycle  can also help you make better financial decisions. 

The economic activities of a country include total output, income level, prices of products and services, employment, and rate of consumption. All these activities are interrelated; if one activity changes, the rest of them also change.

Also Read: What is Economics?

Business Cycle Definition

Arthur F. Burns and Wesley C. Mitchel defined business cycle definition as

Business cycle 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 occurring at about the same time in many economic activities, followed by similarly general recessions, contractions, and revivals which merge into the expansion phase of the next cycle; in duration, business cycle vary from more than one year to ten or twelve years; they are not divisible into shorter cycle of similar characteristics with amplitudes approximating their own. Arthur F. Burns & Wesley C. Mitchel

Also Read: What is Demand in Economics

Phases of Business Cycle

4 Phases of Business Cycle are:

Contraction

Let us discuss 4 phases of business cycle in detail:

Expansion is the first phase of a business cycle . It is often referred to as the growth phase .

In the expansion phase, there is an increase in various economic factors, such as production, employment, output, wages, profits, demand and supply of products, and sales. During this phase, the focus of organisations remains on increasing the demand for their products/services in the market.

The expansion phase is characterised by:

• Increase in demand
• Growth in income
• Rise in competition
• Rise in advertising
• Creation of new policies
• Development of brand loyalty

In this phase, debtors are generally in a good financial condition to repay their debts; therefore, creditors lend money at higher interest rates. This leads to an increase in the flow of money.

In the expansion phase, due to increase in investment opportunities, idle funds of organisations or individuals are utilised for various investment purposes. The expansion phase continues till economic conditions are favourable.

Peak is the next phase after expansion. In this phase, a business reaches at the highest level and the profits are stable. Moreover, organisations make plans for further expansion.

Peak phase is marked by the following features:

• High demand and supply
• High revenue and market share
• Reduced advertising
• Strong brand image

In the peak phase, the economic factors, such as production, profit, sales, and employment, are higher but do not increase further.

An organisation after being at the peak for a period of time begins to decline and enters the phase of contraction. This phase is also known as a recession .

An organisation can be in this phase due to various reasons, such as a change in government policies, rise in the level of competition, unfavourable economic conditions, and labour problems. Due to these problems, the organisation begins to experience a loss of market share.

The important features of the contraction phase are:

• Reduced demand
• Loss in sales and revenue
• Reduced market share
• Increased competition

In Trough phase, an organisation suffers heavy losses and falls at the lowest point. At this stage, both profits and demand reduce. The organisation also loses its competitive position.

The main features of this phase are:

• Lowest income
• Loss of customers
• Adoption of measures for cost-cutting and reduction
• Heavy fall in market share

In this phase, the growth rate of an economy becomes negative. In addition, in trough phase, there is a rapid decline in national income and expenditure.

After studying the business cycle , it is important to study the nature of business cycle .

Read: Difference Between Micro and Macro Economics

Nature of Business Cycle

The nature of business cycle helps the organisation to be prepared for facing uncertainties of the business environment.

Cyclical nature

General nature.

Let us discuss the nature of business cycle in detail.

This is the periodic nature of a business cycle. Periodicity signifies the occurrence of business cycle at regular intervals of time. However, periods of intervals are different for different business cycle . There is a general consensus that a normal business cycle can take 7 to 10 years to complete.

The general nature of a business cycle states that any change in an organisation affects all other organisations too in the industry. Thus, general nature regards the business world as a single economic unit.

For example, depression moves from one organisation to the other and spread throughout the industry. The general nature is also known as synchronism.

Read: What is Business Economics?

Types of Business Cycle

Following the writings of Prof .James Arthur and Schumpeter, we can classify business cycle into three types based on the underlying time period of existence of the cycle as follows:

• Short Kitchin Cycle
• Longer Juglar cycle
• Very long Kondratieff Wave

Short Kitchin Cycle (very short or minor period of the cycle, approximately 40 months duration)

Longer Juglar cycle (major cycles, composed of three minor cycles and of the duration of 10 years or so)

Very long Kondratieff Wave (very long waves of cycle, made up of six major cycles and takes more than 60 years to run its course of duration)

Also Read: Scope of Economics

Business Cycle Theory

A business cycle is a complex phenomenon which is common to every economic system. Several theories of business cycle have been propounded from time to time to explain the causes of business cycle.

Business Cycle Theory are:

Hawtrey Monetary Theory

Innovation theory.

• Keynesian theory

Hicks Theory

Samuelson theory.

Hawtray was of opinion that in depression monetary factors play a critical role. The main factor affecting the flow of money and money supply is the credit position by the bank. He made the classical quantity theory of money as the basis of his trade cycle theory .

According to him, both monetary and non-monetary factors also affect trade. His theory is basically the product of the supply of money and expansion of credit. This expansion of credit and other money supply instrument create a cumulative process of expansion which in return increase aggregate demand.

According to this theory the only cause of fluctuations in business is due to instability of bank credit. So it can be concluded that Hawtray’s theory of business cycle is basically depend upon the money supply, bank credits and rate of interests.

Criticism of this Business Cycle theory

• Hawtray neglected the role of non-monetary factors like prosperous agriculture, inventions, rate of profit and stock of capital.
• It only concentrates on the supply of money.
• Increase in interest rates is not only due to economic prosperity but also due to other factors.
• Over-emphasis on the role of wholesalers.
• Too much confidence in monetary policy. vi. Neglect the role of expectations. vii. Incomplete theory of trade cycles.

The innovation theory of business cycle is invented by an American Economist Joseph Schumpeter. According to this theory, the main causes of business cycle are over-innovations.

He takes the meaning of innovation as the introduction and application of such techniques which can help in increasing production by exploiting the existing resources, not by discoveries or inventions. Innovations are always inspired by profits. Whenever innovations are introduced it results into profitability then shared by other producers and result in a decline in profitability.

• Innovation fails to explain the period of boom and depression.
• Innovation may be major factor of investment and economic activities but not the complete process of trade cycle.
• This theory is based on the assumption that every new innovation is financed by the banks and other credit institutions but this cannot be taken as granted because banks finance only short term loans and investments.

Keynesian Theory

The theory suggests that fluctuations in business cycle can be explained by the perceptions on expected rate of profit of the investors. In other words, the downswing in business cycle is caused by the collapse in the marginal efficiency of capital, while revival of the economy is attributed to the optimistic perceptions on the expected rate of profit.

Moreover, Keynesian multiplier theory establishes linkages between change in investment and change in income and employment. However, the theory fails to explain the cumulative character both in the upswing and downswing phases of business cycle and cyclical fluctuations in economic activity with the passage of time.

Hicks extended the earlier multiplier-accelerator interaction theory by considering real world situation. In reality, income and output do not tend to explode; rather they are located at a range specified by the upper ceiling and lower floor determined by the autonomous investment.

In the theory, it is assumed that autonomous investment tends to grow at a constant percentage rate over the long run, the acceleration co-efficient and multiplier co-efficient remain constant throughout the different phases of the trade cycle, saving and investment co-efficient are such that upward movements take away from equilibrium.

The actual output fails to adjust with the equilibrium growth path overtime. In fact it has a tendency to run above it and then below it, and thereby, constitute cyclical fluctuations overtime. This basic intuition can be shown with the help of the following figure.

• Wrong assumption of constant multiplier and acceleration co-efficient.
• Highly mechanical and mathematical device.
• Wrong assumption of no-excess capacity.
• Full-employment ceiling is not independent

According to this theory process of multiplier starts working when autonomous investment takes place in the economy. With the autonomous investment income of the people rises and there is increase in the demand of consumer goods. It directly affected the marginal propensity to consume.

If there is no excess production capacity in the existing industry then existing stock of capital would not be adequate to produce consumer goods to meet the rising demand. Now in order to meet the consumer’s requirements, producers will make new investment which is derived investment and the process of acceleration principle comes into operation.

Then there is rise in income again which in the same manner continue the process of income propagation. So in this way multiplier and acceleration interact and make the income grow at faster rate than expected. After reaching its peak, income comes down to bottom and again start rising.

Autonomous investment is incurred by the government with the objective of social welfare. It is also called public investment. The autonomous investment is the investment which is done for the sake of new inventions in techniques of production.

Derived investment is the investment undertaken in capital equipment which is induced by increase in consumption.

• This model only concentrates on the impact of the multiplier and acceleration and it ignored the role of producer’s expectations, changing business requirements and consumers preferences etc.
• It is not practically possible to compute the fact of multiplier and acceleration principle.
• It has wrong assumption of constant capital output ratio.

Also Read: What is Law of Supply?

• D N Dwivedi, Managerial Economics , 8th ed, Vikas Publishing House
• Petersen, Lewis & Jain, Managerial Economics , 4e, Pearson Education India
• Brigham, & Pappas, (1972). Managerial economics , 13ed. Hinsdale, Ill.: Dryden Press.
• Dean, J. (1951). Managerial economics (1st ed.). New York: Prentice-Hall.

Business Economics Tutorial

( Click on Topic to Read )

• What is Economics?
• Scope of Economics
• Nature of Economics
• What is Business Economics?
• Micro vs Macro Economics
• Laws of Economics
• Economic Statics and Dynamics
• Gross National Product (GNP)
• What is Business Cycle?
• W hat is Inflation?
• What is Demand?
• Types of Demand
• Determinants of Demand 
• Law of Demand
• What is Demand Schedule?
• What is Demand Curve?
• What is Demand Function?
• Demand Curve Shifts
• What is Supply?
• Determinants of Supply
• Law of Supply
• What is Supply Schedule?
• What is Supply Curve?

Supply Curve Shifts

• What is Market Equilibrium?

Consumer Demand Analysis

• Consumer Demand
• Utility in Economics
• Law of Diminishing Marginal Utility
• Cardinal and Ordinal Utility
• Indifference Curve
• Marginal Rate of Substitution
• Budget Line
• Consumer Equilibrium
• Revealed Preference Theory

Elasticity of Demand & Supply

• Elasticity of Demand
• Price Elasticity of Demand
• Types of Price Elasticity of Demand

Factors Affecting Price Elasticity of Demand

• Importance of Price Elasticity of Demand
• Income Elasticity of Demand
• Cross Elasticity of Demand
• Advertisement Elasticity of Demand
• Elasticity of Supply

Cost & Production Analysis

• Production in Economics
• Production Possibility Curve
• Production Function
• Types of Production Functions
• Production in the Short Run
• Law of Diminishing Returns
• Isoquant Curve
• Producer Equilibrium
• Returns to Scale

Cost and Revenue Analysis

• Types of Cost
• Short Run Cost
• Long Run Cost

Economies and Diseconomies of Scale

• What is Revenue?

Market Structure

• Types of Market Structures
• Profit Maximization
• What is Market Power?
• Demand Forecasting
• Methods of Demand Forecasting
• Criteria for Good Demand Forecasting

Market Failure

• What Market Failure?

Price Ceiling and Price Floor

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Appreciating F. A. Hayek’s Insights on Money and the Business Cycle

• Daily Economy
• Monetary Policy
• Economic History
• Economic Education

Over the last few months, fears over rising price inflation have, again, become the focus of political policy makers and media pundits. While generally rising prices have a variety of deleterious effects, attention is often not given to how inflationary processes work, their negative effects beneath the surface of measured movements in the “price level.” Ninety years ago, the importance of these aspects of an inflationary process were emphasized by Austrian economist, Friedrich A. Hayek (1899-1992).

Nine decades ago, in January of 1931, Hayek, then a little known 31-year-old economist, arrived in London, England from Vienna, Austria to deliver a series of lectures at the London School of Economics (LSE). The lectures were a surprising success, especially since Hayek’s thick Viennese accent made it difficult for some who attended to easily follow his arguments, according to those who were in the audience. 

In Austria, Hayek had been serving since 1927 as the first director of the Austrian Institute for Business Cycle Research, an organization founded with the support and assistance of his mentor, the well-known Austrian economist, Ludwig von Mises. In short order, Hayek had built up the reputation of the Institute, partly through collaboration with the economic research branch of the League of Nations in Geneva, Switzerland, and significantly due to the quality of the economic analysis Hayek offered in the Institute’s monthly bulletins interpreting economic and financial trends in Austria and Central Europe in general. 

But within a few months of delivering those lectures at the LSE in early 1931, Hayek’s life was to radically change. Later that spring he was offered a visiting position at the LSE for the 1931-1932 school term, a position that shortly afterwards became a permanent professorship, with Hayek remaining at the London School until the late 1940s.

Hayek Became a Leading Critic of Keynes’s Economics

Not long after his arrival in London in the autumn of 1931 to take up his teaching duties at the LSE, his January lectures were published under the title, Prices and Production . With the publication of this relatively slender volume (only 112 pages), Hayek was catapulted into international stature with the presentation in English of his version of the “Austrian” theory of the business cycle, and through this he was soon considered one of the leading rivals of Cambridge economist, John Maynard Keynes, for explaining the causes, consequences, and cures for the Great Depression through which the world was suffering. 

In late 1931 and early 1932, Hayek published a lengthy and detailed two-part review essay of Keynes’s recently published, A Treatise on Money (1930) in the pages of Economica . Keynes had hoped that with this book he would be established as a leading monetary theorist. Instead, many of the most notable economists of the time criticized various aspects of his theories. But the coup de grace that buried Keynes’s two-volume work, was Hayek’s devastating review. 

It forced Keynes to lick his wounds and rethink much of what he wrote, only reappearing in 1936 with his famous and most influential work, The General Theory of Employment, Interest and Money . But criticisms that Hayek made of A Treatise on Money , were just, if even not more, relevant against The General Theory : 

“Mr. Keynes’s aggregates conceal the most fundamental mechanisms of [economic] change . . . Mr. Keynes’s assertion that there is no automatic mechanism in the economic system to keep the rate of saving and the rate of investing equal might with equal justification be extended to the more general contention that there is no automatic mechanism in the economic system to adapt production to any shift in demand. I begin to wonder whether Mr. Keynes has ever reflected upon the function of the rate of interest in . . . society.” 

Hayek on the Fallacies of Price Level Stabilization

Hayek had started making a name for himself in the German-speaking world of economists with a book that was published in 1929, Monetary Theory and the Trade Cycle (an English translation of which appeared in 1933). In the 1920s, the U.S. Federal Reserve had set as one of its policy targets the “stabilization” of the general price level; that is, neither price inflation nor price deflation, under the presumption that such a policy goal would help prevent the booms and busts of the business cycle.

Hayek argued that the policy of price-level stabilization was creating imbalances in the market by preventing a fall in prices in the face of cost efficiencies and greater supplies of goods offered in the market. He said that if a proper balance between supplies and demands was to be maintained through time, then the price of each good had to reflect the actual supply and demand conditions in existence in the various markets during each time period. Any attempt to “stabilize” the price of a good or a set of goods at some given “level” across time, in spite of differing market conditions that might arise as time passed, would set in motion market responses that would be “destabilizing.” 

Instead of allowing a downward trend in prices to naturally occur, the Federal Reserve increased the supply of money in the American economy to counteract the normal process of benign price deflation in the face of lower production costs and greater output. In aggregate terms, the amount of money demand for goods and services was increased just enough to match the increase in the quantity of those goods and services offered on the market to maintain the general statistical average of prices at a fairly “stable” level throughout most of the 1920s, as measured by the wholesale price index. 

In an economy experiencing increases in productivity and capital formation, Hayek reasoned, the resulting cost efficiencies and increased productive capacities in various industries would tend over time to put downward pressure on prices because of the increased supplies of goods offered to consumers on the market. The price of each of these goods would decrease to the extent required to ensure that the market in which each good was sold was kept in balance. 

Over time, the average level of prices as measured by some statistical price index would record that there had occurred a “deflation” of prices. But such a price deflation was not only not harmful in its effects, but was essential if the market-determined structure of relative prices was to keep the supply and demand for each individual good in balance with each other through time. 

But in Hayek’s view, it was this attempt at price level stabilization by the Federal Reserve, and the “beneath the surface” imbalances being created among and between sectors of the American economy that finally led to a “break,” in the form of the economic downturn of 1929-1930, which snowballed into the severity of the Great Depression.

Time and the Periods and Stages of Production

In Prices and Production , Hayek explained in more detail the logic of this argument. In doing so, he built upon the earlier writings of Ludwig von Mises’s The Theory of Money and Credit (1912; 2 nd ed. 1924) and Monetary Stabilization and Cyclical Policy (1928), who, in turn, had synthesized ideas developed by the Austrian economist, Eugen von Böhm-Bawerk and the Swedish economist, Knut Wicksell.  

Time is an element inseparable from the human condition. Everything we do involves time. Every one of our actions requires us to think about time and to act through time. Whether it is boiling an egg or traveling by train or car to another city or country, we are confronted with the necessity of waiting for the desired result to be forthcoming. We apply various means at our disposal that seem most appropriate to the tasks at hand and we try to bring about the desired ends we have in mind. 

But the cause (the application of the means) always precedes the effect (the resulting end or goal); and between the initiating of that cause and its resulting effect, there is always a period of time, whether that time period is merely a few minutes or many years. Each of our plans, therefore, contains within it a period of production . 

Rarely, however, can our production plans be completed in one step. Usually the resources at our disposal must go through various transformations in a number of stages of production before the consumer goods that we want are ready for use in their desired, finished form. A tree must be chopped down in the forest. The wood must be transported to and cut in the lumber mill. The cut wood must be taken to the pulp factory and manufactured into paper. The paper must be boxed and shipped to the printing shop. The paper must be cut to size and the print must be applied to the separate pages to produce a book that gets into our hands after purchasing it at a bookstore or ordering it online. What is expressed in this simple example has its analog in every line of production for the manufacturing of every conceivable good. 

Saving, Investment, and the Rate of Interest

To undertake these processes of production, however, requires a certain amount of savings. Resources and raw materials that might otherwise have been used to satisfy some of our wants in the more immediate present must be freed for more time-consuming production activities. First, some of these resources must be available for transformation into capital goods – tools, machinery, and equipment – with which workers who are not employed in the more direct manufacture of consumer goods can combine their efforts in more time-consuming or “round-about” production processes. 

Second, resources and consumer goods must be available for use by those employed in the production processes. The more savings there are, the more numerous the processes of production that can be undertaken in society – and the longer they can be. And as a result, the greater will be the quantities and the qualities of the goods that will be available for our consumption uses in the future. Why? Because other things being equal, the more time-consuming or “round-about” the production process, the more productive (usually) are the resulting methods of production. 

However, the longer the periods of production we utilize, the longer we have to wait for the desired goods we wish to use or consume. People, therefore, have to evaluate the sacrifice, in terms of waiting, they are willing to make to get a potentially greater and more desired effect that can only be attained by producing for a time further into the future. 

The sacrifices of time people are willing to make often differ among individuals. And these differing evaluations of time open up opportunities for potential gains from trade. Those who are willing to defer consumption and the uses of resources in the present may find individuals who desire access to a larger quantity of resources and goods than their own income and wealth provides them with in the present. And this second group of people may be willing to pay a price in the future for the use of those resources in the more immediate present. 

An intertemporal price emerges in the market as transactors evaluate and “haggle” over the value of time and the use of resources. The rate of interest is that intertemporal price. The rate of interest reflects the time preferences of the market actors concerning the value of resources and commodities in the present in comparison with their value in the future.

Interest Coordinates Saving, Investment, and the Periods of Production

As the price of time, the rate of interest brings into balance the willingness to save by some with the desire to borrow by others. But the rate of interest not only coordinates the plans of savers and investors. It also acts as a “brake” or “regulator” on the lengths of the periods of production undertaken with the available savings in the society. 

For example, suppose we were to ask, what are the respective present values of a $100 return on an investment either one year, two years, or three years from now, with a market rate of interest of, say, 10 percent? They would be, respectively, $90.91, $82.64, and $75.13. Now, suppose that people in the society had a change in their time preferences such that they now chose to save more, with the resulting greater supply of savings available for lending purposes decreasing the rate of interest to 7 percent. What, again, would be the present values of that $100 return on an investment one, two, and three years from now? The present values would be, respectively, $93.46, $87.34, and $81.63. 

The present value will have increased for all three of these potential investments, with their different time horizons. But the percentage increases in the present values of these three possible investment horizons would not be the same. On the one-year investment project, its present value will have increased by 2.8 percent. On the two-year investment project, its present value will have increased by 5.7 percent. And on the three-year investment, its present value will have increased by 8.6 percent. Clearly, the tendency from a fall in the rate of interest would be an increase in investments with longer periods of production. 

If, instead, time preferences were to move in the opposite direction, with people choosing to save less, with a resulting increase in the rate of interest, longer-term investments would become relatively less attractive. If the rate of interest were to rise from 7 percent to 10 percent, the present values on a $100 return for either one, two, or three years from now would decrease, respectively, by 2.7 percent, 5.4 percent, and 8 percent. This would make investments with shorter periods of production appear relatively more attractive. 

In an economy experiencing increases in real income, decisions by income-earners to save a larger proportion of their income need not require an absolute decrease in consumption. Suppose income-earners’ time preferences were such that they normally saved 25 percent of their income. Out of an income of, say, $1,000, they would be saving $250. If their preference for saving were to rise to, say, 30 percent, with a given income of $1,000, their consumption would have to decrease from $750 to $700 to increase their savings from $250 to $300. 

However, if income-earners were to have an increase in their real income to, suppose, $1,100 and their savings preference were to increase to that 30 percent, then they would now save $330 out of their higher income. But consumption would also rise to $770. This is the reason why savings can increase for new capital formation and investments in even longer periods of production without any absolute sacrifice of consumption in a growing economy. Consumption increases with the higher real income, albeit less than it could have if income-earners had not chosen to save a greater percent of their income.

Price Level Stabilization Distorted Investment Decision-Making

But what happened in the 1920s, leading to the economic downturn of the early 1930s, Hayek argued, was that by trying to maintain that relatively stable price level, the Federal Reserve had to increase the supply of money and credit sufficiently to induce enough investment borrowing and spending into the economy to counteract what would have been that greater goods-induced decline in prices. 

The problem, Hayek explained, was the rate of interest which equilibrates the supply of real savings and the demand for capital would not be a rate of interest which also prevents changes in the price level. Said Hayek: 

“In this case, stability of the price level presupposes change in the supply of money . . . The rate of interest at which, in an expanding economy, the amount of new money entering circulation is just sufficient to keep the price-level stable, is always lower than the rate which would keep the amount of available loan-capital equal to the amount simultaneously saved by the public: and thus, despite the stability of the price level, it makes possible a development away from the equilibrium position.”

Institutionally, increases in the money supply are introduced in the form of increased reserves supplied to the banking system by the Federal Reserve, on the basis of which additional loans may be extended. But the only way banks can induce potential borrowers to take up the increased sums of lendable funds is to lower the rate of interest at which the banks offer to lend them. 

The lower rate of interest decreases the cost of borrowing relative to the expected rate of return from various investment projects. But the rate of interest is not only a measure of the cost of loans; it is also the factor by which the prospective value of an investment is capitalized in terms of its present value. The lower rate of interest also acts, therefore, as a stimulus for the undertaking of longer-term investment projects involving time horizons further into the future than would have been the case at the higher rate of interest that would have prevailed on the loan market if not for the increase in the money supply. 

Thus, in the 1920s, beneath the apparent calm of a stable price level, Federal Reserve policy was creating a structure of relative price and profit relationships that induced a number of longer-term investments that was in excess of actual savings to sustain them in the long run. Why were they unsustainable in the long run? Because, as the new money was spent on new and expanded investment projects, the additional money eventually passed into the hands of factors of production drawn into those employments as higher money incomes. 

As the higher money incomes were then spent in the market, the demands for consumer goods increased as well, acting as a counterpull to attract production and resources back to consumer goods production and investment projects with shorter time horizons. Only with further injections of additional quantities of money into the banking system was the Federal Reserve able to keep market rates of interest below their proper equilibrium levels and thus able to temporarily maintain the profitability of the longer-term investment projects set into motion by the attempt to keep the price level stable.  

Finally, in 1928, under the pressure of this monetary expansion, the price level began to rise. The Federal Reserve, fearful of creating an absolute inflationary rise in prices, reined in the money supply. But with the end to the monetary expansion, interest rates began to rise to their real market-clearing levels. Some of the longer-term investment projects that either had been brought to completion or were still in progress were shown to be unprofitable at the higher rates of interest. The investment “boom” collapsed, with its first major indication being the “break” in the stock market in October 1929. 

In 1932, in an article on, “The Fate of the Gold Standard,” Hayek summarized what he considered to be the lessons of the 1920s: 

“Instead of prices being allowed to fall slowly, to the full extent that would have been possible without inflicting damage on production, such volumes of additional credit were pumped into circulation that the level of prices was roughly stabilized…. Whether such inflation merely serves to keep prices stable, or whether it leads to an increase in prices, makes little difference. Experience has now confirmed what theory was already aware of; that such inflation can also lead to production being misdirected to such an extent that, in the end, a breakdown in the form of a crisis becomes inevitable. This, however, also proves the impossibility of achieving in practice an absolute maintenance of the level of prices in a dynamic economy.” 

Corrective forces in the market were set in motion, once the monetary expansion had come to an end. But the depth and duration of the Great Depression turned out to be far greater and longer than would have normally seemed to be required for economy-wide balance to be restored. The reasons for the Great Depression’s severity were not, however, to be found in any inherent failure of the market economy, but rather in the political ideologies and government policies of the 1930s.

Severity of the Great Depression Due to Government Intervention

Shortly after Hayek had delivered those lectures at the LSE that became Prices and Production , his mentor, Ludwig von Mises, delivered a lecture to a group of German industrialists in February of 1931, on The Causes of the Economic Crisis , in which he summarized the policy dilemma arising from the government interventions that were interfering with the market’s own rebalancing and correcting processes to restore economy-wide coordination and full employment. Said Mises:

“If everything possible is done to prevent the market from fulfilling its function of bringing supply and demand into balance, it should come as no surprise that a serious disproportionality between supply and demand persists, that commodities remain unsold, factories stand idle, many millions are unemployed, destitution and misery are growing and that finally, in the wake of all these, destructive radicalism is rampant in politics . . . With the economic crisis, the breakdown of interventionist policy – the policy being followed today by all governments, irrespective of whether they are responsible to parliaments or rule openly as dictatorships – becomes apparent . . . Hampering the functions of the market and the formation of prices does not create order. Instead it leads to chaos, to economic crisis.” 

Throughout the 1930s, Hayek was one of the most quoted and referenced monetary and business cycle economists of that time in the English-speaking world. Indeed, a survey of economics journals from that decade showed that Hayek was the third most cited economist, after Keynes and Dennis Robertson, a highly regarded monetary theorist who also taught at Cambridge University. 

Hayek’s policy prescriptions for recovering from the Depression were, like Mises’s, for free, competitive markets; less government interference with prices and wages; reduced government taxing and spending; and an end to central bank manipulations of money and interest rates to forestall any new boom and bust.

Hayek’s Intellectual Eclipse Until the Nobel Prize

But these policy proposals led Hayek to go against the tide of the time with its growing calls for government deficit spending, increased regulatory and restrictive intervention, and proposals for more radical socialist planning “answers” to the problems of the Great Depression. By the second half of the 1940s, in the aftermath of the Second World War, Keynes and the Keynesian Revolution had conquered the monetary and fiscal policy debates. As a consequence, Hayek’s analysis of the business cycle was not only rejected by the large majority of professional economists, but his ideas in general went into a near full eclipse for almost a quarter of a century. 

Only following Hayek being awarded the Nobel Prize in 1974 for his work on money and the business cycle and his analysis of the coordinating role of competitive prices in a world of decentralized knowledge, did his important place on matters of economic theory and policy, and the political economy of a free society, once again receive the recognition he rightly deserved.

We are presently witnessing a vigorous revival of many of the same social engineering and central planning ideas that Hayek confronted in the 1930s and 1940s. The statist interpretations of the financial crisis of 2008-2009, the paternalist legacy of last year’s government lockdowns and shutdowns in the face of the coronavirus, and the fanaticism of the global warming gloom and doomers, as well as the tribal identity politics warriors, are all threatening a dangerous turn into an even more collectivist direction than we have already been traveling down. 

Central banks have been hellbent on tidal waves of monetary expansion. Market-interest rates have been manipulated down to zero through Federal Reserve policy. Governments have embarked on fiscal madness with tens of trillions of dollars of accumulated debt, and still rising. And the political paternalists are pushing to straightjacket the economy within forms of fascist-like central planning in the name of “saving the planet.”

At some point, a new recession or even depression will emerge, and the hand wringing of the “politically correct” will all point at new accusations of another “failure of capitalism.” It is essential that they be responded to with sound, reasonable, and persuasive ideas that the culprits for any economic disaster are to be found in the halls of government and not in the marketplace of free enterprise. 

Hayek’s monetary and business cycle writings from 90 years ago, and his many contributions to the general understanding of the dynamic market process and the limits to government omniscience, are and will be crucial to that task of fighting for the free and prosperous society.  

Richard M. Ebeling

Richard M. Ebeling, an AIER Senior Fellow, is the BB&T Distinguished Professor of Ethics and Free Enterprise Leadership at The Citadel, in Charleston, South Carolina.

Ebeling lived on AIER’s campus from 2008 to 2009.

Books by Richard M. Ebeling

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2014 Theses Doctoral

Essays on Business Cycles

Nguyen, Thuy Lan

The topic of my dissertation is to understand the sources of business cycles. In particular, using structural estimation, I quantitatively investigate different types of shocks that propagate within a country (Chapter One) and that cause business cycle comovement across countries (Chapter Two and Three). In the first chapter, Wataru Miyamoto and I propose the use of data on expectations to identify the role of news shocks in business cycles. News shocks are defined as information about future fundamentals that agents learn in advance. Our approach exploits the fact that news shocks cause agents to adjust their expectations about the future even when current fundamentals are not affected. Using data on expectations, we estimate a dynamic, stochastic, general equilibrium model that incorporates news shocks for the U.S. between 1955Q1 and 2006Q4 using Bayesian estimation. We find that the contribution of news shocks to output is about half of that estimated without data on expectations. The precision of the estimated role of news shocks also greatly improves when data on expectations are used. Although news shocks are important in explaining the 1980 recession and the 1993-94 boom, they do not explain much of other business cycles in our sample. Moreover, the contribution of news shocks to explaining short run fluctuations is negligible. These results arise because data on expectations show that changes in expectations are not large and do not resemble actual movements of output. Therefore, news shocks cannot be the main driver of business cycles. Chapters Two and Three focus on the driving forces of business cycles in open economies. We start Chapter Two with an observation that business cycles are strongly correlated across countries. We document that this pattern is also true for small open economies between 1900 and 2006 using a novel data set for 17 small developed and developing countries. Furthermore, we provide a new evidence about the role of common shocks in business cycles for small open economies in a structural estimation of a real small open economy model featuring a realistic debt adjustment cost and common shocks. We find that common shocks are a primary source of business cycles, explaining nearly 50\% of output fluctuations over the last 100 years in small open economies. The estimated common shocks capture important historical episodes such as the Great depression, the two World Wars and the two oil price shocks. Moreover, these common shocks are important for not only small developed countries but also developing countries. We point out the importance of our structural approach in identifying several types of common shocks and their sizable role in small open economies. The reduced form dynamic factor model approach in the previous literature, which often assumes one type of common component, would predict only a third of the contribution estimated in the structural model. Chapter Three further our understanding of the business cycle comovement across countries by investigating the transmission mechanism of shocks across countries. Our reading of the literature indicates that even though business cycles are correlated across countries, existing models are not able to generate substantial transmission through international trade. To the extent that business cycles are correlated across countries, it is because shocks are correlated across countries. We show that the nature of such transmission depends fundamentally on the features determining the responsiveness of labor supply and labor demand to international relative prices. We augment a standard international macroeconomic model to incorporate three key features: a weak short run wealth effect on labor supply, variable capital utilization, and imported intermediate inputs for production. This model can generate large and significant endogenous transmission of technology shocks through international trade. We demonstrate this by estimating the model using data for Canada and the United States. We find that this model can account for the substantial transmission of permanent U.S. technology shocks to Canadian aggregate variables such as output and hours documented in a structural vector autoregression. Transmission through international trade is found to explain the majority of the business cycle comovement between the United States and Canada while exogenous correlation of technology shocks is not important.

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IMF Working Papers

Dominant drivers of current account dynamics.

Author/Editor:

Lukas Boer ; Jaewoo Lee

Publication Date:

April 26, 2024

Electronic Access:

Free Download . Use the free Adobe Acrobat Reader to view this PDF file

Disclaimer: IMF Working Papers describe research in progress by the author(s) and are published to elicit comments and to encourage debate. The views expressed in IMF Working Papers are those of the author(s) and do not necessarily represent the views of the IMF, its Executive Board, or IMF management.

We estimate shocks that explain most of the variation in the current account at business cycle frequencies and over the long run. We then explore, using a standard open-economy macro model, which macroeconomic shocks are behind the empirical dominant drivers of the current account at business-cycle frequency. Rather than financial shocks or aggregate shocks to supply or demand, shocks to the relative demand between home and foreign goods are found to play a pivotal role in current account dynamics.

Working Paper No. 2024/092

9798400274961/1018-5941

WPIEA2024092

Please address any questions about this title to [email protected]

What caused Dubai floods? Experts cite climate change, not cloud seeding

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