Business Cycle by Dr. N.Moogana Goud

BUSINESS CYCLES
(TRADE CYCLES)
Dr.N.Moogana Goud
Prof and Director (MBA Programme)
SJC Institute of Technology

CHICKBALLAPUR
Business cycle
A business cycle is a sequence of economic activity
in a nation's economy that is typically characterized by
four phases—recession, recovery, growth, and decline
—that repeat themselves over time.
The business cycle is a long-term pattern of changes
in Gross Domestic Product (GDP) that follows four
stages: expansion, prosperity, contraction, and
recession. After a recessionary phase, the
expansionary phase can start again.
The phases of the business cycle are characterized
by changing employment, industrial productivity, and
interest rates. Some economists believe that stock price
trends precede business cycle stages.
Business cycle
The business cycle affects employees, employers and
investors. For example:
The economy is strong, people are employed and
making money. Demand for goods -- food, consumer
appliances, electronics, services -- increases to the
point where it outstrips supply. This demand fuels a
rise in prices, or inflation.
As prices increase, people ask for higher wages.
Higher employment costs translate into higher prices
for goods, fueling an upward spiral effect.
When prices get too high, consumers decide goods
are too expensive and demand decreases. When
demand decreases, companies lay off workers
because they don't need to make as many goods or
provide as much service.
Business cycle
Decreasing demand fuels declining prices, which
means the economy is in a recession.
Lower prices spur demand. As demand picks up,
people begin buying again, fueling the need for greater
supply. And the cycle goes back to the beginning.
CHARACTERISTICS OF BUSINESS CYCLES
1. Recurring fluctuations: which occurs periodically in free
rhythm.
2. Period of business cycle is more than one year: a
typical BC complete itself in a period of three to four
years. in any case the period of BC is not shorter than
one year.
3. Presence of the alternating forces of expansion and
contraction: the forces leading an economy to prosperity
and depression.
Business cycle
4. Phenomenon of crisis:
According to Keynes, an important characteristics of
the BC is the Phenomenon of crisis. This implies that
the peak and the trough are asymmetrical.
Phases of Business Cycle
According to Burns and Mitchell, every business cycle
has the critical mark of points of peak and trough
(Depression). From trough to peak there is the
expansion phase and peak to trough the contraction
phase.
Apart from these two longer phases there are two other
phases charectrised by the turning points.
• The upper turning point located at the peak marks the
beginning of the recession, while
• The lower turning point located at the trough is the
venue of revival
According to Burns and Mitchell, the four distinct

and closely related phases of business cycles are
as follows,
Revival
Expansion
Recession
Contraction
Joseph Schumpeter does not agree with Burns and

Mitchell on the phases of the BC.
In his opinion, peaks and troughs of a cycle cannot be
regarded as the critical mark-off points
According to Joseph Schumpeter, the critical mark-off
points are “ neighborhoods of equilibrium” which are
located at or near the points of inflection
In Joseph Schumpeter model
1. upper half of the BC is divided into two parts –
prosperity and recession
2. lower half of the BC from similarly consists of two
phases – depression and recovery
Hypothetical Business Cycle Peak
Real GDP
per year
th
r o w n e
G dl i
e n
Peak tr
Trough
Recession Recovery
Peak or prosperity:
• The point at which the real GDP stops increasing and
begins its decline; the highest point.
• At the top, or peak, of the business cycle, business
expansion ends its upward climb.
• Employment, consumer spending, and production hit their
highest levels.
• A peak, like a depression, can last for a short or long
period of time.
• When the peak lasts for a long time, we are in a period of
prosperity.
• One of the dangers of peak periods is that of

inflation.
• During periods of inflation, prices rise and the
value of money declines.
• Inflation is more of a threat during peak periods
because employment and earnings are at high
levels.
• With more money in their pockets, people are
willing to spend more than before.
• In this way, demand is increased and prices
rise.
Recession.
• A decline in the real GDP that occurs for at least two
or more quarters.
• Recessions feed on themselves.
• During a recession, business people spend less than
they once did. Because sales are failing, businesses
do what they can to reduce their spending.
• They lay off workers, buy less merchandise, and
postpone plans to expand.
• When this happens, business suppliers do what they
can to protect themselves.
• They too lay off workers and reduce spending.
• As workers earn less, they spend less, and business

income and profits decline still more.
• Businesses spend even less than before and lay off
still more workers. The economy continues to slide.
Low Point, or Depression.

• State of the economy where there are large
unemployment rates, a decline in annual income, and
overproduction.
• The time at which the real GDP stops its decline and
starts expanding; the lowest point.
• Sooner or later, the recession will reach the bottom of
the business cycle.
• How long the cycle will remain at this low point varies
from a matter of weeks to many months.
• During some depressions, such as the one in the
1930s, the low point has lasted for years
Expansion and Recovery.

• A period in which the real GDP grows; recovery from
a recession.
• When business begins to improve a bit, firms will hire
a few more workers and increase their orders of
materials from their suppliers.
• Increased orders lead other firms to increase
production and rehire workers.
• More employment leads to more consumer spending,
further business activity, and still more jobs.
• Economists describe this upturn in the business cycle
as a period of expansion and recovery.
FACTORS THAT SHAPE BUSINESS CYCLES
• VOLATILITY OF INVESTMENT SPENDING

-Variations in investment spending is one of the
important factors in business cycles.
-increases in investment spur a subsequent
increase in aggregate demand, leading to economic
expansion. Decreases in investment have the
opposite effect.
• TECHNOLOGICAL INNOVATIONS
Technological innovations can have an acute
impact on business cycles. Indeed, technological
breakthroughs in communication, transportation,
manufacturing, and other operational areas can have
a ripple effect throughout an industry or an economy.
• VARIATIONS IN INVENTORIES
Variations in inventories—expansion and contraction in the
level of inventories of goods kept by businesses—also
contribute to business cycles. Inventories are the stocks of
goods firms keep on hand to meet demand for their products.
-How do variations in the level of inventories trigger
changes in a business cycle?
-Usually, during a business downturn, firms let their
inventories decline. As inventories dwindle, businesses
ultimately find themselves short of inventories. As a result,
they start increasing inventory levels by producing output
greater than sales, leading to an economic expansion.
• FLUCTUATIONS IN GOVERNMENT SPENDING

Variations in government spending are yet another source
of business fluctuations. This may appear to be an unlikely
source, as the government is widely considered to be a
stabilizing force in the economy rather than a source of
economic fluctuations or instability.
• POLITICALLY GENERATED BUSINESS CYCLES
Many economists have hypothesized that business
cycles are the result of the politically motivated use of
macroeconomic policies (monetary and fiscal policies) that
are designed to serve the interest of politicians running for
re-election.
• MONETARY POLICIES
Variations in the nation's monetary policies,
independent of changes induced by political
pressures, are an important influence in business
cycles as well. Use of fiscal policy—increased
government spending and/or tax cuts—is the most
common way of boosting aggregate demand, causing
an economic expansion. Moreover, the decisions of
the Federal Reserve, which controls interest rates,
can have a dramatic impact on consumer and
investor confidence as well.
\
• FLUCTUATIONS IN EXPORTS AND IMPORTS

The difference between exports and imports is the
net foreign demand for goods and services, also
called net exports. Because net exports are a
component of the aggregate demand in the economy,
variations in exports and imports can lead to business
fluctuations as well.

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BUSINESS CYCLES

SJC Institute of Technology

According to Burns and Mitchell, the four distinct

Joseph Schumpeter does not agree with Burns and

• One of the dangers of peak periods is that of

• As workers earn less, they spend less, and business

Low Point, or Depression.

Expansion and Recovery.

• VOLATILITY OF INVESTMENT SPENDING

• FLUCTUATIONS IN GOVERNMENT SPENDING

• FLUCTUATIONS IN EXPORTS AND IMPORTS

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