BUSINESS CYCLES

Prof. Tushar Ranjan Panigrahi

INTRODUCTION
A trade cycle is composed of good
trade characterized by rising prices
and
low
unemployment
percentages, altering with
periods
of bad trade characterized by falling
prices and high Unemployment
percentages.

DEFINITIONS OF BUSINESS CYCLES

R.A.GORDON:- Business cycles are regular
fluctuations in Income, output and
Employment.
BENHAM:- A trade cycle may be defined as
a period of prosperity Followed
by a
period
of depression.
The economic
Process should be Irregular, and trade
being good at some time and bad at
others.

CHARACTERISTICS OF
BUSINESS CYCLE
1) The Business cycle generally
consists expansion and contraction.
2) Peaks and troughs are the turning
points of the cycles.
3) The pattern of cycles is irregular
and no two cycles are the same.

PHASES OF BUSINESS
CYCLES
ACC/ JOSEPH SCHUMPETER:There are four phases of Business
cycle:1) PROSPERITY.
2) RECESSION.
3) DEPRESSION.
4) RECOVERY.

Economic Phenomenon

Phases Of Business Cycle

Actual Line

ve l
o
a
Ab rm
no

Re
r
ces
e
n
sio
p
s
low al
ro
e
B rm
P y
D
no
e
t
p
i
res
io
n

Re
y cov
er

Peak

Expected
Line

Troug
h

T1

T2

T3

T4

Time Period

T5

PROSPERITY
1)It is also known as Expansion.
2)Production increases in all sectors of the
economy.
3)Increases the production and employment
opportunity increases.
4)Increases the purchasing power of the people.
5)There is a time lag before the producers can
produce
sufficiently to meet this demand in the
economy.
6)This leads to rise in prices.

Level of business acti

PEAK
TH
W
O
GR END
TR

Time

Peak or prosperity
phase:

Real output in the economy

is at a high level
Unemployment is low
Domestic output may be at
its capacity

RECESSION
When the economy moves towards
recession there will be a substantial
fall in the production of goods and
services and the level of employment.
Business Inventories Starts
decreasing.
Movement of the economy is towards
backward.
General Price levels decreases.

Level of business acti

RECESSION

TH
W
O
GR END
TR

Time

Contraction or recession phase:

Real output is decreasing
Unemployment rate is rising.
As contraction continues, inflation pressure
fades.
If the recession is prolonged, price may
decline (deflation)
The government determinant for a recession is

DEPRESSION
During this phase all the inventories
are
exhausted.
Employment is less.
Bank clearance is high.
Pessimistic Nature.

Level of business acti

TROUGH
TH
W
O
GR END
TR

Time

Trough or depression phase:

Lowest point of real GDP
Output and unemployment bottom
out
This phase may be short-lived or
prolonged

Level of business acti

RECOVERY
TH
W
O
GR END
TR

Time

Expansionary or recovery:
Real output in the economy is
increasing
Unemployment rate is declining
The upswing part of the cycle.

RECOVERY
In recovery , there is a tendency in
the
economy to move towards Normal
Price.
Investment starts rising.
Inventories have to be restored.
Employment increases.

How Indicators Monitor the

Four Phases of the Business
The leading indicator
Cycle system
Provides a basis for monitoring the
tendency to move from one phase to
the next.
Assesses the strengths and
weaknesses in the economy
Gives clues to a quickening or slowing
of future rates of economic growth
Indicates the cyclical turning points in
moving from the upward expansion to
the downward recession, and from the

 Leading indicators anticipate the

direction in which the economy is
headed.
The coincident indicators provide
information about the current status
of the economy
1) changing as the economy moves
from one phase of the business
cycle to the next
2) telling economists that an upturn
or downturn in the economy has
arrived.

Based on the theory that expectations

of future profits are the motivating

force in the economy.
Companies may expand production of
goods and services and investment in
new structures and equipment, when
business executives believe that their
sales and profits will rise.
When they believe profits will decline,
they reduce production and investment.

These

actions

generate

the

four

Theories of Business Cycle

Psychological theory:
Prof A. C. Pigou
Industrial Fluctuations Changes in psychology of
industrialists waves of optimism and pessimism.
He could not explain the cause of the changes in
psychology.
Overproduction theory: Socialist minded
economists
Several rival firms producing the same commodity
want to capture market => produce more stocks than
can sell => overproduction => prices fall => rise in
cost of production => marginal firms collapse =>
depression

FORECASTING BUSINESS CYCLE

A Number of variable or indicators
such as
Manufacturing capacity
utilization,
Industrial
Production,
business investment
expenditure
show
cyclical
movements in an industrial economy.
Business forecasters in developed
economies keep a close watch on
these indicators.

CHARACTE
RSTICS

RECOVERY

BOOM

RECESSIO DEPRESSIO
N
N

Industrial
Production

Gradual
Increase

Rapid
Increase

Decline

Rapid
Decline

Commodity
prices

Gradual
Increase

Rapid
Increase

Decline

Rapid
Decline

Cost of
Production

Gradual
Increase

Increase
Rapidly, but
slower than
rise in prices
of goods and
services

Gradual
decline

Rapid
Decline
But slower
than
Commodity
prices

Profits

Satisfactory
level

High

Gradually
decline

Negligible
profits or
losses

Investment

Replacemen
t of
Existing
capital
equipment

High

Falls
slowly

Falls rapidly

Rapid

Starts

Falls rapidly

Employment Gradual

CHARACTE
RSTICS

RECOVERY

Wage rate

BOOM

RECESSI
ON

DEPRESSIO
N

Improvemen Rapid
t
Increase
But less than
rise
In prices of
goods and
services

Starts
falling

Falls rapidly
than the
Commodity
prices but
less

Bank credit

Liberal
loans
And
Satisfactory
demand for
Advances

Starts
falling

Falls rapidly

Bank
Reserves

Improvemen Rapid
t
Increase

Suffer a
set back

Falls rapidly

Discount
rates

A little
Rapid
Improvemen Increases
t

Suffer a
feedback

Falls rapidly

Speculation

Gradual

Minimum

Hardly any

Liberal loans
And high
demand
For advances

At high level

CHARACTE
RSTICS

RECOVERY

BOOM

RECESSI
ON

DEPRESSIO
N

Inventory
stocks

Gradual
decline

Very little

Gradual
Increase

High level

Business
failure

Smaller in
Number

Hardly any

Small in
Number

Large in
Number

Business
expectation

Optimism
Coupled
with
Cautions
decision
making

Highly
optimistic

Pessimisti
c
With
cautious
Decision
making

Highly
pessimistic

CHARACTE
RSTICS

RECOVERY

BOOM

RECESSIO DEPRESSIO
N
N

Industrial
Production

Gradual
Increase

Rapid
Increase

Decline

Rapid
Decline

Commodity
prices

Gradual
Increase

Rapid
Increase

Decline

Rapid
Decline

Cost of
Production

Gradual
Increase

Increase
Rapidly, but
slower than
rise in prices
of goods and
services

Gradual
decline

Rapid
Decline
But slower
than
Commodity
prices

Profits

Satisfactory
level

High

Gradually
decline

Negligible
profits or
losses

Investment

Replacemen
t of
Existing
capital
equipment

High

Falls
slowly

Falls rapidly

Rapid

Starts

Falls rapidly

Employment Gradual

Causes of Business
Shocks
and price stickiness
Cycles
{ Major innovations may trigger new investment
and/or consumption spending.
{ Fluctuations are driven by shocks. unexpected
events that individuals and firms may have trouble
adjusting to.
{ Short-run price stickiness is a major factor
preventing the economy from rapidly adjusting to
shocks.
{ The economy is forced to respond to shocks in the
short run primarily through changes in output and
employment rather than through changes in prices.

Causes of Business
Cycles
Supply and productivity shocks
{ Some economists believe supply shocks
caused by momentous innovations such as the
railroad, the automobile, microchips and the
Internet have a large impact on investment
spending and consumption spending and
therefore on output, employment, and the price
level.
{ Another school believes shocks to productivity
is the major cause of business cycles. When
productivity unexpectedly increases (falls), the
economy booms (goes into a recession).

 Monetary shocks
{ Others view the business cycles as a purely
monetary phenomenon.
{ When a country's central bank shocks the
economy by creating more money than people
were expecting, an inflationary boom occurs.
{ By contrast, printing less money than people
were expecting triggers a decline in output
and employment, and, eventually, in the price
level.

Cures For The Business

Cycles

Government Intervention:

government intervention is capable of

postponing declines in the business cycle
by propping the economy up with cheap
credit.
Monetary policy intervenes by
controlling the money supply through the
actions of the central bank.

EMPLOYMENT FLUCTUATIONS
FRICATIONAL UNEMPLOYMENT
Caused by constant changes in the
Labor market.
It occurs on account of two reasons
Employers are not fully aware of all
available workers and their job
qualifications.
Workers are not fully aware of the jobs
being offered by employees basic cause
of this is imperfect information.

STRUCTURAL UNEMPLOYMENT
Unemployment that arises from
structural
changes in the economy is called
structural unemployment.
This kind of situation arises when the
regional or occupational pattern of job
vacancies does not match the pattern
of
workers availability and suitability.

CYCLICAL UNEMPLOYMENT
Unemployment that occurs as a result
of a
general downturn in business activity is
known as Cyclical Unemployment.
Unexpected reductions in the general
level of demand for goods and services
are the
major cause of cyclical Unemployment.

THE CONCEPT OF FULL EMPLOYMENT

Full employment means does not mean

Zero Unemployment.
The Natural rate of unemployment in the
long run can be defined as the average
of
unemployment caused by functional and
seasonal Unemployment changes.

 The distinction between actual

Unemployment and natural
unemployment in response to cyclical
economic conditions, the actual
Unemployment rate fluctuates around
the natural rate. The actual rate
generally rises above the natural rate
during a recession and falls below the
natural rate when the economy is in
the midst of an economic boom.

NATURE AND TRENDS IN

UNEMPLOYMENT IN INDIA
The nature of unemployment in India is
mostly structural and disguised.
The Indian Population has grown at an
alarming rate of around 2.2 percent per
annum. The unemployed has also grown
correspondingly.

 However developing economies like

India
essentially face the problem of
structural
unemployment. This type of
unemployment can be eliminated
only by
introducing certain radical
measures.

DISGUISED UNEMPLOYMENT

The Marginal Productivity of the Marginal laborer

is either zero or negative, then this type of
Unemployment
is
called
Disguised
Unemployment.
Existence in developing countries.

DISGUISED UNEMPLOYMENT AND CONCEALED

SAVING POTENTIAL
If the unproductive members are transferred to
the capital
projects the National output and savings also
increases.
Nurkse view neither suggests reduction in
consumption
for raising investment, nor an increase in both
consumption
and investment simultaneously.