Scanned with CamScannerMRT 8 sess economes : 4 ¢Z- Peak or boom or Prosperity ® 50 INTRODUCTION Consider the following: i sake levels and living 4. 19203, UK saw rapid growth in Gross Domestic Product (GDP), production | standards. The onal hed fuelled by new technologies and production processes such as the ‘assembly line. The economic growth also caused an unprecedented rise in stock market values, 2 Sirs recent economis slowdown and fnanial mayhem are fostering a eycle of decine and Parga aera he wo 09 counties of meaty evry continent see escalating risks of Brolonpe shimps, politcal ruption and ancial esses, | : N What are these? These are examples of business cycles. The fst example shows that the UK economy was E228 Brough boom during 1820s while the second example of the recent slowdown in China indicates the serosa i chante | tat Economie i concerned wih fucuatons in economic aces. The economic Fer newt al counts point tonrds the fact that thay have gene roogh Rec ee Semmame sof prosperity al with a xeaage, aterng with pet ised b Cetecton of overall business actives manifested in fictuations in measures of aggregate ‘economic actu, such *%, goss national predyct, employment and income. A noteworthy characteristic of these economic fluctuations ig that they are recurrent cé ea ana i ES been observed that some Business cycles have = of the Same Teng ___ Shit ending in two to three years, ‘ong, lasting for several years while others have been Expansion (also called Boom or Upswing) © Contraction (also called co ‘Trough or Depression The four phases of business the Downswing or Recession) ‘cycle are shown in Figure 1 Scanned with CamScannerCenerany rh amion ore Longer thom Combracten susiness cvc.es EE Raa ction and the economy revives, and it moves into the expansion path, However, Since expansion eannct go on indefinitely, afer reaching the ‘peak’, the economy starts contracting, The Contraction or downturn continues til it re inti trough’. However, ah eorteng ‘at this point for Some time, the economy revives again and a new cycle starts Figure 1 Phases of Business Cycle 2 Expansion: The expansion phase is characterised by increase in national output, employment 2 demand, capital and consumer expenditure, sales, profs, rising slock prices ang bank, Beg. THE Siaié continues sil there is full employment of resources and production is at its maximum ‘possible level using the avaliable Thvoluntary unemy aid ver unemployment is there is eithlyfrictionalYi.e. due to change of jobs, or suspended work due strikes"or due fo imperfect mobility of labour) d€-structuraD (ie. unemployment caused due to ~« oa Stucturl changes inthe economy] (Fics and costs ase Tond tae Tas), Good amounts of net oa investment occur, and demand for all ypes of goods and services rises. There is all prosperity and people enjoy high standard of lving due to high levels of consumer Earkdence, production, factor incomes, profs and invesiment. The growth rate eventual slows. aon “Bed aches ts peak . Peak: The term peak refers to th€lop)or jhest point of the business: In the later stages of wa frcanson ns ae cat WT on D> ei os art of a Soa ‘and therefore input ones, PSN Bag a Raw income earners, Consumers fegn to review)heir consumption eee gua batt \ co te. Actual demand stagnates reached a point where i wil vga Contraction: The economy cannot continue to grow endlessly. As mentioned above, once peak is reached, increase in demand is halted and Co ee te Dang cnecion . is fall in the levels of investment and emy be pt ol ey on oi ir existing levels of investment, Sw sigs ea a, ‘and at a slow pace, but rapidly 9 Cons (© The Institute of Chartered Accountants of India Scanned with CamScannerTike Zn pet —> Ane SS ieee oa clemana Price pore ch vt Se On PCa, fia eo eede decvana METI vusncsseconomes — copitet G plans, seersermecr nse and all ta.tan gorse 0 chan of rept put markets and, Decrease in input demand pulls input prices down; incomes of wage and interest earners am decline resulting in decreased demand for goods and services. Producers lower their prices in dispose off their inventories and for meeting their financial obligations. Consumers, in their turn, expect further eee in prices and postpone their pace With reduced L ‘goods and ednsumer goods. Business firms future state of the economy and there is a fallin profit expectations whi isvestments. Bank cred shrinks as borowings for investment decines, investor confidence is at its ‘west 'stock"prices fall and unemployment increases despite fallin wage rales. The process of recess is complete and th’ severeconracon inthe economic aces pushes the economy into secant epesson: Gerson ite sve fam of reen93) and characoed by extremely si ah econo cies D nt eae fies Cat he level a Aeclines . lover ate of ness. people's dered a foo io. 8 increases. Sa ee aan eewian the demand forced investors’ confidence has fallen: Often, it also. lab the phase of trough is reached. very agonizing period reat depression of 1920-33 ssl cited forthe enormous misery and Recovery: The economy cannot continue to contract aay seonomic acy gale to sod p ae ae a een Pervasive | ee pling rales. The producers anticip Gqutonment A time comes when bus fidenc seine 2g2in and to build stocks; the. bay advancements require fresh investme increases, aggregate demand picks up and prices ‘SelFcorrecting Ing process in a free enterprise ze the economy. This acts as a ciate Point Production increases, employment improves, be 6 Telia of Charred Aci Scanned with CamScannerBUSINESS CYCLES Eres sapenciture. Increased spending causes increased aggregate demand end in order to full the demand cme o2ts and services are produced. Employment of labour increases, unemployment fas and ©xPansion takes place in the economic activity |tis to be reemphasized that and that the business cycles are anything but re Lycles may have longer pe of boom, others may have longer period of depression, (is very eit to pat te tuning po of bsineos 1s very difficult to predict the turning points of business 185 Economists use changes in a variety of acivities fo measure the business cycle and fo prodiet where the economy is headed towards, These are eed indicators. The types of indicators are shown in the chart - Economic Indicators Leading Indicators Lagging Indicators L_ eehegedke i | |_|,e2 Uomo A; rat , lal a Sean | cost per unit of output OX ee ee Franges befor) the Particular pattern or trend. In other words, those var lables that change befor called ‘Leading indicators’. Leading indicators often change prio Grofit margin’ a profs indices such as housing, in generally seen as precursors of uptums. . Similarly, value of new orders fr : 2, radon of s. Leading indicators, though widely used to pr Cafrays accu. Even experts disagree onthe timing of thes months after a stock market crash before the economy begi (2) eosin indicators ‘fle the economy Gstricl perfemmane ond only after an economic trend or pattem has alre | In ‘23T ouput changes are called Lagging indicators’ leading indica lagging indicators GonfirmYhese trends. Lagging indicators co as entered @ period oT fdtuation. Some examples of lagging labour cost per unit of Output, interest rates, the consumer | (© The Institute of Chartered Scanned with CamScannerBUSINESS ECONOMICS A third type of indicator is coincident indicator. (6 BD. comoide or occur simultane Closely with changes in ihe cycle of economvc activity, t other words, these indicators give information about ‘economy more or less at the same Domestic Product, industrial producto. inflation, personal income, retail sales and financial market trends Sack Great Depression of 1930: The world economy suffered the longest longest deepest, and the most widesornad Serpe corer og 18. It started in the US and became worlduide. The global GDP fell by 1829 and 1932. Production, employment and income fell. As far as the causes of Due 1 anid grow of inlet end seeing vast seape in ths nt in ies Due to overoptmism inthe markt, in cautious, There was a great rise in their stock prices and int ganefl, it was noticed, ‘her stock pices to increase by simply adding an *e" prefix to the ‘companies offered their services or end product Scanned with CamScannerBUSINESS CYCLES SEL ‘ates, credit of interest, This led to large liquidity or money supply with the banks. With lower interest Became heapet and the coe a Te etre open lo buy hous ip r . Increased demar Juses led to increased prices for them. The fising prices of housing and to rise. Excess lic with banks and banks to bel it 9 the creditworthiness of borrowers. lieve that prices, Houses. Pi Sub-prime householdsyand also to those persons who had no income or assets. began to de yeu it exce8S Biting the boom period and due to thet oversupply inthe market; house prices tere aoe 2006, Housing bubble got burst it{The second half of 2009 With fallin prices of houses which instalments e288, the sub - prime households stared defaulting on 2 large scale in paying ff thie This caused huge losses to the banks. Losses in banks and other financial institutions had a chain ‘\tfect and soon the whole US economy andthe word economy at lage fl its impact. (® 52 FEATURES OF BUSINESS CYCLES Different business cycles differ in duration and intensity. But there are certain features wich they commonly 7 Business ote pertain they do not exit theme regulariD)The duration of these cycles vary. The intensity of fluctuations also varies. GT Business cyeles haveanet phased)af expansion, peak, contraction and trough. These phases seldom display smoothness and regulary. The length of each phase is elso not defnite. oa Business cycles generally crane ee nai_ecron They are pervasive as well Disturtiances in one or more sectors get easily transmitted to all other sectors. Although all sectors are adversely affected by business cycles, some sectors such as_capit industries, durable consumer goods industry etc, are disproportionately affaeted. Moreover, compared to agricultural sector, the industrials sector is more prone to the adverse effects of trade cycles. Business oe exceeding(f Complex phenomena Yhey do not have uniform characteristics and Gags Tey cs ws ago Tle, ts STs ae on earl ron ‘ade cycles beforé the oe Repercussions of business cycles iultaneously felt on ‘employment, investment, consumption, interest, trade and price 7 Business cycles axcamaee) ed Noe ‘mostly spread to other countries throu ons. For example, yet the USA and Great Britain affected almost all the countries, a world, - wo Business cycles have serious consequences on the well-being oft would continue. © The Institute of Chartered Accountants of India Scanned with CamScannerMETI 2052155 cconomees (@ 5.3 CAUSES OF BUSINESS CYCLES Buses Orcs may exc dw Cara i Ciesla or CeobialaD of beth. The 2001 recession was preceded by an absolute mania h dol-com and technology stocks, while the 2007-00 recessions followed @ penod of unprecedented speculation in the U S. housing market. i srloment Rowers eaves : cs Sauses inflation. As against this, if the agg demand employment. Investors sel stocks, and buy safe-haven investments that traditionally bonds, geld and the U.S. dollar. As companies lay off workers, consumers lose. ‘anything but necessities. That causes a downward spiral. The b prices are $0 low that those investors cash stad ® Fluctuations in Investment: According to some of business cycles. (© The Institute of Chartered Accountants of Scanned with CamScannerrvenions may cause entrepreneurs are costeffcient oc mare profit, yeep demand che eg eran gran, Onsna's trent hve te opposite efit. Variations in government spending: Fluctuations in its impact on aggreqate ® Scania ahs usa: Coven spend. pray doy foros fak ilizing effects on the ‘economy. Macroeconomic polices: Macroecenamic policies (goneta)hand Gazal Does) also cause business cycles. Expansionary policies, such as increased ‘spending andlor tax cuts, are the most common method of boostir te demand. This results in booms. Similarly, softening of This resus in bo soteing of intrest rates often motivated B Political motives, leads to inflationary effects and decline in unemployment rates. Anti-inflationary measures, ‘such as reduction in government ‘spending, increase in taxes and interest rates cause a downward Pressure on ‘he agoregate demand and the economy slows down. At times, such slowdowns may be drastic, showing negative growth rates and may ultimately end up in recession. = S Money Supply: trade cycle is Cpuely monetary abenmEn5® Unplanned changes in ‘supply of money may cause business fluctuation in an economy An increase in the supply of neo causes, @ipansion in aggregate demand and in economic activities. However, excessive increase of credit ‘money ‘set off inflation in the econc Capttal is easily available, and therefore consumers: and businesses alike an Foren 2 ow rales. This stimulates more demand, creating a vituous circle of prosperity. On the other ‘rand, decrease in the supply of money may reverse the process and i 3 6 Psychological factors: €écerding te PDD, modern business actos are based on the business community and are affected by waves of optimism. imi Scone ofthese paychologea Sales of mind Gt Histeetoe Toe market conditions, They make ‘investments, and as a result, expansionary phase may begin. happens when entrepreneurs are pessimistic about future market conditions, Investors investments. With reduced investments, employment, income and consumption also economy faces contfaction in economic activities. 7 ; the system from time to time. The (Po tome fat tat eset ga aac ere scene a ucunons naipt EF eemtemat causes: The Ertera causes or ‘exogenous factors which may Wars: During war times, production of war goods, like weapons sources of the country are diverted for their production, This and consumer goods. Fall in production causes fall in income, in economic activity and may rigger downturn business eyele. & Post War Reconstruction: Aer war, the country begins to rec built and economic activi ity begins to pick up. All these activities: {employment and income go up Scanned with CamScannerzy BUSINESS ECONOMICS © @ better products and services. These Technology shocks: Growing t enables production of new and mae products generally require huge investments for_new technology meat ee meee employment, income and pfofts etc. and give @ boost to the economy. For exampl i mobile phones, the telecom industry underwent a boom and there was expansion of production, employment, J AF 0y POS tor income and profits h in turn cause instabil Natural Factors{WeatheDdycles cause fluctuations in economies, especially those economies whik ‘excessive ‘output is badly affected. With reduced agricultural output, incomes of farmers fall agricul ‘and therefore they reduce their demand for industrial goods. Reduced production of food products also pushes up their prices and thus reduces the income available for buying industrial goods. Reduced demand for industnal products may cause industrial recession Population growth: if the growth rate of population is higher than the rate of economic growth, there will be lesser savings in the economy. Fewer saving will reduce investment and as a result, income and employment ‘will also be Jess. With lesser employment and income, the effective demand will be less, and overall, oe vil Be slowdown in economic activities. ConrelLotgns Eros onus a8 crac agi Tt, depeny oh not of bilateral trade, business fluctuations that occur in one part of the world get easily transmitted to other parts. Changes in laws related to taxes, trade regulations, government expenditure, transfer of capital and production ‘to other countries, shifts in tastes and preferences of consumers are also potential ‘sources of disruption in the economy. ss i Sapa 5.4 RELEVANCE OF BUSINESS CYCLES MAKING Business cycles affect all aspects of an_economy. d businesses of all types as they affect the their p determines whether a business is successful or not. Kno characteristics is important for a businessman to frame piosperity opens up new and superior opportunities for promotes business. In contrast, a period of recession or d A profit maximising fim has to consider the decisions, especially those related fluctuating levels of input use, especially rationalize production operations so as to suit work effectively to arrive at@ound strategic de ‘managing through boom, downtum, recessio Economy-wide trends can have si Scanned with CamScannerBUSINESS CYCLES = Sihivess the business cycle tha ate refered te an Goer businesses whose fortunes are closely linked tothe rate of economic growth erred to as These include fashion retailers, glectrical goods, house-builders, Seawants, advertising, overseas tour operators, construction and other infrastructure firms. uring a boom, cee See a strong demand for their products but during a slump, they usually suffer a sharp drop in may also happen that some businesses actually beneft from an ecor . This happens When their products are customely as representing good value for money, or a cheaper alternative compared to more expensive products. at perfectly reliabD>. Neither, of course, are the hunches and intuitions of entrepreneurs. Understanding what phase of the business cycle an economy is in and what implications the current economic conditions have for their current and future business activity, helps businesses to better anticipate the market and to respond with greater However, taken together and applied carefully, économie forecasts can help Business firms to prepare for changes in the direction of the economy ether prior toor soon affer these changes occur, SUMMARY + The rhythmic fluctuations in aggregate economic activity that an time are called business cycles or trade cycles and are aggregate economic activity such as gross national product, Atypical business cycle has four distinct phases namely, Expansion (also called boom or upswing) other economic variables. Peak of boom or prosperity refers to the top or > Contraction (also called downs-wing or investment, employment. oe ¥ > contraction in the economic activities. * Economists use changes in a variety of the economy is headed towards, These are + Alleading indicator is a measurable particular pattern or trend, ie. they change + Variables that change after real output * Coincident economic indicators, also with the business-cycle movements. Scanned with CamScanner