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Chapter 11
Business Cycles
These slides supplement the
textbook, but should not
replace reading the textbook
What are the four
phases of the
business cycle?
• Peak
• Recession
• Trough
• Recovery
2
What causes
unemployment?
Excessive inventories
3
What causes inflation?
MV/Q = P
4
What causes
stagflation?
A move to the left of the
aggregate supply curve
5
Decrease in Aggregate Supply
S'
S
P2
P1
D
0
Q2
Q1
6
What can cause a shift
to the left of the
aggregate supply curve?
An increase in costs
7
What can cause an
increase in costs?
8
• Monetizing the debt
• > in the price of oil
• > in public union benefits
• Detailed laws
• Emphasis on green technology
• Unfunded liabilities
• Interest on national debt
• Taxes
• Tariffs
• Health care
9
What can cause
deflation?
10
• Quantitative easing low interest rates
• High corporate taxes
• Double taxation on money earned in
foreign countries
• Interest earned on reserves held at
the Fed
• Large fines paid to Treasury by big
banks
• Interest on national debt
• Expectation of lower prices
• Lengthy and detailed laws
11
What was the
Employment Act of 1946?
Mandated the government to:
1) Balance the budget
2) Favorable balance of payments
3) Full employment
4) Coordinate monetary and fiscal
policies
12
What is
Keynesian Economics?
If we can manage
demand we can
manage the economy
13
What did the
1970s teach us?
A move to the left of the
aggregate supply curve
can only be solved by
supply side remedies
14
What is the largest
component of GDP?
Consumption
15
What is investment?
The purchase of new
plants, equipment,
buildings, and net
additions to inventories
16
What is the
acceleration principle?
An increase in
spending can lead to
induced investments
17
Why is the investment
sector so unstable?
• Expectations can change
• Inconsistent accelerator
• A change in the rate of
growth determines swings
• Govt. policies can cause
economic bubbles
18
What are
pro-cyclical
government polices?
Policies that can accentuate
the swings of the business
cycle because of lag
effects and emphasis of
anti-growth policies
19
What is the
Helmsman Dilemma?
Brought on by the lag
effects of discretionary
fiscal policies
20
What is the Financial
Stability Oversight Council?
As part of the Financial
Reform Bill of 2010 (DoddFrank Bill) the council
decides which nonbank
financial institutions might
cause instability in the U.S.
financial system
21
What is the significance
of the FSOC?
All banks with assets of more
than $50 billion and any
other financial businesses
deemed large enough will be
regulated by the Fed and
protected with promise of
bailouts if they get into
financial trouble
22
What past examples of
government protecting
big business?
• Fannie Mae and Freddie Mac
• Bail out of banks in 2008-09
• General Motors and Chrysler
23
What affect does the
foreign sector have on
the economy?
Can be pro-cyclical
or counter-cyclical
24
How do we compare
real GDP as a percent
from year to year?
We take the percent
increase from year to
year and compare
25
What is the percent
increase as we go
from 3 to 5?
2 / 3 = 67%
26
What is the percent
decrease as we go
from 5 to 3?
2 / 5 = 40%
27
What is the circular
flow of income and
expenditures?
A model that shows the
income and expenditures
in the economy
28
What are leakages?
Any diversion of money
from the domestic
spending stream
29
What are examples
of leakages?
Saving
taxes
imports
30
What are injections?
Any payment of money
into the economic stream
31
What are examples
of injections?
Investment
government purchases
transfer payments
exports
32
At what point is
equilibrium reached in
the circular flow model?
Where planned
leakages equal
planned injections
33
What are two examples
of equilibrium in the
circular flow of money?
Internal - banks
External – foreign
exchange market
34
What happens when
planned borrowing
is greater than
planned saving?
Interest rates rise
35
What happens when
planned saving is
greater than planned
borrowing?
Interest rates fall
36
What happens when
a country has a
payments surplus?
Its currency appreciates
37
What happens when
a country has a
payments deficit?
Its currency depreciates
38
END