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The Business Cycle
It is a permanent characteristic of market
economies: GDP (Gross Domestic
Product = PIL) fluctuates as booms and
recession follow each other.
The Business Cycle
Boom: an economy expands, it is working at full
capacity, therefore production, employment,
prices, profits, investments and interests rates all
tend to rise.
Recession: the demand for goods and services
declines: investments, production, employment,
profits commodity and share prices, and interest
rates generally fall.
A long-lasting recession is called a depression
or a slump.
The Business Cycle
Peak: highest point on a business cycle,
which is generally followed by a
downturn/downswing, i.e. a period of
Trough: the lowest point on a business
cycle, which is generally followed by a
recovery, or upturn/upswing, i.e. a period
of expansion.
Theories for the Business Cycle
Internal/Endogenous theories: they
consider it to be self-generating and
indefinitely repeating. A peak is reached
when people begin to consume less, for
whatever reason.
In the 19th century people were believed
to ‘infect’ one another with optimistic or
pessimistic expectations.
Theories for the Business Cycle
- When economic times are good and
people feel confident about the future, they
spend more and run up debts.
- However, if interests rates run too high,
people find themselves paying more than
they anticipated and so they have to
consume less.
- If they are worried about the possibility to
lose their jobs, they tend to save more.
Theories for the Business Cycle
External/Exogenous theories: they look
for causes outside economic activity,
e.g.: scientific advances, natural disasters,
elections or political shocks, demographic
changes, etc.
J. Schumpeter: the business cycle is
caused by major technological inventions,
which lead to periods of ‘creative
Theories for the Business Cycle
Simpler Theory: when there is no
independent central bank, the business
cycle is caused by governments beginning
their period of office with a couple of years
of austerity programmes, followed by tax
cuts and monetary expansion in the two
years before the elections.
The Business Cycle
Which theory for the business cycle do
you find more convincing? Why?