Download Contraction

An Overview of
Business Cycle Theories
peak
contraction
recovery
trough
Dr. Dennis Foster
Characteristics & Features
• Rise and fall in Gross Domestic Product (GDP)
around some long term trend.
• Unemployment generally lags ∆GDP
• Inflation generally inversely related
and lags during the expansion.
• Four phases:
peak, contraction, trough, recovery
• Contraction aka “recession” or “downturn” or
“depression” [old days – “panic”]
National Bureau of
Economic Research
• Identifies dates of business cycles (here).
• Dec. 2007 peak called in Dec. of 2008 (here).
A recession is a significant decline in economic activity
spread across the economy, lasting more than a few months,
normally visible in production, employment, real income,
and other indicators. A recession begins when the economy
reaches a peak of activity and ends when the economy
reaches its trough.
• June 2009 trough called in Sept. 2010 (here).
The recession lasted 18 months, which makes it the longest
of any recession since World War II.
The Data on U.S. Business Cycles
Problematic Recovery
Ave. = 2.8%
2001
2008
Ave. = 2.25%
Thomas Malthus
• Workers paid less than the value of their
production.
• Excess supply develops across
the economy.
• Firms/owners reduce employment to
liquidate these inventories.
• Depression.
• FYI – long run wages at subsistence.
[Economics as the “dismal science.”]
Joseph Schumpeter
• Business cycles form patterns.
• Inventory adjustments – 3 to 5 yrs.
• Fixed investment – 7 to 11 yrs.
This is what we call the business cycle.
• Infrastructure building – 15 to 25 yrs.
• Major innovations – 45 to 60 yrs.
Karl Marx
• Capitalism produces surplus value.
• Production goes unsold.
• Crisis ensues; depression.
• Worsens over time!!
Lord John Maynard Keynes
• Lack of confidence reduces spending.
• Normal channel of saving to investment
breaks down.
• Wages (and prices) don’t fall.
• Result – depression.
• Solution – replace private
spending with public spending.
Milton Friedman
• Emphasizes the role of money.
• Depressions preceded by fall in MS.
• Government controls money supply.
• Government is the source of failure.
• In a depression, raise MS to counter.
• Ben Bernanke as follower.
Ludwig von Mises
• The Austrian School – Hayek, too.
• Embrace Say’s Law.
• Depressions due to “credit bubbles.”
• Bubbles perpetuated by the Fed.
• Depression allows reallocation.
• “Solution” – leave it alone.
• Worst case – try to undo it.
Say’s Law
• Casually – supply creates demand.
• Our total purchasing power (spending)
comes from our sales (income).
• Excess supply is impossible in every sector
of the economy.
• Sectors with excess demand will
attract more resources.
An Overview of
Business Cycle Theories
peak
contraction
recovery
trough
Dr. Dennis Foster