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Business Cycle

Business Cycle. Chapter 12/ Section 2. Phases. Expansion Peak Contraction Trough. Expansion. Expansion in economic growth Long-term growth of the Real GDP. Peak. When real GDP stops rising. Contraction. Economic decline as measured by real GDP. Trough.

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Business Cycle

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  1. Business Cycle Chapter 12/ Section 2

  2. Phases • Expansion • Peak • Contraction • Trough

  3. Expansion • Expansion in economic growth • Long-term growth of the Real GDP

  4. Peak • When real GDP stops rising

  5. Contraction • Economic decline as measured by real GDP

  6. Trough • When economy has bottomed out and real GDP stops falling

  7. Recession • Prolonged economic recession • Typically 6-18 months (2 to 3 quarters) • Unemployment up to 10%

  8. Depression • Long and severe recession • Severe job loss • Loss of credit availability • Large number of bankruptcies • Contracted trade • Currency devaluation • Decline in GDP 0f 10% • A recession lasting 2 or more years

  9. Stagflation • Amalgam of stagnation (unmoving, decayed) and inflation • Decline in real GDP combined with rise in prices (inflation)

  10. So what phase are we in now? • Are we in a recession? • Are we in a depression? • Are we experiencing stagflation?

  11. What is the health of our economy currently?

  12. On what do you base your opinion?

  13. Let’s look at what happens during a recession… • What sort of businesses did you see negatively affected during the last recession?

  14. Ripple Effects • During downturns, there are ripple effects in the economy • One thing happens which then causes all of these events to happen (negative externalities)

  15. Consider the following… • An auto plant that employs 1500 people closes in the town of Skogie, Illinois. Skogie, population 6000, is bound to see some unintended consequences from this. • What will the people of Skogie likely experience?

  16. Consider the Following… • What if the housing market suddenly went “south”? • What if it became difficult to get loans for houses? • What if people began defaulting on mortgages? • What negative externalities would our economy see?

  17. So… • How healthy is our economy? • Is your opinion any different than it was before?

  18. How do we gauge the health of an economy? • GDP! • But what else????

  19. Group time! Excellent! • You and your team will be given an economic indicator that is the GDP. • Your task to fully understand that this indicator can tell us about an economy. • How is this index tabulated? • How often is it measured? • What are its limitations? • How helpful is it really? • Create a few Powerpoint slides to show us

  20. What keeps the Business Cycle Cycling? • Many factors impact the cycle • Often, two or more factors act together to push cycle into next phase • A sharp rise or drop in some economic variable will set off events to push cycle into next phase • There are four main variables

  21. Business Investment • During expansion, businesses will invest heavily in plants and equipment • At some point, the determination will be made that they have expanded enough or demand for product will fall • Production will slow and likely cause layoffs

  22. Interest Rates and Credit • When rates are low, consumers and businesses will purchase more items on credit • As businesses borrow money to expand, jobs will be created and production will likely rise • As rates rise, consumers and business will purchase less; this leads to slower production and layoffs

  23. Consumer expectations • Fears of a weak economy will cause consumers to purchase less • Expectations of good economic conditions will lead to more spending

  24. External Shocks • Most difficult to predict • Negative • Disruption in oil supply • Drought • Wars • Positive • Discovery of oil deposits • Excellent growing season

  25. Notable events in the Business cycle • Great Depression • GDP dropped by a staggering 33% • Unemployment reached 25% • Keynsian Economics became the THANG • Believed that government intervention was necessary to ensure stable growth in the economy • FDR pursued this line of thinking and so created many agencies aimed at creating jobs

  26. Notable events in the Business cycle • 1970s • Organization of Petroleum Exporting Countries (OPEC) launched embargo against US • Quadrupled the price of oil and lessened the supply • Raw material prices and production costs skyrocketed • Immediately sent economy into stagflation

  27. Notable events in the Business cycle • 1980s • High interest rates caused real GDP to fall • Led to high unemployment rates (9%) • 2007-2009 • Low interest rates led to a credit boom • Sub-prime mortgages (mortgages to those who would not qualify for traditional mortgages) were huge • When rates went up, these mortgages increased and the borrowers could not repay • Caused real GDP to fall by 4% in the US in 2009, 8-10% in Eastern Europe

  28. Measuring Economic Growth • Real GDP per capita • Over time, populations grow • To take this into account, economists use the Real GDP per capita • Divides the GDP by the population (each individual’s slice of the GDP) • As long as GDP rises faster than the population, GDP per capita will continue to rise • Limitations • Doesn’t account for distribution of wealth • Excludes things like quality of environment or level of stress

  29. Capital Deepening • The more physical capital that is available, the more productivity there will be per worker (labor productivity) • Process of increasing physical capital per worker is called capital deepening • Important source of growth • Also includes the human capital • Education • Experience • Increases output per worker and wages

  30. Saving and Investment • Income that is not used for consumption is saving • Savings Rate is proportion of disposable income that is saved • US savings rate ranged around 4% in 2012 • Money that is saved using a mutual fund (stocks and bonds) can be used for a company to reinvest • The more that is saved, the more money that is available for reinvestment by companies

  31. Population • What happens to the amount of capital per worker if the population grows but the capital remains the same? • Capital per worker will shrink • This leads to less output per worker and lower wages

  32. Government • Taxes- if taxes are raised, households will have less disposable income • If taxes are raised to support consumption spending (i.e. a war), there will be reduced investment • If taxes are raised to improve public goods (i.e. roads, education, et al.), investment will increase

  33. Foreign Trade • Trade deficit: importing more goods than you export • Can be a positive if imports are Investment goods • Structures and equipment purchased by businesses

  34. Technological Progress • An increase in efficiency gained by producing more output without using more inputs • Could be new scientific knowledge, method of organizing production, or a machine that leads to more efficiency

  35. Causes of Technological Progress • Scientific research • Improve techniques and physical capital • Innovation • New products causing rise in efficiency • Patents • Scale of market • Larger markets provide more incentives for innovation • Larger economies will advance more technologically • Education and experience • Increases efficiency

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