The stages of the economic cycle

The four main stages of the economic cycle are as follows.

· A boom. A boom is characterised by high levels of economic growth. The gross domes­tic product will be growing relatively fast. This should lead to relatively low levels of unemployment. Firms will have busy order books and may have to turn business away because they cannot keep up with demand. Prices may begin to rise due to demand growing so fast that output cannot keep pace.

· A recession

A recession (or downswing) occurs when there is a period of two quarters of negative economic growth. This means that the economy is shrinking. The gross domestic product is growing at a negative rate.

A recession is usually characterised by the following.

- Increasing levels of unemployment.

- Low levels or profits, reducing the amount of infernal funds for investment.

- Unused capacity.

- Downward pressure on prices to try to stimulate demand.

- Less income, leading to less demand in the economy and equally less spending on imports.

- More business closures.

- Less tax revenue for the government (because less people are earning and less products are being sold). At the same time the government is likely to be paying more in sub­sidies and benefits, so overall the government's financial position will he weakened and this may require more government borrowing.

· A recovery, upswing or upturn. In the recovery phase demand begins to pick up, re­ducing firms^’ excess capacity and improving employment levels. With more demand for products, the demand for factors of production increases, which begins to pull up prices and wages. Machinery begins to be replaced or updated and business confidence picks up, leading to more investment.

· A slump or depression. In a slump economic growth is slow and unemployment is high.

There is downward pressure on prices (deflation), and profits and business confidence are low. The point where the slump flattens out is called the ‘lower turning point’ of the economic cycle. The ‘upper turning point’ is in the boom.

Whilst this general pattern of growth outlined in the economic cycle may typically be followed, there will be differences over time in:

· how long each stage lasts;

· how large each stage is, for example, how big the slump or boom is.

In fact, different economists have identified several different economic cycles. These include the following.

· The classical trade cycle. This describes a pattern of boom and slump for which there is often around eight to ten years between one boom and another.

· The Kuznets cycle. This is named after Simon Kuznets, a Nobel prizewinner, who identified a cycle of activity in the construction industry that took between fifteen and twenty-five years.

· The Kondratieff cycle. This highlighted that as well as a ten-year trade there was a major underlying cycle that takes fifty to sixty years to complete, that is, there can he cycles within cycles.

The causes of the economic cycle include the following.

· Expectations. Changes in the expectations of firms and households can have a major effect on the state of the economy. If an economy is growing relatively fast and confidence is high, then firms may be more likely to invest because they are more optimistic about future levels of demand. Households are more likely to spend because they are more confident about their employment and earning prospects. If expectations are positive then this is likely to generate greater spending by firms and households, and this helps to stimulate further growth in the economy. Changes in expectations may therefore exaggerate the underlying economic cycle.

· Stock levels. Stocks include raw materials, components, semi-finished goods and finished goods waiting to be sold. They are also called inventory. Changes in stock levels can affect demand in the economy. When an economy starts to grow faster, managers may be reluctant to increase output in the short term in case the boom does not last. They will not want to invest and employ more people only to find that demand falls again. They are more likely to keep production at the same level as before and run down their stock levels. However, if demand does keep growing then firms will now have too few stocks and managers will have to expand production. They may need to increase their production capacity, not only to meet the new higher level of demand, but also to replace their stocks that will have been run down. This leads to a relatively high increase in spending, which leads to even faster growth in the economy. This can create a boom in the economy.

Once demand starts to grow more slowly, managers are likely to be reluctant to reduce their production levels immediately because it may be only a temporary decline. Rather than make people redundant and reduce capacity, firms are likely to maintain the existing output level in the short term. Given that demand is lower, producing at the old level leads to increasing levels of stocks. However, if demand continues to be low then in the long run managers will cut back output. As they have been building up stocks, they can now reduce output significantly. This leads to a large fall in demand and may push the economy into a recession.

The sluggishness of managers to react to changes in demand exaggerates the changes in demand, and creates booms and slumps.

· Government policy. Governments will often intervene to try to stabilise the economy. However, policies that are intended to stabilise the economy can actually end up desta­bilising it! This is because it is difficult for the government to fine-tune the economy effectively and attempts to do so may make things worse. One reason for this is that the information that the government uses to make decisions is inevitably out of date. By the time the government has determined what it thinks the level of national income actually is, the economy will have moved on. Policies intended to correct a particular prob­lem may therefore not be relevant because the economic situation has changed.

This problem is made worse because economic policy changes take time to work through the economy and the effects are not always predictable. For example, a tax cut may not lead to an increase in spending if households decide to save the extra dispos­able income.

---

Дата добавления: 2015-09-05