What is a What is a Business or Business or Economic Economic

Cycle?Cycle?

The Economic CycleThe Economic Cycle

This is a term used to describe the tendency This is a term used to describe the tendency of an economy to move its economic of an economy to move its economic growth away from its trend pathgrowth away from its trend path

Real growth rates are often below or above Real growth rates are often below or above their trendtheir trend

All countries experience these to a greater All countries experience these to a greater or lesser extent or lesser extent

The trend growth rate is what happens on The trend growth rate is what happens on average over the whole economic average over the whole economic cycle/long run. So for U.K our trend growth cycle/long run. So for U.K our trend growth rate is about 2 ½ % whereas China’s is rate is about 2 ½ % whereas China’s is much higher 0ver the last 2-3 decades.much higher 0ver the last 2-3 decades.

So wSo why do Some Countries Grow Faster hy do Some Countries Grow Faster than Others?than Others?

Why do Some Countries Grow Why do Some Countries Grow Faster than Others?Faster than Others?

Often reflects stage of long-run economic Often reflects stage of long-run economic development / maturity- LEDCs can development / maturity- LEDCs can achieve higher growth rates than DCs as achieve higher growth rates than DCs as they catch up…they catch up…

Exploiting natural resources eg oilExploiting natural resources eg oil Faster growth driven by higher levels of Faster growth driven by higher levels of

investmentinvestment Better education systemBetter education system Better GovernanceBetter Governance

What causes economic cycles?What causes economic cycles?

The economy may move away from its trend growth rate The economy may move away from its trend growth rate for a number of reasons:for a number of reasons:

» Demand side shocks such as other countries going Demand side shocks such as other countries going into a recession, or experiencing a boom, will affect into a recession, or experiencing a boom, will affect your economyyour economy

» Asset wealth such as shares and houses can affect Asset wealth such as shares and houses can affect economic growth in short termeconomic growth in short term

» Political uncertaintyPolitical uncertainty

» Supply side shocks such as Oil price increases Supply side shocks such as Oil price increases

Why is the cycle an issue?Why is the cycle an issue?

Large fluctuations in output, employment Large fluctuations in output, employment and prices creates uncertainty for businesses and prices creates uncertainty for businesses and consumers and may reduce the and consumers and may reduce the potential for long term economic growthpotential for long term economic growth

Stability allows for long term planning by Stability allows for long term planning by businesses and encourages investment. businesses and encourages investment.

Characteristics of an Economic Boom

Strong and rising level of aggregate demandStrong and rising level of aggregate demand Often driven by fast growth of consumptionOften driven by fast growth of consumption Rising employment and real wagesRising employment and real wages High demand for imported goods & servicesHigh demand for imported goods & services Government tax revenues will be rising quicklyGovernment tax revenues will be rising quickly Company profits and investment increaseCompany profits and investment increase Increased utilisation rate of existing resourcesIncreased utilisation rate of existing resources Danger of demand-pull and cost-push inflation if the Danger of demand-pull and cost-push inflation if the

economy overheatseconomy overheats

Characteristics of an Economic Recession

• Declining aggregate demand for UK output

• Contracting employment / rising unemployment

• Sharp fall in business confidence & profits

• Decrease in fixed capital investment spending

• De-stocking and heavy price discounting

• Reduced inflationary pressure

• Falling demand for imports

• Increased government borrowing

• Lower interest rates from central bank

Main Tools of Economic Management

Policies used to stabilise economic growth so it does not move too far away from trend rates tend to be Aggregate Demand management policies

Monetary Policy

Changes to short term interest rates

Fiscal Policy

Changes to direct and indirect tax rates

Changes to tax allowances for individuals and companies

Changes to government spending and borrowing levels

Exchange rate manipulation to effect demand for imports and exports

However it is generally agreed upon that Supply side policies are the way to achieve greater trend growth rates (increase economic growth in the long run)

•Policies to increase Aggregate Supply

–Investment Incentives

–Labour Market reforms

–Increased competition

Advantages and disadvantages of Advantages and disadvantages of Demand side policies Demand side policies

Demand management policies cannot Demand management policies cannot achieve everything at once-there will be a achieve everything at once-there will be a trade off. E.g. if you want to reduce trade off. E.g. if you want to reduce inflation by increasing interest rates then inflation by increasing interest rates then this may lead to higher unemployment.this may lead to higher unemployment.

It is not an exact science in that we cannot It is not an exact science in that we cannot say that a certain reduction in interest rates say that a certain reduction in interest rates will lead to a certain increase in economic will lead to a certain increase in economic growth. growth.

They are expensiveThey are expensive They take a long time to workThey take a long time to work

Advantages and disadvantages of Advantages and disadvantages of Supply side policies Supply side policies