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A business cycle refers to a type of fluctuation in a country's overall economic activity - a cycle consists of expansions in many economic activities that occur at approximately the same time, followed by a similar general contraction.
A business cycle refers to a type of fluctuation in a country's overall economic activity - a cycle consists of expansions in many economic activities that occur at approximately the same time, followed by a similar general contraction. This sequence of changes is cyclical, but not regular.
The business cycle is also called the economic cycle.
Essentially, business cycles are characterized by the alternation of phases of expansion and contraction in overall economic activity, and by the coordinated movements among economic variables during each phase of the cycle.
Overall economic activity is proxied not only by real (i.e., inflation-adjusted) GDP, a measure of overall output, but also by aggregate measures of industrial production, employment, income, and sales, which are the key contemporaneous economic indicators used to officially determine the peak and trough dates of the U.S. business cycle.
It is a common misconception that a contraction phase is a recession, and that two consecutive quarters of real GDP decline (an informal rule of thumb) means a recession.
It is important to note that recession occurs during contraction, but not always throughout the contraction phase. Additionally, sequential declines in real GDP are one of the indicators used by the NBER, but it is not the definition the organization uses to determine a recessionary period. [1]2
On the other hand, a business cycle recovery begins when the vicious cycle of a recession reverses and becomes a virtuous cycle, with rising output triggering job growth, higher incomes and higher sales, which in turn push output higher again.
Only when a recovery becomes self-driven can it be sustained and lead to sustained economic expansion, and this domino effect ensures that the recovery spreads throughout the economy.
IMPORTANT NOTE: Of course, the stock market is not the economy. Therefore, business cycles should not be confused with market cycles, which are measured using broad stock price indices.
The severity of a recession is measured by the three Ds: depth, spread and duration. The depth of a recession is determined by the magnitude of the decline from peak to trough in broad indicators of output, employment, income and sales.
Its diffusion is measured by the extent to which it spreads across economic activities, industries and geographical areas. Its duration is determined by the time interval between peak and trough values.
Expansions begin at the trough (or bottom) of the business cycle and continue to the next peak, while recessions begin at the peak and continue to the next trough.
The National Bureau of Economic Research (NBER) determines a business cycle chronologythe beginning and end dates of U.S. recessions and expansions.
Accordingly, its Committee on Business Cycle Dating considers a recession to be "a significant decline in economic activity that spreads throughout the economy, lasts for more than several months, and is typically seen in real GDP, real income, employment, industrial production, and wholesale and retail sales."[3]
Note: There were multiple recessions during the Great Depression, one of which lasted 44 months. [4]
Dating committees often determine the start and end dates of recessions long after the fact. For example, after the 2007-09 recession ended, it "waited until revisions to the National Income and Product Accounts were released on July 30 and August 27, 2010," and announced the June 2009 recession end date on September 20, 2010. [5]
On average, U.S. expansions last longer than U.S. contractions. Between 1945 and 2019, the average expansion lasted about 65 months. The average recession lasts about 11 months. [6]
Between the 1850s and World War II, the average expansion lasted about 26 months and the average recession lasted about 21 months. The longest expansion was from 2009 to 2020, lasting 128 months. [6]
The largest stock price declines tend to occur around business cycle downturns (e.g., contractions and recessions), but not always. For example, the Dow Jones Industrial Average and S&P 500 fell sharply during the Great Recession. The Dow Jones lost 51.1% and the S&P 500 lost 56.8% between October 9, 2007, and March 9, 2009. [7]
There are many reasons for this, but primarily it's because businesses get defensive during contractions and investor confidence declines. Many events occur before people in the economy realize they are in contraction, but the stock market tracks what happens in the economy.
Therefore, if there are speculations or rumors about a recession, large-scale layoffs, rising unemployment, falling output, or other signs, businesses and investors will begin to worry about a recession and act accordingly. Businesses are adopting defensive strategies, reducing their workforces and budgeting for an environment of declining revenue.
Investors flock to "known" capital-preserving investments, demand for expansionary investments declines, and stock prices fall.
It's important to remember that while stock prices tend to fall during economic contractions, that phase doesn't cause stock prices to fallthe fear of a recession causes them to fall.
Generally speaking, a business cycle consists of four distinct phases: expansion, peak, contraction, and trough.
A business cycle describes fluctuations in the economy over a period of time, usually from the beginning of one recession to the beginning of the next. This will include periods of economic growth.
Generally speaking, business cycles are unpredictable. Economies are complex machines that operate in a variety of ways and are intertwined in many ways. The ability to predict how they will move is very difficult. There may be signs of economic change, such as changes in inflation and production, but predicting sweeping changes in the business cycle is difficult, if not impossible.
A business cycle is the time it takes for an economy to go through all four stages of the cycle: expansion, peak, contraction, and trough. Expansion is a period when corporate profits increase and economic output rises. It is also the stage in which the U.S. economy spends the most time. Contraction is the period when profits fall and output declines, and is the phase that takes the least amount of time.
[1] Federal Reserve Bank of St. Louis. "All About the Business Cycle: Where Do Recessions Come From?"
[2] The National Bureau of Economic Research. "Business Cycle Dating."
[3] National Bureau of Economic Research. "The NBER's Recession Dating Procedure."
[4] Congressional Research Service. "Introduction to U.S. Economy: The Business Cycle and Growth," Page 1.
[5] National Bureau of Economic Research. "Business Cycle Dating Committee, National Bureau of Economic Research."
[6] Congressional Research Service. "Introduction to U.S. Economy: The Business Cycle and Growth," Page 2.
[7] Federal Reserve Bank of Atlanta. "Stock Prices in the Financial Crisis."
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