Is the economy getting better or worse?

Microeconomics: The study of personal, or small finances. Individuals, families or businesses

Macroeconomics: The study of economic systems on a large scaleNational or Global economies

Def. The total value, of all final goods and services produced within the nation each year

Abbreviated as the GDP

If the GDP is larger than last year the economy is expanding (getting bigger)

If the GDP is smaller, the economy is shrinking (getting smaller)

√ The term The term business cyclebusiness cycle

refers to the recurrent ups and refers to the recurrent ups and

downs in the level of economic downs in the level of economic

activity, which extend over activity, which extend over

several years. several years.

√ √ Individual business cycles Individual business cycles

may vary greatly in duration and may vary greatly in duration and

intensity.intensity.

√ √ All display a set of phases.All display a set of phases.

Business CyclesBusiness Cycles

THE BUSINESS CYCLETHE BUSINESS CYCLEPhases of the Business CyclePhases of the Business Cycle

PEAKPEAK

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RECESSIONRECESSION TROUGHTROUGH RECOVERYRECOVERY

GROWTHGROWTH

TRENDTREND

PEAKPEAK

Time

GROWTHGROWTH

TRENDTREND

√ √ Peak or prosperity phase: Peak or prosperity phase: Real output in the economy is Real output in the economy is at a high levelat a high level Unemployment is low Unemployment is low Domestic output may be at its Domestic output may be at its capacitycapacity Inflation may be high.Inflation may be high.

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√ √ Contraction or recession phase:Contraction or recession phase: Real output is decreasing Real output is decreasing Unemployment rate is rising. Unemployment rate is rising. As contraction continues, inflation pressure fades.As contraction continues, inflation pressure fades. If the recession is prolonged, price may decline (deflation) If the recession is prolonged, price may decline (deflation)

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RECESSIONRECESSIONGROWTHGROWTH

TRENDTREND

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TROUGHTROUGH

GROWTHGROWTH

TRENDTREND

√ √ Trough or depression phase:Trough or depression phase: Lowest point of real GDPLowest point of real GDP Output and unemployment “bottom out”Output and unemployment “bottom out” This phase may be short-lived or prolongedThis phase may be short-lived or prolonged There is no precise decline in output at There is no precise decline in output at

which a serious recession becomes a which a serious recession becomes a

depression. depression.

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RECOVERYRECOVERY

GROWTHGROWTH

TRENDTREND

√ √ Expansionary or recovery: Expansionary or recovery:

Real output in the economy is increasing Real output in the economy is increasing

Unemployment rate is decliningUnemployment rate is declining

The upswing part of the cycle. The upswing part of the cycle.

PeakPeak

TroughTrough

One cycleOne cycle

Recovery

Recovery

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Recession

Recession

TimeTime

PeakPeak

Business Cycle-one cycle through 4 Business Cycle-one cycle through 4 phasesphasesBusiness Cycle-one cycle through 4 Business Cycle-one cycle through 4 phasesphases

The Business Cycle allows people to understand the direction the economy (GDP) is going (growing or shrinking) and plan accordingly.

The economy follows the Business Cycle regularly.

During a period of expansion:Wages increaseLow unemploymentPeople are optimistic and spending moneyHigh demand for goodsBusinesses startBusinesses make profits

When the economic cycle peaks:The economy stops growing (reached the

top)GDP reaches maximumBusinesses can’t produce any more or hire

more peopleCycle begins to contract

During a period of contraction:Businesses cut back production and layoff

peopleUnemployment increasesNumber of jobs declinePeople are pessimistic (negative) and stop

spending moneyBanks stop lending money

When the economic cycle reaches a trough:Economy “bottoms-out” (reaches lowest

point)High unemployment and low spendingStock prices drop

But, when we hit bottom, no where to go but up!

A prolonged contraction is called a recession (contraction for over 6 months)

A recession of more than one year is called a depression

4 variables cause changes in the Business Cycle:

1. Business InvestmentWhen the economy is expanding, sales and

profit keep rising, so companies invest in new plants and equipment, creating new jobs and more expansion. In contraction, the opposite is true

2. Interest Rates and CreditLow interest rates, companies make new

investments, adding jobs. When interest rates climb, investment dries up and less job growth

3. Consumer ExpectationsForecasts of an expanding economy fuels

more spending, while fear of a recession decreases consumer spending

4. External ShocksExternal Shocks, such as disruptions of the oil

supply, wars, or natural disasters greatly influence the output of the economy

Why should you care about the business cycle and economy?

Lots of reasons!

If the economy is going into a contraction, jobs will become more scarce. If you quit, you may not find another job!

But, if the economy is in a period of expansion, jobs are readily available. It may be a good time to switch careers.

Only if you know that you won’t lose your job in a contraction. So, buy your house during an expansion.

HOWEVER, When the economy starts to slow down

(contraction), interest rates will decrease. Wait to buy a house until the rates drop to a low point, if you are sure you won’t lose your job.

What phase of the business cycle do wages go up?

Expansion

What phase of the business cycle do wages go down?

Contraction

When are wages at their highest? Peak

When are wages at their lowest? Trough

When will borrowing decrease? Contraction

When will borrowing increase? Expansion

When will borrowing be at it’s lowest? Trough

When will unemployment be at its lowest? Peak

When will business profits be the highest? Peak

When should you look for a new job? Expansion