7.2 Impact of Economic Cycle

Hanumant Dhokle

ECONOMIC CYCLE

The national output in India or of any country’s economy does not rise or fall at a uniform rate. Our economy experiences a regular trade or business cycle wherein the rate of growth of production, income and spending fluctuates over time. Statisticians calculate annual and quarterly movements in national output and these are then tracked to measure the cyclical movement of the economy. All the stages in a business cycle are not decided by the government or any other influencing body, but by the markets and the demand-supply factors. So it is very important, as a first step, to predict the phase of an economy in which you are going to invest.

Phases Of Economic Cycle

Let us understand the different phases of these business cycles. A country’s economy doesn’t grow continuously but grows with different phases for a period of time making it as one economic cycle. Following are the important phases of business cycles in the economy of a country:

  • Growth
  • Boom
  • Recession
  • Depression

So the cycle will always move from economic boom to economic slowdown then to economic recession and to economic recovery. The relevance of learning the stage of the cycle in an economy is very important for any investment. This cyclical movement is an inevitable self-correcting mechanism of any free-market economy. As India moved away from a failed centrally planned economic system called as socialism to a liberalised policy, the impact of these business cycles will be more prominent in the years to come.

Economic Growth And Boom

This is a phase wherein a country's economy has a roller-coaster ride with all-round optimism reflected through growing output, income level, GDP, employment opportunities, active lending and borrowing, and low rate of inflation. This phase is initiated by the recovery of the economy. The US had this phase in the Nineties and India got into this phase in the new millennium with the slogan ‘India is Shining'.

A boom occurs when national output rises strongly at a rate faster than the trend rate of growth (or long-term growth rate) of the country. In boom conditions, output and employment are both expanding and the level of aggregate demand for goods and services is very high. Typically, businesses use the opportunity of a boom to raise the output and also widen their profit margins.

The characteristics of an economic boom are:

  • Strong and rising level of aggregate demand - often driven by fast growth of consumption.
  • Rising employment and real wages.
  • High demand for imported goods and services.
  • A rise in government tax revenues.
  • Company profits and investment increase.
  • Increased utilisation rate of existing resources.
  • Danger of demand-pull and cost-push inflation if the economy overheats.

Economic Recession And Depression

A recession means a fall in the level of real national output i.e. a period when the rate of economic growth is negative. The national output declines, thereby leading to a contraction in employment, incomes and profits. It is a phase wherein a significant decline in economic activity spreads across the economy, lasting more than a few months. It is normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales. A lengthy recession cycle would lead to depression. The US economy is said to be in the recession stage as it is characterised by a fall in industrial output, income levels, growth and unemployment.

The characteristics of economic recession are:

  • Declining aggregate demand for country's output.
  • Contracting employment / rising unemployment.
  • Sharp fall in business confidence and profits and a decrease in capital investment spending.
  • De-stocking and heavy price discounting.
  • Reduced inflationary pressure and falling demand for imports.
  • Increased government borrowing and lower interest rates from the central bank.
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