Business Cycle Phases and Trends

Business Cycle Phases

• Phases of the Economy

  • Expansion

    • Economy is experiencing an upswing.

    • Activity levels are above potential output.

    • Positive output gap starts to narrow.

    • Consumers are entering the market and spending.

    • Businesses are more confident, leading to increased hiring but at a slower pace.

  • Peak

    • Economy reaches its maximum output level.

    • Activity levels surpass the average growth rates.

    • Businesses start showing signs of deceleration in growth.

    • Inflation may begin to pick up modestly due to increased demand.

  • Slowdown (Contraction)

    • Economy weakens; potential to enter a recession.

    • Negative output gap opens, indicating that the economy is underperforming.

    • Activity measures show below-average growth rates, indicating declining consumer confidence and spending.

    • Businesses begin to cut hours, eliminate overtime, and freeze hiring leading to layoffs.

    • Unemployment rate starts to rise.

  • Trough

    • The lowest point of the economic cycle where the economy transitions from contraction to recovery.

    • Negative output gap is at its widest, showing the lowest employment and spending levels.

    • Unemployment remains higher than average.

  • Recovery

    • Economy begins to grow again, moving towards expansion.

    • Unemployment rate stabilizes and starts to fall gradually.

    • Inflation remains moderate, with growth picking up modestly.

    • Businesses rely on overtime before making new hires.

Employment Trends

• During Expansion

  • Businesses continue hiring at an increasing rate, leading to lower unemployment.

• During Slowdown

  • Businesses cut down on hiring, leading to layoffs and a rise in the unemployment rate.

  • Initial response to slowdowns includes cutting hours and reducing overtime.

• During Recovery

  • Employment begins to rise as businesses gain confidence.

  • Unemployment rates continue to fall, but initially at decreasing rates.

Inflation Trends

• During Expansion

  • Inflation remains moderate as demand begins to outpace supply.

• During Peak

  • Inflation starts to pick up due to excess demand.

• During Trough

  • Inflation tends to decelerate but may lag due to slow economic activity.

• During Recovery

  • Inflation could rise again as the economy regains its footing and demand increases.

Leads and Lags in Business and Consumer Decision Making

• Leads: Actions taken by businesses ahead of economic changes to maximize opportunities (e.g., expanding production during expected growth).

• Lags: Responses by businesses and consumers that occur after economic shifts have begun (e.g., delaying hiring until after clear indicators of growth).