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What is a Business Cycle?

2017-04-29T07:26:14+00:00

The term 'Business Cycle' is included in the Economics edition of the Financial Dictionary. Get yours now on amazon in ebook or paperback format. Read more here...

Business Cycle refers to changes in economic activity which economies around the globe undergo in a certain time-frame. Such cycles are generally framed under the concepts of recession or expansion. When an economy is expanding, it is growing in true terms, which means faster than inflation. This is demonstrated with economic indicators such as industrial production, personal income levels, employment levels, and consumer goods sales.

Conversely in times of economic recession, the economy is shrinking. Economists measure this with the same economic indicators as with expansion. In expansions, analysts measure the period from the bottom called the trough of the prior business cycle to the height (or peak) of the present cycle. With recessions, they instead measure them from the peak up to the trough.

There are organizations which decide what the official technical dates for any such business cycles actually are. Within the U.S., the group that makes these calls is the NBER National Bureau of Economic Research. The American NBER has decided for official purposes that fully 11 business cycles have occurred between the years of 1945 and 2009. They have also broken down the average times of such cycles.

The average business cycle length has run approximately 69 months. This means that they typically last for slightly under six years. Meanwhile, the average expansion in that time frame has run for 58.4 months long. In the same time period, the average length of contraction has amounted to a mere 11.1 months. This is good news as recessions or contractions are often painful and sometimes deep, bringing unemployment and financial hardship on millions of individuals.

The business cycle is also useful for investment positioning. Personal investors can effectively utilize it to allocate and position their various investments and funds. Looking at an example helps to clarify this idea. When an expansion is underway in the early months and years, the best cyclical stocks in different industries like technology and commodities usually outperform the other sectors. Within the recessionary periods, it is more effective to position in defensive sectors. These include consumer staples, health care, and utilities. Such segments commonly outperform their peers as they possess high and dependable dividend yields and reliable cash flows.

The NBER declared (per January of 2014) that the prior expansion began at the end of the Global Financial Crisis and Great Recession which ended officially in June of 2009. This represents the point when the Great Recession that held from years 2007 to 2009 attained its trough.

Economists consider that expansion is the normal mode of the American and Western based economies. Recessions are commonly far shorter and less frequent as well. Many people have wondered why recessions must happen. There is no general consensus among economists. Usually though, a definitive and destructive pattern of speculation that becomes carried away reveals itself in the end stages of the prior expansion. This is the case with many different business cycles.

As an example, the recession from 2001 had a mania which former Federal Reserve Chairman Alan Greenspan referred to as “Irrational Exuberance” that came before it. In this time, the various technology and especially “dot-com” stocks went from boom to bust in a short matter of months. Similarly the recession of 2007 to 2009 came after a time when real estate activity, primarily in housing, had experienced its greatest speculation in American history.

Since the 1990s began, the average time span for expansions has grown substantially. With the last three business cycles that ran from July of 1990 through June of 2009, the average expansion ran for 95 months, nearly eight years. At the same time, the typical recession lasted around 11 months. Some overly optimistic economists believed that this somehow meant the business cycles were finished.

This euphemistic hope became dashed when the world financial markets, banks, and economies melted down in spectacular free fall from 2007 to 2009. During this terrible time in the global economy, the majority of stock markets throughout the world suffered eye-watering declines exceeding even 50 percent in only 18 months. This amounted to the most severe contraction worldwide since the Great Depression of the 1930s.

The term 'Business Cycle' is included in the Economics edition of the Financial Dictionary. You can get your copy on amazon in Kindle or Paperback version. See more details here.