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Business_Cycle_Theory.ppt
- 3. Measuring the Economy
• Every economy wants 3 things:
1. Growth
2. Stabilized Prices
3. Limited Unemployment
©2012, TESCCC
- 4. Objectives
1. Describe phases of business cycle
2. Identify and explain the factors that
cause business cycles
3. Analyze how economists use
business cycle theory to predict what
is going to happen
4. Analyze how the government uses
predictions to make public policy
©2012, TESCCC
- 5. HOW DO WE MEASURE?
©2012, TESCCC
1. GROWTH Business Cycle and GDP
2. STABILIZED PRICES CPI (Consumer Price Index)
3. UNEMPLOYMENT Natural Rate of Unemployment
- 6. Business Cycle Theory
A free market economy does not grow at a constant rate. It
goes through a series of expansions and contractions.
These fluctuations are called business cycles. Business
cycles reflect patterns to the general level of economic
activity or the level of production of goods and services
(GDP). Since this is a pattern it keeps repeating itself.You
can see the business cycle activity from 1914 to 1992 below
in the graph.
©2012, TESCCC
- 10. Contraction or Recession
For a contraction to be a true
recession, you must see 2
consecutive quarters or six
months of declining real
GDP.
©2012, TESCCC
- 11. Expansion Phase
1. GDP
2. Durable goods
3. Factory orders
4. Raw materials orders
5. Unemployment
6. Consumer confidence
7. problem: inflation
©2012, TESCCC
- 12. Contraction or Recession
1. Demand
2. GDP
3. Durable goods
4. Factory orders
5. Unemployment
6.Consumer confidence
7. problem: unemployment.
©2012, TESCCC
- 13. Causes
• There are several things that may
lead to fluctuations in the
economy. Some are within the
economy and we call them
internal factors. Some are
outside the economy and we call
them external factors.
©2012, TESCCC
- 14. Internal factors (within the
economic system)
1. Business Investment
In an expanding economy firms
invest in new capital goods. This
investment spending creates new
jobs and growth. If firms decide to
halt investment, this slows the
economy down and can cause
unemployment.
©2012, TESCCC
- 15. 2. Interest Rates and Credit
When interest rates go up, consumers
will not make big ticket purchases.
Lower demand slows down economy.
When interest rates go down we see
more purchases being made – causing
growth.
©2012, TESCCC
- 16. 3. Consumer Expectations
Fears of the economy slowing down can
cause consumers to stop spending. This
will then actually slow down the
economy.
If consumers feel confident about the
economy, they spend more. Spending
more can cause growth.
©2012, TESCCC
- 17. External factors (outside the
economic system)
External Shocks
These are factors outside the economic
system, but they can cause fluctuations in
business activities. Examples include:
wars
natural disasters
foreign economies
9/11
©2012, TESCCC
- 23. 1. Inflation - a rise in the general level
of prices
-value of the dollar decreases.
2. Deflation - a decline in the general
level of prices”
©2012, TESCCC
- 26. 1.Demand-pull inflation: “too many dollars
chasing too few goods”
aggregate demand > aggregate supply
AD2
AD1
AS1
PL1
Q1 Q2
PL2
GDP
©2012, TESCCC
- 27. 1. Demand-pull inflation: all sectors of the
economy contribute to demand-pull inflation.
Aggregate demand is C+I+G so the household
sector, the business sector and the government
sector contribute to too much aggregate demand.
AD2
AD1
AS1
PL1
Q1 Q2
PL2
GDP
©2012, TESCCC
- 28. 2. Cost-push inflation: cost of producing
goods rises
(ex. cost of inputs
increases)
AD1
AS1
Q1
PL1
GDP
©2012, TESCCC
- 29. 2. Cost-push inflation: cost of producing
goods rises
(ex. cost of inputs
increases). This is
more harmful because
not only does the PL
go up, output or GDP
declines.
AD1
AS1
PL2
Q1
AS2
PL1
Q2
GDP
©2012, TESCCC
- 30. Causes of Inflation
There are several factors that can cause
or lead to one of the major types of
inflation.
©2012, TESCCC
- 31. 1. Wage-price spiral . . .
– prices rise
– workers want raises to pay higher prices
– prices go up b/c workers paid more money
– workers want raises to pay higher prices
– prices rise
– higher wages
– ETC. . .
©2012, TESCCC
Related to cost-push inflation
- 32. 2. Government deficit or deficit
spending
“crowding-out effect”
– related to demand-pull inflation
©2012, TESCCC
- 33. 3. Quantity Theory
• Quantity theory of inflation- Milton
Friedman and University of
Chicago economists
(Monetarists) stated that too
much money in the economy
causes inflation. The money
supply is growing; leave it alone --
Fed should not increase or
decrease.
©2012, TESCCC
- 35. 1. The dollar buys less
purchasing power decreases
©2012, TESCCC
- 36. 3. Distribution of income is altered
• lenders hurt (money paid back
worth less)
• borrowers helped (used $ when
worth more)
©2012, TESCCC
- 37. 2. Spending habits change,
interest rates rise (won’t get loans
for big ticket purchases)
©2012, TESCCC
- 41. Cost Of Living Adjustments
COLA’s
automatic
adjustments to
wages each year
that takes into
account the rate
of inflation
©2012, TESCCC
