1) The business cycle refers to periodic fluctuations in economic activity between periods of expansion and contraction. 2) It involves four phases - prosperity, peak, downturn/recession, and recovery. 3) Various theories have been proposed to explain the business cycle, including the monetary, psychological, innovation, and Keynesian theories. 4) Keynes argued that decreases in aggregate demand are the primary cause of depression and unemployment. Investment can be used to increase aggregate demand and reduce downturns in the short run.

1. Theories of Trade cycle/business
cycle
Presented by:
Pahul mahajan
Pearl arora
Rubbaljeet kaur
Sagar pruthi
Sakshi goomer
Shivani bedi

2. Introduction of trade cycle
• It is a cyclic process
• It refers to ups and downs in the level of
economic activity
• It is a period during which trade expands then
slow down and then expands again

3. Phases of business cycle

4. Cont’d
• Prosperity or boom
• Peak
• Downturn or recession
• Recovery

5. Reasons for expansion
Rise in national output
Rise in consumer & capital expenditure
Rise In the price of raw materials and finished
goods
Rise in the level of employment

6. Reasons for recession
• Due to Discrepancy between demand and supply
• Which Leads to decline in investment
• Decline in income
• Decline in consumption and production
• Employment rate falls
• Demand for consumer and capital goods
decreases
• Borrowings decreases
• Unemployment increases

7. Reasons for depression
INTRO- It marks the end of pessimism and
beginning of optimism and the process begins in
the labour market, phase of trough is reached
 Fall in the stock prices comes to end
 Optimism takes the way in the stock market
 Investment increases
 Employment gradually increases
 Recovery in production and wage income
 Consumption of consumer and capital goods
increases

8. Reasons for recovery
• Employment is generated in construction
sector
• Wage income further increases
• Consumption expenditure increases
• Factors of production are being fully employed
• Consumption of durable goods and variety
items goes up

9. Theories of trade cycle/business cycle
1) Climatic or Sunspot theory
2) The psychological theory
3) Innovation theory
4) Monetary theory
5) Over-investment theory
6) Over-production theory
7) Keynes’ theory

10. Sunspot theory
Offered by Mr . Jevan.
Trade cycles are caused by sun spots.
Sunspots appear on the face of the sun.
Almost at regular intervals of 10.4 years.

11. SPOT APPEARS
SUN EMITS LESS HEAT
CROP YIELD WILL BE LOW
INCOME OF FARMER FALLS
LESS PURCHASING POWER

12. Drawback
• Based on only agro based theory
• Good or bad crop can only be one factor of
depression or expansion but they cannot
account for all the features
• The trade cycle occur at regular intervals of
10.4 years, while length of the trade cycle is 7
to 8 years

13. The psychological theory
 Given by professor PIGOU
 Trade cycles are caused by the optimistic and
pessimistic attitude of the businessman
OPTIMISTIC
 Brisk businessman earn high profits and expands
the investment and production
 Overestimate the future demand of goods and
increase the production

14. Psychological theory (cont’d)
PESSIMISTIC
businessman puts less investment and less
production
Rate of employment and rate of profit
decreases
Supply exceeds the demand so price falls.

15. Drawbacks
• Considers only psychological views of
businessman
• Ignore other factors

16. Monetary theory
• Takes money supply into consideration
• Deals with money expansion and contraction
• Money contraction - demand falls, rate of
interest increases- decreased borrowings
• Money expansion – demand rises, rate of
interest decreases- increased borrowings

17. Criticism
• Trade cycle is not purely monetary
phenomenon
• It is world wide phenomenon

18. Innovation theory
• Innovation can be of various types
• 1-new product
• 2-new market
• 3-niche market
• 4-new technology
• 5-new source of raw material

19. Innovation theory
• Innovation leads to more production
• Ultimately increase in aggregate demand
• Further increase in income of business

20. Drawback of innovation theory
The full employment assumption is unrealistic.
Bank is not the only source of finance for every
innovation in business.
Many times the profits are ploughed back to
finance innovations.
Innovation cannot be the sole cause of business
cycle.

21. Over investment theory
• Natural rate of interest is determined at a
point where savings(voluntary)= investment
• if market ROI < natural ROI
then,businessman demands more
investment,capital,more prod.,more
income,more labour,more demand

22. Cont’d
• If market ROI> natural ROI
then reduction in capital demanded , less prod.
, less labour , less income , less demand

23. Over prod. theory
• If economic system is capitalism,all the
entrepreneurs wants to produce goods which
are profit making
• Leads to high competition because of entry of
new firms
• Profit making possibility : high
• Due to over production activity, initially
everything increases

24. Cont’d
Thereafter as a result firms starts withdrawing
resulting in
Less demand
Less income
Less production
Less labour

25. Keynes theory
1)concept of marginal efficiency of capital(mec)
MEC:-
rate where price of capital=yield from capital
Example: buying of a machinery- how much
return will we get in the coming years
2)Says that depression & unemployment is there
because there is decrease in the aggregative
demand.

26. • Now aggregative demand can be increased:
1.investment 2.consumption
and we know in short run consumption cant be
increased….but so can investment
SO,by controlling the investment, depression &
unemployment can be reduced in the short
run.

27. 3) Yield depends on the expectations
(psychology):: yield is the only factor affecting
MEC and yield is affected by the psychology of
the entrepreneur….

28. Possible causes of trade cycle
• MEC & efficiency cant be the only
reasons………
• therefore al the theories have an equal
impact on the trade cycle….