Business cycle
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The document discusses several theories of business cycles: 1. Keynes defined business cycles as periods of good trade characterized by rising prices and low unemployment alternating with periods of bad trade with falling prices and high unemployment. 2. Hawtrey's monetary theory argues that business cycles are caused by the expansion and contraction of bank credit, which increases or decreases monetary demand and leads to boom or recession periods. 3. Schumpeter's theory is that innovation drives economic fluctuations as entrepreneurs introduce new products and technologies, initially disrupting existing equilibrium and business patterns before new stability emerges.
Business cycle
- 1. Business Cycle It refers to phenomenon of cyclical booms and depressions. According to Keynes “ A trade cycle is composed of periods of good trade characterised by rising prices and low unemployment percentages, altering with periods of bad trade characterised by falling prices and high unemployment percentages.
- 2. Phases of a Business cycle Recovery or Expansion Phase: This phase starts after depression has lasted for some time and due to either exogenous or endogenous forces revival starts. This phase is characterised by steadily increase in level of employment, income and output. Prosperity: Demand, output, employment and income are at a high level. They tend to raise prices but wages and salaries do not rise to that extent as a result profit margin rises.larger profit expectations further rises investment. This peak may lead to over full employment in the economy and inflationary rise in prices. It is a symptom of the end of prosperity phase.
- 3. Phases……… Recession: Downward descend from the peak which is of short duration. Its signs are liquidation in the stock market, strain in the banking system, liquidation of bank loans, and decline of prices. As a result of this profit margins decline further. Investment, employment, incomes and demand declines. Depression: General declines in economic activity.Considerable reduction in the production, employment, income, demand and prices.Bank rate falls considerably.
- 4. Hawtrey’s Monetary theory of Business cycle According to him trade cycle is purely a monetary phenomenon as non monetary factors such as droughts and floods cause only a partial depression. Cyclical fluctuations are at the best caused by the contraction and expansion of credit by the banks which in turn leads to increase or decrease in the flow of monetary demand on the part of producers and traders. Recovery phase starts when the bank expand the credit facilities. Demand on the part of producers will ultimately lead to the conditions of boom. Boom period continue only for some time and it comes to an end when money with the bank is exhausted. From this point recession starts. People start repaying bank loans by selling their stocks and liquidating their assets. Thus money with the bank increases and that with the public reduces. This starts depression in the economy.
- 5. Schumpeter’s Theory of innovations He believes that innovation is the source of economic fluctuations. Trade cycles are the outcome of economic development in a capitalist society. There are two stages in this model. The first stage deals with the initial impact of innovation and the second stage follows through reactions to the original impact of innovation. In the first stage every factor is fully employed and producing efficiently. There are no savings and investment. This equilibrium is called as circular flow by Schumpeter. This circular flow is broken by Innovation in the form of product, new method of production, new market, new source of material or new method of managing industry by an entrepreneur.
- 6. The first stage consists of a two phase cycle. The second stage consists of a four phase cycle.