The Business Cycle
Identify expansion, peak, contraction, trough, recession, and recovery. Explain how indicators describe economic conditions.
A lesson of Economics, in Macroeconomics, about 10 minutes.
By the end of this lesson, you will be able to describe the phases of the business cycle, identify leading/lagging economic indicators, and explain what causes recessions and expansions.
The Business Cycle
GDP
|
| Peak
| / \
| / \
| / \ Peak
| / Re- \ /
|/ cession \/
Trough Trough
-----------------→ Time
The economy does not grow at a steady rate. It alternates between periods of expansion and contraction — a pattern called the business cycle.
Four phases:
Expansion (recovery): real GDP is growing; unemployment falling; consumer and business confidence rising.
Peak: the top of the expansion; GDP at its highest; unemployment at its lowest.
Contraction (recession): GDP declining; unemployment rising; consumer spending falling. Officially defined as two consecutive quarters of negative real GDP growth.
Trough: the bottom of the contraction; GDP at its lowest; unemployment at its highest.
Measuring the Business Cycle
Leading indicators: change BEFORE the economy does; predict future economic activity.
- Stock market prices
- Building permits
- Consumer confidence index
- Orders for new manufactured goods
- Yield curve (interest rate spread)
Coincident indicators: change AT THE SAME TIME as the economy.
- GDP growth rate
- Employment levels
- Personal income
- Industrial production
Lagging indicators: change AFTER the economy does; confirm a trend.
- Unemployment rate
- Prime lending rate
- Business inventory/sales ratio
Why does the order matter? Policymakers use leading indicators to predict future conditions and adjust policy preemptively.
Causes of Recessions
No single cause explains all recessions. Common triggers:
- Demand shocks: sudden fall in consumer spending (confidence collapses), investment (interest rates rise), net exports (trading partners slow)
- Supply shocks: sudden increase in production costs (oil price spike 1973, 2022)
- Financial crises: bank failures, credit market freezes (2008)
- Asset bubbles bursting: housing (2008), tech stocks (2001)