Business cycle

The term business cycle (or economic cycle) refers to economy-wide fluctuations in production or economic activity over several months or years. These fluctuations occur around a long-term growth trend, and typically involve shifts over time between periods of relatively rapid economic growth (expansion or boom), and periods of relative stagnation or decline (contraction or recession).
These fluctuations are often measured using the growth rate of real gross domestic product. Despite being termed cycles, these fluctuations in economic activity do not follow a mechanical or predictable periodic pattern.

In 1860, French economist Clement Juglar identified the presence of economic cycles 8 to 11 years long, although he was cautious not to claim any rigid regularity.[2] Later, Austrian economist Joseph Schumpeter argued that a Juglar cycle has four stages: (i) expansion (increase in production and prices, low interests rates); (ii) crisis (stock exchanges crash and multiple bankruptcies of firms occur); (iii) recession (drops in prices and in output, high interests rates); (iv) recovery (stocks recover because of the fall in prices and incomes). In this model, recovery and prosperity are associated with increases in productivity, consumer confidence, aggregate demand, and prices.
In the mid-20th century, Schumpeter and others proposed a typology of business cycles according to its periodicity, so that a number of particular cycles were named after their discoverers or proposers: [3]the Kitchin inventory cycle of 3–5 years (after Joseph Kitchin);the Juglar fixed investment cycle of 7–11 years (often identified as 'the' business cycle);the Kuznets infrastructural investment cycle of 15–25 years (after Simon Kuznets);the Kondratieff wave or long technological cycle of 45–60 years (after Nikolai Kondratieff).
Interest in these different typologies of cycles has waned since the development of modern macroeconomics, which gives little support to the idea of regular periodic cycles.
Business cycles after World War II were generally more restrained than the earlier business cycles. Economic stabilization policy using fiscal policy and monetary policy appeared to have dampened the worse excesses of business cycles. Automatic stabilization due to the aspects of the government's budget also helped defeat the cycle even without conscious action by policy-makers.

The explanation of fluctuations in aggregate economic activity is one of the primary concerns of macroeconomics. The most commonly used framework for explaining such fluctuations is Keynesian economics. In the Keynesian view, business cycles reflect the possibility that the economy may reach short-run equilibrium at levels below or above full employment. If the economy is operating with less than full employment, i.e., with high unemployment, then in theory monetary policy and fiscal policy can have a positive role to play rather than simply causing inflation or diverting funds to inefficient uses.
Keynesian models do not necessarily imply periodic business cycles. However, simple Keynesian models involving the interaction of the Keynesian multiplier and accelerator give rise to cyclical responses to initial shocks. Paul Samuelson's "oscillator model" is supposed to account for business cycles thanks to the multiplier and the accelerator. The amplitude of the variations in economic output depends on the level of the investment, for investment determines the level of aggregate output (multiplier), and is determined by aggregate demand (accelerator).
In the Keynesian tradition, Richard Goodwin accounts for cycles in output by the distribution of income between business profits and workers wages. The fluctuations in wages are the same as in the level of employment, for when the economy is at full-employment, workers are able to demand rises in wages, whereas in periods of high unemployment, wages tend to fall. According to Goodwin, when unemployment and business profits rise, the output rises.
Keynesian economist Hyman Minski has proposed a explanation of cycles founded on fluctuations in credit, interest rates and financial frailty. In an expansion period, interest rates are low and companies easily borrow money from banks to invest. Banks are not reluctant to grant them loans, because expanding economic activity allows business increasing cash flows and therefore they will be able to easily pay back the loans. This process leads to firms becoming excessively indebted, so that they stop investing, and the economy goes into recession.
Keynesian views have been challenged by real business cycle models in which fluctuations are due to technology shocks. This theory is most associated with Finn E. Kydland and Edward C. Prescott. They consider that economic crisis and fluctuations cannot stem from a monetary shock, only from an external shock, such as an innovation.
Following the tradition of Adam Smith and David Ricardo mainstream economists have usually viewed the departures of the harmonic working of the market economy as due to exogenous influences, such as the State or its regulations, labor unions, business monopolies, or shocks due to technology or natural causes (e.g. sunspots for S. Jevons, planet Venus movements for H. L. Moore). Contrarily, in the heterodox tradition of Sismondi, Juglar, and Marx the recurrent upturns and downturns of the market system are an endogenous characteristic of it.