What is the Business Cycle?

What is the Business Cycle?

Finding the answer to the question: “What is the business cycle?” is significant as it’ll help you comprehend the economy’s condition. In any economy, no business has a straightforward path to success. Every country experiences periods of economic growth and decline.

The business cycle, also called the economic cycle, is the rise and fall of the growth of an economy. And it comes in four phases: expansion, peak, contraction, and trough.

The National Economic Accounts in Canada measures it by means of the gross domestic product (GDP). Every nation that practices capitalism must undergo this cycle. It is natural. Therefore, all economies must experience this fluctuation.

An important thing to note is that business cycles are natural and can happen anytime. Every economy will go through ups and downs. This article will discuss everything you should know about this all-important cycle, and more.

What is the business cycle?

Let us answer the question: what is the business cycle? The term “business cycle” refers to a pattern of economic activity in a country’s economy. We often divide it into four phases: expansion, peak, contraction, and trough.

Economists have pointed out that the length of a complete business cycles varies. However, they can last between two to twelve years, with most cycles lasting six years on average.

Also, some business analysts have adopted a cycle model to examine and clarify business inventory variations and other corporate operations aspects. However, the phrase “business cycle” still primarily refers to a more significant business pattern.

Features of the business cycle

We now know the answer to the question: what is the business cycle? Let’s explore its features. The four phases of business cycles have some features that are common to each of them. Let’s get into it:

They occur occasionally

These phases come and go, as explained. There is no exact time at which any of them occur. The time they appear depends on the economy’s industries. These phases can last from 2 to 12 years. A company can experience rapid development alongside a brief, shallow slump phase.

They affect every sector

A business cycle will have adverse effects on all significant economic sectors. Certain businesses, such as the consumer and capital goods industries, may be highly affected.

Thus, investing in and consuming capital goods and long-lasting consumer products bear the greatest cyclical brunt. In general, non-durable commodities do not experience these issues.

They operate together

The phases of business cycles operate at the same time. They are not exclusive to a particular company or industry. They have their roots in the free market and are prevalent in existence. When there is a problem in one business, it soon spreads to all the others until it eventually covers the entire community.

They affect other departments

The output of products and services is just one aspect of business cycles. It also impacts all other factors, including price levels, investment activity, employment, interest rates, and many more.

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Phases of the business cycle

Besides knowing the business cycle, we must understand the phases in which it comes. For instance, an extended period of economic contraction always follows an extended period of economic growth.

This cycle has four distinct phases you can identify throughout its lifetime. They are expansion, peak, contraction, and trough.

Expansion phase

Expansion is a time when the economy experiences growth. Therefore, there’s an increase in productivity. During this period, businesses thrive with their production and profit growth, the stock market is doing well, and the unemployment rate is minimal.

Here, customers keep buying and investing, making the demand for goods and services on the high side. With this, the prices begin to increase too.

In addition, a nation’s gross domestic product is used to measure the economy’s output. In the expansion phase, an economy is healthy when the GDP is at 2%, unemployment is 3.5%-4.5%, inflation is at 2%, and the stock market is in a bull market state.

Peak phase

This is the second phase of the business cycle, where the numbers begin to rise above their healthy figures. Here, the prices of things start to escalate as businesses begin to overgrow. Investors are overconfident, buying assets and pushing their prices up, which isn’t supported by their underlying value.

The peak phase is the highest point where production and pricing have reached the maximum. Now is where it turns back down, as there’s no other way to move forward, resulting in a contraction.

Contraction phase

This is the period between the peak and the trough. It is the third phase of the business cycle. During this period, every activity in the economy goes down, and there’s an increase in unemployment. GDP falls 2%, and stocks result in a bear market, indicating that businesses are now falling.

The economy begins to experience a recession when its GDP falls in two consecutive quarters. The end of a recession period doesn’t guarantee that an economy is finally in good shape.

Trough phase

This is the lowest point of the business cycle phase. It happens after a recession and wants to move to an expansion phase again. Economic recovery is a complex one. It takes a while to fully recover and start the cycle all over again.

What causes the business cycle?

Still on the question: What is the business cycle? Let’s look at some of the factors that trigger it. Many factors can cause this cycle to take place. Let’s look at some of them.

Interest rates

When there’s a fluctuation in interest rates, it affects the business cycle. With high rates, it’s difficult for businesses to borrow money, which hinders growth in the long run.

Government policy

This is one of the most significant factors that cause a business cycle. Taxation and regulations can have positive and negative effects on it.

Customers spending

When a nation begins to fall into economic uncertainty, consumer spending helps with the effect. The hesitation to spend money can result in a decline in business, which negatively impacts the economy.

Investment

Business investment plays a vital role in the business cycle. With the investment in new products and growth, the economy will experience an increase in output.

Business cycle vs market cycle

Earlier in this article, we answered the question: What is the business cycle? Here we’ll look at the market cycle and how both connect.

Although both terms are often used in place of each other, they’re different. The business cycle refers to the entire economy. In contrast, the market cycle is the stock market’s specific addition and reduction stages.

There is a connection between the business cycle and the market cycle. However, the business cycle has a significant influence on the stock market.

Investors sell their assets during a cycle’s contraction phase, lowering stock prices and producing a bear market. In contrast, during the expansion phase, investors binge buy, driving up stock values and resulting in a bull market.

What influences the business cycle?

Answering the question: “What is the business cycle?” won’t be complete without looking at what influences it. The government and legislation monitor and control the business cycle by implementing taxes and spending changes.

They increase taxes and decrease spending during the expansion phase of the economy. Meanwhile, when an economy is in its contraction phase, they reduce taxes and increase spending. This is what we refer to as fiscal policy.

The country’s central bank influences the business cycle by using specific rates to impact inflation and unemployment. They do this through monetary policy, utilizing tools for an interest rate change and borrowing by banks, customers, and businesses.

During a trough or contraction period, the government implemented measures like interest rate reduction to encourage borrowing. We refer to this as the “expansionary monetary policy,” simply trying to move the business cycle into the expansion stage.

There is usually a rise in the interest rates of the nation’s central bank. This is to discourage spending and borrowing from preventing rapid growth. Here, the bank pushes to control expansion while contracting the economy’s output. This act is referred to as the “contractionary monetary policy.”

It is worth noting that monetary and fiscal policy helps an economy grow at a balance. By doing so, there are enough jobs out, and inflation is under control.

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How to manage a business cycle successfully

Moving on from the question: What is the business cycle? We should look at the steps that can help manage it successfully. Business cycle management refers to the measures you put in place to deal with the cycles with minimal damage.

There are steps that business owners can take to make sure their business doesn’t go down the slide during business cycles. Let’s look at some valuable tips that can do the trick.

Pay attention to customers

Although often ignored, this is an essential factor to consider if you want to manage the business cycle properly. Getting close to customers during good times can be difficult. Still, it’s even more critical when escaping a bad situation.

One way to determine your upturn is to ask your customers. They are the ones that can give you a head start on whether they plan to place a large order soon. This is mainly for those in the commercial and industrial sectors.

Be flexible

Another way to manage the business cycle is to have a flexible business plan, which gives rise to development. A crucial part of growth management is to have a flexible business strategy.

This lets development schedules cover the whole cycle and includes different ways to get funding that can be used when the economy is bad.

Study

It can be challenging to know when to take any action during an upturn, and there are severe consequences of either being early or late. Take, for example, you grow a sales force in the absence of demand. This will put heavy needs on working capital and make the salespeople unmotivated.

A reduced market share and customer base will result if the force is improved late. How do businesses now find the balance between being early and late? To get a hold of the situation, it’s helpful to learn from economists but not solely rely on them.

Therefore, the best thing to do is avoid trying to predict the upturn. Instead, study your customers’ needs while being aware of your response-time needs.

Be objective

Operational decisions made in times of economic downturn can destroy businesses. This is if they are based on wishes and hopes rather than a realistic analysis of the facts. Therefore, business owners or investors must remain objective throughout the business cycle phases.

What is the business cycle conclusion

Now, you fully understand the question: What is the business cycle? This knowledge will go a long way in helping both individuals and investors.

Although it might look like what affects only the economy, it gets tough on everyone. When you understand the stages of the cycle and its contributing factors, your business will experience growth.

Being proactive and informed will help your business stand firm through all the business cycle stages, especially in difficult times.

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FAQs about what is the business cycle

What is the duration of business cycles?

Although business cycles don’t have an exact time length, as they can be short or long, they can last up to an average of 6 years. Implementing different monetary and fiscal policies can help create a balance while the economy adjusts.

Who measures business cycles?

Statistics Canada takes that responsibility for measuring business cycles in the country. It is a non-profit organization whose committee uses the quarterly GDP growth rate to determine the beginning and end of a business cycle.

What causes business cycles?

The change in a country’s GDP can cause a rise and fall in its economy. Exchange rate, credit cycle, housing prices, monetary policy and income effect are some demand factors contributing to business cycles. Unemployment, population, inventory cycle, labour market conditions, financial instability, and technology changes are supply factors that affect the economy.

What are the factors that can shift the business cycle?

Several things can shape a business cycle. The congressional research service makes us understand that all the main factors are an economy’s total demand and supply. Therefore, an increase in demand signifies an expansion, while a decrease signifies a contraction.

How can I prepare my business for the business cycle?

As a business owner, you must understand the business cycle's impact on your business. Pay attention to policy changes and economic indicators to prepare for future economic fluctuations.

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March 31, 2023
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