Business Cycles: Nargiz Heydarova

Business cycles
Nargiz Heydarova
 recession a period of declining real incomes and rising unemployment. The
technical definition gives recession occurring after two successive quarters of
negative economic growth
 depression a severe recession
 business cycle the fluctuations in economic growth around trend growth
 time series data observations on a variable over a time-period and which are
ordered over time
GDP growth (annual %) - Azerbaijan
peak where economic activity

reaches a high and real output begins
to decline
trough where economic activity
reaches a low and the decline ends
contraction when real output is
lower than the previous time period
The difference between a peak and a
trough in the business cycle and
trend output is called the
amplitude.
Trends
 Trend the underlying long term movement in a data series

 Trends can demonstrate patterns over a period which can be described as
stationary and nonstationary.
 Stationary data are time series data that have a constant mean value over
time, whereas nonstationary data are time series data where the mean value
can either rise or fall over time.
 Would there be any reason to assume that the level of economic growth for
the next 10 years will not continue to be positive and increasing in the UK and
EU?
 Nonstationary data can be assumed to have what are called deterministic
trends – trends that are constant, positive or negative independent of time
for the series being analyzed and which change by a constant amount each
period. GDP might deviate from trend over short-term periods but when
looked at over longer time periods will revert to the mean.
 Stochastic trend is one where the trend variable changes by some random
amount in each time period.
Procyclical and Countercyclical
Movements in Macroeconomic Data
 Economists will often look at the movement of pairs of variables which are
called comovements. Comovement the movement of pairs of variables over
time.
If a variable is below trend when GDP is above trend the
When a variable is above trend when GDP is above
variable is described as
trend the variable is said to be procyclical.
countercyclical.
CAUSES OF CHANGES IN THE BUSINESS
CYCLE
 Household Spending Decisions
Households will also make decisions based on real wages, changes in interest
rates, house prices and taxation. Cyclical
 Firms’ Decision-Making
Firms make decisions about production levels based on what they think they can
sell (strong demand), real wage rate, productivity, stock levels, taxes
 External Forces
Movements in exchange rates, economic activity abroad, drought, flood,
tsunamis, hurricanes, extreme cold or earthquakes, political upheaval, war,
terrorism and conflict
CAUSES OF CHANGES IN THE BUSINESS
CYCLE
 Government Policy
Tax rates, major infrastructure investment
 Confidence and Expectations
BUSINESS CYCLE MODELS
 Supply Side – The New Classical Model

 Labor market clears but workers have imperfect information. The model
highlights the importance of anticipated and unanticipated price changes. If
workers correctly anticipate price changes they can change their behavior
such that real wages and the amount of labor they supply adjust to clear the
market.
 Aggregate supply shocks: can affect the productivity of factors of production
and can be temporary (natural disasters), or permanent (new technologies)
 Supply Side – The Keynesian Model

 Keynes: markets do not clear as quickly as classical economists believed. The
Keynesian assumption is that the ability of the goods and labor market to
clear are impaired by the existence of sticky prices and sticky wages.
 Demand Side – The New Classical Model

 Changes to any or all of the components of aggregate demand could cause a
deviation of output from trend. Increase AD=> increase in price level=> real
wages fall => costs decrease=> firms hire more=> nominal wage rises
 The New Classical interpretation rests on workers misinterpreting a rise in
nominal wages as a rise in real wages, in other words, they do not fully take
into account the effect on wages of the price rise.
 After some time workers negotiate higher real wages=> costs increase=> firms
cut supply=> economy comes back to trend output but price is higher
 Demand Side – The Keynesian Model

 The increase in demand will mean firms’ stocks begin to decline and so they
will take steps to increase output and in so doing increase employment. In the
short run, therefore, output increases above trend but the price level does
not change because of sticky prices.
 Real Business Cycles

 The causes of business cycles, therefore, are technology shocks that cause
permanent shifts in aggregate supply, but when aggregate supply shifts the
expectations of economic actors are still correct and so there is no reason for
governments or central banks to intervene and apply policy prescriptions.
The main lesson from my lesson:
STUDY STUDY STUDY!!!

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Business cycles

peak where economic activity

 Trend the underlying long term movement in a data series

 Supply Side – The New Classical Model

 Supply Side – The Keynesian Model

 Demand Side – The New Classical Model

 Demand Side – The Keynesian Model

 Real Business Cycles

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