Peak Trough Recovery Recession Peak The Business Cycle and Economic Activity 1.What is the difference between a decrease in GDP and a decrease in GDP growth? 2.Explain the cyclical pattern of economies using the business cycle diagram 3.Explain the concept of potential output and its relationship to the “output gap”

Remember: Economic growth -increases in the quantity of output produced over a period of time (year) and expressed as: –%change in real GDP/GNI over period of time –%change in real GDP/GNI per capita over a period of time –i.e., real GDP in 2004 was $50bil and increased to $51bil in 2005, rate of growth is ((new-old/old)*100), so rate of growth was +2% Remember, %change representing growth is not always positive value; if real GDP has fallen, it will be negative –real GDP in 2006 was $60bil and decreased to $57bil in 2007, rate of growth is ((new-old/old)*100), so rate of growth was -5%

Remember… The same information shown on the business cycle can be shown on a production possibilities curve: – Full employment – Unemployment – Inflation The shifters of the PPC affect GDP: – Change in quantity/quality of resources – Changes in technology – Changes in trade Why is economic growth the goal of every society? Provides better goods and services Increases wages and standard of living Allows more leisure time Economy can better meet wants

Decrease in GDP vs. GDP growth Decrease in GDP -fall in the value of output produced, such as ex. #2 on last slide Decrease in GDP growth - falling rates of growth, though rates of growth may be positive (see ex  ) YearReal GDP ($bil) Real GDP growth % (increasing GDP) % (increasing GDP, falling GDP growth) % (increasing GDP, falling GDP growth) % (decreasing GDP, negative GDP growth)

Real output in most countries grows over long periods of time, but output growth is uneven and irregular -recurrent fluctuations in growth of real output (“ups and downs”) in the level of economic activity business cycle -recurrent fluctuations in growth of real output (“ups and downs”) in the level of economic activity Alternating periods of (increasing real output) and (decreasing real output)Alternating periods of expansion (increasing real output) and contraction (decreasing real output) Individual business cycles may vary greatly in duration and intensityIndividual business cycles may vary greatly in duration and intensity All display a set of phasesAll display a set of phases Business Cycles (aka economic fluctuations)

THE BUSINESS CYCLE Phases of the Business Cycle

Expansion Expansion occurs when there is positive growth in real GDP (upward sloping parts of curve) During these periods: –Employment of resources increases –General price level (average overall prices) begins to rise rapidly –Beginning of inflation

PEAK Time GROWTHTREND Peak (prosperity phase): Real output in the economy is at a high level (max real GDP)Real output in the economy is at a high level (max real GDP) Marks end of expansionMarks end of expansion Unemployment is lowUnemployment is low Domestic output may be at capacity (price level increases rapidly)Domestic output may be at capacity (price level increases rapidly) Inflation may be highInflation may be high Level of business activity

Contraction (recession) phase: Recession – government determinant of two consecutive quarters (6 months) of declining output Recession – government determinant of two consecutive quarters (6 months) of declining output Real output is decreasing (falling real GDP, negative growth)Real output is decreasing (falling real GDP, negative growth) If the recession is prolonged, price may decline (deflation)If the recession is prolonged, price may decline (deflation) As contraction continues, inflation pressure fadesAs contraction continues, inflation pressure fades Unemployment rate is risingUnemployment rate is rising Level of business activity Time RECESSION GROWTHTREND

Level of business activity TimeTROUGHGROWTHTREND Trough (depression) phase: Minimum (lowest) point of real GDP Minimum (lowest) point of real GDP end of contractionend of contraction Widespread unemployment; output at lowest point Widespread unemployment; output at lowest point may be short- or long-termmay be short- or long-term no precise way to tell where decreased output (serious recession) becomes a depressionno precise way to tell where decreased output (serious recession) becomes a depression

Peak Trough One cycle Recovery Real GDP per year Recession Time Peak Business Cycle-one cycle through 4 phases

Recessions since 1950 show that duration and depth are varied: PeriodDuration in monthsDepth PeriodDuration in monthsDepth (decline in real GDP) — 3.0% — 3.5% — 1.0% — 1.1% — 4.3% — 3.4% — 2.6% — 2.6% app. —3.3%

Innovation Innovation Political events Political events Random events Random events Wars Wars Level of consumer spending Level of consumer spending Seasonal fluctuations Seasonal fluctuations Cyclical Impacts — durable and non durable Cyclical Impacts — durable and non durable Causes of Fluctuations

An Actual Business Cycle ($ billion, 1992 dollars) An Actual Business Cycle ($ billion, 1992 dollars) Real GDP Peak Peak Trough One Cycle ‘80‘85 ‘

Case study (extra info): The Great Depression

The Great Depression

The Great Depression [continued]

Great Depression Stats

Ave. Unemployment Rate, Ave. Unemployment Rate, Ave. Unemployment Rate, Percent Decrease in Prices, Percent Decrease in Prices, Global Depression,

Six Million “Rosie the Riveters” Six Million “Rosie the Riveters” World War II Production of these items brought us out of the Great Depression. 300,000 warplanes 300,000 warplanes 124,000 ships 124,000 ships 289,000 combat vehicles and tanks 289,000 combat vehicles and tanks 36 billion yards of cotton goods 36 billion yards of cotton goods 41 billion rounds of ammunition 41 billion rounds of ammunition 2.4 million military trucks 2.4 million military trucks 111,527 tank guns and howitzers 111,527 tank guns and howitzers $288 billion was spent on the war,$288 billion was spent on the war, $100 billion in the first six months.$100 billion in the first six months. Unemployment hit an all-time low of 1.2% and personal savings were 25.5%.