Business Cycles

Business CyclesWhat to look for During

ExpansionDuring

recessionReal GDP Up Down

Unemp Rate Down Up

Infl Rate Up Down

Housing Starts

Up Down

Confidence Rising Falling

Durable Goods

Up Down

As consumption goes…so goes GDP

http://blogs-images.forbes.com/mikepatton/files/2014/12/Table-US-GDP-Components-2011.jpg

Official Definitions Recession – Decrease in real GDP for two quarters per most journalists.

Per the NBER it is

A significant decline in economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales.

Depression – Decrease in real GDP for eight quarters

Find the recession!

1. Using the real GDP data provided find recessions.

2. Fill in the dates on the table3. Include what is happening with

Unemployment and inflation

From the NBER Contractions dates from Peak to Trough:

1929-1933 1937-38 1945 1948-1949

1953-1954 1957-1958 1960-1961 1969-1970

1973-1975 1980 1981-1982 1990-1991

2001 2007-2009

Analyze:

Are all the recessions the same?

What happened with unemployment and inflation each time?

Main Recession CausesDECREASE IN CONSUMPTION

Why?◦ Decrease in income◦ Decrease in borrowing◦ Fear of a decrease in income or decrease in

borrowing

DECREASE IN INVESTMENT

Why?◦ Decrease in orders◦ Decrease in sales◦ Fear of a decrease in orders or sales

I’m a walking economy.

My hairline is in recession, my stomach is a victim of inflation, and both of those together are putting me into a deep depression.

The Great DepressionWheat market dries up (literally)

Panics cause banks to fail drying up housing and business credit

Smoot-Hawley tariff halts exports

Gold standard further restricts money for loans

Stock Market crash doesn’t help

Vicious Cycle downwardC decreases

Firms layoff workers

Income decreases

Loans dry up for consumers

and firms

And the stock market BUBBLES, https://www.youtube.com/watch?v=I5ZR0jMlxX0

Margin buying – borrowing to buy stock

What changed in 2008? Banks collapsed, slowing lending and spending, leading to layoffs and the whole cycle

Primarily a collapse in the housing market

Mortgage 101 Depends on:

Reliable payments from borrower

Valuable asset (house) for bank and borrower

Ideally, banks:

Carefully check borrowers for income

Ensure borrowers will be able to pay in future

Assess value of house

But in 2008 Banks

Made subprime loans to poor borrowers

Issued ARM or balloon mortgages that couldn’t be paid

Did not assess the value of houses

Incentives for mortgages issued led to moral hazard and bad incentives

Why did banks do this?

They did not care because they sold the mortgages. Just wanted closing costs and bonuses. Pass risk on to another bank.

Next unit:

Getting out of a recession!