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FLUCTUATIONS AND BUSINESS CYCLESIN GLOBALIZED INDIAN BUSINESS

ENVIRONMENT

-BY

RONAL MUKHERJEE

11/MBA/64

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OBJECTIVE

To examine the presence of business cycles inthe Indian economy.

The slowing down of growth in the Indianeconomy, particularly in the industrial sector,has raised significant interest in business cycleindicators.

Does the Indian economy witness businesscycles? Only if the answer is yes, does this

question need to be followed by other questionssuch as what are patterns in the cycles, whatare the explanations of these cycles, how canthey be predicted?

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INTRODUCTION

The studies span the different approaches viz., the classicalbusiness cycle, growth cycle and growth rate cycle.

The classical business cycles are identified as recurrent,alternating phases of expansion and contraction in a large

number of economic activities such as output, consumption,prices, investment, employment, etc. The cycles arecharacterized by co movements in the fluctuations of theeconomic activities, with periodicities larger than one year.

The concept of growth cycles can be defined in terms of thedeviations of the actual growth rate from the long-term growthrate.

On the other hand, the growth rate cycles refer to the changes inthe growth rate of economic activity

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BUSINESS CYCLES

Meaning

Business cycles are economy wide fluctuations in total

national output, income, and employment, usually lasting

for a period of 2 to 10 years, marked by widespreadexpansion or contraction in most sectors of the economy.

Typically economists divide business cycles into two main

phases, recession and expansion. Peaks and troughs markthe turning points of the cycles. No two cycles are quite

the same. They are like mountain ranges with different

levels of hills and valleys.

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BUSINESS CYCLE OR TRADE CYCLE

Year

Real

GDP

PEAK

DEPRESSION

RECOVERY

BOOM

TROUGHS

Potential

GDP

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BUSINESS CYCLES

The downturn of a business cycle is called a recession.

A recession is a recurring period of decline in total output,income, and employment, usually lasting from 6 months to

a year and marked by widespread contractions in many

sectors of the economy. A depression is a recession that is

major in both scale and duration.

Business Cycles Theories

1. Monetary theories attribute business fluctuations to

the expansion and contraction of money and credit(M .Friedman). Under this approach, monetary factors

are the primary source of fluctuations in aggregate

demand. For example, the recession of 1981-1982 was

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BUSINESS CYCLES

triggered when the Federal Reserve raised nominal

interest rates to 18 % to fight inflation.

2. The multiplier-accelerator model, proposes that

exogenous shocks are propagated by the multiplier

mechanism, along with the accelerator principle. This

theory shows how the interaction of multiplier andaccelerator can lead to regular cycles in aggregate

demand; It is one of the few models that generates

internal cycles.

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BUSINESS CYCLES

3. Political theories of business cycles attribute fluctuations

to politicians who manipulate economic policies in order to

be reelected (W. Nordhaus, E. Tufte). Historically,presidential elections are sensitive to economic conditions

in the year preceding the election. As a result, if they have

a choice, most presidents would prefer to follow President

Ronald Reagans example. Although the U.S. economywent through a deep recession early in his term, by the

time he was running for reelection in 1984, the economy

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BUSINESS CYCLES

was growing rapidly, which contributed to a reelection

landslide.

4. Equilibrium-business-cycle theories claim that

misperceptions about price and wage movements lead

people to supply too much or too little labor, which leads

to fluctuations of output and employment (R. Lucas, R.

Barro, T. Sargent). In one version of these theories,

unemployment rises in recessions because workers are

holding out for wages that are too high.

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BUSINESS CYCLES

5. Supply shocks occur when fluctuations are caused by

shifts in aggregate supply (R.J. Gordon). The classicexamples came during the oil crises of the 1970s, when

sharp increases in oil prices contracted aggregate supply,

increased inflation, and lowered output and employment.Many economists think that the low inflation and rapid

growth of the American economy in the 1994-2000 period

may be explained by favorable supply shocks.

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INDIA IN TRANSITION

A careful analysis of business cycle facts assumegreater relevance for an economy like India that issubject to significant transformation over the last twodecades. In this section, some of the key elements of

transformation in the Indian economy from 1950 2009is presented.

1. Reduction in the consumption-output ratio.

2. Declining share of agriculture.

3. Shift away from state domination.

4. Emergence of a conventional business cycle

5. Increased integration with the rest of the world

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DATING OF BUSINESS CYCLES

A number of methods have been developed to identifycycles and turning points. The focus of these methods isto forecast the beginning of a recession or expansion inthe economy.

National Bureau of Economic Researchs (NBER)approach, the most popular among these has a longhistory of research on U.S business cycles.

The NBER selects the peaks and trough dates by lookingfor clear changes in both the trend and level of economicactivity.

A number of data series, which seem to be coincidentalwith the aggregate economy are analyzed and clusteringof turning points are used to set the reference cycledates.

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CONCLUSION

Indian economy has experienced cycles that can betracked by changes in annual GDP. Studies ofbusiness cycles in India show slowdown prior to thenineties, GDP growth fell in 1957-8, 1965-66, 1972-

73 and 1979-80. However, before the nineties,fluctuations in economic activity in India wereprimarily on account of the monsoon.

In the 1990s there has not been an actual fall inoutput. Cycles, that did occur, can be defined more

accurately as "growth cycles" in which there is aperiodic fluctuation in the growth rate of output, ratherthan in the output.