If business cycles are inevitable, what is the
purpose of keeping track of different stages?
It has been said that an economist recognizes three certainties in life: death, taxes and the business cycle. Throughout mankind’s existence, the cycle manifested itself in periods of growth followed by phases of contraction.
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Understanding the various phases of the cycle is important to a business in order to avoid economic bubbles and also maximize returns.
History has proven many times that big and small businesses who do not take into account the business cycle usually get run over.
Studying the different phases of the business cycle - recession, recovery, growth, and decline -is critical as each phase requires a different business strategy. Identifying the beginning and ending of each phase and what to expect in between can allow a company to align its strategies, tactics, and operations to reflect changing business conditions.
While there is no definite formula that will apply to all companies, the general approach is to focus on a company’s strengths and core competencies and at the same time focus on stronger planning practices.
Quick-thinking investors who recognize the different phases of the market cycle are able to take advantage of them to profit. They are also less likely to be deceived into trading at the worst possible time.
The stock market crash of October 1987 reduced the wealth of the average American Household. How did this event impact the aggregate demand?
The stock market mobilizes domestic resources and channels them to productive investment as such it is an important source for companies to raise money.
The stock market has a significant relationship with the economy. On one hand it serves as the leading indicator of the economic activity in the country, on the other it has potential impact on aggregate demand, particularly through aggregate consumption and investment.
The stock market crash of October 19, 1987 (known as Black Monday) recorded a US$1 trillion slash off the value of the stock market resulting in the reduction in American aggregate demand. Though not as catastrophic as the crash of 1929 because of the quick and decisive steps taken by the government, the 1987 crash affected consumer purchases of durable goods leading to a decline in business investment.
As household income took a hit, consumer spending rattled. This led to a decline in overall demand. The crisis caused uncertainty about future income, which led consumers and firms to put off purchases of durable goods.
What is the reason for the Aggregate Demand curve to have a downward shape?
Aggregate demand is the economy-wide demand for goods and services. The aggregate demand curve slopes downward because of the following:
Wealth Effect: A decrease in the price level encourages consumers to spend more. Thus the increase in spending causes an increase in the quantity of goods and services demanded.
Interest-Rate Effect: A lower price level reduces the interest rate and encourages greater spending on investments, and increasing the quantity of goods and services demanded. If the price level falls, households may deposit excess money into an interest bearing savings account driving down the interest rate and encouraging firms to borrow and invest in equipment and factories, which leads to an increase in the quantity of goods and services demanded.
Exchange Rate Effect: As price levels and interest rates fall, the real exchange rate depreciates. This depreciation impacts net export thus increasing the quantity of goods and services demanded.
How can an economy eliminate cyclical unemployment?
Cyclical unemployment is unemployment caused by the business cycle - that is a general downturn or lack of demand in the economy (a recession).
The solution to eliminating or reducing cyclical unemployment is to increase aggregate demand through demand management policies which are designed to stabilize the economy by changing aggregate demand. The most noted demand-management policies are fiscal and monetary.
What events in the economy can contribute to
the change in the consumer confidence level?
Consumer confidence levels are generally influenced by the following:
Expectations of future income and employment
The current level of interest rates and future interest rate expectations
Trends in unemployment and changes in perceived job security
Anticipated changes in government taxation
Changes in household wealth
What are the participants of the Aggregate Demand Curve?
The participants are consumers or households; business firms; the government; and, the rest of the world.
Lutz G. (2002). Business Cycle Theory. Oxford University Press
Boyes, W., Melvin M. (2007). Economics, 7th Edition.Houghton Mifflin Company
Arnold, Lutz G. Business Cycle Theory. Oxford University Press, 2002.
Remembering the Crash of 87 (2007). The CNBC Archives, Retrieved October 30, 2007
from the World Wide Web: http://www.cnbc.com/id/20910471
Bozzo, A. (2007). Tale of The Tape: The Crashes of 1987 And 1929. The CNBC Archives,
Retrieved October 30, 2007 from the World Wide Web:
Macroeconomic Unemployment Explained (2007). EconGuru Economics Guide, Retrieved
October 30, 2007 from the World Wide Web:
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