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Chapter 9 The Business Cycle
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I. Business cycles describe the fluctuations in business activity over time.
    A. Recession: commonly accepted definition is two consecutive quarters
         of negative growth in Real GDP.The (F)utility of GDP? argues that his
         is not a good definition.-The Becker-Posner Blog 12/17/09
    B
. Why business activity fluctuates
         1. Inventory Recession: Excessive optimism causes inventories to over expand and
             eventually they must be worked down causing a recession. Computers have made
             easier to track inventory and made this type of  recessions less likely. 
         2. Rolling Recessions: Economic downturn is limited to areas or sectors of the 
             economy. 
             a. Economic activity eventually increases but by then other areas and sectors are
                 in recession. 
             b. International competition has increased the occurrence of this type of recession
                 as sectors such as steel, autos, and recently computers have been affected.
         3. Innovation Cycle: railroads, computers, bio-technology
         4. Political Events: wars, international trade
         5. Misuse of Monetary and Fiscal Policy: government creates and/or borrows 
             an incorrect amount of money
         6. Non-cyclical Fluctuations
             a. Seasonal variation: Christmas buying rush, spring construction 
             b. Long-Term Secular Trends: the expansion or contraction in the level of 
                 economic activity over a long period of years (the dark ages, the industrial
                 revolution) For more visit
                1) Long Waves Theories of Development from the Kunter Krumme, 
                    U. of Washington.
                2) Call this a Recession, At Least It is Not the Drk Ages
                  
By Bryan Ward-Perkins 12/22/09 FT.com
        7. Durable Goods have a long useful life (houses, equipment, etc.) Sale of durable goods
            contract substantially during a recession as their purchase may be easily postponed.
            For how other goods are affected visit U.S. Economic Cycles
    C. Current Conditions  
        
1. Current Business-Cycle Conditions
             from  
American Institute for Economic Research (AIER)
   
     2. Chance of a Double Dip Video from Business News Network
             6/16/10

    D. A Brief History of U S Banking Problems will provide 
         examples of what has caused the business cycle in the 
         United States. 
    E.
  Leading, coincidental, and lagging indicators are measures 
         such as the unemployment rate which respectively change before,
         with or after general economic activity. Economists use to predict
         future economic activity.

Interesting Links Leading Indicators

1. US Leading Economic Indicators and Realated Composite Indexes for 4/2008 Conference Board U.S. Business Cycle Indicators
2. Leading Economic Indicators 2007/01/leading-economic
3. Index of Leading Indicators – Premature to Rule out Recession
    Asha G. Bangalore Northern Trust, May 19, 2008
5. http://tinyurl.com/4gma4w
6. LEI & KRWI - It's Different This Time? Paul KasrielNorthern Trust, 4/21/07
7. RECESSION IMMINENT?  LEI AND KRWI ARE FLASHING
   
Paul L. Kasriel 3 22,07  
8. See Understanding Contrary Indicators  for more information.

 

    

    F. History
        1. Visit Business Cycle data since 1854 from the National Bureau of Economic Research.
        3. Boettke podcast on the Austrian Austrian Perspective on Business Cycles and 
            Monetary Policy
        4. Great Depression by Robert J. Samuelson, the Concise Encyclopedia of Economics
            
a. Amity Shales on the Great Depression, On EconTalk, Russ Roberts interviews 
               Amity Shlaes, Bloomberg columnist and visiting senior fellow at the Council on 
               Foreign Relations. She talks about her new book, The Forgotten Man:  
               A New History of the Great Depression
. The podcast discusses Herbert Hoover, 
               F. D.R., the economics of the New Deal and the class warfare of the 1930s
           
b. The Great Depression, On EconLog and in his column at TCS Daily, Arnold Kling
                also focuses on some of Shlaes's observations adding thoughtful insights.
        5. Recession of 2007
            a. Slide Show: A Business Cycle Ends, and Many U.S. Workers Lose Ground
                reviews the latest business expansion ending in early 2008. Business Week
             b. On the Economy CNBC Video, April 10., 2008v
                An overview of the economy with Joseph Stiglitz, a Nobel Prize-winning economist, 
                and Mohamed El-Erian, co-CEO of PIMCO
            c. Fed Watch: Turning Which Corner? 05/11/09 by Tim Duy
            d. Older Americans Made the Recession Look Better (Excerpts) April 2010,
                by Marianna Kudlyak, Devin Reilly and Stephen Slivinski
                of the Federal Reserve Bank of Richmond.
Top 10 Financial Crises 

 10. The Panic of 1907: The fourth so-called ”panic” in 34 years.
 9. The Mexican Peso Crisis 1994 aka “The December Mistake” Punta !
8. Argentine economic crisis - 1999 If you have no money, is it a good 
    idea to print  more?
7. German hyperinflation - 1918-24 If you have to print a 1,000-billion 
    Mark note, you probably have too much inflation.
6. Souk Al-Manakh - 1982 Try not to use post dated to buy stocks
5. Black Monday - 1987 Can we call a 23% drop in a single day a 
    black swan?
4. Russian financial crisis - 1998 devaluation of the ruble and cancellation 
    of debt is never good for a local stock market.
3. East Asian financial crisis - 1997 aka the Asian Contagion
2. Black Tuesday - 1929 — Really? One day, and not the entire
    Great Depression?
1. 1973 Oil Crisis — Big energy increases cause recessions

Top 10 Financial Crises | The Big Picture

Interesting Video
American-Experience Crash of 1929 Series 
South Sea Bubble of 1720

 

 

II. Three types of unemployment
     A. Frictional is caused by time lags in the operation of labor markets.
          1. Workers are between employment because they have been fired, are changing
              careers, are seasonal workers, 
              have been temporarily laid off, etc.
          2. Short-term, inevitable, temporary, and is eliminated with time.
      B. Structural is caused by changes in consumer demand and technology.
          1. Result is an oversupply of workers with a particular skill. 
          2. This unemployment is often concentrated in a particular area, associated with a
              particular industry, and is often permanent. 
          3. Increased economic activity will not decrease this type of unemployment as training
              and/or relocation are required.
          4. Happened in the 1970's and early 1980's as consumers decided to buy small foreign
              built cars and other products
              produced in the Rust Belt. Now it is happening because NAFTA and foreign
              competition  are causing industries to  restructuring is needed because of  foreign
              competition.
     C. Types of Unemployment&Natural Rate of Unemployment ACDC Economics Video
     D. Cyclical
         1. Caused by a lack of total demand at the end of an economic expansion 
         2. Temporary
         3. Recession of the early 1990's was due to a drop in demand caused by a
              debt buildup in the 1980's by individuals, businesses, and the federal
              government. Apprehension caused by high structural unemployment of both
              blue and white collar workers slowed the recovery.
         4. Recession of 2001 was caused by debt build up of individuals resulting from
             the long period of prosperity and the stock market bubble, excess capital
             investment caused by Y2K and internet optimism, and September 11.  
         5. Great Recession of 2008-09 was caused by the end of an excessive building boom
             compounded by a banking crisis and stock market crisis. 
         6. Broad Unemployment Across the U.S. Interactive map from the July 14, 2009 NYT
         7. Unemployment: The Harder You Look, The Uglier It Appears 09/02/09
         8. Long Term Unemployment Rate has almost doubled . 9/9/09
         9. Sticky Wages Hold Back Job Growth WSJ, 11/12/10
III. Other unemployment topics 
       A. Natural unemployment (frictional + structural unemployment) 
            is usually 4% to 6% of the labor force 
       B. Full employment is when cyclical unemployment equals zero 
       C. Okun's Law: a 1% increase in cyclical unemployment will 
            cause  a 2.5% annual drop in GNP.
            1. GNP change = 2.5 (unemployment rate change)
            2. If unemployment goes up 2% as it did in the 1990-91
                recession then the drop in GNP would be 2.5 X 2% or 5%.
            3. Cost to a 6 trillion dollar economy of 250 million people 
                (5% X $6,000,000,000,000) / 250,000,000 = 
                $1200/person/year.
      D. Labor Force Participation Rate from The Big Picture blog.
      E. Noneconomic costs of unemployment include loss of skills, self-
          esteem, and social-political unrest.
      F. Discouraged workers leaving the workforce lowers 
          unemployment.
      G. Q&A: Unemployment Extension WSJ, 11/18/10
      

 

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IV. Inflation
      A. An increase in prices is measured by a price index such as the consumer producer 
           index, CPI
and the Producer Price  Index, PPI.
      B. The PPI measures the change in wholesale prices.
      C. The PPI is a leading indicator for CPI as wholesalers can usually pass price 
           changes on to retailers who pass them to consumer.
           1. Recent increases in foreign competition made passing price increases on more difficult.
           2. The internet had the same kind of affect in the late 1990's. 
D. The inflation rate for a year when a basket 
of consumer goods increase from $400 to 
$420 would be calculated as follows.
E. Recent inflation data provided by the Department of Labor 

V. Causes of inflation
     A. Demand-pull inflation
          1. Increases in C + I + G + XN will cause GDP to increase.
          2. As the economy nears full employment, the prosperity caused by high employment 
              increases demand and put upward pressure on prices.
          3. When this happens, the economy is said to be overheated.
     B. Cost-push inflation
          1. As the economy approaches full employment factor resources become scarce 
              allowing their owners to increase prices. 
          2. Supply-side shocks can cause high resource prices even if demand for resources is low,
              i.e., OPEC's two oil  embargoes of the 1970's
 

 

 
VI. Economic effect of inflation
      A. Both income and resource allocations are affected by inflation as the market tries 
           to adjust to the loss in value caused by inflation.
          1. High gas prices in the 1970's caused a switch to small cars and many people 
              bought wood stoves.
          2. Low gas prices in the 1990's made RV's less expensive to run.
      B. Debtors (homeowners, businesses, government) are helped by high inflation
           because they pay back with dollars worth less than those borrowed.
      C. Creditors are hurt by inflation as they are paid back in less valuable dollars.
            Those on a fixed income are also hurt by the cheaper dollars. 
      D. Cost-of-Living Increases (COLA's) were instituted in the 1970's to 
           negate the severe effects of that period's high inflation. For more information 
           visit Cost of living from Wikipedia.
      E. Deflating GDP
          1. Inflation can be taken out of growth in GDP by expressing later year 
              production at earlier year prices. 
          2. In the following chart, letters Q, P and T are quantity, price per unit 
              and total respectively.

1980

1990

1990 Production 
at 1980 Prices

VII.  Some question government procedures when calculating inflation and economic 
         growth.

         A. Shadow Government Statistics  
         B. Grossly Distorted Procedures explains how Hedonics is a way of 
              accounting for the changing quality of products when calculating price
              movements. For example, today's computers are 2 to 3 times faster 
              and have more memory than models produced just a few years ago. 
              If someone can buy a better computer today than last year for the 
              same price, have not prices really fallen? Here is another example. 
              Is it realistic to compare the price of a 1955 Chevy with the price 
              of a 2005 Toyota with air conditioning, DVD player, anti-lock 
              breaks, seat belts, air bags, side air bags, power steering, power 
              brakes, etc etc etc?
              For a mathematical approach read
Price Hedonics: A Critical Review. 
              and
A Note on the Impact of Hedonics and Computers on Real GDP.
         
  C. Financial Sense Online - The Core Rate
          D. Monthly Labor Review counters the Shadow Government 
               Statistics arguments concerning inflation calculations
VIII.
Presidents and the business Cycle
   IX. Only the Weak Survive import/export imbalances and the business 
          cycle Nouriel Roubini, Project Syndicate (hat tip Mark Thoma) 10/15/10
     X.
How the Government Dealt With Past Recessions

Interesting Articles

Turning Which Corner? 05/11/09 -Tim Duy's Fed Watch

The Age of Balance Sheet Recessions: What Post-2008 U.S., Europe and China Can Learn from Japan 1990-2005

The Paradox of Thrift

Production

Q

P

T

Q

P

T

1990 Q

1980 P

T

Shirts

1

10

10

2

20

40

2

10

20

Movies

2

3

6

3

5

15

3

3

9

GDP

 

 

16

 

 

55

 

 

29

Note : Output more than tripled in "nominal" terms but in real terms output increased by 81.25% (29-16)/16

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