What is Business Cycle?

What is Business Cycle?

Business cycles are a type of fluctuation found in nations’ aggregate economic activity…

A cycle is defined by expansions that occur at roughly the same time in many economic activities, followed by similarly general recessions…

This pattern of changes occurs regularly but not regularly.” That description from Arthur F. Burns and Wesley C. Mitchell’s 1946 magnum opus, Measuring Business Cycles, remains definitive today. Read more about the difference between gross profit and net profit, here.

Understanding Business Cycle

In essence, business cycles are distinguished by the alternation of expansion and contraction phases in aggregate economic activity and the comovement of economic variables in each stage of the process. Aggregate economic activity is represented not only by real (i.e., inflation-adjusted) GDP—a measure of aggregate output—but also by aggregate measures of industrial production, employment, income, and sales, which are the critical coincident economic indicators used to determine the official peak and trough dates for the United States business cycle.

A common misconception is that a recession is defined as two consecutive quarters of natural GDP decline. Notably, the recessions of 1960–61 and 2001 did not include two successive quarterly declines in real GDP. 2

A recession is a vicious cycle, with cascading declines in output, employment, income, and sales that feedback in another drop in production, rapidly spreading from industry to industry and region to region. This domino effect is critical to the spread of recessionary weakness throughout the economy, driving the comovement of these coincident economic indicators and the recession’s persistence.

Business Cycles: Measuring and Dating

The depth, diffusion, and duration of a recession determine its severity. The magnitude of the peak-to-trough decline in broad measures of output, employment, income, and sales determines the depth of a recession. The extent to which it has spread across economic activities, industries, and geographical regions determines its duration.

Similarly, the strength of an expansion is determined by how pronounced, pervasive, and persistent it proves to be. These three P’s correspond to the recession’s three D’s.

An expansion starts at the trough (or bottom) of a business cycle and lasts until the next peak, whereas a recession begins at the height and lasts until the next track.

The National Bureau of Economic Research (NBER) determines the business cycle chronology for the United States, including the start and end dates of recessions and expansions. As a result, its Business Cycle Dating Committee defines a recession as “a significant decline in economic activity spread across the economy that lasts more than a few months and is normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales.”

The Dating Committee usually determines the start and end dates of recessions after the fact. For example, following the end of the 2007–09 recession, it “waited to make its decision until revisions in the National Income and Product Accounts [were] released on July 30 and August 27, 2010,” and announced the end date of the June 2009 recession on Sept. 20, 2010. 5 Since the Committee’s inception in 1979, the average lag in reporting the start and end dates of a recession has been eight months for peaks and 15 months for troughs. Click here to read about the format for fund flow statement.