Student

Business Cycles

Philip Ginand

Dec. 8 2015.

One of the most important fundamentals in to any business’ bottom line is the business cycle. According to Investopedia, a business cycle is the period of time when expansion or deduction of an economy is experienced. In times of expansion, an economy grows, seeing an increase in manufacturing production, employment, sales and income. When a recession occurs, the economy shrinks which is measured by the same factors. Expansion periods occur every 4 to 6 years, with the average length at 58 months. Recessions last only about a year with the average time at 11 months. The NBER reports there have been over 10 business cycles from 1940 to 2010.

During the time of expansion, the demand for products increases. During this time banks are lending money at lower rates to encourage borrowing. Companies take advantage of this and pump money back into their organization. Companies will invest in research and development, facilities and inventories. Producing more products during this time is important for companies. They want to take advantage of the surplus of money in the economy and capitalize on selling more products. This will increase their sales and profits. With demand increased for products, many companies hire more employees to keep up. Employment levels are at or near full employment during this time. Stock markets are making new highs, and everything seems to be going good in the economy.

As more spending and borrowing continue, the economy is bulking up. The supply of money starts to top off. With the supply of money up, the buying power decreases. When more people have more money to spend, they buy more. This raises the demand of products and now you prices start to rise. The law of supply and demand takes full effect during this phase of expansion. The less of a product, the more expensive it gets, and this causes inflation.

Inflation is something the FED watches closes. It’s an indicator for them to step in and manipulate interest rates. The FED will remove money in the system, causing it to rise in value. The less money the more demand it has – causing the increase in value. The FED controls the money supply by buying and issuing Treasury bonds and by raising interest rates. Soon there will be less money in the economy and a peak has formed in the expansion phase.

The FED stops the influx of money into the economy to prevent record high inflation and to cap expansion. It is the best way to control a growing economy. When the FED reduces the money supply and raises interest rates a recession is around the corner. A recession marks the shrinking of an economy with less money borrowing and spending. Companies during this time usually save up cash waiting for the next expansion period. Layoffs are common during this time along with less consumer income. Fewer products are bought during this time and people tend to save more. Unemployment numbers increase and the end of the world seem near. Companies will ramp up research and development hoping to innovate and ready to pump out services and or product when the expansion phase is near. It is at this time the Fed steps in to once again manipulate the economy.

The trough or the bottom of a recession usually takes place when the FED increases money supply and lowers rates business and lenders can now borrow and lend money at cheaper rates. It is at this time companies plan for the expansion time and put their R&D into use. Hiring starts back up slowly and salaries are increased. With more money in the economy, consumers and business spend more. The economy is soon out of a recession and expansion has started again and hence the business cycle has taken full affect!

The business cycle is very important for retail investors. One should always invest in the trough phase or the bottom. It’s very hard to predict the end of a recession but a good indicator is when the FED steps in to lower rates and