Business Cycles: What Are They and How Do They Happen?

Business cycles are alternations that take place in the economy between strong and growing periods, with periods of low economic recession.

This concept has been treated by different economists since the 18th century as a way of explaining the reasons for economic crises, taking into account the behavior of the markets.

The theory behind business cycles seeks to understand the reasons why economies grow with fluctuations and not the trend they should follow.

How business cycles work

Business cycles are disturbances in the economy, where there are  ups and downs that circulate around an equilibrium of stability  .

Macroeconomic science explains that in the long term there is a constant growth trend in Gross Domestic Product (GDP), but in the short term there are growths and recessions.

This fluctuation, characterized by the image above, indicates the existence of periods of growth with little or a lot of intensity, followed by periods of recession, both outside the trend.

For some economists, a sharp rise may indicate a recessionary period ahead, when asset and loan prices plummet.

In the version of the philosopher Karl Marx, when economic crises occur, each company accumulates its capital (produced goods), so that supply exceeds demand. On the other hand, there is a period of growth in which companies must increase their capital.

The economist Joseph Schumpeter, on the other hand, believed that recessions were part of the success of capitalism. For him, there is a “creative destruction” that causes constant innovations in the economy, while the cycles occur.

Stages of business cycles

From a period of economic growth, cycles can be characterized by the aggregate activity of the economy through the phases:

Expansion

When aggregate demand is high, firms make big profits and increase production.

Expansion peak (  boom  )

This is the highest point that the economy reaches, where the aggregate supply presents excesses.

Contraction (start of recession)

Phase in which companies reduce prices to compete for consumers, while unemployment increases.

Economic crisis (depression)

Phase in which companies have very low profits and unemployment is high.

With this, a new cycle in the economy begins with the new period of expansion and the increase in aggregate demand.

Types of business cycles

The cycles of an economy do not have a regular periodicity. Some periods of growth predominate for a long time and others pass quickly.

Because of this, some economic science authors have named cycles according to how long they can last.

Long Kondratiev cycles

The economic cycles studied by the Russian economist Nikolai Kondratiev and which, according to him, are formed by long periods of 40 to 60 years.

Kondratiev explained these cycles as part of the technological revolutions that marked the capitalist world with intensity, causing growth and crisis.

He studied the long cycles that brought steam engines from top to bottom (1790-1850), railways (1850-1896) and finally electrification with the appearance of automobiles (1896-1930).

Cycles of 7 to 11 years of Juggler

Attributed to the work of Clément Juglar, who studied long-term cycles, taking an average of 7 to 11 years in the UK in the 19th century.

This cycle links the ups and downs of the Gross Domestic Product (GDP) with investment spending, inflation and fluctuations in the labor market.

Kitchin cycles from 2 to 4 years.

Cycles analyzed by statistician Joseph Kitchin, who relates them to the business cycles of companies in an economy.

This theory takes into account the changes that companies make to their inventories as demand, supplier prices, or loan interest rates change.