The Nature and Causes of Business Cycles, Essay Example

Business cycles are designed to define the periods of fluctuation within economic variables. The theory of business cycles lies in the assumptions that fluctuations described above are periodic, and can define an overall pattern. The variables used to determine business cycles vary from one economy to another, however, some of the most commonly used ones are employment rate, industrial production, and consumption.

The Business Cycle Dating Committee is an agency of the National Bureau of Economic Research. It performs several roles, such as maintaining the chronology of the business cycles in the U.S, and defines the lows and peaks of recession and expansion of the economy. It is a committee that is designed to determine economic trends in the United States and adjust monetary policies accordingly. According to the 2003 report of the Committee (Hall, 1), the chronology determined that the U.S. economy had a peak in March 2001, and it ended a long term process of expansion starting in 1991.  Further, the Committee determined December 2007 as a peak of economic activity, followed by a steady decline (recession) in each following consecutive month (Business Cycle Dating Committee, 1). Since 1920, it has determined a total of 33 cycles. The last cycle identified by the Business Cycle Dating Committee of the National Bureau of Economic Research was between 2007 and 2009: an 18 month period of recession, lasting from December 2007 to June 2009.

The NBER works with a  variety of datasets in order to determine the peak and the trough of each cycle. Simply put: the Committee determines a date (month) when the economy reaches its peak, based on various measures, and  determines a data (month) when it reaches its trough. The cycle (time) that is between peak and trough is defined as recession,  while the next phase, which is between the trough and peak is expansion. In the past century, several cycles have been determined, and periods of recession lasted between 6 (1980) and 43 months (1929-1933). Periods of expansion, however, last generally longer, with the longest period being between March 1991 and March 2001: 120 months[1].

The NBER defines recessions based on peaks and the consecutive months of decline in economic variables. According to the Committee’s definition, “A recession is a period of falling economic activity spread across the economy, lasting more than a few months, normally visible in real GDP, real income, employment, industrial production, and wholesale-retail sales”[2]. In 2009, NBER decided to end the cycle of recession starting from December 2007. As the agency does not use the term of a double-dip recession, it decided that “any future downturn of the economy would be a new recession and not a continuation of the recession that began in December 2007”. (Business Cycle Dating Committee). The Committee also determined that a trough occurred in June 2009, based on different economic variables, and this month was marked as an end of the recession.

It is also important to note that the definition of recession according to NBER is not the same as the one used by mainstream economists. Most economists set the criteria of recession as two consecutive quarters of declined real GDP (NBER, 3). While this is a strong determinant, the agency states that the 2001 recession did not show a decline in real GDP for two consecutive quarters, and the peak and trough determined the chronology of business cycles. It takes about 6-18 months for the BCDC to identify peaks and troughs, and defining business cycles. The single best measure to analyze economic trends, according to the NBER is to look at real GDP changes[3]. This means that even though a month is determined as a peak for the cycle, it is possible that production declined and unemployment rose in that time[4]. This also means that rising unemployment can be useful for predictions, however, it does not influence business cycles as much as many people think. The BCDC works with monthly GDP estimates, and they are prepared by professional macroeconomic advisers.

In 2007 December, the peak of the economy was reached, and a recession, lasting for 18 months started.

The determination of the beginning of the 2007 recession was a lengthy and complicated process. The recession of 2007 came after a 73 months long expansion, lasting from November 2001 until the peak in 2007[5]. The Committee made a decision mostly based on GDP and GDI figures for the preceding quarters. Further, real personal income less transfer payments were assessed, based on surveys, as well as retail, manufacturing sales and employment estimates. The main reasons why the peak of the business cycle was determined as December 2007 is because this was the month when – compared with following months and quarters – employment reached its peak, and output  started to decline in the months following December 2007. Finally, the Committee also evaluated the Federal Reserve Board’s index of industrial production, which showed that the peak for this measure was in January 2008.

The Committee, however, waited until the release of the revisions to the National Income and Product Accounts in August 2010 before determining the cycle date for peak and trough. The trough was determined based on several economic indicators, according to the 2010 report of NBER. Some indicators used to determine the trough were June 2009’s reports on GDP from macroeconomic advisers, the Stock-Watson index, GDI monthly index, trade and manufacturing sales, employment and working hours reports, and the Household employment survey. It is evident that the combination of the above variables can result in a clear indicator for determining trends’ beginning and end. The main reason why the Committee decided that June 2009 marked the end of the 18 month recession was a strong quarterly real GDP and GDI figure.

Some of the important aspects brought to light in the last recession are that backdated figures and the non-existence of the term: “double dip recession” do not help economists plan ahead.  Indeed, all of the cycles are determined after they pass, and it seems like there is no pattern to be used to determine the future. Therefore, it is evident that defining cycles has – in its current form – got little use in government planning or economic policy-making. However, there are some trends identified by the 1969 NBER publication (Burns, 26) states that expansion is a cumulative process,  based on individual activities’ cyclical behavior. The authors state that “once the forces of recovery have taken hold, they will cumulate in strength…, gather momentum, and for a time become a self-reinforcing process” (Burns, 26). The above statement of clear trend can be argued on the basis that the 2007-2009 recession in the United States and around the world did not result in an expansion, indeed, the processes did not accelerate each other, but negatively impacted the capabilities of the economy to recover. Those claiming that in 2007 the world’s economy faced a double dip recession, or even a triple dip recession[6] would certainly question the ability of business cycle identification to determine general trends of economies’ behavior.

At the same time, the 1969 document also concludes that recessions have clearly identifiable gathering forces. The signs of a recession building up to reach its momentum, described by Burns (30) include the growth of investment, the ratio of reserves and deposits declining, credit and labor cost increasing, and the end of the banking system’s expansion. While the report was written almost 50 years ago, the criteria and signs listed for a recession are relevant to the 2007 recession. The question is whether or not economists used the above description of trends that indicate an impending recession, and if they did, why did they fail to recognize the danger of a credit crunch.

While the report (Burns) clearly identifies some of the signs of expansion and recession, and the NBER keeps on tailoring its criteria for determining business cycles, it is important to note that taking into consideration an aggregate data, and individual forces at the same time is the only way to correctly define business cycles and draw conclusions from the trends for the future. If the NBER decides that the business cycle following the 2007 to 2009 recession is a short expansion followed by another recession, it would mean that the economy has produced the shortest duration between trough to the next peak in the history of the agency.

Works Cited

Burns, A. The Nature and Causes of Business Cycles. 1969. Web. http://www.nber.org/chapters/c1174.pdf

Hall, R. Recessions. http://www.nber.org/cycles/recessions.pdf

Investopedia. Double-dip Recession. 2014. Web. http://www.investopedia.com/terms/d/doublediprecession.asp

“NBER Chronology” 2014. Web. http://www.nber.org/cycles/cyclesmain.html

NBER. The NBER’s Business Cycle Dating Procedure. 2003. Web. http://www.nber.org/cycles/recessions_faq.html

NBER. Determination of the December 2007 Peak in Economic Activity. 2008. Web. http://www.nber.org/dec2008.pdf

[1] NBER, Chronology. Table.

[2] NBER, Determination of the December 2007 Peak in Economic Activity. 2008. p. 6.

[3] NBER, 2003, p. 8.

[4] The Q&A section of the document clearly explains this process: “Real GDP has risen substantially since November 2001. However, this growth in real GDP has resulted entirely from productivity growth. As a result, the growth in real GDP has been accompanied by falling employment. Unemployment has risen because of falling employment and because the labor force has been rising.” (Ibid, p. 8)

[5] NBER, Determination of the December 2007 Peak in Economic Activity. 2008. p. 6.

[6] The definition of Investopedia for double-dip recession is  as follows:  “A double-dip recession refers to a recession followed by a short-lived recovery, followed by another recession” (Investopedia, Web,)