Economic Conditions Change
THE BUSINESS CYCLE
Economic and business activity tends to move in cycles. All nations experience economic good times and bad times. Fortunately, over time, bad conditions disappear and good conditions return.
Looking at the economic changes during the history of the United States shows a pattern of good times to bad times and back to good times. This movement of the economy from one condition to another and back again is called a business cycle .
Business cycles are the recurring ups and downs of GDP. Business cycles have four phases: prosperity, recession, depression, and recovery.
Prosperity
At the peak of the business cycle is prosperity. Prosperity is a period in which most people who want to work are working, businesses produce goods and services in record numbers, wages are good, and the rate of GDP growth increases.
The demand for goods and services is high. This period is usually the high point of the business cycle. Prosperity, though, does not go on forever. The economy eventually cools off and activity slows down.
Recession
When the economy slows down, a phase of the business cycle known as recession occurs. Recession is a period in which demand begins to decrease, businesses lower production, unemployment begins to rise, and GDP growth slows for two or more quarters of the calendar year.
This phase may not be too serious or last very long, but it often signals trouble for workers in related businesses. For example, if people buy fewer cars, a number of workers who make batteries, tires, and other parts may lose their jobs. This drop in related businesses is called the ripple effect.
Eventually, production weakens throughout the economy, and total output declines in the next quarter. Some recessions last for long periods as fewer factors of production are used and total demand falls.
Depression
If a recession deepens and spreads throughout the entire economy, the nation may move into the third phase, depression. Depression is a phase marked by a prolonged period of high unemployment, weak consumer sales, and business failures.
GDP falls rapidly during a depression. Fortunately, our economy has not had a depression for more than 65 years. The period 1930–1940 in U.S. history is referred to as the Great Depression. Approximately 25 percent of the U.S. labor force was unemployed. Many people could not afford to satisfy even their basic needs.
Recovery
Economic downturns do not go on forever. A welcome phase of the business cycle, known as recovery, begins to appear. Recovery is the phase in which unemployment begins to decrease, demand for goods and services increases, and GDP begins to rise again.
People gain employment. Consumers regain confidence about their futures and begin buying again. Recovery may be slow or fast. As it continues, the nation moves back into prosperity.
Economic and business activity tends to move in cycles. All nations experience economic good times and bad times. Fortunately, over time, bad conditions disappear and good conditions return.
Looking at the economic changes during the history of the United States shows a pattern of good times to bad times and back to good times. This movement of the economy from one condition to another and back again is called a business cycle .
Business cycles are the recurring ups and downs of GDP. Business cycles have four phases: prosperity, recession, depression, and recovery.
Prosperity
At the peak of the business cycle is prosperity. Prosperity is a period in which most people who want to work are working, businesses produce goods and services in record numbers, wages are good, and the rate of GDP growth increases.
The demand for goods and services is high. This period is usually the high point of the business cycle. Prosperity, though, does not go on forever. The economy eventually cools off and activity slows down.
Recession
When the economy slows down, a phase of the business cycle known as recession occurs. Recession is a period in which demand begins to decrease, businesses lower production, unemployment begins to rise, and GDP growth slows for two or more quarters of the calendar year.
This phase may not be too serious or last very long, but it often signals trouble for workers in related businesses. For example, if people buy fewer cars, a number of workers who make batteries, tires, and other parts may lose their jobs. This drop in related businesses is called the ripple effect.
Eventually, production weakens throughout the economy, and total output declines in the next quarter. Some recessions last for long periods as fewer factors of production are used and total demand falls.
Depression
If a recession deepens and spreads throughout the entire economy, the nation may move into the third phase, depression. Depression is a phase marked by a prolonged period of high unemployment, weak consumer sales, and business failures.
GDP falls rapidly during a depression. Fortunately, our economy has not had a depression for more than 65 years. The period 1930–1940 in U.S. history is referred to as the Great Depression. Approximately 25 percent of the U.S. labor force was unemployed. Many people could not afford to satisfy even their basic needs.
Recovery
Economic downturns do not go on forever. A welcome phase of the business cycle, known as recovery, begins to appear. Recovery is the phase in which unemployment begins to decrease, demand for goods and services increases, and GDP begins to rise again.
People gain employment. Consumers regain confidence about their futures and begin buying again. Recovery may be slow or fast. As it continues, the nation moves back into prosperity.
CONSUMER PRICES
Have you ever noticed that packages of some items get smaller while the price stays the same? Have you bought new technology products that are less expensive than earlier ones? These are exampels of changes in the buying power of your money. Inflation A problem with which most nations have to cope is inflation. Inflation is an increase in the general level of prices. In times of inflation, buying power decreases. For example, if prices increased 5 percent during the last year, items that cost $100 then would now cost $105. This means it now takes more money to buy the same amount of goods and services. Inflation is most harmful to people living on fixed incomes. Due to inflation, retired people and others whose incomes do not change are able to afford fewer goods and services. Causes of InflationOne type of inflation occurs when the demand for goods and services is greater than the supply. When a large supply of money, earned or borrowed, is spent for goods that are in short supply, prices increase. Even though wages (the price paid for labor) tend to increase during inflation, prices of goods and services usually rise so fast that the wage earner never seems to catch up. Most people think inflation is harmful. Consumers have to pay higher prices for the things they buy. Therefore, as workers, they have to earn more money to maintain the same standard of living. Producers may receive higher prices for the goods and services they sell. If wages go up faster than prices, businesses tend to hire fewer workers and so unemployment worsens. Measuring Inflation Inflation rates vary. During the late 1950s and early 1960s, the annual inflation rate in the United States was in the 1 to 3 percent range. During the late 1970s and early 1980s, the cost of living increased 10 to 12 percent annually. Mild inflation (perhaps 2 or 3 percent a year) can actually stimulate economic growth. During a mildly inflationary period, wages often rise more slowly than the prices of products. The prices of the products sold are high in relation to the cost of labor. The producer makes higher profits and tends to expand production and hire more people. The newly employed workers increase spending, and the total demand in an economy increases. In the United States, one of the most watched measures of inflation is called the Consumer Price Index (CPI). A price index is a number that compares prices in one year with prices in some earlier base year. There are different types of price indexes. Inflation rates can be deceptive because the Consumer Price Index is based on a group of selected items. Many people face hidden inflation given that they may not buy the exact items used to calculate the index. The cost of necessities (food, gas, health care) may increase faster than that of nonessential items, which could be dropping. This results in a reported inflation rate much lower than the actual cost-of-living increase being experienced by consumers. Deflation The opposite of inflation is called deflation. Deflation means a decrease in the general level of prices. It usually occurs in periods of recession and depression. Prices of products are lower, but people have less money to buy them. Significant deflation occurred in the United States during the Great Depression of the 1930s. For example, between 1929 and 1933, prices declined about 25 percent. Deflation may occur for specific products. In recent years, the cost of computers and many other electronic products have declined mainly due to improved technology. INTEREST RATES In simple terms, interest rates represent the cost of money. Like everything else, money has a price. Interest rates have a strong influence on business activities. Companies and governments that borrow money are affected by interest rates. Higher interest rates mean higher business costs. As a consumer, you are affected by interest rates. The earnings you receive as a saver or an investor reflect current interest rates. Consumers also borrow. People with poor credit ratings pay a higher interest rate than people with good credit ratings. Types of Interest RatesMany types of interest rates exist in every economy. These rates represent the cost of money for different groups in different settings. Some of the types of interest rates include the following:
Each day, the cost of money (interest) changes because of various factors. The supply and demand for money is the major influence on the level of interest rates. As amounts saved increase, interest rates tend to decline. This occurs because more funds are available. When borrowing by consumers, businesses, and government increases, interest rates are likely to rise. |
|