2.5.3 The Trade Cycle

Question 1

The trade (business) cycle

Answer 1

The actual growth of the economy fluctuates over time. These are shown by the Trade Cycle.

Question 2

What is a boom?

Answer 2

When the economy is growing quickly.

• Aggregate Demand will be rising, leading a fall in unemployment and a rise in inflation.

Question 3

What is a recession?

Answer 3

When there’s negative economic growth for at least two consecutive quarters.

• Aggregate Demand will be falling, causing unemployment to rise and a fall in price levels.

Question 4

What is a recovery - trade cycle

Answer 4

Where the economy begins to grow again, going from negative economic growth to positive economic growth.

• Aggregate demand will be rising so unemployment will be falling and inflation will be rising.

Question 5

What is the trend rate of growth?

Answer 5

The average rate of economic growth over a period of time (both economic booms and slumps).

Question 6

Characteristics of a recession

Answer 6

• Two consecutive quarters (6 months) or more of negative economic growth.
• Increasing/high unemployment.
• Increasing negative output gap and spare production capacity.
• Low consumer/business confidence.
• Low inflation.
• Increase in government expenditure, leading to a greater budget deficit.

Question 7

Characteristics of a boom

Answer 7

• Increasing/high rates of economic growth.
• Decreasing unemployment and increasing job vacancies.
• Reduction of negative output gaps or creation of a positive output gap. Spare capacity is reduced or eliminated.
• High confidence and more risky decisions are taken.
• Increasing rate of inflation (usually demand-pull).
• An improvement in the government budget as tax revenues rise and expenditure falls.

Question 8

Why do governments want a mild trade cycle?

Answer 8

Each recession and boom are as small as possible.

Question 9

When does hysteresis occur?

Answer 9

Hysteresis occurs when, after a recession, the long-term economic growth resumes but from a lower starting point of GDP.

For example, after the covid lockdowns, many people changed their employment status. Lots of people retired earlier than planned and more younger workers are working part-time to have a better work-life balance.

Question 10

Give examples of events that lead a boom

Answer 10

• Increasing employment. – (DEMAND + SUPPLY)
• Wars – Decreased unemployment and leads to an innovation in technology. – (DEMAND)
• Pandemic – Innovation (created a whole new industry). – (SUPPLY)
• Foreign investment e.g. Nissan in Sunderland or Electric car battery factory in Northumberland. – (SUPPLY)
• Government investment e.g. HS2 or Crossrail. – (SUPPLY)
• Increased MPC or decreased MPS. – (DEMAND)
• Increase in exports/devaluing of currency. – (SUPPLY )
• Use of savings. – (DEMAND)
• Disinflation. – (DEMAND)

Question 11

Give examples of events that lead a recession

Answer 11

• Pandemic – Economic activity was shut down – (DEMAND + SUPPLY)
• Misinformation – e.g. Northern Rock – (DEMAND)
• Increase in un employment – (DEMAND)
• Wars – (DEMAND + SUPPLY)
• Stock Market Crash – (DEMAND)
• Rise in interest rates – (DEMAND)
• Rise in tax rates – (DEMAND)
• House prices collapse
• Change in exchange rates (changes in the price of export/imports) – (DEMAND)
• Global recession - (DEMAND)
• Commodity prices – Leading to a decrease in AD – (DEMAND + SUPPLY)
• Strikes and industrial action / “worker unrest” – (SUPPLY).
• Fall in employment – (SUPPLY)