Business Cycle

Question 1

What is the coincident index and what are the indicator components?

Answer 1

The coincident index provides information about the current state of the economy, and tracks turning points in the business cycle

consists of:

• No. of employees on nonfarm payrolls
• Personal income less transfer payments
• Industrial production index
• manufacture and retail trade sales

Question 2

What is the leading economic index and what are the indicator components?

Answer 2

The leading economic index are indicators prior to a recession - performs better as a whole (composite index)

consists of:

• average workweek (production/manufacture)
• average weekly claims for unemployment insurance
• manufacture new orders for consumer goods and materials
• ISM new orders index
• manufacture new orders for non-defense capital goods
• monthly building permit (private housing)
• leading credit index (M2)
• stock prices
• interest rate between treasury bonds and federal funds rate
• consumer expectations

Question 3

What is the lagging economic index and what are the indicator components?

Answer 3

The lagging index confirms that the events indeed occurred. Follows downturns in the business cycle by three months and expansion by five months

consists of:

• average duration of employment
• ratio of manufacturing and trade inventory to sales
• manufacturing labor cost per unit of output
• average prime rate –> moves with respect to federal funds
• commercial and industrial loans outstanding
• ratio of consumer installment credit to personal income
• change in the consumer price index for service

Question 4

What makes an indicator good?

Answer 4

• conformity: must conform well to the business cycle
• consistent timing: consistent timing pattern over time
• economic significance: cyclical timing must be economically logical
• statistical adequacy: data must be collected and processed reliably
• smoothness: must not be too erratic over tim
• currency: published on a reasonably prompt schedule

Question 5

What is a yield curve?

Answer 5

The yield curve shows the relationship between yield on US treasury securities and their maturity

Question 6

What does it mean when a yield curve is inverted?

Answer 6

It means that short term rates are higher than long-term, which signals insecurity about the future and indicates recession, however, not every inversion was followed by a recession.

Long terms are usually higher than short term because more things can affect the value of the bond in ten years than in two and lenders require greater rewards for undertaking these greater risks

Question 7

What are the stages of the business cycle?

Answer 7

• Boom: economic expansion after a recession. Leads to overconfidence and excessive risk taking
• Peak: when the boom gets too strong, we near the peak
• recession: economy starts to slow down and contract
• depression: the economy is at a low
• trough: when the depression gets strong, we near the trough
• recovery: profits grow and faster than output, unemployment means plenty of labor to hire, rise in profit share

Question 8

Name important characteristics of recession.

Answer 8

• profit squeezes
• shifts in sentiment
• leading to declining equity prices and business investments

Question 9

What is the diffusion index?

Answer 9

tells us how widespread a particular business cycle movements has become, by listing the number of components that increase in a given month.

A value of 70, means that 7/10 components rised