A business cycle, also known as an economic cycle, refers to the natural rise and fall of economic activity over a period of time. Economies do not grow at a steady rate; instead, they go through periods of faster and slower growth.
Simple Analogy: Think of a business cycle like a roller coaster 馃帰. It has its ups (growth), downs (recession), a high point, and a low point.
The Four Phases of a Business Cycle
A business cycle consists of four distinct phases that occur in a sequence.
1. Expansion (Growth Phase)
This is the “going up” phase of the roller coaster.
- What happens: The economy grows at a positive rate.
- Key Characteristics:
- GDP (Gross Domestic Product) increases.
- Unemployment decreases as businesses hire more people.
- Consumer spending is high as people are confident and have more money.
- Inflation may start to rise as demand for goods and services increases.
- Businesses are profitable and make new investments.
2. Peak (The Highest Point)
This is the top of the roller coaster, the highest point of the business cycle.
- What happens: The economy has reached its maximum growth for that cycle.
- Key Characteristics:
- Economic growth rate slows down.
- Inflation is often at its highest.
- Unemployment is at its lowest.
- Businesses are operating at full capacity.
- The peak marks the end of expansion and the beginning of a downturn.
3. Contraction (Recession Phase)
This is the “going down” phase of the roller coaster.
- What happens: The economy starts to shrink. Economic growth becomes negative.
- Key Characteristics:
- GDP falls.
- Unemployment starts to rise as businesses lay off workers.
- Consumer spending decreases as people become worried about the future.
- Businesses postpone investments and production is cut back.
- A prolonged and severe contraction is called a Depression.
4. Trough (The Lowest Point)
This is the bottom of the roller coaster, the lowest point of the business cycle.
- What happens: The economy hits its lowest point and the contraction phase ends.
- Key Characteristics:
- Economic activity is at its lowest.
- Unemployment is at its highest.
- There is a large amount of unused production capacity.
- The trough marks the end of the contraction and the beginning of a new expansion (recovery).
Summary Table for Revision
| Phase | GDP | Unemployment | Inflation | Business Investment |
| Expansion | Increasing 馃敿 | Decreasing 馃斀 | Rising 馃敿 | High 馃敿 |
| Peak | At its highest 鈴革笍 | At its lowest 鈴革笍 | At its highest 鈴革笍 | At its highest 鈴革笍 |
| Contraction | Decreasing 馃斀 | Increasing 馃敿 | Falling 馃斀 | Low 馃斀 |
| Trough | At its lowest 鈴革笍 | At its highest 鈴革笍 | At its lowest 鈴革笍 | At its lowest 鈴革笍 |
Understanding business cycles helps governments and central banks (like the RBI) to apply the right policies. For example, during a contraction, they might lower interest rates and increase government spending to stimulate growth. During an expansion with high inflation, they might do the opposite.