BUSINESS CYCLE

The term business cycle (or economic cycle) refers to economy-wide fluctuations in production or economic activity over several months or years. These fluctuations occur around a long-term growth trend, and typically involve shifts over time between periods of relatively rapid economic growth (expansion or boom), and periods of relative stagnation or decline (contraction or recession).

These fluctuations are often measured using the growth rate of real gross domestic product. Despite being termed cycles, these fluctuations in economic activity do not follow a mechanical or predictable periodic pattern. Business cycles are not merely fluctuations in aggregate economic activity. The critical feature that distinguishes them from the commercial convulsions of earlier centuries or from the seasonal and other short term variations of our own age is that the fluctuations are widely diffused over the economy--its industry, its commercial dealings, and its tangles of finance. The economy of the western world is a system of closely interrelated parts. He who would understand business cycles must master the workings of an economic system organized largely in a network of free enterprises searching for profit. The problem of how business cycles come about is therefore inseparable from the problem of how a capitalist economy functions. The explanation of fluctuations in aggregate economic activity is one of the primary concerns of macroeconomics. The most commonly used framework for explaining such fluctuations is Keynesian economics. In the Keynesian view, business cycles reflect the possibility that the economy may reach short-run equilibrium at levels below or above full employment. If the economy is operating with less than full employment, i.e., with high unemployment, then in theory monetary policy and fiscal policy can have a positive role to play rather than simply causing inflation or diverting funds to inefficient uses.

Keynesian models do not necessarily imply periodic business cycles. However, simple Keynesian models involving the interaction of the Keynesian multiplier and accelerator give rise to cyclical responses to initial shocks. Paul Samuelson's "oscillator model" is supposed to account for business cycles thanks to the multiplier and the accelerator. The amplitude of the variations in economic output depends on the level of the investment, for investment determines the level of aggregate output (multiplier), and is determined by aggregate demand (accelerator).

In the Keynesian tradition, Richard Goodwin accounts for cycles in output by the distribution of income between business profits and workers wages. The fluctuations in wages are the same as in the level of employment, for when the economy is at full-employment, workers are able to demand rises in wages, whereas in periods of high unemployment, wages tend to fall. According to Goodwin, when unemployment and business profits rise, the output rises.Keynesian economist Hyman Minski has proposed a explanation of cycles founded on fluctuations in credit, interest rates and financial frailty. In an expansion period, interest rates are low and companies easily borrow money from banks to invest