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Level 2 Business and Economics: The Economic Context of Business

The Business Cycle

Over a period of time, there are changes in the level of economic activity in an economy. In some years economic growth might be quite slow and in other years growth rates tend to be stronger. There is a tendency for patterns of economic growth to occur. This is called the Business Cycle. (Do not get this confused with the Product Life Cycle!)

There may be a period where economic growth is quite strong. When this happens we might see the number of people being employed rising and the number of people unemployed falling. This makes sense if you refer back to our definition of economic activity. If there is more buying and selling going on then businesses need to employ people to produce the goods and services that people want to buy.

Strong economic growth is not going to last forever. When business activity slows down economic growth also slows. The economy might still be growing - for example a 1% growth rate is still growth it is just not as fast a rate of growth as 2.5%.

Recession

In some cases, economic growth can actually be negative. If there is negative economic growth for two successive quarters this is given a special name - a recession. The UK has been fortunate in not having had a recession since the early 1990s. At that time, many people lost their jobs, interest rates were high and the amount of buying and selling was reduced.

The amount we choose to buy and sell might depend on our income. If people lose their jobs, they have less income and so might not be able to buy as much as they might like. If this happens a lot in the economy then it can cause GDP to be negative. Copyright: David Playford, from stock.xchng.

The business cycle is often expressed as a diagram like the one below:

Average growth is the level of expected growth of an economy. It can be seen as the overall capacity of the economy - what it is capable of producing given its resources of land, labour and capital. Actual growth is what actually happens. It can be seen as the level of demand in an economy at any one time.

You can see that sometimes actual growth is above average growth. In times like this, the level of demand is higher than the ability of the economy to supply goods and services.

When this happens, there might be what are called 'bottlenecks' in production. Business might be trying to meet the level of demand but might be having difficulties getting hold of the right resources to carry out production. Prices might be rising as a result.

Economic activity all depends on the level of buying and selling - it is highly interdependent. There is no point building new offices if businesses are not wanting to move into them. Copyright: Elvis Santana, from stock.xchng.

Some firms might be trying to recruit new staff, for example, but not being able to get the right people with the right qualifications and skills to do the job. Most of the 'good' people in this field might be already employed. One way to attract labour to move from one job to another would be to offer a higher salary. This might get you your employee but increases costs which you might then try and pass on to your customers in the form of higher prices.

In other times the rate of economic growth might be slowing down and if things get really bad we might slip into recession. At times like this, businesses will be having difficulties selling and stock levels may be rising. They might decide there is no point continuing to produce at the same rate if sales are slow and decide to cut back production.

If they do this, there is a risk that some people might lose their jobs and suppliers might also notice a slowdown in orders. They then get affected in the same way and so the process continues.

When looking at the diagram above, we must remember that the shape of these cycles may not be anything like as regular as the diagram. The important thing to remember is that there can be changes in economic conditions and that there can be a pattern. Equally, it is important to remember the terminology being used - growth, slowdown, recession, upturn.

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