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MB0042 Solved Fall Drive Assignment 2011

MB0042 Solved Fall Drive Assignment 2011

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Published by vijaivictor84
Q1. What is a business cycle? Describe the different phases of a business cycle. The business cycle phases define long-term pattern of changes in Gross Domestic Product (GDP) that follows four basic stages: expansion, prosperity, contraction, and recession. After a recessionary phase, the expansionary phase starts again. The business cycle phases are characterized by changing employment, industrial productivity, and interest rates. Stock analysts believe that stock prices lead the business cycle
Q1. What is a business cycle? Describe the different phases of a business cycle. The business cycle phases define long-term pattern of changes in Gross Domestic Product (GDP) that follows four basic stages: expansion, prosperity, contraction, and recession. After a recessionary phase, the expansionary phase starts again. The business cycle phases are characterized by changing employment, industrial productivity, and interest rates. Stock analysts believe that stock prices lead the business cycle

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Q1. What is a business cycle? Describe the different phases of abusiness cycle.
 The business cycle phases define long-term pattern of changes in GrossDomestic Product (GDP) that follows four basic stages: expansion,prosperity, contraction, and recession. After a recessionary phase, theexpansionary phase starts again. The business cycle phases are characterized by changing employment,industrial productivity, and interest rates. Stock analysts believe thatstock prices lead the business cycle phases. This economic cycle providesthe strategic framework for business activity and investing. Moreover, thebusiness cycle phases affect employees, employers and investors.A business cycle is identified as a sequence of four phases:
Expansion Phase: The economy is strong, people are employed andmaking money. Demand for goods -- food, consumer appliances,electronics, services -- increases to the point where it outstripssupply. This demand fuels a rise in prices, or inflation.
Prosperity Phase: As prices increase, people ask for higher wages.Higher employment costs translate into higher prices for goods,fueling an upward spiral effect.
Contraction Phase: When prices get too high, consumers andcompanies curtail their spending, as goods and services are tooexpensive. This decreases demand. When demand decreases,companies cut expenses that includes laying off workers, since theydo not need to make as many goods or provide as much service.
Recession Phase: Decreasing demand fuels declining prices,declining GDP, and rising unemployment. This means the economyis in a recession.
Expansion Phase begins again: Lower prices eventually spursdemand. As demand picks up, people begin buying again, fuelingthe need for greater supply, expansion of credit, new jobs and agrowing economy.When the business cycle doesn't run as expected, it can haveconsequences that can be as disastrous as the Great Depression. That'swhy governments intervene to try to manage the economy. If it appearsthat inflation is rising too quickly, the Federal Reserve (the central bank of the U.S. charged with handling monetary policy) may decide to raiseinterest rates to curtail price increases. On the other hand, if the economyis performing poorly, the government may lower taxes to spurconsumption and investment and the Federal Reserve may lower interestrates to reduce the cost of borrowing.Interest rates and theyield curveplay a very important role indetermining economic activity, the phases of the business cycle and theperformance of the stock market. Higher interest rates increase the coststo businesses and individuals. Companies must pay more to borrow
 
money for capital investments or to fund daily business operations.Individuals pay more for mortgages, as well as other loans they may takeout to purchase products. Higher interest rates also increase the demandfor money to invest in bonds, competing for money to invest in the stockmarket. The phases of the business cycle have implications for markets andinvestors. Broadly, a recession often corresponds with a sustained periodof weak stock prices, or a bear market. And a healthy, expandingeconomy that keeps inflation from rising too quickly often correspondswith a bull market, or period of sustained market growth.Sector RotationFortunately, there are investment strategies for each phase of thebusiness cycle. Sam Stovall'sSector Investing, 1996states that differentsectors are stronger at different business cycle phases. The table belowdescribes this theoretical model showing the phases of the business cycle.Phase:ConsumerExpectations:IndustrialProduction:Interest Rates: Yield Curve:Full RecessionRevivingBottoming OutFallingNormalEarly RecoveryRisingRisingBottoming OutNormal (Steep)Full RecoveryDecliningFlatRising Rapidly(Fed)Flattening OutEarly RecessionFalling SharplyFallingPeakingFlat/Inverted The graph below, courtesy of StockCharts.com, shows these relationshipsand the alignment of the key sectors as they respond to the businesscycle. The stock market cycle tends to precede the business cycle by sixmonths on average, as investors try to anticipate when the market willrespond to changes in the economy. This means investors are more likelyto beat the market, if they invest in the sectors that line up with thecurrent and next phase of the business cycle.Sector Rotation Model:
 
Legend: Market CycleEconomic CycleAs shown above the stock market is a leading indicator of the economic orphases of the business cycle. Since the market leads the economy,investors need to pay particular attention to the early signs of a change ineach phase of the business cycle.Many people believe that GDP is the primary indicator of the businesscycle. TheNational Bureau of Economic Research (NBER)gives relativelylow weight to GDP as a primary business cycle indicator, since the GDP issubject to frequent revisions after the fact. In addition, it is only reportedon a quarterly basis. The NBER is the official organization that defineswhen the U.S. is in a recession and when it comes out of one. The NBER relies on indicators that are reported monthly to identify thebusiness cycle phases including:
Employment, especially new unemployment claims;
Personal income;
Industrial production;
Sales in key sectors such as housing, autos, durable goods andretail sales;
Interest rates and the yield curve; and
Commodity prices.By following these indicators carefully, investors can anticipate when toexpect changes in the business cycle. These indicators tend to changetheir trajectory over several months, giving investors ample time toidentify a change in the trend. If you believe a change in the phase of thebusiness cycle is underway then it is time to close out sectors that will goout of favor and start new positions in sectors that will come into favour. This strategy will position you to beat the market using the phases of thebusiness cycle as a guide.Our stock market strategy begins with an understanding of where we arein the the business cycle. Assessing the business cycle phases is the firstof five steps in our stock market strategy that we use to beat the market.
Q2. What is monetary policy? Explain the general objectives andinstruments of monetary policy
 Monetary policy is the process by which the monetary authority of acountry controls the supply of money, often targeting a rate of interest forthe purpose of promoting economic growth and stability.[1] [2] The officialgoals usually include relatively stable prices and low unemployment.Monetary theory provides insight into how to craft optimal monetarypolicy. It is referred to as either being expansionary or contractionary,

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