Business Cycle and the Economic Fluctuations

Peak

Boom Recession

Business
Cycle

Recovery Depression

Trough
 Questions need to be answered
1. What causes the short-run fluctuations
2. What model should we use to explain the short-run
fluctuations?
3. The role of the policy makers.
Different Phases of Business
Cycle
 Expansion
1. Recovery
2. Boom
3. Peak
 Contraction
 Recession
 Depression
 Trough
 Where is the Indian
economy in the business
cycle?
Indian Economy is in the Slowdown
Phase of the Business Cycle
Indicator 2013-14 2017-18 2018-19
GDP 6.81 7.17 6.81

Growth of consumption 4.81 5.0 3.4

expenditure
Gross fixed capital formation 2.5 2.5 1.8

Industrial Sector Growth 3.2 6.9 5.9

Services 6.6 7.5

Agriculture 1.8 2.9 3.9

Widening trade deficit

Rupee depreciation
WPI sticky at 3-4%
Indian Economy
Indian Economy
Indian Economy in recession or
not

Cyclical or structural? Decoding the nature of

India's economic slowdown
 Industry and Business
Cycle
End of Increase in…merger, loan Financial services
recession demand,
housing construction, security
offerings
Begin in Increase in consumer confidence, Consumer durable,
recovery personal income, modernizing, Capital goods
renovating,
Peak Increase in inflation, Basic industry
Recession Spending declines, weak domestic Pharmacy, Food and
currency, beverages,
[defensive industry,
industry with more
export]

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 Industry and Business Cycle
Sector
Resource industries
[aluminum, steel, chemicals,
paper, forest products]
Energy
[coal, oil, gas]
Industrials
(highly cyclical)
Economic Recovery Economic Decline
Peak earnings in later
stages of economic
recovery
Peak earnings
Peak earnings

Consumer Out performs other

[food, tobacco, drugs] industries
Interest sensitive Peak earnings

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Four Broad Sectors
• Metals and Minerals

Resource • Gold and silver

• Paper and forest products
• Oil and gas firms

• Industrial products
Industrials • Transportation services
• Conglomerate firms

• Consumer products
Consumer • Communication and media
• Merchandising

Interest • Real estate

• Financial Services
• Pipelines
Sensitive • Utilities

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Cyclical vs. Defensive
Cyclical Defensive
Industries Industries
• Sensitive to • Little
business sensitivity to
cycle business
cycle
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Macro Economic Variable to be
Followed by a Portfolio Manager
Business cycle

Inflation and Interest rates

Integrating short run information with long run information

Identify when the economy is clearly ‘out of equilibrium’ - Equilibrium tendencies of the
economy

Monitor the domestic and other closely related economy

Domestic economy has to be analyzed for overall pattern, stage of business cycle, historical context

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Empirical Findings
Declines in the rate of growth of the money supply have
preceded business contraction by an average of 20 months

Increases in the rate of growth of the money supply have

preceded economic expansions by about 8 months

Inflation and interest rates generally move together

Investors are not good at predicting inflation

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Empirical Findings
Inflation rates and bond prices negative relationship and it has more
effect on longer term bonds

Interest rates and stock prices are not direct and not consistent,
effect varies over time

Differential inflation and interest rates influence the trade

balance between countries and the exchange rate for currencies

There is link between unemployment rate and inflation

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Empirical Findings

Stock price will be stable if the increase in the required rate of return
is offset by the increase in the growth rate of dividend

Economic trends can and do affect industry performance

By identifying and monitoring key assumptions and variables, we can

monitor the economy and gauge the implications of new information
on our economic outlook and industry analysis

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