Economic Cycle: Definition and 4 Stages of the Business Cycle

Companies that lay off staff have felt the backlash from communities, customers, politicians, and workers. “We are not living in a Milton Friedman-esque system where if you don’t have demand, you just fire the people and the market will solve what happens to [them],” says Sven Smit. Conversely, a recession only intensifies society’s demand that businesses and governments are run responsibly. That said, there are a few things we’ve learned about recessions, according to McKinsey senior partner and chairman of the McKinsey Global Institute Sven Smit. Market imbalances that cause recessions can be triggered by geopolitics, economic cycles, and many other forces.

An L-shaped recession or depression occurs when an economy has a severe recession and does not return to trend line growth[8] for many years, if ever. Alternative terms for long periods of underperformance include “depression” and “lost decade”; compare also “malaise”. Governments usually respond to recessions by adopting expansionary macroeconomic policies, such as increasing money supply and decreasing interest rates or increasing government spending and decreasing taxation.

  1. These programs already exist or have been pursued in the past, suggesting they are feasible and realistic.
  2. As demand decreases, businesses may not immediately adjust production levels, leading to oversaturated markets with surplus supply and a downward movement in prices.
  3. Second, it can reflect the public policy response to a recession in terms of monetary and fiscal policy, which can benefit some segments of the economy more than others.
  4. For comparison, from 1959 to 2019, the personal savings rate averaged 11.8%, according to research from the St. Louis Federal Reserve.
  5. The reality is, however, that recessions are a normal part of business cycles, and even as expert predictions of an “everything bubble” or a global economic meltdown abound, not every economist foresees a worst-case scenario.

Recessions are always caused by imbalances in the market, triggered by external or internal factors. But, to repurpose Tolstoy’s famous quip about unhappy families, recessions are each unhappy in their own way—as we’ll see in the three case studies highlighted below. Given that economic forecasting is uncertain, predicting future recessions is far from easy. For example, COVID-19 appeared seemingly out of nowhere in early 2020, and within a few months the U.S. economy had been all but closed down and millions of workers had lost their jobs. The NBER has officially declared a U.S. recession due to coronavirus, noting that the U.S. economy fell into contraction starting in February 2020.

Understanding Recessions

The National Bureau of Economic Research (NBER) is the definitive source for marking the official dates for U.S. economic cycles. Relying primarily on changes in GDP, NBER measures the length of economic cycles from trough to trough or peak to peak. Losses of wealth and speed of recovery also varied considerably by socioeconomic class prior to the downturn, with the wealthiest groups suffering the least (in percentage terms) and recovering the soonest. For such reasons, it is generally agreed that the Great Recession worsened inequality of wealth in the United States, which had already been significant.

The average U.S. recession since 1857 lasted 17 months, although the six recessions since 1980 averaged less than 10 months. According to NBER, the two-month downturn ended in April 2020, qualifying as a recession as it was deep and pervasive despite its record short length. In 2022, many economic analysts debated whether the U.S. economy was in recession or not, given that some economic indicators pointed to recession, but others did not. Plus, if you don’t sell the bond before it matures, at the end of the period you’ll get back the initial amount you invested.

What is a Recession?

Peak growth typically creates some imbalances in the economy that need to be corrected. As a result, businesses may start to reevaluate their budgets and spending when they believe that the economic cycle has reached its peak. A recession is a good time to avoid speculating, especially on stocks that have taken the worst beating. Weaker companies often go bankrupt during recessions, and while stocks that have fallen by 80%, 90%, or even more might seem like bargains, they are usually cheap for a reason.


You need a better credit score or a larger down payment to qualify for a loan that would be the case during more normal economic times. By way of comparison, the Great Recession was the worst recession since the Great Depression. During the Great Recession, unemployment peaked around 10% and the recession officially lasted from December 2007 to June 2009, about a year and a half. As a result of late 1920s profit issues in agriculture and cutbacks, 1931–1932 saw Australia’s biggest recession in its entire history.

What to invest in during a recession

A recession has many attributes that can occur simultaneously and includes declines in component measures of economic activity (GDP) such as consumption, investment, government spending, and net export activity. These summary measures reflect underlying drivers such as employment levels and skills, household savings rates, corporate investment decisions, interest rates, demographics, and government policies. A recession is a significant, widespread, and prolonged downturn in economic activity. A common rule of thumb is that two consecutive quarters of negative gross domestic product (GDP) growth mean recession, but many use more complex measures to decide if the economy is in recession. Interest rates are also likely to decline as the central bank (such as the U.S. Federal Reserve Bank) cuts rates to support the economy.

Depth of recessions

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Given the large share of consumption in the U.S. economy and the propensity for consumption to fall during a recession, such a policy could be an important way to combat any sizable fall in demand in the economy. The worst-case economic scenario for the COVID-19 crisis is that it causes an L-shaped types of recession recession — also referred to often as an L-shaped recovery. In this outcome, growth falls and does not recover for years, creating the long shape of the L. The official recession may end within a few quarters, but the recovery to a pre-recession level of economic output may take years.

A range of financial, psychological, and real economic factors are at play in any given recession. One way companies might fulfill their responsibility to their people is by investing in reskilling the existing workforce to meet the requirements of the changed organization. Recessions happen—that’s just the price of doing business in a capitalist system. Knowing when one will happen, obviously, confers a lot of benefits to societies, businesses, and individuals.

First, it cites the fact that employment continued to increase even though GDP contracted. The report further points out that although real personal disposable income also declined in 2022, much of the decline was a result of the end of the COVID-19 relief stimulus, and that personal income excluding these payments continued to rise. Numerous economic theories attempt to explain why and how an economy goes into recession. These theories can be broadly categorized as economic, financial, psychological, or a combination of these factors. While there is no single, sure-fire predictor of recession, an inverted yield curve has come before each of the 10 U.S. recessions since 1955, although not every period of inverted yield curve was followed by recession.

Recessions cause standard monetary and fiscal effects – credit availability tightens, and short-term interest rates tend to fall. That, in turn, reduces consumption rates, which causes inflation rates to go down. Lower prices reduce corporate profits, which triggers more job cuts and creates a vicious cycle of an economic slowdown. Recessions are considered a part of the natural business/economic cycle of expansion and contraction. An economy starts to expand at its trough (weakest point) and starts to recede after reaching its peak (highest point).

When business sentiment turns gloomy and investment slows, a self-fulfilling loop of economic malaise can result. According to Keynesians, unemployment means less consumer spending, and the whole economy sours, with no clear solution other than government intervention and economic stimulus. Monetarism suggests that government can achieve economic stability through their money supply’s growth rate. It ties the economic cycle to the credit cycle, where changes in interest rates reduce or induce economic activity by making borrowing by households, businesses, and the government more or less expensive. An economic cycle, also known as a business cycle, refers to economic fluctuations between periods of expansion and contraction.

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