Question

Business Cycle

• What are the four phases of the business cycle? Which phase are we in now? When do you think the United States economy will move to the next phase? Visit the NBER (http://nber.org/cycles/cyclesmain.html) website and review the recent business cycle data. How long as the economy been in the current phase?

Answer 1

The business (or economic) cycle is made up of four phases: expansion, peak, recession, and trough.

Expansion is the normal state of an economy, which is characterized by increasing GDP, low unemployment, healthy sales which steady growth in wages. An economy is entering the peak period as growth is slowing and inflation is on the rise. When inflation increases faster than the economy expands, it'll start moving into a recession. Economic activity slows during a recession, wages fall, and joblessness increases. Eventually, before the next recession starts, the economy would begin to stabilise and enter the trough phase. Expansions are the rule in a stable economy, with brief and infrequent recessions.

Using the latest economic data, it's easy to realize that we are in the business cycle expansion process. The latest debate is not in which phase we are in but in which expansion we are in. To find the solution we have to look at historical market cycles first. After the 1990s, the duration of growth cycles has gradually increased and some analysts also wondered whether that would lead to the end of the business cycle as we knew. In 2007, when the US plunged into the worst recession since the Great Depression, expectations of a (mostly) continuous expansion were dashed.

The recession was known as the Great Depression, and the economic cycle proved alive and well, but that doesn't mean that expansions don't change. Expansions are prolonging, and by March our latest extension will be the 3rd longest in US history. Our current expansion is not only a long expansion but also much slower than average. We have seen an average GDP growth of just 2.1% since 2009, while previous expansions have seen growth of close to 3%. Slow growth has balanced this economy and kept inflation at bay, but it has also left investors feeling less than happy about their returns.

Not only has a long, gradual expansion been rough on creditors, it's also made it impossible to determine exactly where the US is in the new expansion. Full employment is viewed as an sign that an economy is entering a late expansion period. If an economy is at full employment, businesses may fail to expand because they are unable to find skilled labor. Current unemployment rates have been below 5 per cent for the past 6 months, according to the Bureau of Labor Statistics. This is slightly below the 50-year average of 6.2 percent and still just over 5 percent below the widely recognized full-time work rate.

It is difficult to assess where an economy is in the business cycle, and much harder to date the economic cycle. Since our economy has been rising gradually through the whole expansion, many investors do not believe the economy is as strong as it is in shape. Trying to time the market to look for better returns is enticing. The long slow growth has made it difficult to forecast business dynamics, but it isn't all negative. Slow growth prevents the economy from overheating and sustained growth is highly likely to be seen.

It does not suggest, though, that we can not make the same mistake, and assume that recessions are over. The business cycle is alive and well and further cycles of recession and expansion are expected. Holding a diversified allocation planned to last the test of time and perform under all market conditions is important. We take a balanced approach in our investments using stocks from all markets as well as market capitalisation.