The “business cycle” may be one of the oldest ideas in economics. For more than 200 years, economists have noted that economies tend to expand, then slow, then contract, and eventually recover.
Lather, rinse, and repeat.
But much of what we took for granted about this economy before the pandemic seems less certain in the post-pandemic world. This includes business cycles and what that typically means about the future.
Businesses tend to make different decisions depending on where the economy is in the business cycle.
“Studying the health of companies is very similar to studying the health of the economy as a whole,” said Valerie Ramey, a senior fellow at Stanford University's Hoover Institution.
Mr. Ramey is also a member of the National Bureau of Economic Research's Business Cycle Dating Committee, which is as close to the official arbiter of the beginning and end of a business cycle as it gets.
Are there any big signs that the economy is in recession? Companies tend to lay off employees.
“The unemployment rate is starting to go up,” Ramey said. “Investment usually goes down.”
Eventually, the recession will end. Then the recovery phase begins. Companies may start asking staff to work longer hours.
“Then we will start adding employees and hiring new employees once we have more confidence that there will be a sustained recovery,” Ramey said.
Unemployment rate begins to decline. Businesses begin investing in new equipment and buildings. At some point, the economy will catch up to pre-recession levels. But Ramey said that eventually the expansion phase of the cycle will reach its peak.
“Investment tends to slow down,” Ramey said. “We typically see unemployment rates first stop falling and then level off.”
Kathy Bojancic, chief economist at Nationwide Mutual, said this stage is also known as the second half of the business cycle. Vostjancic said side effects tend to occur when unemployment is low and the economy is near maximum capacity.
“At that point, you start to see that demand can outstrip supply availability in the economy,” Vostjancic said. “And it's prone to inflation.”
Vostjancic said this is probably where we are in the economic cycle. And when we look at what's next for the business cycle, things don't look much better.
“Typically, this is when a recession starts and then goes back into recession,” Vostjancic said.
At least, that's the theory.
“The recession that hasn't happened yet is the most predicted recession in my memory,” said Ann Villamil, an economics professor at the University of Iowa. “And we’re not in a recession.”
Villamil said the economy is currently far from that point in the cycle. Economic growth remains strong. The same goes for the labor market.
“Consumer spending is strong,” Villamil said. “People's real income is strong. You're actually better off. You'll be able to buy more goods and services every year.”
Villamil said a big reason for that is that the economy is still feeling the effects of the government's response early in the pandemic, including relief aid and other fiscal and financial support.
Seth Carpenter, global chief economist at Morgan Stanley, said aid from governments continues.
“I think the Inflation Control Act, the CHIPS Act, both of those things are driving government spending and private sector spending, and they're still contributing to overall economic spending,” Carpenter said.
Put another way, Carpenter said this expansion will likely continue for some time.
And that's not all that unusual in recent history. Look at what happened after the 2008 financial crisis.
“The economy bottomed out and then expanded, from the end of the financial crisis to COVID-19,” Carpenter said. “That’s a long period of time, 10 years.”
Carpenter said there will probably be a recession at some point in the future, and eventually the business cycle will start again. But that doesn't happen because the cycle just keeps going around.
“People want that cycle to be an almost inexorable force that goes up and down and you can't stop it,” Carpenter said. “I actually think the duration and length of the economic expansion is highly uncertain at any point in time.”
Carpenter said that reset would likely be caused by a major external shock, such as the bursting of the dot-com bubble, the collapse of the housing market, or the spread of the coronavirus.
Carpenter said that no matter how little predictive power the business cycle has had in the past, this event proves it is even weaker.
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