Actually there are six phases of business cycles counting the peak poits(when booms turns into burst and the troughs).Business cycles are the recurring rises and falls in overall economic activity as reflected in production, employment, profits, prices, wages, and other macroeconomic series. Business cycles are recurring, but nonperiodic, and one cycle must be more than a year, otherwise, it would be considered a seasonal cycle. Business cycles reflect the inability of the marketplace to accommodate smoothly such factors as new technologies, changing needs for occupational skills, shifting markets for new and substitute products, and risks in business investments. Business cycles can also reflect shortages and high prices created by external shocks such as war, cutbacks in oil production by the Organization of Petroleum Exporting Countries (OPEC), bad harvests, and natural disasters.
Six phases of the business cycle are illustrated: Peak, Recession, Contraction, Trough, Recovery, and Expansion. One complete cycle can be measured from Peak-to-Peak or Trough-to-Trough. Beginning with the peak, the six phases of the business cycle unfold as follows. The Peak is the high point of continuous expansion just before the downturn in economic activity. This is followed by a Recession, the immediate downturn in economic activity after the peak in the business cycle, and represents the downward region of the cycle from the peak to the trough. If overall activity falls below the lowest level (i.e., trough) of the previous recession (lower horizontal dotted line on the graph), then this more severe decline may be referred to as Contraction. The only time this has occurred in the post-World-War II era was the 1981-82 recession when economic activity fell below the trough of the 1980 recession. As would be expected, the U.S. economy experienced contraction at the beginning of the Great Depression.The Trough is the lowest point of the recession phase of the business cycle just before economic activity turns upward. Once economic activity turns upward, the economy is then in Recovery. This phase of the business cycle immediately follows the trough, and is characterized by the continuous expansion of economic activity. The economy is in Expansion when overall activity in the recovery phase exceeds the peak of the previous business cycle (upper horizontal dotted line).
Sometimes during the upward phase of the business cycle, the expanding economy may not be increasing production fast enough to absorb those entering the labor market, and may even result in some of those already employed being laid off. That is, overall production and unemployment rates are both rising. This situation is known as a growth recession. If the opposite occurs, that is, if the economy expands beyond the long- run sustainable growth rate for a significant period of time, then this period may be characterized as a boom. Booms are usually followed by a recession.
There may be obvious signs that the economy is in a recession, such as slack business activity and a rising unemployment rate. We may be affected personally, by having our workweeks reduced or even by losing our jobs. But there is also a set of observable measurements of a recession. These measurements provide the criteria for clearly defining dates for the peak and the trough. By common agreement in the economics profession, a private, nonprofit organization, the National Bureau of Economic Research (NBER), officially designates national recessions. While various numerical tests are applied to the indicators to assess their direction, ultimately the decision is based on the judgment of the NBER committee. For example, a recession is generally defined as occurring when quarterly Real GDP declines two quarters in a row. However, this is not a fixed rule, and the NBER considers a variety of monthly and quarterly data before making a designation.
Inflations is the phenomenon of rising trend in the general level of prices and consequent falling trend in the average purchasing power of money..The definition of "inflation" cannot be separated from that of the "price level." Economists measure the price level by computing a weighted average of consumer prices or so-called "producer" prices. The value of the average is arbitrarily set equal to one (or one hundred) in a base year, and the index in any other year is expressed relative to the base year. The value of the consumer price index in 1999 was 167, relative to a value of 100 in 1982 (the base year). That is, prices in 1999 were 67 percent higher on average than in 1982.
Inflation occurs when the price level rises from one period to the next. The rate of inflation expresses the increase in percentage terms. Thus, a 3 percent annual inflation rate means that, on average, prices rose 3 percent over the previous year. Theoretically, the rate of inflation could be by the hour or the minute. For an economy suffering from "hyperinflation"—Germany in the 1920s is an example—this might be an appropriate thing to do (assuming the data could be collected and processed quickly enough). For the contemporary United States, which has never experienced hyperinflation, the rate of inflation is reported on a monthly basis.
In general, inflation rates above the nominal amounts required to give monetary freedom, and investing incentive, are regarded as negative, particularly because in current economic theory, inflation begets further inflationary expectations.
-Increasing uncertainty may discourage investment and saving.
-Redistribution : It will redistribute income from those on fixed incomes, such as pensioners, and shifts it to those who draw a variable income, for example from wages and profits which may keep pace with inflation.
Similarly it will redistribute wealth from those who lend a fixed amount of money to those who borrow. For example, where the government is a net debtor, as is usually the case, it will reduce this debt redistributing money towards the government. Thus inflation is sometimes viewed as similar to a hidden tax.
International trade: If the rate of inflation is higher than that abroad, a fixed exchange rate will be undermined through a weakening balance of trade.
Shoe leather costs: Because the value of cash is eroded by inflation, people will tend to hold less cash during times of inflation. This imposes real costs, for example in more frequent trips to the bank. (The term is a humorous reference to the cost of replacing shoe leather worn out when walking to the bank.)
Menu costs: Firms must change their prices more frequently, which imposes costs, for example with restaurants having to reprint menus.
Relative Price Distortions: Firms do not generally synchronize adjustment in prices. If there is higher inflation, firms that do not adjust their prices will have much lower prices relative to firms that do adjust them. This will distort economic decisions, since relative prices will not be reflecting relative scarcity of different goods.
Hyperinflation: if inflation gets totally out of control (in the upward direction), it can grossly interfere with the normal workings of the economy, hurting its ability to supply.
Bracket Creep (also called fiscal drag) is related to the inflation tax. By allowing inflation to move upwards, certain sticky aspects of the tax code are met by more and more people. Commonly income tax brackets, where the next dollar of income is taxed at a higher rate than previous dollars. Governments that allow inflation to "bump" people over these thresholds are, in effect, allowing a tax increase because the same real purchasing power is being taxed at a higher rate.
Thus, high inflation can cause three main problems:
*It hurts people on fixed incomes (e.g. pensioners, students) by reducing their purchasing power. This has a significant effect on GDP.
*Rising inflation can prompt trade unions to demand higher wages, under the circular logic that wages must keep up with inflation. (Of course, rising wages can help fuel inflation.) In the case of collective bargaining, wages will be set as a factor of price expectations (Pe). Pe will be higher when inflation has an upward trend. This can cause a wage spiral. Also, if strikes occur in an important industry which has a comparative advantage, productivity could decline.
*If inflation is higher in one country than in its trading partners', and that country maintains fixed exchange rates, then the country's exports will become more expensive abroad and it will tend toward a current-ccount deficit.