Causes of Business Cycle

Readers Question: How do business cycles impact the economy? What are the causes of business cycles of expansion and contraction?

The business or trade cycle relates to the volatility of economic growth.

In the UK, the average rate of economic growth is about 2.5%; however, the actual growth can vary. For example, the UK has experienced many economic booms and also recessions.

Causes of Recessions

See: causes of recessions 

The cause of the US recession in 2008 will be:

• Falling house prices causing negative wealth effect and lower consumer spending
• Credit crunch causing an increase in cost of borrowing and shortage of funds
• Volatile stock markets and money markets undermining  business and investment confidence.

See also: Economic booms

Effects of Business Cycle

A volatile business cycle is considered bad for the economy. A period of economic boom (rapid growth in economy) invariably leads to inflation with various economic costs. This inflationary growth tends to be unsustainable and leads to a bust (recession). See: Lawson Boom and Bust 

Monetary authorities tend to try and minimise  fluctuations in the business cycle. They seek to avoid inflation and avoid a recession. In the UK, the main tool to smooth the business cycle is the use of interest rates.