Business Environment

Veena K. Pailwar
IMT
Nagpur

Veena Keshav Pailwar 1

 National Income and Environment Scanning

Uses of National Income Estimates

• Measure of Economic Growth
• Indicator of Success or Failure of Planning
• Indicator of Structural Change
• Measure of Income Inequalities
• Indicator of the Pattern of Consumption and
Investment
• International and Spatial Comparisons
• Measurement of Business Cycles
Veena Keshav Pailwar 2
Measure of Economic Growth

National Income
at
Constant Prices

Indicates economic growth

of a country in
real terms

Veena Keshav Pailwar 3

Indicator of Success or Failure of Planning

National Income
at
Constant Prices

Achievements Vis a Vis the Targets

indicates the Success of Planning

Veena Keshav Pailwar 4

 Planning in India
Achievement of Planning in India
Plan Period Growth Rate
Target Actual
First (1951-56) 2.1 3.60
Second (1956-61) 4.5 4.21
Third (1961-66) 5.6 2.72
Fourth (1969-74) 5.7 2.05
Fifth (1974-79) 4.4 4.83
Sixth (1980-85) 5.2 5.54
Seventh (1985-90) 5.0 6.02
Eighth (1992-97) 5.6 6.02
Ninth (1997-02) 6.5 5.35
Tenth (2002-07) 8.0 7.2
Eleventh (2007-12) 9.0 -
Case UIE 1.1 5
 Indicator of Structural Changes
Sectors Activities Covered
Classification I
Primary Agriculture (cultivation of crops, livestock and animal
husbandry); forestry, logging & fishing; mining & quarrying
Secondary Manufacturing; electricity, gas & water supply; construction
Tertiary Trade, transport & communication; Financial, real estate and
business services; Community, social and personal services
Classification II
Agriculture Agriculture and allied (forestry, logging and fishing)
Industry Manufacturing; mining & quarrying; electricity, gas & water
supply; construction
Services Trade, transport & communication; Financial, real estate and
business services; Community, social and personal services

Veena Keshav Pailwar 6

 Indicator of Structural Changes
Sectors Characteristics
Primary • These products are provided by the nature
•Many of the products of this sector are used as inputs in
the secondary sector
• Wealth creating sectors
Secondary •Natural products are changed into other forms through
manufacturing or industrial activity
•Most of the products are finished products consumed
by the households or other business organizations
• Wealth creating sectors
Tertiary • Consists of commodities which are intangibles
- Consumer services: Tourism, health care and education
- Producer services: Transport and Finance
• These activities help in the development of the primary
and secondary sectors
Veena Keshav Pailwar 7
•Wealth consuming sector
 Indicator of Structural Changes
Dominant Sector/ Characteristics
Stage of Development
Primary/ Value addition low: low growth rate
Agriculture Low level of income restricts the demand
Early Stage of pattern: Major proportion of the income is spent
Development on agriculture products
Secondary/ Significant transfer of resources from
Industry agriculture to industrial sector
Second (Middle) Value addition higher than the first stage of
Stage of Development development
Demand pattern becomes more diversified:
Demand for industrial products increases
Countries more open to trade & competition
Tertiary/Services Value addition highest in services
Highest level of Displaces unskilled labour: More employment
development opportunities for the skilled labour
Veena Keshav Pailwar 8
 Indicator of Structural Change
Phenomenon of
Leapfrogging in
Growth Process

•Surpassing the Middle Stage of Growth

•Moving Directly from the Agrarian Economy
to the Service Oriented Economy

Underdeveloped Physical Infrastructure

and Industrial Sector
may constraint the sustainable growth
Veena Keshav Pailwar 9
 Measure of Income Inequalities
Relationship between income
inequalities and growth

Non-Linear
Higher Inequalities:
• Growth retarding in poor countries
• Growth encouraging in advanced developed
regions
High inequalities and high egalitarianism slows down
the growth process

Veena Keshav Pailwar 10

 Measures of Income Inequalities
Lorenz Curve 0’
100
Cumulative
Percentage
of Income 80 Line of
absolute
50
equality
A
c
Lorenz
20
a
b
B
Curve
0 20 50 80 100
Cumulative Percentage of Population

Lorenze Curve
• Gives a broad picture of inequality
• The closer the curve is to the 45 degree line the more equal the
distribution of income is.
Veena Keshav Pailwar 11
Indicator of Pattern of Consumption and Investment

GDP measured using expenditure approach reveals

Consumption Pattern
Changes in expenditure pattern reflects the changes
in Demand Pattern
Business organization can use this information to
avoid the mismatch between Demand and Supply

Consumption Demand
Expenditure

Investment Productive Supply

Expenditure Capacity in the long run

Veena Keshav Pailwar 12

International and Spatial Comparisons
Problems in Inter Spatial Comparison
• NI of different countries expressed in different currencies
• Different Countries experience different degrees of price levels
• Countries vary in terms of population size

Accounting for the Difference

Population Variation: Per Capita Income
Currency Variation: Use of Common Currency
Price Level Variation: Purchasing Power Parity
Case UWE 3.2 Richest Nations in the World
Veena Keshav Pailwar 13
International and Spatial Comparisons
Purchasing Power Parity
(PPP)
Process
Construct a common representative basket of goods and
services
Collect prices of the commodities in the selected basket
Estimate un-weighted bilateral price ratios (parities)
Aggregate un-weighted parities using the expenditure data
Convert GDP or per capita income into a common
currency and the price level

Veena Keshav Pailwar 14

International and Spatial Comparisons
Per Capita Income using PPP
An Illustration
Price Units Expenditure Price Expenditure in Us $
Ratio
A B A B A B $/Rs B
Food $ 50 Rs 300 80 100 $ 4000 Rs 30000 50/300 Rs30000 x
($50/Rs300)
= $ 5000
Cloth $ 100 Rs 500 60 40 $ 6000 Rs 20000 100/500 Rs20000 x
($100/Rs500) = $
4000
$10000 Rs 50000 = $ 9000
Comparing the expenditure in the two countries using US $ indicates that
income in country A is 10 times more than income in country B
Expenditure in terms of PPP however indicates that expenditure in
country B is 90% of the expenditure in country A
Veena Keshav Pailwar 15
 Measurement of Business Cycles
• Need high frequency data
• Need data on the variables which represent overall
picture of the economy
• In the absence of high frequency data on national
income movements in sectoral output data are taken as
representative
• For the countries dependent on industrial activities IIP
can be taken as the representative
• For primarily agrarian economies data on agriculture
GDP can be used for measuring business cycles
Veena Keshav Pailwar 16
Business Fluctuations Cycles and Economic Environment

Business
Fluctuations

• Recurrent
• No fixed periodicity
• Much larger duration than the
seasonal fluctuations

Approaches to the Analysis

• Conventional Business Cycles
• Growth Cycles
• Growth Rate Cycles

copyright@Veena Keshav Pailwar 17

Phases in Conventional Business Cycles

Peak
Level of D
Economic
Peak
Activity /
B
Level of
National
Income

E
Trough

C
Trough

A One Business Cycle

Trough

Contraction Expansion No. of

Years

copyright@Veena Keshav Pailwar 18

Conventional
Business
Cycles

• Traditional measurement of business fluctuations

• Consist of two phases: Expansion and Contraction
• Useful for the Industrial Countries with
• Low average growth rate
• Short expansionary and contractionary phase
• Not useful for Developing and Emerging Economies with
• Continuous expansion over a very long period of time
copyright@Veena Keshav Pailwar 19
 Growth
Cycles

• Useful for Developing and Emerging Economies with

Very high growth rate with few or no recessions

• Consists of four phases

Recovery, Expansion, Slowdown and Recession
• Requires estimation of trend or full employment line

• Useful for historical analysis

• Not useful for real time analysis

copyright@Veena Keshav Pailwar 20
 Phases in Growth Cycles

Rate of C
growth of Expansion Slowdown
Trend
national Line
D
income
B Recovery
Recession E
Recovery
A
Depression
No. of Years

copyright@Veena Keshav Pailwar 21

 Phases of Growth Cycles
Phase Growth Rate Growth Rate Vis a Vis
Full Employment
Growth Rate
High Growth Phase
Recovery Positive/ negative Below (but above
trough growth rate)
Expansion Positive Above
Low Growth Phase
Slowdown Positive Above (but below peak
growth rate)
Recession Positive/ Negative Below
copyright@Veena Keshav Pailwar 22
 Growth Rate
Cycles

• Sustained periods of upward or downward movements

in the growth rate
• Estimated by plotting the growth rates at each point in time
• Consists of Expansion and Recession
• Expansion: Positive Growth Rate
• Recession: Negative Growth Rate
• Does not require estimation of trend line
• Actual growth rate is compared with zero growth rate line
• Useful for real time monitoring and forecasting
copyright@Veena Keshav Pailwar 23
Growth Rate Cycles Vis a Vis Conventional Business Cycles

Growth Peak E
Growth Rate Cycles
Rate of A
Economic Trough
Activities B C D
0
No. of Years
Expansion Growth Rate Recession Growth Rate
Downturn upturn

Business Cycles
Peak
Level of H
Economic
Activities
I

G J
Trough
No. of Years
Expansion Contraction
F

copyright@Veena Keshav Pailwar 24

 Empirical Estimation of Growth Rate Recession/
Slowdown
Rule of Thumb

Negative Growth Rate in

Recession Two Subsequent Quarters in a Year

Depression GDP declines by more than 10%

Slow Down in Growth Rate in

Slowdown Two Subsequent Quarters in a Year
But the Growth Rate is positive
copyright@Veena Keshav Pailwar 25
Classification of Economic Indicators
Criteria for Classification

• Relation of the indicators with cycles/

Direction of the movement of the
indicators with cycles

• Data Frequency

• Timing
copyright@Veena Keshav Pailwar 26
Classification of Economic Indicators
Criteria: Relation of the indicators with cycles

• Pro-cyclical Indicators

• Countercyclical Indicators

• Acyclical Indicators

copyright@Veena Keshav Pailwar 27

Pro-cyclical Indicators

Value of the pro-cyclical indicator moves in

the same direction as the economy
Ex: GDP

* In an expansionary economy
value of this indicator usually increases
* In a recession value of this indicator declines

copyright@Veena Keshav Pailwar 28

Counter-cyclical Indicators
Value of the counter-cyclical indicator moves
in the opposite direction as the economy
Ex: Unemployment Rate

* In an expansionary economy
value of this indicator usually decreases
* In a recession value of this indicator increases

copyright@Veena Keshav Pailwar 29

 Acyclical Indicators

Value of acyclical indicator has no relation to

the health of the economy
Ex: Exports

copyright@Veena Keshav Pailwar 30

 Classification of Economic Indicators
Criteria: Frequency of the Data

• Quarterly Frequency: in most countries GDP figures

are released quarterly

• Monthly Frequency: Unemployment rate is released

monthly

• Weekly Frequency: inflation rate estimated weekly

• Daily Frequency: Dow Jones Index are available

immediately and change every minute
copyright@Veena Keshav Pailwar 31
Classification of Economic Indicators
Criteria: Timing: relates to the timing of
the change in peak/ trough value of the
indicator relative to the changes in the
peak / trough in the economic activities as
a whole

• Leading Indicators
• Coincident Indicators
• Lagging Indicators

copyright@Veena Keshav Pailwar 32

Leading, Coincident and Lagging Indicators

Indicator

Money Supply Leading Indicators

Or Stock Prices
Coincident Indicators
IIP

Lagging Indicators
Wage
Rate

copyright@Veena Keshav Pailwar

No. of Years 33
Leading Indicators
Indicates the health of the economy 12
to 15 months from now

Examples
• Index of Overtime Hours •Money Supply
• Applications for • Aggregate Deposits
Unemployment • Raw Material Prices
Compensation • Exports
• New Orders • Consumer Expectations
• Stock Prices

copyright@Veena Keshav Pailwar 34

Coincident Indicators
Peak/ trough in the Values of these indicators change
at the same time as the aggregate economic activity

Economic series of these indicators have the peaks

and troughs that roughly coincides with the peak and
troughs in the Business Cycles

Examples
• Real GDP
• Real Non Agriculture GDP
• Index of Industrial Production
copyright@Veena Keshav Pailwar 35
 Lagging Indicators
Peak/ trough in the Values of these indicators lag
behind the turning points in the aggregate
economic activity

Economic series of these indicators experience the peaks

and troughs after those of the aggregate economy

Examples
• Interest Rate Spread
• Change in CPI for Services
• Commercial and Industrial Loans outstanding
•Change in Labour Cost Per Unit of Output
copyright@Veena Keshav Pailwar 36
Composite Index of Leading Indicators

Composite is calculated because

• It is excepted that an aggregate of the

indicators will predict turning points more
effectively than any one indicator alone

• This reduces the risk of false signals

•It provides a leading indicator with better

forecasting and tracking qualities
copyright@Veena Keshav Pailwar 37
 Classification of Indicators
Indicator Relation with the Cycle Timing
Output
GDP Pro-cyclical Coincident
Consumption Pro-cyclical Coincident
Employment
Employment level Pro-cyclical Coincident
Unemployment rate Counter-Cyclical Lagging
Production
Business Inventories Pro-cyclical Leading
New Construction Pro-cyclical Leading
copyright@Veena Keshav Pailwar 38
 Classification of Indicators
Indicator Relation with Timing
the Cycle
Prices
Producer prices Pro-cyclical Coincident
Consumer prices Pro-cyclical Coincident
GDP Deflator Pro-cyclical Coincident
Stock Prices Pro-cyclical Leading
Industrial Materials Price Pro-cyclical Leading
Index
Price to Unit Labour Cost Pro-cyclical Leading
% change in Unit Labour Cost Pro-cyclical Lagging
copyright@Veena Keshav Pailwar 39
 Classification of Indicators
Indicator Relation with the Cycle Timing
Money & Credit
Money Supply Pro-cyclical Leading
Outstanding Credit Pro-cyclical Lagging
Nominal i.r. Pro-cyclical Coincident
Government Finance
Govt. Revenue Pro-cyclical Coincident
Govt. Expenditure Counter-cyclical Coincident
Govt. Debt Counter-cyclical Coincident

copyright@Veena Keshav Pailwar 40

 Classification of Indicators
Indicator Relation with the Cycle Timing
International Trade
Import Pro-cyclical Coincident
Export Acyclical Coincident
Balance of Trade Counter-cyclical Coincident

copyright@Veena Keshav Pailwar 41

 Uses of Economic Indicators
• Identification of the phase of business cycle

• Monitoring of the current business activity

• Forecasting the future economic scenario

• Identifying & predicting economic crisis

copyright@Veena Keshav Pailwar 42