Business Cycle

Is the economy getting better or

worse?
 Micro vs. Macro
• Microeconomics: The study of personal, or
small finances.
– Individuals, families or businesses

• Macroeconomics: The study of economic

systems on a large scale
– National or Global economies
 Gross Domestic Product
• Def. The total value, in dollars, of all final
goods and services produced within the
nation each year

• Abbreviated as the GDP

 What does the GDP tell us?
• If the GDP is larger than last year the
economy is expanding (getting bigger)
• If the GDP is smaller, the economy is
shrinking (getting smaller)
 Business Cycle
• The Business Cycle allows people to
understand the direction the economy
(GDP) is going (growing or shrinking) and
plan accordingly.

• The economy follows the Business Cycle

regularly.
 Peak – refers to the upper turning of a
business cycle.
• When the economic cycle peaks:
– The economy stops growing (reached the top)
– GDP reaches maximum
– Businesses can’t produce any more or hire
more people
– Cycle begins to contract
Expansion – a speed-up in the pace of
economic activity.
Trough – the lower turning point a business
cycle, where a contraction turns into expansion.
• When the economic cycle reaches a
trough:
– Economy “bottoms-out” (reaches lowest point)
– High unemployment and low spending
– Stock prices drop
Contraction – a slowdown in the pace
of economic activity.
• During a period of contraction:
– Businesses cut back production and layoff
people
– Unemployment increases
– Number of jobs decline
– People are pessimistic (negative) and stop
spending money
– Banks stop lending money
 Business Fluctuations
• Recession – a downturn in economic
activity and is associated with falling levels
of GDP, consumption and investment
expenditure.
– Inflation and interest rates are declining and
the level of unemployment is rising
– It will have a trough at the lowest point.
– A trough has GDP, consumption and
investment expenditures at the lowest level.
 Business Fluctuations
• Recovery – usually associated with rising
levels of GDP, consumption and
expenditure, investment expenditure and
decreasing levels of unemployment.
– May lead to peak with high levels of GDP
– Inflation rising due to increasing costs and
interest rates at higher levels.
 Business Fluctuations
Difference between recession and depression

• Depression
– Refers to any downturn in economic activity
– A depression that lasts longer and has a larger
decline in business activity.
– Any economic downturn where real GDP declines
by more than 10 percent
– In the middle of of the 1980s, the Philippine
economy can be considered in the state of
depression because of the economic political
crisis that occurred during the dictatorial regime.
 Business Fluctuations
Difference between recession and depression

• Recession
– It was developed during the Great
Depression to differentiate periods like the
1930s from smaller economic declines that
occurred in 1910 and 1913.
– An economic downturn that is less severe.
 Recession/Depression
• A prolonged contraction is called a
recession (contraction for over 6 months)

• A recession of more than one year is

called a depression
Factors Affecting Business Cycles

• International Factors
– Extent of dependence on international
trade.
– When foreign demand is rising, domestic
production rises.
– Secondary industries and activities arising
out of exports also improve their output
– The rise of exports signals the rise of
imports.
Factors Affecting Business Cycles
• Climate Factors
– Favorable weather conditions could cause
bumper crops and therefore could result
into prosperity in sectors dependent on the
weather such as agriculture.
– Droughts can cause crop failures and
endanger doomsday scenarios or
expectations that are pessimistic.
Factors Affecting Business Cycles
• Internal Factors
– Political and economic factors could trigger a
country’s economic conditions.
• Institutional Factors
– Example: after the elections, a period tightening
of expenditure happens which induces a slow-
down in the economy.
• Acceleration Factors
– The stock of capital depends on the level of income
of production.
– Additional to this stock, or net investment, take
place when income grows.
 What keeps the Business Cycle
Going?
• 4 variables cause changes in the
Business Cycle:
1. Business Investment
When the economy is expanding, sales and
profit keep rising, so companies invest in
new plants and equipment, creating new
jobs and more expansion. In contraction, the
opposite is true
 What Keeps the Business Cycle
Going?
2. Interest Rates and Credit
Low interest rates, companies make new
investments, adding jobs. When interest
rates climb, investment dries up and less job
growth
3. Consumer Expectations
Forecasts of an expanding economy fuels more
spending, while fear of a recession
decreases consumer spending
 What keeps the Business Cycle
Going?
4. External Shocks
External Shocks, such as disruptions of the oil
supply, wars, or natural disasters greatly
influence the output of the economy
 Who Cares?????
• Why should you care about the business
cycle and economy?

• Lots of reasons!
 “Don’t quit that job!”
• If the economy is going into a contraction,
jobs will become more scarce. If you quit,
you may not find another job!

• But, if the economy is in a period of

expansion, jobs are readily available. It
may be a good time to switch careers.
 “Should I make a big purchase?”
• Only if you know that you won’t lose your
job in a contraction. So, buy your house
during an expansion.
HOWEVER,
• When the economy starts to slow down
(contraction), interest rates will decrease.
Wait to buy a house until the rates drop to
a low point, if you are sure you won’t lose
your job.
 Quick Review!
• What phase of the business cycle do
wages go up?
• Expansion

• What phase of the business cycle do

wages go down?
• Contraction
 Review cont.
• When are wages at their highest?
• Peak

• When are wages at their lowest?

• Trough
 More Review
• When will borrowing decrease?
• Contraction

• When will borrowing increase?

• Expansion

• When will borrowing be at it’s lowest?

• Trough
 Even More Review!
• When will unemployment be at its lowest?
• Peak

• When will business profits be the highest?

• Peak

• When should you look for a new job?

• Expansion
UNEMPLOYMENT
 UNEMPLOYMENT
• The condition and extent of joblessness
within the economy, and is measured in
terms of the employment rate.
• Okun’s law – for every two percent that
the GDP falls relative to potential GDP, the
unemployment rate rises at one
percentage point.
 UNEMPLOYMENT
• Keynesian view of unemployment –
argues that unemployment is an excess
supply of labor resulting from a failure of
coordination in the market economy.
• Classical View of unemployment –
claims that unemployment is a job search.
 KINDS OF UNEMPLOYMENT
• Frictional unemployment (voluntary
unemployed
– arises because of the incessant movement of
people between regions and jobs or through
different stages of the life cycle.
– A result of temporary transitions made by
workers and employers (vice-versa) having
incomplete information on the job they applied
and hired to.
 KINDS OF UNEMPLOYMENT
• Structural unemployment – “signifies a
mismatch between the supply of and the
demand of workers.

• Cyclical unemployment – exists when

the overall demand for labor is low.
 IMPACT OF UNEMPLOYMENT
• Economic impact
– when the unemployment rate goes up, the
economy is in effect throwing away all the
goods and services that the unemployed
workers could have produced.
– The losses during the periods of high
unemployment are the greatest documented
wastes in a modern economy.
 IMPACT OF UNEMPLOYMENT
• Social impact
– An unemployed individual experiences
psychological deterioration due to anxiety and
worry of not being able to find work and
provide financial support for his/her family and
himself/herself.
– Could also result to employing their offspring
at an early age as maid/ house helpers.
– Being fired from a job is generally as
traumatic as the death of a close friend or
failing in school.
 PRICE STABILITY
• Inflation
– Refers to the increase in the average price
level in the economy.
– Measured by price indexes such as the
Consumer Price Index, and GDP Deflator.
– Consumer Price Index – measures the
average price of goods consumed by urban
wage-earners.
– GDP Deflator – measure the average price of
all the GNP.
 TYPES OF INFLATION
• Hyperinflation
– Inflation at extremely high rates (e.g. 1000, 1
million, or even 1 million percent a year)
• Galloping Inflation
– Inflation at a rate of 50 or 100 or 200 percent
annually.
• Moderate Inflation
– Inflation at a price level increases
– It does not distort relative prices or incomes
severely.
• Deflation
– A fall in the general level of prices
 CAUSES OF INFLATION
• Oil shocks
– The increase in the price of oil in the
international market increase the price of
commodities in a specific country like
Philippines

• Political crisis
– Political tension would lessen the confidence
of both local and foreign investors to put up
their businesses in the Philippines (because
of loss of confidence in the government)
 CAUSES OF INFLATION
• Demand pull inflation
– When the demand for a certain good
increases, the price of that good would also
increase. In short, the high demand for the
good “pulls” the price upward and causes
inflation
• Cost push inflation
– When the cost of producing a certain good
increases, the supply of that good will in turn
decrease (other things held constant)
 IMPACT OF INFLATION
• Scrambled income distribution
– Debtors gain, lenders lose
– Workers with a fixed income lose and firms
gain
• Inefficiencies
– Inflation creates uncertainty, in that people do
not know what the money they earn today will
be able to buy tomorrow
 IMPACT OF INFLATION
• Reduced competitiveness of the country
in international trade
– Makes the country’s exports less attractive, and
makes imports into the country more attractive
which in turn tends to create unbalance in
trade.
• Inflation is a hidden on “nominal
balances”
– People who hold bonds and bank accounts in
peso lose the value of those accounts when the
price level rises, just as if their money had been
taxed away
 IMPACT OF INFLATION
• People resort to other means to carry
out their business
– Use up resources and are inefficient.
DOMESTIC TRADE
 SERVICES

• (Tullao) “Products that are produced and

consumed simultaneously.
 CHARCATERISTICS
• Intangibility – services cannot be seen,
handled and smelled, difficult to
conceptualize
• Perishability – unsold service time is “lost”,
that is, it cannot be regained
• Lack of transportability – services tend to
be consumed at that point of “production”
• Lack of homogeneity – services are
typically modified for each client or each
new situation
 CHARCATERISTICS
• Labor intensity – services usually involve
considerable human activity rather than a
precisely determined process
• Demand fluctuations - demand can vary
by season, time of day, business cycle,
etc.
• Buyer involvement - most service
provision requires a high degree of
interaction between client and service
provider.
 CHARCATERISTICS
• Client-based relationship – based on
creating long-term business relationship
 COMMODITIES AND
TRANSACTION
• Wholesale and retail trade – instruments
and mechanisms of commodity distribution
– Wholesaling – consists of the sale of
goods/merchandise to retailers, industrial,
commercial, institutional or other professional
business users or to other wholesalers and
related subordinated services.
– Retailing – consists of the sale of goods or
merchandize, from a fixed location or individual
lots for direct consumption by the purchaser.
• Purchases may be individual/business
• Retail establishments are often called shops or stores.
 COMMODITIES AND
TRANSACTION
• Transportation and communication
storage
– Transportation – service of providing a
means of transferring one product or service
from one place to another
– Communication – service of providing
means of communication or informing parties
about transactions
– Storage – service of warehouses and
safekeeping goods
 COMMODITIES AND
TRANSACTION
• Trade – transaction of buying and selling
and exchange.
• Financial Insurance, real estate and
business
– Finance – activities that involve the
production of money through banks, stock
market, money market, etc.
– Insurance – buying and selling of pre-need
plans such as educational plan, life insurance,
etc.
 COMMODITIES AND
TRANSACTION
• Financial Insurance, real estate and
business
– Real estate – consists of dwellings and land
• Residential properties – properties intended for
dwelling and domestic functions
• Non-residential properties – properties held for
speculation, inherited properties, properties held
for sale and profit seeking, an other business
activities
 COMMODITIES AND
TRANSACTION
• Private Services – answer our private needs
and wants such as haircuts, tourist and
recreational activities, private education,
private lawsuits, etc.
• Government services – pertains to social
services and general public services
– Social services– cover expenditures for
education, health, social security, labor and
employment, etc.
– General public services – covers expenditures
for services which are indispensable to the
existence of an organized state and cannot be
allocated to certain sectors or sub sector.
 UNDERGROUND ECONOMY
• Comprises all types of business that are
not officially registered in the government
and thus, not covered by taxes.
• Non-structured sector that has emerged in
the urban centres
• Who are included?
– Individuals entrepreneurs or groups of
individual who perform economic activities not
listed by the government
 UNDERGROUND ECONOMY
• It is characterized by:
– The use of family and unpaid labor
(apprentices) and reliance on manual labor
– Flexibility
– Simple and sometimes precarious facilities
– The ability to improvise products from scrap
materials
– A willingness to operate businesses at times
and locations convenient to customers
– A tendency to locate smaller markets, out of
the reach of the larger firms
 UNDERGROUND ECONOMY
• It is characterized by:
– Vehicle repair
– Radio repair
– Watch repair
– Manufacture of bricks and aggregates for
building construction
 UNDERGROUND ECONOMY
• Its problems include
– Mini and micro enterprises only provide a
means of subsistence through the production
of goods and services on a small scale with
lower quality and prices
– Small and medium enterprises are associated
with higher levels of education of the
entrepreneurs, higher levels of income and
longer time in business
 UNDERGROUND ECONOMY
• Its problems include

– Black market includes illegal trades and

business such as prostitution, money
laundering, gambling, drug and human
trafficking, piracy, illegal firearms and other
illegal activities
 STRATEGY PROPOSED BY THE
INTERATIONAL LABOR
CONFERENCE
• The strategy composed of

– Improving the productive potential, and

therefore, of the employment and income
generating capacity, of the informal sector.
– Establishing an appropriate regulatory
framework, including appropriate forms of
social protection and regulation.
– Organizing informal sector procedures and
workers
 STRATEGY PROPOSED BY THE
INTERATIONAL LABOR
CONFERENCE
• 4 piecemeal strategies according to C.
Leonardos

– Market expansion through the enhancement

of the demand for informal sector products;
which, in turn, can only be achieved through
the qualitative improvement of goods services
– Facilitating producers within the informal
sector to obtain credit on the same terms as
modern enterprises
 STRATEGY PROPOSED BY THE
INTERATIONAL LABOR
CONFERENCE
• 4 piecemeal strategies according to C.
Leonardos

– Access to training for improvement of skills

and upgrading of technologies used in the
informal sector, and, finally,
– Improvement in the basic facilities and
amenities of informal sector premises
MONEY
 MONEY
• Samuelson and Nordhaus
– Refers to anything that serves as commonly
accepted medium of exchange or means of
payment
 MONEY (Functions)
• As a medium of exchange
– (Mankiw) Money is what we use to buy goods
and services
– “Ang salaping ito ay bayarin ng Bangko
Sentral at pananagutan ng Republika ng
Pilipinas” – serves as guarantee made by the
Bangko Sentral ng Pilipinas that such
bill/money is authentic and ready to be used
 MONEY (Functions)
• As a medium of exchange
– Characteristics
• Recognizable as something of value – Person A
should recognize the value of the item so that
Person B can give it to A in exchange for goods or
services
• Easily transportable - Paper notes have proved
highly convenient in this regard
• Durable – money is often left in pockets. Gold
coins are often mixed with copper to improve
durability
 MONEY (Functions)
• Unit of Account
– Unit by which we measure the value of things
– Provides the terms in which prices are quoted
and debts are recorded and it also serves as
“yardstick” with which we measure economic
transactions

(Mankiw, 2000)
 MONEY (Functions)
• Unit of Account
– Characteristics
• Divisible into small units without destroying its
value – precious metals can be coined from bars, or
melted down into bars again
• Fungible – one unit or piece must be exactly
equivalent to another. This is why diamonds, works
of art and real state cannot be considered as money
• A specific weight, measure, or size to be
verifiably countable – for instance, coins are often
made with ridges around the edges, so that any
removal of material from the coin (lowering its
commodity value) will be easy to detect
 MONEY (Functions)
• Store of Value
– a way to transfer purchasing power from the
present to the future
» Mankiw
– Allows value to be held over time
– Characteristics
• Long-lasting and durable – it must not be
perishable or subject to decay
• It should have stable value
• It should be difficult to counterfeit and the
genuine must be recognizable
 TYPES OF MONEY
• Fiat Money – ”a type of money that a
government has declared to be a legal
tender, despite the fact that it has no
intrinsic value”
(investopedia.com)

– The pieces of paper money that we have in our

pockets and wallets are all fiat. They are just called
money because the government declared it by a
decree or fiat.
 TYPES OF MONEY
• Commodity Money – a type of money which
has some intrinsic value, and that value
comes from a commodity out of which it is
made

– A concrete example of this kind of money is gold. When

people use gold as money, the economy is said to be on
a gold standard. Gold is a form of commodity money
because it can be used for various purposes – jewelry,
etc. But because we carry around bags of gold anytime
and anywhere to purchase something we can find in the
mall, we now use a fiat money.
 Measures of Money
Symbol Assets Included

C Currency-sum of outstanding paper money and coins

M1 Currency plus demand deposits, traveler’s checks and
other checkable deposits

M2 M1 plus retail money market mutual fund balances, saving

deposits (including money market deposit accounts), and
small time deposits
M3 M2 plus large deposits, repurchase agreements,
Eurodollars, and institution- only money market mutual
fund balances
L M3 plus other liquid assets such as savings bonds and
short-term T-bills
 How the quantity of money is
controlled?
• Money Supply – the quantity of money available
• Monetary policy – pertains to the control over the
money supply; also serves as a measure/action
taken by the Central Bank influence the supply of
money in the economy
– Expansionary monetary policy – intends to increase
the level of liquidity/money supply in the economy;
tends to encourage economic activity as more funds
are made available for lending by banks
– Contradictory monetary policy – intends to decrease
the level of liquidity/money supply in the economy
 How the quantity of money is
controlled?
• The primary way in which the BSP controls
the supply of money is through open-
market operations
• When the BSP wants to increase the
money supply, it uses some of its monetary
resources to buy government bonds from
the public
• When BSP wants to decrease the money
supply, it sells some government bonds
from its own porftfolio
FINANCIAL SYSTEMS
 Financial Systems
• “Refers to the network of institutions authorized
by law to engage in the generation, circulation and
control of money and credit”
(IBON Databank)

• Financial Institutions
– “usually transfer funds from lenders to borrowers.
Also, these institutions create financial instruments.”
(Samuelson and Nordhaus)

– Two types:
• Banks and Non-Banks
 Financial Systems
BANKS – authorized (by the BSP) to accept
deposits from the general public

Classification of Banks:

a. Commercial Banks
b. Unibanks/expanded commercial banks
c. Thrift Banks
 Classification of Banks

Commercial banks
– One of the type of financial institutions that accept deposits
– They can also issue accounts to depositors that allow the
depositors to issue demand check
– Engage in long term lending – they give credit to business,
normally for periods within a given year which enable them
to earn interest on these loans.
Unibanks/expanded commercial banks
– These are commercial banks with enlarged powers related
towards owning other financial institutions
– They are allowed to own investments in other companies or
other financial institutions
– EX: BPI, Metro Bank
 Classification of Banks
Thrift Banks
– Composed of Savings Banks, Rural Banks, Private
Development Banks, Stock Savings & Loan Associations

– Savings Banks
» They are allowed to accept deposits of the depositors
savings.
» Furthermore, they are allowed to engage in lending to
clients for an allowed range of investments, such as
real state investments, personal finance, and home-
building and home development activities.
 Classification of Banks
Thrift Banks
– Composed of Savings Banks, Rural Banks, Private
Development Banks, Stock Savings & Loan Associations

– Rural Banks
» They are designed primarily to mobilize rural savings
by accepting savings and time deposits and to provide
a channel for funds from urban area and the
government sector for agriculture and individual
activities in the countryside.
» They can also provide credit to small-scale farmers as
well as receive government assistance.
 Classification of Banks
Thrift Banks
– Composed of Savings Banks, Rural Banks, Private
Development Banks, Stock Savings & Loan Associations

– Private Development Banks

» These are modeled to serve the community or specific
provincial unit
» Private Development banks are allowed to accept time
and savings deposits and to provide medium and long-
term credit to small and medium scale enterprise
– Stock savings and loan associations
» These financial institutions are usually company-based
which are created to provide service to their members.
» These operate as credit union in which they provide
salary loans and deposits from their members.
» Example: Armed Forces Savings and Loan Association,
Philippine Public School Teachers Association
 FINANCIAL INSTITUTION
GOVERNMENT BANKS
• Philippine National Banks – This bank is considered
to be the dominant commercial bank in the country.
PNB facilitates the financial needs of industry and
commerce as well as a recipient of government
deposits
• Development Bank of the Philippines – this banks
engages in a long-term development lending, for as
long as eight years. The lending is usually granted to
industrial and agricultural projects
• Land Bank of the Philippines – this bank helps serve
in the financing of the land reform program
 FINANCIAL INSTITUTION
NON-BANKS – serves as further
intermediaries of units with excess funds,
thus, facilitating their investments
– Investment houses
– Insurance companies
– Pawnshops, money & stock brokers
– Government financial institution (e.g. SSS,
GSIS, Pag-ibig Fund, Philhealth)
 FINANCIAL INSTITUTION
• FINANCIAL INTERMEDIARIES –
institutions like commercial banks that take
deposits or funds from one group and lend
these funds to other groups (Samuelson &
Nordhaus)
• SAVINGS – pertain to stock of monetary
assets like bank deposits, cash not spent,
investment in securities, etc.
 TYPE OF
– Household Savings SAVINGS
• Voluntary Savings – it refers to the amount of saving that
result from the normal preferences of households in the way
they divide their incomes between consumption and savings
• Contractual Saving – it is when people buy personal life
insurance and other forms of insurance as a preparation for
the future uncertainties
• Social Security Schemes – refers to the devised and
mandated saving plan of the government for the workers to
save from their current incomes that they receive.
– Government Savings – consist of the excess of
revenues over expenditures.
– Foreign Savings – refers to the excess of imports
over exports revenues
 FINANCIAL INSTITUTION
• DIVIDEND – incomes declared to
stockholders; could be in the form of cash
paid to stockholders, or, in some
situations, additional stocks that is
declared for business
 FINANCIAL INSTITUTION
• HOW DO BANKS MAKE PROFITS?
– Fractional –reserved banking – banks do
not keep all of the depositors money on hand,
they use depositors money to make money
– Charging interest on loans – the money that
the banks lend to the borrowers comes from
the savings and time deposits from the
depositors
– Charging fees – ATMs serves as a revenue
stream for banks
 POINTERS TO REVIEW
• Government Banks
• Characteristics of Service
• Phases of Business Cycle
• Factors affecting Business Cycles
• Causes of Inflation
• Impacts of Inflation
• Types of Inflation
 POINTERS TO REVIEW
• Difference between Recession and
Depression
• How do banks make profit?
• How the Quantity of Money is Controlled?
GOOD LUCK!!