The Trade Cycle
In a note below, I have tried to describe the broad outlines of the cycles you will come across in economics. However, in terms of the trade cycle, what the examiners are looking for is an understanding that economic growth fluctuates over time. This is a regular and normal process, often driven by a ‘boom and bust’ approach to spending, inventories, borrowing, or assets. What one hopes for is that the long term trend of economic growth is actually upwards. You will find references to fiscal policy being ‘balanced over the cycle,’ or to ‘corrections,’ and ‘cyclical adjustments.’ These all refer to the idea that a kind of upward sloping sine wave is a better aid in visualising the economy’s progress than a straight line could be.
You might be interested in the following links:
https://www.economicshelp.org/blog/643/unemployment/investment-and-aggregate-demand/
https://www.economicshelp.org/macroeconomics/economic-growth/trade-cycle/
The idea of Economic Cycles, which purport to show that the economy manifests cyclical behaviour which can be identified and predicted is of long provenance, having been suggested by the astronomer Herschel in 1800, and by the polymath Sismondi in 1819. Over the subsequent years, Robert Owen, Clement Jugler, William Jevons, Karl Marx, Joseph Schumpeter, the Rothschild family, Kuznets, Kondratiev, Raymond Wheeler, Alexander Chizvesky, Hyman Minsky, Robert Elliot and Milton Friedman amongst others have assumed or put forward specific forms of cycle.
Economists are sometimes suspicious of the idea of cycles, just as historians are, because they seem to be produced by ‘physics envy’ whilst at the same time do not lend themselves to what might be called proper mathematical analysis (though they can encourage people to make up silly maths-based ratios and connections.)[1] However, traders and ‘quants’—financial analysts—do sometimes use them. Policy makers and journalists like Minsky’s non-maths work, and traders like Eliot Waves, though both aren’t much better than astrology.
Cycles—beginning with growth, then boom, then recession, then recovery— have been a specific feature of modernity since the seventeenth century. The nineteenth century in particular was characterised by a very great number of financial panics, (for instance in 1825, 1837, 1857, 1873, and 1893) which marked the end of economic booms. In the twentieth century, the Great Depression, and post-war business markets in the west all demonstrated elements of cyclical behaviour. As a consequence, Keynesian economic theorists in particular developed ideas of countercyclical spending and saving to smooth out fluctuations in Gross Domestic Product.
A division exists within the economic and political community between those who believe that the cause of cycles is exogenous, and those who believe that cyclical change is an inbuilt feature of markets. Secondary differences arise over the length of cycles, with variations having been established in a range between Kondratiev’s 54 year cycle, Kuznet’s 18 years, the Rothschilds’ 14-year consol cycle, a 12-year solar cycle, and the 7-11 years for the business cycle established by Jugler.
The mechanism that gives rise to cycles has been disputed. Early astronomers and economists saw a link between solar cycles, wheat harvests, and the behaviour of populations, with political change and crashes following on poor food supply. Others have identified loose fiscal and monetary policy causing interest rates to decouple from prudence, leading to overproduction and overconsumption, whilst Keynesians have tended to think of excess savings as causing depressions and aggregate demand increases as giving rise to reflation and recovery. In financial markets a variety of cycles, including Elliot’s intersecting temporal functions of the Fibonacci sequence (the Elliot wave) have been mooted but never properly explained. Longer-term waves and cycles have been associated with the development, spread, and exhaustion of particular technologies such as the Kuznets and Kondratiev waves, and the inability to expand the supply of land to meet the demand for it (a feature of Henry George’s models).
The significance of the distinction of mechanisms lies in the consequences for public policy. If markets are implicitly stable, for instance, but prone to outside shock, then policy should be geared to controlling the outside influences, such as interest rates, money supply, and supply side flexibility. On the other hand, if markets are implicitly unstable, then counter-cyclical policy, government control, and economic management are appropriate. Some schools blend elements; in the 2008 crisis, for instance, many formerly monetarist, exogenous-shock economists called for bail outs and bank rescues to preserve the clearing system. Austrian economists also tend to welcome periodic collapses as ways of purging the system, returning interest rates to ‘proper’ levels, whilst encouraging ‘creative destruction’ and the growth of new business.
It may well be that the explanation for the appearance of cycles in economic history is a little bit ‘quantum,’ in that finding a cycle might depend on whether you are looking for one. The other obvious point is that the cause and aftermath of crashes often resemble each other. So, for instance, the panics of 1837, 1857, and 1866, were all associated with global monetary pressures linked to globalised trade, property booms and distortions in the availability of key commodities (in those cases silver and cotton). The shocks when markets and banks adjusted with interest rate changes in turn showed up the instability of states which had promoted rapid expansion but which were subject to outside food shocks and political crisis , like Hapsburg Austria, Imperial Britain, and the United States.
The nineteenth century crashes are interesting in themselves, and ran alongside schemes of European monetary Union which they caused to explode, which is somewhat topical in 2020. [2] The ones that I would suggest to students, however, are the crash of 1872, which inaugurated the first ‘Great Depression’, the 1905 crisis which led to the creation of the US Federal Reserve system. I would add to this the 1929-31 crash, the stagflation that brought about the end of Bretton Woods in 1967-73, the 1992 ERM crisis, and the dotcom crash at the turn of the twenty-first century. What will become known as the long crisis of 2008-2024 will be dealt with in another note.
Reasonable introductions to all of the above are available on Wikipedia, which is not my lazy way of not describing them, but rather a useful way of telling you where to get some sense of the crises before I drop notes on them onto you.
[1] I once spent an afternoon in a messy London flat chatting with someone who had somehow sold a major bank the idea that the golden mean and the Fibonacci sequence could somehow be used to predict markets, which was an early indicator to me that a major crash was coming because that sort of madness characterises booms. Joseph P. Kennedy once noted that the time to get out of markets was when the people cleaning your shoes started giving you stock tips, but an associated rule is to back out when people start being given lots of money by banks to talk rubbish.
[2] I will deal with the Latin Monetary Union in a separate note.
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