International finance report

Topic – financial business cycle

Name and roll No’s

 Hasti hathiyani – A0017

 Adish jain – A0018
 Jannat jain - A0019
 Ritik jain – A0020
Financial
Business
Cycle
THE BUSINESS FINANCIAL CYCLE DENOTES HOW
INTERACTIONS BETWEEN ECONOMIC AND FINANCIAL
PLAYERS’ PERCEPTIONS AND ATTITUDES TOWARDS
RISK, COUPLED WITH THE FINANCING AND CREDIT
CONDITIONS IN THE ECONOMY, END UP GENERATING
CYCLES OF BOOM AND BUST IN THE MAIN FINANCIAL
VARIABLES.
Recession
A RECESSION IS ACTUALLY A SPECIFIC SORT OF VICIOUS CYCLE, WITH
CASCADING DECLINES IN OUTPUT, EMPLOYMENT, INCOME, AND SALES
THAT FEED BACK INTO A FURTHER DROP IN OUTPUT, SPREADING
RAPIDLY FROM INDUSTRY TO INDUSTRY AND REGION TO REGION.
Recovery
ECONOMIC RECOVERY IS THE BUSINESS CYCLE STAGE FOLLOWING A RECESSION THAT IS
CHARACTERIZED BY A SUSTAINED PERIOD OF IMPROVING BUSINESS ACTIVITY. NORMALLY,
DURING AN ECONOMIC RECOVERY, GROSS DOMESTIC PRODUCT (GDP) GROWS, INCOMES RISE,
AND UNEMPLOYMENT FALLS AND AS THE ECONOMY REBOUNDS.
What is a Business Cycle?

A business cycle is a cycle of fluctuations

in the Gross Domestic Product (GDP)
around its long-term natural growth rate.
It explains the expansion and contraction
in economic activity that an economy
experiences over time.
Stages of the Business Cycle

 #1 Expansion

The GDP growth rate is in the healthy 2% to 3% range.

Unemployment reaches its natural rate of 3.5% to 4.5%. Inflation is
near its 2% target.3 And the stock market is in a bull market. A well-
managed economy can remain in the expansion phase for years, which
is called a Goldilocks economy.
Stages of the Business Cycle

 #2 Peak

The economy then reaches a saturation point, or peak, which is the second stage of the
business cycle. The maximum limit of growth is attained.
It is the month when the expansion transitions into the contraction phase.
Stages of the Business Cycle

#3 Recession
 The demand for goods and services starts declining rapidly and steadily in this phase.
Producers do not notice the decrease in demand instantly and go on producing, which
creates a situation of excess supply in the market. Prices tend to fall. All positive
economic indicators such as income, output, wages, etc., consequently start to fall.
Stages of the Business Cycle

 #4 Depression

 GDP growth falls below 2%. When it turns negative, that is what economists call a
recession. Mass layoffs make headline news. The unemployment rate begins to rise.
Stocks enter a bear market as investors sell.
Stages of the Business Cycle

 #5 Trough
 There is further decline until the prices of factors, as well as the demand and supply of
goods and services, reach their lowest point.
 That's the month when the economy transitions from the contraction phase to the
expansion phase. It's when the economy hits bottom.
Stages of the Business Cycle

 #6 Recovery

 In this phase, there is a turnaround from the trough and the economy starts recovering
from the negative growth rate. Demand starts to pick up due to the lowest prices and,
consequently, supply starts reacting, too. The economy develops a positive attitude
towards investment and employment and production starts increasing.
Examples of business cycle

 The 2008 recession was so nasty because the economy immediately contracted 2.3% in
the first quarter of 2008. When it rebounded 2.1% in the second quarter, everyone thought
the downturn was over. But it contracted another 2.1% in the third quarter, before
plummeting 8.4% in the fourth quarter. The economy received another wallop in the first
quarter of 2009 when it contracted a brutal 4.4%. In 2008, the unemployment rate rose
from 4.9% in January to 7.2% by December.
Examples of business cycle

 The trough occurred at the end of second quarter of 2009, according to the National
Bureau of Economic Research. GDP only contracted by 0.6%. Unemployment, though,
did rise to 9.5% because of its lagging nature.
 The expansion phase started in the third quarter of 2009 when GDP rose by 1.5%. That
was thanks to the stimulus spending from the American Recovery and Reinvestment Act.
The unemployment rate continued to worsen, reaching 10.2% in October. Four years into
the expansion phase, the unemployment rate was still above 7%. That's because the
contraction phase was so harsh.
Examples of business cycle

 The peak that preceded the 2008 recession occurred in the third quarter of 2007. GDP
growth was 2.2%.
Financial Cycles

 Formed by emotional and behavioral drivers and can be mapped

only through indirect data points such as credit growth, and stock
and home prices.
 According to Borio (2012), financial cycles are formed by “the
self-reinforcing interactions between perceptions of value and
risk, attitudes towards risk, and financing constraints, which
translate into booms followed by busts.”
Features

1. Financial disruptions tend to be long whereas booms are

relatively short.
2. Equity and house prices cycles are typically longer and more
pronounced than credit cycles.
3. The features of financial cycles have changed over time; in
particular, equity price cycles have become shorter.
How synchronized are financial cycles within and across countries?

 Cycles in credit and house prices appear to be the most highly

synchronized within countries.
 The degree of synchronization across countries is the highest for
credit and equity cycles, and has been increasing over time.
When does the coincidence of financial cycles lead
to intense outcomes?

 There are strong feedback effects between house price and credit
cycles as disruptions in one market intensify the other, probably
because of collateral constraints and other complementarities
between credit and housing finance.
 Globally synchronized financial downturns result in longer and
deeper episodes, especially for credit and equity cycles.
Indian Scenario

 RBI’s working paper, ‘Does financial cycle exist in India?’ in July 2019
establishes the presence of financial cycles in India with the help of
quarterly data on credit, equity prices, house prices and real exchange rate.
 suggest there exists a financial cycle in the country and that it has
gradually become prominent with the proliferation of financial
liberalization since mid-90s
 Focus on economic growth, the business cycles formed by the real GDP
data and also financial cycles that trace the expansion and contraction in
financial activities.
The Connect

How counter-cyclical policy measures can enhance

macroeconomic and financial stability?
Expansion and contraction phases
2008 Global Financial Crisis
The peak and the length

 Early warning signals

 Average duration of cycles in India:
Business Cycle – 5 years
Financial Cycle – 15 years
Exchange Rate Cycle – 3.5 years
House Prices Cycle – 12 years
Equity Prices Cycle – 8.3 years
Medium-Term Cycles in Financial Variables
Synchronization of Medium-Term Cycles
India’s Financial Cycle: Component-Wise
Distribution
Financial Cycle and Business Cycle
Financial Cycle and Non-Performing Assets of
Banks
The Takeaway

Liberalization in financial markets, more liquidity and greater

participation seem to be lengthening these cycles.
The key takeaway is that the financial cycle that has been
contracting since the 2008 peak appears to be bottoming.
This fact is corroborated by the improvement in non-food credit
growth to 12.3 per cent in FY19, up from 8.3 per cent in FY18.
Similarly, the NHB Residex, that captures housing prices data has
been inching higher since the last quarter of 2017.
 Use and factors

Human beings love cycles. Whether vital, historical, political... or even in football. If you don’t believe us, just ask all the coaches
who have been dismissed with a trite «He had reached the end of his cycle». Economists, believe it or not, are also human and
we are no exception. Real business cycles (i.e. the ups and downs in the production of goods and services) were the main focus
of our studies for decades. However, following the 2008 financial crisis, we realised that it was not possible to analyse the macro-
financial cycle without taking financial factors into account, and this gave rise to a new concept: the financial cycle.
While there is no universal definition of the financial cycle, the expression denotes how interactions between economic and
financial players’ perceptions and attitudes towards risk, coupled with the financing and credit conditions in the economy, end
up generating cycles of boom and bust in the main financial variables. Today, a distinction is made between the domestic
financial cycle and the global financial cycle, to the point that the economist from the Bank for International Settlements (BIS)
Claudio Borio1 speaks of a «tale of two cycles», paraphrasing the great Charles Dickens.
Use and factors

 Domestic financial cycle - The domestic financial cycle is characterized by the evolution
of credit and housing prices: credit provides a good description of the restrictions in
access to financing for households and businesses, while prices reflect economic and
financial players’ perceptions of the value of their assets, as well as the risk associated
with them.
 Global financial cycle - The other financial cycle that we have to keep in mind is the
global one. Whereas the domestic financial cycle is focused on detecting macro financial
imbalances that are specific to each economy, the global cycle refers to the financial
factors that are generated in the world’s major financial hubs - mainly the US - and how
these are transmitted to the rest of the world through capital flows and financial asset
prices.
Graphs ( domestic and global cycle)
Conclusion
GOVERNMENTS AND MAJOR FINANCIAL INSTITUTIONS USE VARIOUS MEANS TO TRY TO
MANAGE THE COURSE AND EFFECTS OF ECONOMIC CYCLES.
TO ATTEMPT TO END A RECESSION, THE GOVERNMENT CAN EMPLOY EXPANSIONARY FISCAL
POLICY, WHICH INVOLVES RAPID DEFICIT SPENDING.
CONVERSELY, IT CAN TRY TO USE CONTRACTIONARY FISCAL POLICY TO STOP THE ECONOMY
FROM OVERHEATING DURING EXPANSIONS, BY TAXING AND RUNNING A BUDGET SURPLUS TO
REDUCE AGGREGATE SPENDING.
CENTRAL BANKS TRY TO USE MONETARY POLICY TO HELP MANAGE AND CONTROL THE
ECONOMIC CYCLE.
WHEN THE CYCLE HITS THE DOWNTURN, A CENTRAL BANK CAN LOWER INTEREST RATES OR
IMPLEMENT EXPANSIONARY MONETARY POLICY TO BOOST SPENDING AND INVESTMENT.
DURING EXPANSION, IT CAN EMPLOY CONTRACTIONARY MONETARY POLICY BY RAISING
INTEREST RATES AND SLOWING THE FLOW OF CREDIT INTO THE ECONOMY TO REDUCE
INFLATIONARY PRESSURES AND THE NEED FOR A MARKET CORRECTION
bibliography

 1)https://www.investopedia.com/terms/b/businesscycle.asp
 2)https://www.thehindubusinessline.com/opinion/columns/fortune-at-the-bottom-of-the-
financial-cycle/article28522507.ece
https://www.rbi.org.in/Scripts/PublicationsView.aspx?id=18968#F9
 3)https://www.newindianexpress.com/business/2019/jul/10/making-sense-of-indias-
financial-cycles-2001711.html
 4)https://www.researchgate.net/profile/Ayhan_Kose/publication/228182203_Financial_C
ycles_What_How_When/links/0912f50e8532631d8a000000/Financial-Cycles-What-
How-When.pdf?origin=publication_detail
Thank you