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What is Economic Growth?
In the Economic Futures Hub, we previously introduced Gross Domestic Product (GDP). The term economic growth typically refers to GDP growth, and GDP is a measure of the size a country’s economy. It can also be used to compare the size of different economies. An annual GDP growth rate of 3%, quite simply, indicates that the economy has grown by 3% on the previous year.
Economic Growth in the United Kingdom:
This graph, showing the UK’s GDP growth rates in the 21st century, clearly displays that GDP growth rates are at their lowest levels during ‘bad times’ in the economy. During both the 2008 financial crisis, and the 2020 Covid-19 pandemic, we can see that growth in the economy fell substantially.
What does Economic Growth Indicate?
- Economic growth is associated with rising income and increased employment opportunities, as well as increasing investment
- A combination of the above factors present the opportunity for individuals living standards to rise, this may not equate to equally rising living standards however
- Higher economic growth indicates that output in the economy is higher
What do we mean when we say output?
- Economists refer to output as the quantity of goods and services produced in the economy
- Output is a key indicator of a country’s performance
- High output indicates that production is higher
The Fraser of Allander Institute regularly publish economic outlooks, forecasting future economic growth levels, and highlighting what current and expected economic conditions mean for Scotland’s economy.
What is the Business Cycle?
The business cycle refers to the cyclical pattern of economic expansion and contraction that we often witness in the economy. It is a common and natural feature of most economies worldwide. There are 4 key stages of the Business Cycle and this section will explore each area. The 4 key stages of the cycle are expansion, peak, contraction, and recovery.
Expansion
This phase refers to a significant rise in economic activity including a rise in employment, production, and consumer spending. In this period, business’ experience profit and growth, and consumer confidence is high. An expansion is associated with higher employment and higher aggregate demand. In addition, central banks often set low interest rates to encourage investment and consumption. There is however a risk that rapid economic growth can trigger inflation!
Peak
The peak phase represents the highest point of the business cycle, and when economic activity is at the maximum level. At this point, key economic factors such as GDP, employment and consumer spending are at their highest point. In addition, there is often less people looking for jobs than there are available openings. There may also be high inflation at this point.
The USA Housing Boom: Many of you will have heard of the 2008 financial crisis, but what exactly caused it? In the early 2000’s the USA was in the peak phase of the business cycle, experiencing low unemployment, high economic growth and high demand for housing. During this period, even untrustworthy buyers were offered mortgages which increased demand, leading to soaring house prices. What was to follow the peak phase was rather the opposite!
Contraction
This phase involves a reduction in economic activity which is associated with lower consumer spending, rising unemployment and decreased production. As consumer demand and profitability decrease, businesses decrease their production and let go of employees, causing higher unemployment. The above factors result in negative economic growth, otherwise known as a contraction in GDP.
The Financial Crisis: As the peak phase transitioned in to the contraction phase, those who had taken mortgages could not repay their loans. Resultantly, financial institutions lost significant amounts of money and some collapsed fully, leading to significant job losses. Furthermore, it became very difficult for people/firms to borrow money. Subsequently, people had significantly less money to spend, unemployment was high, and the stock market collapsed. This is one of the most clear-cut recent examples of the contractionary phase.
The following graph clearly displays the business cycle within the USA. In the early 2000’s the USA was in the expansion and peak phases, experiencing high growth and lower unemployment rates. However, we can see that after the 2008 financial crisis the country entered the contraction phase and experienced significantly increasing unemployment, and decreasing economic growth.
The above is a very simple explanation of the 2008 financial crisis, and there were a number of other factors involved. If you want to learn more about the causes and impacts of the financial crisis, follow this link:
Recovery
The final phase refers to the period following the contractionary phase, where the economy begins to recover and transition to growth. In this phase, there is an increase in GDP growth, increased consumer demand, and improvements in employment. At this stage, various factors contribute to the recovery including increasing consumer confidence, fiscal policy and monetary policy.