Module 14 · How the economy works
Booms, busts and jobs: growth, recessions, unemployment
Why small differences in growth add up, how the business cycle works, how recessions are identified, and who counts as unemployed.
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In this lesson
- Explain economic growth and why small differences in growth rates compound over decades
- Describe the phases of the business cycle and how recessions are identified
- Calculate the unemployment rate and say who counts as unemployed
- Link the cycle to jobs, wages, public finances and interest rates
Matej, 19, wants a summer job. Last year every café in his town was hiring. This year a manager tells him: “Nobody is hiring.” Is that bad luck, or does the whole economy rise and fall in cycles?
Growth is a rise in real output
is the rise in real GDP over time, usually measured per year. Over decades it comes from four sources: more workers, more and better machines, better skills, and better ideas and technology. The last three raise : the output produced per hour worked.
Small differences in growth add up. A shortcut is the rule of 70: divide 70 by the growth rate to estimate the years needed to double output. At 2% a year, output doubles in about 35 years. At 3.5%, it doubles in about 20.
Economies move in cycles
Growth is not smooth. The has phases: an expansion (output rises), a peak, a contraction, a trough (the lowest point) and a recovery. A is a significant, widespread fall in economic activity that lasts more than a few months. A depression is a very deep and long recession, like the one in the 1930s.
A common rule of thumb says a recession is two quarters in a row of falling real GDP. It is only a rule of thumb. In the United States, a committee of the National Bureau of Economic Research dates recessions by looking at jobs, income, sales and output together. In the euro area, a committee of the CEPR does something similar. Both judge how deep, how widespread and how long the fall is. The US recession of 2020 lasted about two months, yet it counted, because the fall was so large and so widespread.
Slovenia shows the pattern. Its real GDP fell 7.6% in 2009 and 4.1% in 2020. In 2021 it grew 8.4% (Eurostat).
Jobs: who counts as unemployed?
The International Labour Organization (ILO) and Eurostat use the same definition. A person is only if they have no job, can start within two weeks and have actively looked for work in the last four weeks. Students, retirees and people who are not looking are outside the labour force. The labour force is everyone employed plus everyone unemployed.
Unemployment rate = unemployed ÷ labour force
There are three main types. Frictional unemployment is the short gap between jobs, and some of it is normal. Structural unemployment happens when skills or locations do not match the jobs available. Cyclical unemployment comes from a downturn.
The rate can fall without anyone finding work: if discouraged people stop looking, they leave the labour force. So economists also watch the share of people who are employed.
Why the cycle reaches you
In a recession, firms hire less and raise wages more slowly. People on temporary contracts in cyclical sectors, such as construction, manufacturing and tourism, usually feel it first. Tax receipts fall while spending on unemployment benefits rises. These cushion demand without any new law. Central banks usually lower interest rates.
In a strong boom the opposite happens. Firms struggle to find workers, wages and prices rise faster, and central banks may raise interest rates.
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