Cyclical Economic Development in The Economic History - Essay Example

Cyclical Economic Developments Economic development is the development of economic wealth of countries or regions for the well being of their inhabitants. There is no generally accepted institutional theory of economic development that a large share of development economists agrees upon. The concept of cyclical economic development basically leads to the notion that development occurs through a cyclical process, while cyclical disturbances bring development. Consequently, cyclical fluctuations are no barrier to economic growth, and depressions are not necessarily indicators of capitalist failure or breakdown. In the 19th century, business cycles were not thought of as cycles at all but rather as spells of crises interrupting the smooth development of the economy. In later years, economists and non- economists alike began believing in the regularity of such crises, analyzing how they were spaced apart and associated with changing economic structures. Schumpeter (1939) suggested that the economic development proceeds cyclically rather than evenly because innovations are not evenly distributed through time, but appear, if at all, discontinuously in groups or swarms. Entrepreneurs, financed by bank credit, make innovative investments embodying new technologies, resource discoveries, and so on. If these innovative investments are successful, imitators follow, in the original industry and elsewhere. For example, successful innovations in the automobile industry encourage secondary innovations and investment in petroleum, rubber tires, glass, and so on, and the economy embarks upon a dramatic upward surge towards prosperity. Eventually, innovations are completed and investment subside; an flood of consumer goods pours onto the market with dampening effects on prices; rising costs and interest rates squeeze profit margins; and the economy contracts leading to recession. In this perspective, economic growth emerges from and as a consequence of cyclical development. Discontinuous bursts of innovative investment are the basic, underlying cause of cyclical fluctuations. The qualitative changes arising from within the system, which comprise innovations are associated with innovative investment and are the fundamental source of economic development. Economic development embodies technological, organizational, and resource changes which, by raising productivity and reducing costs, lay the foundations for economic growth despite, indeed because of, the interruptions of the business cycle and its associated economic contractions. From this perspective, also, depressions (or, in current language, moderate recessions) are, largely, a normal and healthy process of adaptation to the bunching of innovations during the preceding prosperity. Thus, the fundamental cause of depression is prosperity itself. If we want prosperity, we must accept the depression, which necessarily succeeds it. Moreover, economic contractions yield higher real incomes through innovation; force reorganization of production, greater efficiency, and lower costs; and eliminate inefficient, non-innovating businesses, as new products and methods replace the old in a continuing gales of creative destruction. Schumpeter also labeled the "four-phases" of a cycle: boom- recession-depression-recovery. Starting from the mean, a boom is a rise which lasts until the peak is reached; a recession is the drop from the peak back to the mean; a depression is the slide from the mean down to the trough; a recovery is the rise from the trough back up to the mean. From the mean, we then move up into another boom and thus the beginning of another four-phase cycle. In a sense, any cycle of whatever duration can be described as going through these four phases - otherwise the fluctuations cannot really be described as "cycles". In practice, of course, cycles and economic contractions come in different lengths and amplitudes. First, business expansion, though rooted in innovation, may be amplified by such factors as rising incomes, speculative ventures, excess optimism, and excess credit creation. In the succeeding contraction, which occurs once the force of the primary wave of innovational investment has been spent, the unproductive, unprofitable, and overextended ventures collapse. Contraction will then involve more than a normal recessionary adjustment to and absorption of the innovations of the prosperity and will drop into a major, severe depression. Liquidation and adjustment to a super boom may descend into a fierce twist of decreased credit, decreased prices, and increased liquidation, heightened by speculative contractions in spending and errors of pessimism, perhaps even financial panic or crisis. These deep, protracted depressions are pathological in the sense that they play no indispensable role in the capitalist process, which would be logically complete without them. Indeed, the fierce twist in deep depressions conceivably may be so powerful that the system may not recover by itself and may require assistance from some external agent, like government action or a random favourable event. Empirical evidence shows that throughout the 19th Century, the price level moved backward and forward heavily while output was much less subject to fluctuations. The following four Kondratiev waves (ranging between 48-60 years) have been identified - going through four phases of boom-recession- depression-recovery (Kuznets, 1940): (1) The Industrial Revolution (1787-1842) is the most famous Kondratiev wave: the boom began in about 1787 and turned into a recession at the beginning of the Napoleonic age in 1801 and, in 1814, deepened into a depression. The depression lasted until about 1827 after which there was a recovery until 1842. This Kondratiev rode on the development of textile, iron and other steam-powered industries. (2) The Bourgeois Kondratiev (1843-1897): After 1842, the boom reemerged and a new Kondratiev wave began, this one as a result of the railroadization in Northern Europe and America and the accompanying expansion in the coal and iron industries. The boom ended approximately in 1857 when it turned into a recession. The recession turned into a depression into 1870, which lasted until about 1885. The recovery began after that and lasted until 1897. (3) The Neo-Mercantilist Kondratiev (1898-1950): The boom began about 1898 with the expansion of electric power and the automobile industry and lasted until about 1911. The recession that followed turned into depression in about 1925, which lasted until around 1935. We can assume, that this third wave entered into a recovery immediately afterwards which one might suspect lasted until around 1950. (4) The Fourth Kondratiev (1950- 2010). There has been much debate on dating the Fourth Wave - largely because of the confusions generated by the low fluctuation in price levels and the issue of Keynesian policies. Most acceptably, the boom began around 1950 and lasted until about 1974 wherein recession set in. When (and if) this recession fell into its depression phase may be more difficult to ascertain, but what has been more or less agreed upon is that 1992 (or thereabouts) the recovery began and has been projected to give way to a boom and thus a new Kondratiev wave around 2010 or so. References Schumpeters business cycle http://www.minotstateu.edu/econ/drhuenneke/schumbiz.html (Accessed 6 March 2006) Joseph Alois Schumpeter. Theory of Economic Development Read More