Industrialization fundamentally changed the gyre of macroeconomic activity: upping the pace and intensity of economic swings.
In preindustrial times, abrupt price fluctuations were most often local or regional. Bad harvests and war were about the only triggers for economic malaise.
By contrast, industrialization brought monetary concerns to the fore. The sloshes and desiccations of financial flows became quicker and more pronounced, dependent upon the degree of surety that growth was in the offing. The confidence of moneymen determined an economy’s impending prospects.
Expanding trade from industrialization introduced bipolarity into economic cycles. The increasing integration of the international economy brought about by freer trade created a synchroneity of price movements across nations.
In the 19th century, bipolar economic booms and busts marked by stock exchange crashes and bank panics followed one another in pell-mell manner.
In the 1850s, French statistician Clément Juglar was one of the first to scrutinize economic cycles, which he identified as lasting 7–11 years. These Juglar cycles were characterized by oscillations of investment and levels of unemployment.
A new cycle started from the trough of the last, with growing confidence that the worst was over. After 4 or 5 years of rising consumption, investment and production, pessimism set in about the good times continuing. The cycle slowed down and unwound in the following years, ending in a recession or depression, or quickly crashing in a financial panic.
In 1922, Russian economist Nikolai Kondratiev proposed that Western capitalist economies had long-term (50–60 year) cycles of boom followed by depression. These became known as Kondratiev waves.
The next year, English businessman and statistician Joseph Kitchin found evidence of short business cycles of about 40 months. The Kitchin cycle is believed to be related to the time lags associated with information flows affecting business decisions.
The business cycle, as it is commonly called, revolves around manufacturers, businesses, merchants, and consumers. The levels of production and consumption diverge when anticipation in production exceeds demand.
As consensus emerges that such divergence is an untoward harbinger, trouble looms by dint of such pessimism. Investment slows, and with it, employment. With the price mechanism as the only arbiter of manufacture, and acting only as a lagging indicator, never as forward guidance, the business cycle naturally ramps up and runs down.
A distinct financial cycle also exists. The lucre gyre was long considered simply part of the business cycle, but its whirlpool comes from a different school of fish. Moneymen speculate to feed their greed.
Every age has its peculiar folly: some scheme, project, or fantasy which it plunges, spurred on by the love of gain, the necessity of excitement, or the mere force of imitation. ~ Charles Mackay
Whereas businessmen ponder price to suss conditions, financiers fancy risk as their oracle. The prophetic powers of both are often ineffectual, but so it goes, as the market system essentially runs on rumor.
The euphoric episode is protected and sustained by the will of those who are involved in order to justify the circumstances that are making them rich. ~ John Kenneth Galbraith
Animal spirits have a way of feeding a financial beast until it can run no more. Those who grab with the most gusto fall the hardest, while a measure of timidity proves prudent for men who live off monetary currents. Whatever the investment temperament, an ebb tide in the flow of money puts all financial boats in danger of the shoals.
Whereas entrepreneurs and firms profit individually, investors only rise to a feeding frenzy as a herd. While booms slowly build in the financial world, this collective dynamic ensures spectacular busts. This is because producers and consumers both rely upon easy terms of credit: producers to invest for future growth, and consumers to temporarily live beyond their means, and so fuel growth. When lending dries up the economy plummets.
In the US and UK, consumers account for close to 70% of GDP, as compared to 37% for Chinese consumers (a figure which is rising). If consumers in North America and Europe are not happily spending, economies worldwide suffer.