The effect of the single Eurozone interest rate on the relatively high-inflation countries in the Eurozone periphery is also pro-cyclical, leading to very low or even negative real interest rates during an upturn which magnifies the boom (e.g. A similar criticism has been directed at fair value accounting rules.
Unfortunately, this may require them to lend less during a recession or a credit crunch, which could aggravate the downturn. The accord requires banks to increase their capital ratios when they face greater risks. Thus, the financial regulations of the Basel II Accord have been criticized for their possible procyclicality. Of course, since the effects of particular policies are often uncertain or disputed, a policy will be often procyclical, countercyclical or acyclical according to the view of the one judging it. In this context, it refers to any aspect of economic policy that could magnify economic or financial fluctuations. Procyclical has a different meaning in the context of economic policy. In finance, an asset that tends to do well while the economy as a whole is doing poorly is referred to as countercyclical, and could be for example a business or a financial instrument whose value is derived from sales of an inferior good.Įconomic policy making Procyclical Similarly, business failures and stock market prices tend to be countercyclical. Unemployment is an example of a countercyclical variable. That is, quantities that tend to increase when the overall economy is slowing down are classified as 'countercyclical'. Many stock prices are also procyclical because they tend to increase when the economy is growing quickly.Ĭonversely, any economic quantity that is negatively correlated with the overall state of the economy is said to be countercyclical. Gross Domestic Product (GDP) is an example of a procyclical economic indicator. That is, any quantity that tends to increase in expansion and tend to decrease in a recession is classified as procyclical. In business cycle theory and finance, any economic quantity that is positively correlated with the overall state of the economy is said to be procyclical. A 'countercyclical' fiscal policy takes the opposite approach: reducing spending and raising taxes during a boom period, and increasing spending and cutting taxes during a recession. A 'procyclical fiscal policy' can be summarised simply as governments choosing to increase government spending and reduce taxes during an economic expansion, but reduce spending and increase taxes during a recession. The concept is often encountered in the context of a government's approach to spending and taxation. The scope of the concept may differ between the context of macroeconomic theory and that of economic policy–making. Procyclical and countercyclical variables are variables that fluctuate in a way that is positively or negatively correlated with business cycle fluctuations in gross domestic product (GDP).
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