2.05 – Fact: “The Economy Matter.”
The state of the economy significantly impacts both the decision to start a business and the chances of its survival. Although business cycles have existed for centuries, serious study of the subject is relatively recent. Joseph Schumpeter, an influential economist, described the cycle as “the economic ebb and flow that defines capitalism.”
He emphasized that cycles are an inherent part of the economic system, akin to the heartbeat of an organism. Schumpeter is also known for the concept of “creative destruction,” where continuous innovation leads to economic cycles, with more radical innovations causing more pronounced cycles.
Spotting Cycles
Statistics on small firms provide precise data on the number of businesses starting and closing in various geographic areas and their activities. Periodic studies offer insights into how new and small firms are financed and their reliance on overseas markets. However, beyond these basic statistics, information often comes from informal studies by banks, academics, and other interested parties.
The UK small business sector is substantial, with over 6 million people running their businesses, up from less than 2 million three decades ago. These businesses employ over 16 million people and generate a turnover of £2.3 trillion.
Understanding Business Cycles
Predicting business cycles is challenging due to their complexity and variability. Here are four competing theories on the shape and form of business cycles:
The Juglar Cycle
Named after Clement Juglar, this cycle involves four phases over 9 to 11 years:
- Prosperity: Investors rush into new ventures.
- Crisis: Business failure rates increase.
- Liquidation: Investors pull out of markets.
- Recession: Economic consequences include job losses and reduced consumption.
The Kitchin Cycle
Also known as the inventory cycle, this theory by Joseph Kitchin identifies a 40-month cycle. Companies often overestimate demand, leading to excessive inventory. When growth doesn’t materialize, inventories are sharply reduced, causing economic fluctuations.
Kondratieff's Theory
Kondratieff’s theory suggests that capitalism creates long-wave economic cycles lasting about 50 years. Major enabling technologies, from the printing press to the internet, take roughly 50 years to yield full value before being overtaken by new innovations.
Kuznet's Cycle
Proposed by Simon Kuznet, this theory is based on a 15 to 25-year cycle involving land acquisition, permissions, construction, and sales. Known as the building cycle, it highlights the significant economic influence of property development and related industries.
Preparing for Economic Fluctuations
Since 1949, there have been 13 bear markets, each lasting an average of 13 months with a market decline of about 26%. Conversely, there have been 14 bull markets, each lasting 49 months with average gains of 132%. For every bull market, a corresponding bear market follows, though predicting their timing is difficult.
While it would be beneficial for business starters to anticipate downturns, accurately predicting economic cycles remains elusive. Historical examples show that even renowned economists have struggled with predictions. Understanding that economic cycles are influenced by collective emotions—what Maynard Keynes referred to as “animal spirits”—can provide some insight.
Timing Your Business Start
The debate over whether starting a business during a contracting economy is more challenging depends on perspective. Fewer competitors might exist, but those remaining are often more experienced and determined to maintain their market share.
Case Study: Adapting During Economic Downturns
Bruce Tate’s business, Need Music, faced significant challenges during the pandemic lockdown. With live music bookings halted, Tate pivoted by opening the Route 72 Café to serve cyclists on Hadrian’s Cycleway. This adaptation demonstrates the importance of flexibility and creativity in response to economic changes.
Conclusion
While the timing of starting a business often depends on personal circumstances, it’s wise to consider the economic climate. Launching during an upswing can provide a supportive environment, much like a sailor benefits from favorable tides. Understanding and preparing for economic cycles can enhance your chances of success in the dynamic business world.
