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Chapter 12: Problem 6

One explanation of the business cycle is that changes in business investment, residential construction, or government spending cause the business cycle. If this explanation is correct, how could you use this information to determine whether it is a good time or bad time to buy stocks in the stock market?

Short Answer

Expert verified
To determine if it's the right time to buy stocks, assess the current stage of the business cycle. If business investment, residential construction, and government spending are high or increasing, it may indicate an economic expansion, thus a potentially good time to buy stocks. Conversely, if these factors are low or decreasing, the economy might be contracting, suggesting it might be a bad time to buy.

Step by step solution

01

Identify Business Cycle Stage

First, examine the current status of business investment, residential construction, and government spending. High levels of these elements typically indicate an economy in the expansion phase of the business cycle, while low levels point towards a contraction.
02

Correlate Cycle Stage to Stock Market

In general, stock prices tend to rise in the expansion stage and fall during contractions. This is because high levels of investment, construction, and spending lead to increased profits for companies, whose increased value is then reflected in their stock prices.
03

Make Investment Decision

If the economy is in an expansion phase, it may be a good time to buy stocks since their value is likely to increase. If it’s in the contraction phase, it might be better to hold off on buying more stocks as their prices may decline. However, one should also consider market sentiment and external factors.

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Most popular questions from this chapter

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