Separation of growth and fluctuation, Macroeconomics

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Separation of growth and fluctuation

It is very useful to separate the evolution of a variable which grows over time into a trend and fluctuations around the trend. The graphs below demonstrate such a separation for real GDP. 

1052_Separation of growth and fluctuation.png

Figure: Growth and the fluctuation around the trend

The left diagram demonstrates a stylized graph of real GDP over time. It illustrates the two significant characteristics in real GDP. GDP fluctuates over time and GDP grows over time - at least over a longer period of time. The left graph is the sum of middle graph and right graph. 

The middle graph illustrates the trend in GDP. Trend signifies the second characteristic of GDP - the fact that GDP grows over time. Right graph demonstrates the fluctuations around the trend (cycles) of GDP. These fluctuations around the trend signify the first property of GDP. 

In macroeconomics it's common to study trends and cycles separately. Purpose of growth theory is to investigate the trend whereas most of macroeconomics apart from growth theory is about the cycles. The trend is about the very long run perspective of the economy whereas cycles are about the short and medium run. The rest of this is all about cycles and not at all about trends. Consequently when you think of GDP in the remaining chapters, you must think of GDP as in the right-hand graph: GDP has cycles however no trend.


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