Why do some people earn from investments while others lose? The key lies in the credit cycle.

Imagine that the economy is a huge organism that constantly breathes – inhaling air when everything is growing and exhaling when a slowdown comes. This rhythm is nothing but the credit cycle – a powerful phenomenon that determines whether people are eager to spend money, whether companies are growing, or conversely – whether capital is starting to run out and the economy is slowing down.

The credit cycle is like a wave – sometimes it rises high, other times it falls. In economics, we can distinguish two main phases: credit expansion and credit contraction. Each of them affects how banks, companies, and ordinary people operate. Let's take a closer look at this.

The credit expansion phase – a time of prosperity and growth

When banks start to eagerly grant loans and interest rates are low, a time of dynamic growth begins. Imagine a situation where mortgage loans are cheap, companies can easily obtain financing, and consumers are not afraid to go into debt. This is the essence of credit expansion.

What happens then?

People start to spend more – they buy apartments, cars, electronic equipment. The reason is simple: credit is cheap, so instead of saving for years for a new home, they decide to buy it right away.

Companies grow stronger – since consumers are spending more, businesses also have higher revenues. They can invest in new technologies, hire employees, and expand their operations.

More jobs appear – as companies grow, the need for more hands to work increases, which lowers unemployment and drives the entire economy.

Asset prices go up – real estate and stock prices rise because everyone believes that their value will only increase.

Sounds perfect, right? Unfortunately, it is in this phase that the greatest dangers often arise. People and companies can over-indebt themselves, thinking that the good times will last forever. Sometimes speculative bubbles form – artificially inflated asset prices that must burst at some point. And then the other side of the coin begins.

The credit contraction phase – a cold shower for the economy

Every boom has its end. After a period of intense growth comes a moment when banks begin to tighten credit policies. Interest rates rise, loans become harder to obtain, and the economy starts to slow down.

What happens then?

Consumption falls – people can no longer easily obtain credit, so they spend less. This may mean, for example, a drop in the sales of apartments or cars.

Companies cut back on investments – since consumers are buying less, businesses also do not want to take risks and start saving instead of investing.

Unemployment rises – since companies are not growing at the same pace as before, they hire fewer people and sometimes even reduce staff.

The risk of recession increases – if the decline in lending is too sharp, it can lead to a recession, and in extreme cases even to a financial crisis.

The contraction phase is the moment when it becomes clear who managed their finances wisely and who got carried away by optimism during the boom. Companies that were excessively indebted may not survive the slowdown. The same applies to individuals – if someone has taken on too many obligations, sudden interest rate hikes can become a huge problem for them.

How does the credit cycle affect the entire economy?

The credit cycle is one of the main factors that shape economic growth and decline. Its impact can be seen at many levels:

1. Economic instability – sharp changes in the level of lending can lead to serious crises. A good example is the crisis of 2008, which was the result of excessive indebtedness in the real estate market.

2. Fluctuations in financial markets – the credit cycle affects the prices of stocks, real estate, and other assets. That is why sometimes we observe periods of dynamic growth in the stock market, followed by sharp crashes.

3. Debt problems – when credit is cheap, people and companies are eager to go into debt, but in the contraction phase, it may turn out that they are unable to repay their obligations.

4. Reactions of central banks and governments – when the economy begins to slow down, central banks try to counteract the crisis by lowering interest rates or taking other stimulative actions.

Can the negative effects of the credit cycle be avoided?

Although the credit cycle is a natural phenomenon in the economy, there are ways to mitigate its negative effects. Here are a few:

Monetary policy – central banks regulate interest rates, adjusting them to the current economic situation.

Macroprudential regulations – restrictions are introduced regarding the granting of loans to prevent excessive indebtedness.

Financial buffers – banks are required to accumulate capital in case of a crisis, which increases the stability of the financial system.

The credit cycle is a mechanism that governs the economy, influencing the level of investment, consumption, and debt. When credit is cheap and easily accessible, the economy grows, but if there is a sudden restriction in financing – problems arise.

That is why it is worth being aware of what stage of the cycle we are in. Is it a time to take risks, or rather a moment to save? The ability to anticipate these changes and manage finances appropriately can help both companies and ordinary people avoid serious problems in the future.

This is how the credit cycle works – like the rhythm of breathing in the economy. Inhale, that is expansion, and then exhale, that is contraction. By understanding this mechanism, we can better prepare for what is inevitably to come.