Revision Presentation - A Question of Confidence
This new revision presentation examines the implications of changes in consumer and business confidence for the UK economy
Launch revision presentation on a Question of Confidence
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Focus on the BRICs
The following video clips from the FT focus on the so-called BRIC economies (coined by the Chief Economist at Goldman Sachs in 2001).
There are excellent to provide discussion points on why grouping the BRIC (Brazil, Russia, India, China) economies together is flawed, with the 4 countries being actually very different and the acronym BRIC no longer being appropriate, in its description of their experiences or their futures. They also discuss whether economic power has shifted from the US to the East.
Cautious consumers fear tax rises
Consumer spending is the main short term driver of demand in the British economy so the expectations and confidence levels within the household sector will be pivotal in determing the speed of any revival in demand during 2010.
The latest Nationwide Building Society consumer confidence index recorded a five point decrease in December to 69 – its biggest fall since November 2008. It seems that people are worried about being hit by higher tax burdens this year as the fiscal squeeze looms on the horizon. Higher VAT (back now to 17.5% and rumoured to be rising to 20% later in the year) and increases in national insurance contributions may be the tip of an ill-concealed fiscal iceberg. House prices are rising and unemployment is rising at a slower rate than feared a year ago. But real disposable income is the dominant factor that determines how much we can spend and the prospects for 2010 do not look good.
Aggregate Demand - Teacher Revision Presentation
Many thanks to Geoff for updating his popular revision presentation for AS students on Aggregate Demand
Launch interactive version
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Losing overtime to cut capacity
Here is another example of how firms are cutting capacity during the recession without making their staff redundant. The TUC report that, although four million workers do still work extra paid hours, over half a million people have lost the opportunity to work overtime in the last year. The average amount of weekly overtime last year worked out at almost £3,000 a year per employee, a total of £10 billion. However this is down by £1 billion on last year, representing a loss of income of hundreds of pounds per month for those employees for whom it is no longer available. Workers aged 20-24 have experienced the sharpest fall in overtime: in 2008, 20.1% of young people earned overtime pay, compared with 15.9 per cent this year.
Workers in manufacturing, transport and communication, industries that traditionally offered overtime, were hit by a sharp fall in extra hours over the past year. In this video report from the BBC looks at one company in Bristol which was faced with the need to cut costs and offered staff the option of either cutting overtime for all of them, or making some of them redundant. They agreed to take the first option, but are having to cut their discretionary spending, and so their living standards, as a result.
13% fall in household wealth will shape any 2010 rebound
One key reason to expect a more subdued recovery from the downturn is that the household sector in the UK has suffered a huge negative wealth effect over the last couple of years. Asset values have fallen but outstanding debts have not and it is this imbalance that will shape the nature of any rebound in consumer demand for goods and services even though the cost of borrowing is at unusually low levels. The National Institute has done some research on the negative shift in personal sector wealth and it is reported in this article in the Telegraph.
Gloomy summary
Here is a summary of four reports posted on the Business and Economics sections of the BBC News website over the last few days. Be warned - none of them are particularly hopeful, the green shoots of summer giving way to autumn mists.
A2 Economics Revision - External Shocks
We have created this PowerPoint for A2 Economics students who wish to update their understanding of external macroeconomic shocks and cyclical fluctuations.
Viewed streamed version of the presentation
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Debt repayment - a virtue or a curse?
This useful article from the BBC looks at debt, repayments and savings for individuals in the UK. In July UK households actually paid back more debt than they took out for the first time since the Bank of England started recording this data 16 years ago in 1993. At the end of that month total household savings amounted to £1.1 trillion, and total outstanding lending to individuals stood at £1.46 trillion (which is almost a trillion more than in 1993). Of this, £1.23 trillion was mortgage debt and £231m was other forms of consumer credit. Households are now starting to get the message about repaying that debt, with the average individual paying back £10 more than they borrowed in July – but the average personal debt standing at £24,000 is going to take an awful long time to pay back at £10 a month.
read more...»The Wealth Effect
Economists often mention something called the ‘wealth effect’ - referring to the link between the level of personal wealth and our decisions about how much to spend or save on goods and services. In our AS macro lesson today we were flagging up ideas about what causes a recession. Some of the causes are from overseas, for example the impact on banks and businesses from the fall out after the global credit crisis. But many of the root causes of a recession are home-made.
And it seems for the UK that people across every region have been hit by a sharp reduction in the value of household wealth.
The BBC reports that “in the course of 2008 alone, £815bn was knocked off the wealth of households in the UK.That amounted to an average of nearly £31,000 for every household in the UK.”
How is wealth stored (and accumulated?)
In property - there has been 9% cut in the market value of all residential property, from £4,077bn to £3,693bn
In pension funds and other investments - the financial assets of households, such as the value of pension funds and investments, also dropped by 9%, to £3,687bn
Asset prices have been falling - but the borrowing used to finance much of this does not go away
Net financial wealth adjusts household wealth for unpaid credit card bills and outstanding mortgage debt. This has fallen by 12% in the last year.
Little wonder that for many people the priority at the moment is to cut back on borrowing, increase saving and try to rebuild their ‘balance sheets’.
Much the same applies to the banking system too! Lenders are making it tougher to borrow and accumulating deposits of cash to give themselves a stronger ‘capital base’ for the years ahead.
In recent months, share prices have surged ahead and the FTSE-100 is now back above 5,000. There are signs too of a revival in the property market.
Will the wealth effect now start to prompt a recovery in demand for goods and services? Keep a keen eye on the housing market and the stock market.
Kick-start for the economy?
The British Retail Consortium estimate that England’s qualification for the World Cup finals in South Africa next year could be worth £1.25 to the UK economy next year. Pubs could take an extra £30-40mn at each live match they show, and electrical manufacturers will get boom sales in flat-screen TV’s to those watching at home and supermarkets will sell huge quantities of food and drink to keep the blood sugar levels up and combat the nerves. Spending on world cup advertising in 2006 generated £300mn, sports kit manufacturers Umbro will be rushing to make more England shirts, and flights and package tours to South Africa are selling out fast. Could this be the news we need to combat the recession and get people spending again? The Times leader writer yesterday thought it might be; in spite of the trillions that have been spent in the last year, this could finally be the news that we need. I see lots of educational opportunities too - game theory as illustrated by the penalty shoot-out for a start (should you shoot left or right? And can the goalie guess which way the penalty taker will go, to save the match?).
Not all businesses will be so happy though. In 2006 estate agents found a huge drop of interest in house buying during the World Cup, and some cinemas had to close for the month with too few visitors. Not to mention the potential effect on A level students: the tournament kicks off on 11th June, with group matches and the knock-out round of 16 lasting through the rest of that month – just when the exams will be scheduled. Best to get the revision done early……..
Signs of a returning ‘feel good’ factor?
The search for green shoots goes on! There are some tentative signs that sentiment among consumers is beginning to rebound albeit from a very low level. Household saving is rising and the annual growth of consumer borrowing continues to slide - indeed in recent weeks the amount of consumer credit has started to fall for the first time since 1993. Personal borrowing fell by £600m in July 2009 - a figure that looks large but pails compared to the aggregate level of accumulated consumer debt.
Sentiment about our own financial situation is also improving. There is plenty that can go wrong from here, not least the impact of further hefty increases in unemployment and forthcoming tax rises. But the unprecedented macroeconomic policy stimulus has at least provided a floor to the collective collapse in consumer confidence that took hold a year or so ago.
The latest Nationwide consumer confidence indicators reinforces the idea that households are rebuilding their finances and are at least considering making a major purchase such as a new car or television. The car scrappage scheme has boosted new vehicle registrations and heavy price discounts and bundled offers (e.g. a new blu-ray player with each new TV) seems to have encouraged people into the audio-visual showrooms.
Consumer Spending and Saving in the UK Economy
The decisions of millions of households about how much to spend and save and (perhaps) borrow will largely dictate where the domestic economy goes in the next twelve months. Here is our latest macroeconomic snapshot, a streamed presentation on aspects of consumer spending and saving behaviour in the British economy over recent years.
The presentation covers the latest available data on:
Consumption and GDP growth
Consumption, GDP and Interest Rates
Durable Goods Spending
Consumer Confidence
Confidence and Policy Interest Rates
Consumer Borrowing
Borrowing and the Savings Ratio
Indicators of Consumer Sentiment
Spending and Real Disposable Income
FTSE 100 and UK House Prices
Personal Insolvency and Debt
Household Savings Ratio
Savings Ratio, Interest Rates and Unemployment
Savings Ratio for Selected Countries
Questions in Behavioural Economics - Credit Cards and Spending
Why do people often spend more when they swipe a credit card than when they use cash? Arjun Bali offers a view.
It’s 2015 and there are two queues of people waiting to buy tickets for an FA Cup final. The longer queue is for those who can pay by cash only, the other is for those who have gained the right to hold a credit card through steady saving and responsible consumption.
read more...»Revision - Animal Spirits
Animal spirits refers to the expectations of businesses, entrepreneurs and consumers. When business confidence is high, we expect to see a rise in planned capital investment at each rate of interest. If there is a downturn in business confidence, for example during a recession, then planned investment may fall and some capital investment projects may be scrapped even when interest rates are fairly low.
read more...»Revision: Consumption and the Trade Balance
The amount that we spend has a direct effect on the balance of trade in goods and services. The evidence is strong that consumers in Britain have a high marginal propensity to import goods and services so that, when their real incomes are rising and their spending increases, so too does the demand for imports. In micro terms, there is a high income elasticity of demand for imported products. And unless there is a corresponding increase in UK exports overseas, then the balance of trade in goods and services will move towards heavier deficit. This has been the case in the UK over the last five or six years although the downturn in household spending in 2009 is leading to a steep fall in the volume of imports.
In the medium term if demand for imports rises and the level of import penetration into the domestic economy continues to rise, then national output and employment will weaken and this will work its way through the circular flow to reduce real incomes. Living standards are reduced in the long run if our export industries are unable to compete with output produced in other countries
Revision: Consumer Borrowing
Most of us at some time in our lives need to borrow money to finance spending. From taking out a mortgage to making frequent use of bank credit cards, borrowing is a normal feature of life and not necessarily something to be worries about. What matter is whether building up debt is sustainable – in other words, can those who rely on debt pay it back? Credit means being able to buy now and pay later. The credit market for individuals is complex at the best of times and there is plenty of scope for individuals to end up in trouble if they borrow irresponsibly or are subject to mis-selling of loan products from the financial services industry.
read more...»Revision: Aggregate Demand
The components of aggregate demand form of the core of much of the AS macroeconomics syllabus. Students need to understand the domestic and external components of demand and how changes in AD feed through to affect output, prices and employment. This revision note covers the basics on AD.
read more...»Buyers market drives new car prices below second hand
This seems to defy microeconomic logic but it is a sign of how the balance of power in the new car market has switched to the buyer rather than the seller. New car registrations remain almost a third lower than at the same time last year and car dealerships are so desperate to unload stocks and generate much needed cash flow that their deep discounts on the prices of new or nearly new cars have driven the prices of some models below that of prices for the same vehicles in the second hand market.
read more...»Q&A: What is a scrappage subsidy and will it work in the UK?
A scrappage subsidy is a “pay-to-scrap” scheme where a government offers a financial incentive to car buyers if they scrap a car that has reached a specified age and in its place they are offered a payment towards the cost of a new vehicle. Germany and France both offer scrappage subsidies to consumers and there is a growing number of voices from inside the UK business community and motor vehicle industry clamouring for one to be launched in the UK. The Retail Motor Industry Federation and the Society of Motor Manufacturers and Traders (SMMT) are at the head of the queue lobbying for a scrappage scheme to be introduced as soon as possible.
read more...»Thrifty days are here again
Just when we thought that saving had gone out of fashion for good, along comes a fresh set of numbers on the economy indicating that the British consumer is more than happy to start paring back their debts saving more of their incomes.
read more...»Revision presentation - UK Housing Market 2009
This updated revision presentation profiles the UK housing market considers the links between the housing market and the UK economy. Asset prices have become hugely important in driving macroeconomic activity - although policy makers in the Treasury and the Bank of England have probably made serious errors in allowing the property bubble to go on for too long before that asset price bubble burst in spectacular fashion.
Launch interactive presentation on UK housing market
Theories turning upside-down
Normally we would expect an increase in consumer sales to shift AD to the right and so be inflationary, all other things remaining equal. However, yesterday’s forecasts suggested that significant sales last month would be one of the main drivers of a reduction in inflation when figures for CPI and RPI were released – but the reason is the heavy discounting that retailers had to offer in order to gain those increased sales, so that prices actually fell even though the volume of sales rose.
read more...»Negative equity - in the used car market
2008 was a year of sustained price deflation in the used car market. As our chart shows, the index of prices for second hand cars fell sharply and, in a second illustration of the weakness of the market place, there was a huge fall in the proportion of original new car price retained. By December 2008 this rate of depreciation had fallen to 33% for a car averaging 39 months and 42,100 miles - in other words, a new car lost two thirds of its original showroom value within three and a half years.
Activity is strong in the motor auction halls as thousands of used cars come up for sale having been ditched by their owners. Some of these fire-sales are the result of a slashing of spending on fleet cars by larger businesses including car rental companies. Others are attempts by motor finance companies to claw back some of the bad debts that they have made with car buyers having reneged on their vehicle purchase loans. Negative equity in the car market is becoming more frequent.
This article from the Telegraph explains the problem
“Buying a car is often a family’s biggest financial transaction apart from home purchase. Thousands of motorists try to spread the bill through a system known as Personal Contract Purchase. This entails putting a deposit down and then paying monthly installments for two or three years, before having the option to buy the car outright. The final payment – known as a balloon payment – is based on what the car is expected to be worth at the end of the contract. But the collapse of the second hand market has meant that the amount demanded by finance companies is often far more than the car is actually worth.”
A strong and active used car market is important for sellers of new vehicles because prospective buyers of a shiny new car want to know that the value of their big-ticket purchase will not collapse like a deck of cards within a few months. But with wholesale and retail credit for financing car purchases much harder and more expensive to maintain. And with unemployment on the rise and consumer confidence remaining exceptionally low, there is little chance of a recovery in demand and prices for used cars during this year of recession.
Thousands in negative equity on their cars
Thousands of drivers who bought cars on hire purchase face ‘negative equity’
Homeowners step away from equity loans
During the housing boom millions of property-owners in Britain opted to unlock some of the equity in their homes by extending their mortgage and using it as a prop for extra spending such as a new car or other big-ticket consumer durables. Housing equity loans have also been made available by some lenders for older households to maintain their spending during retirement.
The Bank of England’s estimate of mortgage equity withdrawal (MEW) is intended to measure that part of consumer borrowing from mortgage lenders that is not invested in the housing market. It takes the increase in housing finance (net mortgage lending and capital grants) and subtracts households’ investment in housing (purchases of new houses and houses from other sectors, improvements to property, and the transactions costs of moving house).
But as the housing recession deepens and prices fall at an annual rate of more than ten per cent, the pattern of equity borrowing has reversed. For the second quarter in succession, people invested nearly £6 billion into housing equity - in effect thousands of people have taken the decision to scale back on equity loans and focus instead on repaying some of the outstanding mortgage debt as and when funds allow.
This change in borrowing psychology has been accompanied by tighter lending criteria being used by lenders making it more difficult and expensive for people to extend their mortgage. Just as the days of the 95% - 100% mortgage have gone for now, so the steady flow of equity release marketing coming through letter boxes has dried up completely. It is all part of the complex process of de-leveraging - an attempt by financial institutions to cut their lending and rebuild their balance sheets.
For the best part of a decade the booming housing market was a significant crutch for domestic consumer spending. Now that equity withdrawal has gone into reverse and with unemployment expected to rise by up to one million over the next year, there are two major drivers of household spending pointing firmly in a downwards direction. The collapse in equity withdrawal is evidence of greater caution among consumers but is yet more bad news for retailers.
The BBC covers the latest data in this article
What if the consumer abandons the economy?
Christmas could be the next victim of the credit crunch. The opening of the new Westfield shopping mall in west London - a project that has cost in excess of £1.5bn - may prove to have happened at an unfortunate time as households retrench their spending and look to rebuild their savings. But what would happen if consumption did decline at a significant rate? If consumers abandoned the economy and left more of the incremental demand to exports, government spending and investment?
The answer would be an almost guaranteed recession and a long one at that. This Wall Street Journal blog entry tracks what would have happened to GDP in the USA taking out the largest single component of aggregate demand.
“For years, consumers were the unflagging pillar of the U.S. economy, but all that changed in the third quarter. GDP would have been negative four times in that last four years if not for spending. At some 70% of GDP, consumer spending can be a major benefit, or as we’re seeing now, a major drag.”
A salient point and one we can relate to here in the UK since personal consumption as a share of national income climbed to a record high in 2007 and the first half of 2008. This is all changing although the UK national income statistics are yet to fully pick up the slowdown in household demand. News that employers predict a sharp rise in redundancies brought on by the current financial crisis will do little to lighten the prevailing mood music.
Chart
consumption_gdp.ppt
Negative equity - why is it a problem?
Negative equity occurs when the value of an asset falls below the outstanding debt left to pay on that asset. Term is most commonly used in connection with property prices and describes a situation where the market value of a house is less than the existing mortgage debt.
read more...»Collapse in new car sales - motor industry clutching at straws
The Society of Motor Manufacturers and Traders has reported a collapse in new car registrations as potential car buyers stay away due to a combination of low consumer confidence, tighter rules on credit and rising fuel and insurance costs. New car registrations in the UK fell 21.2% in the year to September to 330,295 units and the year-to-date volume is down 7.5% to 1,794,419 units.
read more...»A negative savings ratio - the first since 1958!
Much has been written about the financial squeeze facing millions of households in the UK. Disposable income has come under pressure from rising utility and food bills and an increase in the overall burden of tax. Just how steep this squeeze has been is shown by revised figures from the Statistics Commission on the household savings ratio – the percentage of disposable income that is saved rather than spent.
read more...»Millions fear being made redundant
A hat tip to my colleague Tom Allen for spotting this excellent macro article in the Guardian.
Jobless set to top two million as the UK economy heads for meltdown
As one company after another lays off its workers, Tim Webb, Heather Stewart and Nick Mathiason report on the crisis faced by struggling British households.
There is no doubt that millions of people have genuine fears of being made redundant. I read of one survey this week which put the figure at fifteen million. Concerns over job security are not always borne out by reality, but they deepen the sense of economic gloom and are likely to lead to further cutbacks in non-essential consumer spending.
