Here is some revision material on economic systems. It goes through the features of the market, command and mixed economies. Below is a screenshot of the information but you can download the word document by clicking on the link – ECONOMIC SYSTEMS.
With four months to go till the Winter Olympics in Sochi Russia the characteristics of a planned economy are still prevalent. In the old Russia of the communist-era concerns about corruption, the cost of a project, the effect on the environment and the working conditions of the labour force were brushed aside. However it seems that nothing much has changed, according to The Economist.
When the bid was placed Russia proposed to spend $12 billion. The estimated cost now is $50 billion – most expensive games in history. According to The Economist Olympics tend to have overruns of about 180% – Sochi is now at 500%
The closeness of the Government with the construction companies involved has led to corruption. Olympstroy, which oversees the construction, are run under the informal influence of a rent-seeking group of people for whom extraction of government funds is the main purpose. Furthermore one of Putin’s friends and judo partner has been awarded$7.4billion – more than the budget on the 2010 games in Vancouver. A road contract worth $9 billion went to the Russian Railways which is headed by a former KGB general and friend of Putin.
There has been little concern for the environment with construction waste polluting the Black Sea and protected forests being cut down to make way for facilities.
Low-skilled migrants get paid $500 a month and work 12 hour shifts. There is no protection for them in the form contracts, minimum wage, health and safety, and insurance. Wages are not always paid in full and sometimes not paid at all according to Human Rights Watch.
Former prime minister Yegor Gaidar once wrote about how the Soviet Union had wasted its money on construction projects whose main purpose was to utilise government funds. One wonders has much changed?
What is also quite strange is the fact that Sochi has a sub-tropical climate and is one of the few places in Russia where snow is scarce. This has led organisers to store snow.
Here is a new video presentation by Phil Holden – using a data projector rather than the whiteboard. Excellent for AS Level revision of Market and Planned Economies.
There is no doubt that the social costs (private cost + external cost) associated with food consumption have been well documented. Rising obesity rates especially in those affluent developed nations have caused authorities to consider the reasons behind this issue. It transpires that economic insecurity plays a significant role in explaining trends in obesity for many affluent countries.
What is Economic Insecurity?
In July 2010 the Economic Security Index (ESI) was developed by Yale Professor Jacob Hacker. It is designed to provide a meaningful, succinct measure of Americans economic security. The three key determinants of economic security it focuses on are:
1 Large losses in household income
2 Large spikes in house-hold medical spending
3 The adequacy of household financial wealth to buffer these losses and spikes.
Efficiency Obesity trade-off
Although last twenty years has seen countries move to a more market based economic system but since the global financial crisis (GFC) there has been a U turn in some countries. Research has shown that the population of those countries that have adopted a more free market approach to running their economies, have experienced personal economic insecurity (unemployment etc.) which has given rise to weight gain. The table below shows that the countries through to be free market have higher obesity rates than those that are more planned in nature. Countries with free market policies have 4% higher obesity rates on average.
Source: T. Smith (2012), Does economic liberalisation cause obesity? EcoNZ@Otago – Issue 29 – September 2012
The above is a brief extract from an article published in this month’s econoMAX – click below to subscribe to econoMAX the online magazine of Tutor2u. Each month there are 8 articles of around 600 words on current economic issues.
Tomorrow sees the hand over of power within the Chinese political system and corporate strategists at multinationals are anxious to know China’s new leaders agenda. It seems that Jiang Zemin – China’s ex-leader – has stopped reforms which have implications for Asia and the rest of the world. Some of outgoing President Hu Jinto’s young leaders have been dumped from the seven-man Standing Committee which drives Chinese economic policy – they were to continue the economic reform of China. Their ousting looks like a victory for the Chinese traditionalists who claim that strict control of banks and key industries protected China from the GFC in 2008. However one has to debate this argument when you consider that China bounced back from the GFC by implementing the following policies that created growth:
* Fiscal stimulus to the value of 16% of GDP
* Credit growth at 30% each year
* Investment 49% of GDP in 2011
The World Bank has warned that China’s export-led growth implemented 30 years ago is now outdated. As Andrew Evans-Pritchard stated in the Daily Telegraph (UK) China has already picked its low hanging fruit of state-driven industrialisation.
Stagnation lies in wait if the country clings to the dirigiste (central planning) model.
China and the Lewis Point
Arthur Lewis pointed out that with the expansion of the modern sector of a low-income country, the “unlimited labour supply” (from the rural sector’s labour surplus) would disappear and as a result the country will enter into a phase of faster real wage increase. China has reached this point as the surplus of cheap labour form rural areas has started to subside. Manufacturing wages have been rising by 16% a year for the last decade but more worrying is that it has been outstripping productivity. The competitiveness of the Chinese economy must now come from innovative enterprise and free thinking, something that has been difficult to encourage within the political system.
There is nothing envitable about China’s economic fate. Whether it succeeds or fails is entirely a political choice , and one that is being made before our eyes. Daily Telegraph
From reading the October 2012 IMF Fiscal Monitor I came across a page on the Swedish model of managing its public finances. Obviously the IMF see this as a good example for other economies to follow. At the bottom of the recession in 2009 the fiscal deficit in Sweden was only 1% of GDP and by 2011 it was at pre-crisis levels. The IMF publication identified four main points that other countries could learn from.
1. The building up of fiscal buffers during good times, together with credible fiscal institutions, provides room to maneuver during bad times.
Before the GFC Sweden enjoyed a fiscal surplus of 3.5 percent of GDP, compared with an average deficit of 1.1 percent of GDP among advanced economies. When the recession hit the government had enough fiscal space to allow automatic stabilizers to operate fully and to implement stimulus measures without jeopardizing fiscal sustainability. The fiscal balance went from a surplus of 3.5 percent of GDP in 2007 to a relatively small deficit of 1 percent of GDP in 2009. The authorities’ expansionary policy was not called into question by markets because of the low level of the deficit and the credibility of Sweden’s comprehensive fiscal policy framework—including a top-down budget process, a fiscal surplus target of 1 percent of GDP over the output cycle, a ceiling for central government expenditure set three years in advance, a balanced-budget requirement for local governments, and an independent fiscal council.
2. Central bank credibility allows monetary policy to be used aggressively.
During the crisis, the Riksbank lowered its target short-term interest rate nearly to zero and implemented sweeping liquidity measures, including long-term repurchase agreement operations and the provision of dollar liquidity.
3. A flexible exchange rate can help absorb the shock.
During the crisis, the krona fell in value against both the dollar and the euro as investors flocked to reserve currencies. It depreciated by 15 percent in real effective terms from mid-2008 to early 2009, supporting net exports and helping prop up economic activity.
4. Decisive action to ensure financial sector soundness is crucial.
Swedish banks were badly hurt by the financial crisis, despite their negligible exposure to U.S. sub- prime assets. Bank profitability fell sharply in 2008– 09, and two of the largest banks — both increasingly funded on wholesale markets and exposed to the Baltics — saw their loan losses spike and their share prices and ratings decline accordingly. The authorities took fast action to calm depositors and inter- bank markets, including a doubling and extension of the deposit guarantee and introduction of new bank recapitalization and debt guarantee schemes.
You will no doubt have seen the Keynes v Hayek Rap which was produced by econ stories. Now the debate turns to the Chinese economy – which of these economist’s policies is more prevalent? The Economist Free exchange column addressed this issue recently.
In order to maintain the level of economic activity in an economy Keynes believed in investment spending to maintain aggregate demand and employment. However, Hayek believed that investment spending might be directed in the wrong areas and would leave the economy poorly coordinated and workers stranded in the wrong jobs. Economist Andrew Batson has argued that Hayek seems to be gaining the upper hand in the battle of ideas as China is now keen to avoid the Hayek malinvestment even if there is less aggregate demand and growth which Keynes favoured. As mentioned in previous posts there has been huge investment in China in areas that normally stimulate growth in downturns – eg. creation of new cities or infrastructure projects.
There are others that say the Chinese economy has areas of its infrastructure that need to be developed. Cities like Beijing and Shenzen are congested and need investment spending on them. Although Hayek believed that malinvestment would result in a worse downturn what is different in China is that their high investment is backed by even higher savings. This means that investment projects don’t need to generate high returns in order pay back external creditors. According to The Economist the real cost of malinvestment is with the empty shopping malls, vacant apartments etc when there are poor medical facilities and overcrowding in housing. Might a more market approach be a better driver of the economy rather than that of central planning?
For many years China has been trying to guarantee resources for its growing economy. The FT in London recently looked at the Chinese mining company Citic Pacific which has invested huge funds into the Sino Iron mine in Western Australia. Originally hatched in 2006 the level of expenditure has gone significantly higher than expected – from US$2bn to US$7.1bn today. However some have suggested that a US$10bn will ultimately be the cost and this is especially prevalent in that they are two years behind schedule.
It seems that Citic Pacific have put down too much money to pull out – barriers to exit. China imports about 60% of its iron ore and the Sino Iron mine is an attempt by the Chinese to break away from the dependency of foreign suppliers, which Chinese steelmakers accuse of driving prices too high. However Chinese companies have found it difficult to adjust to the foreign working conditions compared to the protected environment in China. Chinese enterprises are often unprepared for the rigours of foreign competitors especially with regard to employment laws and the nature of contracts. China’s mining plans involve the use of Chinese labour as they are cheaper and have a higher productivity. However, overseas labour laws and visa requirements make the use of Chinese labour all but impossible. In Australia truck drivers can earn US$2000,000 a year with three-home housing, free home leave. By seeking control negotiations can become confrontational.
The Chinese were desperate for iron ore when the demand for steel was very high. However Chinese developers realise now that the demand for steel has dropped and prices have fallen. In 2010 China imported less iron ore than the previous year and by 2011, higher interest rates and strict restrictions on property and construction continued to put downward pressure on steel prices. Also for Citic Pacific miscalculations over currency have played a role in increasing costs. The AUS$ has appreciated over the life of the project and controversial hedges that Citic bought went wrong causing a $2bn loss.
Yesterday official GDP figures out of China showed that growth has slowed to 7.6% for the second quarter. This was predicted but as building and infrastructure development accounts for 55% of China’s GDP growth this has a significant impact on demand for iron ore which is a key ingredient in steel.
There has been much mention in economic news of a potential housing bubble in the Chinese economy and ultimately a hard landing. This for China would be a GDP figure of around 6%. The worry is that sales of new residential buildings, measured by floor space sold in the chart, have fallen significantly over the last several months, although it may not be going into free fall with March delivering some improvement. Rodney Dickens of Rodney’s Ravings talks about the sheer scale of the numbers is staggering (e.g. at the peak over 150,000,000 sqm of floor area started per month). The charts show how much higher the floor area of building started has been relative to the floor area sold since 2009. On average since January 2009 11,470,000 sqm has started construction each month while 8,569,000 sqm has sold per month. We assume these data are on a comparable basis. This means starts have been running 34% ahead of sales each month on average for over three years, which fits with there being reported to be something like 64m vacant new apartments.
According to Patrick Chovanec (Associate Professor of Practice at Tsinghua University’s School of Economics and Management in Beijing) China’s developers are playing out a kind of prisoner’s dilemma: rush to complete, in hopes of cashing out. But while supply keeps going up, demand is going down. In late March 2012, a central bank (PBOC) survey reported that only 14.1% of Chinese consumers were looking to buy a house in Q2, the lowest level since 1999. Only 17.7% expected home prices to rise in Q2, and 62.9% said they still consider prices to be too high. So all those rushed completions only add to the glut already on the market, driving prices down further and giving buyers — investors and aspiring residents alike — all the more reason to hold off for a better deal.
Here is a great video clip from the The Institute for New Economic Thinking (INET) featuring many notable economists and economic thinkers. They basically look at the issue of financial stability, or the lack thereof, and discuss what is at the core of the problem. It includes Joseph Stiglitz, Gillian Tett, David Tuckett, Stephen Kinsella, John Kay, David Weinstein, Steve Keen and Dirk Bezemer.
The Institute for New Economic Thinking (INET)’s mission is to nurture a global community of next-generation economic leaders, to provoke new economic thinking, and to inspire the economics profession to engage the challenges of the 21st century.
I use this clip from Commanding Heights to show how regulated the US airline industry was during the 1970’s. Regulations meant that major carriers like Pan Am never had to compete with newcomers. However an Englishman named Freddie Laker was determined to break this tradition and set-up Laker airways to compete on trans-atlantic flights. He offered flights at less than half the price of what Pan Am charged. Alfred Kahn was given the task by the then President Jimmy Carter to breakup the Civil Aeronautics Board (the regulatory body) and he wanted a leaner regulatory environment in which the market was free to dictate price. There is a piece in the clip that shows how ludicrous some of the regulations were:
When I got to the Civil Aeronauts Board, the biggest division under me was the division of enforcement – in effect, FBI agents who would go around and seek out secret discounts and then impose fines. We would discipline them. It was illegal to compete in price. That means it was illegal to compete in the discounts you offer travel agents. So we regulated travel agents’ discounts. Internationally, since they couldn’t cut rates, they competed by having more and more sumptuous meals. We actually regulated the size of sandwiches. Alfred Kahn
When the CAB was closed down competition was the rule and the industry had vastly underestimated the demand for air travel at lower prices – a very elastic demand curve – see graph below.
Full-time doctor but part-time artist, Ahmed Matter creates some very interesting art. Using x-rays and magnetism the art he produces is a critical voice against the insanity of oil dependency and the oil production that has had a decisive impact on the region as a whole. The petrol pump below is gradually transformed into the body of a human being – in blue-tinted x-ray pictures of the head and upper body. And the pump nozzle itself becomes a pistol, which the spectral human figure holds to its head – a portent and probably also a criticism of the Saudi government, which places reckless emphasis on oil exports. Do we have another case of a classic resource curse?
Here is an image that might be useful for teaching economic systems – Unit 1 AS course (CIE). It shows a typical McDonalds fast-food restaurant in Germany but what you need to do is zoom in on the name of the street. It is sort of ironic that one of the major symbols of the free market should be located on a street of this name. This could be used in class discussion or as a topic for an essay. “Outline the characteristics of the economic systems that are evident in the photograph”
The Economist recently had a special report on “State Capitalism” and although it is a long read here are some prevalent points which could be used in AS or A2 essays especially in the discussion parts of questions.
Basically state capitalism attempts to combine the control of the state with the potential of capitalist system. It relies on the government to select and fund organisations which it sees as potential successes and uses the capitalist toolbox of raising finance through the stockmarket and adopt globalisation. Historically this was type of system was evident in Japan in the post WWII period as it started to rebuild its economy. However one only needs to look at China to see the success of state capitalism – over the past 30 years its economy has:
- grown on averge 9.5%
- international trade has grown by 18% in volume terms
- GDP has more trebled in the last 10 years to $11 trillion
- it has over taken Japan as the second largest economy
- it has over taken the US as the world’s biggest market for consumer goods
A key point in these achievements is that the Chinese government is the biggest shareholder in the country’s 150 biggest companies and manages and incentivises thousands more.
State capitalism is also very prevalent in big firms. The 13 biggest oil firms which supply 75% of all oil reserves as state backed. Some other examples from The Economist include:
- Gazprom – biggest natural gas company
- China Mobile – has 600m customers
- Saudi Basic Industries – world’s most profitable chemical company
- Sberbank – Russian Bank and 3rd largest in Europe by market capitalisation
- Dubai Ports – third largest port in the world by volume
- Emirates – airline that is growing at 20% a year.
On stockmarkets State companies are also very prevalent – see graph below:
- 80% of stockmarket in China
- 62% of stockmarket in Russia
- 38% of stockmarket in Brazil
Remember the above are very much emerging economies and make up 3 of the countries in the BRIC group. Also the Crysler building in New York is owned by Abu Dhabi and Manchester City football club is now owned by Qatar. The Chinese have a phrase “The State advances whilst the private sector retreats”
Here is a useful interactive from the WSJ. As the global economy slowly starts to recover from a major slowdown, the WSJ has put together a great interactive that shows which countries have been implementing an exansionary or contractionary monetary policies. Red = rates up Green = rates down. Start at 2004 and see rates change up to 2012. Click here to go to the WSJ interactice.
Another great Economist graphic which shows that China has already overtaken America on well over half of 21 different indicators, including manufacturing output, exports and fixed investment. The chart below predicts when China will surpass America on the rest. By 2014, for example, it could be the world’s biggest importer and have the largest retail sales. America still tops a few league tables by a wider margin. Its stockmarket capitalisation is four times bigger than China’s, and it spends five times as much on defence. Even though China’s defence budget is growing faster, on recent growth rates America’s will remain larger until 2025.
The FT in London has been running a series of articles debating “Capitalism in Crisis”. John Kay looks at what has capitalism meant in the historical sense. In the mid-19th century the system of business ownership was fundamental to the economic perspective. Entrepreneurs like Werner Siemens in Germany, Rockefeller in the US, and Arkwright in the UK built and owned the plant and capital that employed the working class. By the 1930’s companies started to separate ownership and control – shareholders and mangers. Therefore business leaders are not capitalist like those in the mid-19th century. They have acquired their authority and influence from their positionin a hierarchy, not their ownership of capital. These positions have come about through their aptitude in corporate politics, in the traditional ways bishops and generals acquired positions in a ecclesiastical or military hierarchy.
Today modern business is not about ownership of machines and factories or other physical assests. The crucial resources of today’s company is its competitive advantages:
- systems of organisation
- reputation with suppliers and customers
- its capacity for innovation
Capital of a company today is most likely owned by someone else – eg a pension fund, a property company or leasing business – none of whom were linked to the company. Therefore whilst the organisation of the production process and productivity levels means a lot to a company, ownership of them doesn’t mean much.
In using the 19th century term capitalism we are forgeting what it actually stood for. Today it has evolved into something quite different.
Here are some books that might be of interest for the holiday period. I am off to the beach and out of internet range for 3 weeks. Will resume normal service on 15th January. Have a merry xmas and a happy new year.
This Time Is Different: Eight Centuries of Financial Folly by Carmen M. Reinhart & Kenneth Rogoff
This Time Is Different presents a comprehensive look at the varieties of financial crises, and guides us through eight astonishing centuries of government defaults, banking panics, and inflationary spikes–from medieval currency debasements to today’s subprime catastrophe.
The Darwin Economy: Liberty, Competition, and the Common Good by Robert H. Frank
Who was the greater economist–Adam Smith or Charles Darwin? The question seems absurd. Darwin, after all, was a naturalist, not an economist. But Robert Frank, New York Times economics columnist and best-selling author of The Economic Naturalist, predicts that within the next century Darwin will unseat Smith as the intellectual founder of economics.
The Price of Civilization: Economics and Ethics After the Fall by Jeffrey Sachs
The world economy remains in a precarious state after the recent global recession – where quick fixes were implemented instead of sustainable solutions to systemic problems. Jeffrey Sachs argues powerfully for a new co-operative, common-sense political economy, one that stresses practical partnership between government and the private sector, demands competence in both arenas and occasionally insists on carefully chosen public and private sacrifices. In this new era of global capitalism, Sachs believes that we have to forget partisanship and solve these enormous problems together, clinically and holistically, just as one would approach the eradication of a disease.