Reforms and budget cuts seem to be the norm across the world. In the UK, we’ve seen announcements about substantial cuts in government spending and reforms to our welfare state, including child benefit and pension reforms. But how will people react? Perhaps, we should look to France to see what could be to come. People across the country are protesting against the plan to raise the pension age from 60 to 62.
Workers at French oil refineries have ceased work and, as as a result, shortages of petrol across France look set to continue. There has been mass disruption to various transport markets, including cancelled flights and lorry drivers using ‘go-slow tactics’.
Furthermore, it’s not just workers at oil refineries who are on strike. Rubbish remains uncollected; oil tankers are floating off the coast; rail strikes and postal strikes have disrupted daily life; and even the school system has been affected. But, what are the costs of these strikes? Will the French economy suffer? Will economic growth be affected? It’s certainly an inefficient use of resources and will undoubtedly cost money.
Yet, despite these strikes, the President has said that the reforms will still go ahead, as he looks forward to a Senate vote on the pension bill. But what are the problems necessitating pension reform, not just in France, but across the world? And will it be France’s turn to experience a ‘winter of discontent’?
French strikes force petrol stations to shut BBC News (18/10/10)
Defiant Marseille, heart of France’s social unrest Reuters (18/10/10)
French Fuel Crisis: Protests turn violent Sky News, Huw Borland (18/10/10)
JPMorgan says French strike will cut demand for oil next year Bloomberg, Grant Smith (18/10/10)
French strikes hit airlines, trucking, gas pipes Philippine Star (19/10/10)
French riot police clash with students as petrol stations run dry Telegraph, Henry Samuel (18/10/10)
French based for another day of strike action Guardian, Angelique Chrisafis (18/10/10)
France strike: flights cancelled, airlines told to carry enough fuel for return journey Telegraph (18/10/10)
Questions
- What action other than striking is open to workers? What are the costs and benefits of each?
- Why are strikes by groups of workers likely to be more effective than protests by individual workers?
- Illustrate on a diagram the effect of a trade union entering an industry. How does it affect equilibrium wages and equilibrium employment? Is there any difference if the trade union faces a monopsonist employer of labour?
- What are the efficiency arguments against strike action?
- How are oil prices determined? What will be the impact on oil prices of these strikes in France? Will there be an impact on the rest of the world?
- What are the key issues necessitating pension reform? Are these issues worth the price of the strikes?
According to GDP figures released on 15 August, China overtook Japan in the second quarter of 2010 to become the world’s second largest economy. This raises two questions: just what do the GDP figures mean and why has this happened?
The GDP figures are total figures measured in US dollars at current exchange rates. According to these nominal figures, Japan’s GDP was $1.286 trillion in the second quarter of 2010; China’s was $1.335 trillion. This follows several years when Chinese growth rates have massively exceeded Japanese ones.
As far as explanations are concerned, economists look to a number of different factors, including investment policies, relative exchange rates, confidence, deflation in Japan and the scope for catching up in China.
The following podcasts and webcasts look at these questions, as do the articles.
Podcasts and webcasts
China eyes Japan’s slowing GDP growth BBC News, Roland Buerk (16/8/10)
Japan’s economic strategy ‘not happening’ BBC Today Programme Interview with Dr Seijiro Takeshita of Mizuho International banks (16/8/10)
China’s growth rate slows to 10.3% as lending tightens BBC News, Chris Hogg (15/7/10)
China exports jump in May BBC News, Chris Hogg (10/6/10)
China Overtakes Japan in 2Q As No. 2 Economy Associated Press on YouTube (16/8/10)
China’s economy takes over Japan’s AsianCorrespondent on YouTube (16/8/10)
Articles
China overtakes Japan to become world’s second-biggest economy Telegraph, Roland Gribben (17/8/10)
Chinese economy eclipses Japan’s Financial Times, Lindsay Whipp and Jamil Anderlini (16/8/10)
Decoding China’s modesty Financial Times blogs, Jamil Anderlini (17/8/10)
China ‘overtakes Japan in economic prowess’ asiaone news (17/8/10)
China overtakes Japan to become second largest economy in world Irish Times, Clifford Coonan (17/8/10)
China Passes Japan As Second-Largest Economy Huffington Post, Joe McDonald (16/8/10)
Data
World Economic Outlook July 2010 Update IMF (7/7/10)
China Economic Statistics and Indicators EconomyWatch
Japan Economic Statistics and Indicators EconomyWatch
Questions
- Why may simple GDP figures be a poor indicator of the relative size of the Chinese and Japanese economies?
- If purchasing-power parity figures were used, how would this affect the relative sizes of the two economies? Explain why purchasing-power parity exchange rates are so different from nominal exchange rates in the two countries.
- What impact have the relative exchange rates of the two countries had on economic growth?
- Why are simple GDP figures a poor indicator of living standards?
- What factors will determine whether income inequality is likely to widen or narrow in China over the coming years?
- What factors explain Japan’s low rate of economic growth since the early 1990s? How likely is it that these factors will apply in China in the future?
UK unemployment now stands at 2.47 million, which is a fall of 34,000 people in the three months to May. Meanwhile, the claimant count, which measures the number of individuals claiming Jobseeker’s Allowance, fell by 20,800 between May and June to stand at 1.46 million.
The total number in employment increased by some 160,000 in the three months to May to reach 28.98 million. The increase in the number of individuals in work is largely due to an increase in the number of part-time workers, which now stands at some 27%. The development of the flexible firm has played a huge role in creating more and more part-time jobs.
Although declining unemployment is good news, and the jobless rate of 7.8% is now comparable with the EU and the US, there are suggestions that it may rise again next year. Indeed, unemployment is expected to peak at nearly 3 million in 2012 (10%) and an employer’s group has said that the UK may face serious job deficits for the next decade. As more and more jobs are lost in the public sector, estimates suggest that the economy must grow by 2.5% per year from now until 2015, in order to compensate these losses with extra jobs in the private sector.
As John Philpott, the Chief Economic Adviser at the CIPD said:
“A slightly milder growth outcome – which many would consider a decent recovery in output given the various strong headwinds at present facing the economy – is easily as imaginable as the OBR’s central forecast and would leave unemployment still close to 2.5 million by 2015, meaning Britain faces at least half a decade of serious prolonged jobs deficit.”
So, although the fall in the jobless rate is undoubtedly good news, the uncertain future for unemployment in the UK, will put a slight dampener on this news.
Articles
UK unemployment declines to 2.47m BBC News (14/7/10)
Economy Tracker BBC News (14/7/10)
Unemployment to peak at 3m by 2012 Telegraph (14/7/10)
Labour market report to show outlook for jobs worse than OBR projections Guardian, Katie Allen (14/7/10)
Part-time work boosts UK employment rate Sky News, Hazel Tyldesley (14/7/10)
Unemployment figures: what the experts say Guardian, Katie Allen (14/7/10)
Data
Labour market statistics latest: Employment ONS
Labour Market Statistical Bulletin – July 2010 ONS
Labour market statistics: portal page ONS
Questions
- How is unemployment measured in the UK? Which is the most accurate method?
- What is the flexible firm and how has it allowed more part-time jobs to be created?
- Why is unemployment expected to rise again in the next few years?
- The ONS has reported that wage growth has eased sharply. How will this, along with falling unemployment rates, affect household incomes and consumption? Will one effect offset the other?
- Brendan Barber in the Guardian article, ‘Unemployment figures – what the experts say’, wrote that unemployment lags behind the rest of the economy. Why is this?
- What type of unemployment are we experiencing in the UK? Illustrate this on a diagram.
- Consider the government’s plans in terms of spending cuts. How are they likely to affect the rate of unemployment in the UK?
Under its terms of reference the new Office for Budget Responsibility is required to provide updated forecasts for the economy and the public finances at the time of each Budget in order take into account the impact of those measures contained in the Budget. Here we consider those economic forecasts contained in the June 2010 OBR Budget Forecast relating to economic growth. In particular, we consider the OBR’s interpretation of how growth is likely to be affected by the policy measures unveiled by George Osborne in his first Budget as Chancellor of Exchequer on 22 June.
The OBR forecasts that the UK economy will grow by 1.2% in 2010 and by a further 2.3% in 2011. These estimates are lower than those published by the OBR in its Pre-Budget Forecast published on 14 June. The Pre-Budget Forecasts predicted growth of 1.3% in 2010 and 2.6% in 2011. The downward revisions reflect the OBR’s assertion that the Budget’s measures to meet the Government’s fiscal mandate and, hence the resultant fiscal consolidation package, will weaken aggregate demand.
In terms of the components of aggregate demand, the fiscal consolidation will mean restraints on government spending (G) and, if the OBR is right, lower growth in household consumption (C). Lower consumption growth is expected as a result of reduced growth in household incomes and the rise in the standard rate of Value Added Tax next January from 17½% to 20%.
The OBR now forecasts that real household consumption will grow by just 0.2% in 2010, following last year’s contraction of 3.2%, and by 1.3% in 2011. General government final consumption – the Government’s expenditure on current goods and services – is forecast to grow in real terms by 1.7% this year before falling by 1.1% next year. The forecasts for general government capital spending are for a real fall of 4.9% this year, following last year’s rise of 15.7%, followed by a sizeable 19% decline in 2011.
A more positive note emerging from the OBR forecasts relates to capital expenditure by businesses. The measures to reform corporation tax, which include a reduction in the main rate of corporation tax from 28 per cent to 24 per cent over four years beginning with a one per cent reduction from April 2011, are predicted to have a favourable effect on investment. Business investment is forecast to rise in real terms by 1.4% this year, following last year’s fall of 19.3%, and to rise again in 2011 by 8.1%.
The projections for growth from 2013 are now stronger than in the OBR’s Pre-Budget Forecast with the economy portrayed as adjusting more quickly at this point towards its potential output. Potential output is the level of output level when the economy’s resources are operating at ‘normal capacity utilisation’. But, in 2015, which is at the end of the OBR’s five year forecast period, the UK economy is still forecast to be experiencing a negative output gap. In other words, actual output will still be less than potential output.
To help paint a picture of how the economy’s output will adjust towards its potential level consider the OBR estimates for the output gap. The OBR estimates that in financial year 2009-10 the economy’s output was 4.1% below its potential. This negative output gap is now expected to be reduced to 3.7% of potential output in 2010-11, to 2.8% in 2012-13 and to 0.9% of potential output in 2015-16.
Office for Budget Responsibility
OBR home page
Office for Budget Responsibility Terms of Reference
Documents
Budget Forecast June 2010 OBR (22/6/10)
Pre-Budget Forecast June 2010 OBR (14/6/10)
Budget 2010 HM Treasury (22/6/10)
Articles
OBR endorses Budget but faces questions over its own predictions Telegraph, Philip Alrdrick (23/6/10)
UK growth forecasts could be revised again, says Sir Alan Budd Citywire, Deborah Hyde (23/6/10)
OBR says growth will take bigger hit Financial Times, Norma Cohen (22/6/10)
Budget 2010: Government cuts will slow economic recovery, says watchdog Telegraph, James Kirkup (23/6/10)
Highlights from the Budget BBC News (22/6/10)
Budget statement: George Osborne’s speech in full BBC Democracy Live (22/6/10)
Questions
- What do you understand by the concept of aggregate demand?
- What are the component expenditures of aggregate demand? Which of these do you think is the largest in value terms?
- The OBR is forecasting the household sector’s disposable income to grow in real terms this year by 0.2% and by 1.2% next year. Why then is the OBR identifying weaker consumer demand as a result of the Budget measures as a major reason for revising down its predictions for economic growth?
- The OBR argues that the fiscal consolidation measures will have a ‘direct effect’ on household incomes and so on spending, but that this will be ‘partially offset by a decline in saving’. Why might the OBR be arguing that a fiscal consolidation will lead to a decline in saving? Evaluate the OBR’s arguments.
- What do you understand by the concept of an output gap? What does a negative output gap signify?
- To see the sorts of problems that forecasters commonly face, try identifying reasons why the output gap could be eliminated more quickly or less quickly as a result of the Budget measures.
In the UK, we have an inflation target of 2% and it’s the Bank of England’s job to use monetary policy, in particular interest rates, to keep inflation within 1 percentage point of its target. However, with rising commodity prices and the onset of recession back in 2008, interest rates had another objective: to prevent or at least lessen the recession. Bank Rate fell to 0.5% and there it has remained in a bid to encourage investment, discourage saving and increase consumption, as a means of stimulating the economy.
However, at such a low rate, interest rates are not acting as a brake on inflation, which is now well above target. This rise in inflation, has been largely brought about by cost-push factors, such as the restoration of the 17.5% VAT (up from the temporary 15%), higher oil and commodity prices, and a fall in the exchange rate. But part of the reason might be found in the increase in money supply that resulted from quantitative easing.
There are concerns that the UK may lose its credibility on inflation if action isn’t taken. The OECD has advised the Bank of England to raise Bank Rate to 3.5% by the end of 2011. The following articles consider this issue.
Articles
Time to worry about inflation? BBC News blogs, Stephanomics, Stephanie Flanders (28/5/10)
UK must not fall for the false promise of higher inflation Telegraph, Charles Bean, Deputy Governor of the Bank of England (4/6/10)
Reports and documents
General Assessment of the Macroeconomic Situation OECD Economic Outlook, No. 87 Chapter 1 (see especially pages 53–4) (May 2010)
United Kingdom – Country Summary OECD Economic Outlook, No. 87 (May 2010)
Statistical Annex OECD Economic Outlook, No. 87 (available 10/6/10)
Inflation Report portal Bank of England (see May 2010)
Questions
- Explain the relationship between interest rates and inflation. Why have such low interest rates caused inflation to increase?
- In 2008, the UK moved into recession, but was also suffering from inflation. This was unusual, as AD/AS analysis suggests that when aggregate demand falls, growth will fall, but so will prices. What can explain the low growth and inflation we saw in 2008?
- What is the difference between real and nominal GDP?
- What are the causes of the current high inflation and what solutions are available and viable?
- Why are expectations of inflation so important and how might they influence the Bank of England’s plans for interest rates?
- Do you think the OECD should have advised the Bank of England? Will there be any adverse effects internationally if the UK doesn’t heed the OECD’s advice?
- Is the OECD’s assessment of the UK in the above Country Summary consistent with its view on UK interest rates contained in pages 53 and 54 in the first OECD link?