• • • • How consumers react to uncertain economic times? Are you paying too much for electricity and gas? What is the best time to buy shares? Should you send your children to a private school? Reading and Understanding Reading and Understanding Economics analyses a selection of articles from a range of publications, all with recurrent themes relating to key economics issues in the news today The book demonstrates how a good understanding of the key principles of economic theory can provide a solid framework for understanding many aspects of everyday life International issues such as the demise of financial institutions, a monopoly on airports, inflation and the soaring cost of oil are analysed alongside more domestic concerns such as education, the minimum wage and using the tax system to reduce carbon emissions The author does not shy away from using theory but always does so in such a way that the relevance is clear to the reader The result is a book that will appeal to undergraduate and MBA students as well as anyone who wants to be able to understand what is really going on behind the headlines” Professor David Paton, Professor of Industrial Economics, Nottingham University Business School Also available: Reading and Understanding the Financial Times ISBN 9780273715597 Also written by Kevin Boakes, this book helps you read and understand the Financial Times with confidence analysing articles with recurrent themes relating to some of the most important issues in the world of corporate finance an imprint of CVR_BOAK2540_01_SE_CVR.indd Kevin’s blog: Visit www.pearsoned.co.uk/boakes to access the author’s regularly updated blog for his take on the day’s business news as it unfolds, download podcasts with further article analysis and check your understanding with suggested hints to in-text questions “This book will help you understand how economies and financial markets work, and how investors think It helps you move from reading economics textbooks to understand the debates over economics and markets in the real world I recommend it to anyone looking to work in financial markets or interested in the topic” Michael Saunders, Economist Citigroup Front cover image: © Getty Images www.pearson-books.com ECONOMICS Reading and Understanding ECONOMICS “Reading and Understanding Economics integrates theory with real world applications in a unique way Using nearly 30 recent articles as a starting point, Kevin Boakes manages to demonstrate just how effective simple micro-and macroeconomic tools can be in understanding a wide variety of topical issues from private schools to financial crises Boakes Do you want to know the answers to these questions? Then this is the book for you Kevin Boakes 28/10/08 10:49:35 A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 Page i A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 We work with leading authors to develop the strongest educational materials in economics, bringing cutting-edge thinking and best learning practice to a global market Under a range of well-known imprints, including Financial Times Prentice Hall, we craft high quality print and electronic publications which help readers to understand and apply their content, whether studying or at work To find out more about the complete range of our publishing, please visit us on the World Wide Web at: www.pearsoned.co.uk Page ii A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 Page iii Reading and Understanding ECONOMICS Kevin Boakes A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 Page iv Pearson Education Limited Edinburgh Gate Harlow Essex CM20 2JE England and Associated Companies throughout the world Visit us on the World Wide Web at: www.pearsoned.co.uk First published 2009 © Pearson Education Limited 2009 The right of Kevin Boakes to be identified as author of this work has been asserted by him in accordance with the Copyright, Designs and Patents Act 1988 All rights reserved No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording or otherwise, without either the prior written permission of the publisher or a licence permitting restricted copying in the United Kingdom issued by the Copyright Licensing Agency Ltd, Saffron House, 6–10 Kirby Street, London EC1N 8TS All trademarks used herein are the property of their respective owners The use of any trademark in this text does not vest in the author or publisher any trademark ownership rights in such trademarks, nor does the use of such trademarks imply any affiliation with or endorsement of this book by such owners ISBN: 978-0-273-72254-0 British Library Cataloguing-in-Publication Data A catalogue record for this book is available from the British Library Library of Congress Cataloging-in-Publication Data A catalog record for this book is available from the Library of Congress 10 13 12 11 10 09 Typeset in Stone Sans 9pt by Printed and bound by Henry Ling Ltd., at the Dorset Press, Dorchester, Dorset The publisher’s policy is to use paper manufactured from sustainable forests A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 Page v Dedication To Sue who once again made an enormous contribution to the writing of this book A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 Page vi A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 Page vii Table of Contents About the author Preface A message to the readers A message to the teachers The book’s website The podcasts Acknowledgements x xi xiii xiv xv xviii xix Part A: Microeconomics Topic Introducing economics: scarcity and choice Article Britain cuts back – but still goes on holiday The Guardian, 27 May 2008 Topic The economics of demand and supply Article Article 13 Supply-side squeeze explains oil’s relentless rise into record territory Financial Times, 16 April 2008 15 Is it worth it? As the cost of private schools soars, we look at what parents get for their money The Economist, 28 February 2008 21 Topic Costs: in the short and the long run 27 Article 30 Inside the Googleplex The Economist, 30 August 2007 Topic Competition policy in action 39 Article BAA monopoly on airports under fire Financial Times, 11 March 2008 41 Article Lack of wholesale competition blamed Financial Times, April 2008 47 vii A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 Page viii Table of Contents Topic Market failure and government intervention Article Article Petrol price rises and penalties for gas-guzzlers as Chancellor Alistair Darling goes green The Times, 10 March 2008 Crude measures: not everybody is paying higher oil prices The Economist, 29 May 2008 57 59 64 Topic The role of government in the economy 69 Article Privatisation: one step forward Financial Times, 17 December 2007 73 Article 10 Sweden privatisation scheme faces delays Financial Times, 11 March 2008 74 Topic Business organisations (from large to small companies) 81 Article 11 Investor fury at M&S role for Rose Financial Times, 10 March 2008 83 Article 12 M&S tries to placate investors over Rose Financial Times, April 2008 84 Article 13 Small companies face cash squeeze Financial Times, 28 March 2008 91 Topic The economics of the labour market 97 Article 14 Minimum wage increases by 3.8% Financial Times, March 2008 99 Article 15 German minimum wage ruled illegal Financial Times, March 2008 Part B: Macroeconomics 100 107 Topic Macroeconomic policy: unemployment, inflation and growth 109 Article 16 Inflation jumps to 9-month high on data move Financial Times, 19 March 2008 111 Article 17 Overview: recession fears rise after US employment fall Financial Times, March 2008 118 Article 18 Are rising prices in China driven by the supply of meat or money? The Economist, 13 March 2008 126 viii A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 Page ix Table of Contents Topic 10 Money and interest rates 133 Article 19 135 Concern grows for Iceland as rates hit 15% Financial Times, 26 March 2008 Topic 11 Fiscal policy 145 Article 20 147 Brown’s golden rule threatened by red ink The Guardian, 20 October 2006 Topic 12 International economics – balance of payments and exchange rates 151 Article 21 Why the US current account deficit is a cause for concern Financial Times, 26 August 2004 153 Article 22 How far can the dollar fall before Japan feels the need to intervene? 162 The Economist, 19 March 2008 Topic 13 The international business environment 169 Article 23 171 Tata’s bid promise to keep UK car plant open won over unions Financial Times, 27 March 2008 Part C: Financial markets and institutions 177 Topic 14 Financial markets 179 Article 24 Time to go shopping? The Economist 23 March 2008 181 Article 25 A monoline meltdown? The Economist, 26 June 2007 189 Topic 15 Financial institutions, featuring the demise of Bear Stearns 195 Article 26 Fed leads Bear Stearns rescue Financial Times, 15/16 March 2008 197 Article 27 JPMorgan lifts Bear offer fivefold Financial Times, 24 March 2008 202 Article 28 Bear and the moral hazard Financial Times, 24 March 2008 203 Article 29 Eurozone set to receive more liquidity Financial Times, 29/30 March 2008 209 Glossary Index 217 243 ix Z01_BOAK2540_01_SE_END.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:19 Page 238 Glossary used to add liquidity to the Eurozone money markets It was a response to the prolonged credit crisis that started in the summer of 2007 Small and medium enterprises (SMEs) In most cases the key criterion used to define SMEs is the number of staff that they employ, with other supplementary factors including the firm’s turnover and the size of its balance sheet For example, the UK’s Department for Business, Enterprise and Regulatory Reform (BERR) defines a small enterprise as one with less than 50 employees, and a medium enterprise as one with at least 50 but less than 250 employees Finally, large enterprises have more than 250 employees Sole proprietorship This is in many ways the simplest form of business organisation In this the individual and their company are one single business identity The big advantage of such a business is that it is easy to set up and is accountable only to the sole proprietor and no one else The downside is that it does not enjoy limited liability Stagflation This is the nightmare combination for macroeconomists An economy goes through a period of very weak economic growth combined with high unemployment This is accompanied by a continued significantly high level of price inflation Standard and Poor’s (S&P) 500 The S&P 500 composite index is based on the market movements of 500 companies that are listed on the New York Stock Exchange This index is one of the most widely used measures of US equity performance Standard of living A key economic goal for most countries is to raise the standard of living of their population This equates to the average spending per person It is usually measured by looking at total gross domestic income per person One drawback of this measure is that it does not show how the total income is actually distributed It is widely thought that the UK economy is becoming more and more financially divided with the rise of the super-rich taking an increasing share of national income at the expense of the poor Start-up This is a brand new business venture that is at the first stage of development Such business ventures have a notoriously bad chance of success with very few surviving beyond a year or two Stock market bubble This term is used to describe any situation where the price of financial assets rises to a level far above any realistic value based on fundamental values like dividends or a company’s earnings Stock market listing This is the process of a company selling its shares on a recognised stock market The company in question will be required to sign a listing agreement which commits its directors to certain standards of behaviour especially in relation to reporting to their shareholders Strong yen This is the reverse of a weak yen It occurs when the yen can be exchanged for larger amounts of foreign currency As a result it will require less yen to purchase goods or services from overseas At the same time it will be more expensive for other countries to import Japanese goods and services Structured credit markets This term is used in financial markets to cover a whole raft of new and highly innovative financial market products Their common characteristic are: 238 Z01_BOAK2540_01_SE_END.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:19 Page 239 Glossary a) The combining of various financial assets – for example, in the mortgage-backed securities a whole group of mortgages will be combined to make a large package that can be traded b) The creation of various tranches supported by the group of financial assets Each tranche will be allocated into a different risk category c) There will be a clear divide between the credit-risk of the original issuer and the credit-risk of this particular group of financial assets This will be done through the creation of a short-lived special-purpose vehicle (SPV) Sub-prime The sub-prime market refers to the lending of money to much higher risk individuals at a higher rate of interest When US house prices were rising sharply a number of people were encouraged to take out very large loans (at a very high multiple of their salary) which meant that they had little prospect of ever being able to meet the interest payments let alone any eventual repayment of the outstanding debt As a result they were forced to default in large numbers Sub-prime mortgage crisis The prime lending rate is the rate of interest charged to creditworthy companies and individuals in the US The sub-prime market refers to the lending of money to much-higher-risk individuals at a higher rate of interest When US house prices were rising sharply a number of people were encouraged to take out very large loans (at a very high multiple of their salary) which meant that they had little prospect of ever being able to meet the interest payments let alone any eventual repayment of the outstanding debt As a result many were forced to default Subsidies This is a financial inducement that governments can offer to encourage the consumption of particular goods or services They can also be used for a number of other purposes: (a) To keep the prices of some basic food items as low as possible (b) To maintain the production of a particular good or service For example, in agriculture or certain industries (c) To encourage the employment of a particular group of individuals For example, the longterm unemployed Supply factors In economics, supply and demand are the fundamental factors that are important in determining price changes If there is a fall in supply of a particular good or service economists would predict that the resulting scarcity would result in a price rise In this case there has been a sharp fall in the supply of mainly food products such as pork caused by factors like ‘blue-ear disease’ This has caused a 63% increase in pork prices Systematic risk (also called ‘market risk’) This refers to the type of risk that applies to an entire group of financial assets For example, if interest rates are increased this might impact negatively on the entire stock market In contrast, unsystematic (or specific) risk applies to only one particular financial asset For example, if a company loses a particular contract with a customer its share price only will be affected Tariffs (gas and electricity) In economics the term ‘tariff’ is normally associated with some form of government tax or duty imposed on imported products In recent years the move towards free trade has seen the elimination of most tariffs However, this term can also refer to 239 Z01_BOAK2540_01_SE_END.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:19 Page 240 Glossary certain system of prices In this context ‘gas and electricity tariff’ simply means the charges for these products from the various energy supply companies in the UK Term Auction Facility This was an emergency facility used by the Federal Reserve to inject large amounts of liquidity (cash) into the US money markets during the period of the credit crunch Tightening (monetary policy) When you see the term ‘monetary policy’ in the context of central banks it refers to interest rate policy Central banks tighten monetary policy when they raise interest rates Total cost This can be defined as the sum of total fixed costs and total variable costs Trades Union Congress (TUC) This is the trade union umbrella group representing over six and a half million union members based in the UK They campaign for better working conditions as well as the broader aim of social justice Trading platform In finance we use the term ‘trading platform’ to describe the market where buyers and sellers can operate It might be an official market place like the official list (London Stock Exchange) or a less structured market Unemployment and non-farm payroll employment release This economic release is made up of three parts The first figure is the percentage rate of unemployment which is based on a random survey of people The second part tells us the change in thousands each month in the number of people on companies’ payrolls It excludes various special categories such as farm workers (hence the ‘non-farm’), the self-employed, unpaid family workers and the armed forces The final measure looks at the current trends in employee wage costs It can provide early evidence of any rising cost-push inflation US sub-prime mortgage (tempest) The prime lending rate is the rate of interest charged to credit-worthy companies and individuals in the US The sub-prime market refers to the lending of money to much higher-risk individuals at a higher rate of interest US Treasury Secretary This is the Head of the US Department of Treasury It is the part of the US Administration that deals with financial and economic policy making Variable costs In contrast to fixed costs, these are the costs that are entirely dependent on the level of production For example, for a company manufacturing curtains and other textile products these costs will come mainly from the factory’s inputs like material and cotton If the company receives a new large order from a customer the resulting increase in production will see a sharp rise in the variable costs Vehicle-Excise tax An annual charge levied by the UK tax authorities on car drivers There are now thirteen different tax bands with the annual charge varying from £0 to £950 per year Weak yen This is where the yen can only be exchanged for smaller amounts of foreign currency As a result it will require larger amounts of yen to purchase goods or services from overseas At the same time it will be cheaper for other countries to import Japanese goods and services Weaker pound This refers to a fall in the value of the pound sterling For example, as meas- 240 Z01_BOAK2540_01_SE_END.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:19 Page 241 Glossary ured in pounds per dollar, the exchange rate might fall from $2.10/£1 to $1.90/£1 which means customers will get fewer dollars for their pound West Texas Intermediate (WTI) There are many different types of crude oil They are differentiated in terms of their specific gravity and sulphur content which is largely determined by the origin of the oil WTI is a light crude oil and it is the standard benchmark for oil trading and pricing in the US Wholesale market (energy) We use the term ‘wholesale’ to refer to the supply of energy to the retail energy companies These companies purchase gas and electricity from the wholesale markets Winning bid When a company is put up for sale or is the subject of a takeover approach the winning bid is the one that secures the company It should be noted that sometimes the bidder can end up paying more than the business is worth Economists call this phenomenon ‘the winner’s curse’ Working Tax Credits These credits are part of a complex system of welfare reforms introduced in 2003 Under the credits scheme those people who are in low income work receive extra payments from the state It is a means-tested benefit designed to provide such individuals or families with an incentive to work rather than just rely on government aid 241 Z01_BOAK2540_01_SE_END.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:19 Page 242 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 243 Index Page numbers in bold type refer to glossary entries Ackman, William 189–90, 191 acquisitions, global 171, 173 see also merger activist investors 24, 25, 217 airline industry 39, 41–4 Alambritis, Stephen 92 Ambac monoline 189, 191 appreciation, currency 165, 217 arbitrage: gas market 52 Ashworth, Paul 118 Association of British Insurers 83, 84, 86,87, 217 Atkins, Ralph 209–10 average cost 28, 217 average earnings 104, 217 Bailey, R 188 balance of payments 151, 155–6 Japan 156 US 155, 156 Balls, Ed 22 Bank of England 114, 196, 217 inflation target 111, 112, 113, 114 letter to Chancellor 113 Bank for International Settlements 139, 140, 218 Bank of Japan 164, 165 Governor 217 website 166 banking system effect of credit crunch 92, 93 expertise and knowledge 137–8 financial intermediation 136–7 Iceland 135–6, 138 liquidity 121, 230 maturity transformation 137, 231 retail banks 195, 237 risk transformation 137 role of 200 and sub–prime crisis 200–1 see also commercial banks; investment banks Barber, Brendan 100 Barr, Malcolm 112 Battelle, John 31 Baugur 138 Bear Stearns 115, 120, 138, 204, 227 bear–market bottom 182, 185 development of crisis 198–9 and Federal Reserve 196 and JPMorgan 202, 203 and moral hazard 203–4 rescue of 201, 207 role of CDOs 191 and sub–prime crisis 197–9 bear–market bottom 181, 183, 184, 185, 217 behaviour, attempts to change 58, 61, 62 Bernanke, Ben 119 Betta see Neta binary 203, 206–7, 217 biofuels 5, 16, 17, 18, 19, 217 Bizzenergy 48 Black Wednesday (16 September 1992) Blas, Javier: ‘Supply–side squeeze explains oil’s relentless rise into record territory’ 15–17 BNP Paribas 199 Bock, Laszlo 33 bond insurers 119, 122, 218 bond markets 179, 180, 218 bonds corporate 221 default 185, 187 book value 162, 165, 218 boutique corporate finance firm 75, 77 Braithwaite, Tom 83–4 Brighton College 22, 23 Brin, Sergey 30, 31, 34 British Airports Authority (BAA) 39 monopoly 41–4 price cap system 43 return on capital 43 British Airways 41 British Chambers of Commerce 100, 104, 218 Broadbent, Ben 112 Brown, Gordon 99 golden rule 147, 148 budget deficit 67, 145, 147, 218 budget forecast 147, 148, 218 budget surplus 145–6 building societies 195, 218 bull markets 184, 186, 218 Bundesbank 209, 213, 218 Burgess, Kate 83–4 Burgess, Mark 83, 86 243 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 244 Index Burns, Lord 84, 86 Bush, Harry 42, 44 business organisations 81–96 business plan 172, 174, 218 Cailloux, Jacques 210 capital cost of 159, 222 capital account 156, 158 surplus 156 capital adequacy ratio 136, 139, 140, 218 capital expenditure 147, 148–9, 219 capital flows inflows 126, 130, 153, 157, 218–19 US 153, 154, 157 capital investment 42, 45, 219 capital markets 154, 159, 219 inefficiencies 154, 157 Cappon, André 189 car industry 169–70, 171–3 Carlyle Group 120 carry trade 162, 163, 164, 219 cash flow 92, 93, 94, 219 Cayne, Jimmy 198 CBI (Confederation of British Industry) 10, 93, 94, 104, 220–1 services sector survey 7, 8, Central Bank of Iceland 135–6, 138, 139, 219 website 143 central banks 219 China 235 Iceland 135–6, 138, 139, 143, 219 role of 195–6 central government spending 145, 147, 148–9, 219 capital expenditure 147, 148–9, 219 current spending 149, 219 chairman of company 87, 219–20 Chaplin, Chuck 190 chief executive officer 87, 220 child poverty and tax credits 60 China inflation 126–9 oil prices 64, 65 choice 4–5, 7–10 and education 21–4 Civil Aviation Authority (CAA) 41, 42, 43–4, 220 claimant count 101, 103, 220 climate change and economic policy 59–60 and fuel subsidies 66 collaterised debt obligations (CDOs) 189, 190, 191, 192, 199, 220 role of 200 commercial banks 200, 205, 220 commercial paper 186 commodity prices, rising 119, 126, 127 244 competition 44, 52, 220 and market failure 57 perfect 39 Competition Commission 41, 42, 44, 220 competition policy 39–56 conglomerates 171, 172–3, 221 consumer price index (CPI) 111, 112–13, 114, 115 excluding food and energy 111 consumer price inflation 54, 104, 221 consumer service companies 7, 8, 9, 10, 221 consumer spending, discretionary consumption 153, 154, 156, 157, 158, 221 consumption good 24, 25, 221 core inflation 112, 113, 115, 221 corporate bond market 93, 94, 185, 186, 221 corporate debt (investment grade) 221 corporate finance firm (boutique) 221 corporate governance 87, 219 code 83, 87, 222 and M&S 83, 84, 86 corporation tax 60, 62, 145, 147, 149, 222 correlation, tight 127, 130, 222 cost inflation (oil industry) 16, 19, 222 cost of capital 159, 222 cost–push inflation 128 costs company 27 fixed 28, 36, 226 labour 97 in short and long run 27–37 total 240 variable 28, 36, 240 Coughran, Bill 32 coupon 221 credit crisis 198, 204, 222 development of 200–1 effect on small businesses 91–3 credit crunch 9, 94, 197, 222 and confidence 212 and interest rates 112 US measures 145 credit default swap 123, 222 credit indices 119, 123, 222 credit markets 118, 121, 182, 222 credit spreads 119, 120, 122, 222–3 credit–rating agencies 139, 205–6, 223 Cridland, John 100 crisis see credit crisis; credit crunch Crooks, Ed, ‘Lack of wholesale competition blamed’ 47–8 cross–border deal 173 crude oil 4, 241 currencies appreciation 165, 217 Chinese 129 depreciation 154, 165 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 245 Index and dollar 155 floating 155, 160, 226 foreign exchange markets 180 Iceland 135, 136, 139 currency intervention 154, 160, 164, 223 currency markets 162 current account 158, 223 current account deficit 127, 130, 140, 223 Iceland 136 US 151, 153–5, 156, 157–8 reasons for 155 current account surplus China 128 Japan 151, 156 current spending 149 Darling, Alistair 59–60, 61 default 185, 187, 223 demand elasticity of 228, 236 price–insensitive 112, 115–16 and supply 13–26, 57, 223 demand–pull inflation 128 demerit goods 66, 67, 232 deposit ratios 139, 140, 223 depreciation 159, 223 currency 154, 165 housing 228 derivative markets 180, 193, 224 Deutsche Post 100–1, 103 developing countries, MNC location in 172 diminishing returns, law of 28, 224 Dimon, Jamie 202 direct taxes 145 discount window 198, 201, 206, 224 discretionary spending dividend valuation model 186 dollar value of 155, 157 weakening 162, 163 domino effect 189 Done, Kevin, ‘BAA monopoly on airports under fire’ 41–2 Dyson, Ian 83–4 earnings premium 24, 25, 26, 224 Eastern Europe 70, 172 ECB (European Central Bank) 119, 196, 209–12, 225 Executive Board 213, 225 main interest rate 213, 231 refinancing facility 211–12 six–month money injection 237–8 economic downturn 114, 224 economic growth 109, 162, 164, 165, 224 economic regulation 44, 224 economic uncertainty 10, 224 economies of scale 28, 224 Economist ‘A monoline meltdown?’ 189–90 ‘Are rising prices in China driven by the supply of meat or money?’ 126–7 ‘Crude measures: Not everybody is paying higher oil prices’ 64–5 ‘How far can the dollar fall before Japan feels the need to intervene’ 162 ‘Inside the Googleplex’ 30–5 ‘Is it worth it? As the cost of private schools soars.’ 21–3 ‘Time to go shopping?’ 181–2 education 13 and choice 21–4 as consumption and investment good 24 private and state schools 21–4, 236 EEF manufacturers’ organisation 91, 93, 94, 224 elasticity of demand 104–5, 115–16, 236 electricity market 50–1 Neta 234 see also energy market emerging economies 67, 224, 228 fuel prices 65 employment targets 109 energy market 39–40, 53 competition in 47–9 competitiveness of 49–51 consumer switching 49 customer charging system 60, 61 factors inhibiting competition 51–2 as high–volume, low–margin business 49 imported gas supplies 49 integrated suppliers 53 liquidity 51, 52, 53 passing on supply costs 49 price increases 47, 48–9 prompt markets 48 system marginal price 51–2, 53 wholesale 39–40, 53, 241 see also oil Enron 47, 51 equity markets 179, 182, 225 Escritt, Thomas, ‘Privatisation: one step forward’ 73–4 Euro 162, 163 Euro and sterling term money markets 119, 122, 225 European Central Bank see ECB Eurozone 196 and ECB 209–12 inflation 209–10, 213, 225 interest rates 119 excess profits 53, 225 exchange rates, real 154, 160, 237 see also currencies excise duties 145 245 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 246 Index Executive Board (ECB) 213, 225 executive chairman 220 exports 151 external catalyst (for bottom of market) 182, 183, 184 externalities 225 and market failure 57 factors of production 3–4 Fed Funds Rate 120, 122, 198, 225 Federal Open Market Committee (FOMC) 121, 205, 213, 225–6 Federal Reserve 118, 121, 205, 213, 225–6 and Bear Stearns 196, 197–8, 201, 202, 203 and crisis 112, 145 discount window 206 District Banks 205, 213 interventions 182 Federation of Small Businesses 92, 100, 104, 226 Fedun, Leonid 17 Felten, Edward 31 Ferrovial 42, 43 financial account 156, 158 financial distress 88, 226 financial institutions 6, 195–215 non–bank 130 financial intermediation 136–7 financial liabilities 154, 156, 159, 226 financial markets 6, 115, 179–93 credit markets 118, 121, 222 domino effect 189 fairly valued 183, 184, 185 in turmoil 118–20, 227 Financial Times 18 April 2008 15–17 BAA monopoly on airports 41–2 ‘Bear and moral hazard’ 203 ‘Eurozone set to receive more liquidity injections’ 209–10 ‘Fed leads Bear Stearns rescue’ 197–8 ‘German minimum wage ruled illegal’ 100–1 Iceland economy 135–6 ‘Inflation jumps to 9–month high.’ 111–12 ‘Investor fury at M&S role for Rose’ 83–4 ‘JPMorgan lifts Bear offer fivefold’ 202 Lex column 204 ‘M&S tries to placate investors over Rose’ 84–5 minimum wage increase 99–100 privatisation in Slovenia 73–4 privatisation in Sweden 74–5 Small UK companies face cash squeeze 91–2 Tata and UK car plants 171–2 US current account deficit 153–5 US recession fears 118–19 wholesale energy markets 47–8 246 fine tuning 145 fiscal deficit 154, 159, 226 fiscal policy 145–50 aspects of 145–6 fixed costs 28, 36, 226 Fleischer, Peter 34 ‘flight to quality’ 120, 124 floating currencies 155, 160, 226 floating rate bank loans 185, 186, 226 forced sellers 181, 182, 183 Ford Motor company 171 foreign exchange carry trade 219 markets 162, 163, 164, 180, 226 foreign reserves 165, 226 intervention 165, 226 Fox, Martha Lane 85 Fridriksson, Ingimundur 135 FTSE Eurofirst 300 119, 123, 227 FTSE–100 205, 226–7 fuel poverty 61 futures market 118, 121, 180, 191, 227 gas and electricity tariffs 112–13, 114 gas market 49–50 arbitrage 52 see also energy market Geithner, Timothy 197 Germany inflation 209, 212 minimum wage 100–1, 103 global acquisitions 171, 173, 227 global financial conditions 115, 227 and Iceland 135–6 global turmoil 135, 136, 138, 199 globalisation 169 ‘golden rule’ (Brown) 147, 148 Google 30–5 applications 32–3, 34 and cookies 34–5 employees 33–4 fixed costs 28–9, 32, 36 Googleplex 33–4 privacy issues 30–1, 34–5 revenues 31, 32, 35–6 share price 35 government: role in economy 69–79 government bonds 119, 123, 227 government intervention main areas of 57–8 and market failure 57–68 oil subsidies 64–7 government spending 145, 147, 148 green budget 59–62, 227 Green, Francis 22, 24 Green, Phillip 85 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 247 Index green taxes 59–60, 61, 62 gross domestic product 67, 227 Groznik, Peter 73–4 Guardian Britain cuts back 7–8 Brown’s golden rule 147 Guerrera, Francesco 197–8, 202 Guha, Krishna 197–8 Guthrie, Jonathan 171–2 Haines, Rob 190 Hannant, Chris 100 hard economic landing 129, 227 China 126 Iceland 138 Hatheway, Larry 119 Hawksworth, John 147, 148 hedge 8, 10–11, 227–8 hedge funds 119, 120, 123, 186, 192–3, 199, 228 and sub–prime crisis 189–90, 191–2 Helm, Dieter 48, 51 Herbertsson, Thor 136 Hong Liang 127 Horsnell, Paul 16, 17–18 housing market 8, house depreciation 112, 116, 228 US 199, 206 Hutton, John 100, 102 Ibison, David ‘Concern grows for Iceland as rates hit 15%’ 135–6 ‘Sweden privatisation scheme faces delays’ 74–5 Iceland banking system 135–6, 138–9 Central Bank 135–6, 138, 139, 143, 219 currency 135, 136, 139 inflation 138 interest rates 133, 136, 138, 139, 229 stock market 136, 139 icesave 135, 138 ICEX Benchmark stock market index 136, 139, 228 IMF (International Monetary Fund) 10, 67, 230 on fuel subsidies 65 on oil prices 16 on UK economy imports 151 income tax 146 incremental revenue 36, 228 indirect taxes 145 industrialisation of emerging economies 16, 17, 19, 228 inelastic and elastic demand 103–4, 228 inflation 8, 9, 11, 67, 129, 140, 228 and Bank of England 112–13, 229 causes of 126–7, 128 China 126–9 core 112, 113, 115 cost–push 128 demand–pull 128 Eurozone 209–10 German consumer price index 213, 228 Iceland 136, 138 importance of low level 109 input prices 27 and interest rates 112, 113 measures of 111–12 results of high 127 retail price inflation 104 target 229 inflation expectations 140, 228 Iceland 136 inflationary expectations 112, 115, 120, 229 initial public offer (IPO) 76, 77, 229 input prices 27, 55 Institute of Credit Management (ICM) 91 Institute for Public Policy Research 60, 62, 229 institutional investors 83, 84, 85, 88, 229 insurance companies 181, 186, 204–5, 229, 235 as forced sellers 183 integrated suppliers 229 interbank rates 120, 122 see also Libor interest rate policy 129, 140 interest rates 115, 133, 145, 229 China 126–7 and credit crunch 112 Eurozone 212 Iceland 133, 136, 138, 139, 229 and inflation 112, 113 money market 232 international business environment 169–75 international economics 151–67 International Energy Agency (IEA) 16, 17, 18–19, 229 investment 95 criteria for 183–4 good times for 181–2, 183–5 growth 230 net 233 nominal and real 16, 19, 234 investment banks 195, 199, 204–5, 230 CDOs 200 Investment Bank Division 205 Markets Division 205 investment good 24, 25, 230 investment–grade bonds 182, 186, 206, 230 investor confidence, Iceland 136 investors 180, 181 institutional 83, 84, 85, 88 invisible balance 130, 140 247 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 248 Index Jaffray, Piper 31 Jaguar cars 169, 171–2 Jansa, Matyaz 74 Japan Bank of Japan 164, 165, 166, 217 and falling dollar 162–4 Finance Minister 164, 165, 230 JCB 91 Jobseeker’s Allowance 101, 103 JP Morgan 120, 198, 201 and Bear Stearns 202, 203 Kaupthing Bank 135, 138 Kelly, Ruth 41 Kemp, John 118 Komileva, Lena 118 Kovacic, Darko 73 krona 135, 136, 138, 139, 230 labour fixed and variable costs 97 inelastic demand 102 labour market 97–105 demand and supply model 102 female participation 97 recent changes 97 Lambert, Richard 91 land and raw materials Land Rover 169, 171–2 Landsbanki 135, 138 law of diminishing returns 28, 224 Leahy, Joseph 171–2 leveraged takeover 42, 45, 230 Lewis, Joseph 197–8 liabilities, financial 154, 156, 159, 226 Libor (London inter–bank offered rate) 122, 179, 186, 200, 213, 225 liquefied natural gas (LNG) 49–50 liquid trading market 51, 52, 53, 230 liquidity 118, 200 banking system 121, 230 and credit crisis 201, 210 Eurozone 209–12 extra 126–7, 130, 230 ratio 140 valuation 186, 230 liquidity position 206, 230 local government spending 145 London Stock Exchange 53 long–run costs 28, 231 Low Pay Commission 100, 104, 231 low–ball offer 203, 207, 231 Loynes, Jonathan 112 Lukoil 17 M0 130, 233–4 M2 130, 233 248 China 127, 128 M3 127 M4 130, 233 McCafferty, Ian macroeconomics 5, 109–10, 231 main ECB interest rate 231 margin calls at hedge funds 119, 122, 231 marginal cost 28, 231 market failure 69, 231 conditions for 57 and government intervention 57–68 market risk 205, 239 Marks and Spencer 81 shareholders 83–4 Marter, Uros 73, 74 maturity transformation 137, 231 Matza, Peter 92 MBIA monoline 189–90, 191 mercantilism 153, 158, 231–2 merger agreement 202, 206–7, 232 merit goods 65–6, 67, 232 Mexico: oil production 16, 17, 18 Mhadre, Aniket 172 microeconomics 5, 232 Microsoft 31, 32, 34 Milner, Mark, ‘Britain cuts back – but still goes on holiday’ 7–8 minimum wage 97, 104, 231, 232 effect on unemployment 102, 103, 104 Germany 100–1, 103 and labour market equilibrium 102 minority shareholder 78, 232 Mishkin, Fredric 136 mixed economy 57 monetary policy 140, 145, 196, 232 easing 199 as interest rate policy 129, 140 tightening 126, 128, 129, 140, 145, 240 Monetary Policy Committee (Bank of England) 112, 114–15, 232 money 133 money markets 179, 186, 232 and crisis 119 Euro 209–12 and sterling 225 interest rates 213, 232 liquidity 179 money supply China 127, 128 definitions 130, 232–3 growth 130, 233 monolines 122, 180, 190–1, 192, 233 and crisis 189–90 monopoly 44, 103, 105, 233 BAA 41–2, 43 and market failure 57 of supply 39 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 249 Index Moody, Philip 92 moral hazard 203, 204, 207, 233 mortgage interest payments (MIPs) 112, 116, 233 mortgage principal 119, 122, 233 mortgage–backed securities 185, 187, 199, 233 multinational corporations (MNCs) 169, 171, 172–3 types of 169 Munday, Keith 48 municipal bonds 192, 233 mutual fund (tracker money) 233 Myners, Paul 100 narrow money 130, 233 National Debt 147 national income 109 national insurance 145 nationalisation 69 net investment 154, 157, 159, 233 net national product 154, 159, 234 Neta (New electricity trading arrangements) 47–8, 51–2, 53, 234 New York Fed 205, 234 New York Stock Exchange 205 Nikkei 225 119, 123, 162, 164, 165, 234 NKBM (Nova Kreditna Banka Maribor) 73, 75, 76 nominal and real investment 16, 19, 234 non–bank financial institutions 130, 234 non–domiciles and tax 59, 60, 61, 62, 234 non–executive chairman 87, 219–20 non–executive director 85, 87, 220 non–farm payrolls 118, 119, 121 non–OPEC oil production 16, 17, 18, 234–5 Nordea 74, 75 North Sea gas supplies 48, 49, 53 Northern Rock 69, 115, 138, 196, 199, 227 and confidence 137 Norway: oil and gas 8, 18 gas imports from 49, 50 Oddsson, Finnur 136 Odell, Mats 74–5 OFGEM 40, 47, 53, 234 website 55 oil global demand growth 16, 17–18 speculation WTI 16, 17, 19, 119, 241 oil futures market 16, 18, 19, 234 oil prices 4, 13, 64–5, 119 bubble 8, and falling supply 15 rise in 49 reasons for 15–18 subsidies 65–6, 67 Oliver, Jamie 70 ONS (Office for National Statistics) 111, 114, 234 OPEC 16, 17, 18, 234–5 and oil prices 119 open economy 139, 235 Oppenheimer, Peter 182 opportunity costs 5, 27, 235 options 180 Osborne, Dave 172 Osborne, George 60, 147, 148 output prices 27, 54 overheating 136 Page, Larry 30, 31, 34 Paul, Graham 48, 52 pension funds 181, 186, 204–5, 229, 235 People’s Bank of China (PBOC) 126, 127, 128, 129, 235 website 131 perfect competition, conditions for 39 Pershing Square 189, 191 petrol prices by country 64 see also oil PIN 101 Portes, Richard 136, 138 pound sterling, weak 112, 115, 240–1 see also currencies; sterling poverty and budget changes 60, 61 pre–emption rights 78, 235 Prentis, Dave 100 price cap 235 BAA prices 43 Heathrow 42, 43, 44–5 price mechanism 4, 13 price–earnings ratio 77, 235–6 Slovenian stock market 75 price–insensitive demand 112, 115–16, 236 prices, input and output 27 principal–agent situation 86, 236 private education 21–3, 236 advantages of 22–3 rising fees 21–2, 23 privatisation 69–76, 236 advantages 69, 70 criticisms of 69–70 producer price inflation 54–5 production, factors of 3–4 profit maximisation 81 profits, excess 53 progressive tax system 146 prompt markets 48 public goods 57, 69, 236 public sector net borrowing (PSNB) 147, 148, 149, 236 purchasing power 8, 10, 236 Quantum Fund 249 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 250 Index Radley, Steve 91 Rammell, Bill 26 randomness 236 and education 22, 25 rating agencies 192, 236 rationalisation 173, 174, 236 real exchange rate 154, 160, 237 recession 9, 10 defined 121, 237 fears of US 118–20 Reed, John 171–2 regressive tax system 146 regulation, economic 44, 224 repos 186 reserve requirements 126, 129, 237 resources 3–4 retail banks 195, 237 retail price index (RPI) 25, 111, 112, 237 retailers’ margins 112, 115, 237 Reyes, George 34 Rigby, Elizabeth ‘Investor fury at M&S role for Rose’ 83–4 ‘M&S tries to placate investors over Rose’ 84–5 Rimm–Kaufman, Alan 31–2 risk aversion 119, 124, 237 risk capital 179 risk transformation 137 Rose, Sir Stuart 83–6 Russia: oil production 17, 18 S&P 500 see Standard and Poor savings 159, 237 US 154, 157 scarcity 3, 129 Schmidt, Eric 31, 33, 34, 35 Schwartz, Alan 198 Seager, Ashley, ‘Brown’s golden rule threatened by red ink’ 147 September 11th attacks 198 service sector firms 7–8 shareholders 81, 87, 237 activist 25 M&S 83–4 minority 78, 232 pre–emption rights 78, 235 Shellock, Dave, ‘Recession fears rise after US employment fall’ 118–19 short trading strategy 191 short–run costs 27–8, 237 short–term bank finance 92, 95, 237 Sieminski, Adam 16–17 sight deposits 130 Simpsons and Google 30, 35 six–month money injection (ECB) 211, 212, 237–8 Sky TV 4–5 250 Slovenia 75 privatisation 70, 72, 73–4, 75–6 small and medium enterprises (SMEs) 90–3, 238 advantages 90 cash flow management 92 disadvantages 90–1 effect of credit crisis 91–3 Smith, Adam 153, 158, 231 sole proprietorship 92, 95, 238 Soros, George 8, special–purpose vehicle (SPV) 239 spin–off effects 57, 225 stagflation 8, 9, 10, 238 standard of living 109, 153, 159, 238 US 154 Standard and Poor’s (S&P) 500 120, 123, 197, 205, 238 Stark, Jürgen 210 start–ups 94, 238 and credit crunch 92 StatoilHydro Steen, Michael 100 sterling term money markets 225 stock market bubble 154, 160, 238 Iceland 136, 139 listing 36, 238 Slovenia 75–6 Strauss, Delphine, ‘Inflation jumps to 9–month high on data move’ 111–12 strong yen 163–4, 165, 238 structured credit markets 191, 192, 238–9 sub–prime crisis 189, 206, 239, 240 and Bear Stearns 198–9 and CDOs 200 development of 198–9 and hedge funds 189–90, 191–2 to credit crisis 200–1 sub–prime market 78, 192, 239 subsidies 58, 65–6, 67, 239 Summers, Lawrence 154 supply defined 13 and demand 129–30 factors 126, 129, 239 and oil prices 15–18 shocks 126 see also demand swaps 180 Sweden: privatisation 70, 72, 74–5, 76–7 system marginal price 51–2, 53 systematic risk 205, 239 tariffs, gas and electricity 112–13, 114, 239–40 Tata Motors 170, 171–3 tax credit system 60, 62 taxation 145 direct and indirect 145 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 251 Index and market failure 58 progressive and regressive 146 reducing carbon emissions 59, 60, 61, 62 Taylor, Andrew, ‘Minimum wage increases by 3.8%’ 99–100 Taylor, Matthew 91 Taylor, Stephen 92 Tchenguiz, Robert 138 television market 4–5 term auction facility 118, 120, 121, 240 third–party effects 57, 225 tightening monetary policy 126, 128, 129, 140, 145, 240 Times, The, Darling’s green budget 59–60 TNT 101, 103 total cost 28, 240 Toyota 162, 164 tracker funds 76, 77, 233 trade flows 151 trade unions 97 Congress 104–5, 240 and German minimum wage 101 and minimum wage 102–3 and Tata Motors 172, 173 trading platform 53, 240 treasury bills 123, 227 treasury bonds 120, 123, 227 treasury notes 120, 123, 227 Trichet, Jean–Claude 119 TUC (Trades Union Congress) 104–5, 240 UAE and oil prices uncertainty 10, 224 unemployment costs of 101–2 as measure of labour market 101 US 118–19 unemployment and non–farm payroll employment release 118–19, 121, 240 Unison 100 Unite union 100, 172 United States 2008 fiscal policy 145 current account deficit 151, 153–5, 156, 157–8 Employment Situation Report 118–19, 240 government bonds 123 oil prices 64, 65 recession fears 118–20 sub–prime market 78, 191, 192, 240 Treasury Secretary 159, 240 value added tax 145, 146 variable costs 36, 240 Varian, Hal 31, 32 vehicle excise duties 59, 60, 61, 62, 240 Venezuelan petrol prices 64 visible balance 130, 140 wage levels 97, 102 Walker, Ros 112 weak yen 164, 240 weaker pound 240–1 Weber, Axel 209–10 websites Association of British Insurers 89 Bank of England 117 Bank of Japan 166 BERR.gov 105 Bureau of Economic Analysis 160 Bureau of Labor 124 Central Bank of Iceland 143 Competition Commission 45 EBRD 79 Economist magazine 11, 37, 131 European Central Bank 214 Federal Reserve 207–8 Financial Times 188 International Energy Agency 20 International Monetary Fund 68 MBIA 193 Office for National Statistics 116 OFGEM 55 People’s Bank of China 131 ‘Practical Advice in Business’ 95 Tata Group 174 Webster, Philip, ‘Petrol price rises and penalties for gas–guzzlers.’ 59–60 West Texas Intermediate (WTI) 16, 17, 19, 119, 241 White, Ben 197–8, 202 wholesale energy market 39–40, 53, 241 Williamson, Hugh 100 Willrich, Lynn 92 Wilson, James 100 Wilson, Nick 92, 93 winning bid 171, 173, 241 Wolf, Martin, ‘Why the US current account deficit is cause for concern’ 153–5 Woodley, Tony 100 working capital 92 Working Tax Credits 60, 62, 241 Yahoo! 31, 32 yen 162 as carry–trade currency 163 strong 163–4, 165, 238 weak 164, 240 YouTube 30, 34 251 Z02_BOAK2540_01_SE_INDEX.QXP:M00_BOAK2540_01_SE_C00 12/11/08 15:20 Page 252 ... iii Reading and Understanding ECONOMICS Kevin Boakes A01_BOAK2540_01_SE_PREL.QXP:A01_BOAK2540_01_SE_PR 12/11/08 14:44 Page iv Pearson Education Limited Edinburgh Gate Harlow Essex CM20 2JE England... Part A: Microeconomics Topic Introducing economics: scarcity and choice Article Britain cuts back – but still goes on holiday The Guardian, 27 May 2008 Topic The economics of demand and supply... academic work he has run a number of economics and financial market training courses for various investment banks In early 2008 his first book, Reading and Understanding the Financial Times, a practical