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Articles for the ‘Economics 9e: Ch 02’ Category

Irrational exuberance

Both the financial and goods markets are heavily influenced by sentiment. And such sentiment tends to be self-reinforcing. If consumers and investors are pessimistic, they will not spend and not invest. The economy declines and this further worsens sentiment and further discourages consumption and investment. Banks become less willing to lend and stock markets fall. The falling stock markets discourage people from buying shares and so share prices fall further. The despondency becomes irrational and greatly exaggerates economic fundamentals.

This same irrationality applies in a boom. Here it becomes irrational exuberance. A boom encourages confidence and stimulates consumer spending and investment. This further stimulates the boom via the multiplier and accelerator and further inspires confidence. Banks are more willing to lend, which further feeds the expansion. Stock markets soar and destabilising speculation further pushes up share prices. There is a stock market bubble.

But bubbles burst. The question is whether the current global stock market boom, with share prices reaching record levels, represents a bubble. One indicator is the price/earnings (PE) ratio of shares. This is the ratio of share prices to earnings per share. Currently the ratio for the US index, S&P 500, is just over 26. This compares with a mean over the past 147 years of 15.64. The current ratio is the third highest after the peaks of the early 2000s and 2008/9.

An alternative measure of the PE ratio is the Shiller PE ratio (see also). This is named after Robert Shiller, who wrote the book Irrational Exuberance. Unlike conventional PE ratios, which only look at average earnings over the past four quarters, the Shiller PE ratio uses average earnings over the past 10 years. “Because this factors in earnings from the previous ten years, it is less prone to wild swings in any one year.”

The current level of the Shiller PE ratio is 29.14, the third highest on record, this time after the period running up to the Wall Street crash of 1929 and the dot-com bubble of the late 1990s. The mean Shiller PE ratio over the past 147 years is 16.72.

So are we in a period of irrational exuberance? And are stock markets experiencing a bubble that sooner or later will burst? The following articles explore these questions.

Articles
2 Clear Instances of Irrational Exuberance Seeking Alpha, Jeffrey Himelson (12/2/17)
Promised land of Trumpflation-inspired global stimulus has been slow off the mark South China Morning Post, David Brown (20/2/17)
A stock market crash is a way off, but this boom will turn to bust The Guardian, Larry Elliott (16/2/17)
The “boring” bubble is close to bursting – the Unilever bid proves it MoneyWeek, John Stepek (20/2/17)

Questions

  1. Find out what is meant by Minksy’s ‘financial instability hypothesis’ and a ‘Minsky moment’. How might they explain irrational exuberance and the sudden turning point from a boom to a bust?
  2. Is it really irrational to buy shares with a very high PE ratio if everyone else is doing so?
  3. Why are people currently exuberant?
  4. What might cause the current exuberance to end?
  5. How does irrational exuberance affect the size of the multiplier?
  6. How might the behaviour of banks and other financial institutions contribute towards a boom fuelled by irrational exuberance?
  7. Compare the usefulness of a standard PE ratio with the Shiller PE ratio.
  8. Other than high PE ratios, what else might suggest that stock markets are overvalued?
  9. Why might a company’s PE ratio differ from its price/dividends ratio (see)? Which is a better measure of whether or not a share is overvalued?
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Christmas Trading

We all know that our spending changes during the Christmas period: namely we spend a lot more than during the rest of the year. This applies across the board – we buy more clothes, food and drink, even though each day, we can generally only wear, eat and drink the same amount as usual! This has some interesting points from a behavioural economics stance, but here I’m going to think about the impact of this on some key retailers.

Marks & Spencer have previously made headlines for the wrong reasons: poor sales on clothes and the need for serious restructuring of its stores, target audience and marketing in order for this long-standing retailer to remain current and competitive. Although sales were expected to rise in the Christmas period, they did significantly better than expected, with sales growth of 2.3%, above the expected 0.5%. More encouragingly, this growth was not just in food, but in clothing and homeware as well.

One of the key reasons given for this above-expected improvement in sales was the conveniently timed Christmas, falling on a Sunday and hence giving extra shopping days. M&S have said that this certainly helped with their Christmas trading. Although this was good for Q4 trading, the timing will not play ball for Easter and they are expecting a negative effective during that trading period. Some analysts have said that despite the growth being boosted by the timing of Christmas, there were still signs of a change in fortunes. Bryan Roberts from TCC Global said:

“It might be the sign of some green shoots in that part of the business.”

This is consistent with the Chief Executive, Steve Rowe’s comments that despite the timing of Christmas adding around 1.5% to clothing and home sales growth, the recovery was also due to “better ranges, better availability and better prices”.

It appears as though many other retailers have experienced positive growth in Christmas sales, with the John Lewis Partnership seeing like-for-like sales growth of 2.7%, with Waitrose at a 2.8% rise.

The other interesting area is supermarkets. Waitrose and M&S are certainly competitors in the food industry, but at the higher end. If we consider the mid-range supermarkets (Asda, Morrisons, Sainsbury’s and Tesco), they have also performed, as a whole, fairly well. The low-cost Aldi and Lidl have been causing havoc for these supermarket chains, but the Christmas period seemed to prove fruitful for them.

Tesco saw UK like-for-like sales up by 1.8%, which showed significant progress in light of previously difficult trading periods with the emergence of the low-cost chains. Q$ was its better quarter of sales growth for over five years. One of the key drivers of this growth is fresh food sales and its Chief Executive, Dave Lewis said “we are very encouraged by the sustained strong progress that we are making across the group.” However, despite these positive numbers, Tesco only really met market expectation, rather than surpassing them as Morrison, Sainsbury’s and Marks & Spencer did.

Perhaps the stand-out performance came from Morrisons, with its best Christmas performance for seven years. Another casualty of the low-cost competitors, it has been making a recovery and Q4 of 2016 demonstrated this beyond doubt. Like-for-like sales for the nine weeks to the start of 2017 were up by 2.9%, with growth in both food and drink and clothing.

Morrisons has been on a long and painful journey, with significant reorganisation of its stores and management. While this has created problems, it does appear to be working.

We also saw a general move up to the more premium own-brands and this again benefited all supermarkets. Morrisons Chief Executive, David Potts said:

“We are delighted to have found our mojo … Every year does bring its challenges, but so far we haven’t seen any change in consumer sentiment. Customers splashed out over Christmas and wanted to trade up … We are becoming more relevant to more people as we turn the company around.”

So it seems to be success all round for traders over the Christmas period and that, in many cases, this has been a reversal of fortunes. The question now is whether or not this will continue with the uncertainty over Brexit and the economy.

Articles
M&S beats Christmas sales forecast in clothing and homeware BBC News (12/1/17)
Marks & Spencer reports long-awaited rise in clothing sales The Telegraph, Ashley Armstrong (12/1/17)
Marks and Spencer reveals signs of growth in clothing business Financial Times, Mark Vandevelde (12/1/17)
Tesco’s festive sales lifted by fresh food The Telegraph, Ashley Armstrong (12/01/17)
Tesco caps year of recovery with solid Christmas Reuters, James Davey and Kate Holton (12/1/17)
Tesco, Marks & Spencer, Debenhams, John Lewis and co cheer strong Christmas trading Independent, Josie Cox and Zlata Rodionova (12/1/17)
Morrisons sees best Christmas performance for seven years BBC News (10/12/17)
Morrisons enjoys some ‘remarkable’ Christmas cheer’ The Guardian, Sarah butler and Angela Monaghan (10/1/17)
Record Christmas as Sainsbury’s ‘shows logic of Argos takeover’ The Guardian, Sarah Butler and Angela Monaghan (11/1/17)

Questions

  1. Why have the big four in the supermarket industry been under pressure over the past 2 years in terms of their sales, profits and market share?
  2. How have the changes that have been made by M&S’ Chief Executive helped to boost sales once more?
  3. Share prices for supermarkets have risen. Illustrate why this is on a demand and supply diagram. Why has Tesco, despite its performance, seen a fall in its share price?
  4. What are the key factors behind Morrison’s success?
  5. What type of market structure is the supermarket industry? Does this help to explain why the big four have faced so many challenges in recent times?
  6. If there has been a general increase in sales across all stores over the Christmas trading period, that goes beyond expectations, can we infer anything about customer tastes and their expectations about the future?
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What’s Next?

The economic climate remains uncertain and, as we enter 2017, we look towards a new President in the USA, challenging negotiations in the EU and continuing troubles for High Street stores. One such example is Next, a High Street retailer that has recently seen a significant fall in share price.

Prices of clothing and footwear increased in December for the first time in two years, according to the British Retail Consortium, and Next is just one company that will suffer from these pressures. This retail chain is well established, with over 500 stores in the UK and Eire. It has embraced the internet, launching its online shopping in 1999 and it trades with customers in over 70 countries. However, despite all of the positive actions, Next has seen its share price fall by nearly 12% and is forecasting profits in 2017 to be hit, with a lack of growth in earnings reducing consumer spending and thus hitting sales.

The sales trends for Next are reminiscent of many other stores, with in-store sales falling and online sales rising. In the days leading up to Christmas, in-store sales fell by 3.5%, while online sales increased by over 5%. However, this is not the only trend that this latest data suggests. It also indicates that consumer spending on clothing and footwear is falling, with consumers instead spending more money on technology and other forms of entertainment. Kirsty McGregor from Drapers magazine said:

“I think what we’re seeing there is an underlying move away from spending so much money on clothing and footwear. People seem to be spending more money on going out and on technology, things like that.”

Furthermore, with price inflation expected to rise in 2017, and possibly above wage inflation, spending power is likely to be hit and it is spending on those more luxury items that will be cut. With Next’s share price falling, the retail sector overall was also hit, with other companies seeing their share prices fall as well, although some, such as B&M, bucked the trend. However, the problems facing Next are similar to those facing other stores.

But for Next there is more bad news. It appears that the retail chain has simply been underperforming for some time. We have seen other stores facing similar issues, such as BHS and Marks & Spencer. Neil Wilson from ETX Capital said:

“The simple problem is that Next is underperforming the market … UK retail sales have held up in the months following the Brexit vote but Next has suffered. It’s been suffering for a while and needs a turnaround plan … The brand is struggling for relevancy, and risks going the way of Marks & Spencer on the clothing front, appealing to an ever-narrower customer base.”

Brand identity and targeting customers are becoming ever more important in a highly competitive High Street that is facing growing competition from online traders. Next is not the first company to suffer from this and will certainly not be the last as we enter what many see as one of the most economically uncertain years since the financial crisis.

Next’s gloomy 2017 forecast drags down fashion retail shares The Guardian, Sarah Butler and Julia Kollewe (4/1/17)
Next shares plummet after ‘difficult’ Christmas trading The Telegraph, Sam Dean (4/1/17)
Next warns 2017 profits could fall up to 14% as costs grow Sky News, James Sillars (4/1/17)
Next warns on outlook as sales fall BBC News (4/1/17)
Next chills clothing sector with cut to profit forecast Reuters, James Davey (4/1/17)
Next shares drop after warning of difficult winter Financial Times, Mark Vandevelde (22/10/15)

Questions

  1. With Next’s warning of a difficult winter, its share price fell. Using a diagram, explain why this happened.
  2. Why have shares in other retail companies also been affected following Next’s report on its profit forecast for 2017?
  3. Which factors have adversely affected Next’s performance over the past year? Are they the same as the factors that have affected Marks & Spencer?
  4. Next has seen a fall in profits. What is likely to have caused this?
  5. How competitive is the UK High Street? What type of market structure would you say that it fits into?
  6. With rising inflation expected, what will this mean for consumer spending? How might this affect economic growth?
  7. One of the factors affecting Next is higher import prices. Why have import prices increased and what will this mean for consumer spending and sales?
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When owning your own home becomes more of a distant dream

Young people are increasingly finding it impossible to buy their own home. The reasons are easy to find: income rises of young people have failed to match rises in house prices, and access to loans has become more restrictive since the financial crisis. In 2002, 58.6% of 25-34 year-olds owned their own home; today, the figure is just 36.7%.

Conventional wisdom is that the source of the problem is on the supply side: a lack of house building. But according to the Redfern Review, led by the chief executive of Taylor Wimpey, Pete Redfern, the source of the problem lies mainly on the demand side. Overall demand for housing has been rapidly rising, stoked by low interest rates and the Help to Buy scheme, which is available to existing home owners as well as first-time buyers. However, purchases by first-time buyers have fallen as their incomes have declined relative to those of older people.

Of course, increasing supply, especially of cheaper starter homes, would help young people, but, according to the Redfern Review, such schemes take a long time to make much of a difference (although building modular homes could be much quicker). In the meantime, help could be provided on the demand side by making the Help to Buy scheme available only to first-time buyers and by increasing the help to them provided under the scheme, and also by encouraging lenders to make access to mortgages easier.

But a problem for most young people is high levels of debt, including student loans. Such debt and a lack of savings makes it difficult to raise a deposit, let alone afford mortgage repayments. And on the rental side, accommodation is becoming less and less affordable as rents rise faster than incomes, further exacerbating the difficulty of clawing down debt and saving for a deposit.

A long-term solution must involve increased supply – as the Redfern Review recognises. But in the short-term, providing more help to first-time buyers and those paying high rents could make a significant difference.

Webcast
Tackling UK housing crisis ‘will take generations’ ITV News, Joel Hills (16/11/16)

Articles
Review of home ownership in UK shows severe decline in young buyers PropertyWire (16/11/16)
Housing crisis: Lack of new building not to blame for soaring house prices finds Labour-commissioned report Independent, Ben Chu and Ashley Cowburn (16/11/16)
Redfern Review: Focus on First Time Buyers and Launch Housing Commission Money Expert, Danny Lord (16/11/16)
First-time buyers need more help, review finds BBC News (16/11/16)
Redfern Review echoes Homes for Scotland’s call for joined-up approach to housing Scottish Housing News, Nicola Barclay (17/11/16)
Redfern review into housing: worth building on? The Guardian, Nils Pratley (15/11/16)
UK housing review downplays developers’ role in crisis, critics say The Guardian, Graham Ruddick (16/11/16)

Report
The Redfern Review into the decline of homeownership (16/11/16)

Data
Economic Data freely available online: UK house prices The Economics Network
UK House Price to income ratio and affordability Economics Help blog (21/9/15)
House Price Index Nationwide
UK House Price Index: reports ONS/Land Registry
House Price Index: Statistical Bulletin ONS (Sept. 2016)

Questions

  1. Do a data search to find out what has happened since 1990 to (a) average UK house prices; (b) average incomes; (c) the distribution of income since 1990; (d) first-time buyer affordability of houses.
  2. Use a supply and demand diagram to illustrate current average house prices compared with house prices in 2000.
  3. How does the price elasticity of supply of houses affect the impact of a rise in demand on house prices? Illustrate your answer with a diagram.
  4. What determines the price elasticity of supply of houses?
  5. What particular problems do young people face in being able to afford to buy a house or flat?
  6. How would making it easier for young people to be able to raise finance to purchase their first home affect the price of starter homes?
  7. What policies could be adopted by the government to make rents more affordable? Discuss the advantages and disadvantages of such policies.
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The housing market: an Australian case study of demand and supply

Many countries have experienced soaring house prices in recent years. To find out why, you need to look at demand and supply.

Low mortgage interest rates and more relaxed lending rules in the last couple of years have stimulated demand. In some countries, such as the UK, demand has been further boosted by governments providing increased help to buyers. In others, various tax breaks are given to house purchasers.

Typically the rise in demand has not been matched by an equivalent rise in supply. Social house building has slowed in many countries and building for private purchase has often be hampered by difficulties in obtaining appropriate land or getting planning permission.

The articles linked below look at the situation in Australia. Here too house prices have been soaring. Over the past 30 years they have grown by 7.25% per year – way above the growth in incomes. As the second article below states:

So expensive are homes becoming that the share of median household income devoted to mortgage payments for Australians aged 35 to 44 has more than doubled in 30 years. Incredibly, it’s happened at a time when mortgage rates have slid to their lowest on record.

But why? Again, to understand this it is necessary to look at demand and supply.

Strong population growth combined with easy availability of mortgage loans, low interest rates and tax breaks for both owner occupiers and property investors have stoked demand, while new building has lagged behind. As far as investors are concerned, any shortfall of rental income over mortgage payments (known as negative gearing) can be offset against tax – and then there is still the capital gain to be made from any increase in the property’s price.

But in some Australian towns and cities, price rises have started to slow down or even fall. This may be due to a fall in demand. For example, in Perth, the ending of the commodity boom has led to a fall in demand for labour in the mining areas; mine workers often live in Perth and fly up to the mining areas for shifts of a week or more. The fall in demand for labour has led to a fall in demand for housing.

House price changes are amplified by speculation. People rush to buy houses when they think house prices will rise, further pushing up prices. Landlords do the same. This speculation fuels the price rises. Speculation also amplifies price falls, with people with houses to sell keen to sell them quickly before prices fall further. Potential purchasers, including property investors, hold back, waiting for prices to fall.

Articles
House prices are surging because of low supply – it’s Economics 101 The Guardian, Stephen Koukoulas (27/10/16)
Who’s to blame for rising house prices? We are, actually. Sydney Morning Herald, Peter Martin (27/10/16)
The Price of Australia’s Real Estate Boom The New York Times, A. Odysseus Patrick (17/10/16)
Solutions beyond supply to the housing affordability problem The Conversation, Nicole Gurran (24/10/16)

Data
Residential Property Price Indexes: Eight Capital Cities Australian Bureau of Statistics (20/9/16)

Questions

  1. Identify the specific demand factors that have driven house price rises in Australia.
  2. How are the price elasticities of demand and supply relevant to explaining house price rises? Use a diagram to illustrate your analysis.
  3. What determines the rate of increase in house prices?
  4. Explain what is meant by ‘negative gearing’. How is the tax treatment of negative gearing relevant to the property market?
  5. What are the arguments for and against giving tax breaks for house purchase?
  6. Why are rising prices seen as politically desirable by politicians?
  7. What practical steps could a government (central or local) take to increase the supply of housing? Would such steps always be desirable?
  8. Does speculation always amplify house price changes? Explain.
  9. How are house prices related to inequality?
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Sterling’s slide

The pound has fallen to its lowest rate against the euro since July 2013 and the lowest rate against the US dollar since 1985. Since August 2015, the pound has depreciated by 23.4% against the euro and 22.2% against the dollar. And since the referendum of 23 June, it has depreciated by 15.6% against the euro and 17.6% against the dollar.

On Sunday 2 October, at the start of the Conservative Party conference, the Prime Minister announced that Article 50, which triggers the Brexit process, would be invoked by the end of March 2017. Worries about what the terms of Brexit would look like put further pressure on the pound: the next day it fell by around 1% and the next day by a further 0.5%.

Then, on 6 October, it was reported that President Hollande was demanding tough Brexit negotiations and the pound dropped significantly further. By 7 October, it was trading at around €1.10 and $1.22. At airports, currency exchange agencies were offering less than €1 per £ (see picture).

With the government implying that Brexit might involve leaving the Single Market, the pound continued falling. On 12 October, the trade-weighted index reached its lowest level since the index was introduced in 1980: below its trough in the depth of the 2008 financial crisis and below the 1993 trough following Britain’s ejection from the European Exchange Rate Mechanism in September 1992.

So just why has the pound fallen so much, both before and after the Brexit vote? (Click here for a PowerPoint of the chart.) And what are the implications for the economy?

The articles explore the reasons for the depreciation. Central to these are the effects on the balance of payments from a possible decline in inward investment, lower interest rates leading to a net outflow of currency on the financial account, and stimulus measures, both fiscal and monetary, leading to higher imports.

Worries about the economy were occurring before the Brexit vote and this helped to push sterling down in late 2015 and early 2016, as you can see in the chart. This article from The Telegraph of 14 June 2016 explains why.

Despite the short-run effects on the UK economy of the Brexit vote not being as bad as some had predicted, worries remain about the longer-term effects. And these worries are compounded by uncertainty over the Brexit terms.

A lower sterling exchange rate reduces the foreign currency price of UK exports and increases the sterling price of imports. Depending on price elasticities of demand, this should improve the current account of the balance of payments.

These trade effects will help to boost the economy and go some way to countering the fall in investment as businesses, uncertain over the terms of Brexit, hold back on investment in the UK.

Articles
Pound Nears Three-Decade Low as May Sets Date for Brexit Trigger Bloomberg, Netty Idayu Ismail and Charlotte Ryan (3/10/16)
Sterling near 31-year low against dollar as May sets Brexit start dat Financial Times, Michael Hunter and Roger Blitz (3/10/16)
Sterling hits three-year low against the euro over Brexit worries The Guardian, Katie Allen (3/10/16)
Pound sterling value drops as Theresa May signals ‘hard Brexit’ at Tory conference Independent, Zlata Rodionova (3/10/16)
Pound falls as Theresa May indicates Brexit date BBC News (3/10/16)
The pound bombs and stocks explode over fears of a ‘hard Brexit’ Business Insider UK, Oscar Williams-Grut (3/10/16)
Pound Will Feel Pain as Brexit Clock Ticks Faster Wall Street Journal, Richard Barley (3/10/16)
British Pound to Euro Exchange Rate’s Brexit Breakdown Slows After Positive Manufacturing PMI Halts Decline Currency Watch, Joaquin Monfort (3/10/16)
7 ways the fall in the value of the pound affects us all Independent (4/10/16)
The pound and the fury: Brexit is making Britons poorer, and meaner The Economist, ‘Timekeeper’ (11/10/16)
Is the pound headed for parity v US dollar and euro? Sydney Morning Herald, Jessica Sier (5/10/16)
Flash crash sees the pound gyrate in Asian trading BBC News (7/10/16)
Flash crash hits pound after Hollande remarks Deutsche Welle (7/10/16)
Sterling mayhem gives glimpse into future Reuters, Swaha Pattanaik (7/10/16)
Sterling takes a pounding The Economist, Buttonwood (7/10/16)
Government must commit to fundamental reform The Telegraph, Andrew Sentance (7/10/16)

Data
Interest & exchange rates data – Statistical Interactive Database Bank of England

Questions

  1. Why has sterling depreciated? Use a demand and supply diagram to illustrate your argument.
  2. What has determined the size of this depreciation?
  3. What is meant by the risk premium of holding sterling?
  4. To what extent has the weaker pound contributed to the better economic performance than was expected immediately after the Brexit vote?
  5. What factors will determine the value of sterling over the coming months?
  6. Who gain and who lose from a lower exchange rate?
  7. What is likely to happen to inflation over the coming months? Explain and consider the implications for monetary and fiscal policy.
  8. What is a ‘flash crash’. Why was there a flash crash in sterling on Asian markets on 7 October 2016? Is such a flash crash in sterling likely to occur again?
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What the market will bear? Secondary markets and ticket touts

If you want a ticket for an event, such as a match or a concert, but the tickets are sold out, what do you do? Many will go to an agency operating in the ‘secondary market’. A secondary market is where items originally purchased new, such as tickets, company shares, cars or antiques, are put up for sale at a price that the market will bear.

The equilibrium price in a secondary market is where supply equals demand and the actual price will approximate to this equilibrium. In the case of tickets, this equilibrium price can be much higher than the original price sold by the venue or its agents. The reason is that the original price is below the equilibrium.

This is illustrated in the figure (click here for a PowerPoint). Assume that the total supply of tickets is Qs. Assume also that the official box office price is Pbo and that demand is given by the demand curve D. At the box office price demand exceeds supply by QdQs. There is thus a shortage, with many fans unable to obtain a ticket at the official price. Many of you will be familiar with having to be as quick as possible to get hold of tickets where demand considerably outstrips supply. Events such as Glastonbury sell out within seconds of coming on sale.

If you buy a ticket and then find out you cannot go to the event, you can sell the ticket on the secondary market through an online site or agency. Such agencies could be seen as providing a useful service as it means that otherwise empty seats will be filled. But if the equilibrium price is well above the original ticket price, there is the potential for huge gain by the agencies, who may pay the seller considerably less than the agency then sells the ticket to someone else.

What is more, the difference between the original price and the equilibrium price in the secondary market makes ticket touting, or ticket ‘scalping’, highly profitable. This is where people buy tickets with no intention of using them themselves but in order to sell them at much higher prices on the secondary market. Such ticket touting has been illegal for football matches since 1994 and was illegal for the 2012 London Olympics, but it is legal for plays, concerts, festivals and other events.

Ticket touts are often highly organised in obtaining tickets at official prices by buying early and using multiple credit cards and multiple identities to avoid systems that restrict the number of tickets issued to a card. They often use internet bots to mass purchase tickets the moment they go on sale.

Those in favour of ticket touting argue that the high price in the secondary market is just a reflection of demand and supply (see the IEA article below). Ticket touting allows tickets to be directed to people who value them most and will get the greatest benefit from it. What is more, banning ticket touting, so the argument goes, would simply drive it underground.

Those against argue on grounds of equity. Ticket prices set below the equilibrium are designed to give greater equality of access to fans. Rationing on a first-come first-served system, either on the internet or by a queue, is seen to be fairer than one by ability/willingness to pay. A poor person may be just as keen to go to an event as a rich person and gain just as much enjoyment from it, but cannot afford the high equilibrium price. What is more, non of the profit from the higher prices reaches the event organisers or the artists or players. Yet the mark-up and hence profit made by ticket touts can be massive, as the first Observer article below shows.

Various measures are being tried to prevent ticket touting. One is the use of paperless tickets, with the number of tickets limited per person and with people having to show their ticket on their phones along with ID at the door or gate. If a person cannot attend, then the solution is a system where they can give the ticket back to the box office (perhaps electronically) which will re-sell it for them at the official price.

A government-backed investigation, the Waterson review reported in May 2016 and recommended that touts should be licensed and that there should be harsher penalties for firms that flout consumer rights law as applying to ticket sales. Whether this would be sufficient to bring secondary market prices down significantly, remains to be seen. In the meantime, organisers do seem to be trying to find ways of beating the touts through smarter means of selling.

Articles
MP Nigel Adams calls for secondary ticket marketing to be reformed Music Week, James Hanley (14/9/16)
Iron Maiden go to war with ticket touts BBC News, Mark Savage (22/9/16)
The new age of the ticket tout BBC World Tonight, Andrew Hosken (25/5/16)
Government urged to help music industry tackle ticket touts The Guardian, Rob Davies (13/9/16)
Ticket touts face licensing threat The Guardian, Rupert Jones (26/5/16)
How the ticket touts get away with bleeding fans dry The Observer, Rob Davies and Rupert Jones (15/5/16)
What sorcery is this? A £140 ticket for new Harry Potter play now costs £8,327 The Observer, Rob Davies and Laurie Chen (14/8/16)
Ticket touts made $3m from the last Mumford & Sons tour. $0 went back to the music industry. Music Business Woldwide, Adam Tudhope (6/9/16)
This is tout of order – join the Daily Mirror campaign to beat rip-off ticket resales Daily Mirror, Nada Farhoud (19/9/16)
Ticket touts: A muggle’s game The Economist (20/8/16)
Can We Fight Back Against The Robot Touts Ruining Live Music? Huffington Post, Andy Webb (6/9/16)
In defence of ticket touts Institute of Economic Affairs, Steve Davies (25/2/15)

Report
Consumer protection measures applying to ticket resale: Waterson review Department for Business, Innovation & Skills and Department for Culture, Media & Sport 26/5/16)

Guide
#Toutsout MMF & FanFair Alliance September 2016

Questions

  1. Why can ticket touts sell tickets above the equilibrium price shown in the diagram?
  2. In what ways could ticket touts be said to be distorting the market?
  3. How do ticket touts reduce consumer surplus? Could they reduce it to zero?
  4. Why may allowing ticket touting to take place result in empty seats at concerts or other events?
  5. Would it be a good idea for event organisers to charge higher prices for popular events than they do at present, but still below the equilibrium
  6. How does the price elasticity of demand influence the mark-up that ticket touts can make? Illustrate this on a diagram similar to the one above.
  7. Is it in ticket touts’ interests to adjust prices as an event draws closer, just as budget airlines adjust seat prices as the plane fills up? Could organisers sell tickets in the primary market in this way with prices rising as the event fills up?
  8. Discuss the various ways in which the secondary ticket market could be reformed? To what extent do these involve reforms in the primary ticket market?
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Coffee strengthens

Your Americano, Latte or Cappuccino may soon be more expensive. This is because coffee bean prices are rising. A combination of continuing growth in demand and poor coffee harvests in various parts of the world have led to a rise in both Arabica and Robusta prices, with the International Coffee Organization’s Composite Indicator price (in US dollars) having risen by over 30% since mid-January this year (see chart below: click here for a PowerPoint)

Supply has been affected by droughts in Brazil and Vietnam, two of the world’s biggest coffee producers, and by pests (the Coffee Berry Borer) in the Kilimanjaro region of Tanzania and in other East African countries. Global exports of coffee in July 2016 were 22% down on the same month in 2015.

The growing shortage and rising current (spot) prices is reflected in future prices. These are prices determined in the market now for trading at a specified future date (e.g. in three months’ time). Future prices depend on predictions of the balance of demand and supply in the future. According to the MarketWatch article below, “Analysts at Société Générale in a note predicted that prices could climb about 30% further by the end of next year”. The current (mid-September) spot price of robusta coffee beans is around $0.96 per lb. The December 2016 future price is around $1.48.

So what effect will this have on the prices in Starbucks, Costa or Caffè Nero? And what effect will it have on ground or instant coffee in supermarkets? To quote the MarketWatch article again:

A research report from the US Department of Agriculture found that, on average, a 10% increase in green-coffee-bean prices per pound would yield a 2% increase in both manufacturer prices and at the register in places like Starbucks Corp.

This is because the cost of coffee beans is just one element in the costs of coffee roasters and coffee shops. Also these companies use futures markets to smooth out the prices they pay. They hold stockpiles of coffee, which they build up when prices are low and draw on when prices are high. This helps to reduce fluctuations in retail prices.

So don’t worry too much about the price of your morning coffee – at least, not yet.

Articles
Why a surge in coffee-bean prices may not hit the Starbucks set—yet MarketWatch, Rachel Koning Beals (9/9/16)
Wired coffee prices may not slip far News Markets, David Cottle (9/9/16)
Late-harvest woes prompt Brazil coffee harvest downgrade Agrimoney (7/9/16)
Look Out, Latte Lovers: Brazil Drought Hurts Espresso Beans Bloomberg, Fabiana Batista and Marvin G. Perez (13/9/16)
Why Your Morning Coffee Is About to Become Even More Expensive Fortune (28/7/16)
Climate change brews a storm for East Africa coffee farmers Business Daily (East Africa), Paul Redfern (4/9/16)
Coffee Market Report ICO (August 2016)

Data
Commodity Prices Index Mundi
Historical Data on the Global Coffee Trade ICO
ICO’s Coffee Trade Statistics Infographic for July 2016 ICO blog (31/8/16)

Questions

  1. What determines coffee futures prices?
  2. How are the price fluctuations of coffee in coffee shops related to the price elasticities of demand and supply? What determines these elasticities?
  3. Why does a strengthening (an appreciation) of the currency of a coffee exporter affect (a) the price of coffee to producers in the country; (b) international coffee prices in dollars?
  4. Are poor coffee harvests on balance good or bad for coffee producers? How does this depend on the market price elasticity of demand? Does the answer vary from producer to producer?
  5. How does speculation affect coffee prices (both spot and future)? Is such speculation of benefit to (a) the coffee consumer; (b) the coffee grower?
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BHS: the end of an era?

According to the BBC’s Joe Lynam, “Britain has the most competitive and dynamic retail environment in the world, which attracts shoppers globally.” It is perhaps this fact which may save BHS, with new owners being attracted by such an opportunity. BHS is soon expected to file for administration, with debts of more than £1.3 billion and having failed to secure the loan needed to keep it afloat. If this company collapses, it will bring an end to the life of an 88 year old giant.

The British retail scene has certainly changed over the past decade, with names such as Woolworths and Comet disappearing – could BHS be the next casualty of the changing retail climate? In the world of retail, tastes change quickly and those stores who fail to change with the times are the ones that suffer. One of the factors behind the downfall of BHS is the ‘dated’ nature of its stores and fashions. As clothing outlets such as Zara, Oasis and Next have continued to change with the times, commentators suggest that BHS continues with a trading offer from the 1980s. With the online shopping trend, many household names adapted their strategy, but BHS failed to do so and the second chance that BHS asked the public for when Sir Philip Green, its former owner, sold BHS in 2015 hasn’t materialised.

With administrators ready to be brought in and thousands of jobs hanging in the balance, the administrators will be looking at methods to attract funding, new owners or so-called ‘cherry pickers’ who may be interested in buying up the more profitable stores. Some of their stores remain in prime locations and deliver a tidy profit and it is perhaps these gems, together with the tradition that British Home Stores brings that may yet see the company saved. The outcome for BHS will not only affect the jobs of its employees, but will affect the pensions of thousands of workers. The BHS pension fund currently has a deficit of £576 million and so the Pension Protection Fund will have to look closely at the situation before thinking about issues a contribution notice to those connected with the fund.

A deal was on the cards last week, with BHS owner Dominic Chappell in talks with Mike Ashley’s Sports Direct, but the high debts and pensions deficit appears to have deterred this deal. The failing fortunes of BHS have now come back to haunt former owner, Sir Philip Green, who in March 2015, sold the business for just £1. Sir Philip may return to save the day, but the options for this once giant of the British high street are rather limited. The following articles consider the fortunes of BHS.

BHS seeks Sports Direct lifeline as it heads for collapse The Guardian, Graham Ruddick (24/04/16)
BHS expected to file for administration on Monday BBC News (25/04/16)
Thousands of BHS workers face anxious wait amid administration fears The Telegraph (25/04/16)
BHS administration: ‘Imminent bankruptcy’ puts 11,000 jobs at risk Independent, Peter Yeung (25/04/16)
Up to 11,000 jobs face the axe as BHS is expected to announce collapse of chain after efforts to find rescuer failed Mail Online, Neil Craven (24/04/16)
BHS nears collapse putting 11,000 jobs at risk Sky News (25/04/16)
BHS set to file for administration after sales talks fail Financial Times, Murad Ahmed (25/04/16)

Questions

  1. Using a demand and supply diagram, can you explain some of the factors that have contributed to the difficult position that BHS finds itself in?
  2. Now, can you use a diagram showing revenues and profits and explain the current position of BHS?
  3. What type of market structure does BHS operate in? Can this be used to explain why it is in its current position?
  4. How has the company failed in adapting its business strategy to the changing times?
  5. Looking back at the history of BHS, can you apply the product life cycle to this store?
  6. If another company is considering purchasing BHS, or at least some of its stores, what key information will it need and what might make it likely to go ahead with such a purchase?
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Narconomics

In many cases, we simply leave the market to do what it does best – equate demand with supply and from this we get an equilibrium price and the optimal quantity. But, what happens if either the price or quantity is ‘incorrect’? What happens if the market fails to deliver an efficient outcome? In this case, we look to governments to intervene and ‘correct’ the market and such intervention can take place on the demand and/or supply-side. One area where it is generally felt that government intervention is needed is drugs and the trafficking of them across borders.

There are many ways in which governments have tried to tackle the problem of drug usage. The issue is that drugs are bad for individuals, for the community, society and the economy. Too much is produced and consumed and hence we have a classic case of market failure and this justifies government intervention.

But, how should governments intervene? With a substance such as drugs, we have an inelastic demand with resepect to price – any increase in price leads to only a small decrease in quantity. So any policy implemented by governments that attempts to change the market price will have limited effect in restricting demand. With globalisation, drugs can be moved more easily across borders and hence global co-operation is needed to restrict the flow. The article below considers the area of drugs and drug trafficking and looks at some of the policy options open to government.

Narconomics: The business of drug trafficking Houston Chronicle (16/3/16)

Questions

  1. Why does the market fail in the case of drug trafficking?
  2. Draw the demand curve you would expect for drugs and use this to explain why an increase in price will have limited effect on demand.
  3. Is there an argument for making drugs legal as a means of raising tax revenue?
  4. If better educational programmes are introduced about the perils of drug usage, how would this affect the market? Use a demand and supply diagram to help explain your answer.
  5. Why does globalisation make the solutions to drug trafficking more difficult to implement?
  6. Could drug usage and drug trafficking and hence the need to invest more money in tackling the problem actually boost an economy’s rate of growth? If so, does this mean that we should encourage drug usage?
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