Category: Economics for Business 7e

TATA steelworks, Ijmuiden, Netherlands: photo JS

Since running for election, Donald Trump has vowed to ‘put America first’. One of the economic policies he has advocated for achieving this objective is the imposition of tariffs on imports which, according to him, unfairly threaten American jobs. On March 8 2018, he signed orders to impose new tariffs on metal imports. These would be 25% on steel and 10% on aluminium.

His hope is that, by cutting back on imports of steel and aluminium, the tariffs could protect the domestic industries which are facing stiff competition from the EU, South Korea, Brazil, Japan and China. They are also facing competition from Canada and Mexico, but these would probably be exempt provided negotiations on the revision of NAFTA rules goes favourably for the USA.

TATA steel works IJmuiden Netherlands (photo JS)Assuming there were no retaliation from other countries, jobs would be gained in the steel and aluminium industries. According to a report by The Trade Partnership (see link below), the tariffs would increase employment in these industries by around 33 000. However, the higher price of these metals would cause job losses in the industries using them. In fact, according to the report, more than five jobs would be lost for every one gained. The CNN Money article linked below gives example of the US industries that will be hit.

But the costs are likely to be much greater than this. Accorinding to the law of comparative advantage, trade is a positive-sum game, with a net gain to all parties engaged in trade. Unless trade restrictions are used to address a specific market distortion in the trade process itself, restricting trade will lead to a net loss in overall benefit to the parties involved.

Clearly there will be loss to steel and aluminium exporters outside the USA. There will also be a net loss to their countries unless these metals had a higher cost of production than in the USA, but were subsidised by governments so that they could be exported profitably.

Valancia port: photo JSBut perhaps the biggest cost will arise from possible retaliation by other countries. A trade war would compound the net losses as the world moves further from trade based on comparative advantage.

Already, many countries are talking about retaliation. For example, the EU is considering a ‘reciprocal’ tariff of 25% on cranberries, bourbon and Harley-Davidsons, all produced in politically sensitive US states (see the first The Economist article below). ‘As Jean-Claude Juncker, president of the European Commission, puts it, “We can also do stupid”.’ In fact, this is quite a politically astute move to put pressure on Mr Trump.

But cannot countries appeal to the WTO? Possibly, but this route might take some time. What is more, the USA has attempted to get around WTO rules by justifying the tariffs on ‘national security’ grounds – something allowed under Article XXI of WTO rules, provided it can be justified. This could possibly deter countries from retaliating, but it is probably unlikely. In the current climate, there seems to be a growing mood for flouting, or at least loosely interpreting, WTO rules.

Articles

Report

Questions

  1. Explain how, by countries specialising in goods in which they have a comparative advantage, all countries can gain.
  2. Can tariffs or other trade restrictions ever be justified? Explain.
  3. Is there any economic justification for the US tariffs of 25% on steel and 10% on aluminium?
  4. Can putting tariffs on US imports be justified by countries whose steel and/or aluminium industires are faced with US tariffs?
  5. Can trade wars be won? Explain.

Last week was a rough week for Britain. The “Beast from the East” and storm Emma swept through the country, bringing with them unusually heavy snowfall, which resulted in severe disruption across nearly all parts of the country. Some recent estimates put the cost of these extreme weather conditions at up to £1 billion per day. The construction industry suffering the biggest hit as work came to a halt for the best part of the week. Losses for the industry were estimated to be up to £2 billion.

Closed restaurants, empty shops and severely disrupted transport networks were all part of the effect that this extreme weather had on the overall economy. According to Howard Archer, chief economic adviser of the EY ITEM Club (a UK forecasting group):

It is possible that the severe weather [of the last few days] could lead to GDP growth being reduced by 0.1 percentage point in Q1 2018 and possibly 0.2 percentage points if the severe weather persist.

 

Source: Jahn (2015), Figure 2

As the occurrence of freak weather increases across the globe due to climate change, so does the economic cost of these events. The figure above shows the estimated costs of extreme weather events in the USA between 1980 and 2012 and it is reproduced from Jahn (see link below), who also fits a quadratic trend to show that these costs have been increasing over time. He goes on to characterise the impact of different types of extreme weather (including cold waves, heat waves, storms and others) on different sectors of the local economy – ranging from tourism and agriculture, to housing and the insurance sector.

Linnenluecke et al (linked below) argue that extreme weather caused by climate change could influence the decision of firms on where to locate and could lead to a reshuffle of economic activity across the world and have important policy implications. As the authors explain:

Climate change-related relocation has been given consideration in policy-oriented discussions, but not in management decisions. The effects of climate change and extreme weather events have been considered as peripheral or as a risk factor, but not as a determining factor in firm relocation processes…. This paper therefore [provides] insights for understanding how firms can enhance strategic decision-making in light of understanding and assessing their vulnerability as well as likely impacts that climate change may have on relocation decisions.

The likelihood and associated costs of extreme weather events could therefore become an increasingly important matter for discussion amongst economists and policy makers. Such weather events are likely to have profound economic implications for the world.

Academic papers

Articles

Questions

  1. Explain how extreme weather can affect the decision of firms to locate between regions.
  2. Explain how extreme weather can affect the behaviour of consumers and the level of consumer spending.
  3. “The poorest countries are often the ones that are the most vulnerable to the effects of climatic change”. Discuss.

Would you start a family if you were pessimistic about the future of the economy? Buckles et al (2017) (see link below) believe that fewer of us would do so and, therefore, fertility rates could be used by investors and central banks as an early signal to pick up subtle changes in consumer confidence and overall economic climate.

Their study titled ‘Fertility is a leading economic indicator’ uses ‘live births’ data, sourced from US birth certificates, to explore if there is any association between fertility changes (measured as the rate of change in number of births) and GDP growth. Their results suggest that, in the case of the USA, there is: dips in fertility rates tend to precede by several quarters slowdown in economic activity. As the authors state:

The growth rate of conceptions declines prior to economic downturns and the decline occurs several quarters before recessions begin. Our measure of conceptions is constructed using live births; we present evidence suggesting that our results are indeed driven by changes in conceptions and not by changes in abortion or miscarriage. Conceptions compare well with or even outperform other economic indicators in anticipating recessions.

Conception and GDP Growth Rates (source Buckles et al p33: see below)

Although this is not the first piece of academic writing to claim that fertility has pro-cyclical qualities (see for instance, Adsera (2004, 2011), Adsera and Menendez (2011), Currie and Schwandt (2014) and Chatterjee and Vogle (2016) linked below), it is, to the best of our knowledge, the most recent paper (in terms of data used) to depict this relationship and to explore the suitability of fertility as a macroeconomic indicator to predict recessions.

Economies, after all, are groups of people who participate actively in day-to-day production and consumption activities – as consumers, workers and business leaders. Changes in their environment should affect their expectations about the future.

Are people, however, forward-looking enough to guide their current behaviours by their expectations of future economic outcomes? They may be, according to the findings of this study.

Did you know, for instance, that sales of ties tend to increase in economic downturns, as men buy more ties to show that they are working harder, in fear of losing their job[1]? But this is probably a topic for another blog.

Articles

Academic papers

Questions

  1. Give two reasons why fertility rates may be a good indicator of economic activity.
  2. Give two reasons why fertility rates may NOT be a good indicator of economic activity.
  3. Do a literature search to identify and explain an ‘unorthodox’ macroeconomic indicator of your choice, and how it has been used to track economic activity.

[1] A brief description of other ‘unorthodox’ trackers of economic activity can be found in this Business Insider article: “54 bizarre ways to track the economy”

Senior Bank of England officials appeared before the House of Commons’ Treasury Select Committee on 21 February to report on the state of the economy and the future path for inflation and interest rates. One topic considered was the role of depreciation.

The pound has depreciated since the referendum on EU membership in June 2016. The exchange rate index today is some 9% below that before the referendum and 15% below the peak a year before the referendum.

It had fallen as much as 14% by October 2016 below the level before the referendum and 20% below its peak, pushed down partly by the cut in Bank Rate from 0.5% to 0.25% following the referendum. In November 2017, the Bank’s Monetary Policy Committee raised Bank Rate back to 0.5%. Two or three more rises of 25 basis points are expected over the next couple of years. This has helped to strengthen sterling somewhat. (Click here for a PowerPoint of the chart below.)

But has the depreciation been advantageous or disadvantageous to the economy? Here the Governor (Mark Carney) and the Chief Economist (Andy Haldane) appeared to differ. Andy Haldane said:

A combination of the weaker pound and a stronger global economy has worked its magic. That has meant that net trade has been a significant contributor, and we expect those effects to continue over the next two or three years. … Depreciations work, and that’s how they work.

By contrast, Mark Carney said:

Depreciations don’t work. They have an economic effect, but they’re not a good economic strategy. They may be an outcome of various things … but it’s how you make yourself poorer.

Are these statements contradictory or are they simply emphasising different effects of depreciation?

Both Andy Haldane and Mark Carney would accept that a depreciation makes imports more expensive and thus reduces real incomes (at least in the short run). They would also accept that a depreciation makes exports priced in pounds cheaper in foreign currency terms and thus can boost the demand for exports.

There is disagreement over two things, however. The first is the effect on people’s real incomes in the long run. Will any fall in real incomes from higher-priced imports in the short run be offset in the long run by higher economic growth?

This relates to a second area of disagreement. This is whether a depreciation can act as a significant driver for exports over the longer term. The increased incentive on the demand side (from consumers abroad to buy UK exports) could be offset by a disincentive for exporters to become more efficient and/or to compete in terms of quality. In other words, although it can give exporters a price advantage, the crucial question is the extent to which they take advantage of this, or merely take higher profits.

The disagreements thus relate primarily to the incentive effects over the longer term.

Articles

Bank of England governor says Brexit has made us poorer – as it happened The Guardian, Graeme Wearden (21/2/18)
Brexit will knock 5% off wage growth, says Mark Carney The Guardian, Phillip Inman (21/2/18)

Video

Treasury Committee: Wednesday 21 February 2018 Parliamentlive.tv (21/2/18) (see from 16:08:00)

Bank of England documents

Treasury Select Committee hearing on the February 2018 Inflation Report Bank of England (21/2/18)
Inflation Report – February 2018 Bank of England (8/2/18)

Data

Interest & exchange rates data Bank of England

Questions

  1. How does a depreciation affect the demand for and supply of imports and exports?
  2. What determines the size of the effect on inflation of a depreciation?
  3. What is the significance of the price elasticity of demand for and supply of sterling in determining the size of depreciation resulting from a change in confidence or a change in interest rates?
  4. How does productivity growth impact on the effectiveness of a depreciation in leading to higher economic growth?
  5. In what ways might a depreciation affect productivity growth?

The Winter Olympics are full on as athletes from all over the world compete against each other, hoping to set new world records, win medals and be known as Olympians. Pyeongchang, the South Korean county that hosts the 2018 Winter games, enjoys a large influx of tourists – estimated at 80,000 people a day. This is certainly an unusually large number of tourists for a region that has a regular winter-time population of no more than 45,000 people.

Having such a high number of visitors to the Winter Olympics, and even more to the larger Summer Olympics, is not an unusual occurrence, however, and it is often mentioned as one of the benefits of being a host to the Olympic Games.

Baade and Matheson (see link below) distinguish between three key benefits of hosting the Olympic Games: “the short-run benefits of tourist spending during the Games; the long-run benefits or the ‘Olympic legacy’, which might include improvements in infrastructure and increased trade, foreign investment, or tourism after the Games; and intangible benefits such as the ‘feel-good effect’ or civic pride”.

On these grounds, a number of studies have been authored, attempting to analyse some or all of these benefits, distinguishing between short-term and long-term effects. Müller (see link below), uses data from the 2014 Oympic Games in Sochi, Russia, to assess the net economic outcome for the host region. He concludes that any short-term economic benefits caused by the investment influx (before and during the games) could not offset the long-term costs, leading to an estimated net loss of $1.2 billion per year.

Zimbalist (2015) and Szymanski (2011) report similar results when analysing data from the London Games (2012) and past major sporting events (Games and FIFA World Cup). Kasimati (2003) points out the significant economic benefits that host regions tend to enjoy for years after hosting the games, but argues that the overall effect depends on a number of factors (including pre-existing infrastructure and location).

The jury is, therefore, still out on what is the overall economic effect of being host to this ancient institution. But I must now dash as women’s hockey is soon to start. “Let everyone shine”.

Articles

For the sake of the games, South Korea needs to show hosting an Olympics can be economically viable CNBC, Yen Nee Lee (15/2/18)
South Korea’s Olympic bet is unlikely to pay off, economics professor says CNBC, Andrew Wong and Andrew Zimbalist (12/2/18)
Going for the Gold: The Economics of the Olympics Journal of Economic Perspectives, Robert A. Baade and Victor A. Matheson (Spring 2016)
After Sochi 2014: Costs and Impacts of Russia’s Olympic Games Eurasian Geography and Economics, Martin Müller (9/4/15)
Circus Maximus: The Economic Gamble Behind Hosting the Olympics and the World Cup The Brookings Institution, Andrew Zimbalist (14/1/15)
About Winning: The Political Economy of Awarding the World Cup and the Olympic Games SAIS Review of International Affairs, Stefan Szymanski (Winter/Spring 2011)
Economic aspects and the Summer Olympics: a review of related research International Journal of Tourism Research, Evangelia Kasimati (4/11/03)
“Let Everyone Shine”: the song for the PyeongChang 2018 Torch Relay unveiled with 200 days to go Olympic Committee (24/7/17)

Video

The Olympic Winter Games PyeongChang 2018 Torch Relay Official Song PyeongChang 2018

Questions

  1. Using supply and demand diagrams, explain whether you would expect hotel room prices to change during the hosting of a major sports event, such as the Winter Olympics.
  2. List three economic (or economics-related) arguments in favour of and against the hosting of the Olympic games. Relate your answer to the empirical evidence presented in the literature.
  3. Why is it so difficult to estimate with accuracy the net economic effect of the Olympic Games?