Why are 43 companies in the pub and restaurant sector in the UK donating over a £1 million to an 86 year old Frenchman who claims to work a 70 hour week? Jacques Borel has led an interesting and varied life which has included activities such as helping the French resistance in the 2nd world war and opening the first take-away hamburger restaurant in France in 1961. In 2001 he started a campaign to get the European Union to allow member states to reduce the rate of VAT applied to food and drink sold in the pub, hotel and restaurant industry. Organisations such as JD Wetherspoon, Heineken and Pizza Hut are backing his attempts to persuade the UK government of the benefits of this policy.
VAT is paid when goods and services are purchased and is normally included in the price advertised by the seller. It generates a significant amount of money for the UK government and it is estimated that it will raise £102 billion in 2012-13 – the third biggest source of revenue after income tax and national insurance contributions. It is applied at three different rates in the UK – a standard rate of 20%, a reduced rate of 5% and a zero rate i.e. 0%. This may sound straightforward but in reality the tax is extremely complicated as previously discussed in articles on this website . For example most basic or staple items of food sold in shops are zero rated. However there are some rather bizarre exceptions. For example a packet of potato crisps is subject to the standard rate of VAT whereas tortilla chips are not. The standard rate is applied to a packet of Wotsits whereas a zero rate is applied to a packet of Skips!
The campaign headed by Mr Borel focuses on the discrepancy between the zero-rate applied to most food items purchased from a shop and the standard rate applied to food purchased in restaurants or cafes. For example, if you buy a Pizza from a supermarket then you don’t pay any tax on this purchase, whereas if you eat a pizza in a restaurant the standard 20% rate of VAT is applied. Mr Borel is lobbying the UK government to reduce the rate of VAT paid in pubs and restaurants from the standard rate of 20% to the reduced rate of 5%. One reason why so many UK companies are willing to offer him financial support is because of his success in getting governments in other countries such as Germany, Belgium, Finland and France to adopt this policy.
In a recent radio interview Mr Borel was asked to make his case for the proposed reduction of VAT in the UK. He claimed:
I have a commitment from 125 chains of hotels, restaurants and independents to use 60% of the reduction in VAT to lower prices so that would be a 7.5% decrease in price. When you decrease price by that magnitude you will see an increase in customers of 10-12% and you will be forced to hire new staff. In our best case scenario, we plan to create 670,000 jobs in three years.
When asked in another interview why the hospitality sector should be favoured more than others he replied that:
It would create more jobs in a minimal amount of time…you cannot do that with any other industry.
One obvious drawback of the policy would be the loss of revenue for the UK government. Some estimates have suggested that the loss of VAT receipts would be between £5.5 and £7.8 billion. However it has been claimed that over time the impact of the change on government finances would be zero. In response to the proposed tax cut a Treasury spokesman commented:
Any reduced rates would make a significant impact on revenue and, as a significant proportion of spending in these areas is by UK residents, any increase in activity in these areas would largely be at the expense of other consumer spending.
Webcast
Jacques Borel: VAT cut for pubs Morning Advertiser on YouTube (18/5/11)
Articles
Industry VAT campaigner Jacques Borel appears on Radio Four’s Today and Radio Five Propelinfo (24/4/13)
French veteran in fight to cut pub VAT Financial Times, Christopher Thompson (5/6/12)
The fiscal impact of reduced VAT rates VAT Club Jobs (22/4/13)
Pub and restaurant groups pay 86-year-old Frenchman £1m to convince UK government to cut VAT The Mail on Sunday, Sarah Bridge (20/4/13)
French veteran seeks British jobs boost with VAT Reuters (17/1/13)
Questions
- In his radio interview Jacques Borel claims that if firms pass on 60% of the cut in VAT this would cause a 7.5% reduction in prices. Explain why this is the case. Clearly outline any assumptions you have made in the analysis
- If 60% of the reduction was passed on by firms through lower prices, what do you think would happen to the money generated from the other 40% of the reduction?
- Using a demand and supply diagram illustrate the proposed reduction in the rate of VAT on the hospitality industry. Make sure your diagram is drawn in such a way that it clearly illustrates producers passing on 60% of the tax reduction in the form of lower prices.
- Assuming that the hospitality industry was very competitive, what impact would a reduction in VAT have on consumer surplus, producer surplus and deadweight welfare loss?
- Explain any assumptions you have in your answer to question 3 about the price elasticity of demand and supply.
- Using the figures provided in the radio interview is it possible to calculate the price elasticity of demand. Try making the calculation and clearly explain any assumptions you have made.
- Explain why the reduction in VAT might have no net effect on government finances in the long run?
- What factors determine the price elasticity of supply? What assumption is Mr Borel making about the price elasticity of supply in the hospitality industry compared to other industries when he makes the claim that jobs would be created quickly?
- Outline some of the arguments against cutting the rate of VAT.
The UK economy faces a growing problem of energy supplies as energy demand continues to rise and as old power stations come to the end of their lives. In fact some 10% of the UK’s electricity generation capacity will be shut down this month.
Energy prices have risen substantially over the past few years and are set to rise further. Partly this is the result of rising global gas prices.
In 2012, the response to soaring gas prices was to cut gas’s share of generation from 39.9% per cent to 27.5%. Coal’s share of generation increased from 29.5% to 39.3%, its highest share since 1996 (see The Department of Energy and Climate Change’s Energy trends section 5: electricity). But with old coal-fired power stations closing down and with the need to produce a greater proportion of energy from renewables, this trend cannot continue.
But new renewable sources, such as wind and solar, take a time to construct. New nuclear takes much longer (see the News Item, Going nuclear). And electricity from these low-carbon sources, after taking construction costs into account, is much more expensive to produce than electricity from coal-fired power stations.
So how will the change in balance between demand and supply affect prices and the security of supply in the coming years. Will we all have to get used to paying much more for electricity? Do we increasingly run the risk of the lights going out? The following video explores these issues.
Webcast
UK may face power shortages as 10% of energy supply is shut down BBC News, Joe Lynam (4/4/13)
Data
Electricity Statistics Department of Energy & Climate Change
Quarterly energy prices Department of Energy & Climate Change
Questions
- What factors have led to a rise in electricity prices over the past few years? Distinguish between demand-side and supply-side factors and illustrate your arguments with a diagram.
- Are there likely to be power cuts in the coming years as a result of demand exceeding supply?
- What determines the price elasticity of demand for electricity?
- What measures can governments adopt to influence the demand for electricity? Will these affect the position and/or slope of the demand curve?
- Why have electricity prices fallen in the USA? Could the UK experience falling electricity prices for similar reasons in a few years’ time?
- In what ways could the government take into account the externalities from power generation and consumption in its policies towards the energy sector?
The UK government has just given the go-ahead for the building of two new nuclear reactors at Hinkley Point in Somerset. The contract to build and run the power station will go to EDF, the French energy company.
The power station is estimated to cost some £14 billion to build. It would produce around 7% of the UK’s electricity. Currently the 16 nuclear reactors in the UK produce around 19%. But all except for Sizewell B in Suffolk are due to close by 2023, although the lives of some could be extended. There is thus a considerable energy gap to fill in the coming years.
Several new nuclear power stations were being considered to help fill this gap, but with rising capital costs, especially following the Fukushima disaster in Japan, potential investors pulled out of other negotiations. Hinkley Point is the only proposal left. It’s not surprising that the government wants it to go ahead.
All that remains to agree is the price that EDF can charge for the electricity generated from the power station. This price, known as the ‘strike price’, is a government-guaranteed price over the long term. EDF is seeking a 40-year deal. Some low carbon power stations, such as nuclear and offshore wind and wave power stations, have high capital costs. The idea of the strike price is to reduce the risks of the investment and make it easier for energy companies to estimate the likely return on capital.
But the strike price, which will probably be agreed at around £95 per megawatt hour (MWh), is roughly double the current wholesale price of electricity. EDF want a price of around £100 per MWh, which is estimated to give a return on capital of around 10%. The government was hoping to agree on a price nearer to £80 per MWh. Either way, this will require a huge future subsidy on the electricity generated from the plant.
There are several questions being asked about the deal. Is the strike price worth paying? Are all the costs and benefits properly accounted for, including environmental costs and benefits and safety issues? Being an extremely long-term project, are uncertainties over costs, performance of the plant, future market prices for electricity and the costs of alternative forms of power generation sufficiently accounted for? Will the strike price contravene EU competition law? Is the timescale for construction realistic and what would be the consequences of delays? The articles consider these questions and raise a number of issues in planning very long-term capital projects.
Articles
Hinkley Point: Britain’s second nuclear age given green light as planning permission is approved for first of new generation atomic power stations Independent, Michael McCarthy (19/3/13)
Will they or won’t they? New nuclear hangs in the balance ITV News, Laura Kuenssberg (19/3/13)
Hinkley Point C: deal or no deal for UK nuclear? The Telegraph, Alistair Osborne (19/3/13)
New nuclear power plant at Hinkley Point C is approved BBC News (20/3/13)
Britain’s Plans for New Nuclear Plant Approach a Decisive Point, 4 Years Late New York Times, Stanley Reed and Stephen Castle (15/3/13)
Nuclear power plans threatened by European commission investigation The Guardian (14/3/13)
New Hinkley Point nuclear power plant approved by UK government Wired, Ian Steadman (19/3/13)
Renewable energy providers to help bear cost of new UK nuclear reactors The Guardian, Damian Carrington (27/3/13)
Europe backs Hinkley nuclear plant BBC News (8/10/14)
Information/Reports/Journal Articles
Environmental permitting of Hinkley Point C Environment Agency
NNB Generation Company Limited, Radioactive Substances Regulations, Environmental Permit Application for Hinkley Point C: Chapter 7, Demonstration of Environmental Optimisation EDF
Greenhouse Gas Emission of European Pressurized Reactor (EPR) Nuclear Power Plant Technology: A Life Cycle Approach Journal of Sustainable Energy & Environment 2, J. Kunakemakorn, P. Wongsuchoto, P. Pavasant, N. Laosiripojana (2011)
Questions
- Compare the relative benefits of a construction subsidy and a subsidised high strike price from the perspectives of (a) the government (b) EDF.
- What positive and negative externalities are involved in nuclear power generation?
- What difficulties are there in valuing these externalities?
- What is meant by catastrophic risk? Why is this difficult to take account of in any cost–benefit analysis?
- What is meant by a project’s return on capital? Explain how discounted cash flow techniques are used to estimate this return.
- What should be taken into account in deciding the rate of discount to use?
- How should the extra jobs during construction of the plant and then in the running of the plant be valued when making the decisions about whether to go ahead?
As part of the Basel III round of banking regulations, representatives of the EU Parliament and member governments have agreed with the European Commission that bankers’ bonuses should be capped. The proposal is to cap them at 100% of annual salary, or 200% with the agreement of shareholders. The full Parliament will vote in May and then it will go to officials from the 27 Member States. Under a system of qualified majority voting, it is expected to be accepted, despite UK resistance.
The main arguments in favour of a cap are that it will reduce the focus of bankers on short-term gains and reduce the incentive to take excessive risks. It will also appease the anger of electorates throughout the EU over bankers getting huge bonuses, especially in the light of the recession, caused in major part by the excesses of bankers.
The main argument against is that it will drive talented top bankers to countries outside the EU. This is a particular worry of the UK government, fearful of the effect on the City of London. There is also the criticism that it will simply drive banks into increasing basic salaries of senior executives to compensate for lower bonuses.
But it is not just the EU considering curbing bankers’ pay. The Swiss have just voted in a referendum to give shareholders the right to veto salaries and bonuses of executives of major companies. Many of these companies are banks or other financial sector organisations.
So just what will be the effect on incentives, banks’ performance and the movement of top bankers to countries without such caps? The following videos and articles explore these issues. As you will see, the topic is highly controversial and politically charged.
Meanwhile, HSBC has revealed its 2012 results. It paid out $1.9bn in fines for money laundering and set aside a further $2.3bn for mis-selling financial products in the UK. But its underlying profits were up 18%. Bonuses were up too. The 16 top executives received an average of $4.9m each. The Chief Executive, Stuart Gulliver, received $14.1m in 2012, 33% up on 2011 (see final article below).
Webcasts and podcasts
EU moves to cap bankers bonuses Euronews on Yahoo News (1/3/13)
EU to Curb Bank Bonuses WSJ Live (28/2/13)
Inside Story – Curbing Europe’s bank bonuses AlJazeera on YouTube (1/3/13)
Will EU bonus cap ‘damage economy’? BBC Radio 4 Today Programme (28/2/13)
Swiss back curbs on executive pay in referendum BBC News (3/3/13)
Has the HSBC scandal impacted on business? BBC News, Jeremy Howell (4/3/13)
Articles
Bonuses: the essential guide The Guardian, Simon Bowers, Jill Treanor, Fiona Walsh, Julia Finch, Patrick Collinson and Ian Traynor (28/2/13)
Q&A: EU banker bonus cap plan BBC News (28/2/13)
Outcry, and a Little Cunning, From Euro Bankers The New York Times, Landon Thomas Jr. (28/2/13)
Bank bonuses may shrink – but watch as the salaries rise The Observer, Rob Taylor (3/3/13)
Don’t cap bank bonuses, scrap them The Guardian, Deborah Hargreaves (28/2/13)
Capping banker bonuses simply avoids facing real bank problems The Telegraph, Mats Persson (2/3/13)
Pro bonus The Economist, Schumpeter column (28/2/13)
‘The most deluded measure to come from Europe since fixing the price of groceries in the Roman Empire’: Boris Johnson attacks EU banker bonus cap Independent, Gavin Cordon , Geoff Meade (28/2/13)
EU agrees to cap bankers’ bonuses BBC News (28/2/13)
Viewpoints: EU banker bonus cap BBC News (28/2/13)
Voters crack down on corporate pay packages swissinfo.ch , Urs Geiser (3/3/13)
Swiss voters seen backing executive pay curbs Reuters, Emma Thomasson (3/3/13)
Swiss referendum backs executive pay curbs BBC News (3/3/13)
Voters in Swiss referendum back curbs on executives’ pay and bonuses The Guardian, Kim Willsher and Phillip Inman (3/3/13)
Swiss vote for corporate pay curbs Financial Times, James Shotter and Alex Barker (3/3/13)
HSBC pays $4.2bn for fines and mis-selling in 2012 BBC News (4/3/13)
Questions
- How does competition, or a lack of it, in the banking industry affect senior bankers’ remuneration?
- What incentives are created by the bonus structure as it is now? Do these incentives result in desirable outcomes?
- How would you redesign the bonus system so that the incentives resulted in beneficial outcomes?
- If bonuses are capped as proposed by the EU, how would you assess the balance of advantages and disadvantages? What additional information would you need to know to make such an assessment?
- How has the relationship between banks and central banks over the past few years created a moral hazard? How could such a moral hazard be eliminated?
From early January to late February 2013, the average pump price of petrol in the UK rose by over 6p per litre – a rise of 4.7% in just seven weeks. There have also been substantial rises in the price of diesel.
The higher prices reflect a rise in the dollar wholesale price of oil and a depreciation in the pound. From 2 January to 21 February the pound fell from $1.63 to $1.53 – a depreciation of 6.1% (see). Crude oil prices (in dollars) rose by just under 7% over this period. With oil imports priced in dollars, a weaker pound pushes up the price of oil in the UK. The price has then been pushed up even higher by speculation, fuelled by the belief that prices have further to rise.
The higher price of road fuel, plus the general squeeze on living standards from the recession, with prices rising faster than wages, has caused a reduction in the consumption of road fuel. Petrol sales have fallen to their lowest level for 23 years. Sales in January 2013 were 99m litres down on the previous month’s sales of 1564m litres (a fall of 6.3%).
Not surprisingly motorists’ groups have called for a reduction in fuel taxes to ease the burden on motorists. They also argue that this will help to drive recovery in the economy by leaving people with more money in their pockets.
Equally not surprisingly, those concerned about the environment have welcomed the reduction in traffic, as have some motorists who like the quieter roads, allowing journey times to be cut, with resulting reductions in fuel consumption per mile.
The following videos and articles discuss the causes of the most recent fuel price rises and also examine the responsiveness of demand to these higher prices and to the reductions in real incomes.
Webcasts
Rising petrol prices are ‘forcing drivers off the road’ BBC News, Richard Westcott (22/2/13)
Fuel prices ‘forcing drivers off road’ – AA BBC News (22/2/13)
Fuel Prices Head For Highest Level Ever Sky News (22/2/13)
Commodities Next Week: Fuel Prices Hit Fresh 2013 Highs CNBC (22/2/13)
Ministers to blame for high fuel prices, says competition watchdog The Telegraph, Peter Dominiczak (30/1/13)
Articles
Petrol price surge adds 6.24p to a litre in a month The Guardian (22/2/13)
Petrol prices set for record highs as speculators and weak pound drive up pump costs again This is Money (22/2/13)
How are motorists saving fuel? NNC Magazine, Tom Geoghegan (9/3/11)
AA Report
Fuel Price Report (February 2013)
Data
Weekly road fuel prices Department of Energy and Climate Change
Energy consumption in the UK Department of Energy and Climate Change
Oil and oil products: section 3, Energy Trends Department of Energy and Climate Change
Europe Brent Spot Price FOB (Dollars per Barrel) US Energy Information Administration
Crude Oil (petroleum), Price index Monthly Price – Index Number Index Mundi
Questions
- Is it possible to calculate the price elasticity of demand for petrol from the data given? Try making the calculation.
- How important is the ceteris paribus (other things being equal) assumption when calculating the price elasticity of demand for petrol?
- Why is the long-run price elasticity of demand for road fuel likely to different from the short-run price elasticity?
- If wholesale oil prices go up by x%, will prices at the pumps go up by approximately x% or by more or less then x%? Similarly, if the pound depreciates by y% would you expect prices at the pumps go up by approximately y% or by more or less then y%? Explain.
- How has speculation affected fuel prices? Is this effect likely to persist? Explain.
- Under what circumstances would a reduction in road fuel taxes help to drive the recovery? Are such circumstances likely?
- Which groups in society suffer most from higher fuel prices? Is this reflected in their price elasticity of demand and if so why?
- Is a rise in fuel prices above inflation likely to increase or decrease inequality in living standards? Explain.
- Should externalities from fuel consumption and production be taken into account when setting the duty on petrol and diesel and, if so, what would be the implication for prices?
Why are 43 companies in the pub and restaurant sector in the UK donating over a £1 million to an 86 year old Frenchman who claims to work a 70 hour week? Jacques Borel has led an interesting and varied life which has included activities such as helping the French resistance in the 2nd world war and opening the first take-away hamburger restaurant in France in 1961. In 2001 he started a campaign to get the European Union to allow member states to reduce the rate of VAT applied to food and drink sold in the pub, hotel and restaurant industry. Organisations such as JD Wetherspoon, Heineken and Pizza Hut are backing his attempts to persuade the UK government of the benefits of this policy.
