Category: Essential Economics for Business: Ch 01

“There are ‘incredible economies of scale in cloud computing’ that make it a compelling alternative to traditional enterprise data centers.” According to the first article below, cloud computing represents a step change in the way businesses are likely to handle data or use software. Rather than having their own servers with their own programs, they use a centralised service or ‘public cloud’, provided by a company such as Microsoft, Google or Amazon Web Services. The cloud is accessed via the Internet or a dedicated network. It can thus be accessed not only from company premises but by mobile workers using tablets or other devices and thus makes telecommuting more cost effective.

There are considerable economies of scale in providing these computing services, with the minimum efficient scale considerably above the output of individual users. By accessing the cloud, individual users can benefit from the low average costs achieved by the cloud provider without having to invest in, and frequently update, the hardware and software themselves.

In the case of large companies, rather than using a public cloud, they can use a ‘private cloud’. This is hosted by the IT department in the company and achieves economies of scale at this level by removing the need for individual departments to purchase their own software and servers. Of course, the costs of providing the cloud is borne by the company itself and thus the benefits of lower up-front IT capital costs are reduced. This is clearly a less radical development and is really only an extension of the policy of many companies over the years of having centralised servers holding data and various software packages.

In autumn 2010, EMC Computer Systems commissioned economists at the Centre for Economics and Business Research (cebr) to quantify the full impact that cloud computing will have over the years ahead. According to the report, The Cloud Dividend:

The Cebr’s research calculates that €177.3 billion per year will be generated by 2015, if companies across Europe’s five largest economies continue to adopt cloud technology as expected.

The Cebr found that the annual economic benefit of cloud computing, by 2015, will be:
• France – €37.4 billion
• Germany – €49.6 billion
• Italy – €35.1 billion
• Spain – €25.2 billion
• UK – €30.0 billion

Will the ability of cloud computing to drive down the costs of IT mean that a new revolution is underway? Just how significant are the economies of scale and are they likely to grow as cloud providers themselves grow in size and experience? The following articles look at some of the issues.

Articles

Reports and information

Questions

  1. What specific economies of scale are achieved through cloud computing?
  2. Why might the minimum efficient scale of cloud computing services be above the level of output of many companies?
  3. What are the downsides to cloud computing?
  4. How would you set about assessing the statement that we are on the brink of a fundamental revolution in business computing?
  5. Why are customer-heavy sectors, such as financial services, utilities, governments, leisure and retail, expected to buy into the concept fastest?
  6. How can product life cycle analysis help to understand the stages in the adoption of cloud computing?

We’ve had numerous examples in recent years of the economic turmoil that natural disasters can have and unfortunately, we have another to add to the list: the Japanese earthquake and tsunami. As Japan tries to take stock of the damage and loss of life, the economic consequences of this disaster will also need considering. The previous Kobe earthquake cost the economy an estimated 2% of GDP, but this did hit a key industrial area. The economic consequences of the 2011 earthquake were originally not thought to be as bad, but the economy will undoubtedly suffer.

The Japanese economy, like the UK, shrank in the final quarter of 2010, but was expected to return to growth. The devastation of the earthquake and tsunami is now likely to delay this economic recovery. Many car companies are based in Japan and are expected to take some of the biggest hits. Nomura analysts suggested that annual operating profits of companies such as Toyota, Nissan and Honda would be dented by between 3% and 8%. You only have to look at some of the footage of the disaster to see why this is expected. Supply chains will undoubtedly be disrupted, many of whom are located in the exclusion zone and financial markets across the world have fallen, as the possibility of a nuclear disaster threatens. As Louise Armistead writes:

‘By lunchtime in Britain £32bn had been knocked off the value of the FTSE-100 dropped, which fell by more than 3pc in early trading but recovered later to close down 1.38pc at 5,695.28. Germany’s DAX plunged 3.19pc, recovering from a 4.8pc fall, and France’s CAC ended the day 3.9pc lower, while on Wall Street, the Dow Jones Industrial Index dropped 2pc shortly after opening.’

A key question will be whether Japanese reconstruction will push the economy out of its deflationary spiral or make it even worse.

GDP measures the value of output produced within the domestic economy, but it is by no means an accurate measure of a country’s standard of living. Whilst it will take into account new construction that will be required to rebuild the economy, it doesn’t take into account the initial destruction of it. As output and growth are expected to fall in the immediate aftermath, we may see a boost to growth, as reconstruction begins.

The problem of scarcity is becoming more and more apparent to many survivors, as they begin to run short of basic necessities, which has led to various rationing mechanisms being introduced. Despite the devastating conditions which survivors now find themselves in, when supplies are delivered, the efficiency of Japan is still very evident. As noted by BBC Radio 4 coverage, as soon as the supplies arrived, a line was in place to unload the van in minutes. Teams have been set up to help everyone get through the tragedy. Even in the most devastating of times, Japanese efficiency still shines through and undoubtedly this will be a massive aid in the huge re-construction projects that we will see over the coming months and even years. Analysts say that there will be short term pain, but that the investment in construction will boost the economy later in the year.

Japanese earthquake: Markets shed £1trillion amid nuclear fears Telegraph, Louise Armistead (16/3/11)
Panic over Japan triggers market turmoil Independent, Nikhil Kumar (16/3/11)
Japan quake: Economy ‘to rebound’ after short term pain BBC News (14/3/11)
Japan disaster: The cost of a crisis Guardian (16/3/11)
Global stock markets tumble in ‘perfect storm’ amid fears of nuclear disaster Mail Online, Hugo Duncan (16/3/11)
Japan’s earthquake will cause a global financial aftershock Guardian, Peter Hadfield (15/3/11)
Economists’ estimate of Japan quake impact Reuters (16/3/11)
Fukishima factor adds pressure to economic fallout from Japan’s crisis Guardian, Larry Elliott (15/3/11)

Questions

  1. What is the likely impact on Japan’s GDP?
  2. Why is the potential disruption to the supply chain important for a firm?
  3. How and why will this catastrophe affect global financial markets?
  4. What are some of the main problems of using GDP as a measurement for growth? Think about the impact on GDP of Japan’s destruction and their future re-construction.
  5. What types of production methods etc have Japan implemented to allow them to become so efficient in production?
  6. What are the arguments to suggest that this disaster might help the Japanese economy recover from its deflationary spiral? What are the arguments to suggest that it might make it worse?
  7. What are some other examples of natural disasters or human errors that have also had economic consequences?

Economics studies scarcity and the allocation of resources. Central to societies’ economic objectives is the reduction in scarcity and central to that is economic growth. Certainly, economic growth is a major objective of all governments. They know that they will be judged by their record on economic growth.

But what do we mean by economic growth? The normal measure is growth in GDP. But does GDP measure how much a society benefits? Many people argue that GDP is a poor proxy for social benefit and that a new method of establishing the level of human well-being and happiness is necessary.

And it’s not just at macro level. As we saw in a previous news article, A new felicific calculus? happiness and unhappiness are central to economists’ analysis of consumer behaviour. If we define ‘utility’ as perceived happiness, standard consumer theory assumes that rational people will seek to maximise the excess of happiness over the costs of achieving it: i.e. will seek to maximise consumer surplus.

There have been three recent developments in the measurement of happiness. ‘Understanding Society’ is a £48.9m government-funded UK study following 40,000 households and is run by the Institute of Social and Economic Research (ISER) at the University of Essex. It has just published its first findings (see link below).

The second development is the work by the ONS on developing new measures of national well-being and includes a questionnaire asking about the things that matter to people and which should be included in a measure or measures of national well-being.

The third development will be an addition of five new questions to the Integrated Household Survey:

• Overall, how satisfied are you with your life nowadays?
• Overall, how happy did you feel yesterday?
• Overall, how anxious did you feel yesterday?
• Overall, to what extent do you feel the things you do in your life are worthwhile?

But after all this, will we be any closer to getting a correct measure of human well-being? Will the results of such investigations help governments devise policy? Will the government be closer to measuring the costs and benefits of any policy decisions?

Articles

ONS site

Understanding Society site

Questions

  1. For what reasons might GDP be a poor measure of human well-being?
  2. How suitable is a survey of individuals for establishing the nation’s happiness?
  3. How suitable are each of the four specific questions above for measuring a person’s well-being?
  4. Why, do you think, has average life satisfaction not increased over the past 30 years despite a substantial increase in GDP per head?
  5. Give some examples of ways in which national well-being could increase for any given level of GDP. Explain why they would increase well-being.
  6. Should other countries follow Bhutan’s example and use a ‘groass national happiness index’ to drive economic and social policy?
  7. If human well-being could be accurately measured, should that be the sole driver of economic and social policy?
  8. Do people’s spending patterns give a good indication of the things that give them happiness?

Are we heading for ‘perfect storm’ in commodity production and prices? Certainly the prices of many commodities have soared in recent months. These include the prices of foodstuffs such as dairy products, cooking oils and cereals, crude oil, cotton, metals and many other raw materials. The overall world commodity price index has risen by 28% in the past 12 months. The following are some examples of specific commodities:

Price rises in the 12 months to February 2011

• Wheat 62%
• Maize 59%
• Coffee 70%
• Beef 39%
• Sugar 46%
• Palm kernal oil 142%
• Soybean oil 50%
• All food price index 32%
• Crude oil 20%
• Cotton 132%
• Fine wool 55%
• Softwood timber 25%
• Iron ore 78%
• Copper 29%
• Tin 55%
• All metals index 58%
• Rubber 79%.

The problems are both short term and long term, and on both the demand and supply sides; and the effects will be at micro, macro and global levels. Some hard choices lie ahead.

The following webcast, articles and reports explore both the current position and look into the future to ask whether rising commodity prices are likely to continue or even accelerate.

The first link is to a BBC World Debate which considers the following issues: “Is scarcity of natural resources a serious challenge for developing and advanced economies? How great is the risk that scarcity might lead to conflict, both within and between nations? Might a scramble for resources lead to a retreat from globalisation and to greater protectionism?”

Webcast
World Debate: Resources BBC World Debate, Louise Arbour, President and CEO, International Crisis Group; James Cameron, Global Agenda Council on Climate Change; He Yafei, Ambassador and Permanent Representative of China to the UN; Malini Mehra, Founder and CEO, Centre for Social Markets; Kevin Rudd, Minister of Foreign Affairs, Australia (19/1/11)

Articles
Global Food Prices Continue to Rise Reuters, Steve Savage (7/3/11)
The 2011 oil shock The Economist (3/3/11)
Global Food Prices Will Probably Be Sustained at Record This Year, UN Says Bloomberg, Supunnabul Suwannaki (9/3/11)
Food prices to stay high as oil costs, weather weigh livemint.com, Apornrath Phoonphongphiphat (9/3/11)
‘Perfect storm’ threatens agriculture in developing nations Manila Bulletin, Lilybeth G. Ison (9/3/11)
IMF sees no immediate respite from high food prices Commodity Online (7/3/11)
Drought, supply, speculation drive world food prices to record high NZ Catholic (8/3/11)
The Factors Affecting Global Food Prices Seeking Alpha, David Hunkar (7/3/11)
World food prices climb to record as UN sounds alarm on further shortages FnBnews (India), Rudy Ruitenberg (9/3/11)
Food crisis: It’s a moral issue for all of us New Straits Times (Malaysia), Rueben Dudley (8/3/11)
Oil prices: Green light from the black stuff Guardian (5/3/11)
Cotton hits $2 a pound Guardian, Terry Macalister (17/2/11)
Supermarkets are raising prices faster than inflation, says UBS The Telegraph, Philip Aldrick (1/3/11)
What next for commodity prices? BBC News, Jamie Robertson (5/5/11)

Reports
FAO Cereal Supply and Demand BriefFood & Agriculture Organization, United Nations (March 2011)
Rising Prices on the Menu Finance & Development (IMF), Thomas Helbling and Shaun Roache (March 2011)

Data
Commodity prices Index Mundi
Commodities Financial Times, market data

Questions

  1. Identify the various factors that are causing rises in commodity prices. In each case state whether they are supply-side or demand-side factors.
  2. How can the price elasticity of demand and supply, the income elasticity of demand and the cross-price elasticity of demand be used to analyse the magnitude of the price rises?
  3. To what extent are rising food prices the result of (a) short-term (i.e. reversible) factors; (b) long-term trends?
  4. Why are food prices in the shops rising faster in the UK than in many other countries?
  5. To what extent is the future of food security and prices and moral issues?
  6. Why may current oil price rises become an opportunity for the future?
  7. What might be the respective roles be of government, business and consumers in responding to natural resource constraints?

Business leaders and politicians pay a great deal of attention to economic forecasts. And yet these forecasts often turn out to be quite wrong. Very few economists predicted the banking crisis of 2008 and the subsequent credit crunch and recession. And the recently released 2010 Q4 growth figures for the UK economy, which showed a decline in real GDP of 0.5%, took most people by surprise.

What is more, forecasters often disagree. If, for example, you look at the forecasts made by various panel members for Consensus Forecasts, you can see the divergence between their various predictions.

So why is economic forecasting so unreliable? Is it the fault of economic models? Or are there too many unpredictable factors that can impact on economies – factors such as business and consumer confidence, or political events, or natural disasters, such as the recent floods in Australia, South Africa and Brazil? Will economic forecasting always be a very inexact science?

Articles
Davos 2011: Why do economists get it so wrong? BBC News, Tim Weber (27/1/11)
Popular Semi-Science Slate, Robert J. Shiller (24/1/11)
Fed Often Gets It Wrong In Its Forecasts on US Economy American Public Media, Justin Wolfers (26/1/11)
Don’t bet on economic forecasting CNBC, Jeff Cox (21/9/10)

Forecasts
Forecasts for the UK economy HM Treasury
Econ Stats: The Economic Statistics and Indicators Database Economy Watch (large database of worldwide annual statistics, including forecasts to 2015)
World Economic Outlook IMF (follow link in right-hand panel)
OECD Economic Outlook: Statistical Annex OECD
European Economic Forecasts European Commission, Economic and Financial Affairs DG

Questions

  1. For what reasons may economic forecasts turn out to be wrong?.
  2. To what extent is economic forecasting like weather forecasting? Which is harder and why?
  3. Wo what extent can the poor accuracy of economic forecasts be blamed on the application of the ‘wrong type of economics’?
  4. How much variation is there in the independent forecasts of the UK economy reported by the Treasury (see HM Treasury link above)?
  5. Using the HM Treasury link, compare the forecasts made of 2010 in January 2010 with those made of 2010 in January 2011. Attempt an explanation of the differences.