Demand and supply determine prices, but when it comes to factors of production, such as labour, their ‘price’ is largely influenced by their productivity. This helps to explain why doctors are paid more than cleaners and Premiership footballers more than amateurs. But, can it really explain a £50 million transfer price for Fernando Torres, as he moves from Liverpool to Chelsea? Undoubtedly he’s a good footballer, but are his skills worth the price paid? The same question can be asked about David Luiz – a price of £25 million; Andy Carroll – a price of £36 million and a bargain price for Luis Suarez – a mere £23 million! How can teams, such as Chelsea afford to spend so much money, despite making a loss of £70.9 million in the year to June 2010? How much would they have lost had they not won the Premier league and the FA cup?
With the country facing the possibility of returning to recession and the trouble that Portsmouth FC found itself in last season, UEFA’s ‘financial fair play’ rules seemed like a good idea. But, they appear to have been thrown out the window. £200 million was spent on a handful of footballers, as libraries across the UK are shut down due to a lack of funds. The Premier League in the UK generated a higher income than any other, equal to £2.3 billion. However, 14 of our clubs made substantial losses. The amount owed to banks or the owners backing these clubs came in at a mere £3 billion. As the big clubs in the UK push up the prices, more and more ‘small’ clubs are being competed out of the market.
Torres makes record move from Liverpool to ChelseaBBC Sport(31/1/11)
Chelsea and Liverpool drive astonishing £134 million manic Monday Telegraph, Jason Burt (1/2/11)
Champions Chelsea report £70.9 million loss BBC News (31/1/11)
Chelsea announces 70.9 million pound annual loss despite winning Premier League and FA Cup The Canadian Press, Stuart Condie (1/2/11)
Financial restraint goes out of the window when the big clubs struggle Guardian, David Conn (1/2/11)
Questions
- How are the prices of footballers determined? Use a diagram to illustrate your answer.
- What factors explain why Premier League footballers are paid so much more than those in the Conference?
- What type of market structure is the UK football league?
- As prices are bid upwards, is there an argument that smaller clubs are being competed out of the transfer market? What type of market structure is football becoming?
- How is that Chelsea can make £70 million loss but still have the finance to spend £50 million on new players?
- What policies could be used to ensure lower prices are paid for footballers? Would they be effective and are they needed?
BP has just published its latest projection of energy trends – its Energy Outlook 2030. According to the press release:
World energy growth over the next twenty years is expected to be dominated by emerging economies such as China, India, Russia and Brazil while improvements in energy efficiency measures are set to accelerate.
The following podcast from the Financial Times features a discussion of the report and the factors affecting oil prices and their relationship to economic growth
Webcast
Emerging economies seen driving energy demand Financial Times videos, John Authers and Vincent Boland (19/1/11)
Articles
Energy outlook Financial Times, Lex column (19/1/11)
BP energy outlook: main points The Telegraph (20/1/11)
High energy prices need not mean doom Sydney Morning Herald, Jeremy Warner (21/1/11)
Report
BP Energy Outlook 2030 (January 2011)
Data
Power slide The Economist: Daily Chart (19/1/11)
Questions
- What are the most powerful driving forces behind the demand for energy?
- Why does the report forecast virtually no increase in energy demand in developed countries? What assumptions are made about growth rates in OECD and non-OECD countries?
- What factors would lead to a substitution of sustainable energy sources for fossil fuels? What would detrmine the size of such substitution?
- What is the role of the price elasticity of demand for and supply of oil and the income elasticity of demand for oil in determining oil consumption in different parts of the world?
- Why may high energy prices not necessarily mean ‘doom’?
By measuring the size and growth of the money supply we can begin to assess the appetite for saving, spending, and borrowing by households and firms and the appetite amongst banks and building societies to supply credit. In this blog we use figures released by the Bank of England in Monetary and Financial Statistics (Bankstats) to begin such an assessment. But, of course, the very first problem we face is measuring the money supply: just what should be include in a measure of money?
One measure of money supply is known as M4. It is a broad measure of money reflecting our need to use money to make transactions, but also our desire to hold money as a store of wealth. According to the Bank of England’s figures the amount of M4 money at the end of October was £2.19 trillion. To put this into some context, the GDP figure for 2009 was £1.4 trillion, so the amount of M4 is equivalent to about 1½ times GDP.
What M4 measures is the stock of notes and coins and sterling-denominated deposits held by households, firms (non-financial corporations or NFCs) and other financial corporations (OFCs), such as insurance companies and pension funds. These groups are collectively referred to as the non-bank private sector or sometimes as the M4 private sector. As well as the deposits that most of us are familiar with, such as sight and time deposits, sterling-denominated deposits also include other less well known, but liquid financial products, such as repos (sale and repurchase agreements) and CDs (certificates of deposit). Repos are essentially secured loans, usually fairly short-term, where individuals or organisations can sell some of their financial assets, such as government debt, to banks in return for cash. Certificates of deposit are a form of time deposit where certificates are issued by banks to customers for usually large deposits for a fixed term.
The Bank of England’s figures also allow us to analyse the actual holdings of M4 by households, private non-financial corporations and other financial corporations. Consequently, we can analyse the source of these particular liabilities. Of the £2.19 trillion of M4 money at the end of October, 42% was attributable to OFCs, 11% to PNFCs and 47% to households. Interestingly, the average shares over the past 10 years have been 28% OFCs, 14% NFCs and 58% households. Therefore, there has been a shift in the share of banks’ M4 liabilities away from households and towards other financial corporations (OFCs).
So why the change in the composition of Sterling M4 liabilities held by the banking system? Part of the answer may well be attributable to Quantitative Easing (QE): the Bank of England’s £200 billion purchase of financial assets. It appears that a large part of this asset-purchase strategy has resulted in other financial corporations (OFCs) – our insurance companies and pension funds – exchanging assets like government bonds for cheques from the Bank of England. Of course, these cheques are deposited with commercial banks and the banks are then credited with funds from the Bank of England. A crucial question is whether these deposits have facilitated additional lending to households and firms and so created credit.
A major ‘counterpart’ to the private sector sterling liabilities that comprise M4 is sterling lending by banks to the non-bank private sector. Of particular interest, is lending to that bit of the private sector comprised by households and private non-financial corporations. The latest Bank of England figures show that in October net lending to households (including unincorporated businesses and non-profit making institutions) was £1.5 billion. This compares with a 10-year monthly average of close to £3.9 billion. Meanwhile, net lending to private non-financial corporations in October, which over the past 10 years has averaged just over £2.1 billion per month, was -£2.2 billion. The negative figure for PNFCs indicates that more debt was being repaid by firms to banks than was being borrowed.
The net lending figures indicate that lending by banks to households and firms remains incredibly subdued. This is not to say that QE has in any way failed since one cannot directly compare the current situation with that which would have resulted in the absence of QE. Rather, we note that the additional deposits created by QE do not appear to have fuelled large amounts of additional credit and, in turn, further deposits fuelling further credit. The limited amount of credit creation for households and private non-financial corporations helps to explain the relatively slow growth in the stock of M4 held by households and PNFCs. While the stock of M4 increased by 6% in the year to October from £2.06 trillion last year, the stock held by households and PNFCs grew by around 2½%.
It is of course difficult to fully appreciate the extent to which the subdued lending numbers reflect restricted bank lending despite QE, or the desire for households and firms to improve their respective financial positions. One could argue that both are a symptom of the same thing: the desire for banks, households and firms alike to be less susceptible to debt. Clearly, these balance sheet effects will continue to have a large impact on the economy’s activity levels.
Articles
Business loans and mortgage approvals falls Financial Times, Norma Cohen (29/11/10)
UK mortgage approvals fall, M4 at record low on yr – BOE MarketNews.Com (29/11/10
Drop in mortgage approval levels The Herald, Mark Williamson (29/11/10)
Mortgage approvals dip to eight-month low Independent, Sean O’Grady (30/11/10)
Mortgage approvals fall to six month low BBC News (29/11/10)
Gross lending up £1 billion in October Mortgage Introducer, Sarah Davidson (29/11/10)
Data
M4 statistics are available from the Bank of England’s statistics publication, Monetary and Financial Statistics (Bankstats) (See Tables in Section A.)
Questions
- What do you understand by a narrow and a broad measure of the money supply? Which of these describes the M4 measure? Explain your answer.
- What other liabilities do you think might be included on the balance sheet of the UK’s banking system which are not included in M4?
- What do you understand by credit creation? Explain how the exchange by OFCs (e.g. insurance companies and pension funds) of government debt for cheques from the Bank of England could facilitate credit creation?
- What factors can affect the extent of credit creation by banks? How might these have affected the ability of QE to get banks lending again.
- What is meant by net lending? And, what does a negative net lending figure show?
- What do you understand by ‘balance sheet effects’? Illustrate with respect to households, firms and banks.
It doesn’t seem that long ago when Greece was in the news regarding its deficit and need for bailing out. Back then, countries such as Spain, Portugal and Ireland were being mentioned as the next countries which might require financial assistance from the EU. It is now the Irish economy that is in trouble, even though the Irish government has not yet requested any financial help. The EU, however, is ‘ready to act’.
The Irish economy experienced an extremely strong boom, but they also suffered from the biggest recession in the developed world, with national income falling by over 20% since 2007. Savers are withdrawing their money; property prices continue to collapse; and banks needed bailing out. Austerity measures have already been implemented – tax rises and spending cuts equal to 5% of GDP took place, but it has still not been enough to stabilise the economy’s finances. All of these problems have contributed to a large and unsustainable budget deficit and a significant lack of funding and that’s where the EU and possibly the IMF come in.
If the Irish economy continues to decline and experiences a financial crisis, the UK would probably be one of the first to step in and offer finance. As our closest neighbour and an important trading partner, the collapse of the Irish economy would adversely affect the UK. A significant proportion of our exports go to the Irish economy and, with Irish taxpayers facing troubled times, UK exporting companies may be the ones to suffer.
One thing that this crisis has done is to provide eurosceptics with an opportunity to argue their case and blame the euro for the collapse of Ireland. With one monetary policy, the Irish economy is tied in to the interest rates set by the ECB and low interest rates fuelled the then booming economy. The common currency also increased capital flows from central European countries, such as Germany, to peripheral countries, such as Ireland, Spain and Portugal. In themselves, capital flows aren’t a problem, but when they are used to fund property bubbles and not productive investments, adverse effects are inevitable, as Ireland found to its detriment.
As prices collapsed and banks simply ran out of money, the government stepped in and rescued not only the depositors of Irish banks, but also their bondholders. Unable to devalue their currency, as it’s the euro, the Irish economy was unable to boost exports and hence aggregate demand and in turn economic growth. Although, the Irish government has not requested any financial help, as the French Finance Minister commented about a potential bailout: “Is it six months or a few days away? I’d say it’s closer to days.” The following articles look at this developing situation in Europe.
EU plays down Irish republic bail-out talks BBC News (17/11/10)
Ireland bailout: the European politicians who will decide Telegraph, Phillip Aldrick (17/11/10)
Don’t blame the Euro for Ireland’s mess Financial Times, Phillipe Legrain (17/11/10)
Britain signals intention to help Ireland in debt crisis New York Times, James Kanter and Steven Erlanger (17/11/10)
Ireland will take aid if ‘bank issue is too big’ Irish Times, Jason Michael (17/11/10)
Irish junior party says partnership strained Reuters (17/11/10)
Ireland resists humiliating bail-out as UK pledges £7 billion Telegraph, Bruno Waterfield (17/11/10)
Markets stable as Ireland bailout looms Associated Press (17/11/10)
The implausible in pursuit of the indefensible? BBC News blogs, Stephanomics, Stephanie Flanders (16/11/10)
Ireland bailout worth ‘tens of billions’ of euros, says central bank governor Guardian, Julia Kollewe and Lisa O’Carroll (18/11/10)
The stages of Ireland’s grief BBC News blogs, Stephanomics, Stephanie Flanders (18/11/10)
Q&A: Irish Republic finances BBC News (19/11/10)
Could Spain and Portugal be next to accept bail-outs? BBC News, Gavin Hewitt (19/11/10)
Questions
- Why will the UK be affected by the collapse of the Irish economy?
- If Ireland were not a member of the eurozone, would the country be any better off? How might a floating exchange rate boost growth?
- The Financial Times article talks about the euro not being to blame for the Irish problems, saying that ‘tight fiscal policy’ should have been used. What does this mean?
- Why is the housing market so important to any nation?
- What are the arguments (a) for and (b) against the euro? Would Ireland benefit from leaving the euro?
- Should the UK government intervene to help Ireland? What are the key factors that will influence this decision? What about the EU – should Ireland ask for help? Should the EU give help?
- Austerity measures have already been implemented, but what other actions could the Irish economy take to increase competitiveness?
The possibility of currency and trade wars and how to avert them were major topics at the G20 meeting in Seoul on 11 and 12 November 2010. Some countries, such as the USA and the UK have been running large current account deficits. Others, such as China, Germany and Japan have been running large current account surpluses. But balance of payments accounts must balance. Thus there have been equal and opposite imbalances on the financial plus capital accounts. Large amounts of finance and capital have flowed from the trade-surplus to the trade-deficit countries. In particular China holds a vast amount of US dollar assets: a debt for the USA.
The trade and finance imbalances are linked to exchange rates. The USA has accused China of keeping its exchange rate artificially low, which boosts Chinese exports and further exacerbates the trade and finance imbalances. The USA is keen to see an appreciation of the Chinese yuan (also known as the renminbi). The Chinese response is that the USA is asking China to take medicine to cure America’s disease.
So was the meeting in Seoul successful in achieving a global response to trade and exchange rate problems? Has it averted currency and trade wars? Or were national interests preventing a concrete agreement? The articles look at the outcomes of the talks.
Articles
G20 pledge to avoid currency war gets lukewarm reception Guardian, Phillip Inman and Patrick Wintour (12/11/10)
G20 fails to agree on trade and currencies Financial Times, Chris Giles, Alan Beattie and Christian Oliver (12/11/10)
Main points of the G20 Seoul summit document Reuters (12/11/10)
Factbox: Outcome of the Seoul G20 summit Reuters (12/11/10)
No deal: Seoul’s G20 summit fails to deliver on currencies, trade imbalances The Australian, Laurence Norman and Ian Talley, Dow Jones Newswires (12/11/10)
G20 to tackle US-China currency concerns BBC News (12/11/10)
The expectations game BBC News blogs: Stephanomics, Stephanie Flanders (12/11/10)
Obama: Imbalances threaten growth BBC News (12/11/10)
Obama leaves G-20 empty-handed on currency spat msnbc (12/11/10)
The ghost at the feast The Economist, Newsbook blog (12/11/10)
Forget summit failures, look at G20 record Financial Times, Christian Oliver, Chris Giles and Alan Beattie (12/11/10)
Obama warns nations not to rely on exports to US BBC News (13/11/12)
G20 summit distracted by ‘currency wars’ Guardian, Mark Weisbrot (12/11/10)
Current account targets are a way back to the future Financial Times podcasts, Martin Wolf (2/11/10) (Click here for transcript)
Ben Bernanke hits back at Fed critics BBC News (19/11/10)
Why should you care about currency wars? BBC News, Stephanie Flanders (9/11/10)
G20 sites
G20 Korea, home page
Korean G20 site
2010 G-20 Seoul summit Wikipedia
Questions
- What are the causes of the large trade imbalances in the world?
- What problems arise from large trade imbalances?
- What is meant by beggar-my-neighbour policies?
- Are moves towards freer trade a zero-sum game? Explain.
- Are moves towards protectionism a zero-sum game? Explain.
- Are attempts to get a realignment of currencies a zero-sum game? Explain.
- How successful has the G20 been over the past two or three years?
- Would it be desirable for governments to pursue current account targets?