Category: Podcasts and Videos

20 July 201320 July 2013

The London Olympics legacy: a cost–benefit analysis

Did the benefits of the London Olympics outweigh the costs? The government’s UK Trade and Industry (part of the Department of Business, Innovation & Skills) has just published a report, London 2012, Delivering the economic legacy, which itemises the economic benefits of the games one year on. It claims that benefits to date are some £9.9 billion.

This compares with costs, estimated to be somewhere between £8.9 billion and £9.3 billion, although this figure does not include certain other costs, such as maintenance of the stadium. Nevertheless, according to the figures, even after just a year, it would seem that the Games had ‘made a profit’ – just.

The £9.9 billion of benefits consist of £5.9 billion of additional sales, £2.5 billion of additional inward investment and £1.5 billion of Olympic-related high value opportunities won overseas. Most of these can be seen as monetary external benefits: in other words, monetary benefits arising from spin-offs from the Games. The ‘internal’ monetary benefits would be largely the revenues from the ticket sales.

In a separate report for the Department of Culture, Media & Sport, Report 5: Post-Games Evaluation, it has been estimated that the total net benefits (net gross value added (GVA)) from 2004 to 2020 will be between £28 billion and £41 billion.

But benefits are not confined just to internal and external monetary benefits: there are also other externalities that are non-monetary. The Culture, Media & Sport report identified a number of these non-monetary externalities. The Summary Report itemises them. They include:

• The health and social benefits of more people participating in sport
• Inspiring a generation of children and young people
• A catalyst for improved elite sporting performance in the UK
• Setting new standards for sustainability
• Improved attitudes to disability and new opportunities for disabled people to participate in society
• Greater social cohesion as communities across the UK engaged with the Games
• Increased enthusiasm for volunteering
• Accelerated physical transformation of East London
• Beneficial socio-economic change in East London
• Important lessons learned for the co-ordination and delivery of other large-scale public and public/private projects

But with any cost–benefit analysis there are important caveats in interpreting the figures. First there may be monetary and non-monetary external costs. For example, will all the effects on social attitudes be positive? Might greater competitiveness in sport generate less tolerance towards non sporty people? Might people expect disabled people to do more than they are able (see)? Second, the costs generally precede the benefits. This then raises the question of what is the appropriate discount rate to reduce future benefits to a present value.

Perhaps the most serious question is that of the quantification of benefits. It is important that only benefits that can be attributed to the Games are counted and not benefits that would have occurred anyway, even if connected to the Games. For example, it is claimed in the UK Trade & Industry report that much of the Olympic park and stadium for the Winter Olympics in Russia was “designed and built by British businesses”. But was this the direct result of the London Olympics, or would this have happened anyway?

Another example is that any inward investment by any company that attended the London Olympics is counted in the £2.5 billion of additional inward investment (part of the £9.9 billion). As the London Evening Standard article below states:

In London, it credited the Games with helping seal the deal for the £1.2 billion investment in the Royal Albert Docks by Chinese developer ABP, the £1 billion investment in Croydon by Australian shopping centre developer Westfield with UK firm Hammerson and the £700 million investment in Battersea Nine Elms by Dalian Wander Group.

It is highly likely that some or all of these would have gone ahead anyway.

Then there are the £5.9 billion of additional sales. These are by companies which engaged with the Olympics. But again, many of these sales could have taken place anyway, or may have displaced other sales.

Many cost–benefit analyses (or simply ‘benefit analyses’) concern projects where there are strong vested interests in demonstrating that a project should or should not go ahead or, in this case, have gone ahead. The more powerful the vested interests, the less likely it is that the analysis can be seen as objective.

Questions

Distinguish between gross and net benefits; monetary and non-monetary externalities; direct costs (or benefits) and external costs (or benefits).
How should the discount rate be chosen for a cost–benefit analysis?
Give some examples of monetary and non-monetary external costs of the Games.
What are the arguments for and against including non-monetary externalities in a cost–benefit analysis?
Why might the £9.9 billion figure for the monetary benefits of the Games up to the present time be questioned?

8 July 201315 July 2013

A balancing act

There’s some good news and some bad news about the UK economy. The good news is that there are signs that the recovery is gathering momentum; the ‘green shoots’ are growing bigger. The bad news is that it’s the ‘wrong type of growth’!

One of the main underlying problems of the 2008 financial crisis was that household debt had been increasing to unsustainable levels, egged on by banks only too willing to lend, whether as personal loans, on credit cards or through mortgages. When the recession hit, many people sought to reduce their debts by cutting back on spending. This further fuelled the recession.

What the government and most economists hoped was that there would be some rebalancing of the economy, with less reliance on consumer spending to drive economic growth. Instead it was hoped that growth would be driven by a rise in investment and exports. Indeed, the 25% depreciation of sterling exchange between 2007 and 2009 was seen as a major advantage as this would boost the demand for exports and encourage firms to invest in the export sector.

But things haven’t turned out the way people hoped. The recession (or lack of growth) has been much deeper and more prolonged than previous downturns in the economy. Today, real GDP per head is more than 7% below the level in 2007 and many people have seen much bigger declines in their living standards.

But also, despite the austerity policies, the economy has not been ‘rebalanced’ towards exports and investment. Exports are 3% lower than in 2006 (although they did grow between 2009 Q2 and 2011 Q1, but have since stagnated). And investment is 27% lower than in 2006. Household consumption, however, has grown by about 2% and general government consumption by around 9% since 2006. The chart shows the figures, based on 2006 Q1 = 100.
(Click here for a PowerPoint of the chart.)

And recent evidence is that consumption is beginning to grow faster – not because of rising household incomes, but because of falling saving rates. In 2008, the household saving ratio had fallen to nearly 0% (i.e. households were on average saving about the same as they were borrowing). Then the saving ratio rose dramatically as people reined in their spending. Between 2009 and 2012, the ratio hovered around 7%. But in the first quarter of 2013, it had fallen to 4.2%

So the good news is that aggregate demand is rising, boosting economic growth. But the bad news is that, at least for the time being, this growth is being driven by a rise in household borrowing and a fall in household saving. The videos and articles consider whether this is, however, still good news on balance.

Webcasts

Britain’s imbalanced economy The Economist, Zanny Minton Beddoes and Richard Davies (4/7/13)
Britain’s Export Drought: an enduring disappointment The Economist, Andrew Palmer and Richard Davies (9/2/13)
‘Green shoots’ of economic recovery in Rugby BBC News, Paul Mason (12/6/13)

Articles

Is the UK economy seeing the ‘wrong kind’ of green shoots? BBC News, Stephanie Flanders (3/7/13)
The export drought: Better out than in The Economist (9/2/13)
Exports and the economy: Made in Britain The Economist (21/1/12)
The economy: On a wing and a credit card The Economist (6/7/13)
Unbalanced and unsustainable – this is the wrong kind of growth The Telegraph, Jeremy Warner (8/7/13)
The UK economy’s looking up – but no one’s told manufacturers The Guardian, Heather Stewart (10/7/13)

Data

Quarterly National Accounts, Q1 2013 (27/6/13)
Forecasts for the UK economy: a comparison of independent forecasts HM Treasury (June 2013)
ISM Manufacturing Report on Business® PMI History Institute for Supply Management

Questions

What are forecasters expecting to happen to economic growth in the coming months? Why?
What factors determine investment? Why has it fallen so substantially in the UK?
Explain what is meant by the ‘accelerator’. Is the rise in consumption likely to lead to an accelerator effect and, if so, what will determine the size of this effect?
Why have exports not grown more rapidly despite the depreciation of sterling after 2007?
What will determine the rate of potential economic growth in the UK economy? How will a rise in real GDP driven by a rise in consumption impact on potential GDP and potential economic growth?
What supply-side policies would you recommend, and why, in order to increase potential economic growth?

7 July 20138 July 2013

CAPping agricultural support in the EU

The European Parliament, Council and Commission have agreed on reform to the Common Agricultural Policy as part of the EU’s long-term budget settlement for 2014–20. The CAP accounts for some 38% of the EU’s budget and, over the years, has drawn considerable criticism for resulting in food mountains and support being biased towards large intensive farms.

As section 3.5 in Economics (8th ed) explains, the CAP has been through a number of reforms since the early 1990s. Prior to that, the main form of support was that of guaranteed minimum prices backed up, where necessary, by levies (tariffs) on imported food. Any surplus of production at the minimum price was bought by the relevant EU Intervention Board and either stored or exported at world prices. The effect of minimum prices is shown in the diagram.

Assume that the EU demand is D_EU and that EU supply is S_EU. Assume also that the world price is P_w. This will be the equilibrium price, since any shortage at P_w (i.e. b – a) will be imported at that price. Thus before intervention, EU demand is Q_d1 and EU supply is Q_s1 and imports are Q_d1 – Q_s1.

Now assume that the EU sets an intervention price of P_i. At this high price, there will be a surplus of d – e (i.e. Q_s2 – Q_d2). Assume for the moment that none of this surplus is exported. It will all, therefore, be bought by the appropriate Intervention Board. The cost to the EU of buying this surplus is shown by the total shaded area (edQ_s2Q_d2: i.e. the surplus multiplied by the intervention price). Unless the food is thrown away, exported or otherwise disposed of, there will obviously then be the additional costs of storing this food: costs that were very high in some years as wine ‘lakes’ and grain and dairy ‘mountains’ built up. If, however, the surplus is sold on world markets at the world price P_w, this will earn the green area for the EU, leaving a net cost of just the pink area.

From 1992, there was a gradual move towards lowering intervention prices and paying farmers direct aid unrelated to current output. From 2004, the main form of support became these direct aid payments. Annual payments to each farm were based on the average support it had received over the three years from 2000 to 2002. At the same time, payments to large farms were gradually reduced, with 80 per cent of the money saved in each country being diverted to rural development. Payments were also made conditional on farmers making environmental improvements to their land.

A problem with this system is that farmers who had high average output in the years 2000–2 have been receiving the same large payments ever since, while farmers who had small yields in those years have received correspondingly small payments.

A proposal two years ago by Dacian Cioloş, the EU Commissioner for Agriculture, was for flat-rate payments per hectare. But objections were raised that this would benefit inefficient farmers who would receive the same as efficient ones. In the end a compromise agreement was reached which saw a capping of the amount of payment per hectare. The result is that the most intensive farmers will see a reduction in their payments by some 30% – a process that will happen gradually over the period 2014–19.

In addition it has been agreed that 30% of the direct aid payments will be conditional on farmers adopting various measures to protect the environment and wildlife.

Farmers will have to be ‘active’ producers to receive direct aid payments. This is designed to exclude businesses such as airports or sports clubs, some of which had been receiving support under the previous system.

It was also agreed to provide 25% extra support for five years to farmers under 35 in an attempt to attract more young farmers into agriculture. Other details of the settlement are given in the EU documents, videos and articles below.

Webcasts

The great shake-up of the Common Agricultural Policy EPP Group in the European Parliament (25/1/13)
Planned reforms of Common Agricultural Policy under fire BBC News, Roger Harrabin (24/6/13)
Mixed response to compromise CAP deal RTE News (26/6/13)
Farm reforms may not increase food production, warns MEP europeandyou, Diane Dodds MEP (26/6/13)

Articles

Big farms to see European subsidies slashed The Telegraph, Rowena Mason (26/6/13)
Common Agricultural Policy deal agreed at last RTE News, Damien O’Reilly (26/6/13)
CAP Reform: MEPs, Council and Commission strike deal FarmingUK (27/6/13)
EU agricultural overhaul puts onus on farmers to be green Financial Times, Joshua Chaffin (26/6/13)
CAP reform deal agreed in Brussels Farmers Guardian, Alistair Driver (26/6/13)
‘Bad for farmers and wildlife’ – CAP reform reaction Farmers Guardian, Alistair Driver (27/6/13)

EU documents

Political agreement on new direction for common agricultural policy Europa Press Release (26/6/13)
CAP Reform – an explanation of the main elements Europa Press Release (26/6/13)
Press release, 3249th Council meeting : Agriculture and Fisheries The Council of the European Union (25/6/13)

Questions

Why will a system of agricultural support based solely on direct aid not result in any food mountains?
Show in a diagram the effect of high minimum prices (plus import levies) on an agricultural product in which a country is not self-sufficient (and is still not made so by the high minimum price). How much will be imported before and after the intervention?
What are the arguments for and against making direct aid payments based solely per hectare?
Find out how sugar quotas have worked. What will be the effects of abolishing them by 2017?
What ‘green’ measures are included in the agreement and how effective are they likely to be?
Consider the arguments for and against removing all forms of support for agriculture in the EU.
What are the effects of (a) price support and (b) direct aid payments unrelated to output for EU farmers on farmers in developing countries producing agricultural products in competition with those produced in the EU?
Why may the environmental measures in the new agreement be seen as too weak?

1 July 20135 July 2013

A payday inquiry

When people take out loans they typically do so to spend and with the UK economy in its current state, many would argue that this is a good thing. The ‘payday loan’ industry took advantage of the weak economy and the squeezed households in the UK and for the past few years, we have seen constant adverts that will appeal to many households. But, is the industry as competitive as the adverts would have us believe?

An inquiry into this industry has been on-going for some time, and it has now been referred to the Competition Commission, due to ‘deep-rooted problems with the way competition works’. For some, a payday loan is a short term form of finance, but for others it has become a way of living that has led to a debt spiral. Frank McKillop, policy manager at Abcul said:

There is a clear demand for instant credit and across the country we are increasingly seeing members who have debts with multiple payday lenders and a record of rolling over debts, or going to one payday lender to clear the debt to another.

One problem identified by the OFT is that customers have found it difficult to compare costs and this has led, in some cases, to customers paying back significantly more than they originally thought. Customers being unable to repay loans will ring warning bells for many people, with no-one wanting a return to the height of the credit crunch.

The OFT has criticized payday loan companies for competing not on costs, but on the speed of approval and using certain unapproved tactics as part of their advertising. The selling point of such companies is that you can have the money in a very short time period. However, the criticism is that this leads to loans being given to those who are unable to afford them. Key credit checks are not being done and with late night texts being sent to often financially vulnerable people, it is no wonder that complaints have been received. In a statement, the OFT said:

The competitive pressure to approve loans quickly may give firms an incentive to skimp on the affordability assessment which is designed to prevent irresponsible lending and protect consumers.

[the business models of companies were] predicated on making loans which are unaffordable, leading to borrowers paying far more than expected through rollovers, additional interest and other charges.

While payday loans are legal and there are many companies offering them, it is what they are competing over, which seems to be in question. The industry itself has begun to change its practices, providing more information to customers, only allowing loans to be rolled over three times and the potential to freeze repayments if the customer gets into financial difficulty. If more stringent checks are completed and hence timing does not become the only grounds for competition, then the problems above may become less significant. With the ongoing OFT inquiry into the practices of the payday loan industry and the continuing demand for such financing, it is likely that we will see much more of both the good and the bad that it has to offer. The following articles consider the investigation.

Webcasts

Balls warns against payday loans ‘blank cheque’ BBC News (27/6/13)
Payday lender investigation could be delayed by bureaucracy Telegraph, Steve Hawkes (27/6/13)
Payday lenders to face ‘tougher restrictions’ on advertising BBC News, Simon Gompertz (1/7/13)
Payday lending rates BBC News, Julio Martino and Stella Creasy (2/7/13)

Articles

Regulator to investigate payday loan industry Financial Times, Elaine Moore and Robert Cookson (27/6/13)
Q&A: Payday loans BBC News (31/5/13)
Payday loans: reining in an industry that is a law unto itself Guardian (27/6/13)
Payday loans industry to face competition inquiry BBC News (27/6/13)
Payday loans firms face competition inquiry Sky News (27/6/13)
Payday loans market faces competition inquiry Guardian, Hilary Osborne (27/6/13)
OFT refers payday loans to Competition Commission Scotsman, Jane Bradley (27/6/13)
Five reasons why we all need to worry about payday lenders Telegraph, Emma Simon (27/6/13)

OFT documents
Payday lending compliance review Office of Fair Trading (27/6/13)

Questions

Into which market structure would you place the payday loans industry? Make sure you justify your answer.
What is the role of the (a) the OFT and (b) the Competition Commission? Do these authorities overlap?
What part does advertising play in this industry?
To what extent is the payday loan industry a possible cause of another credit crunch?
Why has the OFT referred this industry to the Competition Commission?
To what extent are payday loans an essential part of an economy?

21 June 20139 July 2013

A Co-operative or a plc?

Over the past few years, the term ‘bail-out’ has been a common phrase. But, what about the term ‘bail-in’? The latest bank to face financial ruin is the Co-operative Bank, but instead of turning to the tax-payer for a rescue, £1.5 billion will come from bond holders being offered shares in the bank. This will mean that the bank will become listed on the stock market.

Back in 2009, the Co-operative Bank bought Britannia Building Society and it seems that this was the start of its downfall. It took over many bad mortgage loans and loans to companies, and these played a large part in its current financial difficulties.

In order to rescue the bank and raise the capital needed to absorb current and future losses, without turning to the tax-payer, bond-holders of £1.3 billion of loans to the bank will be asked to swap them for shares and bonds, thus leading to significant losses for them. These bond-holders include 7000 private investors.

Since the financial crisis five years ago, the conventional banking model has seen much criticism and many suggested that the mutual structure of the Co-operative provided a better model, creating trust, due to its many stakeholders, who are not as focused on profitability and returns as those shareholders of a listed bank. However, the problems of the Co-operative seem to have put paid to that idea. The bail-in will mean that the bank is now listed on the stock market and thus will have shareholders expecting returns and profitability. This will undoubtedly change the focus of the bank. Euan Sutherland, the new Chief Executive said:

We are very clear that the bank will remain true to responsible and community-based banking and retain its ethical investment stance … Clearly there are lessons to learn and clearly there will be a time to look back and do that but, to be honest, in the last six weeks, where I have been involved with the Co-operative group, we have focused on driving a very solid future for this bank.

The good news is that the savings of those in the Co-operative are safe and taxpayers will not have to fork out any more money.

Yet, the co-operative structure of the bank has long been praised by customers and government alike. But is it perhaps this structure, which has led to its collapse? Furthermore, will the change in structure that will see it listed on the stock market, lead to a change in its approach to banking? The following articles consider the latest bank to run into difficulties.

Webcast

Co-op Bank unveils rescue plan to tackle the £1.5bn hole BBC News (17/6/13)

Articles

Co-op Bank travails show weakness of mutual model Financial Times, Sarah Gordon (21/6/13)
Co-operative Bank to list on stock market in rescue deal The Guardian, Jill Treanor (17/6/13)
Troubled Co-operative Bank unveils rescue plan to plug £1.5bn hole in balance sheet Independent, Nick Goodway (17/6/13)
Co-op Bank announces plan to plug £1.5bn hole Which? (17/6/13)
The Co-operative Bank and the challenge of finding co-op capital The Guardian, Andrew Bibby (13/6/13)
Co-op Bank seeks to fill £1.5bn capital hole Sky News (17/6/13)
Does Co-op Group deserve to keep control of Co-op Bank? BBC News, Robert Peston (9/7/13)

Questions

Why did the Co-operative Bank move into financial trouble?
What are the key characteristics of a Mutual? Are they disadvantages or advantages?
What is a ‘bail-in’? Who will gain and who will lose?
The Co-operative Bank will now be listed on the stock market. What does this mean?
What are the advantages and disadvantages of floating a company on the stock market?
Why are all banks required to hold capital to absorb losses?

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