The USA has seen many horizontal mergers in recent years. This has turned industries that were once relatively competitive into oligopolies, resulting in lower output and higher prices for consumers.
In Europe, by contrast, many markets are becoming more competitive. The result is that in industries such as mobile phone services, airlines and broadband provision, prices are considerably lower in most European countries than in the USA. As the French economist, Thomas Philippon, states in a Guardian article:
When I landed in Boston in 1999, the United States was the land of free markets. Many goods and services were cheaper than in Europe. Twenty years later, American free markets are becoming a myth.
According to Asher Schechter (see linked article below):
Nearly every American industry has experienced an increase in concentration in the last two decades, to the point where … sectors dominated by two or three firms are not the exception, but the rule.
The result has been an increase in deadweight loss, which, according to research by Bruno Pelligrino, now amounts to some 13.3 per cent of total potential surplus.
Philippon in his research estimates that monopolies and oligopolies “cost the median American household about $300 a month” and 
deprive “American workers of about $1.25tn of labour income every year”.
One industry considered by the final two linked articles below is housebuilding. Since the US housing and financial crash of 2007–8 many US housebuilders have gone out of business. This has meant that the surviving companies have greater market power. According to Andrew van Dam in the linked Washington Post article below:
They have since built on that advantage, consolidating until many markets are controlled by just a few builders. Their power has exacerbated the country’s affordable-housing crisis, some economists say.
According to research by Luis Quintero and Jacob Cosman:
… this dwindling competition has cost the country approximately 150 000 additional homes a year – all else being equal. With fewer competitors, builders are under less pressure to beat out rival projects, and can time their efforts so that they produce fewer homes while charging higher prices.
Thanks to lobbying of regulators and politicians by businesses and various unfair, but just about legal, practices to exclude rivals, competition policy in the USA has been weak.
In the EU, by contrast, the competition authorities have been more active and tougher. For example, in the airline industry, EU regulators have “encouraged the entry of low-cost competitors by making sure they could get access to takeoff and landing slots.” Politicians from individual EU countries have generally favoured tough EU-wide competition policy to prevent companies from other member states getting an unfair advantage over their own country’s companies.
Articles
Questions
- What are the possible advantages and disadvantages of oligopoly compared with markets with many competitors?
- How can concentration in an industry be measured?
- Why have US markets become more concentrated?
- Why have markets in the EU generally become more competitive?
- Find out what has happened to levels of concentration in the UK housebuilding market.
- What are the possible effects of Brexit on concentration and competition policy in the UK?
With the growing recognition of the global climate emergency (see also), attention is being increasingly focused on policies to tackle global warming.
In the October version of its journal, Fiscal Monitor, the IMF argues that carbon taxes can play a major part in meeting the goal of achieving net zero carbon emissions by 2050 or earlier.
As the blog accompanying the journal states:
Global warming has become a clear and present threat. Actions and commitments to date have fallen short. The longer we wait, the greater the loss of life and damage to the world economy. Finance ministers must play a central role to champion and implement fiscal policies to curb climate change. To do so, they should reshape the tax system and fiscal policies to discourage carbon emissions from coal and other polluting fossil fuels.
The effect of a carbon tax on production
The argument is that carbon emissions represent a massive negative externality, where the costs are borne largely by people other than the emitters. Taxes can internalise these externalities. The effect would be to raise the price of carbon-emitting activities and reduce the quantity consumed and hence produced.
The diagram illustrates the argument. It takes the case of carbon emissions from coal-fired electricity generation in a large country. To keep the analysis simple, it is assumed that all electricity in the country is generated from coal-fired power stations and that there are many such power stations, making the market perfectly competitive.
It is assumed that all the benefits from electricity production accrue solely to the consumers of electricity (i.e. there are no external benefits from consumption). Marginal private and marginal social benefits of the production of electricity are thus the same (MPB = MSB). The curve slopes downwards because, with a downward-sloping demand for electricity, higher output results in a lower marginal benefit (diminishing marginal utility).
Competitive market forces, with producers and consumers responding only to private costs and benefits, will result in a market equilibrium at point a in the diagram: i.e. where demand equals supply. The market equilibrium price is P0 while the market equilibrium quantity is Q0. However the presence of external costs in production means that MSC > MPC. In other words, MEC = b – a.
The socially optimal output would be Q* where P = MSB = MSC, achieved at the socially optimal price of P*. This is illustrated at point d and clearly shows how external costs of production in a perfectly competitive market result in overproduction: i.e. Q0 > Q*. From society’s point of view, too much electricity is being produced and consumed.
If a carbon tax of d – c is imposed on the electricity producers, it will now be in producers’ interests to produce at Q*, where their new private marginal costs (including tax) equals their marginal private benefit.
Assessing the benefits of carbon taxes
The diagram shows the direct effect on production of electricity. With widespread carbon taxes, there would be similar direct effects on other industries that emit carbon, and also on consumers, faced with higher fuel prices. In the UK, for example, there are currently higher taxes on high-emissions vehicles than on low-emissions ones.
However, there are other effects of carbon taxes which contribute to the reduction in carbon emissions over the longer term. First, firms will have an incentive to invest in green energy production, such as wind, solar and hydro. Second, it will encourage R&D in green energy technology. Third, consumers will have an incentive to use less electricity by investing in more efficient appliances and home insulation and making an effort to turn off lights, the TV, computers and so on.
People may object to paying more for electricity, gas and motor fuel, but the tax revenues could be invested in cheaper clean public transport, home insulation and public services generally, such as health and education. This could be part of a policy of redistribution, with the tax revenues being spent on alleviating poverty. Alternatively, other taxes could be cut.
The IMF estimates that to restrict global warming to 2°C (a target seen as too modest by many environmentalists), large emitting countries ‘should introduce a carbon tax set to rise quickly to $75 a ton in 2030’.
This would mean household electric bills would go up by 43 per cent cumulatively over the next decade on average – more in countries that still rely heavily on coal in electricity generation, less elsewhere. Gasoline would cost 14 percent more on average.
It gives the example of Sweden, which has a carbon tax of $127 per ton. This has resulted in a 25% reduction in emissions since 1995, while the economy has expanded 75% since then.
Limits of carbon taxes
Although carbon taxes can make a significant contribution to combatting global warming, there are problems with their use.
First, it may be politically popular for governments not to impose them, or raise them, with politicians arguing that they are keen to help ‘struggling motorists’ or poor people ‘struggling to keep their homes warm’. In the UK, successive governments year after year have chosen not to raise road fuel taxes, despite a Fuel Price Escalator (replaced in 2011 by a Fuel Duty Stabiliser) designed to raise fuel taxes each year by more than inflation. Also, governments fear that higher energy prices would raise costs for their country’s industries, thereby damaging exports.
Second, it is difficult to measure the marginal external costs of CO2 emissions, which gives ammunition to those arguing to keep taxes low. In such cases it may be prudent, if politically possible, to set carbon taxes quite high.
Third, they should not be seen as a sufficient policy on their own, but as just part of the solution to global warming. Legislation to prevent high emissions can be another powerful tool to prevent activities that have high carbon emissions. Examples include banning high-emission vehicles; a requirement for coal-fired power stations and carbon emitting factories to install CO2 scrubbers (filters); and tougher planning regulations for factories that emit carbon. Education to encourage people to cut their own personal use of fossil fuels is another powerful means of influencing behaviour.
A cap-and-trade system, such as the European Emissions Trading Scheme would be an alternative means of cutting carbon efficiently. It involves setting quotas for emissions and allowing firms which manage to cut emissions to sell their surplus permits to less efficient firms. This puts a price pressure on firms to be more efficient. But the quotas (the ‘cap’) must be sufficiently tight if emissions are going to be cut to desired levels.
But, despite being just one possible policy, carbon taxes can make a significant contribution to combatting global warming.
Articles
Fiscal Policies to Curb Climate ChangeIMF blog, Vitor Gaspar, Paolo Mauro, Ian Parry and Catherine Pattillo (10/10/19)
- Energy bills will have to rise sharply to avoid climate crisis, says IMF
The Guardian, Larry Elliott (10/10/19)
- Huge global carbon tax hike needed in next 10 years to head off climate disaster, says IMF
Independent, Chris Mooney and Andrew Freedman (11/10/19)
- World urgently needs to quicken steps to reduce global warming – IMF
Reuters, Lindsay Dunsmuir (10/10/19)
- The Case for a Goldilocks Carbon Tax
Forbes, Roger Pielke (13/9/19)
- The world needs a massive carbon tax in just 10 years to limit climate change, IMF says
Washington Post, Chris Mooney and Andrew Freedman (10/10/19)
- People like the idea of a carbon tax – if the money is put to good use
New Scientist, Michael Le Page (18/9/19)
- The IMF thinks carbon taxes will stop the climate crisis. That’s a terrible idea.
The Guardian, Kate Aronoff (12/10/19)
- Firms ignoring climate crisis will go bankrupt, says Mark Carney
The Guardian, Damian Carrington (13/10/19)
- How central banks can tackle climate change
Financial Times, The editorial board (31/10/19)
- World Economic Forum: Climate change action needed to avoid societal ‘collapse’ says minister
The National, UAE, Anna Zacharias (3/11/19)
- Riots and trade wars: Why carbon taxes will not solve climate crisis
Recharge, Leigh Collins (31/10/19) (Part 1)
- The plethora of effective alternatives to carbon pricing
Recharge, Leigh Collins (31/10/19) (Part 2)
- Are these the real reasons why Big Oil wants a carbon tax?
Recharge, Leigh Collins (31/10/19) (Part 3)
- Do we need carbon taxes in an era of cheap renewables?
Recharge, Leigh Collins (31/10/19) (Part 4)
Report
- How to Mitigate Climate Change
IMF Fiscal Monitor, Ian Parry (team leader), Thomas Baunsgaard, William Gbohoui, Raphael Lam, Victor Mylonas, Mehdi Raissi, Alpa Shah and Baoping Shang (October 2019)
Questions
- Draw a diagram to show how subsidies can lead to the optimum output of green energy.
- What are the political problems in introducing or raising carbon taxes? Examine possible solutions to these problems
- Choose two policies for reducing carbon emissions other than using carbon taxes? Compare their effectiveness with carbon taxes.
- How is game theory relevant to getting international agreement on cutting greenhouse gas emissions? Why is there likely to be a prisoners’ dilemma problem in reaching and sticking to such agreements? How might the problem of a prisoners’ dilemma be overcome in such circumstances?
A general election has been called in the UK for 12 December. Central to the debates between the parties will be their policy on Brexit.
They range from the Liberal Democrats’, Plaid Cymru’s and Sinn Féin’s policy of cancelling Brexit and remaining in the EU, to the Scottish Nationalists’ and Greens’ policy of halting Brexit while a People’s Vote (another referendum) is held, with the parties campaigning to stay in the EU, to the Conservative Party’s policy of supporting the Withdrawal Agreement and Political Declaration negotiated between the Boris Johnson government and the EU, to the DUP which supports Brexit but not a version which creates a border between Great Britain and Northern Ireland, to the Brexit Party and UKIP which support leaving the EU with no deal (what they call a ‘clean break’) and then negotiating individual trade deals on a country-by-country basis.
The Labour Party also supports a People’s Vote, but only after renegotiating the Withdrawal Agreement and Political Declaration, so that if Brexit took place, the UK would have a close relationship with the single market and remain in a customs union. Also, various laws and regulations on environmental protection and workers’ rights would be retained. The referendum would take place within six months of the election and would be a choice between this new deal and remain.
But what are the economic costs and benefits of these various alternatives? Prior to the June 2016 referendum, the Treasury costed various scenarios. After 15 years, a deal would make UK GDP between 3.4% and 7.8% lower than if it remained in the EU, depending on the nature of the deal. No deal would make GDP between 5.4% and 9.5% lower.
Then in November 2018, the Treasury published analysis of the original deal negotiated by Theresa May in July 2018 (the ‘Chequers deal’). It estimated that GDP would be up to 3.9% lower after 15 years than it would have been if the UK had remained in the EU. In the case of a no-deal Brexit, GDP would be up to 9.3% lower after 15 years.
When asked for Treasury forecasts of the effects of Boris Johnson’s deal, the Chancellor, Sajid Javid, said that the Treasury had not been asked to provide forecasts as the deal was “self-evidently in our economic interest“.
Other forecasters, however, have analysed the effects of the Johnson deal. The National Institute for Economic and Social Research (NIESR), the UK’s longest established independent economic research institute, has estimated the costs of various scenarios, including the Johnson deal, the May deal, a no-deal scenario and also a scenario of continuing uncertainty with no agreement over Brexit. The NIESR estimates that, under the Johnson deal, with a successful free-trade agreement with the EU, in 10 years’ time UK GDP will be 3.5% lower than it would be by remaining in the EU. This represents a cost of £70 billion. The costs would arise from less trade with the EU, lower inward investment, slower growth in productivity and labour shortages from lower migration. These would be offset somewhat by savings on budget contributions to the EU.
Under Theresa May’s deal UK GDP would be 3.0% lower (and thus slightly less costly than Boris Johnson’s deal). Continuing in the current situation with chronic uncertainty about whether the UK would leave or remain would leave the UK 2% worse off after 10 years. In other words, uncertainty would be less damaging than leaving. The costs from the various scenarios would be in addition to the costs that have already occurred – the NIESR estimates that GDP is already 2.5% smaller than it would have been as a result of the 2016 Brexit vote.
Another report also costs the various scenarios. In ‘The economic impact of Boris Johnson’s Brexit proposals’, Professors Anand Menon and Jonathan Portes and a team at The UK in a Changing Europe estimate the effects of a decline in trade, migration and productivity from the various scenarios – again, 10 years after new trading arrangements are in place. 
According to their analysis, UK GDP would be 4.9%, 6.4% and 8.1% lower with the May deal, the Johnson deal and no deal respectively than it would have been from remaining in the EU.
But how much reliance should we put on such forecasts? How realistic are their assumptions? What other factors could they have taken into account? Look at the two reports and at the articles discussing them and then consider the questions below which are concerned with the nature of economic forecasting.
Articles
- UK’s new Brexit deal worse than continued uncertainty – NIESR
Reuters, David Milliken (30/10/19)
- Brexit deal means ‘£70bn hit to UK by 2029′
BBC News, Faisal Islam (30/10/19)
- Boris Johnson’s Brexit deal worse for economy than Theresa May’s, new analysis shows
Politics Home, Matt Honeycombe-Foster (30/10/19)
- Boris Johnson’s Brexit deal ‘would cost UK economy £70bn’
The Guardian, Richard Partington (30/10/19)
- UK economy suffers ‘slow puncture’ as general election is called
ITV News, Joel Hills (30/10/19)
- Boris Johnson’s Brexit deal ‘would deliver £70bn hit to economy by 2029’
Sky News, Ed Conway (30/10/19)
- Boris Johnson’s Brexit deal won’t cost Britain £70bn by 2029
The Spectator, Ross Clark (30/10/19)
- Boris Johnson’s Brexit deal would make people worse off than Theresa May’s
The Guardian, Anand Menon and Jonathan Portes (13/10/19)
- How Boris Johnson’s hard Brexit would hit the UK economy
Financial Times, Chris Giles (13/10/19)
- Boris Johnson’s Brexit deal is worse for the UK economy than Theresa May’s, research suggests
CNBC, Elliot Smith (19/10/19)
Reports
Questions
- What are the arguments in favour of the assumptions and analysis of the two recent reports considered in this blog?
- What are the arguments against the assumptions and analysis of the two reports?
- How useful are forecasts like these, given the inevitable uncertainty surrounding (a) the outcome of negotiations post Brexit and (b) the strength of the global economy?
- If it could be demonstrated beyond doubt to everyone that each of the Brexit scenarios meant that UK GDP would be lower than if it remained in the EU, would this prove that the UK should remain in the EU? Explain.
- If economic forecasts turn out to be inaccurate, does this mean that economists should abandon forecasting?
The Institute of Fiscal Studies (IFS) has just published its annual ‘Green Budget‘. This is, in effect, a pre-Budget report (or a substitute for a government ‘Green Paper’) and is published ahead of the government’s actual Budget.
The Green Budget examines the state of the UK economy, likely economic developments and the implications for macroeconomic policy. This latest Green Budget is written in the context of Brexit and the growing likelihood of a hard Brexit (i.e. a no-deal Brexit). It argues that the outlook for the public finances has deteriorated substantially and that the economy is facing recession if the UK leaves the EU without a deal.
It predicts that:
Government borrowing is set to be over £50 billion next year (2.3% of national income), more than double what the OBR forecast in March. This results mainly from a combination of spending increases, a (welcome) change in the accounting treatment of student loans, a correction to corporation tax revenues and a weakening economy. Borrowing of this level would breach the 2% of national income ceiling imposed by the government’s own fiscal mandate, with which the Chancellor has said he is complying.
A no-deal Brexit would worsen this scenario. The IFS predicts that annual government borrowing would approach £100 billion or 4% of GDP. National debt (public-sector debt) would rise to around 90% of GDP, the highest for over 50 years. This would leave very little scope for the use of fiscal policy to combat the likely recession.
The Chancellor, Sajid Javid, pledged to increase public spending by £13.4bn for 2020/21 in September’s Spending Review. This was to meet the Prime Minister’s pledges on increased spending on police and schools. This should go some way to offset the dampening effect on aggregate demand of a no-deal Brexit. The government has also stated that it wishes to cut various taxes, such as increasing the threshold at which people start paying the 40% rate of income tax from £50 000 to £80 000. But even with a ‘substantial’ fiscal boost, the IFS expects little or no growth for the two years following Brexit.
But can fiscal policy be used over the longer term to offset the downward shock of Brexit, and especially a no-deal Brexit? The problem is that, if the government wishes to prevent government borrowing from soaring, it would then have to start reining in public spending again. Another period of austerity would be likely.
There are many uncertainties in the IFS predictions. The nature of Brexit is the obvious one: deal, no deal, a referendum and a remain outcome – these are all possibilities. But other major uncertainties include business and consumer sentiment. They also include the state of the global economy, which may see a decline in growth if trade wars increase or if monetary easing is ineffective (see the blog: Is looser monetary policy enough to stave off global recession?).
Articles
IFS Report
Data
Questions
- Why would a hard Brexit reduce UK economic growth?
- To what extent can expansionary fiscal policy stave off the effects of a hard Brexit?
- Does it matter if national debt (public-sector debt) rises to 90% or even 100% of GDP? Explain.
- Find out the levels of national debt as a percentage of GDP of the G7 countries. How has Japan managed to sustain such a high national debt as a percentage of GDP?
- How can an expansionary monetary policy make it easier to finance the public-sector debt?
- How has investment in the UK been affected by the Brexit vote in 2016? Explain.
With the prospects of weaker global economic growth and continuing worries about trade wars, central banks have been loosening monetary policy. The US central bank, the Federal Reserve, lowered its target Federal Funds rate in both July and September. Each time it reduced the rate by a quarter of a percentage point, so that it now stands at between 1.75% and 2%.
The ECB has also cut rates. In September it reduced the overnight deposit rate for banks from –0.4% to –0.5%, leaving the main rate at 0%. It also introduced a further round of quantitative easing, with asset purchases of €20 billion per month from 1 November and lasting until the ECB starts raising interest rates.
The Australian Reserve Bank has cut its ‘cash rate‘ three times this year and it now stands at an historically low level of 0.75%. Analysts are predicting that it may be forced to introduce quantitative easing if lower interest rates fail to stimulate growth.
Japan continues with its programme of quantitative easing (QE) and other central banks are considering lowering interest rates and/or (further) QE.
But there are two key issues with looser monetary policy.
The first is whether it will be sufficient to provide the desired stimulus. With interest rates already at or near historic lows (although slightly above in the case of the USA), there is little scope for further reductions. QE may help, but without a rise in confidence, the main effect of the extra money may simply be a rise in the price of assets, such as property and shares. It may result in very little extra spending on consumption and investment – in other words, very little extra aggregate demand.
The second is the effect on inequality. By inflating asset prices, QE rewards asset owners. The wealthier people are, the more they will gain.
Many economists and commentators are thus calling for the looser monetary policy to be backed up by expansionary fiscal policy. The boost to aggregate demand, they argue, should come from higher public spending, with governments able to borrow at very low interest rates because of the loose monetary policy. Targeted spending on infrastructure would have a supply-side benefit as well as a demand-side one.
Articles
- European Central Bank cuts its deposit rate, launches new bond-buying program
CNBC, Elliot Smith (12/9/19)
- Can monetary policies help prevent a global recession?
Investment Week, Martin Gilbert (7/10/19)
- Draghi’s Utmost Is Still Not Enough
Bloomberg, John Authers (13/9/19)
- Draghi puts heat on politicians to boost fiscal stimulus with his ECB swan song
MarketWatch, William Watts (12/9/19)
- To infinity and beyond: ECB’s quantitative easing
EJ Insight, Raphael Olszyna-Marzys (2/10/19)
- The dangers of negative interest rates
Money Week, Merryn Somerset Webb (7/10/19)
- Schwarzman: Europe could enter Japan-style stagnation if governments don’t start spending
CNBC, Elliot Smith (7/10/19)
- US Fed cuts interest rates for second time since 2008
BBC News, Andrew Walker (18/9/19)
- Current Federal Reserve Interest Rates and Why They Change
The Balance, Kimberly Amadeo (19/9/19)
- Federal Reserve Interest Rate Cuts Alone Can’t Prevent a Recession
Barron’s, Al Root (4/10/19)
- Why is the Fed pumping money into the banking system?
BBC News, Natalie Sherman (19/9/19)
- Top of Lagarde’s ECB to-do list: stop QE and democratise monetary policy
Social Europe, Jens van’t Klooster (25/9/19)
- Economists warn Reserve Bank could be forced to print money if rate cuts fail to deliver
The Guardian, Martin Farrer (2/10/19)
- A very large gamble: evidence on Quantitative Easing in the US and UK
Institute for Policy Research. Policy Brief, Chris Martin and Costas Milas
- The verdict on 10 years of quantitative easing
The Guardian, Richard Partington (8/3/19)
ECB Press Conference
Questions
- Explain what is meant by quantitative easing.
- What determines the effectiveness of quantitative easing?
- Why is President Trump keen for the Federal Reserve to pursue more aggressive interest rate cuts?
- What is the Bank of England’s current attitude towards changing interest rates and/or further quantitative easing?
- What are the current advantages and disadvantages of governments pursuing a more expansionary fiscal policy?
- Compare the relative merits of quantitative easing through asset purchases and the use of ‘helicopter money’.
