The Gap has been a fixture of UK High Streets for many years and has had both ups and downs. In a highly competitive market, it faces fierce rivals from other high street retailers and also from an increasingly important online presence. Same-shop sales for Gap fell in July by 7% and the brand is now finding itself in a tricky position.
Although the Gap does sell products at a variety of prices, even sales growth in its most affordable line was not sufficient to offset declines elsewhere. It’s not just the UK where this decline is observed, with 175 Gap specialty shops in America being shut down over the next year. This will inevitably mean job losses. So why is Gap struggling so much, after being such a popular brand?
Its competitors are arguably offering a very similar product, but at a lower price. Consumers, being increasingly aware of prices and having many more options to make price comparisons, are perhaps using this information to make better choices. If they don’t believe that they are getting something extra from paying a slightly higher price at Gap, then they’d prefer to get the same thing elsewhere, from somewhere like Forever 21 or H&M. Some also suggest that the product itself is out of date and with the world of high fashion being such an important part of life for many people, an out-of-date product is bad news. That, together with consumers finding more and more things that they can spend their money on, beyond clothes has led to a tricky position for the Gap.
A key part of maintaining a presence on high streets has been sales and special offers – this has been a key element in keeping customers coming, but it is certainly not a long term strategy. Research analysts have been investigating some of the key aspects of the Gap and various comments have been made, including:
“Uniformity is no longer cool… The trick now is convincing your customer that they’re getting something unique.” (Simeon Siegel), Nomura Securities.
“Of top priority is delivering more consistent and compelling product collections.” Kari Shellhorn, Gap spokeswomen.
“Whether it’s colour or print or it’s pattern, the Gap brand hasn’t been kept up to date … Until they have their product right, I think we’ll continue to see them have promotions.” Dana Telsey, Telsey Advisory Group.
The future of Gap is certainly in the balance and with an increasingly competitive market when it comes to retail, an effective strategy to maintain and increase its market share will be essential.
Why Gap is in a tight squeeze BBC News, Gianna Palmer (20/8/15)
Gap Inc sees some potential for next year but Q2 2015 remains weak Forbes, Investing, Trefis Team (24/8/15)
Questions
- What sort of figure would you expect Gap’s clothes to have and why?
- Into which market structure would you place the retail industry? What does this tell us about how a company such as Gap can hope to make profits?
- If you were advising Gap, what strategies would you propose as a means of boosting revenue and cutting costs?
- The BBC News article states that the fortunes of Gap have been hurt by a strong US dollar. Why may this be the case?
In the year to June 2014, Qantas, the Australian airline, posted record losses of $2.8 billion. The airline was seen to be in some serious trouble and engaged in various cost-cutting measures. This, together with help from falling oil prices appears to have reversed this company’s fortunes. It posted profits of $557 million in the year to the end of June 2015.
The airline industry was hit by the financial crisis and subsequent worldwide recession. Holidays are a luxury item, such that when incomes are rising, there is a greater demand for travel abroad. Conversely, when incomes fall (as we see in a recession) demand will fall and this can hurt the revenues and profits of airlines such as Qantas. 
Qantas, in particular, had been struggling with a high degree of competition from other airlines, who are also competing on key long-haul routes, for example Emirates, Etihad and Singapore. Further competition came at home from Virgin Australia, who had significant backing from other large airlines and Qantas found itself unable to compete with such low prices and restrictions on foreign ownership.
However, with significant layoffs, cancelling some unprofitable routes and various other cost-cutting measures, Qantas will return $505 million of profits to its shareholders and will purchase 8 Boeing 787-9 Dreamliners. This will certainly boost confidence in the company and its Chief Executive, Alan Joyce’s comments may well add to this. He said:
“We are halfway through the biggest and fastest transformation in our history … Without that transformation, we would not be reporting this strong profit, recommencing shareholder returns, or announcing our ultra-efficient Dreamliner fleet for Qantas International.”
Although the investment in so many new planes is a large outlay, it is expected that they will improve the efficiency of its fleet, reducing its fuel bill significantly, especially over its longest routes. As these profit figures only represent a job that is half done, it will be interesting to see how Qantas fares with the recovery of the global economy.
Qantas to buy eight Boeing dreamliners after posting profit of $557m The Guardian (20/8/15)
Qantas returns to full-year profit and pledges new growth phase BBC News (20/8/15)
Qantas soars past overhaul to return to profit Wall Street Journal, Rebecca Thurlow (20/8/15)
Qantas injects another $55 million into Jetstar Japan Sydney Morning Herald, Jamie Freed (24/8/15)
Is Qantas set to keep on soaring? Sydney Morning Herald, John Collett (21/8/15)
Qantas to expand fleet after rapid profit turnaround Reuters (20/8/15)
Qantas turnaround gains altitude with swing to profit Financial Times, Jamie Smyth (20/8/15)
Questions
- Into which market structure would you place the airlines industry?
- Consider the different strategies that were adopted by Qantas and in each case, explain whether it would have had an impact on the firm’s costs or revenues.
- Why was Virgin Australia proving to be such fierce competition for Qantas?
- The Wall Street Journal Article refers to Qantas finding it difficult ‘to attract a White Knight’. What is meant by a White Knight?
- What has been the impact of falling global oil prices on the airline industry? Use a diagram to explain your answer.
On August 11th, China devalued its currency, the yuan, by 1.9%. The next day it devalued it by a further 1.6% and on the next day by a further 1.1%. Even though the total devaluation was relatively small, especially given a much bigger revaluation over the previous three years (see chart below), traders in world markets greeted the news with considerable pessimism. Stock markets around the world fell. For example, the US Dow Jones was down by 1.1%, the FTSE 100 was down by 2.5% and the German DAX by 5.8%.
There are three major concerns of investors about the devaluation. The first is that a weaker yuan will make other countries’ exports more expensive in China, thereby making it harder to export to China. At the same time Chinese imports into the rest of the world will be cheaper, thereby making it harder for domestic producers to compete with Chinese imports.
The second is that cheaper Chinese imports will put downward pressure on prices at a time when inflation rates in the major economies are already below target rates. The fear of deflation has not gone away and this further deflationary twist will intensify such fears and possibly dampen demand.
The third is that the devaluation is taken as a sign that the Chinese authorities are worried about a slowing Chinese economy and are using the devaluation to boost Chinese exports. The rapidly expanding Chinese economy has been one of the major motors of the global economy in recent years and hence a slowing Chinese economy is cause for serious concern at a time when the global economy is still only very slowly recovering from the shock of the financial crisis of 2007–8
But just how worried should the rest of the world be about the falling yuan? And will it continue to fall, or could this be seen as a ‘one-off’ correction? What effect will it have on the macroeconomic policies of the USA, the eurozone and other major countries/regions? The following articles analyse Chinese policy towards its currency and the implications for the rest of the world.
China weakens yuan for a third straight day on Thursday CNBC, Nyshka Chandran (13/8/15)
Markets reel as investors fear worst of Chinese slowdown is yet to come The Telegraph, Peter Spence (12/8/15)
China cannot risk the global chaos of currency devaluation The Telegraph, Ambrose Evans-Pritchard (12/8/15)
Beware a China crisis that could crash down on us all The Telegraph, Liam Halligan (15/8/15)
The curious case of China’s currency The Economist, Buttonwood’s notebook (11/8/15)
China’s yuan currency falls for a second day BBC News (12/8/15)
China slowdown forces devaluation BBC News, Robert Peston (11/8/15)
What the yuan devaluation means around the world BBC News, Lerato Mbele, Daniel Gallas and Yogita Limaye (12/8/15)
China allows yuan currency to drop for third day BBC News, various reporters (13/8/15)
The Guardian view on global currencies: it’s the economy, stupid The Guardian, Editorial (14/8/15)
China’s currency gambit and Labour’s debate about quantitative easing: old and new ways to cope with economic crisis The Guardian, Paul Mason (16/8/15)
Questions
- By what percentages have the nominal and real yuan exchange rate indices appreciated since the beginning of 2011? Use data from the Bank for International Settlements.
- Explain the difference between nominal and real exchange rate indices.
- Compare the changes in the yuan exchange rate indices with that of the yuan/dollar exchange rate (see Bank of England Interactive Database). Explain the difference.
- How is the yuan exchange rate with other currencies determined?
- How have the Chinese authorities engineered a devaluation of the yuan? To what extent could it be described as a ‘depreciation’ rather than a ‘devaluation’?
- Why have world stock markets reacted so negatively to the devaluation?
- Why, in global terms, is the devaluation described as deflationary?
- How much should the rest of the world be worried by the devaluation of the yuan?
- Explain the statement by Robert Peston that ‘Beijing has done the monetary tightening that arguably the US economy needs’.
- Comment on the following statement by Stephen King of HSBC (see the second Telegraph article below): ‘The world economy is sailing across the ocean without any lifeboats to use in case of emergency.’
According to a recent IMF Survey Magazine article, Counting the Cost of Energy Subsidies, world-wide energy subsidies in 2015 account for $5.3 trillion or 6.5% of global GDP. The article summarises findings of an IMF working paper (see link below), which provides estimates by country, product (e.g. coal and oil) and component (e.g. global warming, local air pollution and congestion) in an Excel file
The working paper argues that energy subsidies are both larger and more pervasive than previously thought. According to the IMF Survey Magazine:
Eliminating global energy subsidies could reduce deaths related to fossil-fuel emissions by over 50 percent and fossil-fuel related carbon emissions by over 20 percent. The revenue gain from eliminating energy subsidies is projected to be $2.9 trillion (3.6 percent of global GDP) in 2015. This offers huge potential for reducing other taxes or strengthening revenue bases in countries where large informal sector constrains broader fiscal instruments.
In interpreting the findings it is important to understand how the term ‘subsidies’ is being used. 
According to the report, most of the $5.3 trillion “arises from countries setting energy taxes below levels that fully reflect the environmental damage associated with energy consumption.”
In other words, the term subsidy is being used whenever taxes do not fully account for the negative externalities associated with extracting and burning fossil fuels. Perhaps a better term would be ‘under-taxing’ rather than ‘subsidising’. Nevertheless the scale of not internalising externalities is huge. As Lord Nicholas Stern (author of the 2006 Stern Review on the Economics of Climate Change) says:
“The failure to reflect the real costs of fossil fuels in prices and policies means that the lives and livelihoods of billions of people around the world are being threatened by climate change and local air pollution.”
But, while not taxing external costs account for more than 80% of the underpricing of fossil fuel energy, some three-quarters of these external costs relate to local environmental damage, rather than international damage such as global warming. Thus charging for these external costs would benefit primarily the local population, as well as generating revenues, and thus provides a strong argument for governments raising energy prices through increased taxes or reduced subsidies.
So which countries are the major culprits in ‘subsidising’ fossil fuels? What specific measures does the IMF recommend to tackle the problem and what countries are addressing the problem and in what ways? The working paper and articles address these questions.
Articles
Counting the Cost of Energy Subsidies IMF Survey Magazine (17/7/15)
G20 countries pay over $1,000 per citizen in fossil fuel subsidies, says IMF The Guardian, Damian Carrington (4/8/15)
Fossil fuels subsidised by $10m a minute, says IMF The Guardian, Damian Carrington (18/5/15)
Working Paper
How Large Are Global Energy Subsidies? IMF Working Paper, David Coady, Ian Parry, Louis Sears, and Baoping Shang (May 2015)
Questions
- Explain how energy subsidies are defined in the IMF working paper.
- What measurement problems are there in calculating the size of the ‘subsidies’?
- Draw a diagram to show how the under taxing of fossil fuel usage leads to a greater than socially optimum level of consumption of fossil fuels.
- What specific policies are pursued by the four biggest fossil fuel subsidising countries?
- What political problems are there in persuading countries to reduce fossil fuel subsidies/increase fossil fuel taxes.
- Is there a relatively high or low income elasticity of demand for energy? What are the implications of this for different income groups of policies to hold down energy prices?
A professor in the USA recently posed an interesting dilemma to students taking his psychology exam. At the end of the exam students were provided with a bonus question in order to gain extra credit. All they had to do was decided whether they would like two or six additional marks adding on to their final score. The twist was that if more than 10% of the class opted for an additional six marks then everyone would get nothing added on!
The professor had placed the students in a prisoner’s dilemma scenario. To see this consider an individual student weighing up which option to choose; if more than 90% of the class chose two additional marks, then this student is better off choosing six additional marks. Whereas if more than 90% of the class chose six additional marks, then this student is indifferent between the two options (the student will get no additional marks regardless of their choice). It follows that choosing six additional marks is a weakly dominant strategy.
In a similar fashion, in the classic prisoners setting keeping quiet is collectively better, however, each criminal has a strong individual incentive to confess. Likewise, in oligopoly markets the interdependence between firms results in a tension between cooperation and competition. Firms collectively benefit from keeping prices high, but an individual firm has an incentive to undercut its rivals and steal a large share of the market. A strong prediction when self-interested participants play the prisoner’s dilemma game just once and choose their strategies independently is therefore that the prisoners will confess to the crime and that firms will set low prices.
So did the US professor end up giving away many bonus marks? No, about 20% of the class opted for six additional marks and as a result all the students ended up with no extra marks. In fact, the professor claims to have been running the same experiment for the previous seven years and only once has he ended up giving away any bonus marks. On the one hand, this result is consistent with what is predicted in the prisoner’s dilemma game. However, running contrary to this is the fact that around 80% of the students opted for just two additional marks. It would certainly be interesting to see what would happen if in future years the professor relaxed the threshold above which all students get no extra marks.
UMD ‘tragedy of the commons’ tweet goes viral The Baltimore Sun, Quinn Kelley (09/07/15)
A professor tested the ‘Prisoner’s Dilemma’ on his students by bribing them with extra credit points Tech Insider, Will Haskell (17/07/15)
Questions
- Draw the payoff matrix for the student’s dilemma.
- What are some of the possible explanations for around 80% of the class choosing two extra marks?
- How do you think the outcome of the game might have changed if students were allowed to communicate with each other before making their choice on the number of additional marks to ask for?
- How do you think student choices would change if the threshold above which all students get no extra marks was varied?
