Category Archives: Economic Systems

AS Economics Revision – Transition Economies

Covered this topic today with my AS Economics revision class. What have been the formidable challenges facing eastern European countries (command) embracing capitalism? Here are some thoughts as well as an informative video from the IMF:

  • In planned some goods are provided free but not in a market economy
  • Corruption – widespread in communist countries in eastern Europe – Oligarchs
  • Inflation ↑ – privatised firms began to charge prices that reflected high costs
  • Lack of entrepreneurial experience
  • Rising unemployment as owners of businesses try to make them more efficient.
  • Labour relations – Poor as workers are in a new environment – Job security?
  • Consumer sovereignty – some industries decline/expand
  • Resources – surplus and shortage
  • Self-Interest – fewer merit goods and more demerit goods
  • Time Gap before framework of government controls can be developed
  • Expansion of industry – potentially for greater externalities
  • Old/disabled – vulnerable with the change of government role
  • Welfare system – limited support for unemployed etc. will take time to develop
  • Provision of public services – disruption to police and other public services
  • Moral Hazard – the state insure workers against risks of losing their job

NZ Government Spending by Political Parties

The GDP of a country is made up of four things: C+I+G+(X-M).

C = Private Consumption
I = Business Investment
G = Government Demand
(X-M) = Net Exports

With government spending being very liberal and effective in creating growth there is a need for the other components of GDP to do their part – Private Consumption, Business Investment and Net Exports.

It is interesting to look at government spending as a % of GDP in New Zealand over the last 30 years. It follows a familiar pattern that relates to the Government of the day. As with most economies a government that is more left wing tends to spend more and a government that is right wing tends to spend less. However the graph can be a bit misleading as although spending went down under a National Government as a percentage of GDP, it could mean that spending could have been increasing but overall GDP going up at a much higher rate.

Source: Westpac

A major factor that will support GDP growth over the coming years is the large increase in fiscal spending including:

  • Approx $1.5bn of spending per annum on transfers to low and middle-income households as part of the Families Package.
  • Approx $8.5bn of spending over the coming four years in areas like health, education and infrastructure.

These increases in fiscal expenditure will see Government consumption spending growing by around 4% per annum through 2019 and the early 2020s. That’s roughly double the pace seen over the previous decade, and will see the Government’s share of economic activity rising from around 18% at present to over 20% in the early 2020s. The impact of this spending will be seen across the economy and will help to support employment growth.

Source: Westpac Overview February 2019

China’s ghost cities – there needs to be another plan

Below is a very good report from 60 Minutes Australia that gives you an update on China’s ghost cities. Roughly 22 percent of China’s urban housing stock is unoccupied, according to Professor Gan Li, who runs the main nationwide study. That adds up to more than 50 million empty homes, he said. One solution that the government could use is property or vacancy taxes to try to counter the issue, but neither appears imminent and some researchers, including Gan, say what actually counts as vacant could be tricky to determine.

For so long China has relied on major infrastructure projects including building cities to drive growth figures in their economy. Historically China’s economic model was based on export-led growth, massive government injections into the economy and access to cheap money. This is not sustainable and although you can keep blowing up bridges and build cities that nobody lives in at some point it becomes unsustainable. Furthermore since the global financial crisis economies have increased protectionist policies to look after their own economy and this has been followed with by the potential trade war with the USA. Therefore the Chinese government need to refocus the growth of the economy on domestic consumption rather than building things – Gross Fixed Capital Formation. So much more C than I in the GDP Expenditure equation. EG:

GDP = C↑+ I↓+ G + (X-M)

Scandinavian countries most expensive but happy

Another good video here with Tom Chitty from CNBC – outlines why the cost of living is so high in Scandinavia – Norway, Sweden and Denmark. These countries on average have some of the highest tax rates (see graph) in order to fund a large welfare state. Expenditure in social welfare is one of the highest as a % of GDP and eventhough it is very expensive to live in these countries they rank as some of the happiest.

Capitalism with accountability

HT to my learned colleague David Parr for this piece from vox.com. Sen. Elizabeth Warren (D-MA) rolled out a big idea to challenge how we think about inequality and the fundamental structure of the economy. She has been concerned with the current structure of capitalism which since the 1980’s has really focused on the interests of shareholders and executives at the expense of employees further down a company’s ‘pecking order’. Reagan and Thatcher started the recent privatisation trend in the 1980’s and, with great success, a lot of the commanding heights of the economy were up for sale. This put any left wing political opposition in a quandary. Do they renationalise these industries and payout shareholders or just start to move their ideology further right on the continuum. The latter was the only real option with the expense of buying back the industries and also upsetting their maybe voters who had bought shares for saving purposes.

Warren with other Democrats is proposing the Accountable Capitalism Act in order to alter the balance of interests in corporate decision-making and giving voices to workers in corporate boardrooms. The legislation would:

  • reduce the huge financial incentives that entice CEOs to lush cash out of shareholders rather than reinvest in businesses
  • curb political activities – using lobbying funds
  • ensure workers and not just shareholders get a voice on big strategic decisions.
    bring about more meaningful career ladders for workers and higher pay
  • ensure that Corporations act like decent citizens who uphold their fair share of the social contract and not like sociopaths whose sole obligation is profitability — as is currently conventional in American business thinking.
  • limit corporate executives’ ability to sell shares of stock that they receive as pay — requiring that such shares be held for at least five years after they were received, and at least three years after a share buyback.

Business executives, like everyone else, want to have good reputations and be regarded as good people but, when pressed about topics of social concern, frequently fall back on the idea that their first obligation is to do what’s right for shareholders. A new charter would remove that crutch, and leave executives accountable as human beings for the rights and wrongs of their decisions.

More concretely, US corporations would be required to allow their workers to elect 40 percent of the membership of their board of directors. Since 80 percent of the value of the stock market is owned by about 10 percent of the population and half of Americans own no stock at all, this has been a huge triumph for the rich – see graph.

Meanwhile, CEO pay has soared as executive compensation has been redesigned to incentivize shareholder gains, and the CEOs have delivered. Gains for shareholders and greater inequality in pay has led to a generation of median compensation lagging far behind economy-wide productivity, with higher pay mostly captured by a relatively small number of people rather than being broadly shared. The graph below show the share of wealth with the top 1% owning 38% of the country’s wealth and the bottom 90% holding only 19% of wealth.

This kind of huge transfer of economic power from rich shareholders to middle- and working-class employees would provoke fierce resistance. But reform of corporate governance also has some powerful political tailwinds behind it.

I am on holiday now and out of internet range – back on the 8th January. Have a good xmas and new year.

Source: Top House Democrats join Elizabeth Warren’s push to fundamentally change American capitalism. Vox

Nationalisation v Privatisation – Britain's railways

public privateIn the Cambridge AS Economics syllabus a new topic was introduced in 2016 which looks at the areas of privatisation and nationalisation in an economy. Below are some notes on the topic and a good video on the renationalisation of British railways.

Rising fares, overcrowded trains and delayed services have led to increasing anger over how Britain’s railways are run. According to a YouGov survey last year, 60% of the British public support renationalising the railways. The main reason cited – that they want the railways to be accountable to taxpayers, rather than shareholders. This begs the question, could we see a renationalisation of Britain’s railways in the future?

Nationalisation is when a government chooses to take an industry into state ownership in order to safeguard the supply of a good or service.

Privatisation is the transfer of ownership of property or businesses from a government to a privately owned entity.

Potential Benefits of Privatisation

  1. Improved Efficiency – private companies have a profit incentive to cut costs and be more efficient.
  2. Lack of Political Interference – Governments are motivated by political pressures rather than sound economic and business sense.
  3. Short Term view – A government many think only in terms of next election
  4. Shareholders – a private firm has pressure from shareholders to perform efficiently
  5. Increased Competition – more firms mean greater competition and efficiency
  6. Government will raise revenue from the sale – only a one off benefit and future dividends are lost.

Potential Benefits of Nationalisation

  1. Natural Monopoly – Many key industries nationalised were natural monopolies. This means the most efficient number of firms is one.
  1. Externalities – Some of the nationalised industries had significant positive externalities. A government can run public transport system could invest in public transport to help improve the economic infrastructure.
  1. Welfare Issues – Some industries play a key role in the welfare of consumers and citizens. Government provision means that needy groups can be looked after and provided with basic necessities.
  1. Industrial Relations – Labour unions often favour nationalisation because they feel they may be better treated by the government – rather than a profit maximising monopoly.
  1. Government Investment – Some industries require long-term investment to improve services over time. This long-term investment may not be profitable in the short-term, so without government intervention they may suffer from lack of long term investment.