1. Do Nothing. Declining population has many benefits: Less congestion, less pollution, better for the environment. Also, it can be argued, the birth-rate is not the problem of the government anyway. It is an individual issue.
2. Subsidies to have more children. In Germany and Italy the governments have flirted with the idea of economic incentives for couples to have more children. However, given the huge cost of bringing up children. Is there anything the government can do to change people's preferences? Basically, the demand for children in very price inelastic. A small subsidy is unlikely to make much differences to people’s preferences.
3. Make People work longer. If you have a growing % of people entitled to pensions, this creates a real fiscal problem. The solution is to raise the retirement age. If people are living longer, why shouldn’t they work longer? The alternative of higher taxes could create serious disincentives in the economy.
4. Encourage Immigration. Falling birth-rates are a problem in affluent western economies. It is precisely these countries that are the ideal place for many seeking to avoid poverty and repression in developing countries. Immigration could easily fill the labour shortages. Some may argue it depends on the type of immigrants. E.g. English speaking skills, age of immigrants, Qualifications.

• How to deal with an Ageing Population

• Reasons for a declining population
• Economic Effects of a declining Birthrate
  

Labels: demographics

1. Increase in Dependency Ratio. Higher number of retired people to those active in the labour force.
2. Higher taxes on those of working age. Because of the increased number of old people. Government spending on pensions and health care increases. As a consequence the government are obliged to raise taxes to avoid a deficit shortfall.
3. Change in sectors of the economy. Although the government may have to spend more on health care and retirement homes, there may be less demand for schools and education spending. This enables the government to make some savings to offset the extra spending.
4. Change in demand for labour. A decline in birth-rates will shift demand for labour. Less demand for child care assistants more demand for care workers. However, this shift will be gradual and should occur gradually.

See also: Impact of an Ageing Population

Labels: demographics

What happens when a population starts to decline? Declining birth-rates are becoming a real problem in much of western Europe and countries like Japan. According to Economist July 28th 2007, 4 out of 9 people now live in a country where the brith-rate is below the replacement ratio (about 2.1 children per couple)


The reasons behind declining birth-rates are a combination of social, cultural and economic factors.

Reasons for decline in Birth rate and Population

1. One of the main reasons for the falling birth-rate, is the changing expectations of women. Women tend to get married later (if at all). This leave less time for having children
2. Increased career opportunities for women. Women have gained an increasing number of opportunities to work in highly paid jobs, which were previously the preserve of men. (see: why women still get paid less than men)
3. Economic Choices. It is perhaps ironic, that increased economic growth and prosperity actually seems to give people a higher priority to the economic costs of having children. Increased prosperity means people have higher expectations about living standards. The cost of raising children is higher than ever before. Therefore, young couples often choose to have 1 or 0 children to save the economic cost of having children. One study suggests the economic cost of having children is upto £200,000 for the first 16 years.

Labels: demographics

During 2007, the dollar has continued to fall reaching $2 = £1. With the continued devaluation of the dollar, many wonder how long it will keep occurring/

Reasons why dollar may continue to fall.

• Large current account deficit. Currently around $700bn this is causing outflows of dollars to buy Asian (and Chinese goods). This increased supply of dollars, drives down the price. Whilst a deficit of this magnitude remains, downward pressure on the dollar is likely to remain.
  

• Sobering thought. – To halve the deficit would require another 20% devaluation
  

• US Dollar losing its Status as Reserve Currency.

Traditionally, (since the demise of Pound Sterling) the US dollar has been the number 1 currency of choice. This means various countries and investment banks are willing to hold dollars for a comparatively low rate of return. If people lose confidence in the dollar as the number one currency, they will lose the incentive to keep buying US debt and holding dollar securities.

Furthermore, US creditors could start cashing in their cheques, causing a further fall in the value of the dollar.

The US is losing its status as a reserve currency for various reasons:

1. Loss of confidence in US economy – especially housing market
2. Loss of political confidence. Invasion of Iraq had proved deeply divisive and has tarnished America’s reputation.
3. Rise of the Euro as an alternative.

Reasons why dollar may not fall.

• Some argue the US current account deficit occurs because Asian investors are willing to buy US securities. Basically, the huge surplus on the financial capital account enables the US to have a large current account deficit. Not the other way around. Therefore, many including some in US treasury argue a deficit need not cause devaluation, in the era of capital mobility.
• The US dollar is becoming very cheap. For Europeans buying goods in America is very cheap. My Mac cost $1,000 in America. This equals £500 with the current exchange rate. If I had bought same Mac in UK, it would have cost £900. Such imbalances in purchasing power would suggest the dollar has fallen enough.

Related Links

• Reasons for fall in US dollar
• Effects of fall in value of dollar
  

Labels: dollar

There has been a lot of press recently about problems in the US housing Market. Basically, the US housing market has witnessed a growing number of home-owners being unable to meet their mortgage payments. The problems are concentrated in the sub prime mortgage sector.

(sub prime mortgage refers to people with bad credit histories such as missed payments, previous defaults e.t.c)

As a result, of mortgage defaults many sub prime mortgage lenders have gone bankrupts, including, New Century Financial Corporation, previously America’s second biggest sub prime lender.

See: Why has the US Housing Market gone from Boom to Bust?

The effects of this sub prime collapse are widespread and can adversely affect the economy in a variety of ways.

Problems of Sub Prime Defaults

1. House Prices likely to Fall.

Because people cannot afford to pay their mortgage payments, they may be forced to sell their houses. Also, the collapse in the sub prime lending market is making lenders much more cautious about future lending. Therefore, this is increasing the supply and reducing the demand. This is a significant factor in causing house prices to fall.

2. Falling House Prices reduce Economic Growth

House prices are a significant determinant of:

i) consumer confidence
ii) Consumer wealth

A fall in house prices reduces consumer wealth, reducing the potential for Remortgaging and gaining equity withdrawal. Also, falling house prices leads to a general decline in consumer confidence. House prices are often seen as a barometer of the state of the economy. The fall in consumer confidence will reduce the rate of economic growth and could even cause a recession in the US.

3. Companies writing off Losses.

The sub prime defaults affects the parent companies who have stakes in them. For example, the US conglomerate GE, recently bailed out of the sub prime market by selling its sub prime mortgage division [1] It blamed the $373 million decline in profits on bad debts from sub prime lending. Because companies such as GE have a decline in profits, there is less scope for business investment. Furthermore, it helps to undermine confidence in the stock market and general economy.

Related

• Economics of Mortgages
• UK mortgage defaults increase
  
• End of the Boom
  

Labels: mortgages

What can economics tell us about frugality and saving money? We can use certain Economic concepts to evaluate how and why we should make certain savings and not others.

Opportunity Cost

Opportunity cost is the concept that each decision has a next best alternative. If you spend £1000 on repairing your car, it means you can't put that money towards buying a new car. If the car is on its last legs, you'd be better off biting the bullet and spending £3000 on a new car rather than keep patching it up. If you spend 10 hours filing your tax return, it means that you lose 10 hours which you could have spent working. Therefore, when we seek to save money, we need to make sure it is worth it. For example, there is no point in saving £1 on parking if it means that we need to spend 30 minutes extra walking. In this case it would be better to pay the £1 and gain time.

Diminishing Returns.

Why are diamonds more expensive than water when water is much more useful and essential to life? It is to do with diminishing returns. The first diamond in our life gives a very high utility (satisfaction) therefore, we are willing to pay a high price for this once in a lifetime purchase. However, if we purchase more diamonds, the utility we get quickly falls. If we had 10 diamonds, what would we do with them? They are surplus to requirements. However, with water, we need to drink it throughout life.

Be careful about purchasing too many goods which give us diminishing returns. If we get joy from eating chocolate, it doesn't mean that we should buy as much as possible. Be aware of when diminishing utility from different goods sets in.

Efficiency.

Efficiency is concerned with the optimal production and distribution of resources. The first type of efficiency is to reduce costs, such as, reducing the running cost of running your house. Look at labour saving technology to improve efficiency in the long term. Efficiency is also concerned with the optimal distribution of your scarce resources. Take time to make sure the price of a good is less than the marginal benefit (satisfaction) that you get from it.

Economies of Scale.

Economies of scale assumes that the more you produce of something the more efficient it becomes. This can be applied to various aspects of life. For example, purchasing economies means when we buy in bulk we get discounts and a lower average price. With regard to earning money, economies of scale suggest it is better to specialise in certain fields, rather than be a jack of all trades and master of none.

Monopoly.

A monopoly can exploit the customer by charging higher prices. Look to see whether firms have monopoly power over yourself. If you still get energy supplies from the established company, you are probably paying a premium. Look to switch to one of the competitors. Firms are cunning in creating monopoly power. One way then can charge higher prices, is through exploiting consumer inertia. Because people are too lazy to move accounts, firms can charge higher mortgage and insurance quotes to their existing customer. Each time you renew insurance quotes, make sure you are in the competitive market and not giving your existing firm monopoly power.

Labels: saving money

If a government could introduce a relatively painless way to prevent 3,000 lives being lost through terrorist action, do you think we would hesitate to introduce such a policy?

A report by the University of Nottingham and University of Oxford [1], claimed that introducing a tax on unhealthy foods would save, at least, 3,000 lives a year from heart disease. The authors also claim this is a conservative estimate, because it ignores the benefits from the reduced incidence of diabetes, strokes and other obesity related illnesses.

Yet, despite the real benefits promised, many politicians and consumers were quick to dismiss the idea. Is it really a good idea to introduce a fat tax, or do Big Macs deserve to remain cheap and free of extra tax?

Arguments for a Tax on Unhealthy Foods

1. Externalities of Unhealthy Foods.

Unhealthy eating has an impact on ourselves but also on the rest of society. Obesity related diseases cost the UK £3.4bn per year. [2] The cost of Obesity in the US is estimated at $75 bn.[3] If we choose to eat foods that make us unhealthy and obese, this creates external costs such as:

1. Medical Costs – treating obesity.
2. Lost productivity at Work e.g. Time off sick
   
3. Premature death

Therefore, the government should collect sufficient tax from unhealthy foods to pay for the external costs that they create. It is the same principle as to why petrol and cigarettes are taxed; e.g. higher petrol tax is justified because petrol causes pollution.

The external cost of unhealthy food is not easy to calculate, but this is not a reason to avoid having a tax. The point is that at the moment society is effectively subsidising the consumption of unhealthy foods, and ultimately it is the taxpayer who has to pay for this.

2. Personal Cost of Obesity

Eating unhealthy foods increases the likelihood of obesity, early death, depression and a whole catalogue of related problems [4]. Higher prices would discourage people from consuming unhealthy foods. It may not stop people eating fatty foods completely, but this is not the aim. Reducing consumption of fatty and salty foods would have a significant benefit in improving health and personal well being.

3. It will save Lives

Currently, more than 216,000 people in the UK die from heart attacks and strokes each year [5]. Heart disease is the second most common cause of death. The report suggests that 3,000 lives per year could easily be saved in the UK. As well as saving lives, reducing obesity will also improve the quality of life.

Arguments against a Fat Tax

1. It is unfair to tax Fat people. It is discrimination.

This is not a tax on fat people. A government inspector is not going to go around with a weighing scale, dishing out tax penalties for people who tip over the scale. This is a tax on unhealthy foods, paid by everyone who chooses to consume them.

2. It's just another scheme to raise government revenue.

A tax on unhealthy foods should be revenue neutral. It is not about raising total tax revenue, it is about switching the tax burden. If the government raised £2 billion a year from such a tax, this tax could be used to subsidise healthy foods, pay for health care or reduce other types of tax.

3. It is a tax on the poor.

The argument is that those on low incomes are more likely to consume unhealthy foods, therefore, this tax will increase inequality. However, if a tax on fatty foods saves lives, we should not avoid implementing it just because it is the poor who will mostly benefit. If we are really concerned about the impact on equality, the revenue from a fat tax can be targeted to the benefit of the poor. An increase in inequality need not occur from a fat tax.

4. Nanny State.

• Who is the government to tell people what to eat? If people want to eat salty and fatty foods then let them.

But, the whole point is people are still free to consume as much salty and fatty foods as they like. It is just that now they have to pay a fairer reflection of the true cost to society. If you got drunk and caused economic damage, has not the state a right to make you pay for the economic costs of your drunkenness? Similarly society has a right to make you pay for the economic cost of unhealthy food. As an additional benefit, you will probably live longer and feel happier.

5. It won't have any Effect.

• Look at smoking; the government tax smoking, but people still smoke. Tax on petrol has not stopped people driving.

Demand maybe inelastic for fatty foods, but they will reduce consumption by a certain amount, and this is the intended effect. For example, a tax on an extra large Big Mac, may reduce consumption by 20%. Instead of eating 10 a week, some people may not only consume 8 a week. This reduction of 20% will have a big impact on improving health. The aim is not to stop people eating unhealthy foods, but reduce excessive consumption. In moderation fatty and salty foods do not cause a problem.


6. Obese people die early and save the government paying pensions.

In a perverse way, this is actually a good argument. Because people who eat unhealthy foods have a shorter life expectancy the government will pay out less state pensions. Therefore, this reduces the external cost of obesity and so lessens the justification for a tax based on externalities. However, in another way, the fact that people die early is hardly a powerful argument for not trying to stop it.



References:

[1] The study from the Queen's Medical Centre in Nottingham claims that taxing food containing lots of fat, salt and sugar would prevent more than 3,000 deaths a year from heart attacks and strokes. See Channel 4 report on Fat Tax

[2] Cost of obesity in the UK is £3.7 billion per year, according to a Government white paper on obesity. See report

[3] Cost of obesity in the US ($40 billion of this cost came from public taxes.)

[4] Link between Obesity and depression at Psychology Today

[5] British Heart Foundation

[6] BBC video on the Fat Tax


The author is this post particularly enjoys deep friend Mars Bars with extra salt.

Related Posts:

• Benefits of Electronic Road Pricing

• Why Gasoline Price should be High - Essay at Freakonomics Blog

Labels: taxation

The fall in the dollar Continues. It has reached a new low of 1.39 US$ to a Euro.
Against the £, the dollar has fallen to $2.03

Reasons for Fall in the US Dollar.


Related Posts on the dollar

• The effects of a devaluation in the dollar
• Is the US economy heading into recession?
• Will the dollar continue to fall?
  

Labels: US economy

IT is reported in the WSJ that some economists felt "6% lending rate in china is too low, for an economy growing at 14% nominally"

please explain what is the relavance of the level of interest rate in an economy growing at a high rate? should the interest rate be less than the growth rate? or should it be more than growth rate or should be similar?


Firstly, it is important to be aware of the real Interest Rate.

• Real interest Rate = Nominal Interest Rate – Inflation
• UK interest rates = 5.75%: Inflation = 2.7%. Therefore real interest rate = 3%
• Basically, if you save money then after the effects of inflation, the purchasing power of your money will increase by 3%.
• If inflation in the UK was 5% it means that the real interest rate would be: 0.75%

Effect of Interest Rates

Interest rates are used by the MPC to control inflation and economic growth.
For example, because there have been inflationary pressures in the UK economy, the MPC increased nominal interest rates.

Higher interest rates reduce the growth of consumer spending and economic growth. This is because:

1. More incentive to save in a bank rather than spend
2. More expensive to borrow, therefore less spending on credit and less investment
3. Increases cost of mortgage repayments, therefore, reduces disposable income and therefore consumer spending

Therefore, because the MPC feel the UK economy is growing too fast (currently just under 3%) they believe inflation could occur and therefore they are increasing interest rates to reduce the rate of growth. They hope higher interest rates will avoid future problems of inflation and a boom and bust economy.

see also: interest rates explained

Chinese Economic Growth

• In 2007 the (real) rate of economic growth in China is 10-11%.
• The nominal rate is 14% - inflation of 3%.
• Inflation in China is just above the 3% comfort level, but some economists feel it could rise on the back of a shortage of goods and raw materials
• Therefore, with economic growth of 10% in China, you would expect inflation to be more of a problem. UK’s growth is 7 % points less yet has the same interest rate as China.

Why China should increase interest rates.

1. Higher interest rates would reduce the rate of economic growth in China to a more manageable level. Therefore, it would avoid inflation and maintain sustainable economic growth (avoid boom and busts)
2. Inflation worry hits china at BBC
3. Evidence of property boom in key cities
4. Banks lending is getting out of control

Why China doesn't increase interest rates.

• Well inflation is still relatively low.
• China’s economic growth is different to the UK, there is still a lot of spare capacity because:

1. High level of labour willing to work at low wages (supply is elastic in economic terms)
2. Spare capacity from privatisation of inefficient state industries.

• Unemployment is a problem in China, despite very high growth levels.

Chinese Yuan undervalued?

Related to the low interest rates is the fact China keeps its currency devalued. By having a weak currency it makes Chinese exports cheaper. This boosts export sales and maintains high growth. Allowing the exchange rate to appreciate would have a similar effect to raising interest rates. Although again, the reason they don’t is that they are fearful higher exchange rates will damage economic growth and cause unemployment.

Related posts

• Should China Revalue Yuan?
• Chinese economic growth breaks records
  

• Chinese inflation at FT
• China's growth: Heading for Car crash? at New Economist
• China's bubble in perspective at Economist
  

Labels: Chinese economy