Economics help blog – Page 130

Dual economy

15 August 201818 February 2017 by Tejvan Pettinger

Readers question: What is a ‘dual economy’?

A dual economy refers to the existence of two distinct types of economic segments within an economy. This involves:

A capitalist based manufacturing sector (geared towards global markets)
Labour intensive agricultural sector (low productivity, geared towards subsistence farming or local markets)

The British economist W. Arthur Lewis wrote an influential paper on the ‘dual economy’ in 1954. He observed that in many developing economies (usually a former colonial country) that the economy was split into these different two segments.

The bulk of the economy was a labour intensive agricultural sector producing primary products. Lewis observed that in the agricultural sector, productivity was often very low, and farmers often lacked the traditional profit incentive and dynamism usually found in a free market economy.

Alongside this agricultural sector was a smaller manufacturing sector, which tended to have higher productivity. Firms in the manufacturing sector were often set up by foreign colonial powers.

It was not just that developing economies had different sectors, but that the different sectors had different economic motivations. Labourers in the agricultural sector usually lacked education, access to capital and had poor prospects for income growth. Agriculture was also focused on meeting the needs of local markets or subsistence farming and was insular in outlook. In the other manufacturing sector of the economy, there was a greater dynamism and an incentive to increase profits through expansion and investment. The manufacturing sector also faced greater global competition which spurs efficiency growth.

The dual nature of the economy may have been heightened by the fact manufacturing firms were set up / managed by owners from developed capitalist economies in the northern hemisphere.

Lewis argued that given the disparity in productivity, developing economies could make substantial economic growth by encouraging labour to move from the unproductive agricultural sector to the more profitable and productive manufacturing sector. Developing countries which concentrated on just agriculture were doomed to low savings, low productivity and low growth.

Another issue with a dual economy was that there is a potential problem from concentrating on agriculture exports. Agricultural goods tend to have a low-income elasticity of demand and are price inelastic. If a developing economy increases the output of agricultural products, this increase in supply is likely to depress prices and lead to lower export revenue. Because demand is price inelastic, they would make more revenue by restricting supply and keeping prices high. This is another reason to diversify out of agriculture and not just concentrate on agricultural output.

Economic trade-offs

26 January 201810 February 2017 by Tejvan Pettinger

Readers Question Q) evaluate the view that ‘trade-offs will be required over the period of the cycle’? In the economic cycle, there is often a trade-offs between different macroeconomic objectives. The main macroeconomic objectives include: Low inflation Higher economic growth Low unemployment Low current account deficit Low government borrowing Stable exchange rate. For example, if the …

Should we be concerned about a falling savings ratio?

17 February 20209 February 2017 by Tejvan Pettinger

In the Bank of England’s latest forecast for the UK, they predict reasonably good economic growth in term of real GDP. At the same time, forecasts for average real incomes are more pessimistic. The Bank of England suggests UK economic growth will be maintained by consumer spending – spending which will partly be funded by …

US economy under Obama 2009-2017

17 February 20207 February 2017 by Tejvan Pettinger

Barack Obama served as President from Jan 2009 – Jan 2017. When Obama came to office in Jan 2009, the US economy was in a deep recession, with falling real GDP, high unemployment and rising levels of government borrowing. As President, Obama oversaw a moderate fiscal expansion which helped to promote economic recovery and falling …

Inflation and Depreciation

1 February 20187 February 2017 by Tejvan Pettinger

Summary – If a country has a higher inflation rate than its competitors, then its good will be increasing in price at a faster rate and therefore, they will become relatively less competitive. It will experience less demand for its exports and therefore less demand for its currency. This will tend to cause a depreciation …

Elasticity of demand for food

30 January 20187 February 2017 by Tejvan Pettinger

The US Dept of Food produces an interesting service on offering estimated elasticities of demand. [link] This graph shows the Cross Elasticity of demand (XED) for various goods with respect to food. I choose two countries – Bangladesh (low income) and the UK (relatively high income) Source: [link] What this means is that if the price …

Government Debt and the Trade Deficit

26 February 20185 February 2017 by Tejvan Pettinger

People often refer to the idea of a Twin Deficit, especially in the US. The twin deficit refers to Government borrowing – government spending greater than tax revenues. Government borrowing creates an annual budget deficit and increases national debt. Current account deficit (imports greater than exports) on Balance of Payments US current account deficit 5% …

Airline price discrimination

8 January 20185 February 2017 by Tejvan Pettinger

Price discrimination involves charging different prices to different sets of consumers for the same good. Firms can charge different prices depending on several criteria:

Quantity bought (e.g. lower unit price when higher quantity is bought)
Time of use (higher price at peak times)
Age profile (e.g. discounts for OAPs)
When unit is bought (e.g. discounts for buying early)

The main principle behind price discrimination is that a firm is trying to make use of different price elasticities of demand. If some people have a very inelastic demand, it means they are willing to pay a higher price. If the firm can set higher prices for these consumers it can increase its revenue and profits. Other consumers will be more sensitive to prices (elastic demand) and so will respond to special offers and price discounts. The firm can benefit if it can separate these consumers and therefore reduce their consumer surplus. See theory of price discrimination here

In the real world, price discrimination might involve charging a different price for a slightly different good.

In this example, of price discrimination, students are given a cheaper price

How does an Airline practise price discrimination?

1. Time of buying a ticket.

There is no hard and fast rule, but if you buy a ticket several months in advance it tends to be cheaper. If demand for the particular flight is high, then the airline starts putting up the price of that flight. It means that the remaining tickets will only be bought by people willing to pay a higher price (inelastic demand). If a particular flight is not selling very well, the airline will do the opposite and reduce the price. This lower price attracts more people who are sensitive to prices and ensures that the flight will fill up.

Ideally, the airline would like to fill up the plane with passengers paying the most they are willing to pay. There is no point in selling very cheap tickets and having the flight sold out many weeks in advance.

Why does the price of an airline ticket change from hour to hour?

You may have had experience of looking for an airline ticket and seeing a flight for £200. The next day, you return to buy a ticket, but see it has gone up to £220. This is very annoying but is due to price discrimination. The airline will reserve a certain number of economy tickets at a low price (to attract early customers more sensitive to price. But, if the tickets for flight are selling well, it can afford to charge higher prices for the remaining few tickets. The airline is trying to capture as much consumer surplus as possible)

2. Unsocial hours cheaper

Because some flight times are less popular, these flights will tend to be cheaper. For example, if you take a weekend break. Most people would prefer to come back late on Sunday. These late Sunday flights tend to be more expensive than early morning Sunday flights.

3. Paying extra for seats with more leg room.

In economy class, Virgin offered a seat with 3 inches of extra legroom for £30. At 185cm, I jumped at the offer. To me, it is a good £30 investment. It was quite popular with nearly 40% of seats in economy class now being taken up with extra legroom seats. It is not quite price discrimination because it’s a slightly different product, but the airline is able to charge higher prices to those consumers with slightly more inelastic demand. In addition to the 3 inches of extra legroom, you could go to the other extreme and pay £15,000 for a first-class airfare.

Interestingly, you can only buy these extra legroom seats shortly before the flight. I wonder if this is to discourage people from avoiding business and just buying a cheap upgrade to economy class?