Please enable JavaScript.
Coggle requires JavaScript to display documents.
2.5.1 Economic Influences - Coggle Diagram
2.5.1 Economic Influences
Inflation
a general increase in prices and fall in the purchasing value of money
measurement = Consumer Price Index (CPI)
Increased costs lead to:
Shoe leather costs
time researching the market for the best deals from suppliers
menu costs - if a business raises costs it will have to make customers aware of this through advertising and printing- hyperinflation
more pay negotiations may have to happen with workers
Effect on Uncertainty
Cause uncertainty in contracts as may not be able to offer a consistent price. May cause businesses to out off investment
Effect on Borrowing and Lending
On one hand is positive as the value of debts can become decreased. Initially could benefit borrowers however after appeared of time interest rates become index linked and therefore link to the rate of inflation
Effect on International Competitiveness
If UK exports and has higher interest rates than its trading partners , prices will increase and they may become uncompetitive , as a result likely to loose sales and shares overseas
Interest Rates
Effect on Customer Reactions
inflation unsettles consumers , the become less willing to borrow money , not knowing what will happen in the future
increased saving means less spending on businesses
if inflation rate is very high and increasing , consumers may have different spending patterns such as spending on 'pay day' as they do not know how the vale of money will change in time
prolonged inflation tends to lead to more saving
Exchange rates are the value of one currency expressed in terms of another currency.
Changes in the exchange rate can affect the decision-making process of a business which imports from or exports to a country with a different currency.
For example, if Lidl imports goods from Spain, and the Pound Sterling weakens against the Euro, the price of imports will increase in Pounds. This will affect the decisions made about order quantities and selling prices.
Deflation
a decrease in the general level of prices
Why can it be a problem for businesses?
Usually associated with a fall in demand , when prices are falling people may postpone spending as they old out for prices to go even lower in the future. Business may have to lower prices which can reduce profits
Why might it not be a problem for businesses?
Fall in the import prices may mean a stronger pound
Cost of raw materials and necessities reduced such as oil may mean that a business can operate more for cheaper , increase production
Taxation
Taxation refers to the tax paid by businesses on any profits made.
Changes in taxation can affect a business’ decision making. For example, increased taxation will reduce profit after tax which can affect strategic investment decisions.
If there is less money left over to invest, then the business is likely to have to prioritise better.
Government Policies
Fiscal policy refers to the use of government expenditure and taxation to influence demand.
Changes in government expenditure and taxation can increase or decrease demand which businesses may need to respond to.
Monetary policy refers to the controlling of money supply and interest rates to control economic activity.
Increasing interest rates may affect business decision making as consumers may increase their savings and therefore decrease spending which can affect demand for a business’ products.
Trade
Open trade and protectionism refer to the ability of countries to trade either with or without barriers to trade.
Protectionist measures can reduce international trade which can affect a business importing and exporting goods and services.
For example, banana sellers are affected by protectionist measures governing the trade of bananas and this affects supply and cost.
The Economic Cycle
Recession
A recession is defined as “two or more consecutive quarters of negative real GDP growth”.
In the trough, the prices of factors of production, such as labour and land, have fallen so far that some entrepreneurs think the only way is up. So some entrepreneurs think the economy has ‘bottomed out’ and it is the best time to buy and invest.
Recovery
Eventually, this recovery gathers momentum and turns into a full expansion:
As investment increases, real GDP grows. Unemployment falls as jobs are created and workers are needed to produce goods and services.
So incomes rise and consumption rises too, creating a further need for investment and workers. As consumers buy more things like houses, house prices also begin to rise.
As profits rise, so do businesses' share prices. Animal spirits (confidence) are rising with these variables too.
Boom
Workers are working over-time and wages are rising.
Inwards migration may rise attracted by the work.
Demand for luxury goods is high.
Demand for imports is high – raw materials to produce other goods and luxury goods from abroad to consume e.g. holidays abroad.
Eventually, factories can't keep up with demand and so there are delays in deliveries. Workers keep working overtime, extra staff are hired.
The government gets more tax revenue and is spending less on benefits, so the fiscal deficit reduces.
Stagnation
Once the boom is in full flow, eventually it starts to become unsustainable. People start to worry that house prices and share prices are too high. They no longer reflect the real value of these assets but instead are speculative bubbles (over optimistic hype).
Some firms have over-invested as a result and returns on their investment start to be below forecast. Suddenly, some entrepreneurs get cold feet and start to worry. They might start to put off investment projects. Some workers may be told to take shorter shifts
Return to Recession
If prices start to fall significantly, firms profits will fall as demand collapses. Now, workers will be fired and unemployment will rise. Government spending on welfare will rise while tax revenue from firms and consumers will fall.
Consumers may try to save money for a rainy day, reducing consumption further.
As firms profits fall, some make losses and go bankrupt. This means some banks have made loans that don’t get repaid. This harms confidence and reduces aggregate demand. Firms will need fewer workers and will reduce investment further