Since the Great Depression of 1929, the financial crisis of 2008 has been the most serious economic catastrophe. As described by the Guardian, the financial crisis is the ‘three weeks that changed the world’. It started becoming noticeable in September 2008 when several large US financial firms began to fail. It led to a recession which is when housing prices fell by more than 30 percent – which was more than it did during the Great Depression. It had many long-term effects, many of which are still present, the unemployment rate in the US was still above 9 percent two years after the recession ended.
Why did this all happen? The US government encourage home ownership. People were buying expensive houses using money from abroad, which caused house prices to increase. Mortgage companies lent money even if the borrower did not have a good credit, these were called subprime loans – they have a higher risk of defaulting. However, after a while housing companies built too many houses which caused the price of houses to decrease (when supply is greater than demand, prices fall) and the value of a lot of the houses decreased below the value of the mortgage debt. This meant that the homeowners were unable to sell their houses – this is what we call negative equity.
By 2007 and 2008, the whole system started to collapse. Banks started to realise that they were holding onto many worthless debt instruments and the US economy started to freeze up. In September of 2008, Lehman Brothers filed for bankruptcy and this was the largest filing in history, and at the time of its collapse it was the fourth largest US investment bank with 25 000 employees worldwide. It had $639 billion in assets and $619 billion in debt.
Banks were bundling up mortgages together and selling the packages to other banks or investors. The packages included mortgages from prime borrowers who would pay back the loan, along with mortgages from subprime borrowers who had a high risk of defaulting. However, the banks were selling these packages as if they only included prime mortgages and were making money. Although this was meant to reduce the risk, it meant that many institutions had bought mortgage packages that were worth less than what they had bought them for. Other countries were also affected from this issue, in the UK the Northern Rock became their first casualty – too many loans were not being repaid so savers started to withdraw their money.
The UK government soon bought Northern Rock (guaranteeing savers their money) and soon bought most of Royal Bank of Scotland and parts of Lloyds Bank. This fall in lending by banks led to a fall in consumer spending and investment leading to a fall in GDP and a rise in unemployment. Due to the rise in unemployment, government spending related to welfare payments (i.e. unemployment benefits) rose. Governments had to rely on institutions such as the European Union to lend them the loans that they needed.
What is the digital economy? The digital economy refers to an economy that is based on digital computing technologies. An example of a digital economy is Amazon. This economy revolves around high-tech computing and the internet to communicate with consumers. The digital economy replaces the traditional retail style shopping which is known as creative destruction.
Another example of a popular digital economy is eBay. eBay is a platform where individuals and suppliers can buy and sell goods and services. Consumers can also bid for the good. The website uses PayPal, which is an American company which operates worldwide and supports online money transfers and services an electronic version to traditional paper methods. In order for these digital economies to work, many skilled workers are required to collectively use their knowledge to create a platform. This means that the introduction of new digital economies decreases the rate of unemployment, which is currently at 4.7%.
The digital economy requires suitably skilled workers, for example those that have been trained in the technology field, these workers are usually in short supply. This means that the wage price increases as supply is less than demand. As wages increases, it will give people more incentive for them to train under the technology field, this results in lower unemployment due to the many jobs created. This also corrects the problem of unemployment being central for those who are younger.
However, the increasing rate of the digital economy can also cause unemployment. This is because the traditional methods of retail, such as the shops on the high street, will soon be overtaken by the internet. This causes high street retailing shops to close down as less profit is produced. This then results in some workers losing their jobs, which increases the rate of unemployment. Furthermore, older workers would most likely impact from this the most as they do not have the skills to move jobs into the digital economy.
Although the digital economy does create jobs, it also causes many jobs to be lost. And as the internet is constantly growing very fast, these effects should soon be visible to the overall economy. UK’s unemployment rate will increase as retail is the UK’s largest private sector employer, employing around 2.77 million people in the UK. The digital economy employed 1.3 million people in 2014, and 5% of all those employees were in the UK. This shows the massive difference between those who work in store and online.
Globalisation starts with increasingly open economies, countries that are exporting and importing more than they used to. With globalisation comes structural change. Resources will be allocated: in some sectors, more resources will be needed to make profitable exports. In other sectors, business find they cannot compete with imports. They adapt their products to improve competitiveness or reduce their output.
A main reason why globalisation happened is due to investment in new markets. Foreign direct investment (FDI). Many bigger businesses don’t just want to export: they want to invest in new markets. They want to build businesses in a range of countries. Most of FDI goes to developed or fast growing economies. Many poor countries are not attractive to foreign investors due to limited profits and various other factors. However in recent years poorer countries are gradually starting to attract more FDI, due to the development in their economy. Investment creates jobs and enhances prosperity. Many government offer incentives for investors. For example keeping business tax low. FDI is a two way thing. The country the investment goes in, also benefits. China being a prime example. Reasons why businesses are eager to invest into China is because of their labour costs and also to gain access to Chinese market of 1.2 billion people. Apple being an example of this. Shifting the production process to other businesses in order to reduce input costs. Also known as outsourcing.
Trade matters for an economy to develop. GDP is a measure of total output or income. It stands for gross domestic product. Global GDP is just the total value of all economies output. Slow growth was seen by many countries during the 80s. But the usual trend is for trade to increase trade. The recent drop in global GDP was seen after the 2008 financial crisis. Trade will remain an important element in economic growth process. International trade enhances the force of competition. When it becomes possible to import product that were previously not at reach or very expensive, consumers get to enjoy different variation of things. Imports also become popular, therefore wages go up. Soline of production and management both benefit due to globalisation. Globalisation will also cause some businesses to close down due to their lack of competitiveness in the market. An efficient economy needs skilled people. People might learn new skills and improve their income and keep searching for a better job.
Globalisation was only made possible after World War II. Governments understood that tariffs made products more expensive for consumers which affected many weak businesses. So therefore the government worked together to create the General Agreement on Tariffs and Trade, known today as World Trade Organisation (WTO). The aim is to make imports more cheaper and markets more competitive, helping to raise standard of living. Fewer import controls meant firms could export more, and trading becomes much more freer. This process became known as trade liberalisation. Overall globalisation plays a vital role in improving the economy as a whole, and still continues to do so.
Greece joined the Euro in 2001, and its confidence for the economy grew leading to a big economic boom. In 2007, the financial crisis hit 5,000 miles away in the United States. It then hit countries around the globe and every country in Europe experienced the recession but Greece suffered the most as it was one of the poorest countries and had a lot of debt at that time already. The unemployment rate reached 28% in 2013, which was worse than the United States during the Great Depression.
The government debt carried on rising and as it was the aftermath of the global financial crisis, investors were concerned that Greece would not be able to pay back their debt. This meant that it became expensive for Greece to borrow money, resulting to their first bail out loan in 2010. This was provided by the European Central Bank and the International Monetary Fund on a condition that they would decrease government spending. Many economists did not agree with this agreement and believe that it might be the reason for why Greece is in this situation. Government spending is important because it likely to increase aggregate demand and as it is an injection into the economy which could increase the rate of economic growth.
Greece could not pay their bills, interest/dividends on their bonds, payments due on loans nor could it pay for all the new jobs it had unwisely creates. This then led to a decrease in unemployment, a crisis of confidence, a decrease in foreign direct investment and political uncertainty. This debt carried on increasing. The Greek people have been rushing to ATMs to withdraw as much money as they can, after they have been giving a limit to withdraw up to sixty euros per day. The Greek government spent more than it received in revenue and over the years this accumulated deficit became extremely large compared to their GDP. Not to say that other countries do not have large deficits, the US deficit is large and growing larger and it is unsustainable; Japan’s debt is also very large.
However, the US and Japan are not considered broke, while Greece is because:
Japan’s currency (yen) and the US’s currency (euros), can be printed whenever needed (this will cause inflation in the future but they can use the printed money to pay their bills). Greece has to pay in euros, which cannot be printed whenever needed.
Also, creditors know that Japan and the US will be able to handle their problems and pay off their debts with valuable currency. But Greece, has failed to implement reforms and so creditors do not believe that they can pay off their debts.
The trade cycle is a term that is commonly used, and one that many people assume that you know the definition of. However, the trade cycle has many different features and types to it, which are not very easy to understand. So what is the trade cycle? The trade cycle, also known as the business cycle or economic cycle, are regular fluctuations in the level of economic activity around the productive potential of the economy.
Trade cycles tend to have four main phases:
o Peak or boom:
When the economy is at a peak or is in a boom, national income and output is said to be high. It is likely that the economy will be working beyond full employment. Overheating is therefore present. As a result of this, consumption and investment will be high as households and firms will be willing to consume and invest. Tax revenues will be high. Wages will be rising and profits will be increasing. Imports will also be increasing as people will have more disposable incomes and so are likely to demand more from foreign countries. There will also be inflationary pressures in the economy.
When the economy moves into a downturn, output and income will fall. This then leads to a fall in consumption and investment, as consumers have less disposable income and they will be less willing to spend. Tax revenues begin to fall and government expenditure on benefits begin to rise. This is because unemployment rises and more people are on low-incomes. Imports decline and inflationary pressures ease.
At the bottom of the cycle, the economy is said to be in recession (or depression or trough or slump). Economic activity is at a low in comparison with previous years. High unemployment exists, so consumption, investments and imports will be low. Prices of goods and services will be falling, so there will be deflation. People generally have less money and
As the economy moves into a recovery (or expansion) phase, national income and output begin to increase. Unemployment begins to fall and consumption, investments and imports begin to rise. Workers feel more confident about demanding wage increases and so government expenditure on transfer payments begin to fall. Inflationary pressures begin to rise.
A very well-known example of the recession phase is the Great Recession, which occurred between 2008 and 2013. The recession began after the global credit crunch and led to a long period of low economic growth and rising unemployment, which lead to a number of other problems.
The causes of the trade cycle can be categorised into two main types: demand-side shocks and supply-side shocks.
o Demand-side shocks are those that affect aggregate demand, and include:
• House prices rise too high and there may be a sudden collapse in the demand for housing which leads to a fall in house prices. This decreases consumer confidence, which results in less consumer spending and a decrease in the amount of house built, decreasing output and increasing unemployment.
• The central bank may increase interest rates as a result of rising inflation. If the interest rate is too high, it reduces consumer spending which leads to a recession.
o Supply-side shocks are shocks which affect aggregate supply, and include:
• Natural disasters are supply-side shocks as they disrupt the production process. For example, Hurricane Katrina’s terrible effect upon the oil and gasoline industry.
• Technological advances that improve the productivity of labour. These improvements cause the quantity supplied to increase and the price to fall.
The 2008 financial crisis is known to be the worst economic disaster since the Great Depression of 1929. It is a world wide financial ‘fiasco’ involving terms everyone is familiar too, like subprime mortgages, collateralised debt obligations, frozen credit markets and credit default swaps. Most homeowners were affected due to this.
The financial crisis is bringing two groups of people together - homeowners and investors. With homeowners representing their mortgages which would be houses; and investors represent their money which would be huge institutions like pension funds. These two groups are brought together by the financial system - banks etc. Years backs, investors wanted to invest in something that will make them more money. This was usually done by going to the US Federal Reserve, where they buy treasury bills - safest kind of investment (AAA rating). After ‘9/11’, federal reserve chairman Alan Greenspan lowers interest rates to only 1% in order to keep the economy strong. This was bad news to investors as their returns were not very high resulting in not much profit. However this means banks can borrow money for only 1%, this causes an abundance of cheap credit, which the bank took advantage of. Banks can easily make money with this - charging borrowers more interest. Investors seeing how banks make huge profits want to do the same, and this is where it begun.
Firstly the banks started by connecting homeowners to investors, through mortgages. To put into perspective this cycle, we begin with a family wanting a house. They set a down payment and contact the mortgage broker which then connects the family to a lender who gives them a mortgage. The broker receives a commission and the family become homeowner - which is pretty advantageous as housing prices are increasing. After this the lender sells the mortgage to an investment banker, making profit. The investments banker buys many mortgages, so this means they receive monthly payments from homeowners, making huge profits. After doing some ‘financial magic’ they turn it into a collateralised debt obligation (CDO). One way to imagine a CDO is a as box into which monthly payments from multiple mortgages. It is divided into three tray, each representing different risk levels. The ‘bottom tray’ being labelled as risky and middle being ‘okay’ and top being ‘safe’. This is labelled so because the money fills from the ‘top tray’ which means that it will fill more likely than the ‘bottom tray’ - like a cascade. To compensate for the higher risk the bottom tray will get a higher return than the top and middle trays. To make the top tray even safer the banks may insure it, a credit default swap.
So the investment banker sells the ‘safe’ tray to investors who only want save investments. And sells the ‘okay’ tray to other bankers. Lastly the ‘risky’ tray to hedge funds and other risk takers. Then investment banker makes millions from doing this and pay any loans off they might have borrowed to buy the mortgages. This makes the investors satisfied as they have good returns, higher than the 1% on treasury bills. Greed takes over and the investors want more CDO slices. But here is the problem - everyone who's qualified for a mortgage already has one. They resolve this problem by giving out mortgages to people ‘less responsible’ which are called subprime mortgages. These mortgages required no down payment and no proof of income - this is the turning point. The cycle is back in play. Due to the more ‘less responsible’ homeowners the frequency of defaults started increasing which means that the banker has many houses. So they put it up for sale, which means there are many houses for sale on the market. This creates more supply than there is demand and housing prices start decreasing. People who were paying back mortgages stopped paying as the value of their house decreased from what it was when they bought it. Default rates increased significantly throughout the country. This meant than investment banker couldn't sell his his CDO to anyone as they were worthless; the investors who already had purchased CDO’s wasn't making any money from it; the mortgage lender trying to sell the mortgage couldn't sell it to the investment banker and the mortgage broker was out of work. The whole financial system froze and all people in play become bankrupt.
The 2008 financial crisis was a very important event in the world’s history, greed playing a key role in this. Millions of people were left unemployed and more than 12 trillion US dollars was lost in America - ‘the cost of the crisis’.
‘BRICS’ is a grouping acronym that refers to the countries of Brazil, Russia, India, China and South Africa - also known as the association of five emerging economies. This association was originally referred to as ‘BRIC’, after the addition of South Africa in 2011 it changed to ‘BRICS’. All five countries are part of G-20. The G-20 is an international forum for the governments and central bank governors from 20 major economies. They hold annual meetings which are more commonly referred to as summit. The first summit was held in Russia and the latest in India.
People question the importance of BRICS without knowing they play a significant role in the world. BRICS represent 3 billion people, this number put into perspective is 40% of the world population. The five countries combined GDP is a staggering Amount of US$16.039 trillion, again which is 20% of the gross world product (GWP). GWP is the combined gross national product of all the countries in the world. They also have a sum of US$4 trillion in combined foreign reserves. Foreign reserves is money or other assess held by a central bank or other monetary authority so that it can pay if need be its liabilities.
What similarities do they have? Well all five countries are developing which gives them all the same ground. All these nations belong to the ‘south block’ also known as the developing block. The main objective is they act as one to promote legitimate international system, to give an example reform of the UN Security Council. They also act as ‘bridge’ between developed and developing countries. An example of this can be identified on the liberalisation of agricultural subsidies in developed countries. One of the main objective they all share is the assistance of developing countries in trade and climate change negotiations, as well as on issues related to the export of manufacturing products. They five emerging countries also establish the BRICS Business Council. On top of all this they challenge institutions like International Monetary Fund and the World Bank.
There are many disparities with BRICS. China is the dominating country in this association. China’s political aspiration creates challenges and increases difficulty to make consensus. To boost exports china manipulates its currency, devaluation of yuan. There are many concerns about the security issues as they maintain a low profile about it. With Brazil, India and South Africa being democratic countries while Russia and China are authoritarian regimes. Also Russia, Brazil and South Africa export different commodities, while China exports manufactured goods and India exports services.
BRICS face many challenges. After the US election 2016, currency depreciation affects these countries. Due to the Chinese stock exchange crash, which data showed that China’s economy was slowing down, which triggered fear among investors and prompted sell offs. Also in recent years there has been a slowdown in global demand which has slowed down the growth of the countries. Two main initiatives taken by the BRICS is the New Development Bank (NDB) and the BRICS currency reserve arrangement (CRA). The NDB is set up for infrastructure lending and focuses on renewable energy. It has made an initial set of project loans in all five members countries. The CRA consists of $100 billion, this for members to short term liquidity to ride over external crises.
To conclude BRICS play an important role in the economy. Like Jim O’Neill’s point that the world is changing. Experts believe they will be the world’s superpower by 2050.