Economics dt398/1 Project 1



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Economics DT398/1 - Project 1

The first project accounts for 20% of total marks.

Listed below are six News Items illustrating topics that are based on material covered in the Course.

Four of the six Items must be answered. In each case read the hyperlinked reference material provided and then answer the questions asked. A full answer should be at least 2 - 3 pages in length (though this may vary depending on context). Where required, diagrams can be hand drawn - though as neatly as possible!

The Project is to be typed up and submitted by Feb 1, 2012

(State clearly on the project your name and student number).


1. BA Fuel Charge


One of the contributing factors towards high inflation in the UK is high and rising oil prices – most of us have seen the effects of this with high prices at petrol stations. However, there are many other areas where high oil prices have had knock on effects and one particular effect is the costs to airlines. As a result, passengers will see a higher price. British Airways will be increasing its fuel surcharge on long-haul flights. The surcharge for economy seats is likely to increase by £10 per flight and for premium seats is to increase by £20 per flight. Nick Swift, BA’s chief financial officer said:

‘As customers will know form the price at petrol pumps, the cost of fuel has continued to rise significantly over the past three months. For us, fuel now represents over one-third of our costs and particularly affects our long-haul flights.’

The impact of high oil prices will undoubtedly affect airline profits, which are expected to halve this year. While International Airlines Group (IAG) has seen a rise in passenger numbers, costs have been rising faster and this may continue with further political unrest in the Middle East, as well as the recent natural disasters we have seen – in particular the concern about the nuclear power station. These concerns have led many airlines, including IAG to engage in hedging, where airlines try to protect themselves from rising fuel prices by agreeing the price they will pay for fuel several months ahead. There are undoubtedly risks of doing so, but with such high prices, this is a practice that airlines have engaged in. After all, fuel does represent over one third of IAG’s costs, so this price hike is hardly unexpected, but consumers will inevitably be affected.

British Airways increases fuel surcharge by £10 Telegraph, David Millward (5/4/11)
BA raises long-haul fuel surcharges BBC News (5/4/11)
BA passengers face fuel surcharge hike Sky News (5/4/11)
BA long-haul surcharge to go up The Press Association (5/4/11)
British Airways ups longhaul fuel surcharge Reuters (5/4/11)

Questions


  1. What are the causes of rising oil prices?

  2. What is the process of hedging? Are there any risks involved in it? Under what circumstances could hedging enable companies such as IAG to gain and lose?

  3. What impact is this surcharge likely to have on consumers? Who will it affect the most?

  4. What explanation is there for rising passenger numbers, yet falling profits for IAG?

2 Barter art

At a three-day event from 27 to 29 November, people were given the opportunity to barter for works of art on display at the Rag Factory gallery in London. Works by many famous contemporary artists were displayed, although none of the works was signed and the artist’s name was not displayed.

The idea was that people would barter for works on their own merits rather than because of the name of the artist. People could offer anything they chose. They simply wrote the offer on a slip and then the artist would choose which ever offer appealed to them the most. Offers ranged from a lettuce, a curry and even a song, to a Ferrari and a person’s own kidney.

As Stephanie Hirschmiller writes in the third linked article below, “Bartering has long been a mechanism on which the art world spins – from Picasso exchanging sketches for meals and London’s YBAs running tabs at The Ivy in exchange for pieces of their work to adorn the venues walls. Even Manhattan’s Chelsea Hotel, home to a slew of famous residents including Bob Dylan, Allen Ginsberg, Dylan Thomas and William Burroughs would once accept art in lieu of rent from its cash strapped incumbents.”

So is barter a realistic alternative to the market – at least for works of art and some other items? Does it have any advantages? The following articles consider the issues.

Barter for Art (video) BBC Today Programme, Evan Davis (28/11/09)
Pick up an Emin for a song Independent, Annie Deakin (27/11/09)
Barter Economy The Handbook, Stephanie Hirschmiller (24/11/09)
Don’t believe the hype New Statesman, Stephanie Hegarty (27/11/09)
Saving on Art the Old-Fashioned Way New York Times, Alice Pfeiffer (23/11/09)

Questions


  1. What are the necessary conditions for successful barter to work? Can it ever be an efficient form of exchange?

  2. What are the advantages of barter over normal market exchange with money and prices?

  3. For what other products and services might barter be an appropriate form of exchange?

  4. Do you take part in barter at all? If so, under what circumstances


3. The future of food output and prices


The annual Agricultural Outlook for the next ten years has just been published jointly by the OECD and the UN Food and Agriculture Organization (FAO). Click here and here for audio presentations of the report by the FAO’s Jacques Diouf and the OECD’s Angel Gurría.

The report argues that world recovery will raise agricultural prices. This will be partly the direct result of higher demand and partly the result of higher prices of agricultural inputs, such as fertilisers and fuel. But prices will not rise back to the peak levels of 2007/8. These higher prices, however, would have a positive effect on world food output, especially in the BRICs (Brazil, Russia, India and China). This, in turn, would limit the price rises.

So is this good news for food producers and consumers? The following articles look at the issues

Articles
Economic upturn, energy to lift farm prices-FAO/OECD Reuters, Gus Trompiz (15/6/10)
Higher average farm prices expected, food security concerns persist, say OECD and FAO FAO Media Centre (15/6/10)
Food commodity prices to rise Financial Times, Javier Blas (15/6/10)
Price increases fuel fears of food ‘crises’ Financial Times, Javier Blas (15/6/10)
Emerging economies ‘to enjoy food production boom’ BBC News (15/6/10)
Rising crop prices can be ‘good news’ for farmers: UN/OECD MSN News, Malaysia (15/6/10)
Food prices to rise by up to 40% over next decade, UN report warns Guardian (15/6/10)
Wheat, oils and dairy prices to stay up 40% for next decade, FAO BakeryAndSnacks.com, Jess Halliday (15/6/10)
Food prices could soar up by 40 per cent in next decade, UN report warns UN News Centre (15/6/10)

Report and data
OECD-FAO Agricultural Outlook 2010-2019: portal page OECD and FAO
OECD-FAO Agricultural Outlook 2010-2019: Highlights OECD and FAO
OECD-FAO Agricultural Outlook 2010-2019: Database OECD and FAO
Commodity prices Index Mundi

Questions


  1. Explain what is likely to happen to food prices. What are the explanations given in the report?

  2. Represent the analysis on a supply and demand diagram (or diagrams).

  3. What is the relevance of (a) income elasticity of demand, (b) price elasticity of demand, (c) cross-price elasticity of demand, (d) price elasticity of supply, in explaining the likely future movements of food prices and why some food prices are likely to rise faster than others?

  4. What factors are likely to impact on the production of food in developing countries?

4. Increased Gazumping!


The owner-occupied housing market has seen widespread coverage. With house prices falling throughout the recession and problems accessing mortgages for many people, it is this sector of housing that has received most attention. However, it is rental homes that we’ll be considering here and a new strategy being adopted by landlords. As access to mortgages dried up, people instead turned to renting. Demand for rental properties began to increase, such that competition between potential tenants increased significantly. Not only has there been a substantial increase in rents – up by some 35%, but it has also led to a new ‘sealed bid’ strategy.

A strategy that is often used for purchasing houses is where potential buyers submit sealed bids and it is this approach which is now spreading to the rental sector, as demand and competition for properties increases. Potential tenants are required to submit a sealed bid, containing the amount that they are willing to pay to rent out the property and all this must be done within a deadline. Whoever submits the highest bid ‘wins’ the property and hence tenants are encouraged to submit a bid at or close to the maximum they are willing to pay. Landlords insist that they are not trying to force tenants to pay more, but that it is simply the most effective way of letting properties that are short in supply, but face significant demand. As the BBC News article states:

‘It seems that with the current state of the housing market, sealed bids will be here to stay – as long as many would-be renters are chasing a dwindling supply of good rental homes.’

Rental ‘gazumping on the up as demand rises Metro, Tariq Tahir (8/11/10)
’Bidding war’ for homes to rent BBC News, Nigel Cassidy (20/11/10)
Rental market’s now so hot tenants are having to make sealed bids Mail Online, Sebastien O Kelly (8/11/10)
Is the buy-to-let market on its way back? Seek4Media (20/11/10)
Gazumping on the rise as London rental soars Gulf Times, London Evening Standard (8/11/10)

Questions


  1. Using a supply and demand diagram, explain the trend we have seen in the rental market, thinking about the impact on demand, supply and hence on price. How does this explain why sealed bids have been used to combat the increased competition?

  2. Which factors have affected (a) the demand for rental properties and (b) the supply of rental properties? How is the elasticity of demand and supply relevant here in terms of the impact on price?

  3. To what extent is a sealed bid format fair on potential tenants? Who does such a strategy favour?

  4. How could this sealed bid strategy be an example of price discrimination? What is likely to happen to your consumer surplus if you have to submit a sealed bid?


5. Nokia’s phone battle


Nokia is finding out just how competitive the phone industry is, as it sees its third quarter figures come in at a loss. Google and Apple have seen their market shares rise and this has had an adverse effect on the Finnish company, Nokia. This goes some way to backing up the job losses seen earlier in the year, when 7000 jobs were cut and there was a re-allocation of workers towards ‘smartphones’.

Despite Nokia’s disappointing results in this sector, it has seen growth in its sales of other more simple phones, illustrating its ability to focus on this aspect of the market. Its sales were higher than forecast at 107 million handsets in the third quarter, showing some signs of a changing trend for the firm. However, with competition ever increasing, Nokia will need to consider its future strategy very carefully.



Nokia reports lower-than-estimated loss as profit forecast for phone unit Bloomberg, Diana Ben-Aaron (20/10/11)
Nokia swings to loss in third quarter BBC News (20/10/11)
Nokia boosted by sales of cheap handsets Financial Times, Daniel Thomas (20/10/11)
Nokia beats forecasts with sales of 107m phones Guardian, Juliette Garside and Charles Arthur (20/10/11)
Nokia prepares for ‘solid’ windows phone launch Telegraph, Matt Warman (25/10/11)

Questions

  1. How would you describe Nokia’s strategy of focusing on cheaper and simpler phones?

  2. Would you say Nokia’s strategy is sensible? What factors will determine its success?

  3. How have Apple and Google managed to expand their market share and become serious competitors to firms like Nokia?

  4. Into which market structure would you classify the phone industry?


6. Who will foot the bill?


Demand and supply determine prices, but when it comes to factors of production, such as labour, their ‘price’ is largely influenced by their productivity. This helps to explain why doctors are paid more than cleaners and Premiership footballers more than amateurs. But, can it really explain a £50 million transfer price for Fernando Torres, as he moves from Liverpool to Chelsea? Undoubtedly he’s a good footballer, but are his skills worth the price paid? The same question can be asked about David Luiz – a price of £25 million; Andy Carroll – a price of £36 million and a bargain price for Luis Suarez – a mere £23 million! How can teams, such as Chelsea afford to spend so much money, despite making a loss of £70.9 million in the year to June 2010? How much would they have lost had they not won the Premier league and the FA cup?

With the country facing the possibility of returning to recession and the trouble that Portsmouth FC found itself in last season, UEFA’s ‘financial fair play’ rules seemed like a good idea. But, they appear to have been thrown out the window. £200 million was spent on a handful of footballers, as libraries across the UK are shut down due to a lack of funds. The Premier League in the UK generated a higher income than any other, equal to £2.3 billion. However, 14 of our clubs made substantial losses. The amount owed to banks or the owners backing these clubs came in at a mere £3 billion. As the big clubs in the UK push up the prices, more and more ‘small’ clubs are being competed out of the market.



Torres makes record move from Liverpool to ChelseaBBC Sport(31/1/11)
Chelsea and Liverpool drive astonishing £134 million manic Monday Telegraph, Jason Burt (1/2/11)
Champions Chelsea report £70.9 million loss BBC News (31/1/11)
Chelsea announces 70.9 million pound annual loss despite winning Premier League and FA Cup The Canadian Press, Stuart Condie (1/2/11)
Financial restraint goes out of the window when the big clubs struggle Guardian, David Conn (1/2/11)

Questions

  1. How are the prices of footballers determined? Use a diagram to illustrate your answer.

  2. What factors explain why Premier League footballers are paid so much more than those in the Conference?

  3. As prices are bid upwards, is there an argument that smaller clubs are being competed out of the transfer market? What type of market structure is football becoming?

  4. How is that Chelsea can make £70 million loss but still have the finance to spend £50 million on new players? What policies could be used to ensure lower prices are paid for footballers? Would they be effective and are they needed?


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