UK Economy and Disposable Spending

UK Economy and Disposable Spending 1. Definitions in the United Kingdom economy: a) Real disposable income: Real disposable income is an economic indicator which is the personal income that households remained with after government charges and income taxes were paid, also after it was adjusted for changes in prices or for inflation. This available income can either be spent or saved by households. According to the Keynesian theory of consumption, there is a link between real disposable income and consumption level as well as savings. In the UK economy, real disposable income witnessed ups and downs since the financial crisis of 2008, in 2010 it decreased by 0.8% while in 2011 it decreased by 2.0%. One of the main reasons for this declining real disposable income is due to inflation and the rising prices of commodity goods as well as the VAT increase. b) Unsecured debt: Unsecured debt refers to a loan that is not backed by an asset, in this case if someone is not able to repay the money owned from a financial institution they won’t take any of his property since they do have the right to. Some of the unsecured debts include credit cards, student loans and medical bills. It is considered of high risk for lenders, when the borrower fails to make the full repayment they might have to go through the process of suing them in order to get their money back. Unsecured debt is the opposite of secured debt for instance, a house mortgage is backed and secured by the house and when someone fails to pay the lenders they can close it and take it. In the UK economy, in 2013 the UK witnessed its first increase in unsecured debt since the financial crisis of 2008 by 8.5 billion pounds as a result of the increasing student loans. In the other hand unsecured consumer debt stayed flat at 5,900 pounds per household. c) Real interest rate: The real interest rate is the rate that is expected to be received by investors after removing inflation effects Real interest rate is linked with nominal rate and inflation rate as it is calculated as the following: Real interest rate = Nominal interest rate – Inflation rate In the UK economy, the real interest rate remained low since the financial crisis, after 2008 it decreased from 1.4% to -1.6% in 2009, it continued in decreasing to -2.5% in 2010, while it increased from 2010 to 2012 up to -1.2% as the following graph shows: d) Durable goods: Durable goods are goods that last for a long period of time and have a useful life of at least three years. Goods that are purchased and consumed in short period of time are called non-durable goods such as medicine or food. Durable goods are goods that they don’t need to be bought frequently. Examples of durable goods are: furniture, cars, jewelry, appliances, and also on heavy assets such as airplanes or ships. In the UK economy, according to Chart C UK consumers spending on durable goods increased dramatically from 2004 to 2010. According to the Bank of England consumer spending on durable goods increased by 2.1% from 2012 to the first quarter of 2013 these spending were mostly on motor cars, appliances and clothes. The following chart displays the components of UK consumer spending on durable goods: e) Animal spirits: Animal spirit is a concept developed by John Maynard Keynesthat refers to the level of consumer confidence and its effect on the economy. It is future expectations that drive the consumers to either spend or save and the willingness of businesses to invest in a certain market. In the UK economy, consumer confidence and optimism about the future of the UK economy has been increasing dramatically over the 4 last years, from 2011 at -30% to 0% in 2014 as the following graph shows: This increase was generally due to improvements in purchasing power and increased job security. In the UK, consumer confidence is related to consumption and it is used to predict future consumption. 2. What is the relationship in normal times between real disposable income and the level of household consumption? In normal times when there is economic stability and a higher consumer confidence the relationship expected between real disposable income and the level of household consumption is that when the real disposable income increases the level of household consumption increases, also when consumer’s income gets higher they tend to save less and consume more of goods they want. When the real disposable income decreases the level of household consumption decreases since consumers tend to save more and consume only priority goods. 3. Identify and explain two non-income determinants of the level of consumer spending in the UK economy: One of the non-income determinants of the level of consumption in the UK context is consumer confidence. According to chart B when consumer confidence decreases due to reasons such as that consumers are feeling unsecure about their jobs, the attempts to make major purchases decreases as well the thing that results in high savings since consumers are not optimistic about their current economy. There is a clear impact of consumer confidence on consumption levels in the UK economy, when confidence increases consumers will make more major purchases and will save less. Another non-income determinant of the level of consumption in the UK economy is interest rate, when interest rate decreases people tend to borrow more money from banks to spend which results in higher consumption, when interest rate increases it becomes expensive to borrow money the thing that increases saving, people will leave their money in banks to take advantage of the high interest rate the thing that reduces consumption. 4. Identify and explain two macro-economic consequences of a sharp fall in consumer spending in the UK economy: A sharp fall in consumer spending can have a negative impact over the UK economy since it increases unemployment and decreases output levels. When consumer spending fall, the consumption of goods produced by firms will also fall, this can lower companies benefits and increases their costs, in order to lower costs they companies will reduce the number of their employees the thing that increases unemployment. Another issue caused by a decrease in consumer spending is a decrease in the quantity and quality of output. A decrease in consumer spending decreases demand the thing that lowers the willingness of firms to invest in capital and labor to produce efficiently and effectively. When demand decreases the output decreases resulting in less goods and services produced the thing that harms the economy of the UK by slowing it down. Deflation can also be a consequence of a sharp fall in consumer spending. Less consumer spending means less demand of firms’ products and services, firms will have to sell products to generate money in order to pay their fixed costs, as a result prices go  down and demand also go down even more since consumers are expecting prices to decrease more in the future. A sharp fall in consumer demand creates a vicious circle and less money circulation in the economy which is considered very damaging the economy. 5. Components of aggregate demand in Morocco: Consumer spending on durable goods in Morocco: 6. Extract one: The Moroccan families spending power increased over the last years according to statistics in 2011 there was an increase in spending per capita by 4.1% to $1,760, this increase is due a stable inflation rate and government subsidies on commodity goods. This increase in spending will increase consumption of goods and services and businesses will make more investments which will contribute positively in increasing the GDP which result in an increased economic growth. Extract Two: Moroccan secured debt is low and limited only for trustworthy clients with that are employed and with an income who are able to make the repayment. The number of Moroccan facing negative equity is considered very low. 6. In the Moroccan economy: a) Real disposable income: The real disposable income in morocco witnessed a continuous increase over the last 4 years from 62,096 million dollars in 2010 up to 075,937.1 million dollars in 2014. This increase in real disposable income is due to human development projects and investments on infrastructure. This increase also allowed Moroccan consumers to purchase products that were some years earlier categorized as luxurious. b) Unsecured Debt: According to the World Bank, the rate of unsecured debt in morocco is low; the majority of financial institutions are providing secured loans with a few exceptions of unsecured loans that are only given to trustworthy clients while the secured loans are given employed people with income also to businesses with strong investments. c) Real Interest Rate: According to the available data from year 2000 to 2005 the real interest rate is considered high in Morocco. The real interest rate witnessed a continuous decrease from a value of 14% in 2000 to 9.89% in 2005. In the recent years the real interest rate is increasing as the household income increases to encourage savings in banks. d) Durable Goods: Moroccan consumption of durable goods has increased over the last years due to access to loans such as for cars and houses, also to the increase in disposable income, as well as the increased consumer confidence. The next graph shows the consumer spending in morocco on goods and services including durable goods which shows that the Moroccan consumer spending increased from 472938 million dirham in 2001 up to 494499 million dirham in 2012. d) Animal Spirits: Consumer confidence is considered high in Morocco despite the decrease from 84.5 in 2011 to 74.10 in 2014. Consumer confidence is high since Moroccan consumers are showing optimism about regular income, stock market, employment and the overall state of the economy.However the recent decrease in consumer confidence is due to increased prices in commodity goods by the government such as fuel. Extract one: The Moroccan families spending power increased over the last years according to statistics in 2011 there was an increase in spending per capita by 4.1% to $1,760, this increase is due a stable inflation rate and government subsiding commodity goods This increase in spending will increase consumption of goods and services and businesses will make more investments which will contribute positively in increasing the GDP and the economic growth. Extract Two: Moroccan secured debt is low and limited only for trustworthy clients with that are employed and with an income who are able to make the repayment. The number of Moroccan facing negative equity is considered very low. What is the relationship in normal times between real disposable income and the level of household consumption? In normal times in Morocco, the expected relationship between real disposable income and the level of household consumptions is that when real disposable goes up the level of household consumption goes up as well meaning that when the disposable income increases Moroccan consumers save less and spending more. When real disposable income goes down the level of household consumption goes down as well increasing savings and lowering consumption. Identify and explain two non-income determinants of the level of consumer spending in the Moroccan economy In the Moroccan economy, people’s expectation is a non-income determinant of the level of consumption. People’s expectations about the future have an impact over consumption, when consumers except products prices to increase in the future they consume more in the present. Avoiding a rise in prices or inflation in the future increases the level of consumption in Morocco. Another non-income determinant of the level of consumption is changes in consumer’s preferences and taste which also manipulates the consumption level in the Moroccan economy The level of consumption in morocco can also be affected by demographic reasons. A young population increases the consumption, for example, young families increase consumption by buying durable goods such as furniture, appliances or cars, also the larger the family members the higher the consumption. Interest rate and consumer confidence also have an impact on the Moroccan economy similarly to the UK economy. Identify and explain two macro-economic consequences of a sharp fall in consumer spending in the UK economy Similarly to the UK, morocco can also suffer from high unemployment as a result of a sharp fall in consumer spending; firms will seek to cut down their costs by reducing the number of their employees which increase the unemployment rate in the Moroccan economy. Firms will also produce less goods and services as demand is low, investments will also decrease resulting in a lower GDP and lower economic development. 7. Comparison between the Moroccan and UK economies: From the previous analysis we conclude that, the Moroccan real disposable income increased over the years while the UK disposable income decreased due inflation. The unsecured debt in the UK is higher that unsecured debt in morocco. The real interest rate in morocco is higher than in UK. The consumption of durable goods increased in both countries. Consumer confidence is high in morocco but decreasing over time while in the UK is low but recovering. In both countries, an increase in real disposable income increases consumption level and a decrease in real disposable income decreases consumption level. Interest rate, consumer confidence, expectations, changes in preferences and taste are non-income determinants of consumer spending in both countries. Unemployment, deflation, decrease in level of output are common consequences of a sharp fall in consumer spending in both countries.