Oligopoly & Game Theory

Game Theory

Game theory is mainly concerned with predicting the outcome of games of strategy in which the participants (for example two or more businesses competing in a market) have incomplete informationabout the others' intentions.

Game theory analysis has direct relevance to the study of the conduct  and behaviour of firms in oligopolistic markets – for example the decisions that firms must take over pricing and levels of production, and also how much money to invest in research and development spending.

Costly research projects represent a risk for any business – but if one firm invests in R&D, can a rival firm decide not to follow? They might lose the competitive edge in the market and suffer a long term decline in market share and profitability.

The dominant strategy for both firms is probably to go ahead with R&D spending. If they do not and the other firm does, then their profits fall and they lose market share. However, there are only a limited number of patents available to be won and if all of the leading firms in a market spend heavily on R&D, this may ultimately yield a lower total rate of return than if only one firm opts to proceed.

The Prisoners’ Dilemma

• The classic example of game theory is the Prisoners’ Dilemma, a situation where two prisoners are being questioned over their guilt or innocence of a crime.
• They have a simple choice, either to confess to the crime (thereby implicating their accomplice) and accept the consequences, or to deny all involvement and hope that their partner does likewise.

Confess or keep quiet? The Prisoner’s Dilemma is a classic example of basic game theory in action!

• The “pay-off” is measured in terms of years in prison arising from their choices and this is summarised in the table below.
• No communication is permitted between the two suspects – in other words, each must make an independent decision, but clearly they will take into account the likely behaviour of the other when under-interrogation.

Nash Equilibrium
A Nash Equilibrium is an idea in game theory – it describes any situation where all of the participants in a game are pursuing their best possible strategy given the strategies of all of the other participants.
In a Nash Equilibrium, the outcome of a game that occurs is when player A takes the best possible action given the action of player B, and player B takes the best possible action given the action of player A.

Two prisoners are held in a separate room and cannot communicate They are both suspected of a crime They can either confess or they can deny the crime Payoffs shown in the matrix are years in prison from their chosen course of action		Prisoner A
		Confess	Deny
Prisoner B	Confess	(3 years, 3 years)	(1 year, 10 years)
	Deny	(10 years, 1 year)	(2 years, 2 years)

• What is the best strategy for each prisoner? Equilibrium happens when each player takes decisions which maximise the outcome for them given the actions of the other player in the game.
• In our example of the Prisoners’ Dilemma, the dominant strategy for each player is to confess since this is a course of action likely to minimise the average number of years they might expect to remain in prison.
• But if both prisoners choose to confess, their “pay-off” i.e. 3 years each in prison is higher than if they both choose to deny any involvement in the crime.
• In following narrowly defined self-interest, both prisoners make themselves worse off
• That said, even if both prisoners chose to deny the crime (and indeed could communicate to agree this course of action), then each prisoner has an incentive to cheat on any agreement and confess, thereby reducing their own spell in custody.

The equilibrium in the Prisoners’ Dilemma occurs when each player takes the best possible action for themselves given the action of the other player. The dominant strategy is each prisoners’ unique best strategy regardless of the other players’ action Best strategy? Confess? A bad outcome! – Both prisoners could do better by both denying – but once collusion sets in, each prisoner has an incentive to cheat!		Prisoner A
		Confess	Deny
Prisoner B	Confess	(3 years, 3 years)	(1 year, 10 years)
	Deny	(10 years, 1 year)	(2 years, 2 years)

Applying the Prisoner’s Dilemma to business decisions

• Game theory examples revolve around the pay-offs that come from making different decisions.
• In the classic prisoner’s dilemma the reward to defecting is greater than mutual cooperation which itself brings a higher reward than mutual defection which itself is better than the sucker’s pay-off.
• Critically, the reward for two players cooperating with each other is higher than the average reward from defection and the sucker’s pay-off.

Consider this example of a simple pricing game: The values in the table refer to the profits that flow from making a particular decision.

		Firm B’s output
		High output	Low output
Firm A’s output	High output	£5m, £5m	£12m, £4m
	Low output	£4m, £12m	£10m, £10m

• Display of payoffs: row first, column second e.g. if Firm A chooses a high output and Firm B opts for a low output, Firm A wins £12m and Firm B wins £4m.
• In this game the reward to both firms choosing to limit supply and thereby keep the price relatively high is that they each earn £10m. But choosing to defect from this strategy and increase output can cause a rise in market supply, lower prices and lower profits - £5m each if both choose to do so.
• Example: Tesco fined for cartel pricing
  Tesco plc has been fined £10m as part of a wider £50m penalty slapped on supermarkets and milk companies by the Office of Fair Trading after it ruled there had been collusion over the price of cheese and milk. The scam - dating back to 2002 and 2003 - was said to have cost consumers around £270m. Tesco continues to deny it colluded with the other companies.
  News reports, summer 2011
  A dominant strategy is a strategy that is best irrespective of the other player’s choice. In this case the dominant strategy is competition between the firms.

• The Prisoners’ Dilemma can help to explain the breakdown of price-fixing agreements between producers which can lead to the out-break of price wars among suppliers, the break-down of otherjoint ventures between producers and also the collapse of free-trade agreements between countries when one or more countries decides that protectionist strategies are in their own best interest.
• The key point is that game theory provides an insight into the interdependent decision-making that lies at the heart of the interaction between businesses in a competitive market.

Prisoner's Dilemma and Climate Change Negotiations
Can repeated games of the prisoner’s dilemma help climate negotiations?
With 2012 signalling the expiry date of the Kyoto Protocol, there is an urgent need for a successor treaty to tackle the ever-increasing global emissions problem.
The main issue with tackling climate change is the cost to countries of implementing it. To be successful it will need profound transformation of energy and transport organisations, and changes in the behaviours of billions of consumers. The Stern Review admitted that it will likely cost 1% of GDP –even though it doesn’t seem much, it is double the amount currently spent on development aid worldwide.

• The USA sees a cap on emissions as a threat to competitiveness, and to its global supremacy;
• The developing world denounces any calls for a cap on emissions as an effort by former colonial powers to hold back development;
• Europe has been making encouraging though patchy progress towards targets, driven mainly by a one-off switch from coal to gas.

The issue here is how countries can expect to make cuts in emissions when their economic competitors refuse. This in turn leads to the Tragedy of the Commons which occurs when a group’s individual incentive lead them to take actions which, overall, lead to negative consequences for all group members. A country that refuses to act, whilst the other cooperates, will experience a free-rider benefit - enjoying the advantage of limited climate change without the cost. On the flip side, any country that imposes limits, when its competitors do not, incurs not just the cost of limiting its own emissions, but also a further cost in terms of reduced competitiveness

The dynamics of the prisoner’s dilemma do change if participants know that they will be playing the game more than once. 

In 1984 an American political scientist at the University of Michigan, Robert Axelrod, argued that if you play the game repeatedly you are likely to see emerging is cooperative rather than defective actions. 

He identified four elements to a successful strategy which is this case can be applied to climate negotiations:

1. Be Nice – sign up to unilateral cuts in emissions, as deep as your economy and financing capacity allows.
2. Be Retaliatory – single out countries that have not commenced action and, in collaboration, find ways of pressurising them until they do so.
3. Be Forgiving - when non-compliant countries come onboard give them generous applause; signal that good behaviour will be rewarded with even deeper cuts in your own emissions.
4. Be Clear - let everyone know in advance exactly how you are going to behave – that you will work with them if they take action on emissions, and that you will retaliate if they do not.

Repeated Prisoner’s Dilemma provides valuable insight into how countries should act away from the negotiating table and over the longer term. Ultimately, for the planet’s sake, one hopes that everyone will play the game

Source: Mark Johnston, EconoMax, December 2007

Distribution of income & wealth

Introduction

Income and Wealth

• Income is a flow of factor incomes such as wages and earnings from work; rent from the ownership of land and interest & dividends from savings and the ownership of shares
• Wealth is a stock of financial and real assets such as property, savings in bank and building society accounts, ownership of land and rights to private pensions, equities, bonds etc

Absolute poverty

Absolute poverty measures the number of people living below a certain income threshold or the number of households unable to afford certain basic goods and services. What we choose to include in a basic acceptable standard of living is naturally open to discussion.

Relative poverty

Relative poverty measures the extent to which a household’s financial resources falls below an average income level. The official poverty line is drawn at an income of 60% of the median level. Although living standards and real incomes have grown because of higher employment and sustained economic growth, there is little doubt that Britain has become a more unequal society over the last 20-25 years.

Mean and median income in the UK

For 2009 the figures (in £s per week) were as follows:

• Median income = £407 per week
• Mean income = £507 per week
• The official poverty line is 60% of the media = £244 per week

6 per cent of individuals live in households with disposable incomes of £1,000 per week or more and this helps to explain why the mean value for household income exceeds the median.

Income inequality in the United Kingdom

These figures are drawn from the latest survey on poverty and inequality produced by the Institute for Fiscal Studies (www.ifs.org.uk)

• Inequality has remained steady over the course of the recent recession
• Taking the 13-year period of Labour government as a whole, income inequality as measured by the Gini coefficient has increased but at a slower rate than in the 1980s
• Looking over Labour’s 13 years in office, headline rates of relative poverty fell from 19.4% in 1996–97 to 17.1% in 2009–10
• The fraction of children in poverty fell from 26.7% in 1996–97 to 19.7% in 2009–10. This still leaves the rate of child poverty well above the previous government’s target to halve child poverty by 2010
• Using the official relative poverty measure of having an income below 60% of median income, in the UK in 2009–10, there were 13.5 million individuals in relative poverty

The Gini Coefficient

• The Gini coefficient is a commonly-used measure of income inequality that condenses the entire income distribution for a country into a single number between 0 and 1: the higher the number, the greater the degree of income inequality.
• A value of 0 corresponds to the absence of inequality, so that, having adjusted for household size and composition, all individuals have the same household income.
• In contrast, a value of 1 corresponds to inequality in its most extreme form, with a single individual having all the income in the economy
• The value for the Gini-coefficient varies enormously across different countries – the next chart tracks what has happened to the coefficient for the UK since the mid 1990s

The Lorenz Curve

The further the Lorenz curve lies below the line of equality, the more unequal is the distribution of income.
 There are problems with the Lorenz curve – particular if we are inaccurate in our measure of incomes.

Gini coefficients for a selection of countries
(Data is taken from the World Bank databank, most recent published data is used, mainly for 2008-09)

Country Name	Gini Value	Country Name	Gini Value
Brazil	53.9	China	41.5
Thailand	53.6	India	36.8
Mexico	51.7	Indonesia	36.8
Kenya	47.7	Poland	34.2
Malaysia	46.2	Hungary	31.2
Argentina	45.8	Ukraine	27.5
Uganda	44.3	Belarus	27.2
Russian Federation	42.3	United Kingdom	36.1

The gap between lowest and higher income groups can be seen in this chart produced by the UK Statistics Commission:

Another way of showing this income data is in the table below – this shows the distribution of disposable income by household income quintile. The data is for 2008-09.

	Bottom Fifth	Next Fifth	Middle Fifth	Next Fifth	Top Fifth
% share of disposable income	7	12	16	22	42

Inequality of original income (i.e. before taking account of taxes and benefits) has followed a different pattern. It rose fairly steadily throughout the 1980s and has been relatively stable since then. The Gini Coefficient for disposable income is lower than for original income because of the equalising effects of our progressive tax and benefits system.

The Distribution of Wealth

• The distribution of wealth is more unequal than the distribution of income
• Over 90% of marketable wealth is in the hands of just half the population and over a fifth of wealth is concentrated among the richest one per cent of households
• Looking at global inequalities in wealth, a study from the UN World Development Report published in November 2006 found that the richest 2% of adults in the world own more than half of all wealth.
• According to the report, “Wealth is heavily concentrated in North America, Europe and some countries in the Asia Pacific region, such as Japan and Australia.”

Explaining the scale of income and wealth inequality in the UK

Proportion of people whose income is below various fractions of median household disposable income
	< 60% of median income	< 50% of median income
1961	12.8	7.4
1971	13.6	6.3
1981	12.1	4.5
1991	20.1	11.7
2001	17.0	9.7
2004	16.8	9.4
Source: Social Trends 36

There are numerous explanations both for the existence and persistence of a huge divide in incomes and wealth within the UK. Most of them are economic in origin, but some are linked to social change.

A summary is provided below:

(1) Differences in pay in different jobs and industries

• High growth industries have enjoyed above average increases in pay and earnings. These include (until recently) financial and business services and information technology. Jobs where labour demand is high and there are shortages of skilled labour tend to offer more generous pay packages for employees.
• The worst paid jobs are still found in lower-skill service sector industries - often where there is little trade union protection and where job insecurity is endemic.
• Globalisation and the rise in the number of high-skill jobs in areas such as finance and technology have boosted demand for skilled labour, enabling individuals with special skills to earn higher wages. In 1973, US chief executives were, on average, paid 26 times the median income. Now they command more than 300 times the median
• There remains a big difference in average hourly wages flowing to groups with different levels of education. This table shows evidence drawn from the UK labour market in 2010.

	Median hourly pay (£)	Pay gap to GCSE
Degree	16.10	100%
Higher education	12.60	56%
A Levels	10.00	24%
GCSE grades A*-C	8.68	8%
Other qualifications	8.07	0%
No qualification	6.93	-14%
Source: Labour Force Survey, October-December 2010

(2) Falling relative incomes of people dependent on state benefits

• State welfare benefits such as the state pension and unemployment assistance normally rise in line with retail prices (they are index-linked) rather than with earnings.
• Therefore, households dependent on welfare assistance see their relative incomes fall over time.
• This is a problem for thousands of pensioner households and also for large families on low incomes since for both groups it is widely recognised that the inflation that they have experienced has been well above the national figure for consumer price inflation.
• Not only have they fallen behind in relative terms – but their real incomes have taken a hit from the sharp surges in food and utility bills over the last two or three years
• In 2008/09, 29 per cent of all pensioners in the UK had no pension provision other than state retirement pension

(3) The effects of unemployment

• Unemployment is a key cause of relative poverty
• A serious problem is the increase in the number of households where no one is in paid employment and where a family is dependent on state welfare aid.
• Pockets of high long-term unemployment are nearly always associated with an increased risk ofpoverty. London is a good example of this – huge wealth and poverty frequently live cheek by jowl.
• Many adult workers in the labour market have either no skills or limited skills and this affect their employability and expected lifetime earnings and risk of persistent poverty.

UK population, age 22-64, by highest qualification, per cent
	2010
Degree	25
Higher education	10
A Levels	21
GCSE grades A*-C	20
Other qualifications	12
No qualification	11
Source: Labour Force Survey, October-December 2010

(4) Changes to the tax and benefit system

• Changes to direct and indirect taxes have contributed to an increase in relative poverty. Income tax rates have fallen over the last two decades
• The top marginal rate of tax fell from 83% in 1979 to 40% in 1988 where it remained for over twenty years – it has since risen back to 50%
• Tax reductions allow people in work to keep a higher proportion of their earned income. The benefits from lower taxes have flowed disproportionately to people on above-average incomes because of a fall in the progressive nature of the UK’s direct tax system.
• There has been a switch towards indirect taxes in recent years including higher rates of value added tax and higher excise duties on petrol, alcohol and cigarettes.
• Some of these indirect taxes have a regressive effect on the distribution of income. A good example of this has been the real-term increase in the level of excise duty on cigarettes and the proposed rises in vehicle excise duty.

Policy options to change the distribution of income and wealth

There are many policy options available to a government if it wants to change the final distribution of income and wealth in a country.

• The introduction of a National Minimum Wage and a series of increases in its value
• Tax Credits designed to boost work incentives for low-income households who opt to work
• Minimum Income Guarantees for Pensioners and increases in the real value of Winter Fuel Payments – designed to alleviate “fuel poverty” among old people
• Active employment policies for young people, the long-term unemployed, lone parents and disabled people – a long-term strategy designed to increase employment opportunities
• Increased spending on training - UK government expenditure on education and training has doubled in real terms over the last 24 years, from £43 billion in 1987/88 to £87 billion in 2010/11
• Increased spending on early-years education - The proportion of children aged under five enrolled in all schools in the UK has increased from 21 per cent in 1970/71 to 62 per cent in 2009/10

Imperfect information

Introduction

Information failure occurs when people have inaccurate, incomplete, uncertain or misunderstood data and so make potentially ‘wrong’ choices. From pensions to computer games consoles, from investing in the stock market to ignorance about the consequences of borrowing and debt, all of us suffer from one or more information failures.

• The key issue to evaluate is whether the information failure is trivial or whether it has a huge effect on individuals, their families and society as a whole.
• There may well be a case for the government to intervene in the market in some way if information failures become serious.

Examples of information failure

Imperfect information can be caused by

• Misunderstanding the true costs or benefits of a product:  E.g. the social costs and benefits of different classes of drugs and the private and social benefits from higher education when there are so many universities and courses to choose from.
• Uncertainty about costs and benefits e.g. should younger workers be buying into pension schemes when we can only guess at economic conditions in 40 years time?
• Complex information for example choosing between makes of computers requires specialist knowledge of hardware. Do I buy an Apple or PC computer? Consider too the problems of choosing a quality second hand car or when deciding whether or not to buy a property.
• Inaccurate or misleading information e.g. persuasive advertising may ‘oversell’ the benefits of a product leading to more consumption than is optimal. Spam mail can be a cause of misinformation for consumers.Read this Tim Harford article on spam!
• Addiction e.g. drug addicts may be unable to stop consumption of harmful substances

Example 1: The new tuition fee system in England

Under the changed system of tuition fees, universities in England from 2012 are allowed to treble their yearly tuition fees to £9,000. These will be paid, as now, by the government on behalf of students in the form of student loans. Graduates then pay back the costs of these directly from their pay once they begin earning more than £21,000. Interest rates will be up to 3% plus inflation, depending on earnings, for graduates who started university in 2012.

Lack of awareness – a good example here is that of tuition fees in Britain. The Coalition Government has introduced a new system of tuition fees for universities in the UK, but many parents and students claim to find the fee system mystifying and feel they have not received enough information about it. A public information campaign seems to have made little impact. Many students say that they are not fully aware of the charges and get little information from universities on the careers prospects and future earnings of their graduates after they have moved into the labour market.

Example 2: Tough Health Warnings

The FDA in the United States has decided to significantly ramp up the mandatory health warnings on cigarette packets. Starting next year, cigarette cartons, packs and advertising will feature graphic warnings, replacing the discreet admonitions that cigarette manufacturers have been required to offer since 1966.

Asymmetric Information

For markets to work, there needs to be symmetric information i.e. consumers and producers have the same level of knowledge about the products, and they know everything there is to know about them.

Asymmetric information occurs when somebody knows more than somebody else in the market. This can make it difficult for the two people to do business together

Examples include the following:

• Warranties: The miss-selling of extended warranties by high street retailers on domestic electrical goods such as televisions and dishwashers
• Sub-prime mortgages: A lender does not know how likely a borrower is to repay their loan.
• A car insurance company cannot tell the risks associated with each single driver
• A used-car seller knows more about the quality of the car being sold than do buyers. The mini case study below on the Market for Lemons covers this example!

Economic Development - Role of the Private Sector

Introduction

To what extent can private sector businesses and corporations be a key driver of growth and development in many of the world’s poorer developing countries? Free-market approaches favour giving a larger role to private sector enterprises with liberalization of markets, structural economic reforms to boost incentives for people and businesses and increased transparency and accountability for government given a key focus.

““In Dubai we don’t believe in planning or what you call industrial policy. We believe in the free market.” (CEO of Dubai Chamber of Commerce, 2011)

Growing the Private Sector

The Washington Consensus

The Washington Consensus was a term first coined in 1989 in the wake of the Latin American financial crisis and over the years it has become a highly contentious canvas on which supporters and protestors of western-style globalisation have battled.

According to John Williamson, the economist who came up with the idea of the Washington Consensus it comprised a group of market-friendly policy prescriptions favouring the private sector including:

• Fiscal discipline - keeping control of government budget deficits and national debt
• Reallocating state spending from subsidies towards health care, education & infrastructure.
• Tax reform - widening the base of taxation and encouraging lower tax rates to boost enterprise and work incentives as a means of creating wealth
• Liberalising interest rates - allowing financial markets more freedom in setting interest rates on savings and loans and letting market interest rates allocate capital among competing uses
• Exchange rates – supports a choice of fixed or free floating exchange rates but a preference against "dirty floating" i.e. intervention to manipulate the value of a currency
• Trade liberalisation - a gradual reduction in import tariffs and other forms of protectionism – trade seen as an important engine of growth and development
• Liberalization of inward foreign direct investment - capital investment between countries
• Privatization - transferring state-owned enterprises into the private sector
• Deregulation - lowering entry and exit barriers in markets but not at the expense of necessary regulation of aspects such as working conditions and employment rights
• Property rights - protecting intellectual and other rights to encourage innovation and risk-taking

Criticisms of Private Sector Dominated Growth

The Washington Consensus has come under sustained criticism even though private-sector friendly policies in many countries have contributed to an increase in trade and investment much of which has flowed into lower-income developing countries. However, development driven by the private sector has been criticised on several different grounds – some of suspicions about the private sector include the following:

Supporters of the private sector have a firm belief that the wealth generated from private sector activity and investment can have a huge positive effect on prospects for countries at every stage of development.

This quote taken from the UK government website captures this view:

“The private sector is the engine of economic growth - creating jobs, increasing trade, providing goods and services to the poor and generating tax revenue to fund basic public services such as health and education. As well as stimulating growth, new thinking within the private sector, shaped by the market, can also offer insights in to how to ensure better access to vital services or goods such as medicines or information.”

Case Study: Tullow Oil and African Development

Tullow Oil plc is Africa’s leading independent oil exploration business. It has approximately 100 production and exploration licenses in 22 countries. Tullow Oil is an oil exploration business - their job is to find oil and use the latest technologies and top-level human capital both to find oil, drill the wells and eventually bring oil to the ground.

Basic background on Tullow:

• Operations in over 22 countries, employ 1,400+ people
• Explore, appraise, develop and produce oil and gas
• €1 billion+ operating profit in 2011
• No.27 in the FTSE 100 (the business is listed on the UK stock market), market value of £14 billion
• Capital spending (investment) in 2011 of $1.4 billion

Tullow Oil is playing an important role in the broader economic development of Ghana and especially the investment in the Jubilee Field in a country that had no pre-existing infrastructure or deep-water technology in the oil exploration and extraction business.

The capital intensity of Tullow’s operations is breath-taking. Dropping a well in the Jubilee Field cost $100 million and it took a further $3.5 billion to get the oil flowing to the surface. The oil field was developed in a record 40 months - to put that into context, it usually takes over seven years from oil being discovered to a new field being developed. The first oil extraction took place in December 2010 and Ghana is now a world-class oil producing country with the potential for a transformational effect on their growth and development prospects. Tullow employs over 250 people in Ghana; over 85% are Ghanaian and over 1,500 contracts awarded to Ghanaian contractors.

Crucial to Tullow’s success is in recruiting some of the top geologists in the world - they employ over 200 of them and they are a major recruiter of geo-scientists from top universities. The quality of their human capital is essential and they have worked closely with University College Dublin to develop industry-specific courses and build up an expertise that few other players in the industry can enjoy. Many of Tullow’s African employees come to the UK to study on scholarships and who are frequently top of the class beating their Far East Asian counterparts.

Non-Financial Trans-National Corporations (TNCs) from Developing Countries

Corporation	Home economy	Industry
Hutchison Whampoa Limited	Hong Kong, China	Diversified
CITIC Group	China	Diversified
Cemex S.A.	Mexico	Non-metalic mineral products
Samsung Electronics Co., Ltd.	Korea, Republic of	Electrical & electronic equipment
Petronas - Petroliam Nasional Bhd	Malaysia	Petroleum expl./ref./distr.
Hyundai Motor Company	Korea, Republic of	Motor vehicles
China Ocean Shipping (Group) Company	China	Transport and storage
Lukoil	Russian Federation	Petroleum and natural gas
Vale S.A	Brazil	Mining & quarrying
Petróleos De Venezuela	Venezuela	Petroleum expl./ref./distr.
Zain	Kuwait	Telecommunications
Jardine Matheson Holdings Ltd	Hong Kong, China	Diversified
Singtel Ltd.	Singapore	Telecommunications
Formosa Plastics Group	Taiwan Province of China	Chemicals
Tata Steel Ltd.	India	Metal and metal products
Petroleo Brasileiro S.A. - Petrobras	Brazil	Petroleum expl./ref./distr.
Hon Hai Precision Industries	Taiwan Province of China	Electrical & electronic equipment
Metalurgica Gerdau S.A.	Brazil	Metal and metal products
Abu Dhabi National Energy Company	United Arab Emirates	Utilities (Electricity, gas and water)
Oil And Natural Gas Corporation	India	Petroleum expl./ref./distr.
MTN Group Limited	South Africa	Telecommunications
LG Corp.	Korea, Republic of	Electrical & electronic equipment

Non-Financial TNCs (World)

Corporation	Home economy	Industry
General Electric	United States	Electrical & electronic equipment
Royal Dutch/Shell Group	United Kingdom	Petroleum expl./ref./distr.
Vodafone Group Plc	United Kingdom	Telecommunications
BP PLC	United Kingdom	Petroleum expl./ref./distr.
Toyota Motor Corporation	Japan	Motor vehicles
ExxonMobil Corporation	United States	Petroleum expl./ref./distr.
Total SA	France	Petroleum expl./ref./distr.
E.On	Germany	Utilities (Electricity, gas and water)
Electricite De France	France	Utilities (Electricity, gas and water)
ArcelorMittal	Luxembourg	Metal and metal products
Volkswagen Group	Germany	Motor vehicles
GDF Suez	France	Utilities (Electricity, gas and water)
Anheuser-Busch Inbev SA	Netherlands	Food, beverages and tobacco
Chevron Corporation	United States	Petroleum expl./ref./distr.
Siemens AG	Germany	Electrical & electronic equipment
Ford Motor Company	United States	Motor vehicles
Eni Group	Italy	Petroleum expl./ref./distr.
Telefonica SA	Spain	Telecommunications
Deutsche Telekom AG	Germany	Telecommunications

Land Grabs – Private Sector Investment in Land

Land Grabs have become an important and controversial issue in development economics in recent years. Throughout the world, it is estimated that 445 million hectares of land are uncultivated and available for farming, compared with about 1.5 billion hectares already under cultivation. About 201 million hectares are in sub-Saharan Africa.

• The vast majority of land deals are for agricultural projects. Forestry is the next largest sector. Of the agricultural deals, fewer than 30% are for food crops alone. Almost 20% are for non-food crops such as bio-fuels and livestock feed.

Arguments in favour of land purchases

The buying of land by transnational investors / companies is viewed favorably by some economists. They see it as an opportunity to reverse under-investment in developing countries’ agricultural sectors, tocreate new jobs, and to bring improved technology to local farming industries that will boost productivity, raise farm incomes and reduce the extreme poverty.

Criticisms of land grabs

Opponents of “land grabs,” argue that transnational land buyers neglect local rights and do not pay a fair price for the land. They seek to extract short-term profits at the cost of long-term environmental sustainability. They claim that land grabs are closely connected to corruption on a large scale. Another argument is that selling thousands of hectares to large-scale investors hurts small-scale farmers. Mechanized farming reduces employment in labour-intensive farming and can accelerate forced migrationinto urban areas.

A report published by Oxfam in 2011 claimed that much of the farm land bought by western investors in recent years has been left idle or given over to bio-fuel production for motorists in rich nations instead of being used to grow food and reduce malnutrition among the poorest communities

According to development economist Professor Paul Collier there are two main types of land grab:

• Pioneer commercial investment: buying unused land at low prices to see if it is viable for production; risky but high-gain. Increases factor productivity; if successful, draws others – as such, it should be encouraged because there is a net benefit
• Speculative acquisition of large areas of useless land: may not stay useless – it has an option value. The investor hopes that the land will become useful in the long run (e.g. because of climate issues), causing the market value to rise.

Paul Collier believes that the 1st type beneficial to developing countries but the 2nd is not. Some countries are introducing legislation to constrain overseas buyers of land.

From January 2013, Tanzania will start restricting the size of land that single large-scale foreign and local investors can "lease" for agricultural use. The vast majority of Tanzanian small-scale farmers do not have legal protection for their property. Tanzania has an estimated population of 42 million people and 12,000 villages, but only 0.02% of its citizens have traditional land ownership titles.

Keynesian Economics- Macro Economics IGCSE

Keynesian Economics

Introduction

An understanding of Keynesian themes can be helpful in evaluating macro policies and the search for macroeconomic stability in terms of prices, jobs, incomes and profits for both developed and developing countries.

• Keynesian economics focuses on psychology, uncertainty and expectations in driving macroeconomic decisions and behaviour. As we shall see, in Keynesian economics, the state of animal spirits is vital.

Keynesian economists and free markets

• Keynesian economists believe that free markets are volatile and not always self correcting.
• The free-market system is naturally prone to periods of recession & depression
• The volatility of aggregate demand (AD = C+I+G+X-M) can be explained by important changes in consumer and business sentiment – also known as animal spirits.
• In a world of economic stagnation and/or depression, the standard rules of economics may no longer apply and direct intervention in the economic may be essential
• Free markets are not always self-correcting:
• When a recession or a depression occurs, the free market economic system is not necessarily self-correcting – indeed en-masse, individuals can become trapped in a deflationary depression which is in no one’s interest but which, left on our own, no one can counter-act.
• Persistent deflation can be as costly as high inflation – it can be damaging especially in economies where there are huge levels of private & public sector debt
• You cannot always rely on new inventions / innovations and other natural economic stabilisers to drag an economy out of a recession (they do happen though – as the Austrian school believes)

Keynes on under-employment equilibrium
One of Keynes’s revolutionary propositions was that following a big economic shock - usually a collapse in investment - there were no automatic recovery forces in a market economy. The economy would go on shrinking until it reached some sort of stability at a low level. Keynes called this position "under-employment equilibrium"

Professor Robert Skidelsky, Biographer of Keynes

Savings and aggregate demand

• The paradox of thrift helps to explain why a rise in precautionary saving (i.e. people looking for security) can lead to a fall in demand and incomes and a reduction in output, income and wealth.
• In other words – negative multiplier and accelerator effects can drag production and employment in the economy to a low level where it can remain for some time unless there is some external stimulusto lift demand and output again
• On an international level, when the global desire to save exceeds the global willingness to invest the result is a contraction in world demand and production, a fall in incomes and employment, which eventually brings savings back into balance with investment

The risks of a deflationary depression

Recession (and worse – a deep depression) represents a pure waste of scarce economic resources. Unemployed workers want to work, and businesses want to use their productive capacity to supply goods and services. If they did, then the things they produced would be available for all to buy, and the incomes they received would enable them to purchase the products of others. Incomes from higher wages and stronger profits would be made feeding through the circular flow in the standard macro model.
But in a recession a country can experience a persistent state where output is well below a country’s capacity to produce. The key is to take measures to lift AD and bring about an expansion along the short-run aggregate supply curve.

The Liquidity Trap

• In normal circumstances it is possible to boost demand by cutting interest rates. But there is a level below which interest rates cannot go (they have been at 0.5% in the UK since the spring of 2009 and at low levels in other countries) and at that point monetary policy may become powerless.
• Moreover, even if interest rates can be lowered this may have no effect if people cannot or will not borrow. This is known as the liquidity trap.
• At this point, aggregate demand can only be boosted by the Government borrowing more, either to spend directly or to give to others via tax cuts or the like.
• In other words, we need a targeted Keynesian fiscal stimulus. Keynesians believe that the size of thefiscal multiplier effect is higher for government spending than for tax cuts.
• The aim is simple – when private sector demand for goods and services is low, the government needs to find a compensating source of demand to rebalance the economy – and the solution comes from the government in the form of higher borrowing or less saving.

Animal spirits

• John Maynard Keynes coined the notion of animal spirits which refers to the driving force that gets people going in the economy
• Animal spirits helps to explain why countries fall into a recession but also what eventually brings about a recovery. It refers to a broad mix of confidence, trust, mood and expectations and animal spirits can fluctuate very quickly as populations of people change their thinking. This focus on animal spirits helps to explain why psychology can be so important in macroeconomics.
• When animal spirits are poor then there is a risk of a slowdown or a recession. Individuals save more, businesses save more too and, because demand and profits are lower than expected, they may opt to cut back on production and perhaps postpone or cancel capital investment projects.
• Higher saving and reduced investment both have the effect of reducing demand and incomes in the circular flow causing an economic contraction.

Keynesian economics and fiscal deficits

Keynesian economists are usually supportive of the state borrowing more money during times of weakness.

1. Government borrowing can benefit growth: A budget deficit can have positive effects if it is used to finance capital spending that leads to an increase in the stock of national assets. For example, spending on transport infrastructure improves the supply-side capacity of the economy. And increased investment in health and education can boost productivity and employment.
2. Demand management: Keynesian economists support the use of changing the level of government borrowing as a legitimate instrument of managing aggregate demand. An increase in borrowing can be a useful stimulus to demand when other sectors of the economy are suffering from weak or falling spending. If crowding out is not a major problem - fiscal policy can play an important counter-cyclical role “leaning against the wind” of the economic cycle
3. Low interest rates – it makes sense for the state to borrow when interest rates are low and inject extra demand into the economy, especially when private sector demand (C+I+X) is low

Naturally there are counter-arguments to this:

1. Financing a deficit: A budget deficit has to be financed through the issue of debt. If the budget deficit rises to a high level, in the medium term the government may have to offer higher interest rates to attract sufficient buyers of debt. This raises the possibility of the government falling into adebt trap where it must borrow more simply to repay the interest on accumulated borrowing.
2. A government debt mountain: As state debt rises, there is an opportunity cost involved because interest payments on bonds might be used in more productive ways, for example on health services or extra investment in education. Higher public sector debt also represents a transfer of income from people and businesses that pay taxes to those who hold government debt and cause a redistribution of income and wealth in the economy.
3. Crowding-out - the need for higher interest rates and higher taxes. If a larger budget deficit leads to higher interest rates and taxation in the medium term and thereby has a negative effect on growth in consumption and investment spending, then ‘fiscal crowding-out’ is said to be occurring.
4. Risk of capital flight: High levels of state borrowing and debt risk causing a ‘run on a currency’. This is because the government may find it difficult to find sufficient buyers of debt and the credit-rating agencies may decide to reduce the rating on sovereign debt. Foreign investors may choose to send their money overseas perhaps causing a currency crisis

Government Macro Economic policies

Macroeconomic Policy - Overview

Introduction

Targets, instruments and goals of macroeconomic policy

The policy goals of macroeconomic policy vary from country to country and according to the political priorities of different governments

In the UK in recent years the main focus of macro policy has been maintaining price stability and also in improving competitiveness and promoting sustained and sustainable economic growth.

The degree of freedom (or autonomy) that policy makers have depends on the economic circumstances of the time and also the extent to which a country is locked into a set of institutions. For example the UK remains outside of the single European currency (the euro).

Macroeconomic performance covers a wide range of indicators – summarised as:

• Economic growth (short term and long term)
• Jobs (unemployment and employment)
• Prices
• Trade
• Productivity
• Average standard of living
• The distribution of income and wealth
• Quality of and financing of public services

The macroeconomic performance of any one nation is affected by events, policies and shocks in othercountries. No economy is immune to what is happening in the global financial and economic system.