ACCA BT (F1) - Business and Technology

 Chapter 1 - Business Organizations and Stakeholders

 Complete Notes
Chapter 1

Business Organizations and their Stakeholders.

Purpose, Type and Reasons for Existence of

Organizations:
 Organizations can achieve results which individuals cannot achieve by
themselves
 Definition of Organization: A social arrangement which pursues
collective goals, controls its own KEY performance and has a boundary
separating it from its environment.
 The common characteristics of organizations are as follows:
 They work towards a variety of objectives and goals
 There are several people who do different things resulting in
specialization in one activity.
 Organizations target to achieve good performance by working on
improvements of standards or meeting target goals in the best
possible way.
 Organizations are based on formal, documented systems and
procedures which help them control their tasks.
 Mostly organizations are obtaining inputs like raw materials to process
them into saleable outputs which others can buy.
 Organizations are different from each other due to several reasons:
Sectors in which Organizations Operates:
1. Agriculture: To Produce and process food
2. Manufacturing: Acquiring raw materials using labor and technology
to convert raw material acquired into a product (e.g., a car)
3. Extractive/raw materials: This includes Extraction and refining of
raw materials (e.g., mining)
4. Energy: This includes Converting of one resource (e.g., coal) into
another (e.g., electricity)
5. Retailing/distribution: To Deliver goods to the end consumer
6. Intellectual production: Involve in Production of intellectual property
(e.g., software, publishing, films, music)
7. Service industries: This involves different areas like retailing,
distribution, transport, banking, various business services (e.g.,
accountancy, advertising) and public services such as education,
medicine

Organizations are categorized into different

types including:
1. Commercial
2. Not for profit
3. Public sector
 4. Charities
5. Trade unions
6. Local authorities
7. Non-governmental organizations (NGOs)
8. Co-operative societies and mutual association

Areas of differentiate between Profit and Non-

Profit Organizations:
Public Sector vs Private Sector:
Organizations which are owned and run by the government fall under the public sector.
Apart from these all the others are part of the private sector.

Limited Liability Companies

 These companies are denoted by X Ltd or X plc in the UK
 These companies hold the status of separate legal entity that means
they are separate from their owners (shareholders).
 This means that the shareholder’s liability is limited to the amount they
have invested in that company, which is the key benefit.
 Main advantages include:
 More money is available for investment from different
shareholders
 These organizations can easily raise capital from banks and
other lenders
 Ownership and control are legally separated, investors need
not run the company
 However, there are some drawbacks for such companies which include:
 Greater administrative burden and cost, especially for listed
entities
 Lack of privacy as financial statements are publicly available
 In UK, there are 2 types of limited companies:

1. Private limited companies (e.g., X Limited)

Co-operative Societies and Mutual
Associations
 Owned by their workers or customers, who share the profits
 Some common features include:
 Open membership
 Democratic control (one member, one vote)
 Distribution of the surplus in proportion to purchases
 Promotion of education
 However, unlike limited companies there is some measure of
democratic control, this is based on one share, one vote which means:
 No shareholder can dominate a co-operative.
 Mutual associations are organizations that exist for the mutual benefit
of their members. Such as:
 Savings and loan organizations (building societies in the UK)
in which the members are the savers who deposit their
savings in the organization.
 As there are no external shareholders to pay dividends to, the
profits of the organization are enjoyed by members in the
form of more favorable interest rates.
 A person or group of people who have a stake in the organization.

Stakeholders
Agency Relationship:

 Managers of the organizations are the agents for the stakeholders.

 Agency relationship refers to the concept of separation between an
organization’s owners (the shareholders) as the ‘principal’, and those
managing the organization on their behalf (the company directors) as
their “agent”.
Primary vs Secondary Stakeholders

 Primary stakeholders:
 They are the shareholders or the partners of the proprietor.
 Their major stake/interest is the money invested in the
business.
  Therefore, they expect a return on their investment so that
their wealth increases either in terms of growing profits or
increasing share value.
 Secondary stakeholders:
All other parties apart from primary stakeholders who have a stake/interest in the
business fall under this category.

 Usually owned by a small number of people (family members), and their

shares are not easily transferable usually

1. Public limited companies (X plc)

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Types of Stakeholders by Johnson & Scholes (2005):

As per this model internal and connected falls under “primary stakeholders” category
whereas external is part of “Secondary stakeholders”.

Stakeholder Conflict
 As the interests of different stakeholders may be widely different,
conflict between stakeholders may exist.
 Potential for such conflict should be considered by managers while
policy setting
 Managers must be prepared to deal such scenarios with their effecting
organization’s performance.
 Most commonly occurring conflict is usually between managers and
shareholders. The relationship gets disputed when the managers’
decisions focus on maintaining the organization as a vehicle for their
managerial skills whereas the shareholders are pleased to see changes
which will enhance their dividend stream and increase the value of
their shares.
 These conflicts can be seriously damaging to the company’s stability.
 Shareholders may force resignations and divestments of
businesses
 Managers may try to preserve their empire and provide
growth at the same time by undertaking risky policies.
 Managers despite their willingness need to acknowledge that
the shareholders have the major stake as owners of the
company and its assets therefore focus shall be paid on profit
maximizations and increasing worth of the company’s shares
 This may happen at the expense of long-term benefit of the
company resulting in hijacking of long-term strategic plans of
the company as focus is on a particular year profitability
compromising other prospects.

Mende Low’s Matrix

 Stakeholders can be mapped on Mende low’s Matrix in terms of:
 How interested they are in the company’s strategy (would they want or
resist it)
 How much power they have over the company’s strategy (would they
be able to resist it)
 The matrix can be used to:
  Track the changing influences between different stakeholder
groups over time.
 This can act as a trigger to change strategy as necessary
 Assess the likely impact that a strategy will have on different
stakeholders’ group
 Its aim is to assess:
 Whether stakeholders’ resistance is likely to inhibit the
success of the strategy
 What policies or actions may ease the acceptance of the
strategy

Conclusion:

If an organization effectively manages its stakeholder’s relationship it can make

strategic gains. For this purpose, it may have to measure the level of satisfaction of its
stakeholders which can be achieved by having qualitative and quantitative measures
though it’s not a straightforward task.

Mark Complete

ACCA BT (F1) – Business and Technology

Chapter 2 – The Business EnvironmentComplete Study Notes

Chapter 2

Business Environment

Definition of Environment:
The environment can be described as everything which is beyond the
organizational boundary.

Elements of Environment:

Though environmental factors are not in control of management but these

need to be managed strategically as they are influential to all areas of the
business.

Therefore, it’s important to understand different elements of the

environment in order to run the organization effectively.

Generally, environment includes Political /legal, economic, social/cultural and

technological factors of the country organization operates in. Here is a
detailed diagram depicting elements.

Models:

There are three models which can be used to assess the environment for an
organization:

PESTEL Analysis

This is usually related to macro-economic factors

The Value Chain Analysis

Porter’s Five Forces

PESTEL Analysis:

Political:

Government policy has an impact on the legal system, the structure of the
economy, and some operational concerns.

Political instability is a risk as long-term objectives for firms cannot be

realized.
Different approaches to the political climate are used in various nations.

Extra layer of international law and regulations is applicable to international

trade.

The Economic Impact of Government:

The economic structure of a business can be directly influenced by the

government in several ways, according to Porter. They are explained below:

Capacity:

Government policies may encourage businesses to expand. (e.g., using

taxation or interest rates) Therefore there are various incentives for locating
capacity in a specific area.

Demand:

The government is a significant consumer, and it has the power to influence

demand through laws, tax breaks, and subsidies.

Emerging Industries:

Government can either foster it or harm it.

Government policy can deter businesses from joining a market by restricting

investment or competition or by making it more difficult for foreign
businesses to compete in the domestic market using quotas and tariffs

Competition:

The government’s purchase decisions will have a significant impact on the

competitive power of one firm (such as weaponry) compared to another.

Industry regulations and restrictions, such as minimum product quality

standards, will have an impact on industry growth and profitability.

Because it provides infrastructure (e.g., highways), the government is also

able to affect industrial competition.

Governments and supranational organizations like the EU may enact

regulations to maintain an industry’s fragmentation and prevent the
concentration of a sizable portion of the market in the hands of one or two
companies.

Regulations

Some industries are regulated by government for the adoption of new

products like pharmaceutical:

National and supranational (e.g.WTO) bodies also affect the operating

activities of some organizations, for example:

Anti-discrimination legislation

Health and safety legislation

Products safety and standardization

Workers’ rights (e.g., unfair dismissal)

Training and education policies

Social and Demographic Factors

Population and Labor Market: Population affects an organization’s supply of

labor and hence its policies towards recruiting and managing human
resources.

Population growth boosts employment

Increasing birth rates imply more young individuals.

Falling mortality rates mean more senior people—some of whom will work.

Workforce ageing:

Fewer young individuals may increase their cost. Since the late 1970s, 16-
year-olds joining the workforce have declined.

Women participate more for four reasons.

More part-time jobs

Rising male unemployment since many male-dominated businesses have
fallen

The service sector’s expansion

Women having children later

How corporations can handle demographic and educational trends

Determine the organization’s labor market (young, part-time). “Who should

we hire?”

Find the company’s catchment areas (possible recruits).

Determine catchment area labor force supply side trends (e.g., how many
school leavers? What is the local population growth/decline?).

Examine local education trends.

Determine whether other businesses want your skills (e.g., if there are
several electronics companies in the area, they’ll want someone with similar
skills).

Determine if other suppliers can meet some of your need.

To meet labor demand, organizations need proper resourcing methods.

Family lifecycle

Marketing uses family life cycle (FLC) demography.

Demographic summary: It combines age, marital status, professional status

(income), and kid status to identify household phases. It’s obvious that
certain items and services can be marketed to certain life stages.

Social Class:

Society can be divided into broad groups, whose members share common
features, such as occupation, income level and education background. These
groups are known as social classes

Demographics and Class Structure can Influence and Inhibit Conduct.

Behavioral determinants boost purchases: They include personality, culture,
socioeconomic class, and the purchase’s relevance (e.g., food or water or a
luxury).

Inhibitors (such poor income) make people less likely to buy.

Impact of Technology on Organizations and Accountant

Information systems and technology shaped modern business. Modern

communications technology allows dispersed organizations to empower
workers or outsource decision-making.

Smaller, agile firms are trending. Flexibility and quickness are becoming
competitive advantages. IT has sped up complex operations and provided
instant feedback.

Span of Control

It is the number of subordinates under a supervisor.

Automation, rationalization, and better management information systems

often reduce staffing. Many companies have eliminated middle management
known as ‘Delayering’. Middle managers’ choices have been delegated to
lower-level managers. Thus, IT has flattened organizational structures and
expanded control.

There is not universally ‘correct’ size for the span of control. The appropriate
span of control will depend on:

The ability of the manager. A good organizer and communicator will be able
to control a larger number. The manager’s workload is also relevant.

The ability of subordinates. The more experienced, able, trustworthy and

well-trained subordinates are, the easier it is to control larger numbers.
The nature of the task. It is easier for a supervisor to control a large number
of people if they are all doing routine, repetitive or similar tasks.

The geographical dispersal of subordinates. A manager may be able to

manage a larger group (wider span of control) more easily if subordinates are
located together, for example in the same building as the manager.

The availability of good quality information. Relevant, timely information

reduces uncertainty and

Tall and Flat Organizations

An information system, such as an intranet, can help provide organization

unity and coherency in flat, decentralized organizations.

The trend towards flatter structures is evidenced by talk of an ‘e-lance

economy’, characterized by shifting coalitions of small firms collaborating on
projects.

Organization Structure and Information Systems

The structure of an organization and the way in which the organization’s

information system is arranged are related issues.

Centralized systems mean holding and processing data in a central place,

such as a computer center at head office. Data will be collected at ‘remote’
(i.e., geographically separate) offices and other locations and sent into the
central location.

Decentralized systems have the data/information processing carried out at

several different locations, away from the ‘center’ or ‘head office’.

Effects of technological advances on the role of the accountant and on

organizations

Routine processing (bigger volumes, greater speed, greater accuracy)

Digital information and record keeping.

New skills required and new ways of working.

Reliance on IT

New methods of communication and of providing customer service

Interoperability (encourages collaboration across organization boundaries)

and open systems

The view of information as a valuable resource

The view of information as a commodity which can be bought, sold or

exchanged (‘information market’)

IT and Employment

Information technology has changed employer-employee interactions.

Reduced hierarchy

Information overload; job; close business contacts regardless of location

Workplace flexibility

More monitoring and control

Delayering has coincided with mass layoffs of management and workers.

Homework and supervision

Communications technology has made some tasks less dependent on office

presence. Computer tasks especially.

The worker can enter data at home.

Head office can get keyed-in data via telecommunications.

When needed, some organizations use a pool of freelancers. Publishing and

journalism use this method.

If it includes IT, this is called telecommuting or homeworking. The practice

isn’t new, but office management is.

Outsourcing
Outsourcing is hiring a third party to perform certain tasks. Various
outsourcing alternatives allow for ‘in-house’ control. Outsourcing has pros
and cons.

There are four broad classifications of outsourcing

Ad hoc The organization has a short-term requirement for increased IS/IT

skills

Project management the development and installation of a particular IS/IT

project is outsourced

Partial Some IT/IS services are outsourced.

Total An external supplier provides most an organization’s IS/IT services.

Outsourcing Benefits

Long-term outsourcing contracts with fixed prices can eliminate cost

unpredictability. FM companies pay for inefficient computing services. This
encourages the third party to deliver quality service.

Ten-year contracts encourage planning.

Outsourcing offers economies of scale. FM companies may study innovative

technologies that benefit several clients.

Specialized organizations retain skills and expertise. Many companies lack a

well-developed IT department to give IT personnel job advancement.
Talented employees left for other jobs.

You learn new things. An expert company can share workers with multiple
clients. This allows the outsourcing company to capitalize on new
advancements without hiring or retraining personnel.

Flexibility (contract-allowing). Demand can scale resources. For instance, IT

staff may double during a significant system changeover. An outsourcing
company can organize its work by project, and some personnel will expect to
be relocated between projects.
Outsourcing Drawbacks

Information and its provision are integral to business and management. IT

services may not be outsourced like office cleaning or catering. Information
drives management.

Outsiders handling a company’s confidential information may be harmful

commercially and legally.

Internal management does not need to stay current or provide new ideas if a
third company handles IS/IT services. Thus, competitive advantage may be
neglected. Third-party innovations may be offered to competitors.

An unsatisfactory contract may bind an organization. The choice may be

irreversible. If the service provider provides poor service, the business may
have to rebuild its computing function or switch providers, which could be
costly.

An outside organization does not raise awareness of IS/IT expenses and

advantages within the organization. Managers who can’t manage in-house
IS/IT resources may struggle to manage outsourced resources.

The Value Chain

This model was provided to us by Porter in 1985 grouping out organization’s

various activities into a value chain.

Margin: This is the amount which the customer is ready to pay over and
above the business costs. Thus, value activities and linkage management
create value.

Note

This is the amount which the customer is ready to pay over and above the
business costs. Thus, value activities and linkage management create value.
Linkages connect the activities of the value chain.

Activities in the value chain affect one another. For example, more costly
product design or better-quality production might reduce the need for after-
sales service.

Linkages require co-ordination. For example, Just in Time requires smooth

functioning of operations, outbound logistics and service activities such as
installation.

Value Network

Value-added activities and links extend outside the organization. The cook
chooses the ingredients, but the farmer determines their quality. The chef’s
skills and the grower’s success in raising high-quality fruit are equally crucial
to consumer happiness.

A value network connects an organization’s value chain to its suppliers,

distributors, and customers, according to Johnson et al. (2005).

Value networks create value through transactions between organizations.

Exchanges might involve items and information like collaborative design.

Competitive Advantage – Porter’s Five Forces Model

Porter (1980) categorizes competition elements.

Some circumstances make one industry (e.g., the chemicals industry

compared to the apparel retail industry) possibly more profitable (i.e., a
higher return on investment).
Industry factors influence enterprises’ competitive strategies.

Five competing forces define the industry’s profit potential (long-term return
on capital).

The Threat of New Entrants (and barriers to entry to keep them out)

Newcomers increase capacity and competition. This hazard will vary by

industry and relies on two factors.

Strength of entry barriers. Barriers deter newcomers.

Existing competitors’ reaction to the newcomer.

The Threat from Substitute Products

A substitute product is one from another industry that meets customer

needs.

The Bargaining Power of Customers

Customers desire cheaper, higher-quality goods and services. This desire

may reduce industrial suppliers’ profits. Customers’ strength depends on
several factors:

The customer’s purchase volume and product importance to their firm

Switching supplier costs

Whether the products are standard (easily replicated) or specialized.

A low-profit customer will demand cheap prices from suppliers.

Customers’ ability to replace suppliers

Buying staff skills or consumer price awareness

Customers that value product quality are less price-sensitive, making the
industry more profitable.

The Bargaining Power of Suppliers

Suppliers might raise pricing. Suppliers might raise prices for several
reasons.

Whether there are one or two industry leaders who can charge monopoly or
oligopoly prices.

The supplier’s industry’s vulnerability to newcomers or substitutes

Whether the suppliers have non-industry customers and do not rely on the
industry for most of their sales.

The supplier’s product’s importance to the customer’s business, whether it

offers a differentiated offering buyers need, and whether customers’
switching costs would be considerable.

The Rivalry amongst Current Competitors in the Industry

Industry profitability depends on competitive rivalry. Price competition,

advertising wars, sales promotion campaigns, new product launches,
improved after-sales service, and guarantees or warranties are examples of
competitive actions. Competition can increase demand and grow the market,
or it can maintain demand and lower profits unless competitors drop costs.

SWOT Analysis

A method of environmental analysis which looks at an organization’s internal

strengths and weaknesses as well as external opportunities and threats is
known as SWOT analysis.
Internal Appraisal

An internal appraisal will identify:

The strengths and weaknesses analysis are meant to shape the

organization’s approach to the external world.

External Appraisal

The external appraisal identifies opportunities that can be exploited by the

organization’s strengths and to anticipate environmental threats against
which the company must protect itself.

Using a SWOT Analysis

The SWOT analysis can be used in one of two ways.

The organization can develop resource-based strategies which enable the

organization to extend the use of its strengths. This is common in retailing,
for example, as supermarket chains extend their own brands from food to
other areas.

The business can develop positioning-based strategies. In other words,

identifying what opportunities are available and what the firm must do
exploit them.

ACCA BT (F1) – Business and Technology

Chapter 3 – The Macro Economic EnvironmentComplete Study Notes

Chapter 3 – The Legal Framework

Legal authority sources

The following sources provide the legal framework within which organisations
operate:

a) Parliamentary laws

b) Government rules

c) Treaty commitments

d) Official regulations

e) International organisations.

Business organisations are surrounded by these 4 Key Legislations:

Employment Law

Health and Safety Law

Data Protection

Sales of Goods (Consumer Rights)

Employment Law.

The goal of employment law is to safeguard employees’ interests. The

following areas are often covered by employment law:
Recruitment specifically to guarantee that companies do not discriminate
against specific groups

Minimum wage laws to prevent employee exploitation

Parental rights, such as maternity and paternity leave, to guarantee that

workers can take care of their kids

Working circumstances, including health and safety, the maximum number

of hours to work, and holidays

• Discrimination including equal pay for women to ensure employees are not
discriminated based on characteristics like gender, age, or ethnicity among
others.

Workplace bullying and harassment to make sure managers treat employees

with respect

Grievance and disciplinary procedures to guarantee that employees are

terminated only if the Employer has a good justification for letting the
employee go in the event of redundancy

Redundancy rules mandating workers to receive compensation in the event

of a layoff.

Termination:

Businesses must make sure they follow the law when terminating an
employee’s job. Failure to abide by applicable legislation might result in the
following charges against the company:

Implication for the Employer

Some employers claims that employment regulations are excessively liberal

and raise corporate expenses while deterring them from hiring more
personnel.

Other employers think it’s crucial to treat their employees well and that the
regulations are just.

Employers might need to hire HR professionals to make sure they don’t

unintentionally violate any employment rules.
If employment legislation is not followed, the employee may take legal action
against the employer.

In the UK, employees have the option of bringing their employer before an
employment tribunal, an impartial body that seeks to settle disputes. An
employment tribunal will hear the employee’s complaint, and if they
determine that it is genuine, they may order the employer to do one of the
following actions:

Provide compensation; enhance working conditions; and, if necessary,

reinstate the employee

Employees may also sue their employers in court, although the fees may be
too high.

Additionally, failing to follow employment laws might damage the

organization’s reputation.

Health and Safety

The significance of preserving workplace health and safety

Domestic laws impose legal duties on employers.

Accidents and sickness cost money for the employer.

The company’s reputation in the community and the marketplace may suffer.

A number of Acts of Parliament are covered under important legislation in

the UK. EU law is important in member states. The Health and Safety at Work
Act of 1974 (HMSO 1, 974) is the most significant piece of law in this field in
the UK.

Note: Remember that UK legislation won’t be covered in the test, but you still
need to be aware of best practices for health and safety.

Employer Duties

It must be made clear who will be in charge of making sure that issues are
resolved and regulations are followed.
Every work procedure must be secure.

A safe and healthy work environment is required.

All machinery and equipment must be kept up to the required standard.

Safe working practices should be encouraged via information, education,

training, and monitoring.

All personnel must get training and information from employers.

All staff members should be made aware of the safety policy.

Employers must conduct risk assessments of all workplace risks, usually in

writing.

Continuous assessment is recommended.

The dangers to everyone else impacted by their employment activities must

be evaluated.

They must provide risk and hazard information with other employers,
including those in adjacent buildings, site occupants, and all subcontractors
entering the property.

They must implement controls to lower hazards.

If there were no safety procedures in existence before, they should

implement them now in light of the aforementioned.

They must recognise workers who are particularly at risk.

They need to hire qualified safety and health advisors.

The Safety Representative Regulations provide for the appointment of a

safety representative by a registered trade union and the formation of safety
committees at the request of employee representatives. Safety
representatives are eligible for compensated time off work to fulfil their
obligations.

Employee Duties:

(a) Taking reasonable care of oneself and others

 (b)Allowing the employer to fulfil its obligations, including enforcing
safety regulations.

© Avoiding willful or careless interference with any apparatus or equipment

(c) Alert the employer to any circumstance that could pose a threat
(this in no way lessens the employer’s obligations).

€ Properly use all equipment

Data Protection and Security

Privacy

Privacy is the right of the individual not to suffer unauthorised disclosure of

information.

There has been an increase in concern recently around the possibility of

misuse of the ever-growing quantity of personal data that companies have
on individuals.

It was believed that the availability of electronic data about a person that
was erroneous or deceptive and that could be communicated to
unauthorised third parties at a rapid speed and low cost might readily cause
harm to that person.

The Data Protection Act of 2018 governs this subject in the UK at the
moment.

Data Protection Act 2018

The (UK) Data Protection Act 2018 protects individuals about whom data is
held. Both manual and computerised information must comply with the Act.
The terms of the Act cover data about individuals – not data about corporate
bodies.

It is necessary to know some of the technical terms used in the act:

Personal data is information about a living individual, including expressions

of opinion about them. Data about organisations is not personal data.

Data users are organisations or individuals who control or process personal

data and the use of personal data.

Data controllers determine the purpose and means of processing personal

data.

Data processors are responsible for processing personal data on behalf of a

controller.

Data subjects are individuals who are the subject of personal data.

The UK Data Protection Act includes six Data Protection Principles with which
data users must comply.

The Act has two main aims:

(a) To protect individual privacy. Previous UK law only applied to

computer-based information. The

2018 Act applies to all personal data, in any form.

(b)To harmonise data protection legislation so that, in the interests

of improving the operation of the single European market, there
can be a free flow of personal data between the member states
of the EU.

The rights of data subjects

To be informed: Data subjects must be informed about how their personal
data is collected and used.

Access: Individuals have the right to request information held about them
either verbally or in writing.

Rectification: Data subjects can request inaccurate or misleading information

held about them to be rectified.

Erasure: This is known as the right ‘to be forgotten’. Data subjects may
request information held about them be destroyed.

Restrict processing: Data subjects can have restrictions placed on the

processing of their data or have it suppressed altogether. The data can still
be held, but it must not be processed.

Data portability: Data subjects can request to be sent the data held about
them so they can reuse it in a different service.

To object: Data subjects can object to the processing of their data. Where the
data is used in connection with direct marketing there is an absolute right to
object. Where the data is used for other purposes, this right can be refused if
there is a compelling reason to do so.

Automatic decision making and profiling: Other data protection rights are
granted to data subjects where data held about them is used to make
automated decisions about them, or where data evaluation about them is
automated.

Note: All the requests by Data objects shall be responded within one month
time period.

Data Security:

Security Dangers:
Using the Internet brings numerous security dangers:

(a) Viruses- malicious programs that are designed to disrupt the

systems .They are often spread via email.

(b)Deliberate damage caused by disaffected employees

© Damage caused by hackers

(c) Downloading of inaccurate information and/or virus ridden

software

€ Internal information may be intercepted but this can be avoided by

encryption

(f) Communications link could breakdown

Data stored electronically is at risk of a security breach. At particular risk is:

(a) Information regarding the business’s standing and competitive

advantage

(b)Personal and private information

© Information regarding the business’s security

 (c) Information integral to the outcome of deadlines (e.g. tenders)

When data is transmitted over a network or telecommunications link

(especially the internet) there are numerous security dangers:

(a) Corruptions such as viruses on a single computer can spread

through the network to all of the organisation’s computers.

(b)Disaffected employees have much greater potential to do

deliberate damage to valuable corporate data or systems
because the network could give them access to parts of the
system that they are not really authorized to use.

Contract Law and Consumer Protection

We will now see those aspects of law and regulation which apply to
consumer protection, including contract law and the sale of goods. There are
different legislation dealing with these topics in different countries.

These are the general principles.

Contract Law:

A contract is a legally binding agreement.

For example: If you buy or sell a house, a contract is made and ‘exchanged’.

Three element for a contrast to be legally enforceable are:

Consideration: the money that you give in exchange for the goods is referred
to as the ‘consideration’.
Offer and Acceptance: For a contract to take place, there must be agreement
between the parties. This requires an offer made by one party, acceptance
by the other party

Intention to enter into a legally binding contract either written or verbal.

When one party to a contract fails to carry out his part of the agreement, the
other party can take legal action against them for breach of contract. So if a
business has a customer who is failing to pay, they can take them to court.

Where one party makes a misrepresentation to the other, the contract is

considered void

Sales of Goods and services:

An important area of contract law is the law concerning the sale of goods.

UK legislation also covers contracts where the supply of services is the major
part of the contract. For example, contracts of repair, where the supply of
goods may be incidental to the provision of a service.

Imagine that you are about to enter into a contract for the purchase of some
goods. What might you be concerned about?

You may want the goods delivered for a particular occasion or date.

Are the goods stolen, i.e. does the seller have a right to sell the goods?

You would expect the goods to be the same type and quality as the
description or any sample.

The goods should be of reasonable quality and suitable for their purpose.

The UK’s Consumer Rights Act 2015 (TSO, 2015) legislation covers these
matters and a number of other important issues. We will use UK legislation
as an example in the following sections. Its provisions are regarded as
implied terms of most contracts for the sale of goods.

Implied terms: A sale of goods is subject to the following provisions.

Title, or the seller’s right to sell the goods

Description of the goods

Quality of the goods

Fitness of the goods for the purpose for which they are supplied
Mark Complete

ACCA BT (F1) – Business and Technology

Chapter 4 – Micro Economic EnvironmentComplete Study Notes

Chapter 4 – The Macro –Economic environment

Macroeconomics

This is the study of the aggregated effects of the decisions of individual

economic units

(Such as households or businesses). It looks at a complete national economy,

or the international economic system as a whole.

Income and expenditure flows

Remember: There is a circular flow of income in an economy, which means

that expenditure, output and income will all have the same total value.

The income of firms is the sales revenue from the sales of products and
services.

Firms must pay households for the factors of production (this often implies
that firms pay salaries to household members).

This is a closed country, meaning it doesn’t trade with other countries.

It assumes that the economy is made up of only two parts—firms and

households—and that there are no imports or exports. This model is based
on the idea that households spend all the money they make, which is called
“consumption” in economics. They also buy all the things made by firms.

Households earn income against their labour service which enables firms to
provide goods and services. The income earned is used as expenditure on
these goods and services that are made.
The total sales value of goods produced should equal the total expenditure
on goods, assuming that all goods that are produced are also sold.

The amount of expenditure should also equal the total income of households,
because it is households that consume the goods and they must have
income to afford to pay for them.

At this stage we are assuming there are no withdrawals from, or injections

into, the circular flow income.

Withdrawals and injections into the circular flow of income

Assuming withdrawals in the form of saving, taxation, import expenditures

and outflow injections into the circular flow (investment, government
spending, export income).

Be aware that saving is different from investment. Saving simply means

withdrawing money from circulation.

Note : Changes in behavior of one of the components of the circular flow (for
example, investment) can lead to significant changes in economic
performance as a whole

Factors affecting economy:

The economy is rarely in a stable state because of the various changing

factors which influence it. These include:

Investment levels

The multiplier effect

Inflation

Savings

Confidence

Interest rates
Exchange rates.

The multiplier in the national economy

The multiplier increases national income by circulating income throughout

the economy. An initial expenditure rise will snowball into more economic
spending.

Since total economic spending is one measure of national income, an initial

rise in expenditure will boost national income even more. The first rise in
spending will double national income, depending on how much of any new
investment is spent or conserved.

Imagine a rise in government road building funding. The government pays

road contractors, who buy raw materials and subcontract work. All these
companies employ people who earn salary to buy products and services from
other firms. Road hauliers, housing builders, and estate agents may benefit
from improved roads.

An increase in investment would ripple through the economy and boost

national income by a multiple of the initial investment, depending on the
multiplier.

Aggregate supply and demand

Inflation and unemployment harm the economy. To know how these problem
arise we need to learn aggregate demand, aggregate supply, and how they
affect national income and prices.

Aggregate Demand:

The aggregate demand for goods and services is made up of various circular
flow components like Consumption, investment, government expenditure,
and exports-imports. The aggregate demand curve is the total of all
individual and corporate demand curves in a country’s economy.

Aggregate supply:
The aggregate supply refers to the ability of the economy to produce goods
and services.

Price increases will increase aggregate supply and boost sales as it’s
profitable to sell at higher prices hence encouraging to produce more.

Graph below shows the aggregate supply curve’s left-to-right slope and
short-term stability.

Where the aggregate demand curve meets the aggregate supply curve, the
economy’s total demand and supply are equal. This is known as equilibrium
level of national income

Note that the graph highlights the fact that a change in either the aggregate
supply or demand will have an effect on the price level and the national
income. Assuming that employment levels are related to national income
levels, the model shows how unemployment and inflation (a change in price
level) could arise

A shift in aggregate demand

Say, for example, that the equilibrium level is currently where national
income = Y0 and price = P0.

Then suppose there is a drop in consumer confidence so consumers stop

spending (i.e. demand falls).

The new equilibrium would be where national income = Y1 and where price
= P1.

If, on the other hand, consumer confidence increased (for example due to
more access to affordable credit), consumers would buy more (an increase in
demand) and so the new equilibrium would be where national income = Y2
and price = P2.

The Determination of National Income

Equilibrium national income is determined using aggregate supply and

aggregate demand analysis
Aggregate demand and supply equilibrium:

Aggregate demand (AD) is total planned or desired consumption demand in

the economy for consumer goods and services and also for capital goods, no
matter whether the buyers are households, firms or government

Full-employment national income

If full employment is one of a nation’s economic policy goals, then the ideal
equilibrium level of national income is when AD and AS are in balance at the
full employment level of national income, without any inflationary gap, or
when aggregate demand at the current price levels is precisely sufficient to
encourage firms to produce at an output capacity where the nation’s
resources are fully utilised.

Inflationary gaps

In a situation where resources are already fully employed, there may be an

inflationary gap since increases in demand will cause price changes, but no
variations in real output.

A shift in demand or supply will not only change the national income, it will
also change price levels.

Deflationary gap

In a situation where there is unemployment of resources there is said to be a

deflationary gap. Prices are fairly constant and real output changes as
aggregate demand varies. A deflationary gap can be described as the extent
to which the aggregate demand function will have to shift upward to produce
the full employment level of national income.

Stagflation

A situation where there is a combination of unacceptably high

unemployment, unacceptably high inflation and low/negative economic
growth

Conclusively an equilibrium national income will be reached where aggregate

demand equals aggregate supply. There are two possible equilibria.

One is at a level of demand which exceeds the productive capabilities of the

economy at full employment, and there is insufficient output capacity in the
economy to meet demand at current prices. There is then an inflationary
gap.

The other is at a level of employment which is below the full employment

level of national income. The difference between actual national income and
full employment national income is called a deflationary gap. To create full
employment, the total national income (expenditure) must be increased by
the amount of the deflationary gap.

The Business cycle:

Business cycles or trade cycles are the continual sequence of rapid growth in
national income, followed by a slowdown in growth and then a fall in national
income (recession). After this recession comes growth again, and when this
has reached a peak, the cycle turns into recession once more

Phases in the business cycle

Recession

Recovery
Depression

Boom

Recession tends to occur quickly, while recovery is typically a slower process.

Diagrammatic view of business cycle:

Recession begins at point A in the graphic below. Recessions lower consumer

demand and make many investment initiatives unprofitable. Companies that
can’t sell their products will decrease orders, inventory, and collapse. Lower
production and employment. Prices will decline.

The economy looks bad, business and consumer confidence is low, and
investment is low. Without aggregate demand boost, the economy will enter
a complete downturn and reach point B known as depression.

Recovery starts in the third stage. The economy recovers at point C. As

confidence returns, recovery may accelerate. Output, employment, and
income will grow. Expectations will rise as production, sales, and profits rise,
encouraging more investment. Using idle capacity and employing jobless
workers may expand output to meet growing demand. Average prices will
stay steady or climb moderately. New materials and machines purchased
during recovery may improve efficiency. This may boost recovery-phase
economic development.

Recovery raises production above its trend path to point D in the boom
period. The boom will maximise capacity and manpower. This may produce
bottlenecks in sectors that cannot fulfil demand, such as lack capacity,
competent staff, or crucial inputs. Thus, price hikes in order to meet rising
demand. Most companies will benefit.

Optimism and investment may be strong.

Conclusively wide economic activity swings may harm society’s economy.

Boom times may cause inequitable inflation and speculation, whereas trade
cycle bottoms may cause significant unemployment. Governments aim to
stabilise the economy to prevent trade cycle distortions.
Inflation and its consequences

High rates of inflation are harmful to an economy. Inflation redistributes

income and wealth. Uncertainty about the value of money makes business
planning more difficult. Constantly changing prices impose extra costs.

Inflation is the name given to an increase in price levels generally. It is also

manifest in the decline in the purchasing power of money

Why is inflation a problem?

Redistribution of income and wealth :

Inflation leads to a redistribution of income and wealth in ways which may be

undesirable.

Wealth may be transferred from accounts payable to accounts receivable.

This is because inflation reduces the “real” worth of loans.

For instance, if prices doubled while you were still in debt for $1,000, the true
amount of your loan would have been half. In general, those who have
economic clout benefit from inflation at the cost of the weak, especially
those on fixed incomes.

Balance of payments effects :

If a nation has more inflation than its key trade partners, its exports will be
costly and imports inexpensive.

The balance of trade will deteriorate, impacting employment in exporting

and import-substituting businesses. Exchange rates will fluctuate.

Uncertainty of the value of money and prices:

If inflation is inaccurately projected, nobody knows the real rate. Thus, no

one knows the worth of money or prices.

If the rate of inflation becomes excessive then there will be ‘Hyperinflation’

which makes money useless, forcing people to barter. The issue persists
even in milder cases.
Prices transmit less information, making resource allocation less efficient and
rational decision-making almost impossible.

Resource costs of changing prices

Need to aim for stable prices is the resource cost of frequently changing
prices.

In times of high inflation, most labour time is spent on planning and

implementing price changes.

Customers may also have to spend more time making price comparisons if
they seek to buy from the lowest cost source.

Economic growth and investment

Some theorist arguments that Inflation may hurt economic development and
investment.

Inflation may have a minimal short-term impact on economic development

and investment, but it surely have a large long-term impact on a country’s
standard of living.

Consumer price indices

A consumer price index is based on a chosen ‘basket’ of items which

consumers purchase. A weighting is decided for each item according to the
average spending on the item by consumers.

Purpose is to measure changes in the real value of money of a single figure.

Consumer price indices may be used for several purposes, for example

As an indicator of inflationary pressures in the economy

As a benchmark for wage negotiations and to determine annual increases in

government benefits payments.

The RPI and the CPI

Retail Prices Index (RPI). The RPI measures the percentage changes month
by month in the average level of prices of the commodities and services,
including housing costs, purchased by the great majority of households in
the UK.
The items of expenditure within the RPI are intended to be a representative
list of items, current prices for which are collected at regular intervals.

Since 2003, the Harmonised Index of Consumer Prices (HICP) has been used
as the basis for the UK’s inflation target. The UK HICP is called the Consumer
Prices Index (CPI).

The CPI excludes most housing costs.

The underlying rate of inflation

This term is used to refer to the RPI adjusted to exclude mortgage costs and
sometimes other elements as well (such as the local council tax). The effects
of interest rate changes on mortgage costs help to make the RPI fluctuate
more widely than the underlying rate of inflation.

RPIX is the underlying rate of inflation measured as the increase in the RPI
excluding mortgage interest payments.

Another measure, called RPIY, goes further and excludes the effects of sales
tax (VAT) changes as well

Causes of inflation

Unemployment

The number of unemployed at any time is measured by government

statistics.

The rate of unemployment in an economy can be calculated as:

Number of unemployed × 100%

Total workforce

If the flow of workers through unemployment is constant then the size of the
unemployed labour force will also be constant.

Flows into unemployment are:

Flows out of unemployment are:

(a) Members of the working labour force becoming unemployed

Redundancies

Voluntarily quitting a job

Lay-offs

(b)People out of the labour force joining the unemployed

School leavers without a job

Others (for example, carers) rejoining the workforce but having no job yet

Unemployed people finding jobs

Laid-off workers being re-employed

Unemployed people finding jobs

Laid-off workers being re-employed

Unemployed people stopping the search for work

Negative effects of Unemployment

The following issues are brought on by unemployment.

Loss of Output: The economy is not generating as much as it might if there is
a worker shortage. As a result, the whole national income is below potential.

Loss of Human capital: The jobless worker would progressively lose its skills if
there is unemployment since skills can only be maintained by employment.

Growing disparities in the income distribution. The poor grow poorer as

unemployment rises because unemployed individuals earn less than working
ones.

Social costs: Social issues such as emotional pain and misery are brought on
by unemploymen and it’s also possible that crime rates—such as theft and
vandalism—will rise.

An increase in the cost of welfare payments. Government Fiscal policies may

be significantly impacted by this.

Causes of Unemployment

Seasonal employment and frictional unemployment will be short term

whereas all other are longer term, and more serious.

Government employment Policies

Job creation and reducing unemployment may usually mean the same thing
however it’s possible to create more jobs without reducing unemployment.

This can happen when there is a greater number of people entering the jobs
market than there are new jobs being created.

It is also possible to reduce the official unemployment figures without

creating jobs. For example, individuals who enroll for a government-financed
training scheme are taken off the unemployment register, even though they
do not have full-time jobs.

The government also has several ways to generate jobs and decrease
unemployment.

Directly investing in employment (e.g., public workers)

Encouraging private sector growth; when aggregate demand is growing,

firms will probably want to increase output to meet demand, and so will hire
more labour

Encouraging job skill training, as there may be a high unemployment rate

among unskilled workers and a shortage of skilled workers – a government
can help finance training schemes to provide “pool” of workers with the skills
that firm needs.

Giving regional employers grants

Encouraging labour mobility by providing relocation aid and boosting job

postings

Other measures may focus to lower real wages to market clearing levels.

Abolishing closed shop agreements, which restrict certain jobs to trade union
members

Eliminating minimum wage restrictions, where they exist

Economic growth Objective

Economic growth may be measured by increases in the real gross national

product (GNP) per head of the population.

Actual growth in the long run is determined by two factors.

The growth in potential output (in other words the aggregate supply)

The growth in aggregate demand (AD)

These factors should move in step with one another as discussed previously.

Potential growth

The causes of growth in output are the determinants of the capacity of the
economy (the supply side) rather than actual spending (the demand side),
and are as follows.
There may be increases in the amount of resources available.

Land and raw materials. Land is virtually in fixed supply, but new natural
resources are continually being discovered.

Labour (the size of the working population). The output per head will be
affected by the proportion of the population which is non-working.

Capital (e.g. machinery).

Sustained economic growth depends heavily on an adequate level of new

investment, which will be undertaken if there are expectations of future
growth in demand. (The Multiplier effect). A factor in growth, is dependent on
business confidence in the future, which is reflected in expectations of
growth in consumption.

Natural resources: The rate of extraction of natural resources will impose a

limit on the rate of growth.

Technological progress is a very important source of faster economic growth.

The same amounts of the factors of production can produce a higher output.

New products will be developed, thus adding to output growth.

There can be technical progress in the labour force.

Technological progress can be divided into three types.

Capital saving: technical advances that use less capital and the same
amount of labour per unit of output

Neutral: technical advances that require labour and capital in the same
proportions as before, using less of each per unit of output

Labour-saving: technical advances that uses less labour and the same
amount of capital per unit of output

Technological progress may stimulate growth but at the same time conflict
with the goal of full employment.

An improvement in the terms of trade (the quantity of imports that can be

bought in exchange for a given quantity of exports) means that more imports
can be bought or alternatively a given volume of exports will earn higher
profits. This will boost investment and hence growth.
Advantages and Disadvantages of Economic Growth:

Advantages

Disadvantages

Economic development should raise per-capita income

This will boost consumption thus spending

Improve living standards.

4. Economic development makes it easier to offer social services without

imposing excessive taxes.

Growth uses natural resources quicker. Without growth, resources would last
longer.

Economic activity causes pollution like acid rain and nuclear waste.

Unable to adapt to new skills and training, some people may not find work in
the growing economy leading to Structural unemployment.

Growth involves investment, which requires money. Higher savings demand

lower consumption to fund this. In the near term, stronger growth implies
lower consumption.

Government Policies for managing the economy:

All contemporary governments must control their economies. Electorates

want government to promote prosperity and turn to them for sound
macroeconomic policies.

Macroeconomic policy objectives relate to economic growth, inflation,

unemployment and the balance of payments.

Four main objectives of economic policy:

To achieve economic growth

To control price inflation

To achieve full employment

To achieve a balance between exports and imports

The problem with trying to satisfy these objectives is that when any are
satisfied, they invariably cause problem with the others.

Government spending

Governments spend money. Spending are allocated between departments

and functions including health, social services, education, transportation,
defence, and subsidies to industries etc.

Government spending affects military, medicinal, and textbook

manufacturers.

Government spending “knocks on” the economy through supplying

enterprises that supply the government.

Taxes effect consumer’s purchasing power.

Company earnings and tax allowances effect after-tax return on investment.

Public sector investment will focus on public sector operations or societal

needs. These industries will be benefited.

Public sector investment may take longer (health) or have less economic
rewards (education) than private sector investment.

Government influences are outlined in the diagram below

Fiscal Policy

Fiscal policy: government policy on taxation, public borrowing and public

spending.

A government must plan its spending to determine how much it needs to

generate in revenue or debt. It requires a strategy to determine how much
taxation, what shape it should take, and which segments of the economy
(firms, families, high-income earners, low-income earners) should pay. Fiscal
policy is planned annually in the Budget. The Government controls two
budget components to implement fiscal policy:

Expenditure. The Government, at a national and local level, spends money to

provide goods and services, such as a health service, public education, a
police force, roads and public buildings, and to pay its administrative
workforce. It may give grants to stimulate private sector investment.

Income. Government revenue and expenditure must be funded. Taxes and

direct charges to government service customers like National Health Service
charges make up most government revenue.

Borrowing is a third aspect of the fiscal policy. If a government’s spending

goes beyond its revenue, it must take on debt to make up the gap. In the UK,
this annual borrowing need for the government is now referred to as the
Public Sector Net Cash need (PSNCR). Public Sector Borrowing Requirement
(PSBR) was its previous moniker. The efficiency of fiscal policy is influenced
by where the government borrows money.

Budget surplus and budget deficit

If a government decides to use fiscal policy to influence demand in the

economy, it can choose either expenditure changes or tax changes as its
policy instrument.

For instance, the government seeks to boost demand.

If the government maintained current expenditure but cut taxes, companies

and people would have more money after taxes for consumption or
saving/investing, stimulating demand.

It may directly raise demand by increasing its own expenditure, such as on

health care or education, and by hiring more staff.

Higher taxes might pay for this additional expenditure, the private sector of
the economy would spend less as a result of decreased after-tax income.
Government borrowing may also be used to pay for the increased
expenditure. Governments are also capable of borrowing money for
expenditure.

By lowering taxes and giving businesses and people more after-tax income to
spend (or save), it may indirectly raise demand.

Tax reductions may be matched by reductions in government expenditure, in

which case the economy’s overall demand will not be considerably, if at all,
boosted.

Another option for funding tax reductions is for the government to borrow
additional money.

Just as aggregate demand in the economy can be boosted by either more

government spending or by tax cuts, financed in either case by a higher
PSNCR, so too can demand in the economy be reduced by cutting
government spending or by raising taxes, and using the savings or higher
income to cut government borrowing.

Expenditure changes and tax changes are not mutually exclusive options, of
course. A government has several options:

When a government’s income exceeds its expenditure, and there is a

negative PSNCR or Public Sector Debt Repayment (PSDR), we say that the
Government is running a budget surplus. This may be a deliberate policy
(known as contractionary policy) to reduce the size of the money supply by
taking money out of the economy.

When a government’s expenditure exceeds its income, so that it must

borrow to make up the difference, there is a PSNCR and we say that the
Government is running a budget deficit.

When the government is injecting money into the economy, this is known as
expansionary policy.

Functions of taxation

Taxation has several functions including:

Direct and indirect taxes

Tax and income levels

(a) A regressive tax takes a higher proportion of a poor

person’s salary than of a rich person’s.

(b)A proportional tax takes the same proportion of income in

tax from all levels of income.

© A progressive tax takes a higher proportion of income in tax as income

rises. Income tax as a whole is progressive.

Note:

Direct taxes tend to be progressive or proportional. Income tax is usually

progressive, with high rates of tax charged on higher bands of taxable
income. Indirect taxes can be regressive, when the taxes are placed on
essential commodities or commodities consumed by poorer people in greater
quantities.
Monetary Policy:

Monetary policy: government policy on the money supply, the monetary

system, interest rates, exchange rates and the availability of credit.

Monetary policy can be used as a means towards achieving ultimate

economic objectives for inflation, the balance of trade, full employment and
real economic growth

Target of monetary policy: the money supply

The money supply is a clear intermediate aim of economic policy according

to monetarist economists.

This is due to their argument that a rise in the money supply would result in
higher prices and earnings, which will then boost demand for money to
spend.

This practice of a government printing additional money to boost the

economy is now often known as quantitative easing.

The initial short-term impact of such a strategy would be unknown for three
reasons.

Interest rates may have an unpredictable impact.

There may be a delay before action is taken. For instance, it takes time to
reduce government expenditure, which makes it difficult to utilize reduced
government borrowing as a monetary policy tool.

Controlling the money supply may take some time to change people’s
expectations of inflation and wage demands.

Therefore, if increasing the money supply is a goal of monetary policy, it

should be a medium-term objective.

Target of monetary policy: the interest rates

Monetary policy may target interest rates-the price of money.

If interest rates directly affect economic spending or inflation, this is
reasonable.

Companies and people will pay more to borrow if interest rates climb.

If businesses think the rise is permanent, investment returns will drop and
plans may be cancelled.

Interest payments will lower company profits.

As inventory costs grow, companies will cut inventories.

To minimize borrowings, people should cut down on expenditure and stop

borrowing for houses.

More to this due to high interest rates:

Sterling will appreciate due to rising interest rates. This will raise export
prices, discouraging purchases. To avoid ‘import-cost-push’ inflation and
safeguard the balance of payments, this may be important. E.g. BMW sold
Rover because of this impact, which UK manufacturers have complained
bitterly.

(c) High interest rates will attract foreign investors into

sterling investments, and so provide capital inflows which
help to finance the large UK balance of payments deficit.

Although it is generally accepted that interest rates, company investment,

and consumer expenditure are linked, the relationship is not stable or
predictable, and interest rate changes are only likely to affect expenditure
after a long time.

Target of monetary policy: the exchange rates

Lower exchange rates make exports cheaper to foreign purchasers and more
competitive. Imports will become more costly and less competitive with
domestic firms. Thus, a lower exchange rate may boost exports and reduce
imports, benefiting a home economy.

Higher exchange rates make exports more expensive and imports cheaper.
Inflation should fall when the exchange rate increases and imports become
cheaper. However, a falling currency rate raises import prices and local
inflation.
Note:

When a country’s economy is heavily dependent on overseas trade, as the

UK economy is, it might be appropriate for government policy to establish a
target exchange value for the domestic currency.

However, the exchange rate is dependent on both the domestic rate of

inflation and the level of interest rates.

Targets and indicators

An economic indicator provides information about economic conditions and

might be used as a way of judging the performance of government.

(a) A leading indicator is one which gives an advance indication of

what will happen to the economy in the future. It can therefore
be used to predict future conditions.

(b)A coincident indicator is one which gives an indication of changes

in economic conditions at the same time that these changes are
occurring.

© A lagging indicator, you will have guessed, is one which ‘lags behind’ the
economic cycle.

Monetary policy and fiscal policy

Monetary policy can be made to act as a subsidiary support to fiscal policy
and demand management.

Budgets are once-a-year events, thus a government must adopt non-fiscal

means to regulate the economy between budgets.

(a) Low interest rates or no credit restriction may promote bank lending
and economic demand.

(a) High interest rates may discourage borrowing and restrict economic
expenditure.

© Strict credit controls—such as bank lending restrictions—could diminish

lending and demand in the economy.

Alternatively, monetary policy might be given prominence over fiscal policy

as the most effective approach by a government to achieving its main
economic policy objectives.

Monetary policy, inflation control and economic growth

How can monetary policy assist the economy though it’s putting brake on
inflation?

Inflation raises economic risk. Controlling inflation restores by stabilizing the

exchange rate.

Lower interest rates boost corporate confidence (owing to reduced

uncertainty and investment and production.

Higher wages from regulated money supply increase will allow people to buy
more production.
The balance of payments

The balance of payments accounts consist of a current account with visible

and invisibles sections and transactions in capital (external assets and
liabilities including official financing).

· Current account transactions are subdivided into four parts.

Trade in goods

Income

Trade in services

Transfers

Income is divided into two parts.

(a) Income from employment of UK residents by overseas firms

(b)Income from capital investment overseas

Transfers are also divided into two parts.

(a) Public sector payments to and receipts from overseas bodies, such as
the EU. Typically these are interest payments

(b)Non-government sector payments to and receipts from bodies, such as

the EU

Capital account balance is made up of public sector flows of capital into and
out of the country, such as government loans to other countries.

Financial account is made up of flows of capital to and from the non-

government sector, such as direct investment in overseas facilities; portfolio
investment (in shares, bonds, and so on); and speculative flows of currency.
When journalists or economists speak of the balance of payments they are
usually referring to the deficit or surplus on the current account, or possibly
to the surplus or deficit on trade in goods only (this is also known as the
balance of trade).

A balance of payments is in equilibrium if, over a period of years, the

exchange rate remains stable and autonomous credits and debits are equal
in value.

Note

Do not equate a trade surplus or deficit with a ‘profit’ or ‘loss’ for the country.
A country is not like a company and the trade balance has nothing to do with
profits and losses.

Surplus or deficit in the current account

When a country has a persistent current account deficit, its balance of

payments suffers, but even a surplus may cause issues.

Current account deficits are arguably the most evident. Imports exceed
exports in a deficit nation. This has two outcomes.

It may borrow more overseas to meet the current account deficit, such as by
enticing foreign investors to buy the government’s gilt-edged securities.

It may sell additional assets. Foreign enterprises have been buying US

company shares due to the US current account imbalance. However, foreign
exchange market demand for the country’s currency will be lower than
supply. Thus, the exchange rate will be devalued.

If a country has a surplus on the current account year after year a country
may invest its annual current account surplus overseas or add it to
government reserves resulting in strong BOP. However, if a big trading nation
like Japan enjoys a constant current account surplus, other nations must be
in deficit. These other nations may run down their official reserves, perhaps
to nothing, and borrow as much as they can to pay elsewhere, but ultimately
they will run out of money and be unable to pay their obligations. Thus,
importers may face political pressure to impose taxes or import limits.

How can a government rectify a current account deficit?

A country’s government is expected to minimize or eliminate its balance of

payments deficit. These steps can fix a current account deficit.

A currency depreciation (called devaluation when intentionally initiated by

the government, such as by adjusting the exchange rate under a regulated
exchange rate system)

Import restrictions such tariffs, quotas, and exchange controls

Deflation to lower domestic aggregate demand

The first two are expenditure switching policy that shift resources from
imports to domestic goods, while the final is an expenditure reduction policy.

Increases in the productivity of resources may result from technological

progress or changed labour practices, for example.

Mark Complete