Chapter 19: Changes in earning

Changes in the earnings of individuals over time

·         For most people, the wages increase as they grow older

o   This is because the longer people work, the more skilled and productive they become

o   Their productivity increases because they gain experience in their work and in some cases undertake training

·         Some workers may change employers to earn a higher wage whereas others may accept more responsibility

·         However in some cases, the workers may decide to give up working overtime and some may switch to less demanding work- This could cause a decrease in their may

·         Over time the firm may be in financial difficulties, so it may cut wages and bonuses.

Changes in earnings of occupations

Mainly due to a change in demand or supply of labour

Other factors- Changes in bargaining powers, changes is government policies and changes in public opinion.

Changes in demand for labour

Increase in demand for labour (Sorry for not mentioning the equilibrium)

Demand for labour will increase if

·         Demand for the product increases. Demand for the labour is derived demand. So if demand for the product increases then the number of workers employed will also increase.

·         A rise in labour productivity. Higher productivity increases the return from hiring workers.

·         Increase in the price of capital: In some jobs it is possible to replace labour with capital

If demand for labour increases then:

·         If demand for labour increases, wages will rise and bonuses will increase and more overtime hours will be available and they would be paid at a higher rate too.

Changes in supply of labour

The factors that could cause a decrease in the supply of labour are:

·         A fall in the labour force. Fewer workers would make it harder for the businesses to recruit workers

·         A rise in qualifications or training required to do that certain job. This will reduce the number of people eligible for that job.

·         A reduction in non-wage benefits of the job as well as an increase in the number of risks involved in doing a job.

·         A rise in the wage or non-wage-benefits in other jobs. People would then choose the other job instead.

          A decrease in the supply of labour would increase the wage rate. This is because there are less

                Workers capable of doing that job. So, if a company does not pay them high wages, then the

                Workers will leave and the company won’t be able to find a replacement.

               

                The extent to which Earnings change

The magnitude of change in demand for, or supply of labour is influenced by the size of the change and the price elasticity of demand and supply for labour. In inelastic demand and supply, there is a bigger impact on the wage rate causing it to increase drastically. This, however does not happen to elastic demand and supply, where the increase is not so drastic.

The determinant of elasticity of demand for labour is:

·         The proportion of labour costs to total costs: If this proportion is high, then a change in wages would have a significant impact on costs causing the demand to be elastic

·         The ease with which labour can be substituted by capital. If it is easy to do this, then demand will be elastic

·         The elasticity of demand for the product produced. A rise in wages increases costs of production which then increases the price of the product. This causes the demand for the product to contract and causes demand for labour to fall. The more elastic the demand for the product is, the greater the fall for the product and the demand for labour- making demand for labour elastic

·         Time period- Demand for labour is usually more elastic in the long run as there is more time for the firms to change their methods of production

The determinant for elasticity of supply of labour

·         The qualifications and skills required. The more of these needed, the more inelastic the supply of labour will be.

·         The length of the training period. A long training period will cause some workers to not do the job. This would also increase the time over which those training will join the labour force, causing supply of labour to be inelastic.

·         The level of employment- If most workers doing that specific job are already employed. The supply will be inelastic, as the employer will have to increase the wage by a lot to attract some employees.

·         The mobility of labour: The easier it is to change jobs and the easier it is to move from place to place the easier it will be for the employer to recruit more labour by raising wage rates. High mobility = Elastic supply

·         The degree of vocation: Higher the attatchment of workers to the job; the more inelastic the supply will be.

·         The time period: The supply of labour tends to become elastic over time. This is because it gives workers more time to notice wage changes and to gain any qualifications or undertake any training needed for a new job.

Definitions

Elasticity of demand for labour- A measure of the responsiveness of demand for labour to a change in the wage rate.

Elasticity of supply for labour- A measure of the responsiveness of supply for labour to a change in the wage rate.

Other influencing factors’

·         A change in the trade union’s power. If trade unions are allowed then the wages will increase

Governments can change wage rates by:

·         Raising the national minimum wage, thus increasing the pay of low paid workers

·         Improved education may raise the wages of skilled workers as it may increase their demand more than supply. So, employing skilled workers à lower costs of production and increase international competitiveness. Demand for products made by country’s firms should increase and more MNCs may be attracted to set up their franchises in the country

·         Govt. Policies on immigration- If it makes it easier for foreign people to live and work in the country, supply of labour will increase causing wages to fall

·         Introduction of government anti-discrimination laws will change public opinion and increase career prospects and wages of disadvantaged groups. For example: Decreasing sexism will increase the wage rates for women.

·         Advances in technology can alter wage rates. In some cases it can decrease demand for workers and so reduce demand for workers. For example: Technology in the banking industry has reduced the number of banking staff and decreases wage rates as the staff are now easily replacable and because the staff is not in high demand anymore. However, in cases such as production of DVDs, advances in technology has increases supply of labour and wage rates.

In the test write both sides of the answer

Chapter 15: Banks sample question

You are a manager of an indian firm. You want to open new branches. Discuss what factors you would take into consideration in deciding how to finance the expansion.

I would either borrow from the bank, issue new shares, obtain government grants and using retained profits.
To borrow from the bank, I would look at the rate of interst. If I would feel that the rate of interest paid by the company would be less than the profit gained from investment. However, the money to be repaid may accumulate and I may not be able to pay it back. This may lead to my company making a loss. If my firm also starts making continuous losses this would make it difficult to pay back the loan.

Issuing new shares would not do any harm to the company, but if I increase the supply of shares, then the share price may decrease. This would make the shareholders unhappy as they would make a loss by selling their shares. This would also make it easier for another company to take over mine.

Govt. Grant- I would not mind taking the offer of taking a grant if the conditions are reasonable. However, if they are unreasonable this would mean that it will be difficult for the firm to do this.

I want to use retained profits to establish new firms. Using retained profits would mean, that I will not have to pay profits. I would however see opportunity cost- I may put this money in the bank instead

Chapter 15: Banks

Main types of Banks

• Commercial Banks
• Central Banks.

In exams, read carefully whether the question is talking about commercial banks or central banks.

Commercial Banks

Commercial banks are private sector banks which aim to make a profit by providing a range of banking services. 

They are also known as joint stock banks, retail or high street banks

• Commercial banks are banks that seek to make a profit. 
• Shareholders have limited liability ( the state of being legally responsible for something )
• They are in the private sector
• They are either public limited companies or private limited companies.
• They sell banking services.
• They are the banks we are most familiar with

Main Functions of commercial banks

1. Accept deposits

Deposits can be made into two types of banks accounts. Current accounts (a.k.a demand accounts) and deposit accounts (a.k.a time accounts)

In current accounts:

• There is easy and immediate access to money.
• However interest is not paid on such accounts
• Customers use these accounts to receive and make payments

In deposit accounts:

• A period of notice has to be given before money can be withdrawn. 
• Interest is paid on money held in such accounts
• Customers use such accounts as a way of saving.

2. Lend money 

Banks make most of their profit by charging higher interest from borrowers than that is paid on the money held within the banks. There are two main ways of doing this- Overdrafts and loans

In overdrafts

• A customer is allowed to spend more than what is in his or her account up to an agreed limit. 
• Interest is charged on the amount borrowed
• This is a relatively expensive way of borrowing money.
• Customers use it to cover short term gaps between expenses and income

In loans

• Taking a loan is for a particular purpose.
• Interest is charge on the full amount of the loan.
• The rate of interest for loans is likely to be lower than that of an overdraft.
• The customer may be asked to give some form of security- collateral
• This is to ensure that if the loan is not paid the collateral can be sold and the money can be recovered.
• Banks try to avoid this, by checking very carefully, whether the person seeking the loan would be able to repay it.

Lending and borrowing from banks means that they act as financial intermediaries. They accept deposits from those with more money than they want to spend and lend it to those with an immediate desire to spend more money than they have at hand. 

3. Enabling customers to receive and make payments

Banks act as agents for payments and provide money transmission services. There is now a range of ways in which people can receive money and make payments out of their accounts such as cheques, standing orders, direct debits, debit/credit cards and online banking.

4. Other Functions

1. Provide travellers with cheques
2. Change foreign currency 
3. Customers can leave important documents such as house deeds and small valuables with their banks.
4. Banks can also help with the administration of customers' wills
5. Provide advice and help with financial matters-
1. Such as completion of tax forms and the purchase and sale of shares. 
6. Sell insurance 
7. Offer a wide variety of savings accounts with a range of conditions and interest rates.
8. Offer mortgage loans as well

Aims of commercial banks

Making a profit for their shareholders

• The main way it does this is by giving out loans

Liquidity

• Banks have to ensure that they can meet their customers' requests to withdraw money from their accounts.
• To do this banks have to keep a certain amount of liquid assets - items that can be quickly turned into cash without incurring loss.
• Banks earn most of their interests by giving out long term loans
• However if they lend out all their money in these loans then they will not be able to pay money to the consumers who are requesting it.
• Thus, banks have to balance profitability and liquidity
• Having some assets that are earning profit while being illiquid and having others that are earning low or no interest but being liquid.

 Central Banks

Central Banks are government-owned banks which provide banking services to the government and commercial banks.

 For example: Federal Reserve Bank Of the USA, Europeen Central Bank and Bank Of England.

Functions of a Central Bank

1.     Acts as a banker to the government

o    Tax revenue is paid into the government's account at the central bank

o    Payments by the government are made out of the government's account at the central bank.

2.     Operates as a banker to the commercial banks

o    Holding accounts at the central banks allows the commercial banks to withdraw money from there if their own customers are taking out more money than usual.

3.     Acts as a lender of last resort

o    It will lend money to those banks that are temporarily out of cash.

4.     Manages the national debt 

o    National debt is the total amount of money that the government owes.

o    Over time government debt tends to build up. 

o    The central bank carries out borrowing on the government's behalf

§  It does this by issuing government securities such as issuing government bonds, paying interest on these and repaying them when they fall due

5.     Holds the country's reserves of foreign currency and gold

o    The central bank keeps foreign currency and gold to influence the exchange rate

6.     Issues bank notes

o    It is responsible for printing notes and destroying notes which are no longer available for circulation. It also authorises the minting of coins

7.     Implements the government's monetary policy

o    The policy is to keep the inflation low and steady.

§  This involves controlling the money supply 

§  Influencing interest rates through the economy (changing interest rates it charges on loans.)

§  In some cases central banks decide the interest rates.

§  In others, the government may decide the interest rates

8.     Controls the banking system

o    Regulate and supervise the banking system

9.     Represents the government

o    At meetings with other banks and international organisations such as the World Bank and international monetary fund.

Independance of Central Banks

 A lot of central banks have the authority to decide the rate of interest. The govt. still decides the aims of central banks and gives a target for inflation. Eg: The bank of England has been given an inflation target of 2%. If it thinks that the prices may rise by more than 2%, it will raise the rate of interest and vice versa                  

There are some advantages in allowing the central bank to make the rate of interest- it will not be tempted to lower the interest rate to win public support. Central banks also have extensive knowledge of the banking system and know the appropriate rate of interest to set.

Disadvantages?

Other Types of banks 

There are two other types of banks- investment banks and savings banks

Investment banks or merchant banks-

• These are banks that tend only to large firms. They accept deposits from them and lend money to them as well.
• They manage the issue of new shares and buy and sell shares and other financial securities on behalf of their own customers.
• They also give advice on, and help with mergers and takeovers.

Savings banks

• They try to encourage people with relatively low incomes to save,
• They make it easy to withdraw cash with few penalties
• A large proportion of the money lent by these banks goes to the govt.

Banking and Islam

In Muslim countries, commercial banks are not allowed to charge interest on bank loans. This is because Muslims regard charging of interest (usury) a sin.

So to tackle this problem- Muslim banks have provided finance to banks by lending to them in return for a share of profits.

Islamic sharia scholars are employed to issue religious edicts that approve financial products including loans.