2.5 External Influences Flashcards
What are some examples of external factors that impact the business?
•Government
•World events
•Consumer tastes
•Economic climate
•Pressure groups
•Changes in population
•Social factors
•Environmental factors
•Legislation and regulation
What is the definition of appreciation of a currency?
- a rise in the value of the currency
What is the definition of Base rate?
the rate of interest around which a bank structures other interest rates, if the Bank of England raises the base rate, all the other borrowing and savings rates are likely to move in the same direction and vice versa
What is the definition of a boom?
the peak of the economic cycle where GDP is growing at is fastest
What is the definition of the consumer price index (CPI)?
-a common measure of price changes used in the EU
What is the definition of Deflation?
-a fall in the general price level, also used to describe a situation were economic growth is falling or negative when inflation is falling
What is the definition of Depreciation (of a currency)?
a fall in the value of the currency
What is the definition of a downturn?
a period in the economic cycle where GDP grows. but more slowly
What is the definition of Economic, trade or business cycle?
regular fluctuations in the level of output in the economy
What is the definition Exchange rate?
the price of one currency in terms of another
What is the definition of Fiscal policy?
using changes in taxation and government expenditure to manage the economy
What is the definition of Government expenditure?
the amount spent by the government in its provisions of public services
What is the definition of Gross Domestic Product (GDP)?
a common measure of national income., output or employment
What is the definition of Index linked?
the linking of certain payments such as benefits, to the rate of inflation
What is the definition of inflation?
a general rise in prices
What is the definition of monetary policy?
using changes in the interest rates and money supply to manage the economy
What is the definition of a recession?
a less severe form of depression
a period of temporary economic decline during which trade and industrial activity are reduced, generally identified by a fall in GDP in two successive quarters.
What is the definition of recover or upswing?
a period where economic growth begins to increase again after a recession
What is the definition of a slump or depression?
the bottom of the economic cycle where GDP start to fall with significant increases in unemployment
What is the definition of taxation?
the charge made by government on the activities, earnings and income of businesses and individuals
How is inflation measured?
-a common approach to measuring inflation is to calculate changes in the consumer price index (CPI)
-this involves gathering information about the prices of goods and services in the economy
-Each month the government records price changes of about 600 goods and services
-From these records an average price change is calculated and converted into an index number
-this can be compared with previous figure to calculate percentage change prices (i.e. the inflation rate)
How can inflation affect businesses?
-inflation rates between 1 and 5% are not likely to have a big impact on businesses
-however once the CPI gets into double figures and beyond, inflation can have some damaging effects on business, these reasons being:
-increased costs
-uncertainty
-borrowing and lending
-consumer reactions
- international competitiveness
How can inflation rates increase the costs of a businesses?
-shoe leather costs (business used to send employees around of foot to find this out hence the name)–> suppliers prices increasing all the time but at different rates, time must be spent searching for the best deal as well as more time tracking competitors prices to decide on what to set yours
- Menu costs (because for restaurant when changing prices they need new menus) –> raising your prices costs money, you need to inform customers, brochures might have to be printed and websites updated
- hyperinflation –> management is likely to have to spend more time dealing with worker’s pay claims, (annual contracts deals instead of 3 year ones), if hyperinflation occurred pay negotiations would have to be monthly, larger risks of strikes as workers and managers have different thoughts about future inflation rates
How can inflation cause uncertainty for business?
-whether to spend or to save there money –> should they invest now if prices may be higher in 6 months?
-long term contracts–> if prices are changing ever 6 months how can a supplier put a price on a 3 year contract when he doesnt even know what the price is going to be in a few months
How can inflation affect borrowing and lending for business?
- debts that have occurred in the past can be settled quickly as they are eroded by inflation
- but in this environment interest rates rise to match inflation, if there is prolonged inflation interest rates are likely to become index linked - linked to the index of prices
-so interest rates might charge at the rate of inflation plus 5% or 10%
How can inflation affect consumers reactions?
-prolonged inflation leads to more saving, and less willing to borrow money
-the value of saving tends to fall as inflation erodes their real value –> start to save more to make up for the previous real value
-less spending being business make less sales
- during hyperinflation consumer spending may differ –> on pay day there would be huge activity in shops as people spend there money as and when they get it –> suppliers of fresh food would have to gear up to deliver all there goods on one day of the week
How can inflation affect international competitiveness?
-high inflation can impact businesses that import or export goods and services
-if the UK has higher inflation rates than its trading partner, UK businesses will become uncompetitive
- cheaper to import from overseas business that by UK based products as the prices are rising less quickly
What factors can cause inflation?
-Cost Push: occurs when there is an increase in the cost of production (including wages, raw materials, taxation and interests rates) that forces firms to increase their prices in order to protect their profit margins.
-Demand Pull: the process by which prices rise because there is excess demand in the economy
What are some factors can can cause cost push inflation?
-Increase in the cost of raw materials
-Minimum wage & other wage increases
-Skills shortages
-Taxation
-Energy prices
What are the general affects of high inflation rates on a business?
-Inflation encourages investment – the value of outstanding debt reduces.
-Stock and property prices rise – making balance sheets look healthier
-Less resistance to rising prices – especially if national trend
-Higher prices may mean lower sales – Price elasticity
-Premium price products may suffer – price consciousness
-Workers want “Real” wage rises – can cause industrial relation issues
What are the general affects of low inflation rates on a business?
-Low interest rates – benefits borrowers, hits savers
-Low relative to other countries – imports become more expensive, exports appear more competitive
-More certainty within the economy – people feel more confident as future prices can be predicted more easily.
-Marketing and admin costs lower – less frequent price adjustments
-Efficient firms survive, other disappear. In a period of high inflation, firms can hide inefficiencies under price rises.
How can deflation cause a problems for a business?
- mainly associated with the a fall in demand
- consumers delay spending as they think they can make a purchase at a lower price in the future
-as a result businesses postpone investment and may lay off workers due to the need to cut production
-businesses may have to reduce their prices which can reduces their profits
How can deflation be a benefit to a business?
-if deflation is the result of falling import prices or the fall in price of commodities it could be positive:
-a fall in UK import prices could be the result of a strong pound –> this means imported goods will be cheaper and will put downward pressure on the CPI
-this may not have a negative impact on the UK economy as if commodity prices fall, this might reduce the costs of outputs to many businesses - they might respond by actually increasing production
What happens when exchange rates fall (weaker pound or stronger foreign currency)?
-price for exports –> fall
-demand for export –> rises
-price for imports –> rises
- demand for imports –> lowers
What happens when exchange rates rise (stronger pound or weaker foreign currency)?
-price for exports –> rises
-demand for exports –> falls
-price for imports –> falls
-demand for imports –> rises
How can businesses be affected by exchange rates?
-fall in exchange rates –> good for exporters
-rise in exchange rates –>
good for importers
-fluctuating exchanges rates an cause uncertainty –> difficult to predict demand for exports and the cost of imports
-another problem is that it usually costs money to switch from on currency to another –> cost for importer thus reduced profits
What are the effects of interest rates of costs in general?
-changes in interest rates are likely to affect the overheads of a businesses
if interest rates rise, businesses are likely to pay higher interest payments on their borrowing –> only if loans are variable
What are the effects of interest rates on the costs of loans?
• Investment projects are often financed through loans
• A rise in interest rates increases the price of borrowing money
• Projects financed this way will therefore find that their costs have increased, reducing profitability
•This could convince some businesses not to venture into new ideas
• Total investment in the economy will then fail
What are the effects of interest rates on the attractiveness if savings?
•Businesses have the option to save their money rather than investing in things like buildings and machinery
•A rise in interest rates makes saving more appealing, so a business may decide to save profit in order to make more, shelving their desired investments for when interest rates are not as generous
What are the affects of interest rates of paying off existing loans?
• A rise in interest rates leads to an increase in the cost of existing variable rate borrowing
• A business could choose to pay off existing loans rather than increasing the investment
• This will reduce costs
• It also prevents further risks from borrowing
What are the effects of interest rates of a fall in demand?
• A rise in interest rates is likely to reduce total spending in the economy
• This might affect the profitability of investment projects
• A predicted fall in demand may prevent certain projects from going ahead
What are the effects of interest rates of domestic consumption?
• Consumers will be hit by a rise in interest rates
• The costs of loans will rise
• This will deter customers from purchasing things using credit, such as cars and furniture; these goods are known as consumer durables because they are used up over a long period.
• An example of this is housing; consumers are less likely to enter the market because they fear being unable to keep up with the repayments
• If unemployment begins to rise due to the fall in demand, this will reduce consumer confidence, making consumers even less likely to spend
What are the effects of interest rates of domestic investment?
• Businesses are likely to cut back plans for investment if interest rates rise
• Investment goods, like houses and machines, are made by businesses
• These businesses will see a fall in their demand
What are the effects of interest rates on stock?
• Businesses keep stocks of raw materials and finished goods
• Stocks cost money to keep, because a fall in stock levels could be used to finance a fall in borrowing and interest payments, so a rise in interest rates will increase the price of holding stock
• This will encourage businesses to de-stock
• This will be especially true if demand levels change drastically
• With fewer sales, less needs to be produced, so less stock needs to be kept
• Cutting stock affects all the businesses that are needed to sell a product; if less stock is needed, less raw materials will be required from the supplier
• Destocking due to a rise in interest rates therefore causes a fall in demand throughout the industry
What are the effects of interest rates on exports and imports?
• A rise in interest rates tends to lead to a rise in the value of one currency against another
• A rise in the value of the pound, for example, will make it harder for the UK to export profitably
• However, foreign businesses will find it cheaper because they will be able to reduce their prices
• The rise is therefore likely to be a fall in exports and a loss of sales to importers in the domestic market
• Both will reduce demand and hit UK businesses
What is a way that government can affect business decision making?
Governments can affect business decision-making using fiscal policy. This involves changing taxation and government expenditure to influence the economy. Taxes vary from country to country but are paid by both businesses and individuals.
What are direct taxes?
taxes on income
What are indirect taxes?
taxes of spending
What are the main direct taxes in the UK?
- Income tax – Paid on personal income and that from paid and self-employment.
- National Insurance Contributions (NIC) – Paid by businesses and individuals on employee’s earnings.
- Corporation tax – Paid by companies based on how much profit they make
- Capital Gains tax – Paid on the capital gain (profit) made when selling an asset.
- Inheritance tax – Paid on money transferred to another individual usually after death
What are the main indirect taxes in the UK?
- Value Added Tax (VAT) – paid mainly when buying goods and services (except food, children’s clothing)
- Excise Duties – Paid when buying certain goods such as petrol and tobacco.
- Customs Duties – Paid when buying certain goods from abroad.
- Council Tax – Paid by residents to the council to help fund local services.
- Business Rates – Paid by businesses to the council to help fund local services.
What effect does changes in taxation have of businesses?
the main areas that are affected are:
-consumer spending
-prices
-business,costs, revenue and profits
- business spending and investment
-shares
-importing and exporting
-tax avoidance and evasion
-other effects
