redo 2.9 Chapter 2 (6 marks) – Understand The Macro Economic Environment And Its Impact On Asset Classes Flashcards
What is globalisation?
What are the positive and negatives of globalisation on the UK?
Advantages:
Investors can participate in global market trends by investing in multinational funds or companies.
Companies can access low-cost labour and materials, which may not be available in the UK.
Fund managers can use high-yielding stocks as part of their portfolio diversification strategies.
however…
Disadvantages:
Globalisation puts the low-skilled, labour-intensive industries in the developed world at a disadvantage against the developing world. (Think about call centres out-sourced to India, and M&S clothes manufactured in Thailand).
The political landscape of the country is likely to mirror its economic prospects, so investors need to keep an eye on world events
What is the economic cycle?
What is each phase called?
How do you measure what part of the Cycle the economy is in?
The economic cycle is the 4 stages that economies across the world go through: SEE IMAGE
Each phase is called a ‘business cycle’
One standard measure of a country’s economy is its Gross Domestic Product, for example, two consecutive quarters of negative GDP growth = recession
What is GDP?
Gross Domestic Product (GDP).
This is the total monetary value of all the goods and services produced each year by a country
The cycles of economies are:
Recession
Recovery/expansion
Boom
Slowdown/contraction
Tell me about each. How do you actually know if a country is in recession or a boom for instance?
Recession:
Companies have low profits, and their output is weak so many trading, and unemployment rises. People arnt spending so inflation is low so banks cut interest rates (to try to stimulate spending and growth).
An economy is in recession when there is two consecutive quarters of negative GDP growth
Recovery/expansion:
GDP is higher than the previous quarter showing that the economy is expanding and moving out of recession. People start to spend more, as optimism grows. Profits rise, and interest rates are kept low to stimulate further growth. Inflation remains low but can start to rise.
Equity growth is at its quickest in this phase
Boom:
Strong demand of goods due to more wealth so Inflation rises. The economy starts to ‘overheat’ so Interest rate rises are needed to slow demand and stop the expansion.
The economy is growing at its fastest during this stage of the overall cycle. (has highest GDP growth)
Slowdown/contraction:
High interest rates start to have an effect. The economy starts to slow down, and sales are slow, but inflation can remain high. Consumers become more cautious, and start to delay major purchases. This causes problems for companies and unemployment rises and a recession begins
At what point in an economies cycle is equity growth at its highest?
At what stage is the economy growing the fastest (when is GDP the highest)
Recovery/expansion phrase (when the country is coming out of recession)
The economy grows the faster during the boom phase (following the recovery/expansion phase)
Important to remember for exam
What
What does it indicate about the economy if GDP is lower than the previous quarter?
How is a recession defined in terms of GDP changes?
What does an increase in GDP from the previous quarter signify about the economy?
What is the peak of the economic cycle, and what does it represent?
It indicates that the economy is contracting.
Two consecutive quarters of declining GDP means the economy is in a recession.
It signifies that the economy is expanding.
The peak of the economic cycle represents the point at which GDP is at its highest level before it starts to fall, meaning the economy is in its boom phase.
What is a Public sector net cash requirement?
When a government spends more than it receives in taxation
The additional funds needed are known as a ‘Public sector net cash requirement’
public-sector net cash requirement = the amount of additional funds a gov needs when they spend more than they have coming in
PSNCR is at its lowest during a boom and is at its highest during a recession
UK Government’s revenue comes from the different forms of taxation. Direct tax & indirect tax. Tell me the difference?
Direct taxes:
Income tax, National insurance, Capital gains tax, Inheritance tax
Indirect taxes - incurred when an individual buys something subject to tax.
For example: VAT, insurance premium tax (and so on)
Key knowledge for exam
Remember, equities are one step ahead of the economic cycle
Below is a summary of how the economic cycles affect the different asset classes.
It takes each stage of the cycle and considers the effect on cash, fixed-interest securities, equities and property.
This table should be studied prior to sitting your R02 exam as questions around these effects are quite common.
What are some indicators of an economy in the recovery phase?
During the boom phase, what actions does the Bank of England typically take?
What happens to output growth and inflation during a contraction or slowdown?
How does the government typically respond during a recession to stimulate growth?
What effect does the recovery phase have on consumer behavior and business sales?
Why do equity prices start to falter during the boom phase?
What are the typical consequences of a contraction or slowdown for unemployment and business performance?
How do inflation and interest rates behave during a recession?
What happens to the PSNCR (Public Sector Net Cash Requirement) during the recovery phase?
Why might the cost of fixed-interest securities rise during a recession?
Question 1: What are some indicators of an economy in the recovery phase?
Answers:
-Costs of fixed-interest securities rise.
-Prices of equities start to rise.
-People spend more as they feel more optimistic.
-Business sales increase due to rising consumer demand.
-Company profits rise.
-Inflation and interest rates remain low.
-PSNCR deficit falls.
-During the boom phase, what actions does the Bank of England typically take?
- The Bank of England increases interest rates.
Question 2: What happens to output growth and inflation during a contraction or slowdown?
Answers:
-Output growth slows down.
-Inflation stays high.
-How does the government typically respond during a recession to stimulate growth?
-The government may increase spending or cut taxes.
Question 3: What effect does the recovery phase have on consumer behaviour and business sales?
Answers: Consumers spend more due to increased optimism and/or Business sales increase due to rising consumer demand.
Question 4: Why do equity prices start to falter during the boom phase?
Answer: Equity prices start to falter because rises in interest rates affect company profits.
Question 5: What are the typical consequences of a contraction or slowdown for unemployment and business performance?
Answers: Unemployment rises and More firms go bust.
Question 7: How do inflation and interest rates behave during a recession?
Answer: Inflation and interest rates fall.
Question 8: What happens to the PSNCR (Public Sector Net Cash Requirement) during the recovery phase?
Answer: The PSNCR deficit falls.
Question 9:
Why might the cost of fixed-interest securities rise during a recession?
Answer: The cost of fixed-interest securities rises as the ability to keep a fixed return becomes more attractive to investors (people may buy old bonds with high coupon rate well above PAR)
Explain why it is sometimes better for a government to spend money to stimulate economic growth rather than cut taxation (so people have more money)
It is basically because by cutting taxation that money is more likely to leave the UK economy than spending more on infrastructure
A cut in taxation is often saved rather than spent. Even when it is spent, it is often on imported goods rather than in the local marketplace. Tax cuts also generally benefit the rich in society. All things considered, cutting taxation is not the best way of a government controlling the economy.
(So why do governments cut taxes? Maybe to be seen to care? It’s strange how tax cuts tend to occur towards the end of an electoral cycle and tax rises happen at the start)
What is fiscal policy?
It is the use of government spending and taxation to dictate the economy.
In a recession, or during slowdowns, the Government may increase its spending or cut taxation to stimulate demand in the economy.
In a boom, the Government may reduce spending or increase taxation to dampen demand.
It is used by government. Monetary policy is used by the Bank of England
By reducing short term interest rates what does the BOE cause to happen?
By increasing short term interest rates what does the BOE cause to happen?
By increasing short-term interest rates, the Bank of England tightens monetary policy (contractionary).
This will lead to falling asset prices and a general reduction in wealth. People will be less likely to want to borrow.
By reducing short term interest rates, the Bank of England eases monetary policy (expansionary).
This will lead to rising asset prices and a general increase in wealth. Savers will suffer from a lower income return, but firms are more likely to want to borrow.
What is ‘narrow money’
What is ‘broad money’
Both the above relate to money supply
NOTE: The R02 examiner is especially keen on knowledge around what causes both M0 and M4 to grow so it is worth making sure you are comfortable with these principles.
Narrow money (M0) = Notes/coins + banks deposit with the BOE
Broad money (M4) = The above + Instant access money + time deposits with Uk banks/building societies
M0 reflects changes in the economic cycle but does not cause them. A growth in M0 indicates that consumer spending is high. A reduction means cash is not flowing around the economy due to low consumer spending.
M4 is increased by loans from banks, as they put money into bank accounts of individuals when the loan is agreed.
What are treasury bills?
What are GILTs and how do the government use GILTs to influence money supply and what type of money supply does it Influence.
Short term debt securities issued by the government. 0 coupon. Bought below PAR. Shorter term (max being 12 months)
Bonds issued by gov. Longer term. Coupon. (SEE IMAGES to see how they change money supply) M4 (broad money) is influenced
Tell me the process of quantative easing (you dont need to know this in detail, just know what it is)
Step 1: Create money electronically, referred to as ‘printing money’
Step 2: Buy back some GILTS that have been sold to the public with ‘new money’. The GILTs are mainly held by banks, rather than the public
step 3: Buying back the loans puts money into the public domain so public then spend it.
Step 4: This boosts the economy, but can cause inflation and price increases as demand increases.
What is inflation?
What is deflation?
What is disinflation?
Inflation = Prices are rising
Deflation = Prices are falling
Disinflation = Inflation still exists but at a lower rate
Tell me the impacts of inflation on all the main asset classes
Tell me the impacts of the movement of interest rates have on the main asset classes
Importing and exporting
Why does a weak stirling suit the UK better nowadays
If a currency is ‘weak’ it just means it is less valuable than the currency it is trading with. In this example it is US dollars, but it could also be japanese Yen for exampel
We now import a lot rather than manufacture so weak £ probably suits us better. It encourages firms such as Amazon, Toyota, Nissan etc. to open factories here, instead of in the Eurozone. This makes it cheaper for us to sell around the world.
What is the balance of payments for a country?
READ 2.9 if u dont understand
It is a record of the country’s trade transactions with the rest of the world.
It is measured in receipts and payments
IN THE UK has 2 accounts:
The current account = imports and exports of foreign goods and services, interest, dividends, and rents. Includes both invisible and visible trades
The capital account = foreign investments, UK investments, loans in the UK and loans abroad.
Any deficit on the current account needs to be made up from the capital account.
The current account consists of two trades:
The visible trade:
imports and exports of actual goods and commodities such as oil, agricultural products, clothing and computers.
The invisible trade:
imports and exports of financial and business services, travel, tourism and transport services. uk MAKE A LOT OF MONEY FROM THEIR INVISBLE TRADE
SORT OUT FLASHCARD WHEN YOU CAN BE BOTHERED
