Understanding What the Economy Is All About
To buttress our point of what the economy is, we need to pay attention to the following example which illustrates the relationship between business and the economy at a local level.
On 5 October 2010 the headline in the Nottingham Evening Post read:
- New blow to city as Boots cuts 750 jobs. Move sparks fears for the economy.
The article stated that:
The article shows that large companies are part of the economy, and the decisions that they make affect the economy.
Boots Opens in new window is one of the most important companies in Nottingham. The decision that it made to cut back on jobs had a knock-on effect for the wider economy of Nottinham.
So What Exactly Is the Economy?
The economy is a system (or more accurately a set of interlocking systems) in which decisions are made about:
- What goods to produce, for example whether to use more land for agricultural production, for recreational activities, or urban development;
- How goods and services will be produced, for example whether to produce them manually or using modern technology systems such as factory robots;
- Who will receive the goods and services, for example whether they will be allocated to those with the highest incomes or whether they will be more evenly shared among the population; and
- Who will receive the rewards for making and selling them, for example, will the profits go to a small number of shareholders or be more evenly shared out among the community.
You can see that these are complex and potentially controversial decisions.
The economy plays one of the most significant roles in making these decisions, although some aspects of these decisions are additionally shaped by political, legal and social frameworks.
- The local level, e.g. Jessie Boot competing and operating in Nottingham.
- The national level, e.g. Boots competing and operating in 66 stores in 28 towns and cities.
- The international level, e.g. Alliance Boots competing and operating across the globe.
Many of the parts of the economic system are created by individuals and groups (like Boots and other companies) building relationships and making agreements with each other about trading, and prices that will be charged for trades.
Other parts of the system are more centrally controlled (by governments) — for example the Bank of England Opens in new window produces the notes and coins that are used for cash transactions in England and Wales, and the Companies Act of 2006 Opens in new window is a piece of central government legislation setting out detailed rules about setting up and running companies.
Businesses are a major part of the economic system. They buy resources, transform these resources through production processes, and sell finished goods.
It also helps to set market prices. At the same time Cargill Opens in new window is affected by changes in the market resulting from the actions of governments, and other buyers and sellers.
- Cargill → supplies to the market and helps to set market prices
- The market → influences the prices that Cargill can set
The Macro-economy and Micro-economyThe main decision makers in the economy are governments, suppliers and consumers.
These decision makers are affected by and influence decisions at a macro and a micro level.
The macro-economy is concerned with large changes that affect most and sometimes all of the decision makers in the economy.
Examples of these changes are:
- the growth or slow down in economic activity in Britain, the United States and many other countries in 2008 and 2009.
The result was falling order books for most businesses, falling profit levels, and the demise of many businesses such as Woolworths.
The Micro-economy is concerned with small-scale economic decision making, such as the pricing of individual products such as shoes, chocolate bars or computers.
The study of micro-economic decision making is useful in that it not only helps to understand influences that affect individual business units but it also helps to develop more general theories that can then be developed to create a better understanding of many types of economic situation.
How the Economy Impacts on Business
The business environment consists of a range of major influences that are outside a business.These include political, social and legal changes that affect business.
However, most business people will tell you that it is change in economic factors that they fear most because they can have such a dramatic effect, as witnessed by the global economic crisis of 2008–2009.
The years 2008–2009 saw one of the biggest recessions in the UK in recent years.
In the next post, we’ll study how businesses respond to risks emanating from its external environment and actaully manage them.
The Successful EconomyA successful economy is one capable of increasing the production of goods and services faster than the growth in population.
Increasing production faster than population growth is the only way that the standard of living of the average person in a country can increase.
Unfortunately, many economies around the world are not growing at all, or are growing very slowly.
In many countries in sub-Saharan Africa, living standards are barely higher, or in some cases are even lower, than they were 50 years ago.
Most people in countries with little or no economic growth live in the same grinding poverty as their ancestors did decades or even centuries ago.
In Australia and other developed countries, however, living standards increase during most years and are much higher today than they were 50 years ago.An important macroeconomic question is why some countries grow much faster than others.
One factor that determines economic growth is the ability of firms to expand their operations, buy additional equipment, train workers and adopt new technologies.
To carry out these activities, firms must acquire funds from households, either directly through financial markets—such as the share and bond markets—or indirectly through financial intermediaries—such as banks. Financial markets and financial intermediaries together comprise the financial system Opens in new window. In this post we present an overview of the financial system and see how funds flow from households to firms through the market for loanable funds.