Globalization and its impact on consumers and firms

a) Economic globalization refers to the integration of the nations across the world in terms of the product market and financial markets. When globalization occurs in an economy, the financial and output markets of the economy are opened to the international economic forum. It implies that people across the world can access the markets of that economy via international trade or investment channels. The consumers then have access to a wider variety of goods and services across the world. This expands their consumption basket and hence enhances their welfare. Consumers can also invest in foreign markets to acquire higher returns for their investment. As for the firms, they also have access to better factors of production including raw materials, capital, other inputs as well as labor because labor migration is facilitated via globalization. However, domestic firms will be exposed to foreign competition and will be compelled to increase their efficiency and productivity in order to continue to make profits under foreign competition. Thus globalization has both welfare-enhancing and adverse effects on consumers as well as firms (Mankiw, 2012).

b) The demand for a certain commodity depends on the price of that commodity as well as on other factors such as income of the consumer, the price of related commodities, tastes and preferences of the consumers, etc. If the price of a commodity changes, other factors remaining constant, the quantity demanded changes generally in the opposite direction given that it is a normal commodity. This change in the quantity demanded is reflected by a movement along the demand curve (Pindyck and Rubinfeld, 2009). The demand for the commodity changes if any determinant other than the price changes, given that all other factors are held constant. This change in demand occurring due to a change in any factor other than the price is reflected by a shift of the demand curve. The two cases are represented in the following diagrams:

Figure 1 show a movement along the demand curve from Q to Q’ due to a change in the price level in the first panel. The second panel shows a shift of the demand curve from D to D’.

c) The cost structure of a firm changes over time as the firm continues production in the long run. Depending on various factors, the long run cost of a firm may increase, decrease or remain the same over time, that is, in the long run (Dornbusch, Fischer and Startz, 2013).

Movement along and shift in demand curve with diagrams

Economies of scale arise when the long run cost of a firm decreases after it expands its production. It refers to the cost advantages that a certain firm acquires on extending its production to a larger scale. This results in the decline of the overall costs of the firm because as the firm starts to purchase inputs on a larger scale the cost of inputs also decreases. (Dornbusch, Fischer and Startz, 2013).

Diseconomies of scale occur when for some reason, the long run average costs of a firm increase. This problem might appear if the firm expands excessively. The products and services produced by the firm require an increased scale of costs (Mankiw, 2012).

d) The supply of a firm is determined by a number of factors including the expected future market price of the commodities it produces, the demand conditions in the market, the cost of inputs, the technology of production and the number of sellers selling the same product in the market (Pindyck and Rubinfeld, 2009).

When the expected future price of a commodity increases, the production of that commodity is likely to increase.

If the demand for a certain commodity expands over time, the supply will adjust to it and hence increase given the price.

An increase in the cost of inputs will reduce the supply of a commodity because given the supply the cost of production rises, that is, per unit cost will rise. Hence the supply is likely decline.

The supply of a commodity is largely dependent on the technology used in the production process. Technological advancement transforms the production process and makes it more cost effective. Hence, the supply increases.

The supply of each seller is also determined by the number of sellers selling the same product in the market and has an inverse relation with the same.

The following figure shows the supply of a commodity and the changes in supply:

As the expected future price of a commodity increases the supply increases along the supply curve from Q to Q’ in the first panel. In the second panel, as the cost of inputs increases, say, the supply curve shifts to the left. Hence given price p, the supply falls from Q to Q’ (Varian, 2009).

e) A certain good is referred to as the substitute of another good if the former can be consumed instead of the latter, that is, the two goods serve the same consumption purpose. If the price of one good rises, the demand for the other good will fall because people will replace their consumption of the more expensive good with the relatively cheaper one (Pindyck and Rubinfeld, 2009).

Economies of scale and diseconomies of scale

For example, tea and coffee are considered to be substitutes.

A good is complementary to another good if the two goods are always consumed together. If the price of one good increases the demand for both the goods will fall given the budget of the consumer. Since the two goods have to be consumed together the price of one changes the demand for both in the same direction (Varian, 2009).

For example, car and fuel are complementary goods.

a) Under imperfect competition, sellers sell heterogeneous or slightly differentiated products. There may be one, a few or many sellers and many buyers in the market, but the market agents have adequate power to influence the market price. The sellers are price makers under imperfect competition. Each firm might have the whole market share or a part of it but it is more than what firms have under perfect competition. The entry and exit of firms is not always facilitated (Pindyck and Rubinfeld, 2009).

For example, some imperfectly competitive market structures are monopoly, duopoly, oligopoly, monopolistic competition and monopsony (Pindyck and Rubinfeld, 2009).

b) Under a monopoly firm, a single seller selling a unique product caters to the entire demand in the market. Given the market demand curve, the seller has the power to set the market price. Hence, it is very difficult for new sellers to enter into the market and start producing without incurring huge losses. When a new firm starts producing under monopoly, the cost incurred at the beginning is considerably huge. The monopolist having been in the market for a considerably long time can reduce the market price to very low levels without incurring any loss. However, the new firm will not be able to sustain production at a very low price given that the cost incurred is huge. (Pindyck and Rubinfeld, 2009).

In UK, the materials supplies industry operates in a monopoly market framework.

c). The fundamental market failure that the government requires to correct is the problem of externalities. Externalities arise when the production process in the private market directly or indirectly affects the society or the people not involved in the market. When a certain industrial factory operates in a rural area, it emits huge amounts of pollution. This in turn adversely affects the people living around the factory. Hence this is a social cost that the private market is imposing on the economy. Firstly, the government can impose a tax on the particular industry for polluting the environment. This will increase the cost of production for the firm and they will hence adopt measures to control the pollution. It can ration the production, that is, it can impose a certain limit on the amount of production beyond which it will be illegal for the firm to produce (Varian, 2009).

Determinants of supply and examples using diagrams

d) The circular flow of income is the process in which money or income flows through the economy. The economy here consists of two primary agents: the households and the firms and the circular flow of income describes the flow of income between these two agents.

The circular flow of income is represented in the following diagram:

In an economy, households supply the major factors of production like labour, capital, resources, etc. The firms use these factors of production to produce the commodities and hence pay the households wage income, rental income, profits, etc. for the inputs. The households in turn use this factor income to purchase the commodities produced by the firms. Hence there exists a circular flow of income (Mankiw, 2012).

e) Unemployment occurs when individuals actively seeking jobs are not able to find any. The unemployment rate is measured as a percentage of the total labour force that is unwillingly unemployed (Dornsbusch, Fischer and Startz, 2013).

The following graph shows the unemployment rate in UK over the period 1995 – 2014:

The unemployment rate in UK has smoothly fluctuated over the given 20 years. It started off at a very high level and gradually declined. During the global financial crisis, the unemployment level evidently increased and since the recovery it has been falling.

a) The financial statements of a firm consist of formal records of the various financial activities of the firm. The four basic financial statements are:

• Balance Sheet:It represents the financial position of a firm at any given time. It is composed of the assets that the firm hold over the short term and the long term (plant, machinery and equipment, inventory, etc.), the short term and long term liabilities of the firm (short term and long term debts, bank loans, etc.) and the equity of the firm which is defined as the assets remaining with the firm after it has paid off its liabilities.
• Income Statement:It is essentially the profit and loss statement of a firm in a given year which is used to analyze the financial performance of the firm. It comprises income earned by the firm over the given period (revenues, sales, etc.) and the expenses that the firm has to incur for the production (factor incomes, depreciation charges, etc.). The difference between the two determines the profit and loss statement of the firm.
• Cash Flow Statement:It represents the circulation of cash within and outside the firm for business purposes. It is composed of finance undertakings, that is, the flow of capital and debt including the dividend and interest payments, operating flows, that is, the cash generated from the fundamental activities of a business and investment activities, that is, the cash flow generated from the transaction of assets.
• Equity Statement:This represents the changes in the equity structure of a firm over a given period of time. It consists of dividend payments, net profit or loss, share capital transactions, equity gains and losses and impact of changing accounting policy (Ross, Westerfield and Jordan, 2015).

1. b) The following table shows the financial ratios for the company NEXT for the year 2015 as well as 2007:

The current ratio of the company has increased over the period which indicates that the company has improved in terms of liquidity since its current assets are much more than current liabilities.

The earnings per share have increased much more than proportionately which means that over the years the market value of the company has increased.

The inventory turnover ratio has fallen which implies that the company is performing better in terms of sales, since the level of inventory with respect to the cost is falling.

The debt-equity ratio has fallen indicating that the capital structure of the company is less risky than before – the share of debt has fallen.

The net profit margin has increased sharply indicating that the profitability of the company has improved largely.

Thus the company NEXT has financially upgraded over the years.

1. c) The four phases of management accounting are:

• Planning:This is the most fundamental phase of management accounting. It includes the statement of business objectives, the process of acquiring the objectives, analyzing other alternatives in the process and eventually correcting the errors.
• Controlling:It involves the assessment of achieved results relative to the planned results of the firm, controlling the derivatives and correcting the same.
• Organizing:It includes the correction of any internal problem that evolves in the organizational structure of a firm, the division of authoritative and managerial responsibilities and the determination of individual participation and the business activities.
• Communicating:It basically refers to the transfer and flow of information within the enterprise.

1. d) Relevant costs refer to the cost that must be incurred under a certain managerial decision buts should be omitted under any other alternative, that is, in any enterprise it is affected by the decisions of the managerial board. It is essential for any managerial analysis purpose.

On the other hand, irrelevant costs refer to costs that have no connection with the final managerial decisions of a firm. These are the costs incurred in the alternative managerial decisions of a firm. These are irrelevant because they are alternative costs that need not be considered in the financial calculations of a firm.

1. a) When an individual or an organization undertakes an investment, it has to bear all the risk associated with the investment in order to acquire the returns generated from the investment. Returns are the gains or losses that a certain investment yields over a given period of time. Risk arises because the actual returns of the investment may be different from the expected returns and it may move in either direction. Risk and return share a positive relationship, that is, an investment associated with a very low level of risk will yield lower returns and vice-versa (Ross, Westerfield and Jordan, 2015).
2. b) The capital structure of a firm represents the composition of debt and equity used to finance the operations of the firm. Debt comprises short term and long term debts in the form of bonds issued, bank loans, etc. Equity is the stock market composition of the firm comprising common and preferred stock, etc. A firm may use debt and equity in various ratios for financing its activities. The debt to equity ratio of a firm determines the level of risk associated with the firm. A higher debt – equity ratio is associated with higher risk. Heavy debt generates the risk for investors (Ross, Westerfield and Jordan, 2015). Equity, on the other hand, does not impose any mandatory cost on the firm and is hence less risky than debt.
3. c) The amortization schedule for the loan payment in the next three years is given in the following table:

1. d) Annuity Value: £800

Rate of interest: 6% = 0.06

The amount of money that Gary needs to deposit today is:

£800 * [] * (1 + 0.06) = £2138.41.

Thus Gary needs to deposit £2138.41 today to receive £800 each year for the next three years.

1. e) The cash flows from the two projects are shown as follows:

Rate of Interest = 12.5% = 0.125

The selection of a project is based on the Net Present Value (NPV) criteria. The project yielding a higher NPV would be chosen.

NPV_A = -50000 + 18000 / (1 + 0.125) + 18000 / (1 + 0.125)^2 + 18000 / (1 + 0.125)^3 + 18000 / (1 + 0.125)^4 + 18000 / (1 + 0.125)^5

= 14090.23015

NPV_B = -50000 + 0 / (1 + 0.125) + 0 / (1 + 0.125)^2 + 0 / (1 + 0.125)^3 + 0 / (1 + 0.125)^4 + 99500 / (1 + 0.125)^5

= 5215.43125

Thus NPV_A > NPV_B

Project A would be chosen because it yields a higher Net Present Value.

References

Dornsbusch, R., Fisher, S. and Startz, R. (2013). Macroeconomics. 12^th edn. New York: McGraw Hill Education.

Mankiw, N. (2012). Macroeconomics. 8^th edn. New York: Worth Publishers.

Ross, S., Westerfield, S. and Jordan, B. (2015). Fundamentals of Corporate Finance. 11^th edn. New York: McGraw-Hill Education.

Pindyck, R. and Rubinfeld, D. (2009). Micreconomics. 7^th ed. New Jersey: Prentice Hall.

Varian, H. (2009). Intermediate Microeconomics: A Modern Approach. 8^th ed. New York: W. W. Norton & Company.