The UK Economy

The UK is one of the five most developed economies in the world today with high GDP and high per capita income. This report will be focusing on UK economic and financial data and the impact of the financial data on the economy of the country.

The UK economy is divided in to two main parts; the economic sector which is made up of the real sector, and the fiscal sector and the financial sector which also comprises of the eternal sector (Statistics.gov.uk, 2009).

Figure 1; Monetary and Financial Statistics Division

Source; Bankofengland.co.uk

The above figure shows how financial data are collected by the various divisions in the statistics department and who are responsible for collecting that data.

The Financial Sector

The financial sector of the economy plays a great role on the economic part of the economy. From the data produced by the UK Office for National Statistics, the financial sector comprises the analytical account of the banking sector including the central bank and interest rates.

Analytical accounts of the banking sector

According to the statistics collated by the Bank of England (2009) on monetary and financial issues, the amount of credit given to the private sector by banks dropped by 1.5% while credit offered to the domestic sector increased by 24% as of June 2009 (Statistics.gov.uk, 2009). Lending more to the public sector mean more people will be employed in the future. The private sector is mostly focus on profit making while the public sector is concerned with providing services for the public in return for the taxes paid. The banking sector in the UK is a hugely important sector of the economy. A fall in this sector affects a lot of other sectors in the economy such as the property market and small businesses, as well as industries such as tourism. It is therefore crucial for banks in the UK to keep functioning and performing responsibly and effectively. The way commercial banks function in lending out money affects the economy deeply. Banks in the UK are now offering fewer loans to the private sector such as small business, despite their being bailed out by, and being part-owned by, the taxpayer. This reduces the rate of investment in the economy and therefore aggregates demand.

Analytical accounts of the Central Bank

The amount reserved by the central bank dropped by 7.9% from £50.8 billion in June 2008 to £46.8 in June 2009 (Statistics.gov.uk, 2009). This means that the Bank of England has been spending more and has played a significant role in the supply of money; this may be through buying bonds and bills from the commercial banks. The central bank also acts as the government’s bank as well as the bankers’ bank. The central bank claims on the public sector increased by 37.2% while that for the private sector fell by 12.5% (Statistics.gov.uk, 2009). This leaves people with more money to buy more goods and services – in theory at least, though people may prefer to save in a recession and/or wait until the future to buy property, for example.

Both the central and commercial banks have cut down the amount of credit to non-residents of the UK. This will give more opportunity for residents to borrow from banks. This encourages residents to borrow and spend in the country which may lead to increase aggregate demand.

Interest rates set at the ‘right’ level are extremely important for lending and to encourage people to spend more on investments as well as purchasing goods and service. Where interest rates are low on loans, people tend to borrow more to invest and purchase. A low interest rate is usually a monetary policy most governments use during recessions to stimulate aggregate demand. When this happens, companies start producing more goods and services and the economy expands, or so the theory goes.

On the other hand, an increase in interest rates will not help the economy during recession. When the economy is at its peak, interest rates tend to increase. The fact that banks are able to work with other companies does not mean the companies have to produce good results (Wendy and Collin, 1999). This is because companies have other responsibilities they have to meet and include maximising share holders value.

There is also a crucial relationship that exists between banks, firms and GDP. The banks encourage lenders to spend by offering loans at low interest rates which will in crease output and therefore cause GDP to go up. The financial sector also affects wages and salaries throughout the economy. As the rate of unemployment goes up, and because companies are not making sufficient money and cannot pay back their loan due to high interest rates, many workers struggle to keep their jobs and are willing to take what companies are willing to offer – even pay cuts or reduced hours. In the UK, as employment fell by 0.3%, wage rates fell by 0.9%.

The property, or real estate, sector has been most affected by the financial system in the UK. Prices of residential property have dropped because a great many home owners cannot pay their mortgages anymore, and cannot get a mortgage in the first place from banks reluctant to lend. High interest rates on mortgages have led to a fall in prices – though this still means property is absurdly expensive when compared to average UK salaries, and triple the price it was fifteen years ago. Home owners who can not pay their mortgages may be keen to sell an, because they are desperate to pay off their mortgage, they end up selling at a really low price: it’s a buyers’, no a sellers’, market.

Government debts have also increased by 1.7% over the last year (Statistics.gove.uk, 2009), meaning the government has been trying to do its best to improve the economy.

Apart from banks, the stock market also plays a role in the economy. The price of stocks in the market determines a company’s survival. People naturally tend to invest in those companies that are doing well in the stock market. When stocks prices go down, companies find it difficult to get more investors because people are afraid they might not get any return on their investments.

The financial sector of a country is important because can both boost – but also arguably bust – the economy, and can encourage both individuals and the government to spend. Financial systems always need to be controlled with great care because they are very delicate. If not well controlled, high inflation or recession may result. A recent example is the Icelandic banks where proper control was not enforced and irresponsible decisions were made; the banks collapsed, costing the economy dearly as Iceland had depended on financial services for almost 75% of their economy of financial sector (BBC.co.uk, 2008). Not one financial manager in Iceland or the UK seemed to think it odd that a country of about a quarter of a million people whose main industry was fishing was somehow able to offer absurdly high interest rates on saving accounts; no questions were asked about what exactly was going on.

In conclusion, all aspects of the financial system will impact on the economy, the various aspects in a perpetual ‘balancing act’ to attempt to create stability and prosperity: this is true for the UK example, given above, and for other countries such as Iceland.

Appendices

UK Financial and Economic Data

Source; Statistics.gove.uk

Source; Bankofengland.co.uk

References

• Bankofengland.co.uk (2009) The statistics area of the bank http://www.bankofengland.co.uk/statistics/about/organo.pdf Accessed 11/08/09
• BBC.co.uk (2008). Councils ‘not reckless with cash’. http://news.bbc.co.uk/1/hi/uk_politics/7660438.stm Accessed 23/07/2009

• Statistics.gov.uk (2009). United Kingdom: Economic and financial data. http://www.statistics.gov.uk/imf/#FinancialSector accessed 11/08/09

• Statistics.gov.uk (2009). http://www.statistics.gov.uk/imf/ accessed 11/08/2009

• Wendy Carlin and Colin Mayer( 1999) How Do Financial Systems Affect Economic Performance?; University College London and Said Business School, University of Oxford