The Affects of the New Budget of the UK on Built Environment Firms - Research Paper Example

The UK Parliament is proposing a set of cuts which will put the country into austerity. These cuts will be detrimental for a variety of reasons, especially with regards to built environmental firms. This is because the flow of capital to these firms will be decreased, as will the flow of capital to banks. When the bank's flow of capital is decreased, lending practices will also be decreased. This paper will examine the affects of the new budget on built environment firms. Introduction The Parliament will be implementing austerity measures to combat the growing deficit. The deficit is projected to be ?163 billion, which is historically high. Moreover, for the years 2014/2015, the budget deficit is projected to be ?74 billion, which is still historically high and is 4% of GDP. The current budget deficit is 11% of GDP. Part of the reason for this deficit can be attributed to the economic recession – tax revenues are less in a recession, and government expenditures, such as unemployment benefits, are increased. This is cyclical – once the economy recovers, then the tax revenues will increase, and the government expenditures will decrease. That said, economic recovery is uncertain at this point. Moreover, even after the economy recovers, there are still going to be lasting effects. The government assumes that the productive potential of the country has been permanently damaged by the protracted economic recession, and this is one problem that the UK government will still face. The housing and the financial sectors of the economy have also suffered permanent structural negative effects. The UK government estimates that the permanent structural deficit comprises 2/3 of the current deficit, and that the cyclical effects comprises only 1/3. Therefore, 2/3 of the current deficit is not related to the current economic cycle, which means that 2/3 of the deficit will not be alleviated once economic recovery begins. Therefore, the UK will have to implement additional taxes and will have to cut spending in a variety of areas of the budget (The Economic Recovery and the Budget Deficit). These budget cuts will have a serious impact on the economy, in particular, firms which specialize in built environment. Therefore, this paper will examine the affects the budget cuts will have on a built environment firm with multiple offices, who shall remain anonymous. Discussion Firm Chosen The firm which was chosen for this project is A. This is not my employer. A has offices in Brentwood, Purfleet and Upminster. This firm specializes in carpentry and building services. They are a full service firm, with professionals in the engineering, plumbing, electrical, carpentry and building areas. They also perform commercial work, which includes governmental work. In addition to building residences and commercial buildings, they also do landscaping and groundwork, as well as renovations and refurbishments. They also specialize in loft conversions, which means that they take existing spaces in the roof of residential homes and convert these spaces into livable areas (http://www.milbarnconstruction. co.uk/). Austerity and Neo-Liberalism The UK Parliament is essentially implementing austerity measures, in that they are going to cut spending from the budget, in addition to increasing taxes. This is also known as “neo-liberalism.” Neo-liberalism, explains Grimshaw and Rubery, is marked the pursuing of low inflation, offering limited state assistance to industries and firms, deregulating product markets and liberalizing capital flows. In the process, the interests of finance capitalists are prioritized. Grimshaw and Rubery state that neo-liberalism results in falling wages, instability and growing debt, because it favors capital over labour. Nevertheless, Grimshaw and Rubery state that, even though the UK banking crisis was at least partially caused by a dearth of regulations on the banks, in the belief that allowing unfettered markets will help the markets grow, the UK did not impose any additional regulations on the banks after the collapse of the financial market in 2008. However, one thing that might aid A, with regards to UK policy, is that the banks agreed to lending targets for businesses (Grimshaw & Rubery, 2012). Grimshaw & Rubery (2012) also offered a contrast between the previous Parliamentary Budget, which was instituted after the 2008 collapse, and the proposed Parliamentary Budget, and what the new budget may mean for businesses. According to Grimshaw & Rubery (2012), in the previous Parliamentary Budget, there were provision which helped businesses, such as financial interventions, including credit guarantees; a reduction in the value added tax; bringing forward capital spending; and financial help for businesses. They also helped businesses by providing a future jobs fund, which subsidized employers who hired unemployed young people, up to ?6,500. Public spending was also growing, in the form of social protection spending (Grimshaw & Rubery, 2012). Because of this, Grimshaw & Rubery (2012) stated that employment in the public sector increased by 107,000 jobs from early 2008 to early 2010, most of these full-time. Grimshaw & Rubery (2012) go on to note that the current package of spending cuts and tax increases, as the Parliament will implement, will have a negative impact on several areas which will affect A’s future business model. One of these cuts is to housing and community amenities, and this includes house building and street lighting. This is the largest cut from the budget, according to Grimshaw & Rubery (2012). Ferry & Eckersly (2012) state that housing budgets will be halved in the next four years. Economic development, which includes financial sector interventions, was another area which has been steeply cut, according to Grimshaw & Rubery (2012). Grimshaw & Rubery (2012) conclude that the austerity measures have had a depressing effect upon the recovery. This is because the public sector incomes are falling, which depresses aggregate demand, and is also affecting the private sector because outsourcing, partnership and subcontracting are interlinked between the private and public sectors. Leschke et al. (2012) concur, stating that austerity measures “critically delay output and employment recovery, leading to prolonged and structural unemployment which is associated with detachment from the labour market” (Leschke et al., 2012, p. 244). This means that the austerity measures, by delaying output, will lead to higher unemployment. Grimshaw & Rubery (2012) further state that this budget will be a shock, because public sector spending has been rising for a decade, which has generated labour demand. They also state that certain regions will be harder hit than others, including London and the outlying areas and the South East. As Essex is an area which is just outside London, then the area of Essex will presumably be among the areas hardest hit by the austerity measures. As Grimshaw & Rubery (2012) note, financial interventions is one of the areas which the UK Parliament is cutting from the budget, and these interventions represent a large portion of the overall cuts. This will affect Abecause commercial lending will be even tighter than ever before. Johnston (2011) examined the effect that the economic crisis has had on commercial development. He states that the problem with commercial development is that banks are slow to lend. This was despite the measures which the central bank put into place after the 2008 meltdown. Among these measures was an effort to loosen monetary policy through a steep cut in interest rates, along with the central bank’s purchase of assets, which was known as quantitative easing (Joyce et al., 2012). Quantitative easing, according to Joyce et al. (2012), had the effect of tripling the size of the central bank’s assets, relative to GDP. The central bank was also authorized to take measures which were designed to improve financial market’s functioning – these measures included the central bank purchase of corporate bonds and commercial paper. These asset purchases, according to Joyce et al. (2012) should have had the effect of increasing liquidity, because they actively encourage trading. Banks also had increased liquidity through these measures in that they had access to greater central bank reserves, as well as corresponding customer deposit increases. This would, in theory, allow the banks greater liquidity, which means that they should, in theory, have been able to make more loans. However, this was not the case, because of the pressure on banks to reduce the size of their balance sheets and because of the strains of the financial system (Joyce et al., 2012). There is one aspect which A should look at, however, in relation to the ballooning deficit, which is the reason why Parliament is proposing the austerity measures. That is that the deficit will affect credit rating agencies. This might result, according to Sawyer (2012), in increased interest rates and increased unemployment rates. This would, in turn, harm A, because borrowing money would be more expensive and increased unemployment would mean that there are fewer people to buy their houses. Therefore, under the assumption that cutting the deficit will actually ease lending rates and decrease unemployment, the Parliament Budget might have a salutary effect on A. However, Sawyer (2012) analyzes the argument that large deficits result in adverse credit ratings, and has found that this argument is spurious at best. The theory is that if a government cannot service its debt, then this would have an adverse effect on the government’s credit rating. Sawyer (2012) argues that there would not be a corresponding drop in the UK credit rating because of the deficit, because UK can “print money” to service its debt. In this case, “printing money” means that the central bank buys up government debt in exchange for money. Sawyer (2012) also argues that credit ratings are not based upon a simple formula of spending cuts and tax increases, but also takes into account the response of the private sector. Specifically, the formula which credit ratings look for is that “savings plus imports equal investments plus exports” (Sawyer, 2012, p. 210). Because austerity measures necessarily decrease investments, the latter condition of the formula is adversely affected by the austerity measures, which means that these measures do not increase credit ratings. Finally, Sawyer (2012) questions the way that credit agencies make ratings, noting that these same agencies gave triple A ratings to credit default swaps and mortgage backed securities, both of which contributed to the 2008 meltdown. Commercial Development The first aspect that will be examined for A is the aspect of their commercial development department. As noted above, Ais involved with commercial development projects, including public works projects. Johnston (2011) gives a historical analysis of commercial development, and the role that banks played in sustaining the scale and success of commercial development. He states that commercial development in the post-war period was aided by financial institutions, in that these institutions were willing to provide debt for up to 100 percent of the project. Moreover, during this period there was low inflation and low interest rates, which aided these banks in financing the projects with fixed interest rates. However, during the 1960s, inflation increased, and so did long-term interest rates. This meant that developers were faced with increasing mortgage repayments, which means that developers increasingly had to enter into equity sharing arrangements (Johnston, 2011). Johnston (2011) states that the Labour Government, which came into power in 1964, instituted a series of measures designed to slow commercial growth, including restrictions in the volume of growth and planning applications, along with tough new credit measures. The Conservative government returned to power in 1970, and credit restrictions were removed. This led to a flow of lending from the banks to the commercial projects once more – lending increased from ?362 m in 1971 to ?2,548 m in 1974. This increase in funds led to a corresponding increase in property share prices, an increase in commercial property investment activity, an increase in retail and office space demand and higher rental values (Johnston, 2011). This led to another cycle, in which the property market crashed in 1973, because the economy overheated and inflation soared to 20%. Inflation led to deflation and a substantial increase in interest rates to 13%. Recovery from 1975 to 1977 followed this, although interest rates were still high and banks were more cautious regarding lending, which kept commercial growth low. This cycle of boom and bust continued through 2007 (Johnston, 2011). In 2008 came the financial meltdown and the subsequent recession. This brought commercial development to a halt due to lack of available financing. This eased somewhat in 2010, as lenders began lending again, but only to reputable and stable clients with a proven track record. In 2010, according to Johnston (2011), banks began considering loans in the ?50 m to ?100 m range. That said, the cost of borrowing has substantially risen, depending on the risk and development particulars. Moreover, Johnston (2011) states that banks are requiring a large level of initial capital to secure bank financing for new projects (Johnston, 2011). The history which was provided by Johnston (2011) might give some insight on what will occur with future commercial development projects under the new austerity measures which will be implemented by Parliament. As Johnston (2011) indicated, commercial development is greatly influenced by the availability of low-interest credit. When banks are unwilling to lend, or the interest rates are high, commercial development stalls. The opposite is true in climates where money is freely lent at low interest rates. There is some indication that the austerity measures might result in banks tightening up credit. The implications of the loosening of lending practices somewhat in 2010, after virtually halting lending in 2008, is that banks were able to capitalize upon the central bank’s measures which were designed to free up money for lending, such as the quantitative easing policy and credit guarantees. However, there is indication that such fiscal intervention measures will no longer be available after Parliament passes its new budget. This is because fiscal intervention measures will be among the largest spending categories which are to be cut in the new Parliament budget. It would not be too difficult to imagine that, since the world is still mired in a recession, such measures as removing fiscal interventions from banks would lead to the banks lending less and charging more interest on their loans. If the country was in economic recovery, then the removal of the fiscal interventions would not have as much of an impact. As it is, however, it seems that the new budget cutbacks will add insult to injury and will cause the banks to tighten up their lending practices. This would, in turn, adversely affect A, as lending for their projects will be difficult to secure in the future. Another issue will be that localities will also be the recipients of budget cuts, in that they will be receiving less money from the UK government. This means that localities will also have to do their own budget cuts. As a practical concern, what local budget cuts will mean will be that local public works projects will be delayed or cancelled. This will obviously adversely impact Milbarn’s construction projects, as fewer local dollars will be available for public works projects, which means that more bids will be submitted for fewer projects and Milbarn, being relatively small, might be edged out. Housing and Development The same factors which affect Milbarn’s commercial development projects will affect their residential development projects, because lending will be tight for these projects as well. This is especially true if the projects are risky, and the residential projects might be deemed risky because of the austerity measure’s potential impact upon unemployment and wages. As noted above, Grimshaw and Rubery (2012) indicated that the austerity measures will result in a depression of wages and higher unemployment. Because people will have less money to spend, due to either being unemployed or the recipient of depressed wages, they will also have less money to spend for new residences or for renovating their current residences. Because there is a lack of demand due to depressed wages, any new residential project that Awill propose will have an inherent element of risk that the homes will not sell for a reasonable market price, or sell at all. Therefore, Amay find that they cannot get financing for their housing and development projects. Moreover, they also will not be able to look to the government to fund these projects, as one of the biggest recipients of the Parliament budget cuts will be housing and community development. Grimshaw & Rubery (2012) further note that London and the surrounding areas will be the hardest hit by the housing budget cuts. Since Essex is in the Greater London area, this means that Milbarn’s business will be even more affected than other built environment businesses which are not located in the Greater London area. Recommendation While the potential future for Amight look bleak because of the austerity measures, there are ways that Amight be able to weather the storm. One way is to look at marketing towards segments which are not as hard hit by the recession. Peppes et al. (2012) suggest that one such market is the so-called “silver market,” which consists of the UK aging population. Peppes et al. (2012) states that this market is projected to increase by 17% by the year 2020, because of falling birth rates and advances in technology which allows people to live longer and healthier. However, Peppes et al. (2012) also states that, in order to capitalize on this market, labour force participation for this group will have to increase, as will productivity. If UK invests in this population, then this would be a great segment for Ato target. Perhaps senior condominiums can be one of the new projects that Acan implement. Johnston (2012) also offers a range of alternatives for firms who are finding that financing is tight in the age of austerity. One such alternative is to enter into a joint venture or a partnership with another firm. Johnston (2012) states that such arrangements were the “most preferable method of project funding in spring 2010” (Johnston, 2012, p. 24). In this scheme, the developer may be able to secure land or financing in exchange for a share in a project. “Forward funding” is another method that Johnston (2010) suggests. In this scheme, an investor purchases a site and finances the developer to build on that site. Then, after the development is finished, the investor purchases the development at a reduced rate. Pension funds may provide the funds for these projects, as might insurance companies, overseas banks and private investors, according to Johnston (2012). Reflection The challenge in this particular assignment was that there would be two distinctly different ways of looking at the impact that the budget cuts would have on the economy and on the firm which I chose to analyse. The Labour view is different from the Conservative view, as Labour views the austerity measures as detrimental and the Conservative view is that austerity measures are helpful. In the end, because of my political leanings, I chose to highlight the Labour view of austerity, and, in this view, the Parliament cuts are detrimental. Bibliography Grimshaw, D. & Rubery, J. 2012, “Reinforcing neoliberalism: Crisis and austerity in the UK,” in A Triumph of Failed Ideas: European Models of Capitalism in the Crisis, [Online] Available at: http://www.poulantzas.gr/upload/451_1.pdf#page=42 Johnston, B. 2012, “Commercial development finance through the 2008/2009 global recession,” [Online] Available at: http://137.195.69.85/currentstudents/dissertations/files/2011/1326384169- Johnston,B.-Johnston%20B-Dissertation-2011.pdf Joyce, M., Tong, M. & Woods, R. 2012, “The United Kingdom's quantitative easing policy: Design, operation and impact,” [Online] Available at: http://www.bankofengland.co.uk/publications/Documents/quarterlybulletin/qb110301.pdf Leschke, J., Theodoropoulou, S. & Watt, A. 2012, “How to economic government reforms and austerity measures affect inclusive growth as formulated in the Europe 2020 strategy?” in A Triumph of Failed Ideas: European Models of Capitalism in the Crisis, [Online] Available at: http://www.poulantzas.gr/upload/451_1.pdf#page=244 Peppes, A., Robinson, M. & Wei, K. 2012, “The UK's quest for growth in an era of fiscal austerity,” [Online] Available at: http://www.accenture.com/SiteCollectionDocuments/PDF/Accenture- PMPA-Apr-2011.pdf#page=81 Sawyer, M. 2012, “The tragedy of UK fiscal policy in the aftermath of the financial crisis,” Cambridge Journal of Economics, vol. 36, pp. 205-221. [Online] Available at: http://gesd.free.fr/sawyer12.pdf Table of Contents Abstract........................................................1 Introduction..................................................1 Discussion.....................................................2 Firm Chosen.......................................2 Austerity and Neo-Liberalism..............2 Commercial Development...............................6 Housing and Development...............................8 Recommendation..............................................9 Reflection.........................................................10 Read More