Is a Disaster for the British Economy That Britain Hardly Manufactures and Exports Anything - Assignment Example

Case Questions ‘Britain hardly manufactures and exports anything anymore. This is a disaster for the British economy’. Discuss. Global trading from UK has never been so convenient especially after the grim impacts of recession. Those UK manufacturers who are new to exporting, or have some previous experience in making exports outside UK, or are keener make expansion of their well-established international markets, this is a real time to think and execute (Shim, and Siegel, 2008). From the perspective of activity areas of UK economy, manufacturing is considered as the 3rd largest base. It precedes professional and business services along with retail market. Despite of being the third largest area of activity, manufacturing area hardly represents 12% of the UK’s total GDP. If UK’s manufacturing industry is taken into lime light, it can be observed that around 25% of the manufacturing concerns deal in high-tech industries which require higher capital investment, substantial research & development and highly specialized workforce. All these factors are applied across various industries such as aerospace, automobile, energy, agricultural food etc. which require massive injection of long-term capital investment in order to establish business processes and procure the necessary machines and equipment. As far as the capabilities are concerned, UK has some real world-class competence and capabilities among these industrial sectors. However, these capabilities remain confined due to lack of global investments made in UK. To be on a conservative side, around 70% of the manufacturing products of aerospace and automobile industries are exported by UK (Leuz, and Verrecchia, 2000). Following are some of the advantages that UK economy can gain by boosting its exports: Exports cause productivity and growth Past researches have proved that those companies which tend to export are found to be more productive and efficient as compared to those which focus more on domestic use. Exporting companies are found to have performed well financially and they are more capable of surviving as nurturing their business well. In fact the new businesses are working proactively such that they prepare such strategies which drive them to export their products since the commencement of their business. Around 17% of the new entrants in the market are considered as “born global” due to their ability to export their products at the initial phase of their business in overseas markets. In a research carried out recently, it is found that around 35% of the companies have reported to be achieving significant growth because of preferring exports (Ramos, 2011). The management of some 38% companies claims to achieve a level of growth due to making exports which could never be obtained in the absence of export strategy. Exports drive innovation Companies are found to have reported higher return on investment especially the ones which carried out their business abroad in the overseas market. This higher return on their investment has driven them to achieve a better financial prospects, major innovations and greater productivity. Investment in research & development is found out to be the key towards achieving significant innovation and this has become possible mainly because of manufacturing goods for export purpose. Innovation is achieved when the manufacturing concerns produce goods by taking into consideration the needs and requirements of the foreign markets rather than their own traditional needs. They manufacture locally, but think globally. Around 50% of the companies claim that their new products emerged because of manufacturing and exporting goods to overseas countries (Gassen, and Sellhorn, 2006). Exporters find no significant barriers As far as exporting is concerned, majority of the UK manufacturing companies export goods directly to the international customers. Half of them use local distribution companies for this purpose. On the contrary, licensing and franchise agreements are used by hardly 10% of the UK manufacturers and exporters through their foreign offices. Nevertheless, there are some barriers which have to be faced by the UK manufacturers and exporters in the form custom duties, legal complications, taxation issues, local market protection measures etc. however, most of the exporters do no face such issues while doing businesses abroad. It has become a history of UK manufacturing goods on a wider scale. Around 30 years ago, manufacturing represented around 25% of the total GDP of UK’s economy which has declined to merely 12% in the last year especially after 2008 recession (Young, 2011). This is not the issue of UK only, but all the developed nations have undergone the similar issues with the considerable exception of Germany which is still manufacturing on a larger scale. Majority of the manufacturing has moved towards developing nations such as China, India, Bangladesh, etc. which provide extremely low cost products. Though, manufacturing is still the main area of focus for UK’s economy such that it takes into consideration around 2.6 million of UK’s job market i.e. one out of ten which shows that the manufacturing area is not completely depressing. After the recessionary shocks of 2008, UK’s economy has performed substantially well as its growth rate has been improved as compared to service sector especially in last couple of years. This increase in growth rate is caused by some factors which include better economic dynamics in the country along with latest manufacturing techniques as well as the growth in export mainly due to depreciation of pound. Following are some of the important factors that lead towards the likelihood of UK being successful in promoting high-tech manufacturing: 1. It can lead towards creation of such economy which is not solely dependent upon the financial services which is the hallmark of UK’s economy 2. Britain has remained quite successful in some of the advanced manufacturing areas like pharmaceutical, automobile and aerospace sectors. 3. There are more potential for growth chances of specialized employment sectors like carbon technology etc. 4. Advanced manufacturing can also lead towards more growth especially in developing techniques and technology as compared to other areas like customer care etc. 5. Advanced manufacturing can bring changes in the perception of people especially economists as the manufacturing has always been considered as the ignored area of UK’s economy. 6. Above all, advanced manufacturing can lead to significant increase in exports. 2009 statistics prove that around 46% of all the exports contained high-tech products manufactured in UK. Exchange rate is considered as the key factor especially in designing the manufacturing capacity and level of output produced intended to be exported. Pound has been observed to be declined by around 27% between 2007 and 2009 such that it came to level position where it was in early 1990s. This slump in pound can be extremely helpful for the local manufacturers as well as the exporters because the export goods would be quite cheap. Under such circumstances, exporters intend to receive more pounds as the demand for UK goods across the globe would be increased. However, the real life relationship between exchange rate and manufacturing is not that simple and is affected by varieties of factors given below: Global Demand Manufacturing is not much affected by exchange rate especially for those goods which are highly competitive. Demand for those goods can only be stimulated if the economy is underperforming. 50% of the UK exports are made to EU countries (Begg, 2007). Domestic Demand Since UK economy has already been slow in progress, therefore a weakened pound can stabilize the cheaper exports with expensive imports. There is a possibility that the business may increase level of profits with having current output level rather than increasing output level and thus employment. Conclusion In short, it can be concluded that after the recession, it has become quite difficult for the manufacturers to obtain trade credit as they have already been restricted on a wider level. However, exporters need to influence the government to guarantee short-term export loans so that manufacturing and exports industries can be stimulated. UK’s economy is still facing uncertainties due to which the government is reluctant in devaluation of the currency in order to increase market share of exports. Why was Keiper weathering the rise of the euro better than SMS? Keiper was better off with SMS due to the fact that it hedged its foreign exchange risk through including one more currency into its trade dealings which is Canadian Dollar. Now Keiper has diversified its risk between US Dollar and Euro such that an intermediary currency has been established between the two. Since Keiper has transferred its major cost centers to Canada, therefore now there is a relationship between Euro and Canadian Dollar. Even though there is a risk between Canadian Dollar and US Dollar, however, it is still quite manageable as compared to the risk lies between US Dollar and Euro. If the US dollar had appreciated against the euro and the Canadian dollar, instead of depreciating, which company would have done better? Why? In case of appreciation of US Dollars against Euro, it would have befitted more SMS. Since SMS has all the costs in Euro currency and it is selling all the parts in exchange for US Dollars, therefore, at the time of conversion of all US Dollars into Euros, it would bring more number of Euros due to strengthened US dollars. On the other hand, Keiper would also benefit from the similar situation provided both the Euro and Canadian Dollar, are depreciated against US Dollars. However, in case if US Dollar remains on the same level with Canadian Dollar and appreciated against the Euro, or vice versa, then this situation would have benefitted partially to Keiper to the extent of its costs associated with either Canadian Dollar or Euro.On a concluding note, in case of any appreciation in US Dollars more against Euro as compared to that of Canadian Dollar, then SMS would find more advantage. However, if Canadian Dollar is depreciated more than Euro with respect to US Dollar, then this situation would bring better results to Keiper. Overall, it can stated that Keiper is on the safer side as compared to SMS which is highly exposed to exchange rate risk due to dealing only in Euro and US Dollar solely. Section A Could SMS Elotherm have taken steps to avoid the position it found itself in? What were those steps? Why do you think the company did not take these steps? There are various steps that can be taken by SMS in order to hedge its exchange rate risk exposure. Firstly, they can link the price of their products with the exchange rate fluctuations on the date of contract signing, thus fixing the exchange rate. However, this move may not be a right one as the markets are quite competitive and there is likelihood that buyers might switch to other suppliers. Another way of hedging this exchange rate exposure would be to buy Euro forward contracts from future currency market against US Dollar. This hedging would incur an upfront transaction cost. In case of favorable exchange rate movements, this cost would hurt SMS more. There are various other foreign exchange currency risk hedging techniques available to SMS. However, those techniques are highly dependent upon the nature, size and the kind of foreign operations in which SMS is involved. Such strategies include currency swaps, leading payables and lagging receivables, transfer pricing management, future contracts, buying and selling currency options, stimulating dividend payments, and readjusting capital investment decisions in order to manage foreign exchange currency risk exposure. Moreover, SMS can undergo into some long-term strategies in order to mitigate this foreign currency risk exposure. Such strategies would include different product country and market country in order to minimize the economic outbursts. The likely reasons behind SMS considered the foreign exchange risk too lightly is because they were anticipating the stability of foreign exchange currency market and became excessively overconfident. Another important factor behind their debacle is their inability to predict the practical level of profits to be generated. Should Britain adopt the Euro? What would be the advantages and disadvantages of membership? Advantages of Euro Membership Transaction Costs This is the most apparent advantage of joining Euro. Transaction cost will reduce for both, firms and tourists. If the UK shares the currency with rest of the Europe, then transaction cost will be reduced because there will be no requirement of paying transaciton cost of different currencies while on vacations. This factor can be the only reason which can impress non-economists and can prove to be a contributing factor in gaining the hopes that general public will vote of Euro in referendum. It is going to benefit businesses also, since the transaction cost of businesses is way higher than domestic purpose because it also includes the cost of hedging which is required for substantial currency swings (Ramos, 2011). Price Transparency According to many economists, price transparency is the biggest advantage. Due to different exchange rates, comparing prices among various countries at this point of time can be very difficult. If the UK joins Euro, then all prices would be expressed in one single currency. In the entire Europe, prices would become transparent. It would become easier for a british consumer to compare price of a product in UK with the price in other Euro-land countries. This will pressurize the firms to become more price competitive. In this regard, they will become unable to conceal prices behind exchange rates. In this way, consumers in Europe can enjoy lower prices (Ramos, 2011). Speculation and Certainty for Firms If the UK joins the Euro then certainty for investing in exporting goods will increase. Funds that are now used for currency hedging will then be used for other types of expenses. Another benefit is that speculation, which includes number of different currencies should be stabilized and only one single currency will be subjected to speculation. This stability will not only be external, but will also be internal in order to benefit Euro member nations (Young, 2011). Stability in Exchange Rate The biggest advantage of joining Euro would be stability in exchange rates. The exchange rate of UK will get stable against the other members of eurozone. More than half of the imports and exports of UK comes from trade with EU. This stability will benefit exporters and they will become enabled to plan easily, thereby rising the level of investment. Moreover, it will encourage further trade among these countries which will lead to economies of scale.There are chances that interest rates will also be stabilized. The ECB, which is based on seventeen members from eleven different countries, will tend to be less frequent with UK’s MPC, who just have to take decision for UK (Ramos, 2011). Macroeconomic Management Joining of UK in Euro also seem to stabilise the Macroeconomic Management. Before the Euro was introduced, the strongest economy in Europe was Germany. The main reason behind this was the excellent record of inflation which this country had. The UK, which has had a consistently poor record of inflation, would be benefitted from the ECB’s efficient mechanism which is for euro-land economies (Young, 2011). Disadvantages of Euro Membership No Devaluation of Currency In Eurozone, devaluation of home currency is nor permissible if it becomes uncompetitive. This is the major cause behind the difficulties of some EU countries such as Italy, Spain and Greece etc. These countries have experienced increased level of wages, excessive inflation, and lower potential for growth as compared to Eurozone giant Germany, which has shown tremendous results. However, the exports of the affected EU countries have become extremely uncompetitive which has led to decreasing demand and growth as this can be observed from heavy current account deficits of these countries. On the contrary, UK has the freedom to devalue pounds which allows restoring competitiveness and economic flexibility. No Independent Monetary Policy In Eurozone, interest rates are mainly set out by European Central Bank for all the EU countries. Such a monetary policy may not be good especially for UK’s economy. The 2008 recession affected UK seriously. As a result of this, Bank of England had the monetary measure of cutting the interest rate as per need. Not only this, it could have also provided money stimulation through quantitative easing techniques. However, if UK had been there in Eurozone, such moves cannot be taken. Under such circumstances, where Eurozone economy gets the early recovery than that of UK, this would harm UK because of the higher interest rates set out by ECB. Housing Market of UK As far as housing market of UK is concerned, this market is quite sensitive to interest rate risk. Home owners in UK acquire home on high mortgage rates which are variable in nature. Therefore, in case of any small increase in the interest rate can lead to higher consumer spending. Thus the interest rates already set out by Bank of England are quite significant and suitable for UK economy. No Lender of Last Resort Existing Eurozone crisis demonstrates that the nations in Euro are exposed to rising yields of bonds. Since there is no central bank in Eurozone which can act a lender of resort, therefore, if any government is finding it hard to dispose sufficient bonds in a specific period, the investors would feel fear and might go panic and make a huge sell off (Gillespie, 2007). On the contrary, Bank of England could have stepped in and acted as a lender of last resort by buying those bonds in order to maintain the liquidity crisis in the country. Because of this, EU countries are jolted heavily through higher interest rates reflecting higher uncertainty in the minds of investors. Irreversible Decision Joining Eurozone is considered as an irreversible decision of the member country. Due to this disadvantage, underperforming economies such as Italy, Spain, Greece, etc. are finding it extremely hard to survive. They are insurgence of leaving out this Eurozone membership as they can manage their own economic issues pretty well which they cannot as long as they are in Eurozone. Works Cited Begg, D. and Ward, D. eds., 2006. Economics for Business. Chicago: McGraw-Hill. Ch. 13 Begg, D., 2007. Foundations of Economics. New York: McGraw-Hill. Ch. 12-1 and 12-2 Dunn Jr., R., 2007. Does the Big Mac Predict Exchange Rates? Challenge, 50(3), p. 113-122. Gassen, J. and Sellhorn, T., 2006. Applying IFRS in Germany – determinants and consequences. Betriebswirtschaftliche Forschung und Praxis, 58(4). Gillespie, A., 2007. Foundations of Economics. Oxford: Oxford University Press. Ch. 30 and 31. Greenwood, C., 2007. How do currency exchange rates influence the price of holidays?. Journal of Revenue and Pricing Management, 6(4), p. 272-273. Jaffe, J. and Ross, R. W., 2004. Corporate Finance. New Delhi: Tata McGraw-Hill Education. Khan, M. Y., 2004. Financial Management: Text, Problems and Cases. 2nd ed. New Delhi: Tata McGraw-Hill Education. Leuz, C. and Verrecchia, R., 2000. The economic consequences of increased disclosure. Journal of Accounting Research, 38 (Supplement), pp. 91–124. Ramos, J. L., 2011. The benefits and disadvantages adopting the Euro. [online] (12 July 2011) Available at: [Accessed 4 March 2013] Sheeba, K., 2011. Financial Management. Mumbai: Pearson Education India. Shim, J. K. and Siegel, J. G., 2008. Financial Management. 3rd ed. Oxford: Barrons Educational Series. Siegel, J. and Shim, J, 2008. Financial Management, 3rd ed, Barrons Educational Series, Beijing. Young, E. M., 2011. benefits and disadvantages adopting the Euro. [online] (12 July 2011) Available at: [Accessed 4 March 2013] Read More