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Britains Recent Credit Crisis - Essay Example

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Before moving further it is important to know what is a circular flow diagram .Circular flow is a term in economics which basically is a model which describes a circulation of money between producers and consumers
In the circular flow model,i producer and consumer are referred to as "firms" and "households" respectively and provide each other with factors in order to facilitate the flow of income and are interdependent on each other The circle of money flowing through the economy is as follows: total income is spent with the exception of savings which are termed leakages while that expenditure allows the sale of goods and services, which in turn allows the payment of income (such as wages …
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Britains Recent Credit Crisis

Download file to see previous pages... If it is opposite there is recession. "The circular flow diagram divides the economyii into two sectors: one concerned with producing goods and services, and the other with consuming them. Resources are converted into goods and services by business, and in this transformed state travel back to consumers. Money flows in the opposite direction. These flows involve two markets in which exchange take place: the resource or factor market in which business buys resources, and the goods and services market in which business sells goods."
"Access to cheap credit in Britain has fuelled a decade of unprecedented growth, with home prices tripling over the past decade, a faster rise than in the US. Consumer spending has skyrocketed, now making up roughly two-thirds of the country's total outlays. And the overall economy in Britain is more dependent on financial services than it is in the States. As in the US, consumers are another key driver of the economy and today they're among the most indebted in the world. British consumers owe $2.7 trillion on credit cards, mortgages, and other consumer loans or more than the country's entire economic output. Household debt as a percentage of gross disposable income is 166%, compared with 127% in the US. So it's hardly surprising that in the past year, British banks have had to write off $18 billion in bad debts, mostly consumer borrowing. With the average home now costing $370,000 roughly 11 times the average salary housing is less affordable than at any time in the past 15 years. The latest data show house price inflation running at about 9.5% annually for August, but the rate is starting to slow. Although most believe that the Bank of England is unlikely to raise rates further anytime soon, the cost of servicing mortgages is expected to climb. That's because the crisis in the financial markets has raised the cost of borrowing for lenders, who will in turn pass on those costs to consumers, many of whom have adjustable rates."iii
Explanation of Current Credit Crisis in Great Britain using the circular flow diagram.
The diagram below shows the U.S. Circular flow including credit flows. It is a lot more involved than the previous circular flow diagram but it would explain the current credit crisis in Great Britain. Since the financial system in Great Britain and the U.S. are very similar, they have similar traits but face similar problems. The only thing is Great Britain's credit problems are a lot worse than the U.S.
Let us analyze the British situation using the circular flow diagram below.
1. British Consumers have borrowed over $ 2.7 trillion which is even higher than the total Annual GDP number. Now obviously this debt has been acquired over a period of few years, so how does this reflect as an injection into the circular diagram.
2. Let us look at the simple ...Download file to see next pagesRead More
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