The Economy & Business (Edexcel GCSE Business)

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Steve Vorster

Written by: Steve Vorster

Reviewed by: Jenna Quinn

The Impact of the Economic Climate on Businesses

  • The economic climate refers to the broad performance of the UK economy, as measured by changes to GDP growth

    • When GDP growth is increasing, incomes may increase, spending on goods/services increases, inflation may rise and unemployment may fall

    • When GDP growth is decreasing, incomes may fall, spending on goods/services falls, inflation may fall and unemployment may rise 

A growing economy leads to more spending on business goods/services - and vice versa

A growing economy leads to more spending on business goods/services - and vice versa

  • Economic changes can present significant opportunities and threats to business activities 

  • Businesses need to anticipate and respond to changing economic variables to maximise their chance of success

  • The following economic variables need to be considered

    • Changes to inflation, unemployment, exchange rates, household income, interest rates, and government taxation

The Business Impact of Changes in Consumer Income

  • When household income rises, the impact on businesses will depend on the nature of the goods/service that they sell

    • Firms which sell inferior goods will see a fall in demand and sales revenue will fall

    • Firms which sell normal goods and luxuries will see an increase in demand and sales revenue 

  • When household income falls, the impact on businesses will depend on the nature of the goods/service that they sell

    • Firms which sell inferior goods will see an increase in demand and sales revenue will rise

    • Firms which sell normal goods and luxuries will see a decrease in demand and sales revenue

The Business Impact of Changes in Inflation

  • Inflation is the general rise in prices in an economy over time (measured using the consumer price index) 

Rapid inflation is causing problem for businesses and households in the UK

Rapid inflation is causing problems for businesses and households in the UK 

  • After several decades of relatively low levels of inflation the UK has recently experienced rapidly increasing levels of inflation

    • This has caused large scale disruptions in the economy as many workers are striking to attempt to secure higher wages

Business Challenges Caused by Inflation

Increased business costs

Higher repayments on loans

 Consumers change spending habits

  • Workers often demand higher wages to compensate for the increase in the cost of living

  • Suppliers increase the cost of raw materials and components

  • Utilities such as electricity become more expensive

  • Interest rates usually rise which makes business borrowing more expensive

  • Price increases deter consumers from making more luxury type purchases

  • Consumers focus more of their spending on necessities

The Business Impact of Changes in Exchange Rates

  • The exchange rate is the value of one currency expressed in terms of another

  • Exchange rates are an important economic influence for businesses that  import  raw materials and components and for businesses that export their products 

  • The value of a currency can appreciate or depreciate over time 

The Impact on Business of Currency Appreciation & Depreciation

Change to Currency Value

The Impact on Exporting Businesses

The Impact on Importing Businesses

An Increase in the Value of the £ Against Other Currencies

(Appreciation)

  • Sales are likely to fall as products become more expensive when compared to overseas competitors

  • In order to remain competitive, exporting businesses may need to lower prices and accept lower profit margins

  • Costs are likely to fall as raw materials from overseas become cheaper

A Decrease in the Value of the £ Against Other Currencies

(Depreciation)

  • Sales are likely to rise as products become cheaper when compared to overseas competitors

  • Costs are likely to rise as raw materials from overseas become more expensive

  • Businesses may seek domestic suppliers to reduce costs and maintain profit levels

Examiner Tip

Many businesses are affected as both importers of raw materials and components and also as exporters of goods and services overseas. It would be unusual for UK-based exporters to wholeheartedly celebrate a weak pound or be entirely dismayed at a strong pound as the global nature of business means that for many firms’ both costs and revenues are affected by exchange rate movement. 

To help you remember the effects of an appreciating currency, remember the acronym SPICED - Strong Pound Imports Cheaper Exports Dearer

The Business Impact of Changes in Interest Rates

  • The interest rate is a percentage reward offered for saving money and the percentage charged for borrowing money

  • Lenders commonly charge interest on borrowing at a higher rate than the rate offered to customers for savings and investments 

  • If interest rates rise businesses will have to pay more on their loan repayments which will increase their costs

  • Businesses may be less willing to make  capital investments choosing instead to save their money

  • Customers are less likely to purchase goods on credit when interest rates are high leading to a fall in sales

The Business Impact of Changes in Taxation

  • Governments impose direct and indirect taxes on businesses and households

    • Direct taxes are levied on income e.g. Income tax and Corporation Tax

    • Indirect taxes are levied on spending e.g Value added tax (e.g. VAT) 

The Impact of an Increase in Taxation

Impact on:

Explanation

Revenue

  • Revenue may fall for many businesses

    • Increased income tax will reduce the  disposable income of customers and demand for products may fall

    • Increased VAT will make products more expensive and customers may switch to alternative products

Costs

  • Business costs will rise as a result of increased taxes such as VAT and National Insurance contributions

    • Higher costs may be offset by charging higher prices

    • Higher prices may lead to lower sales and profits may fall

  • Import costs are increased when customs duties  are raised

Business Decisions

  • Operational decisions may be affected by increases in business rates and taxes related to employing workers

    • Businesses may choose to forego business improvement or relocation, or employ fewer workers as a result of increased costs

The Business Impact of Changes in Unemployment

  • The impact on business of changes in the unemployment rate will depend on the type of skill required by the business

  • As the unemployment rate falls, businesses have to pay more to secure skilled workers

    • The less the supply of skilled workers, the higher the salaries they will have to offer

  • As the unemployment rate falls, businesses may have to pay more to secure unskilled workers

    • The less the supply of unskilled workers, the higher the wages they will have to offer

    • The increase in wages for unskilled workers will depend entirely on how limited the supply of unskilled workers is 

  • Generally, the higher the unemployment rate, the cheaper a business can secure labour - and vice versa

  • Labour costs are amongst the most significant for many businesses, so the unemployment rate can have a direct impact on the profitability of the business

Examiner Tip

When discussing changes to the unemployment rate, consider where the overall rate has changed from and to. For example, if it has changed from 19% to 14%, there is still a lot of unused labour in the economy, so the business costs for labour are unlikely to change by much. However, the closer the unemployment rate gets to zero, the greater the impact on business costs.

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Steve Vorster

Author: Steve Vorster

Expertise: Economics & Business Subject Lead

Steve has taught A Level, GCSE, IGCSE Business and Economics - as well as IBDP Economics and Business Management. He is an IBDP Examiner and IGCSE textbook author. His students regularly achieve 90-100% in their final exams. Steve has been the Assistant Head of Sixth Form for a school in Devon, and Head of Economics at the world's largest International school in Singapore. He loves to create resources which speed up student learning and are easily accessible by all.

Jenna Quinn

Author: Jenna Quinn

Expertise: Head of New Subjects

Jenna studied at Cardiff University before training to become a science teacher at the University of Bath specialising in Biology (although she loves teaching all three sciences at GCSE level!). Teaching is her passion, and with 10 years experience teaching across a wide range of specifications – from GCSE and A Level Biology in the UK to IGCSE and IB Biology internationally – she knows what is required to pass those Biology exams.