London: Gentrification Capital of the World

London is undergoing rapid transformation. It has been the case since the mid-1990s and it shows no signs of slowing down. With this upsurge of development are qualities lost in the areas that are developed? Are the newer traits and trends in developed areas better than what was there before? 

Savilles

London Mayor Boris Johnson has been a stark proponent of inviting wealthy foreign investors to London. In October he suggested that VAT and import tax should be relaxed for our foreign neighbours in order to encourage Foreign Direct Investment (FDI).

“VAT and import duty – those it seems to me are classically things that can be resolved by growing trade and co-operation between London and China, London and Beijing. We need a proper, thoroughgoing free-trade agreement. If the EU won’t do it we can do it on our own”

If this were to occur, many non-domiciles would be spending even more of their wealth in London. The idea of facilitating foreign wealth on new enterprise opportunities in London is one fully supported by the Mayor and several other politicians, including Chancellor George Osborne. The video below outlines some of Johnson’s plans for London. When you combine the Right To Buy scheme proposed by the Government it could be suggested that both the London and National government are looking to create another property boom.

The idea of new business, new stylish housing developments, newer communities and a new beginning for those who concur with the Mayor strike a positive cord. The fact that a prosperity bomb if you like, can explode and a plethora of new businesses can suddenly replaces older ones surely translate to a better, more profitable society. The fact that bigger businesses seek to expand to areas that are ripe for development ensures that plenty of jobs will be created, more of us will work and in a macro sense the economy will grow. Surely this is what we desire….

Or is it the case that newer developments and everything associated with it impose a revised culture that virtually replaces the existing one. Ensuring that this newer culture, this different way of life that imposes itself on existing residents is cohesive with the established culture is not usually a priority for developers or investors. In fact you could suggest that their priorities take precedent because their interests are deemed more important and their main priority is profit maximization. Much of the rhetoric is aimed at what is coming, what the future holds; new developments rarely acknowledge the qualities that the area had or look to uphold or maintain some of the non-monetary merits a community had. So residents that reside in areas that are listed for development are often left marginalised because the rate at which they usually have to adapt is relatively quick and it could be suggested that they no longer feel they are part of their community.

London is undergoing rapid transformation, many people welcome the new age of “prosperity” and many view it as an inevitable outcome of what our society eventually leads to. Nevertheless, there is a growing concern that the rate of change tends to strip away some of the qualities some communities once had, qualities that cannot be monetized, nor measured, nor necessarily tangible, but certainly potent and very much real.

This movement of people towards inner city London is peculiar because it tends to be to areas that were written off by several, deemed not fit for purpose by some, but home to so many who are now marginalised. What is even more striking is the fact that property prices, both rents and house prices are increasing. So demand is inelastic, in the sense that it is relatively unresponsive to a change in price. Therefore if you are a landlord or a developer the profits are virtually guaranteed due to this wave of perpetual inner city London demand.

New Dwelling house prices

New Dwelling house prices

Both graphs illustrate the rise and rise of property prices and the second graph clearly highlight the disparity between London and another large economic area: the North West.

According to the latest Census, Newham (East London) lost 38% of its white British population. This does suggest that many of its residents are opting for areas such as Essex to reside. On the contrary, between 2001 and 2011 Brixton, an area that used to be associated with a predominately Caribbean demographic has seen ten continuous years of increases. The same is noted in areas such as Hackney, Wandsworth, Camden and Islington. Moreover, Stoke Newington and Dalston have had increases from 15% in 2001 to 26% in 2011. What this highlights is that inner city areas ( mainly Zones 1 & 2 on the Tube map) have gradually become more accessible and more appealing to many.

My qualm lies with the fact that this movement of people inflates prices of rents, property, goods and services and it leaves existing people, many of whom have lived in that area for a long time financially constrained. Should more be done in order to reduce the negativity associated with prices you can no longer afford? Or does the onus lie with the individual? Clearly, this conundrum is not a priority for a government, especially this Tory led coalition that favours individualism and self-sufficiency. They have not hid the fact that they are looking more people to buy their homes. Perhaps they are merely continuing a legacy they prospered from so it is a continuation of what they believe in. It should be noted that I personally believe in helping yourself and becoming self-reliant, but helping each other is critical to upholding what is left of any community. This does seem to be eroding rapidly however. If you can unite and help one another, you are helping yourself whilst helping others and that is the current that binds a community. But this new wave of social cleansing and this message sent out by property developers and the government of profit over people gears our society for something that we are just at the beginning of. The future of London seems to be gearing towards only those that can afford it and prices do not seem to be going down. It will be a shame if the vast majority of London transforms into a city where only those with enough money can afford it. The way government policies are aimed, market power is structured and consumption trends are there only seems to be one outcome. The next twenty years will see the London demographic rapidly transform.

The illusion of competition

Hello world. My posts on this blog have been sporadic, I’m generally moved to write by economic activity and the global economy (Africa excluded) has been, by and large plodding along in its sluggish manner. There has been no breakthrough policy shift; no ideological shift away from the current set of policies, rather, a continuation of what we’ve seen, which is public sector cuts and the detrimental consequences of such actions.

What this prolonged period of economic activity has shown us is the fact that profits will always by certain sections of our society. Despite policies that have had a nefarious effect on large sections of our community, profits have been made and if we look at the market structure of the firms making profits then it is clear that they mainly resemble oligopolies and monopolies.

Before I explain the ramifications of this apparent anomaly, I should stress that I am not here to lambast profit making. Profits are a sign of an efficient business, whereby costs are controlled and a business can expand. Without profit business would not exist, not only would there be no incentive to innovate and take ideas to market, but a firm would have no means in which to continue producing their good or service. In an ideal world however, profits would be generated in a naturally competitive market. And a competitive market has no room for oligopolies and/or monopolies to form.

My previous pieces here and here show how oligopolies are bad for consumers because they allow firms to charge whatever prices they feel suitable, leaving consumers with no choice. What is so distasteful is the fact that goods and services that are essential to our wellbeing are the ones where competition is non-existent and legal barriers are erected in order to prevent newer entrants from challenging established firms.

It may be coincidence but as the weather gets cooler the utilities market seems to increase prices and this year is no different. If we look at British Gas, one of the largest firms in this market, they are increasing gas by 8.4% and electricity by 10.4%. Ian Peters of British Gas admits it is “unwelcome news” but in an industry where there is no effective competition comments such as his could act as a condescending reminder of the contrasting fortunes of our increasingly divided society. Whilst I do not doubt the sincerity of his comment, it comes during an extremely difficult period of stagnant economic activity, where households have been forced to cut spending therefore demanding less. Comments such as his can only add insult to injury. The Energy Secretary Ed Davy was not pleased, adding that the price increases in general were “extremely disappointing news.” He and the Prime Minister advocated that consumers “shop around” for the best deals. Therein lies the fundamental problem. Even if consumers switch from one energy company to another the market structure itself dictates similar prices, thus the savings are marginal at best. For savvy consumers looking to save every penny (and in this climate, who could blame them?) this is a restrictive option. It should be noted however that collusion in any oligopoly is either deliberate (which is illegal) or tacit. So firms will mimic their rivals.

Source: BBC

The formation of the energy cartel in the UK is an explicit example of market failure. Market failure is where the free market fails to effectively distribute resources efficiently. In order for governments to erode this failure there are a number of political and economic tools it could utilise in order to help correct this failure. Governments often spout the notion that markets are regulated. Regulation is a surrogate form of competition that probably disrupts the flow of business activity as oppose to aiding it. What governments should do and what they claimed they were doing when they privatised several important industries was ensure that market power cannot become concentrated into the hands of a few large firms. This has not happened. Rather, the inefficient government owned industries have been replaced by the inefficient privately owned firms. In fact, when government owned them they had to answer to the taxpayer, now these firms answer to shareholders, the stakeholders i.e. consumers have no say. Their acquiesce is a formality.

The same situation is prevalent in transport where prices will rise again in January by 4.1%. Again the traits are synonymous with other oligopolies, consumers have no choice.

Powerful firms often use branding as a way to create the illusion of competition. Branding allows consumers to associate that good or service on its own merits, but as the diagram below highlights, rather poignantly, so few firms actually have substantial control over goods and services we have to demand.

The 10 major food companies

I began this piece by stating that profits are still being made by sections of our society. I am not advocating for some quasi profit distribution to the lower echelons of society. I am however suggesting that the public demand much more from national government. Where oligopolies are formed, governments should be pressured by the public to erode the legal barriers preventing a number of newer entrants challenging the dominant firms. Until actual competition is established and markets resemble a monopolist market structure, where there a lot of firms and new entrants can enter the market easily, prices in essential industries are only going to go in one direction.

Read of the week

This is an excellent piece from today’s Guardian. It relates to spending levels in football. On one hand you have Bourssia Dortmund, a club that epitomise Germany in terms of values, work ethic and productivity. (If I were a betting man I would place some money on them reaching this years final.) And on the other hand Spanish side Malaga, who, despite some excellent performances this season have been in hot water with UEFA for financial irregularities. Both go head in tonight’s Champions League. The article

Personally, whilst I love football, I cannot help but think that it is losing some quality. The influx of foreign owners on European football have inflated transfer fees which has not only increased pressure on football clubs to become profitable. Inflated prices thus have an affect on every club and it is near impossible to not participate. Clubs like Newcastle have invested in excellent scouting and are able to find quality players like Yohann Cabaye, Moussa Sissoko and the like and sell them on for large fees. Moreover, Dortmund are a breath of fresh air because the current German champions have spent, but not on the levels of Malaga, PSG, Manchester City, Liverpool and other clubs with foreign owners and are both profitable off the pitch and excellent on it. UEFA’s toothless Financial Fair Play regulations  have yet to have much of an impact on football. They need to enforce these regulations to ensure that football does not continue to spiral out of control and the inflated market reduces.

http://www.guardian.co.uk/commentisfree/2013/apr/03/borussia-dortmund-malaga-political-football-austerity

Privatisation is Justified… Only if it results in competition.

There is very limited choice in many of the privatised industries including rail.

Privatisation in the UK during Margret Thatcher’s premiership was intended to shift the economic burden away from taxpayers into private hands. It was intended to erode the natural state monopoly and establish market-based competition. Economic theory suggests that privatisation eradicates the state owned monopoly and creates competition in the market, which should lead to better services and a lower cost. Government led businesses are said to be inefficient at providing services that a private led firm can do, so the appeal is certainly there.

Nationalised industries tend to provide goods and services with high social value, goods such utilities, agriculture and transport tend to be provided by the state because these derived demanded goods are viewed as essential. Unlike firms, the state’s intention is not to maximise profits, so there are no shareholders to appease, nor answer to. This has its advantages and disadvantages because constantly operating at a loss will impose a burden on the taxpayer, who may feel their taxes would be best utilised elsewhere, where there taxes are not being wasted.

This was central when Thatcher and her government suggested that a wave of privatisations across various sectors such as transport, telecommunications and utilities were the best way to reduce the burden on taxation and the optimal way for consumers to be provided with essential goods and services. The state was viewed as a natural monopoly and the highest consumer satisfaction and utility is gained through competition, it is competition that yields the greatest efficiency and the lowest possible prices. Therefore, establishing competition through several competing firms was central to this proposal. Economists Todaro and Smith suggest,

“Proponents [of privatisation] suggest that it curbs government expenditure, raises cash to reduce internal and external debt and promotes individual initiative while rewarding entrepreneurship”  

Clearly the benefits of privatisation are clear, the eradication of the natural monopoly is perhaps the strongest because it opens the market and allow more firms to compete. However, in the UK this unfortunately has not been the case. The wave of sell offs during the 1980s continues to have a significant effect on life in the UK today. Services such as gas were privatised, so was telecommunications and parts of the rail industry. Some twenty years later after firms such as British Telecom (BT), British Gas and regulatory bodies such as Network Rail not only stifle competition, but they appear to have replaced the very monopoly it was created to replace.

John Moore was the Minister in charge of initiating the wave of privatisations. He said in 1983

“The long term success of the privatisation programme will stand or fall by the extent to which it maximises competition. If competition cannot be achieved, an historic opportunity will have been lost.”

He said at the 1983 Conservative Party conference:

“Our aim is that BT should become a private sector company…[but] merely to replace state monopolies by private ones would be to waste a historic opportunity. We shall continue our programme to expose state owned industries to competition.”

Moore explicitly states if privatisation cannot lead to a competitive market “an historic opportunity will be lost.” I could not agree more because had the privatisation initiatives been applied appropriately, with legislation implemented to prohibit cartels forming in the case of the rail industry or outright monopoly, like BT in the telecommunications market then these formerly stated owned industries would have created far more jobs on the sheer fact that the market would be significantly larger, they also would have lower prices. And they would have lower prices because there would be ten or more firms each competing to try and get customers, so lowering prices in order to attract custom. If however there are two or three firms, then they are more likely to collude, whether it is explicit or tacit, the outcome is the same and it is near impossible to detect.

Commentator John Gamble stating in 1994

“When BT, BG and the water industry were divested, the Conservatives failed to liberlise their markets meaningfully and as a result, were forced to create regulatory mechanisms and institutions to prevent the utilities from abusing their positions.” 

I mentioned in my piece about regulation and the above inflation gas price increases and how regulators in many instances interfere with business activity and can actually do little to prevent firms from these price changes. It should be noted that the way a customer will have low prices is through competition. That was the reason why Mrs. Thatcher sold off many state controlled firms, but we are seeing today that the state monopolies have been replaced by cartels and monopolies in some cases. Moreover, this is conflicting to what was proposed. One could even suggest that a return to state operated firms were better, because at least they are accountable to the public. Private cooperations are accountable to shareholders are not obliged to disclose information to stakeholders.

Privatisation in the UK does appear to have shifted from natural monopolies to private monopolies in the case of BT and oligopolies in the case of Network Rail, British Gas and so on. Clearly, this is the oligopolistic market structure is not competitive and fails to provide sufficient customer choice. Customers are therefore left to demand essential goods from limited suppliers, resulting in high prices. Unless privatisation leads to a highly competitive market, with several competing firms, it is merely replacing the very entity is supposed to be replacing.

The High Price Of Low Competition.

How competition is the only way to drive prices down.

Consumer choice will always lead to lower prices. This is basic microeconomics and in competition theory the more competitive the market, the lower the prices. This unfortunately does not appear to be apparent in several markets in the UK and it is especially true in markets where demand is derived. Derived demand is basically when you demand a good or service not for its own sake, but for the goods or service derived from it. Transport is an example where customers don’t especially want to sit (or probably stand) on a train to get work because they enjoy the journey, rather, they demand this service because they know it is vital for them to get to work. It is in these markets, transport, utilities, telecommunication networks, supermarkets and the like where there is little competition and thus high prices as a result. Consumers have very little choice but to pay the competitive rate for these services due to the market structure.

The industries mentioned resemble an oligopoly, and market structure with a few firms. It has very high barriers to entry, which means it is usually very difficult for a new entrant or entrants to enter the market because there are usually very high financing costs or even legal parameters preventing new entrants. The problem with oligopolies is that because there is such little competition as a customer you end up paying more or less the same for your goods or services, so firms usually have to rely on non-price competition in order to increase their share of the market.

The global economic crisis has led to a sharp increase in the rate of unemployment and in particular in the UK. This has in turn placed a huge burden on households up and down the country and when you consider inflation is stubbornly high in recent years which reduces spending power, the price you pay for goods and services that are essential has a huge impact on your disposable income. If you look at inflation for a moment (currently 2.2%), if the rate of inflation is higher than your pay rise then your pay has not actually increased because all goods and services around you have increased in proportion, so your nominal wage may have increased, but your real wage (inflation adjusted) has not.

Now if we look at the oligopolies again, take energy for example. There are six major suppliers in the UK. They are EDF, E.ON, N Power, British Gas, Scottish Power and SSE. An important feature of this market structure is collusion. Whether it is deliberate or tacit it does not matter because if one firm reduces its prices then others are likely to follow suit because they know they are selling the same good, so there is nothing stopping a customer from going elsewhere for a cheaper price. Collusion will occur in an oligopoly regardless of the good or service. Energy firms advice customers to shop around for the best rates, the savings will be marginal at best and they only work because majority of people pay above what they actually should, so it balances out.

Five of the six major UK energy suppliers will increase their prices

Even David Cameron weighed in on the debate, exclaiming that he would “force” energy firms to offer their customers lower rates. Ofgem later published a document demonstrated that the simplification of retail energy tariffs would be complicated. Moreover, whilst his intentions may have been good, it has proved futile; customers are going to face high prices regardless.

John Kay in Financial Times last Wednesday alluded to the fact that regulation may actually hamper business activity, not aide or regulate it. Regulation is a surrogate form of competition, it can never and will never guarantee low prices or optimal consumer choice because there is nothing a regulator can do about tacit or overt collusion in a market. If the government wanted lower prices for energy they could break down some the legal barriers preventing newer entrants into the market. If for example there were ten to fifteen energy suppliers firms are likely to lower prices in order to increase market share because consumers would usually go for a firm offering the same good or service at a lower price. As it remains however, the six major firms can effectively charge what they want because they know that consumers cannot go without heat or electricity so they are forced to pay.

• SSE: 15 October, gas and electricity up 9%
• British Gas: 16 November, Gas and electricity up 6%
• Npower: 26 November, Gas up 8.8%, electricity up 9.1%
• Scottish Power: 3 December, gas and electricity up 7%
• EDF: 7 December, gas and electricity up 10.8%
• E.On: No price rise before the end of 2012

The energy sector is not the only market that has squeezed incomes and thus reduced spending power; mobile phone networks are also high on the list. There was a time in which a twelve-month contract was readily available. Again, in a market where there is such little competition the realization that you are more or less going to pay the same rate is again apparent in this market. The fact that T-Mobile and Orange have merged into Everything Everywhere makes matters worse for the consumer because it has reduced its competitiveness even more.

I personally feel that the government needs to make it far easier for new entrants to break into what appears to be closed off markets. There are legal barriers preventing new firms entering transport, so the same firms dominate the market, to the detriment of the consumer. This was the whole point of privatisation, to remove state ownership and open it up to the market, but state ownership has been replaced by private ownership and it is very much closed off. This issue is especially poignant as we see the standard of living continue to fall as a result of high inflation and sluggish economic growth. The fact that essential goods are rising accordingly only squeezes more out of the pockets of those who struggle to keep up with the price increases. Moreover, more competition ensures lower prices, regardless of regulation.

Starbucks: The Bitter Taste Of Success.

Starbucks in hot water over conduct

Starbucks is facing growing criticism in the UK for paying no corporation tax in the last three years and only paying £8.6m in the last fourteen years of trading. Despite revenue exceeding £3bn in that time, they have managed to pay under £10m and have not paid a penny in the last three years. This does beg the question of how a large corporation, with 735 stores nationwide can manage to pay such little tax. Starbucks has announced consecutive losses from 2008 to now, yet they have managed to expand their operations. It is difficult to comprehend how a business can expand its operations, whilst making substantial losses. Starbucks has adopted a rapacious approach to the coffee market in the UK. It is the global coffee chain and it is the leading chain in the UK.

The head of Starbucks operations in the UK and Ireland is a man named Kris Engskov. Engskov was a former aide to Bill Clinton and during Clinton’s election campaign. A strategy they adopted was to highlight the shortcomings of George Bush Snr’s lassies-faire attitude towards large corporations who were avoiding tax. They used several means to draw the elctorates attention towards it, including a host of ad campaigns

“This is the $825bn question. That’s how much foreign corporations operating in the US took in one year. But 72% of them didn’t pay a dime in taxes. Not one dime …” 

The real issue however lies with what Starbucks tell Her Majesty’s Customs & Revenue (HMRC) and what they tell their investors. There does appear to some inconsistencies with what is being said. In 2008, Starbucks filed £26m loss in the UK, yet their CEO Howard Schutlz told an analysts call that the UK business had been “so successful” he planned to take the lessons he had learnt there and apply them to the company’s largest market, the United States. One does not even know where to begin to try and understand the reasoning behind such a move. Such losses would be a grave cause for concern, yet Schutlz seems adamant to replicate this model in a substantially larger market. Schultz even promoted the person who oversaw this substantial loss, a man named Cliff Burrows. Schultz said he was looking forward to Burrows “now applying the same drive and business acumen to leading our US business.” This seems very odd.

In 2009, Starbucks filed a £52m loss whilst the Chief Financial Officer Troy Alstead proclaimed that operations in the UK were “profitable.” This is clearly a contradiction, unless he does not understand what profit is, because announcing such losses that are exactly double of their previous year and to describe overall activity as “profitable” is quite frankly a farce. In 2010, £34m in losses was announced and Starbucks informed investors that sales continued to grow. And just for good measure, in 2011 they announced losses of £33m and John Culver, the President of Starbucks’ International Division told analysts on a call earlier in that year “we are very pleased with the performance in the UK.” How senior figures and investors alike within Starbucks can continue to be unreasonably optimistic despite losses of £145m since 2008 should have rung alarm bells at HMRC, it did not.

If we look at Starbucks competitors such as Costa Coffee, they actually sold less than Starbucks. 2011 sales in Costa were £377m, whilst Starbucks reported £398m. Yet despite achieving greater sales, they incurred much higher costs, £319m that was more than three times that of Costa. Consequently, Costa paid £15m in tax to HMRC and Starbucks paid nothing. Obviously, both companies are separate and would certainly have completely different balance sheets, but Starbucks are the market leader in the UK for coffee, not only have they been around for longer, but they are also have a larger proportion of the market, so how despite greater sales, it cannot pay tax may be beyond the scope of this piece. Moreover, if we look at McDonalds sales since 2008 they exceed £3.5bn, they paid £80m in tax. KFC paid £36m in tax, with sales of £1.1bn; Starbucks paid £0 in tax despite generating sales of £1.2bn.

This episode does raise key questions that may not receive the attention it may ought to have. George Osborne gave a stern assessment of what a lot of people in the UK thought of the benefit system in his speech two weeks ago at the Conservative Party conference. Whilst he is entitled to his opinion on the matter, it would be refreshing to see the same energy exerted at a more comprehensive check on all corporations with regards to tax avoidance and the mechanisms a lot of firms have in place to purposely avoid paying the correct fee. This is not an emotive matter; this is simply an issue of paying what is right. Moreover, this will continue to occur unless more politicians highlight it and if there are the legislative amendments that will fix what appears the loophole that many large firms can exploit.

We cannot demand transparency from a private firm, they have no obligation to disclose such information, and we can however demand transparency from the elected officials who are meant to facilitate business, whilst holding them accountable when necessary.