Macroeconomics case - Part 2

1 - Macroeconomics case introduction. Introduction

         This paper uses the automotive industry as subject of study in determining the effects of the economic indicators to an industry.  Taking off from a brief history of the automotive industry and followed by an industry overview, this paper will also prepare a SWOTT analysis of the industry.  It will also address the possible impacts on the industry of the following economic indicators: real GDP, the unemployment rate, and the inflation rate as measured by the consumer price index (CPI), interest rate, foreign exchange rates and money supply (measured by M1, M2, or M3).  To determine the impacts of these economic indicators, the paper will also define each of the six indicators, and describe their status.  To complement the analysis, a separate graph illustrating the historic trend for each indicator as found in the appendices.

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 2. Analysis and Discussion

2.1 Brief History and Overview of the automotive industry

       The automobile industry is known to have been relatively stable through several years with no much change among the players.  Nobody will disagree that the largest car company in the world for many decades has been General Motors of the US.  The long years of having such a stable environment could be explained by the fact of high fixed costs of entry that normally restricts many potential entries in the industry.  Until recently, the hybrid technology for car manufacturers brought dramatic and world-shattering changes.  With Toyota known to have been the leader and innovator in hybrid technology, it is not surprising to see the possibility how Toyota will surpass General Motors as the biggest car company in the world.[1]

       As the above events develop, the U.S. car companies are experiencing difficulties as evidenced by the decisions to terminate a big number of their employees just to survive the competition that the new technology has brought to the market.  On the other hand, China, which was known to use fewer cars and more bicycles, is now a booming market as evidenced by the rise of many Chinese car companies are.  Under normal conditions, companies in car manufacturing and car dealership take advantage of this growth opportunity and this is a very appropriate time for those who want to come in the industry and for the existing players.[2]

       There are only few players of segmented markets of the automotive industry, thus the industry is showing what economists called an oligopolistic market structure, as characterized the sales growth of companies that are relative stable.  High barriers to entry further characterize this stability.  Recent events show foreign car companies increased presence in the US, which confirms the effect of hybrid technology.  The industry is known also for operating on a very high leverage because of fixed costs.  For US companies, they now treat labor cost as fixed cost although direct labor cost what was conceptually considered as  variable cost because the labor contracts of US which guaranteed the income of a worker, even in case of termination of employment[3].  To attain profitability therefore, because of high fixed cost as describe is to produce more.

        Despite the seeming low cost of production because of mass production in quantities by supplies, today’s customers in the industry still demand the production of high quality vehicles at low prices.  For producers to survive economies of scale is needed.  This could have triggered the factors for the adoption of hybrid technology that has changed the face of the automobile industry by preventing new competitors to come in.[4] There is thus the continuing desire for car makers to deliver the car at least cost so that they could serve the changing needs and wants of customers.

 2.2 SWOTT analysis of the industry

      To evaluate the US domestic automotive industry, this paper uses an S.W.O.T.T analysis.  S.W.O.T.T stands for strengths, weakness, opportunities, threats, and trends.  The automotive industry’s strengths are large revenues and stability as evidenced by industry value of billions of dollars and that fact that a car has become a necessity for many American households.[5]  In addition, car sales produce tax revenue of more than fifty billion dollars due to the fact most Americans have at least one vehicle[6].  It has however a weakness which is its heavy dependence on macroeconomic factors.  This means that economic depressions can cause negative results on the sales of automobiles.[7] The latter effect of event of economic depressions, however. is normal for many industries.

        As for threats, the US domestic automotive industry has competition to face from Japan, Europe and many other countries.  As for threats, strong brands may have advantage over others.  With the opening of the Chinese economy and the development of hybrid technology, there are really plenty of opportunities for industry players.  The opportunities of automobile companies involve a strong brand that can be leveraged into other markets.

      As for new trends, the industry the rise in the production of hybrid vehicles is already a big reality.  For the US companies to survive the competition both from inside and outside, it must have to take advantage of the use of the hybrid technology as the new trend.  The increased competition from foreign car companies like Japan and Western Europe and increasing number Chinese car companies can be considered as real threats to American car manufacturers.  American automotive must keep up with hybrid technology, which was introduced by the Japanese.[8]

 2.4   The impact on the industry of the following three economic indicators: real GDP, the unemployment rate, and the inflation rate as measured by the consumer price index (CPI),  interest rate, foreign exchange rates and money supply (measured by M1, M2, or M3).

     Before knowing the impact of the six indicators, there is a need to define each indicator and to describe their status.  In the discussion of the impacts in the following indicators, definition and description of the status of each indicator is made before the impact of each on the automotive industry is explained.

 2.4.1 The impact of GDP on the automotive industry

      An economy grows because a country produces more products and services and the happening of which will cause more people to have more money to spend for their needs.  Gross domestic product (GDP) measures how much a country produces in terms of products and services.  In the case of the US, its present status is still positive of about 2% as of 2006.  See Appendix A for the graph of GDP to understand status.  Since GDP measures the growth of the economy, it could be properly claimed that the higher the GDP, the higher would be the demand for cars and therefore more beneficial for the automotive industry.

 2.4.2The effect of unemployment rate

        Unemployment rate in the measure of the extent joblessness within an economy for a certain period and is equivalent to the number of unemployed workers divided by the total employable labor force.  The current unemployment rate of the US is less than 5% as of June 2006.  See Appendix B.

       The higher the unemployment the lower is the income generation by the people.  If people have less income, they will have less money to buy for the basic needs.  Under the Maslow’s hierarchy of needs[9], people tend to satisfy first basic their basic needs before they go into higher needs, therefore unemployment will cause people to have  less needs for automobile than food and other basic necessities,.  Although transport is a basic need to be satisfied, the same could still be satisfied by mass transport system which the players in the automobile industry may have to compete because of limited income of people in case of high unemployment rate. Low unemployment rate, on the other hand,  means more money for people and  better lives greater demand for the higher need  for cars.

 2.4.3 The effect of inflation rate on automotive industry

       Inflation in terms of consumer price index measures the general rise in prices against a standard level of purchasing power.  The most recently available inflation rate as o 2007 for the US is less than 3%.  Please see Appendix C.  By comparing two sets of goods at two points in time and one could have inflation, and if increase in cost is not supported by change in the quality of a product.  As to the effect of inflation on the automotive industry it could argued that inflation could drive prices of cars high and if this happens, there will be less demand for cars and companies making product will have to be affected accordingly.

2.4.4 The impact of Foreign Exchange rate

      Foreign exchange rate is the value of host country’s money in relation with other country’s currency.  For example, the current status of 1 US dollar to 1 British pound as of June, 2007 is 0.5037.  See Appendix D for the graph.

      The impact of the foreign exchange rate on the industry will depend on the exchange from US may have trading relationship.  As a rule, it would be best for US to have a strong currency as against another foreign currency.  As to the impact of the foreign exchange rate on automotive industry depends on whether the US exports or imports more in relation to a given country.  For the purpose of this paper, foreign exchange rate with Japan and UK were determined, (See Appendix A) where it was found that in relation to Japan the foreign exchange rate was more stable that of the UK.  In the latter it is found that most recently the dollar depreciated in relation to British UK when year 2000 is compared with most recent years.  As to its effect on the automotive industry assuming that US exports cars to UK and Japan, is that prices of US cars have become more affordable in UK than in Japan because UK importers would need less US dollars to import American cars.

2.4.5 Interest rate

      Interest rate is the so-called cost of money.  It is part of an economy and as a rule its effect on the economy is found in investment. The current status of the industry is below 6% as of 2006.  See Appendix E.  The higher the interest, the less would be the investment in the economy, and the less would the growth in the economy.  When applied to the automotive industry, higher interest rate means less sales for cars since sales of cars are normally dependent on the availability of credit which is greatly influenced by the amount of credit.

 2.4.6 Money Supply

        Money supply is the amount of money measured in terms of M1 M2 and M3 and its adequate supply is every important to the economy.  Being influenced by monetary authorities, this money supply normally increases in relation to time because of an assumed increase in population and increase in spending over time both by governments and private sectors which includes personal spending of the citizens.  Its effect on the automotive industry therefore is to influence sale of more products if money supply in increase with increasing demand for cars over time.  This observation is confirmed by Appendix F which shows an ever increasing money supply over the years.

 3. Conclusion

       In the past, the automobile industry may have been held to be stable or saturated with low growth potential.  The increasing cost of energy and the dwindling supply of oil which have driven prices of car to go up, inventions under technologies have come into the picture.  The growth or decline of an industry is however, a function of what is happening in the economy.  For the automotive industry to grow, there must be an increased demand, which is best evidenced by the growth of the economy as measured by GDP.  As for the unemployment rate, a lesser number unemployed means more money and more demand for cars.  For inflation, it is better to have low inflation for the industry to benefit since inflation increases prices that may dampen demand for cars.  For foreign exchange, it is desirable that US has a strong dollar as against other currencies.  For interest rate, it is favorable to the industry if it is low since it affects demand for cars if it is high by causing demand to decrease.   For money supply it is desirable that is adequate and must be increasing overtime to supply the needs of the economy but not too much to cause inflation.

4. Appendices –

 Appendix A – US historical Gross Domestic Product, see excel file.

 Appendix B – US unemployment rate compared with other countries, see excel file.

 Appendix C – US Inflation rate, see excel file.

 Appendix D – US Foreign Exchange rate, see excel file.

 Appendix E –   US interest rate, see excel file.
Appendix F –   US Historical Money Supply, see excel file.

5. Work Cited:

Colander, David, Macroeconomics (5th Ed.). University of Phoenix, 2004

Jarvis, P. , Adult and Continuing Education,
Routledge, 1995

Min, Jason, Market Analysis of the Automobile Industry and how Hybrid Vehicles will change the Industry, 2006

[1] Min, Jason, Market Analysis of the Automobile Industry and how Hybrid Vehicles will change the Industry (2006)

[2] Min, Jason, Market Analysis of the Automobile Industry and how Hybrid Vehicles will change the Industry (2006)

[3] Min, Jason, Market Analysis of the Automobile Industry and how Hybrid Vehicles will change the Industry (2006)
[4] Min, Jason, Market Analysis of the Automobile Industry and how Hybrid Vehicles will change the Industry (2006)
[5] Colander, David. (2004) Macroeconomics (5th Ed.). University of Phoenix

[6]Colander, David. (2004) Macroeconomics (5th Ed.). University of Phoenix
[7] Min, Jason, Market Analysis of the Automobile Industry and how Hybrid Vehicles will change the Industry (2006)
[8] Ibid
[9] Jarvis, P. , Adult and Continuing Education,
Routledge, 1995

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