1.3.1 Specialisation and role of money and financial markets

Advantages of specialisation and division of labour

• Higher productivity

• Potential higher pay for workers

• More profit = invest in more capital stock

• Lower prices for consumers

• Better use of scarce resources

Disadvantages if specialisation and division of labour 

• Boring/monotonous

• Workers have less pride in work = poorer qualit5y

• Harder for new ideas

• Less flexible if someone is absent

• If firm shuts down, workers may not have transferrable skills for other jobs

Adam smith’s views on the division of labour

Division of labour leads to higher productivity

Define division of labour

Production process is broken down into stages and each worker focuses on a specific task

Functions of money

• Medium of exchange

• Measure of value

• Store of value

• Method of deferred payment

Money as a medium of exchange

Doesn’t require double coincidence at once

Generally accepted in exchange for goods and services

Money as a measure of value

Standard idea to judge how much something is worth

easy to compare to other products

Money as a store of value

• Can be stored and will still be valuable after long period of time

• Hyperinflation = cash not good store of value

Money as method of deferred payment

• Debt -  payment put off and can be paid back later

• Must last through long periods of time, people only lend money if they think they will be paid back in the same amount/value

Cash as a form of money

Notes and coins (no intrinsic value)

• Good medium of exchange, good store of value (depemding on inflation), good measure of value, good standard of deferred payment

Near money form of money

Protected savings, can be converted to cash without loss of value

• Bad medium of exchange, good store of value

Financial market

Where buyers and sellers can buy or trade assets that are fundamentally monetary on nature

Role of financial markets

• Facilitate saving 

• Make funds available to businesses and individuals

• Facilitate exchange of goods and services

• Provide forward markets in commodities and currencies

• Provide a market for equities

Financial market to facilitate saving

Store and measure of value, not medium of exchange

• Allows individuals to save up money for large purchases

• Financial providers are able to retain finance in order to lend out to individuals to make profit

• Workers save pension for retirement

• Businesses save profits for unexpected expenses/expansion

Financial market to provide market for equities

Stock markets, allow buying and selling of shares, liquidity makes buying and selling easier

• Consumers buy shares to earn dividends or sell shares in future for profit (capital gain)

• Firms raise large amounts of funds by selling shares, used to grow business

Financial market to facilitate exchange of goods and services

Central banks print money + set inflation rates, retail banks provide services such as debit and credit cards

• Benefits of debit cards: individuals don’t deal with cash, allow online shopping

• Benefits of credit cards: Individuals and businesses can easily borrow money to repay at later dates

Financial markets to make funds available to businesses and individuals

Borrowing/lending of money

• Consumers: Borrow money to buy goods and services to improve standards of living

• Firms: Borrow money to fund expansion

• Government: Borrow to spend on gov. projects not covered by tax revenue

• Banks: Borrow money to lend to other financial institutions in hope to gain profit

Financial markets in order to provide forward markets i commodities and currencies

Commodity - Group of goods used in production, natural resources with volatile prices

• Forward market: Provide way to set future prices, reducing uncertainty and risk associated with commodity market

• Allows overseas purchases by agreeing the exchange with forward market, ensures changes in exchange rates don’t negatively impact businesses

• Forward contract: Exchange is agreed with set prices months before actual transaction, removes risk of volatile prices 

Limitations of the financial market

• Inequality - banks may not be willing to give loans to everyone

• Volatile stock market, no guarantee on profit

• Forward market may result in not getting good deal if prices of their product increase

• Credit card companies have interest

• If interest rates are low, banks may make little profit

Moral hazard

Lack incentive/ownership to guard against risk, as you are not the one suffering the consequences

(Eg. housing crisis, banks could take risks as they knew the government would bail them out)

Advantages of division of labour to firm

Increase in productivity

• Worker can produce more output

• Can produce goods cheaper than competitors

Decreased cost of production

• Produce more for same pay

• Increase profit margins/lower prices

Save time

• Workers don’t need to keep changing tools

• spend more time on production

Increased skill

• Spend so long on tax and become experts

• Increases speed

Less training required

• only need training for one task

• reduces cost of training staff

Workers focus on tasks that suit their skills

• more likely to enjoy jobs

• more likely to be motivated