India's withdrawal of bank notes

At what was in effect no notice, on 8th November, India announced that all 500 and 1000 rupee notes would cease to be legal tender. That is 86% of the cash in the Indian economy.

This is quite a shock to the system, after all 90% of India's transactions take place in cash. Yet the bulk of the Indian population apparently support the move, despite having to queue for hours to deposit their now otherwise worthless notes into bank accounts.

The reason the government took this radical step is to reduce tax evasion. India has a massive corruption problem where only 1% of people pay income tax, largely because transactions go unrecorded because they take place in cash.

The move is designed to make people deposit their cash in banks and to make more future transactions through the banking system.

Those who deposit large amounts will be asked to prove they paid tax, or be taxed on it. From then on transactions will largely have to be transparent through the banking system as people can only obtain a limited amount of cash in new notes. Therefore in the future they can be taxed fairly.

This is a bold attempt to deal with the informal or black economy. Developing countries lack the tax base to raise the money governments need to fund infrastructure and other development projects. Of course it is unclear whether the Indian governments bold (reckless?) plan will work.

The BBC explain the motives here

This is an article that is relevant to Development Economics, the last topic in the IB syllabus. However it is well worth looking at now for use later. 

New minimum wage rates - good or bad for the British economy?

The UK today introduced a new 'National Living Wage' which is effectively a minimum wage. The UK already has a minimum wage, but that's 50p less an hour.

There is a great deal of support for this move, but also a great deal of opposition.

Those who support the 'Living Wage' argue that the present minimum wage is insufficient to provide workers and their families with a reasonable standard of living. This is where the term 'Living wage' comes from.

Those who oppose the move say that many workers will lose their jobs or be forced to accept shorter hours as employers cannot afford the higher wage rate. They suggest that the market won't support the employment levels currently enjoyed at the higher wage rate.

The economics of this can can complex, but the diagram below shows the most basic analysis.

 In the diagram above the free market wage rate is 0W* and 0N* hours of labour are hired by firms. Suppose that the National Living Wage (NLW) is introduced at 0WH. As this new NLW is above the market rate the effect on employment will be detrimental with hours of labour employed falling to 0Nd. Those who remain in work will, of course, be better off, but this is cold comfort for those who loose their jobs.

If the new NLW is imposed at 0WL then there is no effect on employment at all. Workers will continue to be paid the higher open market rate.

The BBC article below shows the situation is far from this simple. Here are a few considerations.

* There are people earning less than the new NLW. How could they be earning less than the free market rate (0W*) at present? Possibly because of an imbalance of power between employer and employee meaning the employer can exploit the weak position of such workers (perhaps in a non-unionised industry). In this case the employers are being forced to pay a fairer wage rate.

* If the new NLW is above the market rate how many workers might lose their jobs? This will depend on the elasticity of demand for labour and this in turn depends on the elasticity of demand for the product they produce (derived demand).

* Looking at the BBC article shows that different regions of the UK will see different proportions of the workforce affects receiving pay rises. The distribution of gains between regions will be very different therefore on real incomes and hours worked. Overall their may be an improvement in the equality of the distribution of income, this can be measured by the gini-coefficient.

* In the short run there may be job losses due to the higher NLW. In the long run the improved standard of living may result in high overall benefits to society (lower government spending, improved productivity etc.) 

There are many aspects of the introduction of the NLW to consider. Issues are rarely as simple as they first appear and further consideration often draws us to a different conclusion.

The BBC article is here  

 This article is more likely to be useful to IB students than VCE. However VCE students can still look at it as an application of demand and supply analysis. For IB students the evaluation of a measure is very important and this needs to be based on analysis (explaining using theory). Ther are numerous ways the initial demand and supply analysis could be developed.