Financial risk management is the practice of creating economic value in a firm by using financial instruments to manage exposure to risk, particularly credit risk and market risk. Other types include Foreign exchange, Shape, Volatility, Sector, Liquidity, Inflation risks, etc. Similar to general risk management, financial risk management requires identifying its sources, measuring it, and plans to address them. Financial risk management can be qualitative and quantitative. As a specialization of risk management, financial risk management focuses on when and how to hedge using financial instruments to manage costly exposures to risk.
In the banking sector worldwide, the Basel Accords are generally adopted by internationally active banks for tracking, reporting and exposing operational, credit and market risks.
Contents [hide]
1 When to use financial risk management
2 References
3 See also
4 External links
[edit] When to use financial risk management
Finance theory (i.e., financial economics) prescribes that a firm should take on a project when it increases shareholder value. Finance theory also shows that firm managers cannot create value for shareholders, also called its investors, by taking on projects that shareholders could do for themselves at the same cost. When applied to financial risk management, this implies that firm managers should not hedge risks that investors can hedge for themselves at the same cost. This notion is captured by the hedging irrelevance proposition: In a perfect market, the firm cannot create value by hedging a risk when the price of bearing that risk within the firm is the same as the price of bearing it outside of the firm. In practice, financial markets are not likely to be perfect markets. This suggests that firm managers likely have many opportunities to create value for shareholders using financial risk management. The trick is to determine which risks are cheaper for the firm to manage than the shareholders. A general rule of thumb, however, is that market risks that result in unique risks for the firm are the best candidates for financial risk management.
[edit] References
Crockford, Neil (1986). An Introduction to Risk Management (2nd ed.). Woodhead-Faulkner. ISBN 0-85941-332-2.
Charles, Tapiero (2004). Risk and Financial Management: Mathematical and Computational Methods. John Wiley & Son. ISBN 0-470-84908-8.
Lam, James (2003). Enterprise Risk Management: From Incentives to Controls. John Wiley. ISBN 978-0471430001.
van Deventer, Donald R., Kenji Imai and Mark Mesler (2004). Advanced Financial Risk Management: Tools and Techniques for Integrated Credit Risk and Interest Rate Risk Management. John Wiley. ISBN 978-0470821268.
Wednesday, May 27, 2009
Tuesday, May 26, 2009
Marketing strategy
A marketing strategy[1][2] is a process that can allow an organization to concentrate its limited resources on the greatest opportunities to increase sales and achieve a sustainable competitive advantage[3]. A marketing strategy should be centered around the key concept that customer satisfaction is the main goal.
Contents
1 Key part of the general corporate strategy
2 Tactics and actions
3 Types of strategies
4 Strategic models
5 See also
6 References
7 Further reading
[edit] Key part of the general corporate strategy
This article needs additional citations for verification.
Please help improve this article by adding reliable references. Unsourced material may be challenged and removed. (June 2008)
A marketing strategy is most effective when it is an integral component of firm strategy, defining how the organization will successfully engage customers, prospects, and competitors in the market arena. Corporate strategies, corporate missions, and corporate goals. As the customer constitutes the source of a company's revenue, marketing strategy is closely linked with sales. A key component of marketing strategy is often to keep marketing in line with a company's overarching mission statement[4].
Basic theory:
Target Audience
Proposition/Key Element
Implementation
The Five D's
[edit] Tactics and actions
A marketing strategy can serve as the foundation of a marketing plan. A marketing plan contains a set of specific actions required to successfully implement a marketing strategy. For example: "Use a low cost product to attract consumers. Once our organization, via our low cost product, has established a relationship with consumers, our organization will sell additional, higher-margin products and services that enhance the consumer's interaction with the low-cost product or service."
A strategy consists of a well thought out series of tactics to make a marketing plan more effective. Marketing strategies serve as the fundamental underpinning of marketing plans designed to fill market needs and reach marketing objectives[5]. Plans and objectives are generally tested for measurable results.
A marketing strategy often integrates an organization's marketing goals, policies, and action sequences (tactics) into a cohesive whole. Similarly, the various strands of the strategy , which might include advertising, channel marketing, internet marketing, promotion and public relations can be orchestrated. Many companies cascade a strategy throughout an organization, by creating strategy tactics that then become strategy goals for the next level or group. Each one group is expected to take that strategy goal and develop a set of tactics to achieve that goal. This is why it is important to make each strategy goal measurable.
Marketing strategies are dynamic and interactive. They are partially planned and partially unplanned. See strategy dynamics.
[edit] Types of strategies
This article needs additional citations for verification.
Please help improve this article by adding reliable references. Unsourced material may be challenged and removed. (June 2008)
Marketing strategies may differ depending on the unique situation of the individual business. However there are a number of ways of categorizing some generic strategies. A brief description of the most common categorizing schemes is presented below:
Strategies based on market dominance - In this scheme, firms are classified based on their market share or dominance of an industry. Typically there are three types of market dominance strategies:
Leader
Challenger
Follower
Porter generic strategies - strategy on the dimensions of strategic scope and strategic strength. Strategic scope refers to the market penetration while strategic strength refers to the firm’s sustainable competitive advantage.
Product differentiation
Market segmentation
Innovation strategies - This deals with the firm's rate of the new product development and business model innovation. It asks whether the company is on the cutting edge of technology and business innovation. There are three types:
Pioneers
Close followers
Late followers
Growth strategies - In this scheme we ask the question, “How should the firm grow?”. There are a number of different ways of answering that question, but the most common gives four answers:
Horizontal integration
Vertical integration
Diversification
Intensification
A more detailed scheme uses the categories [6]:
Prospector
Analyzer
Defender
Reactor
Marketing warfare strategies - This scheme draws parallels between marketing strategies and military strategies.
[edit] Strategic models
This article needs additional citations for verification.
Please help improve this article by adding reliable references. Unsourced material may be challenged and removed. (June 2008)
Marketing participants often employ strategic models and tools to analyze marketing decisions. When beginning a strategic analysis, the 3Cs can be employed to get a broad understanding of the strategic environment. An Ansoff Matrix is also often used to convey an organization's strategic positioning of their marketing mix. The 4Ps can then be utilized to form a marketing plan to pursue a defined strategy.
Marketing in Practice
The Consumer-Centric Business
There are a many companies especially those in the Consumer Package Goods (CPG) market that adopt the theory of running their business centered around Consumer, Shopper & Retailer needs. Their Marketing departments spend quality time looking for "Growth Opportunities" in their categories by identifying relevant insights (both mindsets and behaviors) on their target Consumers, Shoppers and retail partners. These Growth Opportunities emerge from changes in market trends, segment dynamics changing and also internal brand or operational business challenges.The Marketing team can then prioritize these Growth Opportunities and begin to develop strategies to exploit the opportunities that could include new or adapted products, services as well as changes to the 7Ps.
Real-life marketing primarily revolves around the application of a great deal of common-sense; dealing with a limited number of factors, in an environment of imperfect information and limited resources complicated by uncertainty and tight timescales. Use of classical marketing techniques, in these circumstances, is inevitably partial and uneven.
Aldred Riachi Ph.D Developed a new strategic approach called the Five D's of competitive Advantage. The model emphasized on adopting the following: Develope, Distinguish, Diagnose, Decisiveness and Doctrine.
Thus, for example, many new products will emerge from irrational processes and the rational development process may be used (if at all) to screen out the worst non-runners. The design of the advertising, and the packaging, will be the output of the creative minds employed; which management will then screen, often by 'gut-reaction', to ensure that it is reasonable.
For most of their time, marketing managers use intuition and experience to analyze and handle the complex, and unique, situations being faced; without easy reference to theory. This will often be 'flying by the seat of the pants', or 'gut-reaction'; where the overall strategy, coupled with the knowledge of the customer which has been absorbed almost by a process of osmosis, will determine the quality of the marketing employed. This, almost instinctive management, is what is sometimes called 'coarse marketing'; to distinguish it from the refined, aesthetically pleasing, form favored by the theorists.
[edit] See also
Business model
Customer engagement
Market Segmentation
[edit] References
^ UK govt businesslink marketing strategy guide.
^ Marketbut strategy Australian administration small business guide.
^ Baker, Michael (2008), The Strategic Marketing Plan Audit, Cambridge Strategy Publications, p. 3, ISBN 978-1-902433-99-8
^ Baker, Michael (2008), The Strategic Marketing Plan Audit, Cambridge Strategy Publications, p. 27, ISBN 978-1-902433-99-8
^ Marketing basics Marketing strategy based on market needs, targets and goals.
^ 12Manage (2009). [http://www.12manage.com/methods_miles_snow_four_strategic_types.html Four Strategic Types (Raymond Miles and Charles Snow)]
Contents
1 Key part of the general corporate strategy
2 Tactics and actions
3 Types of strategies
4 Strategic models
5 See also
6 References
7 Further reading
[edit] Key part of the general corporate strategy
This article needs additional citations for verification.
Please help improve this article by adding reliable references. Unsourced material may be challenged and removed. (June 2008)
A marketing strategy is most effective when it is an integral component of firm strategy, defining how the organization will successfully engage customers, prospects, and competitors in the market arena. Corporate strategies, corporate missions, and corporate goals. As the customer constitutes the source of a company's revenue, marketing strategy is closely linked with sales. A key component of marketing strategy is often to keep marketing in line with a company's overarching mission statement[4].
Basic theory:
Target Audience
Proposition/Key Element
Implementation
The Five D's
[edit] Tactics and actions
A marketing strategy can serve as the foundation of a marketing plan. A marketing plan contains a set of specific actions required to successfully implement a marketing strategy. For example: "Use a low cost product to attract consumers. Once our organization, via our low cost product, has established a relationship with consumers, our organization will sell additional, higher-margin products and services that enhance the consumer's interaction with the low-cost product or service."
A strategy consists of a well thought out series of tactics to make a marketing plan more effective. Marketing strategies serve as the fundamental underpinning of marketing plans designed to fill market needs and reach marketing objectives[5]. Plans and objectives are generally tested for measurable results.
A marketing strategy often integrates an organization's marketing goals, policies, and action sequences (tactics) into a cohesive whole. Similarly, the various strands of the strategy , which might include advertising, channel marketing, internet marketing, promotion and public relations can be orchestrated. Many companies cascade a strategy throughout an organization, by creating strategy tactics that then become strategy goals for the next level or group. Each one group is expected to take that strategy goal and develop a set of tactics to achieve that goal. This is why it is important to make each strategy goal measurable.
Marketing strategies are dynamic and interactive. They are partially planned and partially unplanned. See strategy dynamics.
[edit] Types of strategies
This article needs additional citations for verification.
Please help improve this article by adding reliable references. Unsourced material may be challenged and removed. (June 2008)
Marketing strategies may differ depending on the unique situation of the individual business. However there are a number of ways of categorizing some generic strategies. A brief description of the most common categorizing schemes is presented below:
Strategies based on market dominance - In this scheme, firms are classified based on their market share or dominance of an industry. Typically there are three types of market dominance strategies:
Leader
Challenger
Follower
Porter generic strategies - strategy on the dimensions of strategic scope and strategic strength. Strategic scope refers to the market penetration while strategic strength refers to the firm’s sustainable competitive advantage.
Product differentiation
Market segmentation
Innovation strategies - This deals with the firm's rate of the new product development and business model innovation. It asks whether the company is on the cutting edge of technology and business innovation. There are three types:
Pioneers
Close followers
Late followers
Growth strategies - In this scheme we ask the question, “How should the firm grow?”. There are a number of different ways of answering that question, but the most common gives four answers:
Horizontal integration
Vertical integration
Diversification
Intensification
A more detailed scheme uses the categories [6]:
Prospector
Analyzer
Defender
Reactor
Marketing warfare strategies - This scheme draws parallels between marketing strategies and military strategies.
[edit] Strategic models
This article needs additional citations for verification.
Please help improve this article by adding reliable references. Unsourced material may be challenged and removed. (June 2008)
Marketing participants often employ strategic models and tools to analyze marketing decisions. When beginning a strategic analysis, the 3Cs can be employed to get a broad understanding of the strategic environment. An Ansoff Matrix is also often used to convey an organization's strategic positioning of their marketing mix. The 4Ps can then be utilized to form a marketing plan to pursue a defined strategy.
Marketing in Practice
The Consumer-Centric Business
There are a many companies especially those in the Consumer Package Goods (CPG) market that adopt the theory of running their business centered around Consumer, Shopper & Retailer needs. Their Marketing departments spend quality time looking for "Growth Opportunities" in their categories by identifying relevant insights (both mindsets and behaviors) on their target Consumers, Shoppers and retail partners. These Growth Opportunities emerge from changes in market trends, segment dynamics changing and also internal brand or operational business challenges.The Marketing team can then prioritize these Growth Opportunities and begin to develop strategies to exploit the opportunities that could include new or adapted products, services as well as changes to the 7Ps.
Real-life marketing primarily revolves around the application of a great deal of common-sense; dealing with a limited number of factors, in an environment of imperfect information and limited resources complicated by uncertainty and tight timescales. Use of classical marketing techniques, in these circumstances, is inevitably partial and uneven.
Aldred Riachi Ph.D Developed a new strategic approach called the Five D's of competitive Advantage. The model emphasized on adopting the following: Develope, Distinguish, Diagnose, Decisiveness and Doctrine.
Thus, for example, many new products will emerge from irrational processes and the rational development process may be used (if at all) to screen out the worst non-runners. The design of the advertising, and the packaging, will be the output of the creative minds employed; which management will then screen, often by 'gut-reaction', to ensure that it is reasonable.
For most of their time, marketing managers use intuition and experience to analyze and handle the complex, and unique, situations being faced; without easy reference to theory. This will often be 'flying by the seat of the pants', or 'gut-reaction'; where the overall strategy, coupled with the knowledge of the customer which has been absorbed almost by a process of osmosis, will determine the quality of the marketing employed. This, almost instinctive management, is what is sometimes called 'coarse marketing'; to distinguish it from the refined, aesthetically pleasing, form favored by the theorists.
[edit] See also
Business model
Customer engagement
Market Segmentation
[edit] References
^ UK govt businesslink marketing strategy guide.
^ Marketbut strategy Australian administration small business guide.
^ Baker, Michael (2008), The Strategic Marketing Plan Audit, Cambridge Strategy Publications, p. 3, ISBN 978-1-902433-99-8
^ Baker, Michael (2008), The Strategic Marketing Plan Audit, Cambridge Strategy Publications, p. 27, ISBN 978-1-902433-99-8
^ Marketing basics Marketing strategy based on market needs, targets and goals.
^ 12Manage (2009). [http://www.12manage.com/methods_miles_snow_four_strategic_types.html Four Strategic Types (Raymond Miles and Charles Snow)]
Read Old Books to Think Great Thoughts
Today there is more to read than ever. Traditional and social news sites are filled with the latest buzz stories repeated ad nauseam. One is pressed to keep up. Amid the endless competition to make headlines and build traffic there is no enduring value.
When I read exclusively new material for an extended period I lose confidence. Each story seems to blend together into meaningless jargon. I feel empty and depressed. Nothing matters because whatever I learn today will be old news tomorrow. If you are someone searching for meaning in life, I am sure you have felt this way as well.
Whenever this happens, I have learned to turn back to the classics, the old enduring books that have stood the test of time and retain their luster. The common perception of old books is that they are antiquated and useless. Nothing could be farther from the truth. We believe, with our technology, that we have reinvented life. But this is not the case. The gadgets that surround us are minor details, the essence of life remains unchanged. It feels the same to be alive today as it did a thousand years ago. Look into yourself and you will know this is true. We are still lone souls confined to our thoughts, facing the same challenges.
Everything has its particular place. Old books cannot give you the weather forecast or teach you to write a javascript. But what they will teach you is how to live. They will teach you what it means to be human. They will give you a firm place to stand against the assault of constant change. The wisdom of the greatest human minds passed down through centuries is our most reliable asset.
I am not alone in this opinion. I leave you with this passage from the immortal Albert Einstein.
Somebody who reads only newspapers and at best the books of contemporary authors looks to me like an extremely nearsighted person who scorns eyeglasses. He is completely dependent on the prejudices and fashions of his times, since he never gets to see or hear anything else. And what a person thinks on his own without being stimulated by the thoughts and experiences of other people is even in the best case rather paltry and monotonous.
There are only a few enlightened people with a lucid mind and style and with good taste with a century. What has been preserved of their work belongs among the most precious possessions of mankind.
Nothing is more needed than to overcome the modernist’s snobbishness.
When I read exclusively new material for an extended period I lose confidence. Each story seems to blend together into meaningless jargon. I feel empty and depressed. Nothing matters because whatever I learn today will be old news tomorrow. If you are someone searching for meaning in life, I am sure you have felt this way as well.
Whenever this happens, I have learned to turn back to the classics, the old enduring books that have stood the test of time and retain their luster. The common perception of old books is that they are antiquated and useless. Nothing could be farther from the truth. We believe, with our technology, that we have reinvented life. But this is not the case. The gadgets that surround us are minor details, the essence of life remains unchanged. It feels the same to be alive today as it did a thousand years ago. Look into yourself and you will know this is true. We are still lone souls confined to our thoughts, facing the same challenges.
Everything has its particular place. Old books cannot give you the weather forecast or teach you to write a javascript. But what they will teach you is how to live. They will teach you what it means to be human. They will give you a firm place to stand against the assault of constant change. The wisdom of the greatest human minds passed down through centuries is our most reliable asset.
I am not alone in this opinion. I leave you with this passage from the immortal Albert Einstein.
Somebody who reads only newspapers and at best the books of contemporary authors looks to me like an extremely nearsighted person who scorns eyeglasses. He is completely dependent on the prejudices and fashions of his times, since he never gets to see or hear anything else. And what a person thinks on his own without being stimulated by the thoughts and experiences of other people is even in the best case rather paltry and monotonous.
There are only a few enlightened people with a lucid mind and style and with good taste with a century. What has been preserved of their work belongs among the most precious possessions of mankind.
Nothing is more needed than to overcome the modernist’s snobbishness.
Improve Your Personal Effectiveness by Finding Balance
To go past the mark is as wrong as to fall short.
-Confucius
Could you believe that the ideal person is never the best at anything? Our heads are so full of delusions about wealth and power that we run ourselves ragged trying to out do each other. We spin our wheels until we burn ourselves out and are left hopeless and exhausted.
There is great pressure to attain the highest level of achievement. We want to be the richest, most beautiful, and most well-liked because these virtues are glorified. But by indulging our vanity we do ourselves more harm than good. The only way to achieve sustainable happiness is to practice the Golden Mean.
The idea of the Golden Mean has existed for thousands of years. It is at the core of both Eastern and Western philosophy and is central to the teachings of Aristotle and Confucius. The idea is simple. Every quality has extremes at both ends. The Golden Mean is the natural balance between these extremes. At this harmonious point goodness and beauty are achieved.
Socrates used the example of extreme devotion to athletics versus extreme devotion to music to illustrate this idea. The athlete becomes overly aggressive and ferocious, while the musician becomes overly soft and effeminate. The ideal is someone who practices both athletics and music in moderation and acquires a harmonious mixture of both qualities.
Consider an example from modern times that I’m sure everyone has observed. The first person is extremely career driven. Each day he focuses on advancing himself. He spends long hours at the office, competes mercilessly with his coworkers, and flatters his superiors. As a result he has almost no personal life. The second person’s only pursuit is leisure. He likes to waste time with his friends watching television and playing video games.
Which of these persons is superior? Many people would argue for the hard worker. But at second glance his life is rather cold. His obsession with success has alienated his coworkers and left him without a family. He may become rich, but how will he enjoy it? The second man is no better. He has wasted his life in laziness. He has refused to develop himself and exists as a parasitic leech. Both men are worthy of pity.
I think we’d all agree the ideal would be somewhere in between these two people. So how do we find the elusive Golden Mean? The bad news: it takes years of trial and error get it perfect, but fortunately, we can all improve if we try.
It all starts with setting the right goals. Whenever you make a goal you need to do it with the right intention. Don’t set goals with the intent to dominate other people. This type of goal setting is ego driven and pulls you away from the mean. Instead, try to start with a goal that is in between total selfishness and total selflessness. If you are helping yourself and other people at the same time you can draw motivation from your ego driven side and from the part of you that wants to work for the common good. This type of goal setting is effective because whenever you start to lose motivation in one area you can draw from the other.
The next step to reaching the Golden Mean is knowing your limits. You need to know when that next drink is going to put you over the edge or when one more project is going to stress you out. The idea is to maintain balance at all times. You need to police yourself to avoid extremity. If you know when you are inclined to stray you have a head start on achieving balance.
Another step to achieving the Golden Mean is being aware of your personal needs. Sure we need money and success, but having good relationships with friends and family are just as important. Whenever you find yourself unhappy, take a moment to reflect on the reason. You will likely find that you have drifted over to one extreme and are feeling the consequences.
I know the Golden Mean is hard to live by, but it is the key to finding your inner confidence. Ben Franklin said, “The wise learn from the mistakes of others, fools, scarcely from their own.” Next time you find yourself willing to do anything to be the best of the best, take a moment to reconsider. You may find it is better to be the best “you” you can be.
-Confucius
Could you believe that the ideal person is never the best at anything? Our heads are so full of delusions about wealth and power that we run ourselves ragged trying to out do each other. We spin our wheels until we burn ourselves out and are left hopeless and exhausted.
There is great pressure to attain the highest level of achievement. We want to be the richest, most beautiful, and most well-liked because these virtues are glorified. But by indulging our vanity we do ourselves more harm than good. The only way to achieve sustainable happiness is to practice the Golden Mean.
The idea of the Golden Mean has existed for thousands of years. It is at the core of both Eastern and Western philosophy and is central to the teachings of Aristotle and Confucius. The idea is simple. Every quality has extremes at both ends. The Golden Mean is the natural balance between these extremes. At this harmonious point goodness and beauty are achieved.
Socrates used the example of extreme devotion to athletics versus extreme devotion to music to illustrate this idea. The athlete becomes overly aggressive and ferocious, while the musician becomes overly soft and effeminate. The ideal is someone who practices both athletics and music in moderation and acquires a harmonious mixture of both qualities.
Consider an example from modern times that I’m sure everyone has observed. The first person is extremely career driven. Each day he focuses on advancing himself. He spends long hours at the office, competes mercilessly with his coworkers, and flatters his superiors. As a result he has almost no personal life. The second person’s only pursuit is leisure. He likes to waste time with his friends watching television and playing video games.
Which of these persons is superior? Many people would argue for the hard worker. But at second glance his life is rather cold. His obsession with success has alienated his coworkers and left him without a family. He may become rich, but how will he enjoy it? The second man is no better. He has wasted his life in laziness. He has refused to develop himself and exists as a parasitic leech. Both men are worthy of pity.
I think we’d all agree the ideal would be somewhere in between these two people. So how do we find the elusive Golden Mean? The bad news: it takes years of trial and error get it perfect, but fortunately, we can all improve if we try.
It all starts with setting the right goals. Whenever you make a goal you need to do it with the right intention. Don’t set goals with the intent to dominate other people. This type of goal setting is ego driven and pulls you away from the mean. Instead, try to start with a goal that is in between total selfishness and total selflessness. If you are helping yourself and other people at the same time you can draw motivation from your ego driven side and from the part of you that wants to work for the common good. This type of goal setting is effective because whenever you start to lose motivation in one area you can draw from the other.
The next step to reaching the Golden Mean is knowing your limits. You need to know when that next drink is going to put you over the edge or when one more project is going to stress you out. The idea is to maintain balance at all times. You need to police yourself to avoid extremity. If you know when you are inclined to stray you have a head start on achieving balance.
Another step to achieving the Golden Mean is being aware of your personal needs. Sure we need money and success, but having good relationships with friends and family are just as important. Whenever you find yourself unhappy, take a moment to reflect on the reason. You will likely find that you have drifted over to one extreme and are feeling the consequences.
I know the Golden Mean is hard to live by, but it is the key to finding your inner confidence. Ben Franklin said, “The wise learn from the mistakes of others, fools, scarcely from their own.” Next time you find yourself willing to do anything to be the best of the best, take a moment to reconsider. You may find it is better to be the best “you” you can be.
Overcoming a Loss of Motivation
How many times have you started a new activity (such as a personal project or exercise routine) with a burst of enthusiasm, only to see that initial momentum evaporate? This often leads to depression and causes us to give up prematurely. I’ve experienced this letdown dozens of times myself. But fortunately, with a bit of thought and reflection you can turn this negative emotion around.
The key to harnessing your emotions is understanding them. The natural pattern of human emotion is peaks and valleys. When we start a new project we’re filled with tremendous optimism. All we can think about is the expected benefits, and since we haven’t started yet, we aren’t aware of the difficulties involved. This natural high causes a surge of mental and physical activity. The peak is a great thing because the energy boost gets projects off the ground. If you’re a creative type like me, you know that this period is euphoric. You feel like nothing can stop you.
The downside of this surge of energy is that it inevitably ends. Exerting large amounts of energy wears you down, and after the initial optimism wears off we feel extremely tired. However high you started off, you fall down just as low. This causes a loss of confidence. The combination of fatigue, scant results, and an awareness of impending adversity makes us want to give up. From personal experience I’ve learned a few ways to hold strong against negativity.
Be Prepared for a Letdown
Emotions, by nature, lose their power when we understand them. Prove this to yourself. Next time you get angry, take a moment to reflect on the reason behind the emotion. When I step back and reflect, it’s easy to see that my anger is caused by insecurity/selfishness/jealousy etc. After I understand the cause my anger fades away.
The same technique applies to a loss of motivation. Instead of giving into negativity, step back and analyze. Look at the causes. Are you tired, burned out, disappointed by the results? Are these feelings justified, or are they a by product of a low point in the emotional spectrum?
To illustrate these ideas, I’ll use my most recent project as an example, the creation of this site. When I launched Pick the Brain it took an enormous amount of effort. I was completely new to blogging, web design, and traffic building so there was a steep learning curve. Writing new posts, setting up the site, and trying to build traffic took up nearly all my free time. After about three weeks I was completely burned out. I got depressed and started to question if the site was worth the effort. I wasn’t seeing any returns and I started to find enormous faults in my writing and the purpose of the site. There were moments when I was resigned to failure.
One reason I was able to overcome this loss of motivation is that I prepared myself for a letdown. Beforehand, I researched blogging and learned that it generally takes 9-12 months before a site begins to see significant traffic. Knowing that my lack of success was perfectly normal helped me get over it. The same is true for other endeavors. If you know losing 20 pounds in a month is unrealistic, you’ll be able to accept losing only 5 more easily.
I also knew my own emotions and was prepared for the initial emotional peak to pass. When I was first inspired to launch a website, my expectations were through the roof. Dreams of AdSense revenue danced in my head and I pictured throngs of loyal readers as if they already existed. But because I understand my emotional pattern, I realized this optimism would give way to depression. In the back of my mind, I foresaw the impending motivational battle, and when it came I was ready.
Reevaluate Your Strategy and Motivation
The passing of the emotional peak is a blessing in disguise because it allows us to reevaluate our plans from a fresh perspective. At first we are blinded by our own optimism. When we lose our motivation we can see gaping holes our in plan. We can either get down on ourselves and give up, or we can use this negative emotion to discover our faults and correct them. After I pulled myself out of the motivational cellar, I went back to all the negatives thoughts I’d had and applied them to improving the site. Having a pessimistic attitude opened my eyes. It made me realistic about my abilities and expectations. Emotional valleys bring us back to reality. Without them we’d be raving lunatics with unlimited self-confidence.
Use a loss of motivation as an opportunity to reconsider what your motivation really is. One reason I lost motivation is that I became too concerned with the financial aspect of blogging and lost sight of the real reason I started: sharing my passion for self improvement and the pursuit of happiness. When I realigned my motivation with my passion, the lack of results didn’t matter. My motivation returned because I realized connecting with people through my writing is an end in itself. Even if this site never makes I dime, sharing my ideas and experiences to help other people is worth the effort.
In truth, sometimes giving up is the right decision. If you started doing something for the wrong reasons you’ll likely lose your motivation. This is a good thing. It allows us to see what really motivates us. In these cases, the best choice is to move on to a new endeavor. Don’t fight self doubt, use it for your benefit.
Conclusion
Dealing with emotional highs and lows is an experience common to all people. We generally accept our emotions as beyond our control. They are powerful and mysterious and appear quite irrational. But if we contemplate our emotions, if we explore the inner workings of our minds, we find that like all things, emotions obey the law of cause and effect. Armed with this knowledge, we can continue to allow our emotions to dominate our lives, or we can use them to our benefit.
Don’t be surprised by a loss of motivation and don’t be disappointed by it. Understand it as natural effect of the human mind, and utilize this knowledge of self to make your emotions work for you.
The key to harnessing your emotions is understanding them. The natural pattern of human emotion is peaks and valleys. When we start a new project we’re filled with tremendous optimism. All we can think about is the expected benefits, and since we haven’t started yet, we aren’t aware of the difficulties involved. This natural high causes a surge of mental and physical activity. The peak is a great thing because the energy boost gets projects off the ground. If you’re a creative type like me, you know that this period is euphoric. You feel like nothing can stop you.
The downside of this surge of energy is that it inevitably ends. Exerting large amounts of energy wears you down, and after the initial optimism wears off we feel extremely tired. However high you started off, you fall down just as low. This causes a loss of confidence. The combination of fatigue, scant results, and an awareness of impending adversity makes us want to give up. From personal experience I’ve learned a few ways to hold strong against negativity.
Be Prepared for a Letdown
Emotions, by nature, lose their power when we understand them. Prove this to yourself. Next time you get angry, take a moment to reflect on the reason behind the emotion. When I step back and reflect, it’s easy to see that my anger is caused by insecurity/selfishness/jealousy etc. After I understand the cause my anger fades away.
The same technique applies to a loss of motivation. Instead of giving into negativity, step back and analyze. Look at the causes. Are you tired, burned out, disappointed by the results? Are these feelings justified, or are they a by product of a low point in the emotional spectrum?
To illustrate these ideas, I’ll use my most recent project as an example, the creation of this site. When I launched Pick the Brain it took an enormous amount of effort. I was completely new to blogging, web design, and traffic building so there was a steep learning curve. Writing new posts, setting up the site, and trying to build traffic took up nearly all my free time. After about three weeks I was completely burned out. I got depressed and started to question if the site was worth the effort. I wasn’t seeing any returns and I started to find enormous faults in my writing and the purpose of the site. There were moments when I was resigned to failure.
One reason I was able to overcome this loss of motivation is that I prepared myself for a letdown. Beforehand, I researched blogging and learned that it generally takes 9-12 months before a site begins to see significant traffic. Knowing that my lack of success was perfectly normal helped me get over it. The same is true for other endeavors. If you know losing 20 pounds in a month is unrealistic, you’ll be able to accept losing only 5 more easily.
I also knew my own emotions and was prepared for the initial emotional peak to pass. When I was first inspired to launch a website, my expectations were through the roof. Dreams of AdSense revenue danced in my head and I pictured throngs of loyal readers as if they already existed. But because I understand my emotional pattern, I realized this optimism would give way to depression. In the back of my mind, I foresaw the impending motivational battle, and when it came I was ready.
Reevaluate Your Strategy and Motivation
The passing of the emotional peak is a blessing in disguise because it allows us to reevaluate our plans from a fresh perspective. At first we are blinded by our own optimism. When we lose our motivation we can see gaping holes our in plan. We can either get down on ourselves and give up, or we can use this negative emotion to discover our faults and correct them. After I pulled myself out of the motivational cellar, I went back to all the negatives thoughts I’d had and applied them to improving the site. Having a pessimistic attitude opened my eyes. It made me realistic about my abilities and expectations. Emotional valleys bring us back to reality. Without them we’d be raving lunatics with unlimited self-confidence.
Use a loss of motivation as an opportunity to reconsider what your motivation really is. One reason I lost motivation is that I became too concerned with the financial aspect of blogging and lost sight of the real reason I started: sharing my passion for self improvement and the pursuit of happiness. When I realigned my motivation with my passion, the lack of results didn’t matter. My motivation returned because I realized connecting with people through my writing is an end in itself. Even if this site never makes I dime, sharing my ideas and experiences to help other people is worth the effort.
In truth, sometimes giving up is the right decision. If you started doing something for the wrong reasons you’ll likely lose your motivation. This is a good thing. It allows us to see what really motivates us. In these cases, the best choice is to move on to a new endeavor. Don’t fight self doubt, use it for your benefit.
Conclusion
Dealing with emotional highs and lows is an experience common to all people. We generally accept our emotions as beyond our control. They are powerful and mysterious and appear quite irrational. But if we contemplate our emotions, if we explore the inner workings of our minds, we find that like all things, emotions obey the law of cause and effect. Armed with this knowledge, we can continue to allow our emotions to dominate our lives, or we can use them to our benefit.
Don’t be surprised by a loss of motivation and don’t be disappointed by it. Understand it as natural effect of the human mind, and utilize this knowledge of self to make your emotions work for you.
How to Achieve Your Goals with Healthy Habits
Note: This is a guest post by Leo Babauta who blogs at Zen Habits about setting goals, creating habits, productivity, GTD, motivation, exercise and more.
We’ve all faced the disappointment and guilt that comes from setting a goal and giving up on it after a couple of weeks. Sustaining motivation for a long-term goal is hard to achieve, and yet the best goals can usually only be accomplished in a few months or even years.
Here’s the solution: Focus instead on creating a new habit that will lead to achieving your goal.
Want to run a marathon? First create the habit of running every day. Want to get out of debt and start saving? Create the habit of brown bagging it to work, or watching DVDs instead of going to the movies, or whatever change will lead to saving money for you.
By focusing not on what you have to achieve over the course of the next year, but instead on what you are doing each day, you are focusing on something achievable. That little daily change will add up to a huge change, over time … and you’ll be surprised at how far you’ve come in no time. Little grains of sand can add up to a mountain over time.
I used this philosophy of habit changes to run a marathon, to change my diet and lose weight, to write a novel, to quit smoking, to become organized and productive, to double my income, reduce my debt and start saving, and to begin training for an Olympic triathlon this year. It works, if you focus on changing habits.
Now, changing your habits isn’t easy — I won’t lie to you — but it’s achievable, especially if you start small. Don’t try to change the world with your first habit change … take baby steps at first. I started by just trying to run a mile — and by the end of the year, I could run more than 20 miles.
How do you change your habits? Focus on one habit at a time, and follow these steps:
Positive changes. If you’re trying to change a negative habit (quit smoking), replace it with a positive habit (running for stress relief, for example).
Take on a 30-day challenge. Tell yourself that you’re going to do this habit every day, at the same time every day, for 30 straight days without fail. Once you’re past that 30-day mark, the habit will become much easier. If you fail, do not beat yourself up. Start again on a new 30-day challenge. Practice until you succeed.
Commit yourself completely. Don’t just tell yourself that you might or should do this. Tell the world that DEFINITELY will do this. Put yourself into this 100 percent. Tell everyone you know. Email them. Put it on your blog. Post it up at your home and work place. This positive public pressure will help motivate you.
Set up rewards. It’s best to reward yourself often the first week, and then reward yourself every week for that first month. Make sure these are good rewards, that will help motivate you to stay on track.
Plan to beat your urges. It’s best to start out by monitoring your urges, so you become more aware of them. Track them for a couple days, putting a tally mark in a small notebook every time you get an urge. Write out a plan, before you get the urges, with strategies to beat them. We all have urges to quit — how will you overcome it? What helps me most are deep breathing and drinking water. You can get through an urge — it will pass.
Track and report your progress. Keep a log or journal or chart so that you can see your progress over time. I used a running log for my marathon training, and a quit meter when I quit smoking. It’s very motivating to see how far you’ve come. Also, if you can join an online group and report your progress each day, or email family and friends on your progress, that will help motivate you.
Most important of all: Always stay positive. I learned the habit of monitoring my thoughts, and if I saw any negative thoughts (”I want to stop!”) I would squash it like a little bug, and replace it with a positive thought (”I can do this!”). It works amazingly. This is the best tip ever. If you think negative thoughts, you will definitely fail. But if you always think positive, you will definitely succeed.
We’ve all faced the disappointment and guilt that comes from setting a goal and giving up on it after a couple of weeks. Sustaining motivation for a long-term goal is hard to achieve, and yet the best goals can usually only be accomplished in a few months or even years.
Here’s the solution: Focus instead on creating a new habit that will lead to achieving your goal.
Want to run a marathon? First create the habit of running every day. Want to get out of debt and start saving? Create the habit of brown bagging it to work, or watching DVDs instead of going to the movies, or whatever change will lead to saving money for you.
By focusing not on what you have to achieve over the course of the next year, but instead on what you are doing each day, you are focusing on something achievable. That little daily change will add up to a huge change, over time … and you’ll be surprised at how far you’ve come in no time. Little grains of sand can add up to a mountain over time.
I used this philosophy of habit changes to run a marathon, to change my diet and lose weight, to write a novel, to quit smoking, to become organized and productive, to double my income, reduce my debt and start saving, and to begin training for an Olympic triathlon this year. It works, if you focus on changing habits.
Now, changing your habits isn’t easy — I won’t lie to you — but it’s achievable, especially if you start small. Don’t try to change the world with your first habit change … take baby steps at first. I started by just trying to run a mile — and by the end of the year, I could run more than 20 miles.
How do you change your habits? Focus on one habit at a time, and follow these steps:
Positive changes. If you’re trying to change a negative habit (quit smoking), replace it with a positive habit (running for stress relief, for example).
Take on a 30-day challenge. Tell yourself that you’re going to do this habit every day, at the same time every day, for 30 straight days without fail. Once you’re past that 30-day mark, the habit will become much easier. If you fail, do not beat yourself up. Start again on a new 30-day challenge. Practice until you succeed.
Commit yourself completely. Don’t just tell yourself that you might or should do this. Tell the world that DEFINITELY will do this. Put yourself into this 100 percent. Tell everyone you know. Email them. Put it on your blog. Post it up at your home and work place. This positive public pressure will help motivate you.
Set up rewards. It’s best to reward yourself often the first week, and then reward yourself every week for that first month. Make sure these are good rewards, that will help motivate you to stay on track.
Plan to beat your urges. It’s best to start out by monitoring your urges, so you become more aware of them. Track them for a couple days, putting a tally mark in a small notebook every time you get an urge. Write out a plan, before you get the urges, with strategies to beat them. We all have urges to quit — how will you overcome it? What helps me most are deep breathing and drinking water. You can get through an urge — it will pass.
Track and report your progress. Keep a log or journal or chart so that you can see your progress over time. I used a running log for my marathon training, and a quit meter when I quit smoking. It’s very motivating to see how far you’ve come. Also, if you can join an online group and report your progress each day, or email family and friends on your progress, that will help motivate you.
Most important of all: Always stay positive. I learned the habit of monitoring my thoughts, and if I saw any negative thoughts (”I want to stop!”) I would squash it like a little bug, and replace it with a positive thought (”I can do this!”). It works amazingly. This is the best tip ever. If you think negative thoughts, you will definitely fail. But if you always think positive, you will definitely succeed.
14 Ways To Procrastinate Productively
For too long I’ve sat idly by while the good name of procrastination is dragged through the muck. For the sake of getting things done we’re advised to banish, kill, and avoid procrastination without any acknowledgment of the good it’s done.
We owe procrastination. Big time. It’s responsible for our best ideas and busiest hours. Used effectively, procrastination is a powerful motivator and source of inspiration.
Structured Procrastination
Productive procrastination falls into two categories, structured and unstructured. With structured procrastination (via pmarca, via via 43F) you use the desire to avoid an important task as motivation to crank out dozens others. Anything to postpone what you really need to do, right?
Whenever I need to avoid something important, I turn to a few tasks that rarely get the attention they deserve.
Get Organized - There’s no better way to feel productive while avoiding the inevitable than organizing your home or work space. Without procrastination my desk would be perpetually cluttered and the dishes would never get done.
Network - Have a bunch of contacts you should really touch base with but don’t have the time? Procrastination is a great opportunity to politely reply to nonessential email. Taking the time to stay in touch with people pays dividends in the long-run.
Plan Ahead - The only thing better than actually doing something is thinking/talking about doing something. Take the time to identify, record, and schedule all your tasks, obviously leaving the most important for last.
Odds and Ends - Procrastination is the best time to find closure for everything that’s on your mind. Use it as an excuse to investigate and resolve issues that have been nagging you.
Meetings - If you’re not going to be productive, you might as well take other people down with you.
Errands - Need to schedule a dentist appointment? How about that oil change? Procrastination is capable of making the most tedious and trivial errands appealing.
Get Up To Date - Have a bunch of dull reports and memos you should probably read? They’re starting to look a lot more interesting.
Assist Others - If you’re not going to do your own work, you can at least deliver on the help you promised your colleague last week.
Unstructured Procrastination
Structured procrastination is a great way to keep busy, but sometimes that doesn’t cut it. When you’d rather not do anything work related, unstructured procrastination is the way to go. It might seem like laziness, but what’s wrong with that?
Unstructured procrastination is essential for recharging creative energy and allowing the unconscious mind to work on difficult problems. These are 6 productive ways to avoid work completely.
Go to Lunch - You need to eat, might as well do it now so you can’t use it as an excuse later.
Exercise - Same as lunch, with the added benefit of increased alertness.
Take a Walk - A casual walk is a great way to unburden your mind and allow great ideas to come to you.
Relax - If you feel a strong desire to procrastinate, there’s probably a reason behind it. Relax ation is important for a healthy productive lifestyle, why not do it now when you can’t get anything else done?
Come Up With a Great Idea - This one can’t exactly be completed on demand, but studies have shown that entrepreneurs and other creative people tend to get their best ideas during down time.
Read a Good Book - If you’d rather not think for yourself, you might as well absorb the great ideas someone else took the trouble to record.
We owe procrastination. Big time. It’s responsible for our best ideas and busiest hours. Used effectively, procrastination is a powerful motivator and source of inspiration.
Structured Procrastination
Productive procrastination falls into two categories, structured and unstructured. With structured procrastination (via pmarca, via via 43F) you use the desire to avoid an important task as motivation to crank out dozens others. Anything to postpone what you really need to do, right?
Whenever I need to avoid something important, I turn to a few tasks that rarely get the attention they deserve.
Get Organized - There’s no better way to feel productive while avoiding the inevitable than organizing your home or work space. Without procrastination my desk would be perpetually cluttered and the dishes would never get done.
Network - Have a bunch of contacts you should really touch base with but don’t have the time? Procrastination is a great opportunity to politely reply to nonessential email. Taking the time to stay in touch with people pays dividends in the long-run.
Plan Ahead - The only thing better than actually doing something is thinking/talking about doing something. Take the time to identify, record, and schedule all your tasks, obviously leaving the most important for last.
Odds and Ends - Procrastination is the best time to find closure for everything that’s on your mind. Use it as an excuse to investigate and resolve issues that have been nagging you.
Meetings - If you’re not going to be productive, you might as well take other people down with you.
Errands - Need to schedule a dentist appointment? How about that oil change? Procrastination is capable of making the most tedious and trivial errands appealing.
Get Up To Date - Have a bunch of dull reports and memos you should probably read? They’re starting to look a lot more interesting.
Assist Others - If you’re not going to do your own work, you can at least deliver on the help you promised your colleague last week.
Unstructured Procrastination
Structured procrastination is a great way to keep busy, but sometimes that doesn’t cut it. When you’d rather not do anything work related, unstructured procrastination is the way to go. It might seem like laziness, but what’s wrong with that?
Unstructured procrastination is essential for recharging creative energy and allowing the unconscious mind to work on difficult problems. These are 6 productive ways to avoid work completely.
Go to Lunch - You need to eat, might as well do it now so you can’t use it as an excuse later.
Exercise - Same as lunch, with the added benefit of increased alertness.
Take a Walk - A casual walk is a great way to unburden your mind and allow great ideas to come to you.
Relax - If you feel a strong desire to procrastinate, there’s probably a reason behind it. Relax ation is important for a healthy productive lifestyle, why not do it now when you can’t get anything else done?
Come Up With a Great Idea - This one can’t exactly be completed on demand, but studies have shown that entrepreneurs and other creative people tend to get their best ideas during down time.
Read a Good Book - If you’d rather not think for yourself, you might as well absorb the great ideas someone else took the trouble to record.
Monday, May 25, 2009
Employee Dissatisfaction
Employee dissatisfaction starts with a few murmurs, "Am I living in the Land of blah?" "Do promises mean nothing?" The talk soon leads to a change in behavioural patterns, resulting in probably a slowdown in work and employees saying "no" to extra work.
Executives and bosses, if you identify with the above scenarios, then you are in the danger zone, and it is time to find a necessary solution.
"I believe it is (employee angst) a very important factor as it is a natural tendency of every good employee/ top performer to grow and prosper"- Tejinder Pal SinghPartner and HeadHealthcare Practice India
Employee angst not only propagates demotivation, but often goads an individual leave the company. And you can imagine the impact, when a top performer leaves. "I believe it is (employee angst) a very important factor as it is a natural tendency of every good employee/top performer to grow and prosper," says Tejinder Pal Singh, Partner and Head-Healthcare Practice India, Transearch India. "If opportunities do not exist for such an employee, he will move on for greener pastures to satisfy those needs," he adds. What is worse, it affects productivity and overall morale. Unhappy customers and a drought of passionate employees propagate politics at work and other integrity issues, making the overall situation difficult for both, the employee and the employer. Thus companies not only have to deal with high attrition, but also have to take measures to deal with the negative vibes around.
Attention pharma!
"While for some it maybe the money, for others it is job satisfaction. It has been rightly said that in most of the cases people leave managers and not companies" - Priya Brid Senior Manager, HRMetropolis Health Services
The issue of employee angst becomes all the more relevant to the pharma and healthcare industries (more so for the pharma sector) as these are knowledge- driven sectors. Also, pharma, like its IT counterpart, is in a growth phase. "In the initial high growth time of IT, in some sense, all of us went through the same issues that pharma is facing today. In IT, now people have learnt to deal with it," elucidates Prashant Sankaran, CEO, Blueshift Technologies, an IT firm, while trying to draw comparisons between the people issues faced by the two industries. "Pharma is probably going through that phase now, but there are enough lessons to learn from what IT went through or is going through," he adds.
Attrition too, has become the mainstay of the Indian pharma industry. There has been a constant movement of the intellectual capital across companies (to and from MNCs and domestic, large and small) and across departments. Hence, the investment done by pharmacos in training the employees—in terms of time, energy and money—cannot be recovered, if they are not able to retain them. And attrition, opine HR experts, is one of the direct outcomes of dissatisfaction.
Today with changing times the reasons for quitting differ from person to person. "While for some it maybe the money, for others it is job satisfaction. It has been rightly said that in most of the cases people leave managers and not companies," states Priya Brid, Senior Manager, HR, Metropolis Health Services. "Some other critical reasons identified for quitting maybe because the work environment is not conducive, there is too much work pressure, office politics, etc., and then there are other common reasons like lack of growth opportunities, interpersonal relations, infrastructure, salary and unprofessional attitude by seniors and co workers in the company," she adds.
Additionally, as good talent is scarce, getting a good replacement especially in a buoyant market like this is extremely difficult to find and this adds on to the costs. The company in such cases loses out on good employees. "Today, with several opportunities available in the market it is very important for companies to find the root cause of such problems and work on it constructively. There is a huge paucity of talent in the industry and virtually every sector is facing the brunt of it," opines Brid.
Top Triggers of Employee Angst
· Ambiguity in role and responsibilities · Responsibility without accountability. If one has responsibility but no power to take decisions or accountability one gets demotivated as one cannot show results or move things forward. · Sometimes employees set too high/ unrealistic standards/ expectations for themselves and that too sometimes leads to angst within them. In this case if they do not have a good mentor, it may lead to a lot of stress and pressure as inability to achieve unrealistic goals may be due to circumstances beyond their control. · Lack of professionalism, lack of systems and processes also leads to employee angst. · Biased approach/favoritisms/discrimination at work · Lack of challenge in the work/lack of opportunities to move up the career ladder Courtesy: Transearch India
What breeds angst
There are many reasons for employee dissatisfaction turning into angst. Broken promises, miscommunication, lack of transparency in operations and absolutely no sync and understanding between the deliverables and rewards, can be some of the reasons for angst.
Sometimes in knowledge-intensive industries like the pharma, managers, with a view to retain a good employee end up making promises that might not be viable. When these are not fulfilled, they end up losing that employee's trust. They end up pushing him/her out of the company, when in fact they wanted to prevent just that. "At times, people do take a short-term view and say look let me buy some time and by giving him/her some promise. Sometimes line managers are not able to honour them," states Sankaran. "But if you want the employees to be happy in the long term, the HR department has to honour the promise made by anybody in the company and then put in enough controls and checks to see that people who are not authorised to make those promises. But once a promise is made, whether it is okay or not, we need to honour them," he adds.
Miscommunication between the superior, the sub-ordinate and the HR department can also lead to dissatisfaction, which, again, if not dealt with leads to angst. "Miscommunication never works if there in a long-term approach and for an organization that is serious about it's most important resource i.e. the people," expresses Singh. "This (miscommunication) raises serious questions related to integrity, ethics which can badly tarnish the image of the company," he adds.
When it comes to freezing in on the KRAs, deliverables and the growth path, then like the companies, every employee has a specific career graph in their mind, and they work assiduously towards it. "When things don't move according to their expectation it starts converting into dissatisfaction at work. If the employee has been repeatedly trying to bring this to the notice of the seniors and there has still been little action on the same their frustrations convert into angst," reveals Brid. Lack of vision, commitment, organization passion, systems and processes, empty promises, leadership that doesn't inspire confidence in the employee are important triggers of dissatisfaction and angst. No intellectual stimulation for the employee and too much of tactical behaviour without a long-term strategic intent also leads to this. While there is too much to lose, if companies do not deal with the problem of employee angst and control it, it takes very minuscule efforts on their part to deal with the same.
Finding a solution
There are several methods that companies can adapt to curtail the problem. Accessibility to the immediate superior and immediate action taken by them on the grievances is the most critical to weed out employee angst and its ill-effects.
"It is very important that at every level the employee should have the comfort to approach his/her immediate superior or the respective department head, who can help solve their grievances," pronounces Brid. "It is essential to give them a chance to talk about their concerns without anyone being biased towards them. Also management should adopt transparent ways of handling promotions, upgradation, keeping communication channel more aggressive and persistent," she adds.
It would also do well for companies to be clear and transparent with respect to employee expectations, as expectation is a mutually contributed thing. "So the company has to be very clear on what it promises to the employee and the employee has to be clear about how he/she sees that commitment or promises," says Sankaran. "It is actually the ownership of the manager and the HR team to be as realistic as possible with respect to the promises it makes to the employees," he adds. This is where the induction programme can make a difference. During the recruitment and induction stage, the manager and the HR department have to play a proactive role in spelling out to employees what they can expect. If he/she has enough clarifications, then the instances of expectations being unfulfilled will be much lesser.
Another idea that can be implemented is that of identifying good performers and then continuously keeping them challenged by understanding their aspirations and aligning them with the overall objectives and aspirations of the organization. Many organizations also assign mentors to such individuals to inspire them. Another way to keep them happy is by continuously engaging them in arduous tasks that tickle their intellect and keep them on their toes. Also by establishing appropriate reward and recognition systems in place as wealth (here income through perks) creation opportunities are always a big motivator and driver.
"If bosses and HR heads are truly convinced about the potential of the particular employee, I think they should do everything to facilitate and create an environment of joy and pride at work. Keep them challenged at work, give them opportunities to grow and prosper, invest in their training and development," expresses Tejinder Pal Singh. "Have policies and practices that foster innovation and creativity in ensuring that these gems can be accommodated and given an opportunity to perform. This would also result in both employee and job loyalty which is so rare to find in these days," he adds. Today, companies across all the knowledge intensive industries need to realise the fact that action speaks more than words-their actions and behaviour does have an impact on an employee, his attitude and his satisfaction levels in a company. Clarity and transparency will work like a glue to bind the employees and the company together. On the other hand, empty promises, lack of transparency and scant regard to their concerns, will make employees wonder if they are living in the land of blah and will give birth to the KILLER.
Executives and bosses, if you identify with the above scenarios, then you are in the danger zone, and it is time to find a necessary solution.
"I believe it is (employee angst) a very important factor as it is a natural tendency of every good employee/ top performer to grow and prosper"- Tejinder Pal SinghPartner and HeadHealthcare Practice India
Employee angst not only propagates demotivation, but often goads an individual leave the company. And you can imagine the impact, when a top performer leaves. "I believe it is (employee angst) a very important factor as it is a natural tendency of every good employee/top performer to grow and prosper," says Tejinder Pal Singh, Partner and Head-Healthcare Practice India, Transearch India. "If opportunities do not exist for such an employee, he will move on for greener pastures to satisfy those needs," he adds. What is worse, it affects productivity and overall morale. Unhappy customers and a drought of passionate employees propagate politics at work and other integrity issues, making the overall situation difficult for both, the employee and the employer. Thus companies not only have to deal with high attrition, but also have to take measures to deal with the negative vibes around.
Attention pharma!
"While for some it maybe the money, for others it is job satisfaction. It has been rightly said that in most of the cases people leave managers and not companies" - Priya Brid Senior Manager, HRMetropolis Health Services
The issue of employee angst becomes all the more relevant to the pharma and healthcare industries (more so for the pharma sector) as these are knowledge- driven sectors. Also, pharma, like its IT counterpart, is in a growth phase. "In the initial high growth time of IT, in some sense, all of us went through the same issues that pharma is facing today. In IT, now people have learnt to deal with it," elucidates Prashant Sankaran, CEO, Blueshift Technologies, an IT firm, while trying to draw comparisons between the people issues faced by the two industries. "Pharma is probably going through that phase now, but there are enough lessons to learn from what IT went through or is going through," he adds.
Attrition too, has become the mainstay of the Indian pharma industry. There has been a constant movement of the intellectual capital across companies (to and from MNCs and domestic, large and small) and across departments. Hence, the investment done by pharmacos in training the employees—in terms of time, energy and money—cannot be recovered, if they are not able to retain them. And attrition, opine HR experts, is one of the direct outcomes of dissatisfaction.
Today with changing times the reasons for quitting differ from person to person. "While for some it maybe the money, for others it is job satisfaction. It has been rightly said that in most of the cases people leave managers and not companies," states Priya Brid, Senior Manager, HR, Metropolis Health Services. "Some other critical reasons identified for quitting maybe because the work environment is not conducive, there is too much work pressure, office politics, etc., and then there are other common reasons like lack of growth opportunities, interpersonal relations, infrastructure, salary and unprofessional attitude by seniors and co workers in the company," she adds.
Additionally, as good talent is scarce, getting a good replacement especially in a buoyant market like this is extremely difficult to find and this adds on to the costs. The company in such cases loses out on good employees. "Today, with several opportunities available in the market it is very important for companies to find the root cause of such problems and work on it constructively. There is a huge paucity of talent in the industry and virtually every sector is facing the brunt of it," opines Brid.
Top Triggers of Employee Angst
· Ambiguity in role and responsibilities · Responsibility without accountability. If one has responsibility but no power to take decisions or accountability one gets demotivated as one cannot show results or move things forward. · Sometimes employees set too high/ unrealistic standards/ expectations for themselves and that too sometimes leads to angst within them. In this case if they do not have a good mentor, it may lead to a lot of stress and pressure as inability to achieve unrealistic goals may be due to circumstances beyond their control. · Lack of professionalism, lack of systems and processes also leads to employee angst. · Biased approach/favoritisms/discrimination at work · Lack of challenge in the work/lack of opportunities to move up the career ladder Courtesy: Transearch India
What breeds angst
There are many reasons for employee dissatisfaction turning into angst. Broken promises, miscommunication, lack of transparency in operations and absolutely no sync and understanding between the deliverables and rewards, can be some of the reasons for angst.
Sometimes in knowledge-intensive industries like the pharma, managers, with a view to retain a good employee end up making promises that might not be viable. When these are not fulfilled, they end up losing that employee's trust. They end up pushing him/her out of the company, when in fact they wanted to prevent just that. "At times, people do take a short-term view and say look let me buy some time and by giving him/her some promise. Sometimes line managers are not able to honour them," states Sankaran. "But if you want the employees to be happy in the long term, the HR department has to honour the promise made by anybody in the company and then put in enough controls and checks to see that people who are not authorised to make those promises. But once a promise is made, whether it is okay or not, we need to honour them," he adds.
Miscommunication between the superior, the sub-ordinate and the HR department can also lead to dissatisfaction, which, again, if not dealt with leads to angst. "Miscommunication never works if there in a long-term approach and for an organization that is serious about it's most important resource i.e. the people," expresses Singh. "This (miscommunication) raises serious questions related to integrity, ethics which can badly tarnish the image of the company," he adds.
When it comes to freezing in on the KRAs, deliverables and the growth path, then like the companies, every employee has a specific career graph in their mind, and they work assiduously towards it. "When things don't move according to their expectation it starts converting into dissatisfaction at work. If the employee has been repeatedly trying to bring this to the notice of the seniors and there has still been little action on the same their frustrations convert into angst," reveals Brid. Lack of vision, commitment, organization passion, systems and processes, empty promises, leadership that doesn't inspire confidence in the employee are important triggers of dissatisfaction and angst. No intellectual stimulation for the employee and too much of tactical behaviour without a long-term strategic intent also leads to this. While there is too much to lose, if companies do not deal with the problem of employee angst and control it, it takes very minuscule efforts on their part to deal with the same.
Finding a solution
There are several methods that companies can adapt to curtail the problem. Accessibility to the immediate superior and immediate action taken by them on the grievances is the most critical to weed out employee angst and its ill-effects.
"It is very important that at every level the employee should have the comfort to approach his/her immediate superior or the respective department head, who can help solve their grievances," pronounces Brid. "It is essential to give them a chance to talk about their concerns without anyone being biased towards them. Also management should adopt transparent ways of handling promotions, upgradation, keeping communication channel more aggressive and persistent," she adds.
It would also do well for companies to be clear and transparent with respect to employee expectations, as expectation is a mutually contributed thing. "So the company has to be very clear on what it promises to the employee and the employee has to be clear about how he/she sees that commitment or promises," says Sankaran. "It is actually the ownership of the manager and the HR team to be as realistic as possible with respect to the promises it makes to the employees," he adds. This is where the induction programme can make a difference. During the recruitment and induction stage, the manager and the HR department have to play a proactive role in spelling out to employees what they can expect. If he/she has enough clarifications, then the instances of expectations being unfulfilled will be much lesser.
Another idea that can be implemented is that of identifying good performers and then continuously keeping them challenged by understanding their aspirations and aligning them with the overall objectives and aspirations of the organization. Many organizations also assign mentors to such individuals to inspire them. Another way to keep them happy is by continuously engaging them in arduous tasks that tickle their intellect and keep them on their toes. Also by establishing appropriate reward and recognition systems in place as wealth (here income through perks) creation opportunities are always a big motivator and driver.
"If bosses and HR heads are truly convinced about the potential of the particular employee, I think they should do everything to facilitate and create an environment of joy and pride at work. Keep them challenged at work, give them opportunities to grow and prosper, invest in their training and development," expresses Tejinder Pal Singh. "Have policies and practices that foster innovation and creativity in ensuring that these gems can be accommodated and given an opportunity to perform. This would also result in both employee and job loyalty which is so rare to find in these days," he adds. Today, companies across all the knowledge intensive industries need to realise the fact that action speaks more than words-their actions and behaviour does have an impact on an employee, his attitude and his satisfaction levels in a company. Clarity and transparency will work like a glue to bind the employees and the company together. On the other hand, empty promises, lack of transparency and scant regard to their concerns, will make employees wonder if they are living in the land of blah and will give birth to the KILLER.
Methods of Shaping Behavior:
Extinction:
According to operant conditioning, both good and bad behaviors are controlled by reinforced consequences. Identifying behavioral reinforces and removing them can decrease a behavior. An undesired behavior without reinforcement can diminish until it no longer occurs. This process is called extinction.
Extinction can modify the behavior of a worker who spends much time talking or telling jokes. The attention of coworkers reinforces this behavior. If coworkers stop talking and laughing, the worker is likely to stop telling jokes. Although extinction is useful, it takes time to eliminate the undesired behavior. When behaviors need to stop immediately, managers may resort to punishment.
Punishment:
Punishment consists of administering a negative consequence when the undesired behavior occurs. Punishment is not the same as negative reinforcement. It decreases a behavior, whereas negative reinforcement increases the frequency of a behavior. Punishment administers a negative consequence, whereas negative reinforcement removes a negative consequence.
Reinforcement
Reinforcement is the process that increases the probability that desired behaviors occur by applying consequences. Managers use reinforcement to increase the likelihood of higher sales, better attendance, or observing safety procedures.
Reinforcement begins by selecting a behavior to be encouraged. Correctly identifying the behavior is important, or reinforcement will not lead to the desired response. A manager must decide if attendance at meetings is the desired behavior or attendance and participation. The manager would need to reinforce both behaviors if both are desired.
According to operant conditioning, both good and bad behaviors are controlled by reinforced consequences. Identifying behavioral reinforces and removing them can decrease a behavior. An undesired behavior without reinforcement can diminish until it no longer occurs. This process is called extinction.
Extinction can modify the behavior of a worker who spends much time talking or telling jokes. The attention of coworkers reinforces this behavior. If coworkers stop talking and laughing, the worker is likely to stop telling jokes. Although extinction is useful, it takes time to eliminate the undesired behavior. When behaviors need to stop immediately, managers may resort to punishment.
Punishment:
Punishment consists of administering a negative consequence when the undesired behavior occurs. Punishment is not the same as negative reinforcement. It decreases a behavior, whereas negative reinforcement increases the frequency of a behavior. Punishment administers a negative consequence, whereas negative reinforcement removes a negative consequence.
Reinforcement
Reinforcement is the process that increases the probability that desired behaviors occur by applying consequences. Managers use reinforcement to increase the likelihood of higher sales, better attendance, or observing safety procedures.
Reinforcement begins by selecting a behavior to be encouraged. Correctly identifying the behavior is important, or reinforcement will not lead to the desired response. A manager must decide if attendance at meetings is the desired behavior or attendance and participation. The manager would need to reinforce both behaviors if both are desired.
Organizational Downsizing
Organizational Downsizing
(version 1.0)
Learning outcomes:
1. What is organizational downsizing?
2. 30 substitute terminologies for downsizing
3. Four Attributes of downsizing
4. Does downsizing occur to deal with internal financial crisis?
5. The trouble with downsizing
6. How downsizings may help erase the Glass Ceiling for women?
7. How to protect your job in a recession?
8. How to maximize your take when you get laid off?
9. Three approaches to downsizing
Introduction
Downsizing is a pervasive activity that has been undertaken by a majority of organizations in the industrialized world in the last two decades.
The long-term impact on organizational performance and individual well-being, however, has been largely negative.
Research has demonstrated that the way downsizing is implemented is more important than the fact that it is implemented.
It is still rare to go a week without reading about one more organization’s massive layoff or downsizing effort somewhere in Europe, North America and, increasingly, Asia.
Important:
Please refer to your home page to download the scholarly articles used in this treatise. This literature is provided only for the students of Iqra University (Gulshan Campus) Karachi and is intended to be used as a basis for class discussion rather than to illustrate either effective or ineffective handling of Organizational Downsizing.
1. What is organizational downsizing?
Organizational downsizing refers to a set of voluntary activities, undertaken on the part of the management of an organization, designed to reduce costs.
The focus may be monetary costs, time costs, or technological costs.
Downsizing is usually, but not exclusively, accomplished by reducing the size of the workforce. That is, downsizing is a term used to encompass a whole range of activities from personnel layoffs and hiring freezes to consolidations and mergers of organization units.
In fact, identifying the definition and conceptual boundaries of downsizing is more relevant for theoretical purposes than for practical ones. For example, the terminology used to describe downsizing strategies was quite unimportant to practicing managers.
2. Thirty substitute terminologies for downsizing:
The term used to describe downsizing activities did not matter much. An array of alternative terms is used as substitutes for downsizing by practitioners such as:
1. Building-down;
2. Compressing;
3. Consolidating;
4. Contracting;
5. De-hiring;
6. De-massing;
7. Dismantling;
8. Downshifting;
9. Lay off;
10. Rationalizing;
11. Reallocating;
12. Reassigning;
13. Rebalancing;
14. Redeploying;
15. Redesigning;
16. Redirecting;
17. Reduction-in-force;
18. Reengineering;
19. Renewing;
20. Reorganizing;
21. Reshaping;
22. Resizing;
23. Restructuring
24. Retrenching;
25. Revitalizing;
26. Rightsizing;
27. Slimming down;
28. Streamlining;
29. Transferring; or even
30. Leaning up
These terminologies are used interchangeably however each one may have a different connotation.
Although practicing managers care little about the precise definition of downsizing, for scholarly purpose, a carefully constructed conceptual meaning is required in order for cumulative and comparative research to occur.
For example, on the surface downsizing can be interpreted as a mere reduction in organizational size. However, when this is the case, downsizing is often confused with the concept of organizational decline, which also can be interpreted as reduction in organizational size.
Yet important differences exist that make downsizing and decline separate phenomena conceptually and empirically. Several important attributes of downsizing also make is distinct from other related concepts such as those listed above <…30 substitutes terminologies for downsizing>. These attributes of downsizing refer to:
· Intent;
· Personnel;
· Efficiency; and
· Work processes.
3. Four attributes of downsizing
Intent:
Downsizing is not something that happens to an organization, but it is something that managers and organization members undertake purposively. This implies, first of all, that downsizing is an intentional set of activities. This differentiates downsizing from loss of market share, loss of revenue, or the unwitting (mean: unconscious/unaware) loss of human resources that are associated with organizational decline. Downsizing is distinct from mere encroachment by the environment on performance or resources because it implies organizational actions.
Personnel:
Downsizing usually involves reductions in personnel, although it is not limited solely to personnel reductions. A variety of personnel reduction strategies are associated with downsizing, such as transfers, outplacements, retirement incentives, buyout packages, layoffs, attrition, and so on. These reductions in personnel may occur in one part of an organization but not in other parts (for example, in the production function but not in the engineering function), but still be labeled organizational downsizing. However, downsizing does not always involve reduction in personnel because some instances occur in which new products are added, new sources of revenue opened up, or additional work acquired without a commensurate (mean: appropriate, corresponding, equal) number of employees being added. Fewer numbers of workers are then employed per unit of output compared to some previous level of employment.
Efficiency:
Downsizing is focused on improving the efficiency of the organization and occurs either proactively or reactively in order to curtail costs, enhance revenue or bolster (mean: strengthen, boost, augment, reinforce, support) competitiveness. That is, downsizing may be implemented as a defensive reaction to decline or as a proactive strategy to enhance organizational performance.
Operational Effectiveness (OE) is not Strategy (Porter, 2002).
In either case, it represents a set of activities targeted at organizational improvement. By and large (mean: in general; on the whole), downsizing in most firms has been implemented as a defensive reaction to financial crisis, loss of competitiveness, or inefficiency.
Proactive and anticipatory downsizing has been rare, although recently reengineering and restructuring, coupled with downsizing, have become common proactive strategies.
Work Processes:
Downsizing affects work processes, wittingly or unwittingly. When the workforce contracts (… contraction …mean: the total number of labor is decreasing), for example, fewer employees are left to do the same amount of work and this has an impact on what work gets done and how it gets done. Work overload, burnout, inefficiency, conflicts and low morale are possible consequences, or more positive outcomes may occur such as improved productivity, efficiency or speed.
Employees who survive the purges (mean: people who stay with the organization after a massive downsizing activity) often become narrow-minded, self-absorbed, and risk-averse* (mean: a person who dislikes risk). Motivation levels drop off because any hope of future promotions – or even future – with the company dies out.
*Risk averse: Describes an investor who, when faced with two investments with a similar expected return (but different risks), will prefer the one with the lower risk.
Moreover, when downsizing activities include restructuring, reengineering, or eliminating work (such as discontinuing functions, abolishing hierarchical levels, merging units or redesigning tasks), work processes are usually altered substantially.
Regardless of whether or not the work is the focus of downsizing activities, work processes are always influenced one way or another by downsizing.
Four attributes of downsizing… Conclusion:
In case of each of these attributes, the level of analysis for downsizing is the organization itself, not the individual or the industry.
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What do we mean by an industry?
An industry is a group of firms that offer a product or a class of products that are close substitutes for one another. Industries are classified according to number of sellers (including pure monopoly, oligopoly, monopolistic competition and pure competition); degree of product differentiation; presence or absence of entry, mobility, and exit barriers; cost structure; degree of vertical integration; and degree of globalization.
Which one is important? The Firm or the Industry!
It is the firm that matters, not the industry. Successful businesses ride the waves of industry misfortunes; less successful businesses are sunk by them. This view contrasts sharply with the popular, but misguided, school of thought that believes that the fortune of a business is closely tied to its industry. Those who adhere to this view believe that some industries are intrinsically more attractive for investment than others. They (wrongly) believe that if the business is in a profitable industry, then its profits will be greater than if the business is in an unprofitable industry.
The role of the industry in determining profitability:
Old Views
· Some industries are intrinsically more profitable than others.
· In mature environments, it is difficult to sustain high profits.
· It is environmental factors that determine whether an industry is successful, not the firms in the industry.
New Views
· There is a little difference in the profitability of one industry versus another.
· There is no such thing as a mature industry, only mature firms; industries inhabited by mature firms often present great opportunities for the innovative.
· Profitable industries are those populated by imaginative and profitable firms; unprofitable industries have unusually large numbers of uncreative firms.
Concluding remarks (firms versus industry):
Organizations that have become mature and suffer from poor performance typically view themselves as Prisoners of their environment. Often their managers blame everyone but themselves for their poor performance. Labeling their environment as mature or hostile, they identify excess capacity, unfair competition, adverse exchange rates, absence of demand, and a host of other factors to explain why they are doing badly. Alas! Too often these external factors are NOT really the causes of their demise but rather the symptoms of their failure. This conclusion is not so new; others have made the point before, yet their words appear to have been forgotten.
Source: Charles Baden-Fuller and John Stopford (1992) The Firm matters, not the industry.
For instance, Hall (1980, p.78) noted:
Even a cursory analysis of the leading companies in the eight basic industries leads to an important observation: survival and prosperity are possible even when the business environment turns hostile and industry trends change from favorable to unfavorable. In this regard, casual advice frequently offered to competitors in basic industries – that is diversify, dissolve or be prepared for below average returns – seems oversimplified and even erroneous. A hostile environment offers an excellent basic investment opportunity and reinvestment climate, at least for the industry leaders insightful enough to capitalize on their positions.
===========================================
Four attributes of downsizing… Conclusion:
(…continued)
The most common action taken by organizations engaging in downsizing is laying off workers; downsizing entails a much broader set of actions and connotations.
Disclaimer:
At the industry level of analysis, a large literature also exists on divestiture, mergers and industry realignments. Market segmentation, divestitures of unrelated businesses, reconfiguring competitive positions, reinforcing core competencies and consolidating industry structures are among the topics addressed. The definition of organizational downsizing being described here, however, may or may not involve selling off, transferring out, merging businesses or altering the industry structure.
Much less research has investigated the organizational level of analysis than the individual and the industry level analysis. That is, strategies for approaching downsizing, process for implementing downsizing and impacts on organizational performance seem to have been under-investigated in the scholarly literature.
To summarize, organizational downsizing refers to an intentionally instituted set of activities designed to improve organizational efficiency and performance which affects the size of the organization’s workforce, costs and work processes.
· Example: On 06 October 2008, Ms Suzanne Deffree reports in Electronic News (Vol. 54 Issue 40, page 4) on the initiative of Sony Ericsson to start a worldwide and reorganization and headcount reduction by cutting 2,000 jobs. It is stated that the action is part of Sony Ericsson's effort to save $422 million over the time period. According to the company, they will begin to implement a plan to align its operations and resources worldwide to meet an increasingly competitive business environment and to help restore its capability for profitable growth.
· Example: On 01 October 2008, Jeanne Whalen reports in Wall Street Journal - Eastern Edition, (Vol. 252 Issue 78, pB7) on the plan of drug manufacturer GlaxoSmithKline PLC to reduce jobs in research and development (R&D) in the U.S. and Great Britain. It states that the declining profits in the drug industry have made companies cut staff and costs. It mentions that the inability of R&D employees to produce enough new products to keep sales growing has placed them under particular pressure.
· Example: On 22 September 2008, Patrick Thibodeau reports in Computerworld (Vol. 42 Issue 38, p6) on the announcement of the plan of Hewlett-Packard Co. (HP) to cut around 24,600 jobs, which is part of the restructuring program following the acquisition of Electronic Data Systems Corp. (EDS). HP chairman and CEO (chief executive officer) Mark Hurd explains that the company will be getting stronger by the time EDS will be integrated. It explains that 7.5% workforce reduction will spread in the span of three years. The restructuring is expected to cut annual costs by about $1.8 billion. Key information on the reduction is presented.
· Example: Personnel Today, on page 3 of its 02 September 2008 issue reports on the possibility of job cuts in British Airways PLC (BA) as the airline struggles with falling profits. BA's HR director Tony McCarthy stated that he is working hard to avoid losing staff following a fall of 90% in BA's profits in the first-quarter of 2008 and informed that the rising oil prices and credit crunch are affecting the company's profit and sustainability. In August 2008, BA reduced its number of winter flights by 3.1% and stopped new recruitments.
· Example: On 05 August 2008, Carl Winfield of Business Week Online, (p29) looks at the economic downturn in the U.S. and its impact on the career of executives. It is stated that executives have been taken down by the latest downsizing wave. Many of them are looking at their severance packages and wondering how to make the best of a bad situation. Some ways as how to get the best severance package, including money and health insurance are also suggested. It is stated that if one takes steps for the best severance deal, chances for a saved career are there.
It is implied that downsizing is usually undertaken in order to improve organizational performance. Downsizing, therefore, may be:
a) Reactive and defensive; or it may be
b) Proactive and anticipatory
Ineffectiveness and impending failure are the most common motivations for downsizing, but they are not prerequisites. Downsizing may be undertaken when no threat or financial crisis exists at all.
4. Does downsizing occur to deal with internal financial crisis?
n No. In fact, over 80% of the cases where downsizing took place, the organizations initiating the cutbacks were making a profit at the time.
n Example: In 1998, General Electric Company set in motion a $2 billion restructuring program even though all of GE’s divisions were generating double-digits returns on investments (ROI).
n Example: On 14 October 2008, Roberta Cowan reports in Wall Street Journal - Eastern Edition (Vol. 252 Issue 89, pB10) on the plan of Philips Electronics NV to cut jobs as it posted a 7.9% rise in profit in the third quarter of 2008.
Chaiporn Vithessonthi and Markus Schwaninger of Mahasarakham University and University of St. Gallen respectively carried out a study to test whether job motivation and self-confidence for learning and development influence employee support for downsizing. Data were gathered from a sample of 86 teachers at one private school in Bangkok, Thailand. The results suggest that the level of job motivation is negatively associated with the level of support for change, and that the level of self-confidence for learning and development is not associated with the level of support for change (Vithessonthi & Schwaninger, 2008).
5. The trouble with downsizing
The trouble with downsizing is that as a strategy for improvement it is, by and large, a failure. Admittedly, downsizing announcements usually lead to POSITIVE reactions among the financial community. Almost universally favorable reactions have occurred because of the promise of cost savings, reduced expenses and increased competitiveness.
· Example: The average increase in stock price the day after a downsizing announcement was made in seven major firms in 1993 (IBM, Sears, Xerox, US West, McDonnell Douglas, RJP Nabisco and DUPont) was 5.5%.
However, two-thirds of companies that downsize end up doing it again a year later, and the stock prices of firms that downsized during 1980s actually lagged behind the industry average in the 1990s.
One survey found that 74% of senior managers in downsized companies said that morale, trust and productivity suffered after downsizing, and half of the 1,468 firms in another survey indicated that productivity deteriorated after downsizing.
A majority of organizations that downsized in a third survey failed to achieve desired results, with only 9% reporting an improvement in quality.
These outcomes led to much criticism in the popular press, with organizations being accused of ‘dumb-sizing’ instead of downsizing.
By way of example, in a review of a scholarly literature on the effects of layoffs, turnover and job rotation policies, Cole (1993) identified a variety of problems associated with job loss resulting from downsizing:
1. Loss of personal relationships between employees and customers;
2. Destruction of employee and customer trust and loyalty;
3. Disruption of smooth, predictable routines in the firms;
4. Increases in formalization (rules), standardization and rigidity;
5. Loss of cross-unit and cross-level knowledge resulting from longevity and from interpersonal interactions over time;
6. Loss of knowledge of how to respond to non-routine challenges faced by the firms;
7. Less documentation and, therefore, less sharing of information about changes;
8. Loss of employee productivity;
9. Loss of common organizational culture.
Cameron et al. (1993) reported still another set of negative outcomes uncovered in a study of organizations in the car industry. Effects of downsizing include:
1. Increased centralization of decision making;
2. The adoption of short-term, crisis mentality;
3. Loss of innovativeness;
4. Increased resistance to change;
5. Decreasing employee morale, commitment and loyalty;
6. The escalation of politicized special interest groups and political infighting;
7. Risk-aversion and conservatism in decision making;
8. Loss of trust among customers and employees;
9. Increasing interpersonal conflicts;
10. Restricted communication flows and less information sharing;
11. Lack of teamwork;
12. Loss of accessible, forward-thinking, aggressive leaders.
The negative effects of downsizing on individual well-being, physical and emotional health, personal attributes, family relationships, and personal economic factors have been less disconcerting. Research has shown that in a variety of types of organizations and with a variety of types of employees, downsizing has produced negative rather than positive results (Kozlowski et al. 1993; Brockner 1998).
Despite this track record, downsizing remains a strategy of choice for organizations faced with excess capacity, bloated employees ranks, sky-high costs and declining efficiency. Most observers simply see no other choice available, plus the fact that downsizing does seem to produce some positive outcomes. Tomasko (1987), for example, identifies ways in which downsizing has had positive impact on the performance of the organizations in adapting to change, and Richardson (1988) argued that downsizing provides an ‘ultimate advantage’ in containing costs. Consequently, downsizing is normally the first alternative selected by organizations under pressure to cut expenses and improve efficiency.
Restructuring is tough, but it can be managed…
On 28 July 2008, Jenny Schade of Advertising Age, (Vol. 79 Issue 29, p.28) identified five tips to re-engage and motivate staff:
1. Continue to communicate, even when you don't have all the information
2. Highlight the positive
3. Listen to employees
4. Honestly address issues
5. Ensure that all supervisors are making it a priority to both listen to and talk to employees
6. How downsizings may help erase the Glass Ceiling for women?
Employer downsizings may be eroding the glass ceiling for women, according to a study by John Dencker, a sociologist and professor at the University of Illinois Institute of Labor and Industrial Relations.
The research found that while downsizing can reduce
the pool of jobs available for both men and women, it also is a time when employers make an effort to balance gender inequality by accepting more women
into male-dominated management ranks. The study,
published in the June issue of the American Sociological Review, looked at nearly 30 years of employment records from a Fortune 500 manufacturer. Women accounted for almost 36 percent of the company’s managers following a restructuring, compared with an average of about 24 percent prior to layoffs.
“It might be that they try to make up for past inequalities or they may be aware of other firms that
have had legal difficulties and want to make sure they don’t run into the same problems,” Dencker said.
Unfortunately, the effect is not permanent: One to two years after layoffs, neither gender sees a lot of promotions because there are fewer people to promote.
7. How to protect your job in a recession?
As the economy softens, corporate downsizing appears almost inevitable. Don't panic yet, though. While layoff decisions might seem beyond your control, there's plenty you can do to make sure you retain your job. In this article, Banks, a former HR executive at Chase Manhattan and FleetBoston Financial, and Coutu, an HBR senior editor and former affiliate scholar at the Boston Psychoanalytic Society and Institute, describe how to improve your chances of survival. It is mostly a matter of coolheaded planning, they observe. When cuts loom, the first thing to do is act like a survivor. Be confident and cheerful. Research shows that congeniality trumps competence when push comes to shove. Look to the future by focusing on customers, for without them, no one will have work. Survivors also tend to be versatile; tight budgets demand managers who can wear several hats, so start demonstrating what other capabilities you can offer. If you are, say, a manager who once worked as a teacher, take on a training role. Remember to be a good corporate citizen: Participation matters now more than ever. It isn't the time to behave as if work is beneath you or to argue for a new title. When one executive's department was folded under the management of a less-experienced colleague, she swallowed her pride and wholeheartedly supported the new hierarchy. Her superiors noticed her commitment and eventually rewarded her with a prestigious appointment. It is also important to offer leaders hope and realistic solutions. Energize your colleagues around change, like the VP of learning at a firm undergoing major staff reductions did. He organized a humorous in-house radio show that revived spirits and helped management communicate with employees--and ended up with a promotion (Banks, and Coutu, 2008).
On 04 August 2008, Carl Winfield of Business Week Online, (p10) commented on ‘how to keep your job in hard times?’ The first and most important move workers should make: Look for new experiences with their current employer.
“People like to do what they're good at," says Melaine Kusin, vice-chairman at Heidrick & Struggles (HSII). "But it's just as important to volunteer for special projects and develop skills that can be applied to other parts of the business."
"Be Visible":
The best way for executives to keep their jobs or move to the next level is to develop an understanding of the whole business, rather than the part that relates only to them. Executives to be careful about what they say in the workplace. "You need to take the lid off your thinking and take a look at how what you do relates to the rest of the business," says Dale Kurow, a NY-based consultant. "If you don't know how your part in the business is connected to the others, chances are you're not going very far."
Cultivate a Mentor:
Workers who are more engaged with the day-to-day operations at their companies have a distinct advantage over those clock-punchers who focus solely on the tasks in their job descriptions. But staying in a job is also about building relationships. While it's advisable to work well with your peers, it never hurts to develop a close relationship with a mentor, particularly with someone higher up who can help keep you out of harm's way when the ax-man cometh.
The job market is getting tougher to negotiate for workers in all age groups. But according to coaches like Haberfeld, you can keep your job as long as you don't mind maintaining a high profile. Establishing yourself as a leader could make the difference between moving up or being moved out.
8. How to maximize your take when you get laid off?
To find the upside when you get downsized, follow these four steps, suggests Lancaster, Pa. employment lawyer Christina Hausner
STEP 1: Chill. The meeting in which your boss breaks the news will be traumatic — but don't burn bridges (thereby losing your chance to negotiate) by voicing any bitterness or anger. The only two questions you should ask are "Who do I call about benefits?" and "Who do I contact about getting a letter of reference?" Never sign a severance agreement that day.
STEP 2: File for unemployment. The sooner you apply, the sooner you will be able to receive benefits -generally about half your salary, up to a few hundred dollars a week, for at least six months (longer at times of high unemployment). Get details from your state's unemployment office (you can find it at workforcesecurity.doleta.gov/unemploy).
STEP 3: Begin horse-trading. To get more than the typical week or two of pay per year of service, your best strategy is to offer to give back something of value to your old employer — for example, by volunteering to sign a noncompeting agreement. If you're being offered outplacement services you're not interested in, ask if you can get more money instead.
STEP 4: Consider getting legal — gingerly. If you think you need a lawyer to get what's due you, by all means consult one. But don't rush to send her into battle on your behalf, because your employer may turn quite hostile when confronted by legal threats. "Sometimes I'll say to a client, 'You write the letter — see how far you get with that,' " says Hausner.
9. Three approaches to downsizing
1. Workforce reduction strategy
2. Organizational redesign strategy
3. Systemic (i.e. focused on systems) strategy
3.1 Internal systems (e.g. values, communication, production and HR systems)
3.2 External systems (e.g. the production chain including upstream suppliers and downstream customers).
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Researched, compiled and edited by:
Shahnawaz Adil
Assistant Professor
Department of Business Administration
IQRA University (Gulshan Campus), Karachi
Dated: Tuesday, November 11, 2008
Special thanks to:
Harvard Business School, United States
London Business School, United Kingdom
Newcastle University Business School, United Kingdom
References
Banks, J., & Coutu, D. (2008). How to protect your job in recession? Harvard Business Review , 86 (9), 113-116.
Brockner, J. (1988). The effects of work layoff on survivors. In B. M. Cummings, Research in Organizational Behavior. Greenwich, CT: JAI Press Inc.
Cameron, K. S., Freeman, S. J., & Mishra, A. K. (1993). Downsizing and redesigning organizations. In G. P. Huber, & W. H. Glick, Organizational change and redesign. New York: Oxford University Press.
Cole, R. E. (1993). Learning from learning theory: implications for quality improvements of turnover, use of contingent workers, and job rotation policies. Quality Management Journal , 9-25.
Hall, W. K. (1980). Survival strategies in a hostile environment. Harvard Business Review , 75-85.
Kozlowski, S. W. J.; Chao, G.T.; Smith, E.M.; Hedlund, J.;. (1993). Organizational downsizing: strategies, interventions, and research implications. In C. L. Cooper, & I. T. Robertson, International Review of Industrial and Organizational Psychology. New York: Wiley.
Porter, M. E. (1996). What is strategy? Harvard Business Review , 61-78.
Richardson, P. (1988). Cost Containment: The Ultimate Advantage. New York: Free Press.
Tomasko, R. (1987). Downsizing: reshaping the corporation for the future. New York: AMACOM Books.
Vithessonthi, C., & Schwaninger, M. (2008). Job motivation and self-confidence for learning and development as predictors of support for change. Journal of Organizational Transformation & Social Change , 5 (2), 141-157.
(version 1.0)
Learning outcomes:
1. What is organizational downsizing?
2. 30 substitute terminologies for downsizing
3. Four Attributes of downsizing
4. Does downsizing occur to deal with internal financial crisis?
5. The trouble with downsizing
6. How downsizings may help erase the Glass Ceiling for women?
7. How to protect your job in a recession?
8. How to maximize your take when you get laid off?
9. Three approaches to downsizing
Introduction
Downsizing is a pervasive activity that has been undertaken by a majority of organizations in the industrialized world in the last two decades.
The long-term impact on organizational performance and individual well-being, however, has been largely negative.
Research has demonstrated that the way downsizing is implemented is more important than the fact that it is implemented.
It is still rare to go a week without reading about one more organization’s massive layoff or downsizing effort somewhere in Europe, North America and, increasingly, Asia.
Important:
Please refer to your home page to download the scholarly articles used in this treatise. This literature is provided only for the students of Iqra University (Gulshan Campus) Karachi and is intended to be used as a basis for class discussion rather than to illustrate either effective or ineffective handling of Organizational Downsizing.
1. What is organizational downsizing?
Organizational downsizing refers to a set of voluntary activities, undertaken on the part of the management of an organization, designed to reduce costs.
The focus may be monetary costs, time costs, or technological costs.
Downsizing is usually, but not exclusively, accomplished by reducing the size of the workforce. That is, downsizing is a term used to encompass a whole range of activities from personnel layoffs and hiring freezes to consolidations and mergers of organization units.
In fact, identifying the definition and conceptual boundaries of downsizing is more relevant for theoretical purposes than for practical ones. For example, the terminology used to describe downsizing strategies was quite unimportant to practicing managers.
2. Thirty substitute terminologies for downsizing:
The term used to describe downsizing activities did not matter much. An array of alternative terms is used as substitutes for downsizing by practitioners such as:
1. Building-down;
2. Compressing;
3. Consolidating;
4. Contracting;
5. De-hiring;
6. De-massing;
7. Dismantling;
8. Downshifting;
9. Lay off;
10. Rationalizing;
11. Reallocating;
12. Reassigning;
13. Rebalancing;
14. Redeploying;
15. Redesigning;
16. Redirecting;
17. Reduction-in-force;
18. Reengineering;
19. Renewing;
20. Reorganizing;
21. Reshaping;
22. Resizing;
23. Restructuring
24. Retrenching;
25. Revitalizing;
26. Rightsizing;
27. Slimming down;
28. Streamlining;
29. Transferring; or even
30. Leaning up
These terminologies are used interchangeably however each one may have a different connotation.
Although practicing managers care little about the precise definition of downsizing, for scholarly purpose, a carefully constructed conceptual meaning is required in order for cumulative and comparative research to occur.
For example, on the surface downsizing can be interpreted as a mere reduction in organizational size. However, when this is the case, downsizing is often confused with the concept of organizational decline, which also can be interpreted as reduction in organizational size.
Yet important differences exist that make downsizing and decline separate phenomena conceptually and empirically. Several important attributes of downsizing also make is distinct from other related concepts such as those listed above <…30 substitutes terminologies for downsizing>. These attributes of downsizing refer to:
· Intent;
· Personnel;
· Efficiency; and
· Work processes.
3. Four attributes of downsizing
Intent:
Downsizing is not something that happens to an organization, but it is something that managers and organization members undertake purposively. This implies, first of all, that downsizing is an intentional set of activities. This differentiates downsizing from loss of market share, loss of revenue, or the unwitting (mean: unconscious/unaware) loss of human resources that are associated with organizational decline. Downsizing is distinct from mere encroachment by the environment on performance or resources because it implies organizational actions.
Personnel:
Downsizing usually involves reductions in personnel, although it is not limited solely to personnel reductions. A variety of personnel reduction strategies are associated with downsizing, such as transfers, outplacements, retirement incentives, buyout packages, layoffs, attrition, and so on. These reductions in personnel may occur in one part of an organization but not in other parts (for example, in the production function but not in the engineering function), but still be labeled organizational downsizing. However, downsizing does not always involve reduction in personnel because some instances occur in which new products are added, new sources of revenue opened up, or additional work acquired without a commensurate (mean: appropriate, corresponding, equal) number of employees being added. Fewer numbers of workers are then employed per unit of output compared to some previous level of employment.
Efficiency:
Downsizing is focused on improving the efficiency of the organization and occurs either proactively or reactively in order to curtail costs, enhance revenue or bolster (mean: strengthen, boost, augment, reinforce, support) competitiveness. That is, downsizing may be implemented as a defensive reaction to decline or as a proactive strategy to enhance organizational performance.
Operational Effectiveness (OE) is not Strategy (Porter, 2002).
In either case, it represents a set of activities targeted at organizational improvement. By and large (mean: in general; on the whole), downsizing in most firms has been implemented as a defensive reaction to financial crisis, loss of competitiveness, or inefficiency.
Proactive and anticipatory downsizing has been rare, although recently reengineering and restructuring, coupled with downsizing, have become common proactive strategies.
Work Processes:
Downsizing affects work processes, wittingly or unwittingly. When the workforce contracts (… contraction …mean: the total number of labor is decreasing), for example, fewer employees are left to do the same amount of work and this has an impact on what work gets done and how it gets done. Work overload, burnout, inefficiency, conflicts and low morale are possible consequences, or more positive outcomes may occur such as improved productivity, efficiency or speed.
Employees who survive the purges (mean: people who stay with the organization after a massive downsizing activity) often become narrow-minded, self-absorbed, and risk-averse* (mean: a person who dislikes risk). Motivation levels drop off because any hope of future promotions – or even future – with the company dies out.
*Risk averse: Describes an investor who, when faced with two investments with a similar expected return (but different risks), will prefer the one with the lower risk.
Moreover, when downsizing activities include restructuring, reengineering, or eliminating work (such as discontinuing functions, abolishing hierarchical levels, merging units or redesigning tasks), work processes are usually altered substantially.
Regardless of whether or not the work is the focus of downsizing activities, work processes are always influenced one way or another by downsizing.
Four attributes of downsizing… Conclusion:
In case of each of these attributes, the level of analysis for downsizing is the organization itself, not the individual or the industry.
===========================================
What do we mean by an industry?
An industry is a group of firms that offer a product or a class of products that are close substitutes for one another. Industries are classified according to number of sellers (including pure monopoly, oligopoly, monopolistic competition and pure competition); degree of product differentiation; presence or absence of entry, mobility, and exit barriers; cost structure; degree of vertical integration; and degree of globalization.
Which one is important? The Firm or the Industry!
It is the firm that matters, not the industry. Successful businesses ride the waves of industry misfortunes; less successful businesses are sunk by them. This view contrasts sharply with the popular, but misguided, school of thought that believes that the fortune of a business is closely tied to its industry. Those who adhere to this view believe that some industries are intrinsically more attractive for investment than others. They (wrongly) believe that if the business is in a profitable industry, then its profits will be greater than if the business is in an unprofitable industry.
The role of the industry in determining profitability:
Old Views
· Some industries are intrinsically more profitable than others.
· In mature environments, it is difficult to sustain high profits.
· It is environmental factors that determine whether an industry is successful, not the firms in the industry.
New Views
· There is a little difference in the profitability of one industry versus another.
· There is no such thing as a mature industry, only mature firms; industries inhabited by mature firms often present great opportunities for the innovative.
· Profitable industries are those populated by imaginative and profitable firms; unprofitable industries have unusually large numbers of uncreative firms.
Concluding remarks (firms versus industry):
Organizations that have become mature and suffer from poor performance typically view themselves as Prisoners of their environment. Often their managers blame everyone but themselves for their poor performance. Labeling their environment as mature or hostile, they identify excess capacity, unfair competition, adverse exchange rates, absence of demand, and a host of other factors to explain why they are doing badly. Alas! Too often these external factors are NOT really the causes of their demise but rather the symptoms of their failure. This conclusion is not so new; others have made the point before, yet their words appear to have been forgotten.
Source: Charles Baden-Fuller and John Stopford (1992) The Firm matters, not the industry.
For instance, Hall (1980, p.78) noted:
Even a cursory analysis of the leading companies in the eight basic industries leads to an important observation: survival and prosperity are possible even when the business environment turns hostile and industry trends change from favorable to unfavorable. In this regard, casual advice frequently offered to competitors in basic industries – that is diversify, dissolve or be prepared for below average returns – seems oversimplified and even erroneous. A hostile environment offers an excellent basic investment opportunity and reinvestment climate, at least for the industry leaders insightful enough to capitalize on their positions.
===========================================
Four attributes of downsizing… Conclusion:
(…continued)
The most common action taken by organizations engaging in downsizing is laying off workers; downsizing entails a much broader set of actions and connotations.
Disclaimer:
At the industry level of analysis, a large literature also exists on divestiture, mergers and industry realignments. Market segmentation, divestitures of unrelated businesses, reconfiguring competitive positions, reinforcing core competencies and consolidating industry structures are among the topics addressed. The definition of organizational downsizing being described here, however, may or may not involve selling off, transferring out, merging businesses or altering the industry structure.
Much less research has investigated the organizational level of analysis than the individual and the industry level analysis. That is, strategies for approaching downsizing, process for implementing downsizing and impacts on organizational performance seem to have been under-investigated in the scholarly literature
To summarize, organizational downsizing refers to an intentionally instituted set of activities designed to improve organizational efficiency and performance which affects the size of the organization’s workforce, costs and work processes.
· Example: On 06 October 2008, Ms Suzanne Deffree reports in Electronic News (Vol. 54 Issue 40, page 4) on the initiative of Sony Ericsson to start a worldwide and reorganization and headcount reduction by cutting 2,000 jobs. It is stated that the action is part of Sony Ericsson's effort to save $422 million over the time period. According to the company, they will begin to implement a plan to align its operations and resources worldwide to meet an increasingly competitive business environment and to help restore its capability for profitable growth.
· Example: On 01 October 2008, Jeanne Whalen reports in Wall Street Journal - Eastern Edition, (Vol. 252 Issue 78, pB7) on the plan of drug manufacturer GlaxoSmithKline PLC to reduce jobs in research and development (R&D) in the U.S. and Great Britain. It states that the declining profits in the drug industry have made companies cut staff and costs. It mentions that the inability of R&D employees to produce enough new products to keep sales growing has placed them under particular pressure.
· Example: On 22 September 2008, Patrick Thibodeau reports in Computerworld (Vol. 42 Issue 38, p6) on the announcement of the plan of Hewlett-Packard Co. (HP) to cut around 24,600 jobs, which is part of the restructuring program following the acquisition of Electronic Data Systems Corp. (EDS). HP chairman and CEO (chief executive officer) Mark Hurd explains that the company will be getting stronger by the time EDS will be integrated. It explains that 7.5% workforce reduction will spread in the span of three years. The restructuring is expected to cut annual costs by about $1.8 billion. Key information on the reduction is presented.
· Example: Personnel Today, on page 3 of its 02 September 2008 issue reports on the possibility of job cuts in British Airways PLC (BA) as the airline struggles with falling profits. BA's HR director Tony McCarthy stated that he is working hard to avoid losing staff following a fall of 90% in BA's profits in the first-quarter of 2008 and informed that the rising oil prices and credit crunch are affecting the company's profit and sustainability. In August 2008, BA reduced its number of winter flights by 3.1% and stopped new recruitments.
· Example: On 05 August 2008, Carl Winfield of Business Week Online, (p29) looks at the economic downturn in the U.S. and its impact on the career of executives. It is stated that executives have been taken down by the latest downsizing wave. Many of them are looking at their severance packages and wondering how to make the best of a bad situation. Some ways as how to get the best severance package, including money and health insurance are also suggested. It is stated that if one takes steps for the best severance deal, chances for a saved career are there.
It is implied that downsizing is usually undertaken in order to improve organizational performance. Downsizing, therefore, may be:
a) Reactive and defensive; or it may be
b) Proactive and anticipatory
Ineffectiveness and impending failure are the most common motivations for downsizing, but they are not prerequisites. Downsizing may be undertaken when no threat or financial crisis exists at all.
4. Does downsizing occur to deal with internal financial crisis?
n No. In fact, over 80% of the cases where downsizing took place, the organizations initiating the cutbacks were making a profit at the time.
n Example: In 1998, General Electric Company set in motion a $2 billion restructuring program even though all of GE’s divisions were generating double-digits returns on investments (ROI).
n Example: On 14 October 2008, Roberta Cowan reports in Wall Street Journal - Eastern Edition (Vol. 252 Issue 89, pB10) on the plan of Philips Electronics NV to cut jobs as it posted a 7.9% rise in profit in the third quarter of 2008.
Chaiporn Vithessonthi and Markus Schwaninger of Mahasarakham University and University of St. Gallen respectively carried out a study to test whether job motivation and self-confidence for learning and development influence employee support for downsizing. Data were gathered from a sample of 86 teachers at one private school in Bangkok, Thailand. The results suggest that the level of job motivation is negatively associated with the level of support for change, and that the level of self-confidence for learning and development is not associated with the level of support for change (Vithessonthi & Schwaninger, 2008).
5. The trouble with downsizing
The trouble with downsizing is that as a strategy for improvement it is, by and large, a failure. Admittedly, downsizing announcements usually lead to POSITIVE reactions among the financial community. Almost universally favorable reactions have occurred because of the promise of cost savings, reduced expenses and increased competitiveness.
· Example: The average increase in stock price the day after a downsizing announcement was made in seven major firms in 1993 (IBM, Sears, Xerox, US West, McDonnell Douglas, RJP Nabisco and DUPont) was 5.5%.
However, two-thirds of companies that downsize end up doing it again a year later, and the stock prices of firms that downsized during 1980s actually lagged behind the industry average in the 1990s.
One survey found that 74% of senior managers in downsized companies said that morale, trust and productivity suffered after downsizing, and half of the 1,468 firms in another survey indicated that productivity deteriorated after downsizing.
A majority of organizations that downsized in a third survey failed to achieve desired results, with only 9% reporting an improvement in quality.
These outcomes led to much criticism in the popular press, with organizations being accused of ‘dumb-sizing’ instead of downsizing.
By way of example, in a review of a scholarly literature on the effects of layoffs, turnover and job rotation policies, Cole (1993) identified a variety of problems associated with job loss resulting from downsizing:
1. Loss of personal relationships between employees and customers;
2. Destruction of employee and customer trust and loyalty;
3. Disruption of smooth, predictable routines in the firms;
4. Increases in formalization (rules), standardization and rigidity;
5. Loss of cross-unit and cross-level knowledge resulting from longevity and from interpersonal interactions over time;
6. Loss of knowledge of how to respond to non-routine challenges faced by the firms;
7. Less documentation and, therefore, less sharing of information about changes;
8. Loss of employee productivity;
9. Loss of common organizational culture.
Cameron et al. (1993) reported still another set of negative outcomes uncovered in a study of organizations in the car industry. Effects of downsizing include:
1. Increased centralization of decision making;
2. The adoption of short-term, crisis mentality;
3. Loss of innovativeness;
4. Increased resistance to change;
5. Decreasing employee morale, commitment and loyalty;
6. The escalation of politicized special interest groups and political infighting;
7. Risk-aversion and conservatism in decision making;
8. Loss of trust among customers and employees;
9. Increasing interpersonal conflicts;
10. Restricted communication flows and less information sharing;
11. Lack of teamwork;
12. Loss of accessible, forward-thinking, aggressive leaders.
The negative effects of downsizing on individual well-being, physical and emotional health, personal attributes, family relationships, and personal economic factors have been less disconcerting. Research has shown that in a variety of types of organizations and with a variety of types of employees, downsizing has produced negative rather than positive results (Kozlowski et al. 1993; Brockner 1998).
Despite this track record, downsizing remains a strategy of choice for organizations faced with excess capacity, bloated employees ranks, sky-high costs and declining efficiency. Most observers simply see no other choice available, plus the fact that downsizing does seem to produce some positive outcomes. Tomasko (1987), for example, identifies ways in which downsizing has had positive impact on the performance of the organizations in adapting to change, and Richardson (1988) argued that downsizing provides an ‘ultimate advantage’ in containing costs. Consequently, downsizing is normally the first alternative selected by organizations under pressure to cut expenses and improve efficiency.
Restructuring is tough, but it can be managed…
On 28 July 2008, Jenny Schade of Advertising Age, (Vol. 79 Issue 29, p.28) identified five tips to re-engage and motivate staff:
1. Continue to communicate, even when you don't have all the information
2. Highlight the positive
3. Listen to employees
4. Honestly address issues
5. Ensure that all supervisors are making it a priority to both listen to and talk to employees
6. How downsizings may help erase the Glass Ceiling for women?
Employer downsizings may be eroding the glass ceiling for women, according to a study by John Dencker, a sociologist and professor at the University of Illinois Institute of Labor and Industrial Relations.
The research found that while downsizing can reduce
the pool of jobs available for both men and women, it also is a time when employers make an effort to balance gender inequality by accepting more women
into male-dominated management ranks. The study,
published in the June issue of the American Sociological Review, looked at nearly 30 years of employment records from a Fortune 500 manufacturer. Women accounted for almost 36 percent of the company’s managers following a restructuring, compared with an average of about 24 percent prior to layoffs.
“It might be that they try to make up for past inequalities or they may be aware of other firms that
have had legal difficulties and want to make sure they don’t run into the same problems,” Dencker said.
Unfortunately, the effect is not permanent: One to two years after layoffs, neither gender sees a lot of promotions because there are fewer people to promote.
7. How to protect your job in a recession?
As the economy softens, corporate downsizing appears almost inevitable. Don't panic yet, though. While layoff decisions might seem beyond your control, there's plenty you can do to make sure you retain your job. In this article, Banks, a former HR executive at Chase Manhattan and FleetBoston Financial, and Coutu, an HBR senior editor and former affiliate scholar at the Boston Psychoanalytic Society and Institute, describe how to improve your chances of survival. It is mostly a matter of coolheaded planning, they observe. When cuts loom, the first thing to do is act like a survivor. Be confident and cheerful. Research shows that congeniality trumps competence when push comes to shove. Look to the future by focusing on customers, for without them, no one will have work. Survivors also tend to be versatile; tight budgets demand managers who can wear several hats, so start demonstrating what other capabilities you can offer. If you are, say, a manager who once worked as a teacher, take on a training role. Remember to be a good corporate citizen: Participation matters now more than ever. It isn't the time to behave as if work is beneath you or to argue for a new title. When one executive's department was folded under the management of a less-experienced colleague, she swallowed her pride and wholeheartedly supported the new hierarchy. Her superiors noticed her commitment and eventually rewarded her with a prestigious appointment. It is also important to offer leaders hope and realistic solutions. Energize your colleagues around change, like the VP of learning at a firm undergoing major staff reductions did. He organized a humorous in-house radio show that revived spirits and helped management communicate with employees--and ended up with a promotion (Banks, and Coutu, 2008).
On 04 August 2008, Carl Winfield of Business Week Online, (p10) commented on ‘how to keep your job in hard times?’ The first and most important move workers should make: Look for new experiences with their current employer.
“People like to do what they're good at," says Melaine Kusin, vice-chairman at Heidrick & Struggles (HSII). "But it's just as important to volunteer for special projects and develop skills that can be applied to other parts of the business."
"Be Visible":
The best way for executives to keep their jobs or move to the next level is to develop an understanding of the whole business, rather than the part that relates only to them. Executives to be careful about what they say in the workplace. "You need to take the lid off your thinking and take a look at how what you do relates to the rest of the business," says Dale Kurow, a NY-based consultant. "If you don't know how your part in the business is connected to the others, chances are you're not going very far."
Cultivate a Mentor:
Workers who are more engaged with the day-to-day operations at their companies have a distinct advantage over those clock-punchers who focus solely on the tasks in their job descriptions. But staying in a job is also about building relationships. While it's advisable to work well with your peers, it never hurts to develop a close relationship with a mentor, particularly with someone higher up who can help keep you out of harm's way when the ax-man cometh.
The job market is getting tougher to negotiate for workers in all age groups. But according to coaches like Haberfeld, you can keep your job as long as you don't mind maintaining a high profile. Establishing yourself as a leader could make the difference between moving up or being moved out.
8. How to maximize your take when you get laid off?
To find the upside when you get downsized, follow these four steps, suggests Lancaster, Pa. employment lawyer Christina Hausner
STEP 1: Chill. The meeting in which your boss breaks the news will be traumatic — but don't burn bridges (thereby losing your chance to negotiate) by voicing any bitterness or anger. The only two questions you should ask are "Who do I call about benefits?" and "Who do I contact about getting a letter of reference?" Never sign a severance agreement that day.
STEP 2: File for unemployment. The sooner you apply, the sooner you will be able to receive benefits -generally about half your salary, up to a few hundred dollars a week, for at least six months (longer at times of high unemployment). Get details from your state's unemployment office (you can find it at workforcesecurity.doleta.gov/unemploy).
STEP 3: Begin horse-trading. To get more than the typical week or two of pay per year of service, your best strategy is to offer to give back something of value to your old employer — for example, by volunteering to sign a noncompeting agreement. If you're being offered outplacement services you're not interested in, ask if you can get more money instead.
STEP 4: Consider getting legal — gingerly. If you think you need a lawyer to get what's due you, by all means consult one. But don't rush to send her into battle on your behalf, because your employer may turn quite hostile when confronted by legal threats. "Sometimes I'll say to a client, 'You write the letter — see how far you get with that,' " says Hausner.
9. Three approaches to downsizing
1. Workforce reduction strategy
2. Organizational redesign strategy
3. Systemic (i.e. focused on systems) strategy
3.1 Internal systems (e.g. values, communication, production and HR systems)
3.2 External systems (e.g. the production chain including upstream suppliers and downstream customers).
--------------------------------------------------------------------
Researched, compiled and edited by:
Shahnawaz Adil
Assistant Professor
Department of Business Administration
IQRA University (Gulshan Campus), Karachi
Dated: Tuesday, November 11, 2008
Special thanks to:
Harvard Business School, United States
London Business School, United Kingdom
Newcastle University Business School, United Kingdom
References
Banks, J., & Coutu, D. (2008). How to protect your job in recession? Harvard Business Review , 86 (9), 113-116.
Brockner, J. (1988). The effects of work layoff on survivors. In B. M. Cummings, Research in Organizational Behavior. Greenwich, CT: JAI Press Inc.
Cameron, K. S., Freeman, S. J., & Mishra, A. K. (1993). Downsizing and redesigning organizations. In G. P. Huber, & W. H. Glick, Organizational change and redesign. New York: Oxford University Press.
Cole, R. E. (1993). Learning from learning theory: implications for quality improvements of turnover, use of contingent workers, and job rotation policies. Quality Management Journal , 9-25.
Hall, W. K. (1980). Survival strategies in a hostile environment. Harvard Business Review , 75-85.
Kozlowski, S. W. J.; Chao, G.T.; Smith, E.M.; Hedlund, J.;. (1993). Organizational downsizing: strategies, interventions, and research implications. In C. L. Cooper, & I. T. Robertson, International Review of Industrial and Organizational Psychology. New York: Wiley.
Porter, M. E. (1996). What is strategy? Harvard Business Review , 61-78.
Richardson, P. (1988). Cost Containment: The Ultimate Advantage. New York: Free Press.
Tomasko, R. (1987). Downsizing: reshaping the corporation for the future. New York: AMACOM Books.
Vithessonthi, C., & Schwaninger, M. (2008). Job motivation and self-confidence for learning and development as predictors of support for change. Journal of Organizational Transformation & Social Change , 5 (2), 141-157.
Friday, May 22, 2009
Oral Presentation Advice
Oral Communication is different from written communication
Listeners have one chance to hear your talk and can't "re-read" when they get confused. In many situations, they have or will hear several talks on the same day. Being clear is particularly important if the audience can't ask questions during the talk. There are two well-know ways to communicate your points effectively. The first is to K.I.S.S. (keep it simple stupid). Focus on getting one to three key points across. Think about how much you remember from a talk last week. Second, repeat key insights: tell them what you're going to tell them (Forecast), tell them, and tell them what you told them (Summary).
Think about your audience
Most audiences should be addressed in layers: some are experts in your sub-area, some are experts in the general area, and others know little or nothing. Who is most important to you? Can you still leave others with something? For example, pitch the body to experts, but make the forecast and summary accessible to all.
Think about your rhetorical goals
For conference talks, for example, I recommend two rhetorical goals: leave your audience with a clear picture of the gist of your contribution, and make them want to read your paper. Your presentation should not replace your paper, but rather whet the audience appetite for it. Thus, it is commonly useful to allude to information in the paper that can't be covered adequately in the presentation. Below I consider goals for academic interview talks and class presentations.
Practice in public
It is hard distilling work down to 20 or 30 minutes.
Prepare
See David Patterson's How to Give a Bad Talk
--------------------------------------------------------------------------------
A Generic Conference Talk Outline
This conference talk outline is a starting point, not a rigid template. Most good speakers average two minutes per slide (not counting title and outline slides), and thus use about a dozen slides for a twenty minute presentation.
Title/author/affiliation (1 slide)
Forecast (1 slide)
Give gist of problem attacked and insight found (What is the one idea you want people to leave with? This is the "abstract" of an oral presentation.)
Outline (1 slide)
Give talk structure. Some speakers prefer to put this at the bottom of their title slide. (Audiences like predictability.)
Background
Motivation and Problem Statement (1-2 slides)
(Why should anyone care? Most researchers overestimate how much the audience knows about the problem they are attacking.)
Related Work (0-1 slides)
Cover superficially or omit; refer people to your paper.
Methods (1 slide)
Cover quickly in short talks; refer people to your paper.
Results (4-6 slides)
Present key results and key insights. This is main body of the talk. Its internal structure varies greatly as a function of the researcher's contribution. (Do not superficially cover all results; cover key result well. Do not just present numbers; interpret them to give insights. Do not put up large tables of numbers.)
Summary (1 slide)
Future Work (0-1 slides)
Optionally give problems this research opens up.
Backup Slides (0-3 slides)
Optionally have a few slides ready (not counted in your talk total) to answer expected questions. (Likely question areas: ideas glossed over, shortcomings of methods or results, and future work.)
Academic Interview Talks
The rhetorical goal for any interview talk is very different than a conference talk. The goal of a conference talk is to get people interested in your paper and your work. The goal of an interview talk is to get a job, for which interest in your work is one part.
There are two key audiences for an academic interview talk, and you have to reach both. One is the people in your sub-area, who you must impress with the depth of your contribution. The other is the rest of the department, who you must get to understand your problem, why it is important, and a hand-wave at what you did. Both audiences will evaluate how well you speak as an approximation of how well you can teach.
An algorithm:
Take a 20-minute conference talk.
Expand the 5 minute introduction to 20 minutes to drive home the problem, why it's important, and the gist of what you've done.
Do the rest of the conference talk, minus the summary and future work.
Add 10 minutes of deeper stuff from your thesis (to show your depth). It is okay lose people outside of your sub-area (as long as you get them back in the next bullet).
Do the summary and future work from the conference talk in a manner accessible to all.
Add 10 ten minutes to survey all the other stuff you have done (to show your breadth).
Save 5 minutes for questions (to show that you are organized).
Other Talks
Other talks should be prepared using the same principles of considering audience and rhetorical purpose. A presentation on a project in a graduate class, for example, seeks to reach the professor first and fellow students second. Its purpose is to get a good grade by impressing people that a quality project was done. Thus, methods should be described in must more detail than for a conference talk.
Listeners have one chance to hear your talk and can't "re-read" when they get confused. In many situations, they have or will hear several talks on the same day. Being clear is particularly important if the audience can't ask questions during the talk. There are two well-know ways to communicate your points effectively. The first is to K.I.S.S. (keep it simple stupid). Focus on getting one to three key points across. Think about how much you remember from a talk last week. Second, repeat key insights: tell them what you're going to tell them (Forecast), tell them, and tell them what you told them (Summary).
Think about your audience
Most audiences should be addressed in layers: some are experts in your sub-area, some are experts in the general area, and others know little or nothing. Who is most important to you? Can you still leave others with something? For example, pitch the body to experts, but make the forecast and summary accessible to all.
Think about your rhetorical goals
For conference talks, for example, I recommend two rhetorical goals: leave your audience with a clear picture of the gist of your contribution, and make them want to read your paper. Your presentation should not replace your paper, but rather whet the audience appetite for it. Thus, it is commonly useful to allude to information in the paper that can't be covered adequately in the presentation. Below I consider goals for academic interview talks and class presentations.
Practice in public
It is hard distilling work down to 20 or 30 minutes.
Prepare
See David Patterson's How to Give a Bad Talk
--------------------------------------------------------------------------------
A Generic Conference Talk Outline
This conference talk outline is a starting point, not a rigid template. Most good speakers average two minutes per slide (not counting title and outline slides), and thus use about a dozen slides for a twenty minute presentation.
Title/author/affiliation (1 slide)
Forecast (1 slide)
Give gist of problem attacked and insight found (What is the one idea you want people to leave with? This is the "abstract" of an oral presentation.)
Outline (1 slide)
Give talk structure. Some speakers prefer to put this at the bottom of their title slide. (Audiences like predictability.)
Background
Motivation and Problem Statement (1-2 slides)
(Why should anyone care? Most researchers overestimate how much the audience knows about the problem they are attacking.)
Related Work (0-1 slides)
Cover superficially or omit; refer people to your paper.
Methods (1 slide)
Cover quickly in short talks; refer people to your paper.
Results (4-6 slides)
Present key results and key insights. This is main body of the talk. Its internal structure varies greatly as a function of the researcher's contribution. (Do not superficially cover all results; cover key result well. Do not just present numbers; interpret them to give insights. Do not put up large tables of numbers.)
Summary (1 slide)
Future Work (0-1 slides)
Optionally give problems this research opens up.
Backup Slides (0-3 slides)
Optionally have a few slides ready (not counted in your talk total) to answer expected questions. (Likely question areas: ideas glossed over, shortcomings of methods or results, and future work.)
Academic Interview Talks
The rhetorical goal for any interview talk is very different than a conference talk. The goal of a conference talk is to get people interested in your paper and your work. The goal of an interview talk is to get a job, for which interest in your work is one part.
There are two key audiences for an academic interview talk, and you have to reach both. One is the people in your sub-area, who you must impress with the depth of your contribution. The other is the rest of the department, who you must get to understand your problem, why it is important, and a hand-wave at what you did. Both audiences will evaluate how well you speak as an approximation of how well you can teach.
An algorithm:
Take a 20-minute conference talk.
Expand the 5 minute introduction to 20 minutes to drive home the problem, why it's important, and the gist of what you've done.
Do the rest of the conference talk, minus the summary and future work.
Add 10 minutes of deeper stuff from your thesis (to show your depth). It is okay lose people outside of your sub-area (as long as you get them back in the next bullet).
Do the summary and future work from the conference talk in a manner accessible to all.
Add 10 ten minutes to survey all the other stuff you have done (to show your breadth).
Save 5 minutes for questions (to show that you are organized).
Other Talks
Other talks should be prepared using the same principles of considering audience and rhetorical purpose. A presentation on a project in a graduate class, for example, seeks to reach the professor first and fellow students second. Its purpose is to get a good grade by impressing people that a quality project was done. Thus, methods should be described in must more detail than for a conference talk.
Tuesday, May 12, 2009
Barter System
Bartering is a medium in which goods or services are directly exchanged for other goods and/or services, without the use of money.[1] It can be bilateral or multilateral, and usually exists parallel to monetary systems in most developed countries, though to a very limited extent. Barter usually replaces money as the method of exchange in times of monetary crisis, when the currency is unstable and devalued by hyperinflation. Bartering is still common in the present, usually used within the Internet on sites like Craigslist.[2]
Contents
1 History
2 Trade exchanges
3 Corporate barter
4 Swapping
5 Tax implications
6 See also
7 References
[edit] History
An 1874 newspaper illustration from Harper's Weekly, showing a man engaging in barter: offering chickens in exchange for his yearly newspaper subscription.Contrary to popular conception, there is no evidence of a society or economy that relied primarily on barter.[3] Instead, non-monetary societies operated largely along the principles of gift economics. When barter did in fact occur, it was usually between either complete strangers or would-be enemies.[4]
While one-to-one bartering is practised between individuals and businesses on an informal basis, organized barter exchanges have developed to conduct third party bartering. The barter exchange operates as a broker and bank and each participating member has an account which is debited when purchases are made, and credited when sales are made. With the removal of one-to-one bartering, concerns over unequal exchanges are reduced.
Modern trade and barter has developed into a sophisticated tool to help businesses increase their efficiencies by monetizing their unused capacities and excess inventories. The worldwide organized barter exchange and trade industry has grown to an $8 billion a year industry and is used by thousands of businesses and individuals. The advent of the Internet and sophisticated relational database software programs has further advanced the barter industry's growth. Organized barter has grown throughout the world to the point now where virtually every country has a formalized barter and trade network of some kind. Complex business models based on the concept of barter are today possible since the advent of Web 2.0 technologies.
Bartering benefits companies and countries that see a mutual benefit in exchanging goods and services rather than cash, and it also enables those who are lacking hard currency to obtain goods and services. To make up for a lack of hard currency, Thailand's township, Amphoe Kut Chum, once issued its own local scrip called Bia Kut Chum: Bia is Thai for cowry shell, was once 1⁄6400 Baht, and is still current in metaphorical expressions. Running afoul of national currency laws, the community changed to barter coupons called Boon Kut Chum that bear a fixed value in baht, which they swap for goods and services within the community.[5]
[edit] Trade exchanges
A trade or barter exchange is a commercial organization that provides a trading platform and bookkeeping system for its members or clients. The member companies buy and sell products and services to each other using an internal currency known as barter or trade dollars. Modern barter and trade has evolved considerably to become an effective method of increasing sales, conserving cash, moving inventory, and making use of excess production capacity for businesses around the world. Businesses in a barter earn trade credits (instead of cash) that are deposited into their account. They then have the ability to purchase goods and services from other members utilizing their trade credits – they are not obligated to purchase from who they sold to, and vice versa. The exchange plays an important role because they provide the record-keeping, brokering expertise and monthly statements to each member. Commercial exchanges make money by charging a commission on each transaction either all on the buy side, all on the sell side, or a combination of both. Transaction fees typically run between 8 and 15%.
It is estimated that over 350,000 businesses in the United States are involved in barter exchange activities. There are approximately 400 commercial and corporate barter companies serving all parts of the world. There are many opportunities for entrepreneurs to start a barter exchange. Several major cities in the U.S. and Canada do not currently have a local barter exchange. There are two industry groups, the National Association of Trade Exchanges (NATE) and the International Reciprocal Trade Association (IRTA). Both offer training and promote high ethical standards among their members. Moreover, each has created it own currency through which its member barter companies can trade. NATE's currency is the known as the BANC and IRTA's currency is called Universal Currency (UC).
Exchange systems provide new sales and higher volumes of business, conserving cash for essential expenditures, exchange of unproductive assets for valuable products or services, reduction of unit costs, and opening new outlets for excess inventory and unused capacity. Reciprocal trade finance enables a firm to buy using its incremental cost of production. So long as incremental revenue exceeds incremental cost, it is worth it for a firm to trade using a barter exchange.
There are many reasons to use a good barter exchange:
Increased purchasing power
Increased revenue
Preserving cash
More clients (both from the barter exchange and from cash-business referrals from barter clients)
Better cash flow
Greater marketing opportunities
Improved efficiency
Organized barter companies also have many more benefits over conventional advertising methods since they are much more proactive. Barter members call into the exchange brokerage with things they need and the brokers match those needs with other members that can fill them.
The first exchange system was the Swiss WIR Bank. It was founded in 1934 as a result of currency shortages after the stock market crash of 1929. "WIR" is both an abbreviation of Wirtschaftsring and the word for "we" in German, reminding participants that the economic circle is also a community. Only SME can join WIR. Its purpose is to encourage participating members to put their buying power at each others disposal and keep it circulating within their ranks, thereby providing members with additional sales volume. WIR has grown to 62,000 members, trading approximately the value of 3 billion Swiss Franc. The offering of goods and services for WIR is promoted by the fact that every official participant is obligated to accept payment in WIR for at least 30% of the first 2000 francs of the selling price, and every loan holder must amortize his/her debt by selling goods/services for WIR.
[edit] Corporate barter
Corporate barter focuses on larger transactions, which is different from a traditional, retail oriented barter exchange. Corporate barter exchanges typically use media and advertising as leverage for their larger transactions. It entails the use of a currency unit called a "trade-credit". The trade-credit must be known and guaranteed (contract to eliminate ambiguity and risk).
[edit] Swapping
Swapping is the increasingly prevalent informal bartering system in which participants in Internet communities trade items of comparable value on a trust basis.
While swapping is an excellent way to find and obtain items that are inexpensive, it relies upon honesty. A dishonest participant might arrange a swap, and then never complete their end of the transaction, thus getting something for nothing. This practice is called swaplifting,[citation needed] a pun on shoplifting. The victim's recourse is often limited to shunning the swaplifter, or taking him to small claims court. One way that swaplifting may be combated is by arranging the deal through a third party web service such as FavorTree.net (for services) which has become a favorite among established business men and women, www.bookmooch.com (for books), or one of the other major bartering websites. Typically, these websites do not take on the risk of forcing the other party to follow through on its end of the deal, but they will provide recourse in the form of removing the violator from the site or allowing the wronged party to provide negative feedback (much like eBay or Amazon). Notwithstanding the risk of dishonesty, bartering sites are becoming increasingly popular during tight economic times.
[edit] Tax implications
In the United States, the sales a barter exchange makes are considered taxable revenue by the IRS and the gross amount of a barter exchange member's sales are reported to the IRS by the barter exchange via a 1099-B form. The requirement for barter exchanges to report members sales was enacted in the Tax Equity & Fair Responsibility Act of 1982. According to the IRS, "The fair market value of goods and services exchanged must be included in the income of both parties."[6] Other countries do not have the reporting requirement that the U.S. does concerning proceeds from barter transactions. However, if you barter for goods and/or services, you are taxed not more or less than if it were a cash transaction. In other words, it is handled the same way as a cash transaction regarding taxation. If you bartered for a profit, you pay the appropriate tax, if you generated a loss in the transaction, you have a loss. Bartering for business is also taxed accordingly as business income or business expense.
[edit] See also
Gift economy
Hyperinflation
International trade
List of international trade topics
Local currency
Local Exchange Trading System
Natural economy
Private currency
Reciprocity (cultural anthropology)
Simple living
Trading cards
[edit] References
^ O'Sullivan, Arthur; Steven M. Sheffrin (2003). Economics: Principles in Action. Pearson Prentice Hall. p. 243. ISBN 0-13-063085-3.
^ http://www.huffingtonpost.com/tag/craigslist-bartering
^ Mauss, Marcel. 'The Gift: The Form and Reason for Exchange in Archaic Societies.' pp. 36-37.
^ Graeber, David. 'Toward an Anthropological Theory of Value'. pp. 153-154.
^ A Boon to Kut Chum archive
^ Tax Topics - Topic 420 Bartering Income, United States Internal Revenue Service, http://www.irs.gov/taxtopics/tc420.html
Retrieved from "http://en.wikipedia.org/wiki/Barter"
Contents
1 History
2 Trade exchanges
3 Corporate barter
4 Swapping
5 Tax implications
6 See also
7 References
[edit] History
An 1874 newspaper illustration from Harper's Weekly, showing a man engaging in barter: offering chickens in exchange for his yearly newspaper subscription.Contrary to popular conception, there is no evidence of a society or economy that relied primarily on barter.[3] Instead, non-monetary societies operated largely along the principles of gift economics. When barter did in fact occur, it was usually between either complete strangers or would-be enemies.[4]
While one-to-one bartering is practised between individuals and businesses on an informal basis, organized barter exchanges have developed to conduct third party bartering. The barter exchange operates as a broker and bank and each participating member has an account which is debited when purchases are made, and credited when sales are made. With the removal of one-to-one bartering, concerns over unequal exchanges are reduced.
Modern trade and barter has developed into a sophisticated tool to help businesses increase their efficiencies by monetizing their unused capacities and excess inventories. The worldwide organized barter exchange and trade industry has grown to an $8 billion a year industry and is used by thousands of businesses and individuals. The advent of the Internet and sophisticated relational database software programs has further advanced the barter industry's growth. Organized barter has grown throughout the world to the point now where virtually every country has a formalized barter and trade network of some kind. Complex business models based on the concept of barter are today possible since the advent of Web 2.0 technologies.
Bartering benefits companies and countries that see a mutual benefit in exchanging goods and services rather than cash, and it also enables those who are lacking hard currency to obtain goods and services. To make up for a lack of hard currency, Thailand's township, Amphoe Kut Chum, once issued its own local scrip called Bia Kut Chum: Bia is Thai for cowry shell, was once 1⁄6400 Baht, and is still current in metaphorical expressions. Running afoul of national currency laws, the community changed to barter coupons called Boon Kut Chum that bear a fixed value in baht, which they swap for goods and services within the community.[5]
[edit] Trade exchanges
A trade or barter exchange is a commercial organization that provides a trading platform and bookkeeping system for its members or clients. The member companies buy and sell products and services to each other using an internal currency known as barter or trade dollars. Modern barter and trade has evolved considerably to become an effective method of increasing sales, conserving cash, moving inventory, and making use of excess production capacity for businesses around the world. Businesses in a barter earn trade credits (instead of cash) that are deposited into their account. They then have the ability to purchase goods and services from other members utilizing their trade credits – they are not obligated to purchase from who they sold to, and vice versa. The exchange plays an important role because they provide the record-keeping, brokering expertise and monthly statements to each member. Commercial exchanges make money by charging a commission on each transaction either all on the buy side, all on the sell side, or a combination of both. Transaction fees typically run between 8 and 15%.
It is estimated that over 350,000 businesses in the United States are involved in barter exchange activities. There are approximately 400 commercial and corporate barter companies serving all parts of the world. There are many opportunities for entrepreneurs to start a barter exchange. Several major cities in the U.S. and Canada do not currently have a local barter exchange. There are two industry groups, the National Association of Trade Exchanges (NATE) and the International Reciprocal Trade Association (IRTA). Both offer training and promote high ethical standards among their members. Moreover, each has created it own currency through which its member barter companies can trade. NATE's currency is the known as the BANC and IRTA's currency is called Universal Currency (UC).
Exchange systems provide new sales and higher volumes of business, conserving cash for essential expenditures, exchange of unproductive assets for valuable products or services, reduction of unit costs, and opening new outlets for excess inventory and unused capacity. Reciprocal trade finance enables a firm to buy using its incremental cost of production. So long as incremental revenue exceeds incremental cost, it is worth it for a firm to trade using a barter exchange.
There are many reasons to use a good barter exchange:
Increased purchasing power
Increased revenue
Preserving cash
More clients (both from the barter exchange and from cash-business referrals from barter clients)
Better cash flow
Greater marketing opportunities
Improved efficiency
Organized barter companies also have many more benefits over conventional advertising methods since they are much more proactive. Barter members call into the exchange brokerage with things they need and the brokers match those needs with other members that can fill them.
The first exchange system was the Swiss WIR Bank. It was founded in 1934 as a result of currency shortages after the stock market crash of 1929. "WIR" is both an abbreviation of Wirtschaftsring and the word for "we" in German, reminding participants that the economic circle is also a community. Only SME can join WIR. Its purpose is to encourage participating members to put their buying power at each others disposal and keep it circulating within their ranks, thereby providing members with additional sales volume. WIR has grown to 62,000 members, trading approximately the value of 3 billion Swiss Franc. The offering of goods and services for WIR is promoted by the fact that every official participant is obligated to accept payment in WIR for at least 30% of the first 2000 francs of the selling price, and every loan holder must amortize his/her debt by selling goods/services for WIR.
[edit] Corporate barter
Corporate barter focuses on larger transactions, which is different from a traditional, retail oriented barter exchange. Corporate barter exchanges typically use media and advertising as leverage for their larger transactions. It entails the use of a currency unit called a "trade-credit". The trade-credit must be known and guaranteed (contract to eliminate ambiguity and risk).
[edit] Swapping
Swapping is the increasingly prevalent informal bartering system in which participants in Internet communities trade items of comparable value on a trust basis.
While swapping is an excellent way to find and obtain items that are inexpensive, it relies upon honesty. A dishonest participant might arrange a swap, and then never complete their end of the transaction, thus getting something for nothing. This practice is called swaplifting,[citation needed] a pun on shoplifting. The victim's recourse is often limited to shunning the swaplifter, or taking him to small claims court. One way that swaplifting may be combated is by arranging the deal through a third party web service such as FavorTree.net (for services) which has become a favorite among established business men and women, www.bookmooch.com (for books), or one of the other major bartering websites. Typically, these websites do not take on the risk of forcing the other party to follow through on its end of the deal, but they will provide recourse in the form of removing the violator from the site or allowing the wronged party to provide negative feedback (much like eBay or Amazon). Notwithstanding the risk of dishonesty, bartering sites are becoming increasingly popular during tight economic times.
[edit] Tax implications
In the United States, the sales a barter exchange makes are considered taxable revenue by the IRS and the gross amount of a barter exchange member's sales are reported to the IRS by the barter exchange via a 1099-B form. The requirement for barter exchanges to report members sales was enacted in the Tax Equity & Fair Responsibility Act of 1982. According to the IRS, "The fair market value of goods and services exchanged must be included in the income of both parties."[6] Other countries do not have the reporting requirement that the U.S. does concerning proceeds from barter transactions. However, if you barter for goods and/or services, you are taxed not more or less than if it were a cash transaction. In other words, it is handled the same way as a cash transaction regarding taxation. If you bartered for a profit, you pay the appropriate tax, if you generated a loss in the transaction, you have a loss. Bartering for business is also taxed accordingly as business income or business expense.
[edit] See also
Gift economy
Hyperinflation
International trade
List of international trade topics
Local currency
Local Exchange Trading System
Natural economy
Private currency
Reciprocity (cultural anthropology)
Simple living
Trading cards
[edit] References
^ O'Sullivan, Arthur; Steven M. Sheffrin (2003). Economics: Principles in Action. Pearson Prentice Hall. p. 243. ISBN 0-13-063085-3.
^ http://www.huffingtonpost.com/tag/craigslist-bartering
^ Mauss, Marcel. 'The Gift: The Form and Reason for Exchange in Archaic Societies.' pp. 36-37.
^ Graeber, David. 'Toward an Anthropological Theory of Value'. pp. 153-154.
^ A Boon to Kut Chum archive
^ Tax Topics - Topic 420 Bartering Income, United States Internal Revenue Service, http://www.irs.gov/taxtopics/tc420.html
Retrieved from "http://en.wikipedia.org/wiki/Barter"
Price Revolution
Used generally to describe a series of economic events from the second half of the 15th century to the first half of the 17th, the price revolution refers most specifically to the high rate of inflation that characterized the period across Western Europe, with prices on average rising perhaps sixfold over 150 years.
It was once thought that this high inflation was caused by the large influx of gold and silver from the Spanish treasure fleet from the New World, especially the silver of Peru which began to be mined in large quantities from 1545. According to this theory, there was simply too much money for the amount of available goods.
The start of the price rises actually predated the large-scale influx of bullion from across the Atlantic, reflecting in part a quintupling of silver production in central Europe in 1460-1530: though this output fell by two-thirds by the 1610s, it was significant in fueling the early stages of inflation that were causing an undermining price regime in place since the previous upsurge in silver production in 1170-1320.
Demographic factors also contributed to upward pressure on prices, with the revival (from around the third quarter of the 15th century) of European population growth after the century of depopulation and demographic stagnation that had followed the Black Death. The price of food rose sharply during epidemic years, then began to fall very rapidly as there were fewer mouths to feed. At the same time prices of manufactured goods tended to rise because of dislocation of supply. Later on, increased population placed greater demands on an agricultural area that had contracted significantly after the 1340s, or had been converted from arable to less intensive livestock production.
The increase in the proportion of Europe's population living in towns, though slight (in the region of one percentage point a century) until the 19th century, coupled with economic diversification, meant that there were more people to feed, but proportionately slightly fewer producers of staple foods. Urbanization also contributed to increased trade between Europe's regions, which made prices more responsive to distant changes in demand, and provided a channel for the flow of silver from Spain through western and then central Europe.
Increased trade and availability of manufactured and luxury goods, especially in the 16th century, had also encouraged many landowners to convert their tenants' payments from produce to cash. Initially, this had helped the wealthy to accumulate more of the trappings of wealth, but as prices rose, those landlords who received payment in cash found themselves in financial straits. They often took extreme measures to combat the problem - measures that would add to social unrest and ultimately to a worsened financial position for themselves and their tenants.
In England, for example, many lands held as common lands (pastures, fields, etc.) were enclosed so that only the landlord could graze his animals. This forced his former tenants either to pay increased rents, which was close to impossible, or to leave their own farms. An increase in vagrancy meant more brigandage, a movement to the towns in search of employment and, where no employment could be found, an increase in urban poverty and crime.
The inflation of c.1470-1620 eventually petered out with the end of the initial rush of New World bullion, though prices remained around or slightly below the levels of the first half of the 17th century until the onset of new inflationary pressures in the latter decades of the 18th century.
[edit] References
Earl J. Hamilton, American Treasure and the Price Revolution in Spain, 1501-1650 Harvard Economic Studies, 43 (Cambridge, Massachusetts: Harvard University Press, 1934).
John Munro: The Monetary Origins of the 'Price Revolution':South Germany Silver Mining, Merchant Banking, and Venetian Commerce, 1470-1540, Toronto 2003
It was once thought that this high inflation was caused by the large influx of gold and silver from the Spanish treasure fleet from the New World, especially the silver of Peru which began to be mined in large quantities from 1545. According to this theory, there was simply too much money for the amount of available goods.
The start of the price rises actually predated the large-scale influx of bullion from across the Atlantic, reflecting in part a quintupling of silver production in central Europe in 1460-1530: though this output fell by two-thirds by the 1610s, it was significant in fueling the early stages of inflation that were causing an undermining price regime in place since the previous upsurge in silver production in 1170-1320.
Demographic factors also contributed to upward pressure on prices, with the revival (from around the third quarter of the 15th century) of European population growth after the century of depopulation and demographic stagnation that had followed the Black Death. The price of food rose sharply during epidemic years, then began to fall very rapidly as there were fewer mouths to feed. At the same time prices of manufactured goods tended to rise because of dislocation of supply. Later on, increased population placed greater demands on an agricultural area that had contracted significantly after the 1340s, or had been converted from arable to less intensive livestock production.
The increase in the proportion of Europe's population living in towns, though slight (in the region of one percentage point a century) until the 19th century, coupled with economic diversification, meant that there were more people to feed, but proportionately slightly fewer producers of staple foods. Urbanization also contributed to increased trade between Europe's regions, which made prices more responsive to distant changes in demand, and provided a channel for the flow of silver from Spain through western and then central Europe.
Increased trade and availability of manufactured and luxury goods, especially in the 16th century, had also encouraged many landowners to convert their tenants' payments from produce to cash. Initially, this had helped the wealthy to accumulate more of the trappings of wealth, but as prices rose, those landlords who received payment in cash found themselves in financial straits. They often took extreme measures to combat the problem - measures that would add to social unrest and ultimately to a worsened financial position for themselves and their tenants.
In England, for example, many lands held as common lands (pastures, fields, etc.) were enclosed so that only the landlord could graze his animals. This forced his former tenants either to pay increased rents, which was close to impossible, or to leave their own farms. An increase in vagrancy meant more brigandage, a movement to the towns in search of employment and, where no employment could be found, an increase in urban poverty and crime.
The inflation of c.1470-1620 eventually petered out with the end of the initial rush of New World bullion, though prices remained around or slightly below the levels of the first half of the 17th century until the onset of new inflationary pressures in the latter decades of the 18th century.
[edit] References
Earl J. Hamilton, American Treasure and the Price Revolution in Spain, 1501-1650 Harvard Economic Studies, 43 (Cambridge, Massachusetts: Harvard University Press, 1934).
John Munro: The Monetary Origins of the 'Price Revolution':South Germany Silver Mining, Merchant Banking, and Venetian Commerce, 1470-1540, Toronto 2003
Inflation
This article is about a general rise in the level of prices. For the expansion of the early universe, see Inflation (cosmology). For other uses, see Inflation (disambiguation).
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Business and Economics Portal
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In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time.[1] When the general price level rises, each unit of currency buys fewer goods and services; consequently, inflation is also a decline in the real value of money—a loss of purchasing power in the medium of exchange which is also the monetary unit of account in the economy.[2] A chief measure of general price-level inflation is the general inflation rate, which is the percentage change in a general price index (normally the Consumer Price Index) over time.[3]
Inflation can have adverse effects on an economy. For example, uncertainty about future inflation may discourage investment and saving. High inflation may lead to shortages of goods if consumers begin hoarding out of concern that prices will increase in the future.
Economists generally agree that high rates of inflation and hyperinflation are caused by an excessive growth of the money supply.[4] Views on which factors determine low to moderate rates of inflation are more varied. Low or moderate inflation may be attributed to fluctuations in real demand for goods and services, or changes in available supplies such as during scarcities, as well as to growth in the money supply. However, the consensus view is that a long sustained period of inflation is caused by money supply growing faster than the rate of economic growth.[5][6]
Today, most economists favor a low steady rate of inflation.[7] Low (as opposed to zero or negative) inflation may reduce the severity of economic recessions by enabling the labor market to adjust more quickly in a downturn, and reduce the risk that a liquidity trap prevents monetary policy from stabilizing the economy. The task of keeping the rate of inflation low and stable is usually given to monetary authorities. Generally, these monetary authorities are the central banks that control the size of the money supply through the setting of interest rates, through open market operations, and through the setting of banking reserve requirements.[8]
Contents
1 Origins
2 Related definitions
3 Measures
3.1 Issues in measuring
4 Effects
4.1 Negative
4.2 Positive
5 Causes
5.1 Keynesian view
5.2 Monetarist view
5.3 Rational expectations theory
5.4 Austrian theory
5.5 Real bills doctrine
5.6 Anti-classical or backing theory
6 Controlling inflation
6.1 Monetary policy
6.2 Fixed exchange rates
6.3 Gold standard
6.4 Wage and price controls
6.5 Cost-of-living allowance
7 See also
8 Notes
9 References
10 Further reading
11 External links
[edit] Origins
Inflation originally referred to the debasement of the currency. When gold was used as currency, gold coins could be collected by the government (e.g. the king or the ruler of the region), melted down, mixed with other metals such as silver, copper or lead, and reissued at the same nominal value. By diluting the gold with other metals, the government could increase the total number of coins issued without also needing to increase the amount of gold used to make them. When the cost of each coin is lowered in this way, the government profits from an increase in seigniorage.[9] This practice would increase the money supply but at the same time lower the relative value of each coin. As the relative value of the coins decrease, consumers would need more coins to exchange for the same goods and services. These goods and services would experience a price increase as the value of each coin is reduced.[10]
By the nineteenth century, economists categorized three separate factors that cause a rise or fall in the price of goods: a change in the value or resource costs of the good, a change in the price of money which then was usually a fluctuation in metallic content in the currency, and currency depreciation resulting from an increased supply of currency relative to the quantity of redeemable metal backing the currency. Following the proliferation of private bank note currency printed during the American Civil War, the term "inflation" started to appear as a direct reference to the currency depreciation that occurred as the quantity of redeemable bank notes outstripped the quantity of metal available for their redemption. The term inflation then referred to the devaluation of the currency, and not to a rise in the price of goods.[11]
This relationship between the over-supply of bank notes and a resulting depreciation in their value was noted by earlier classical economists such as David Hume and David Ricardo, who would go on to examine and debate to what effect a currency devaluation (later termed monetary inflation) has on the price of goods (later termed price inflation, and eventually just inflation).[12]
[edit] Related definitions
The term "inflation" usually refers to a measured rise in a broad price index that represents the overall level of prices in goods and services in the economy. The Consumer Price Index (CPI), the Personal Consumption Expenditures Price Index (PCEPI) and the GDP deflator are some examples of broad price indices. The term inflation may also be used to describe the rising level of prices in a narrow set of assets, goods or services within the economy, such as commodities (which include food, fuel, metals), financial assets (such as stocks, bonds and real estate), and services (such as entertainment and health care). The Reuters-CRB Index (CCI), the Producer Price Index, and Employment Cost Index (ECI) are examples of narrow price indices used to measure price inflation in particular sectors of the economy. Asset price inflation is a rise in the price of assets, as opposed to goods and services. Core inflation is a measure of price fluctuations in a sub-set of the broad price index which excludes food and energy prices. The Federal Reserve Board uses the core inflation rate to measure overall inflation, eliminating food and energy prices to mitigate against short term price fluctuations that could distort estimates of future long term inflation trends in the general economy.[13]
Other related economic concepts include: deflation – a fall in the general price level; disinflation – a decrease in the rate of inflation; hyperinflation – an out-of-control inflationary spiral; stagflation – a combination of inflation, slow economic growth and high unemployment; and reflation – an attempt to raise the general level of prices to counteract deflationary pressures.
[edit] Measures
Annual inflation rates in the United States from 1666 to 2004.Inflation is usually measured by calculating the inflation rate of a price index, usually the Consumer Price Index.[14] The Consumer Price Index measures prices of a selection of goods and services purchased by a "typical consumer".[15] The inflation rate is the percentage rate of change of a price index over time.
For example, in January 2007, the U.S. Consumer Price Index was 202.416, and in January 2008 it was 211.080. The formula for calculating the annual percentage rate inflation in the CPI over the course of 2007 is
The resulting inflation rate for the CPI in this one year period is 4.28%, meaning the general level of prices for typical U.S. consumers rose by approximately four percent in 2007.[16]
Other widely used price indices for calculating price inflation include the following:
Cost-of-living indices (COLI) are indices similar to the CPI which are often used to adjust fixed incomes and contractual incomes to maintain the real value of those incomes.
Producer price indices (PPIs) which measures average changes in prices received by domestic producers for their output. This differs from the CPI in that price subsidization, profits, and taxes may cause the amount received by the producer to differ from what the consumer paid. There is also typically a delay between an increase in the PPI and any eventual increase in the CPI. Producer price index measures the pressure being put on producers by the costs of their raw materials. This could be "passed on" to consumers, or it could be absorbed by profits, or offset by increasing productivity. In India and the United States, an earlier version of the PPI was called the Wholesale Price Index.
Commodity price indices, which measure the price of a selection of commodities. In the present commodity price indices are weighted by the relative importance of the components to the "all in" cost of an employee.
Core price indices: because food and oil prices can change quickly due to changes in supply and demand conditions in the food and oil markets, it can be difficult to detect the long run trend in price levels when those prices are included. Therefore most statistical agencies also report a measure of 'core inflation', which removes the most volatile components (such as food and oil) from a broad price index like the CPI. Because core inflation is less affected by short run supply and demand conditions in specific markets, central banks rely on it to better measure the inflationary impact of current monetary policy.
Other common measures of inflation are:
GDP deflator is a measure of the price of all the goods and services included in Gross Domestic Product (GDP). The US Commerce Department publishes a deflator series for US GDP, defined as its nominal GDP measure divided by its real GDP measure.
Regional inflation The Bureau of Labor Statistics breaks down CPI-U calculations down to different regions of the US.
Historical inflation Before collecting consistent econometric data became standard for governments, and for the purpose of comparing absolute, rather than relative standards of living, various economists have calculated imputed inflation figures. Most inflation data before the early 20th century is imputed based on the known costs of goods, rather than compiled at the time. It is also used to adjust for the differences in real standard of living for the presence of technology.
Asset price inflation is an undue increase in the prices of real or financial assets, such as stock (equity) and real estate. While there is no widely-accepted index of this type, some central bankers have suggested that it would be better to aim at stabilizing a wider general price level inflation measure that includes some asset prices, instead of stabilizing CPI or core inflation only. The reason is that by raising interest rates when stock prices or real estate prices rise, and lowering them when these asset prices fall, central banks might be more successful in avoiding bubbles and crashes in asset prices.[dubious – discuss]
[edit] Issues in measuring
Measuring inflation in an economy requires objective means of differentiating changes in nominal prices on a common set of goods and services, and distinguishing them from those price shifts resulting from changes in value such as volume, quality, or performance. For example, if the price of a 10 oz. can of corn changes from $0.90 to $1.00 over the course of a year, with no change in quality, then this price difference represents inflation. This single price change would not, however, represent general inflation in an overall economy. To measure overall inflation, the price change of a large "basket" of representative goods and services is measured. This is the purpose of a price index, which is the combined price of a "basket" of many goods and services. The combined price is the sum of the weighted average prices of items in the "basket". A weighted price is calculated by multiplying the unit price of an item to the number of those items the average consumer purchases. Weighted pricing is a necessary means to measuring the impact of individual unit price changes on the economy's overall inflation. The Consumer Price Index, for example, uses data collected by surveying households to determine what proportion of the typical consumer's overall spending is spent on specific goods and services, and weights the average prices of those items accordingly. Those weighted average prices are combined to calculate the overall price. To better relate price changes over time, indexes typically choose a "base year" price and assign it a value of 100. Index prices in subsequent years are then expressed in relation to the base year price.[8]
Inflation measures are often modified over time, either for the relative weight of goods in the basket, or in the way in which goods and services from the present are compared with goods and services from the past. Over time adjustments are made to the type of goods and services selected in order to reflect changes in the sorts of goods and services purchased by 'typical consumers'. New products may be introduced, older products disappear, the quality of existing products may change, and consumer preferences can shift. Both the sorts of goods and services which are included in the "basket" and the weighted price used in inflation measures will be changed over time in order to keep pace with the changing marketplace.
Inflation numbers are often seasonally adjusted in order to differentiate expected cyclical cost shifts. For example, home heating costs are expected to rise in colder months, and seasonal adjustments are often used when measuring for inflation to compensate for cyclical spikes in energy or fuel demand. Inflation numbers may be averaged or otherwise subjected to statistical techniques in order to remove statistical noise and volatility of individual prices.
When looking at inflation economic institutions may focus only on certain kinds of prices, or special indices, such as the core inflation index which is used by central banks to formulate monetary policy.
[edit] Effects
[edit] Negative
An increase in the general level of prices implies a decrease in the purchasing power of the currency. That is, when the general level of prices rises, each monetary unit buys fewer goods and services.[17] The effect of inflation is not distributed evenly, and as a consequence there are hidden costs to some and benefits to others from this decrease in purchasing power. For example, with inflation lenders or depositors who are paid a fixed rate of interest on loans or deposits will lose purchasing power from their interest earnings, while their borrowers benefit. Individuals or institutions with cash assets will experience a decline in the purchasing power of their holdings. Increases in payments to workers and pensioners often lag behind inflation, especially for those with fixed payments.[8]
High or unpredictable inflation rates are regarded as harmful to an overall economy. They add inefficiencies in the market, and make it difficult for companies to budget or plan long-term. Inflation can act as a drag on productivity as companies are forced to shift resources away from products and services in order to focus on profit and losses from currency inflation.[8] Uncertainty about the future purchasing power of money discourages investment and saving.[18] And inflation can impose hidden tax increases, as inflated earnings push taxpayers into higher income tax rates.
With high inflation, purchasing power is redistributed from those on fixed incomes such as pensioners towards those with variable incomes whose earnings may better keep pace with the inflation.[8] This redistribution of purchasing power will also occur between international trading partners. Where fixed exchange rates are imposed, rising inflation in one economy will cause its exports to become more expensive and affect the balance of trade. There can also be negative impacts to trade from an increased instability in currency exchange prices caused by unpredictable inflation.
Cost-push inflation
Rising inflation can prompt employees to demand higher wages, to keep up with consumer prices. Rising wages in turn can help fuel inflation. In the case of collective bargaining, wages will be set as a factor of price expectations, which will be higher when inflation has an upward trend. This can cause a wage spiral.[19] In a sense, inflation begets further inflationary expectations.
Hoarding
People buy consumer durables as stores of wealth in the absence of viable alternatives as a means of getting rid of excess cash before it is devalued, creating shortages of the hoarded objects.
Hyperinflation
If inflation gets totally out of control (in the upward direction), it can grossly interfere with the normal workings of the economy, hurting its ability to supply.
Allocative efficiency
A change in the supply or demand for a good will normally cause its price to change, signalling to buyers and sellers that they should re-allocate resources in response to the new market conditions. But when prices are constantly changing due to inflation, genuine price signals get lost in the noise, so agents are slow to respond to them. The result is a loss of allocative efficiency.
Shoe leather cost
High inflation increases the opportunity cost of holding cash balances and can induce people to hold a greater portion of their assets in interest paying accounts. However, since cash is still needed in order to carry out transactions this means that more "trips to the bank" are necessary in order to make withdrawals, proverbially wearing out the "shoe leather" with each trip.
Menu costs
With high inflation, firms must change their prices often in order to keep up with economy wide changes. But often changing prices is itself a costly activity whether explicitly, as with the need to print new menus, or implicitly.
Business cycles
According to the Austrian Business Cycle Theory, inflation sets off the business cycle. Austrian economists hold this to be the most damaging effect of inflation. According to Austrian theory, artificially low interest rates and the associated increase in the money supply lead to reckless, speculative borrowing, resulting in clusters of malinvestments, which eventually have to be liquidated as they become unsustainable.[20]
[edit] Positive
Labor-market adjustments
Keynesians believe that nominal wages are slow to adjust downwards. This can lead to prolonged disequilibrium and high unemployment in the labor market. Since inflation would lower the real wage if nominal wages are kept constant, Keynesians argue that some inflation is good for the economy, as it would allow labor markets to reach equilibrium faster.
Debt relief
Debtors who have debts with a fixed nominal rate of interest will see a reduction in the "real" interest rate as the inflation rate rises. The “real” interest on a loan is the nominal rate minus the inflation rate. (R=n-i) For example if you take a loan where the stated interest rate is 6% and the inflation rate is at 3%, the real interest rate that you are paying for the loan is 3%. It would also hold true that if you had a loan at a fixed interest rate of 6% and the inflation rate jumped to 20% you would have a real interest rate of -14%. Banks and other lenders adjust for this inflation risk either by including an inflation premium in the costs of lending the money by creating a higher initial stated interest rate or by setting the interest at a variable rate.
Room to maneuver
The primary tools for controlling the money supply are the ability to set the discount rate, the rate at which banks can borrow from the central bank, and open market operations which are the central bank's interventions into the bonds market with the aim of affecting the nominal interest rate. If an economy finds itself in a recession with already low, or even zero, nominal interest rates, then the bank cannot cut these rates further (since negative nominal interest rates are impossible) in order to stimulate the economy - this situation is known as a liquidity trap. A moderate level of inflation tends to ensure that nominal interest rates stay sufficiently above zero so that if the need arises the bank can cut the nominal interest rate.
Tobin effect
The Nobel prize winning economist James Tobin at one point had argued that a moderate level of inflation can increase investment in an economy leading to faster growth or at least higher steady state level of income. This is due to the fact that inflation lowers the return on monetary assets relative to real assets, such as physical capital. To avoid inflation, investors would switch from holding their assets as money (or a similar, susceptible to inflation, form) to investing in real capital projects. See Tobin monetary model[21]
[edit] Causes
The Bank of England, central bank of the United Kingdom, monitors causes and attempts to control inflation.Historically, a great deal of economic literature was concerned with the question of what causes inflation and what effect it has. There were different schools of thought as to the causes of inflation. Most can be divided into two broad areas: quality theories of inflation and quantity theories of inflation. The quality theory of inflation rests on the expectation of a seller accepting currency to be able to exchange that currency at a later time for goods that are desirable as a buyer. The quantity theory of inflation rests on the quantity equation of money, that relates the money supply, its velocity, and the nominal value of exchanges. Adam Smith and David Hume proposed a quantity theory of inflation for money, and a quality theory of inflation for production.[citation needed]
Currently, the quantity theory of money is widely accepted as an accurate model of inflation in the long run. Consequently, there is now broad agreement among economists that in the long run, the inflation rate is essentially dependent on the growth rate of money supply. However, in the short and medium term inflation may be affected by supply and demand pressures in the economy, and influenced by the relative elasticity of wages, prices and interest rates.[22] The question of whether the short-term effects last long enough to be important is the central topic of debate between monetarist and Keynesian economists. In monetarism prices and wages adjust quickly enough to make other factors merely marginal behavior on a general trend-line. In the Keynesian view, prices and wages adjust at different rates, and these differences have enough effects on real output to be "long term" in the view of people in an economy.
[edit] Keynesian view
Keynesian economic theory proposes that money is transparent to real forces in the economy, and that visible inflation is the result of pressures in the economy expressing themselves in prices.
There are three major types of inflation, as part of what Robert J. Gordon calls the "triangle model":[23]
Demand-pull inflation: inflation caused by increases in aggregate demand due to increased private and government spending, etc. Demand inflation is constructive to a faster rate of economic growth since the excess demand and favourable market conditions will stimulate investment and expansion.
Cost-push inflation: also called "supply shock inflation," caused by drops in aggregate supply due to increased prices of inputs, for example. Take for instance a sudden decrease in the supply of oil, which would increase oil prices. Producers for whom oil is a part of their costs could then pass this on to consumers in the form of increased prices.
Built-in inflation: induced by adaptive expectations, often linked to the "price/wage spiral" because it involves workers trying to keep their wages up (gross wages have to increase above the CPI rate to net to CPI after-tax) with prices and then employers passing higher costs on to consumers as higher prices as part of a "vicious circle." Built-in inflation reflects events in the past, and so might be seen as hangover inflation.
A major demand-pull theory centers on the supply of money: inflation may be caused by an increase in the quantity of money in circulation relative to the ability of the economy to supply (its potential output). This is most obvious when governments finance spending in a crisis, such as a civil war, by printing money excessively, often leading to hyperinflation, a condition where prices can double in a month or less. Another cause can be a rapid decline in the demand for money, as happened in Europe during the Black Death.
The money supply is also thought to play a major role in determining moderate levels of inflation, although there are differences of opinion on how important it is. For example, Monetarist economists believe that the link is very strong; Keynesian economics, by contrast, typically emphasize the role of aggregate demand in the economy rather than the money supply in determining inflation. That is, for Keynesians the money supply is only one determinant of aggregate demand. Some economists disagree with the notion that central banks control the money supply, arguing that central banks have little control because the money supply adapts to the demand for bank credit issued by commercial banks. This is the theory of endogenous money. Advocated strongly by post-Keynesians as far back as the 1960s, it has today become a central focus of Taylor rule advocates. This position is not universally accepted: banks create money by making loans, but the aggregate volume of these loans diminishes as real interest rates increase. Thus, central banks influence the money supply by making money cheaper or more expensive, and thus increasing or decreasing its production.
A fundamental concept in inflation analysis is the relationship between inflation and unemployment, called the Phillips curve. This model suggests that there is a trade-off between price stability and employment. Therefore, some level of inflation could be considered desirable in order to minimize unemployment. The Phillips curve model described the U.S. experience well in the 1960s but failed to describe the combination of rising inflation and economic stagnation (sometimes referred to as stagflation) experienced in the 1970s.
Thus, modern macroeconomics describes inflation using a Phillips curve that shifts (so the trade-off between inflation and unemployment changes) because of such matters as supply shocks and inflation becoming built into the normal workings of the economy. The former refers to such events as the oil shocks of the 1970s, while the latter refers to the price/wage spiral and inflationary expectations implying that the economy "normally" suffers from inflation. Thus, the Phillips curve represents only the demand-pull component of the triangle model.
Another concept of note is the potential output (sometimes called the "natural gross domestic product"), a level of GDP, where the economy is at its optimal level of production given institutional and natural constraints. (This level of output corresponds to the Non-Accelerating Inflation Rate of Unemployment, NAIRU, or the "natural" rate of unemployment or the full-employment unemployment rate.) If GDP exceeds its potential (and unemployment is below the NAIRU), the theory says that inflation will accelerate as suppliers increase their prices and built-in inflation worsens. If GDP falls below its potential level (and unemployment is above the NAIRU), inflation will decelerate as suppliers attempt to fill excess capacity, cutting prices and undermining built-in inflation.
However, one problem with this theory for policy-making purposes is that the exact level of potential output (and of the NAIRU) is generally unknown and tends to change over time. Inflation also seems to act in an asymmetric way, rising more quickly than it falls. Worse, it can change because of policy: for example, high unemployment under British Prime Minister Margaret Thatcher might have led to a rise in the NAIRU (and a fall in potential) because many of the unemployed found themselves as structurally unemployed (also see unemployment), unable to find jobs that fit their skills. A rise in structural unemployment implies that a smaller percentage of the labor force can find jobs at the NAIRU, where the economy avoids crossing the threshold into the realm of accelerating inflation.
[edit] Monetarist view
For more details on this topic, see Monetarists.
Monetarists believe the most significant factor influencing inflation or deflation is the management of money supply through the easing or tightening of credit. They consider fiscal policy, or government spending and taxation, as ineffective in controlling inflation.[24]
Monetarists assert that the empirical study of monetary history shows that inflation has always been a monetary phenomenon. The quantity theory of money, simply stated, says that the total amount of spending in an economy is primarily determined by the total amount of money in existence. This theory begins with the identity:
where
P is the general price level;
V is the velocity of money in final expenditures;
Q is an index of the real value of final expenditures;
M is the quantity of money.
In this formula, the general price level is affected by the level of economic activity (Q), the quantity of money (M) and the velocity of money (V). The formula is an identity because the velocity of money (V) is defined to be the ratio of final expenditure () to the quantity of money (M).
Velocity of money is often assumed to be constant, and the real value of output is determined in the long run by the productive capacity of the economy. Under these assumptions, the primary driver of the change in the general price level is changes in the quantity of money. With constant velocity, the money supply determines the value of nominal output (which equals final expenditure) in the short run. In practice, velocity is not constant, and can only be measured indirectly and so the formula does not necessarily imply a stable relationship between money supply and nominal output. However, in the long run, changes in money supply and level of economic activity usually dwarf changes in velocity. If velocity is relatively constant, the long run rate of increase in prices (inflation) is equal to the difference between the long run growth rate of money supply and the long run growth rate of real output.[5]
[edit] Rational expectations theory
Main article: Rational expectations theory
Rational expectations theory holds that economic actors look rationally into the future when trying to maximize their well-being, and do not respond solely to immediate opportunity costs and pressures. In this view, while generally grounded in monetarism, future expectations and strategies are important for inflation as well.
A core assertion of rational expectations theory is that actors will seek to "head off" central-bank decisions by acting in ways that fulfill predictions of higher inflation. This means that central banks must establish their credibility in fighting inflation, or have economic actors make bets that the economy will expand, believing that the central bank will expand the money supply rather than allow a recession.
[edit] Austrian theory
For more details on this topic, see The Austrian view of inflation
The Austrian School asserts that inflation is an increase in the money supply, rising prices are merely consequences and this semantic difference is important in defining inflation.[25] Austrian economists measure the inflation by calculating the growth of new units of money that are available for immediate use in exchange, that have been created over time.[26][27][28] This interpretation of inflation implies that inflation is always a distinct action taken by the central government or its central bank, which permits or allows an increase in the money supply.[29] In addition to state-induced monetary expansion, the Austrian School also maintains that the effects of increasing the money supply are magnified by credit expansion, as a result of the fractional-reserve banking system employed in most economic and financial systems in the world.[30]
Austrians argue that the state uses inflation as one of the three means by which it can fund its activities (inflation tax), the other two being taxation and borrowing.[31] Various forms of military spending is often cited as a reason for resorting to inflation and borrowing, as this can be a short term way of acquiring marketable resources and is often favored by desperate, indebted governments.[32]
In other cases, Austrians argue that the government actually creates economic recessions and depressions, by creating artificial booms that distort the structure of production. The central bank may try to avoid or defer the widespread bankruptcies and insolvencies which cause economic recessions or depressions by artificially trying to "stimulate" the economy through "encouraging" money supply growth and further borrowing via artificially low interest rates.[33] Accordingly, many Austrian economists support the abolition of the central banks and the fractional-reserve banking system, and advocate returning to a 100 percent gold standard, or less frequently, free banking.[34][35] They argue this would constrain unsustainable and volatile fractional-reserve banking practices, ensuring that money supply growth (and inflation) would never spiral out of control.[36][37]
[edit] Real bills doctrine
Main article: Real bills doctrine
Within the context of a fixed specie basis for money, one important controversy was between the quantity theory of money and the real bills doctrine (RBD). Within this context, quantity theory applies to the level of fractional reserve accounting allowed against specie, generally gold, held by a bank. Currency and banking schools of economics argue the RBD, that banks should also be able to issue currency against bills of trading, which is "real bills" that they buy from merchants. This theory was important in the 19th century in debates between "Banking" and "Currency" schools of monetary soundness, and in the formation of the Federal Reserve. In the wake of the collapse of the international gold standard post 1913, and the move towards deficit financing of government, RBD has remained a minor topic, primarily of interest in limited contexts, such as currency boards. It is generally held in ill repute today, with Frederic Mishkin, a governor of the Federal Reserve going so far as to say it had been "completely discredited." Even so, it has theoretical support from a few economists, particularly those that see restrictions on a particular class of credit as incompatible with libertarian principles of laissez-faire, even though almost all libertarian economists are opposed to the RBD.
The debate between currency, or quantity theory, and banking schools in Britain during the 19th century prefigures current questions about the credibility of money in the present. In the 19th century the banking school had greater influence in policy in the United States and Great Britain, while the currency school had more influence "on the continent", that is in non-British countries, particularly in the Latin Monetary Union and the earlier Scandinavia monetary union.
[edit] Anti-classical or backing theory
Another issue associated with classical political economy is the anti-classical hypothesis of money, or "backing theory". The backing theory argues that the value of money is determined by the assets and liabilities of the issuing agency.[38] Unlike the Quantity Theory of classical political economy, the backing theory argues that issuing authorities can issue money without causing inflation so long as the money issuer has sufficient assets to cover redemptions.
[edit] Controlling inflation
A variety of methods have been used in attempts to control inflation.
[edit] Monetary policy
Main article: Monetary policy
Please help improve this article or section by expanding it. Further information might be found on the talk page. (September 2008)
The U.S. effective federal funds rate charted over fifty years.Today the primary tool for controlling inflation is monetary policy. Most central banks are tasked with keeping the federal funds lending rate at a low level, normally to a target rate around 2% to 3% per annum, and within a targeted low inflation range, somewhere from about 2% to 6% per annum.
There are a number of methods that have been suggested to control inflation. Central banks such as the U.S. Federal Reserve can affect inflation to a significant extent through setting interest rates and through other operations. High interest rates and slow growth of the money supply are the traditional ways through which central banks fight or prevent inflation, though they have different approaches. For instance, some follow a symmetrical inflation target while others only control inflation when it rises above a target, whether express or implied.
Monetarists emphasize increasing interest rates (slowing the rise in the money supply, monetary policy) to fight inflation. Keynesians emphasize reducing demand in general, often through fiscal policy, using increased taxation or reduced government spending to reduce demand as well as by using monetary policy. Supply-side economists advocate fighting inflation by fixing the exchange rate between the currency and some reference currency such as gold. This would be a return to the gold standard. All of these policies are achieved in practice through a process of open market operations.
[edit] Fixed exchange rates
Main article: Fixed exchange rate
Under a fixed exchange rate currency regime, a country's currency is tied in value to another single currency or to a basket of other currencies (or sometimes to another measure of value, such as gold). A fixed exchange rate is usually used to stabilize the value of a currency, vis-a-vis the currency it is pegged to. It can also be used as a means to control inflation. However, as the value of the reference currency rises and falls, so does the currency pegged to it. This essentially means that the inflation rate in the fixed exchange rate country is determined by the inflation rate of the country the currency is pegged to. In addition, a fixed exchange rate prevents a government from using domestic monetary policy in order to achieve macroeconomic stability.
Under the Bretton Woods agreement, most countries around the world had currencies that were fixed to the US dollar. This limited inflation in those countries, but also exposed them to the danger of speculative attacks. After the Bretton Woods agreement broke down in the early 1970s, countries gradually turned to floating exchange rates. However, in the later part of the 20th century, some countries reverted to a fixed exchange rate as part of an attempt to control inflation. This policy of using a fixed exchange rate to control inflation was used in many countries in South America in the later part of the 20th century (e.g. Argentina (1991-2002), Bolivia, Brazil, and Chile).
[edit] Gold standard
Main article: Gold standard
Under a gold standard, paper notes are convertible into pre-set, fixed quantities of gold.The gold standard is a monetary system in which a region's common media of exchange are paper notes that are normally freely convertible into pre-set, fixed quantities of gold. The standard specifies how the gold backing would be implemented, including the amount of specie per currency unit. The currency itself has no innate value, but is accepted by traders because it can be redeemed for the equivalent specie. A U.S. silver certificate, for example, could be redeemed for an actual piece of silver.
Gold was a common form of representative money due to its rarity, durability, divisibility, fungibility, and ease of identification.[39] Representative money and the gold standard were used to protect citizens from hyperinflation and other abuses of monetary policy, as were seen in some countries during the Great Depression. However, they were not without their problems and critics, and so were partially abandoned via the international adoption of the Bretton Woods System. Under this system all other major currencies were tied at fixed rates to the dollar, which itself was tied to gold at the rate of $35 per ounce. That system eventually collapsed in 1971, which caused most countries to switch to fiat money, backed only by the laws of the country. Austrian economists strongly favor a return to a 100 percent gold standard.
Under a gold standard, the long term rate of inflation (or deflation) would be determined by the growth rate of the supply of gold relative to total output.[40] Critics argue that this will cause arbitrary fluctuations in the inflation rate, and that monetary policy would essentially be determined by gold mining,[41][42] which some believe contributed to the Great Depression.[43][44][42]
[edit] Wage and price controls
Main article: Incomes policies
Another method attempted in the past have been wage and price controls ("incomes policies"). Wage and price controls have been successful in wartime environments in combination with rationing. However, their use in other contexts is far more mixed. Notable failures of their use include the 1972 imposition of wage and price controls by Richard Nixon. More successful examples include the Prices and Incomes Accord in Australia and the Wassenaar Agreement in the Netherlands.
In general wage and price controls are regarded as a temporary and exceptional measure, only effective when coupled with policies designed to reduce the underlying causes of inflation during the wage and price control regime, for example, winning the war being fought. They often have perverse effects, due to the distorted signals they send to the market. Artificially low prices often cause rationing and shortages and discourage future investment, resulting in yet further shortages. The usual economic analysis is that any product or service that is under-priced is overconsumed. For example, if the official price of bread is too low, there will be too little bread at official prices, and too little investment in bread making by the market to satisfy future needs, thereby exacerbating the problem in the long term.
Temporary controls may complement a recession as a way to fight inflation: the controls make the recession more efficient as a way to fight inflation (reducing the need to increase unemployment), while the recession prevents the kinds of distortions that controls cause when demand is high. However, in general the advice of economists is not to impose price controls but to liberalize prices by assuming that the economy will adjust and abandon unprofitable economic activity. The lower activity will place fewer demands on whatever commodities were driving inflation, whether labor or resources, and inflation will fall with total economic output. This often produces a severe recession, as productive capacity is reallocated and is thus often very unpopular with the people whose livelihoods are destroyed (see creative destruction).
[edit] Cost-of-living allowance
For more details on this topic, see Cost of living.
The real purchasing-power of fixed payments is eroded by inflation unless they are inflation-adjusted to keep their real values constant. In many countries, employment contracts, pension benefits, and government entitlements (such as social security) are tied to a cost-of-living index, typically to the consumer price index.[45] A cost-of-living allowance (COLA) adjusts salaries based on changes in a cost-of-living index. Salaries are typically adjusted annually.[45] They may also be tied to a cost-of-living index that varies by geographic location if the employee moves.
Annual escalation clauses in employment contracts can specify retroactive or future percentage increases in worker pay which are not tied to any index. These negotiated increases in pay are colloquially referred to as cost-of-living adjustments or cost-of-living increases because of their similarity to increases tied to externally-determined indexes. Many economists and compensation analysts consider the idea of predetermined future "cost of living increases" to be misleading for two reasons: (1) For most recent periods in the industrialized world, average wages have increased faster than most calculated cost-of-living indexes, reflecting the influence of rising productivity and worker bargaining power rather than simply living costs, and (2) most cost-of-living indexes are not forward-looking, but instead compare current or historical data.
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Agflation
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Inflation adjustment
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Seignorage
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In economics, inflation is a rise in the general level of prices of goods and services in an economy over a period of time.[1] When the general price level rises, each unit of currency buys fewer goods and services; consequently, inflation is also a decline in the real value of money—a loss of purchasing power in the medium of exchange which is also the monetary unit of account in the economy.[2] A chief measure of general price-level inflation is the general inflation rate, which is the percentage change in a general price index (normally the Consumer Price Index) over time.[3]
Inflation can have adverse effects on an economy. For example, uncertainty about future inflation may discourage investment and saving. High inflation may lead to shortages of goods if consumers begin hoarding out of concern that prices will increase in the future.
Economists generally agree that high rates of inflation and hyperinflation are caused by an excessive growth of the money supply.[4] Views on which factors determine low to moderate rates of inflation are more varied. Low or moderate inflation may be attributed to fluctuations in real demand for goods and services, or changes in available supplies such as during scarcities, as well as to growth in the money supply. However, the consensus view is that a long sustained period of inflation is caused by money supply growing faster than the rate of economic growth.[5][6]
Today, most economists favor a low steady rate of inflation.[7] Low (as opposed to zero or negative) inflation may reduce the severity of economic recessions by enabling the labor market to adjust more quickly in a downturn, and reduce the risk that a liquidity trap prevents monetary policy from stabilizing the economy. The task of keeping the rate of inflation low and stable is usually given to monetary authorities. Generally, these monetary authorities are the central banks that control the size of the money supply through the setting of interest rates, through open market operations, and through the setting of banking reserve requirements.[8]
Contents
1 Origins
2 Related definitions
3 Measures
3.1 Issues in measuring
4 Effects
4.1 Negative
4.2 Positive
5 Causes
5.1 Keynesian view
5.2 Monetarist view
5.3 Rational expectations theory
5.4 Austrian theory
5.5 Real bills doctrine
5.6 Anti-classical or backing theory
6 Controlling inflation
6.1 Monetary policy
6.2 Fixed exchange rates
6.3 Gold standard
6.4 Wage and price controls
6.5 Cost-of-living allowance
7 See also
8 Notes
9 References
10 Further reading
11 External links
[edit] Origins
Inflation originally referred to the debasement of the currency. When gold was used as currency, gold coins could be collected by the government (e.g. the king or the ruler of the region), melted down, mixed with other metals such as silver, copper or lead, and reissued at the same nominal value. By diluting the gold with other metals, the government could increase the total number of coins issued without also needing to increase the amount of gold used to make them. When the cost of each coin is lowered in this way, the government profits from an increase in seigniorage.[9] This practice would increase the money supply but at the same time lower the relative value of each coin. As the relative value of the coins decrease, consumers would need more coins to exchange for the same goods and services. These goods and services would experience a price increase as the value of each coin is reduced.[10]
By the nineteenth century, economists categorized three separate factors that cause a rise or fall in the price of goods: a change in the value or resource costs of the good, a change in the price of money which then was usually a fluctuation in metallic content in the currency, and currency depreciation resulting from an increased supply of currency relative to the quantity of redeemable metal backing the currency. Following the proliferation of private bank note currency printed during the American Civil War, the term "inflation" started to appear as a direct reference to the currency depreciation that occurred as the quantity of redeemable bank notes outstripped the quantity of metal available for their redemption. The term inflation then referred to the devaluation of the currency, and not to a rise in the price of goods.[11]
This relationship between the over-supply of bank notes and a resulting depreciation in their value was noted by earlier classical economists such as David Hume and David Ricardo, who would go on to examine and debate to what effect a currency devaluation (later termed monetary inflation) has on the price of goods (later termed price inflation, and eventually just inflation).[12]
[edit] Related definitions
The term "inflation" usually refers to a measured rise in a broad price index that represents the overall level of prices in goods and services in the economy. The Consumer Price Index (CPI), the Personal Consumption Expenditures Price Index (PCEPI) and the GDP deflator are some examples of broad price indices. The term inflation may also be used to describe the rising level of prices in a narrow set of assets, goods or services within the economy, such as commodities (which include food, fuel, metals), financial assets (such as stocks, bonds and real estate), and services (such as entertainment and health care). The Reuters-CRB Index (CCI), the Producer Price Index, and Employment Cost Index (ECI) are examples of narrow price indices used to measure price inflation in particular sectors of the economy. Asset price inflation is a rise in the price of assets, as opposed to goods and services. Core inflation is a measure of price fluctuations in a sub-set of the broad price index which excludes food and energy prices. The Federal Reserve Board uses the core inflation rate to measure overall inflation, eliminating food and energy prices to mitigate against short term price fluctuations that could distort estimates of future long term inflation trends in the general economy.[13]
Other related economic concepts include: deflation – a fall in the general price level; disinflation – a decrease in the rate of inflation; hyperinflation – an out-of-control inflationary spiral; stagflation – a combination of inflation, slow economic growth and high unemployment; and reflation – an attempt to raise the general level of prices to counteract deflationary pressures.
[edit] Measures
Annual inflation rates in the United States from 1666 to 2004.Inflation is usually measured by calculating the inflation rate of a price index, usually the Consumer Price Index.[14] The Consumer Price Index measures prices of a selection of goods and services purchased by a "typical consumer".[15] The inflation rate is the percentage rate of change of a price index over time.
For example, in January 2007, the U.S. Consumer Price Index was 202.416, and in January 2008 it was 211.080. The formula for calculating the annual percentage rate inflation in the CPI over the course of 2007 is
The resulting inflation rate for the CPI in this one year period is 4.28%, meaning the general level of prices for typical U.S. consumers rose by approximately four percent in 2007.[16]
Other widely used price indices for calculating price inflation include the following:
Cost-of-living indices (COLI) are indices similar to the CPI which are often used to adjust fixed incomes and contractual incomes to maintain the real value of those incomes.
Producer price indices (PPIs) which measures average changes in prices received by domestic producers for their output. This differs from the CPI in that price subsidization, profits, and taxes may cause the amount received by the producer to differ from what the consumer paid. There is also typically a delay between an increase in the PPI and any eventual increase in the CPI. Producer price index measures the pressure being put on producers by the costs of their raw materials. This could be "passed on" to consumers, or it could be absorbed by profits, or offset by increasing productivity. In India and the United States, an earlier version of the PPI was called the Wholesale Price Index.
Commodity price indices, which measure the price of a selection of commodities. In the present commodity price indices are weighted by the relative importance of the components to the "all in" cost of an employee.
Core price indices: because food and oil prices can change quickly due to changes in supply and demand conditions in the food and oil markets, it can be difficult to detect the long run trend in price levels when those prices are included. Therefore most statistical agencies also report a measure of 'core inflation', which removes the most volatile components (such as food and oil) from a broad price index like the CPI. Because core inflation is less affected by short run supply and demand conditions in specific markets, central banks rely on it to better measure the inflationary impact of current monetary policy.
Other common measures of inflation are:
GDP deflator is a measure of the price of all the goods and services included in Gross Domestic Product (GDP). The US Commerce Department publishes a deflator series for US GDP, defined as its nominal GDP measure divided by its real GDP measure.
Regional inflation The Bureau of Labor Statistics breaks down CPI-U calculations down to different regions of the US.
Historical inflation Before collecting consistent econometric data became standard for governments, and for the purpose of comparing absolute, rather than relative standards of living, various economists have calculated imputed inflation figures. Most inflation data before the early 20th century is imputed based on the known costs of goods, rather than compiled at the time. It is also used to adjust for the differences in real standard of living for the presence of technology.
Asset price inflation is an undue increase in the prices of real or financial assets, such as stock (equity) and real estate. While there is no widely-accepted index of this type, some central bankers have suggested that it would be better to aim at stabilizing a wider general price level inflation measure that includes some asset prices, instead of stabilizing CPI or core inflation only. The reason is that by raising interest rates when stock prices or real estate prices rise, and lowering them when these asset prices fall, central banks might be more successful in avoiding bubbles and crashes in asset prices.[dubious – discuss]
[edit] Issues in measuring
Measuring inflation in an economy requires objective means of differentiating changes in nominal prices on a common set of goods and services, and distinguishing them from those price shifts resulting from changes in value such as volume, quality, or performance. For example, if the price of a 10 oz. can of corn changes from $0.90 to $1.00 over the course of a year, with no change in quality, then this price difference represents inflation. This single price change would not, however, represent general inflation in an overall economy. To measure overall inflation, the price change of a large "basket" of representative goods and services is measured. This is the purpose of a price index, which is the combined price of a "basket" of many goods and services. The combined price is the sum of the weighted average prices of items in the "basket". A weighted price is calculated by multiplying the unit price of an item to the number of those items the average consumer purchases. Weighted pricing is a necessary means to measuring the impact of individual unit price changes on the economy's overall inflation. The Consumer Price Index, for example, uses data collected by surveying households to determine what proportion of the typical consumer's overall spending is spent on specific goods and services, and weights the average prices of those items accordingly. Those weighted average prices are combined to calculate the overall price. To better relate price changes over time, indexes typically choose a "base year" price and assign it a value of 100. Index prices in subsequent years are then expressed in relation to the base year price.[8]
Inflation measures are often modified over time, either for the relative weight of goods in the basket, or in the way in which goods and services from the present are compared with goods and services from the past. Over time adjustments are made to the type of goods and services selected in order to reflect changes in the sorts of goods and services purchased by 'typical consumers'. New products may be introduced, older products disappear, the quality of existing products may change, and consumer preferences can shift. Both the sorts of goods and services which are included in the "basket" and the weighted price used in inflation measures will be changed over time in order to keep pace with the changing marketplace.
Inflation numbers are often seasonally adjusted in order to differentiate expected cyclical cost shifts. For example, home heating costs are expected to rise in colder months, and seasonal adjustments are often used when measuring for inflation to compensate for cyclical spikes in energy or fuel demand. Inflation numbers may be averaged or otherwise subjected to statistical techniques in order to remove statistical noise and volatility of individual prices.
When looking at inflation economic institutions may focus only on certain kinds of prices, or special indices, such as the core inflation index which is used by central banks to formulate monetary policy.
[edit] Effects
[edit] Negative
An increase in the general level of prices implies a decrease in the purchasing power of the currency. That is, when the general level of prices rises, each monetary unit buys fewer goods and services.[17] The effect of inflation is not distributed evenly, and as a consequence there are hidden costs to some and benefits to others from this decrease in purchasing power. For example, with inflation lenders or depositors who are paid a fixed rate of interest on loans or deposits will lose purchasing power from their interest earnings, while their borrowers benefit. Individuals or institutions with cash assets will experience a decline in the purchasing power of their holdings. Increases in payments to workers and pensioners often lag behind inflation, especially for those with fixed payments.[8]
High or unpredictable inflation rates are regarded as harmful to an overall economy. They add inefficiencies in the market, and make it difficult for companies to budget or plan long-term. Inflation can act as a drag on productivity as companies are forced to shift resources away from products and services in order to focus on profit and losses from currency inflation.[8] Uncertainty about the future purchasing power of money discourages investment and saving.[18] And inflation can impose hidden tax increases, as inflated earnings push taxpayers into higher income tax rates.
With high inflation, purchasing power is redistributed from those on fixed incomes such as pensioners towards those with variable incomes whose earnings may better keep pace with the inflation.[8] This redistribution of purchasing power will also occur between international trading partners. Where fixed exchange rates are imposed, rising inflation in one economy will cause its exports to become more expensive and affect the balance of trade. There can also be negative impacts to trade from an increased instability in currency exchange prices caused by unpredictable inflation.
Cost-push inflation
Rising inflation can prompt employees to demand higher wages, to keep up with consumer prices. Rising wages in turn can help fuel inflation. In the case of collective bargaining, wages will be set as a factor of price expectations, which will be higher when inflation has an upward trend. This can cause a wage spiral.[19] In a sense, inflation begets further inflationary expectations.
Hoarding
People buy consumer durables as stores of wealth in the absence of viable alternatives as a means of getting rid of excess cash before it is devalued, creating shortages of the hoarded objects.
Hyperinflation
If inflation gets totally out of control (in the upward direction), it can grossly interfere with the normal workings of the economy, hurting its ability to supply.
Allocative efficiency
A change in the supply or demand for a good will normally cause its price to change, signalling to buyers and sellers that they should re-allocate resources in response to the new market conditions. But when prices are constantly changing due to inflation, genuine price signals get lost in the noise, so agents are slow to respond to them. The result is a loss of allocative efficiency.
Shoe leather cost
High inflation increases the opportunity cost of holding cash balances and can induce people to hold a greater portion of their assets in interest paying accounts. However, since cash is still needed in order to carry out transactions this means that more "trips to the bank" are necessary in order to make withdrawals, proverbially wearing out the "shoe leather" with each trip.
Menu costs
With high inflation, firms must change their prices often in order to keep up with economy wide changes. But often changing prices is itself a costly activity whether explicitly, as with the need to print new menus, or implicitly.
Business cycles
According to the Austrian Business Cycle Theory, inflation sets off the business cycle. Austrian economists hold this to be the most damaging effect of inflation. According to Austrian theory, artificially low interest rates and the associated increase in the money supply lead to reckless, speculative borrowing, resulting in clusters of malinvestments, which eventually have to be liquidated as they become unsustainable.[20]
[edit] Positive
Labor-market adjustments
Keynesians believe that nominal wages are slow to adjust downwards. This can lead to prolonged disequilibrium and high unemployment in the labor market. Since inflation would lower the real wage if nominal wages are kept constant, Keynesians argue that some inflation is good for the economy, as it would allow labor markets to reach equilibrium faster.
Debt relief
Debtors who have debts with a fixed nominal rate of interest will see a reduction in the "real" interest rate as the inflation rate rises. The “real” interest on a loan is the nominal rate minus the inflation rate. (R=n-i) For example if you take a loan where the stated interest rate is 6% and the inflation rate is at 3%, the real interest rate that you are paying for the loan is 3%. It would also hold true that if you had a loan at a fixed interest rate of 6% and the inflation rate jumped to 20% you would have a real interest rate of -14%. Banks and other lenders adjust for this inflation risk either by including an inflation premium in the costs of lending the money by creating a higher initial stated interest rate or by setting the interest at a variable rate.
Room to maneuver
The primary tools for controlling the money supply are the ability to set the discount rate, the rate at which banks can borrow from the central bank, and open market operations which are the central bank's interventions into the bonds market with the aim of affecting the nominal interest rate. If an economy finds itself in a recession with already low, or even zero, nominal interest rates, then the bank cannot cut these rates further (since negative nominal interest rates are impossible) in order to stimulate the economy - this situation is known as a liquidity trap. A moderate level of inflation tends to ensure that nominal interest rates stay sufficiently above zero so that if the need arises the bank can cut the nominal interest rate.
Tobin effect
The Nobel prize winning economist James Tobin at one point had argued that a moderate level of inflation can increase investment in an economy leading to faster growth or at least higher steady state level of income. This is due to the fact that inflation lowers the return on monetary assets relative to real assets, such as physical capital. To avoid inflation, investors would switch from holding their assets as money (or a similar, susceptible to inflation, form) to investing in real capital projects. See Tobin monetary model[21]
[edit] Causes
The Bank of England, central bank of the United Kingdom, monitors causes and attempts to control inflation.Historically, a great deal of economic literature was concerned with the question of what causes inflation and what effect it has. There were different schools of thought as to the causes of inflation. Most can be divided into two broad areas: quality theories of inflation and quantity theories of inflation. The quality theory of inflation rests on the expectation of a seller accepting currency to be able to exchange that currency at a later time for goods that are desirable as a buyer. The quantity theory of inflation rests on the quantity equation of money, that relates the money supply, its velocity, and the nominal value of exchanges. Adam Smith and David Hume proposed a quantity theory of inflation for money, and a quality theory of inflation for production.[citation needed]
Currently, the quantity theory of money is widely accepted as an accurate model of inflation in the long run. Consequently, there is now broad agreement among economists that in the long run, the inflation rate is essentially dependent on the growth rate of money supply. However, in the short and medium term inflation may be affected by supply and demand pressures in the economy, and influenced by the relative elasticity of wages, prices and interest rates.[22] The question of whether the short-term effects last long enough to be important is the central topic of debate between monetarist and Keynesian economists. In monetarism prices and wages adjust quickly enough to make other factors merely marginal behavior on a general trend-line. In the Keynesian view, prices and wages adjust at different rates, and these differences have enough effects on real output to be "long term" in the view of people in an economy.
[edit] Keynesian view
Keynesian economic theory proposes that money is transparent to real forces in the economy, and that visible inflation is the result of pressures in the economy expressing themselves in prices.
There are three major types of inflation, as part of what Robert J. Gordon calls the "triangle model":[23]
Demand-pull inflation: inflation caused by increases in aggregate demand due to increased private and government spending, etc. Demand inflation is constructive to a faster rate of economic growth since the excess demand and favourable market conditions will stimulate investment and expansion.
Cost-push inflation: also called "supply shock inflation," caused by drops in aggregate supply due to increased prices of inputs, for example. Take for instance a sudden decrease in the supply of oil, which would increase oil prices. Producers for whom oil is a part of their costs could then pass this on to consumers in the form of increased prices.
Built-in inflation: induced by adaptive expectations, often linked to the "price/wage spiral" because it involves workers trying to keep their wages up (gross wages have to increase above the CPI rate to net to CPI after-tax) with prices and then employers passing higher costs on to consumers as higher prices as part of a "vicious circle." Built-in inflation reflects events in the past, and so might be seen as hangover inflation.
A major demand-pull theory centers on the supply of money: inflation may be caused by an increase in the quantity of money in circulation relative to the ability of the economy to supply (its potential output). This is most obvious when governments finance spending in a crisis, such as a civil war, by printing money excessively, often leading to hyperinflation, a condition where prices can double in a month or less. Another cause can be a rapid decline in the demand for money, as happened in Europe during the Black Death.
The money supply is also thought to play a major role in determining moderate levels of inflation, although there are differences of opinion on how important it is. For example, Monetarist economists believe that the link is very strong; Keynesian economics, by contrast, typically emphasize the role of aggregate demand in the economy rather than the money supply in determining inflation. That is, for Keynesians the money supply is only one determinant of aggregate demand. Some economists disagree with the notion that central banks control the money supply, arguing that central banks have little control because the money supply adapts to the demand for bank credit issued by commercial banks. This is the theory of endogenous money. Advocated strongly by post-Keynesians as far back as the 1960s, it has today become a central focus of Taylor rule advocates. This position is not universally accepted: banks create money by making loans, but the aggregate volume of these loans diminishes as real interest rates increase. Thus, central banks influence the money supply by making money cheaper or more expensive, and thus increasing or decreasing its production.
A fundamental concept in inflation analysis is the relationship between inflation and unemployment, called the Phillips curve. This model suggests that there is a trade-off between price stability and employment. Therefore, some level of inflation could be considered desirable in order to minimize unemployment. The Phillips curve model described the U.S. experience well in the 1960s but failed to describe the combination of rising inflation and economic stagnation (sometimes referred to as stagflation) experienced in the 1970s.
Thus, modern macroeconomics describes inflation using a Phillips curve that shifts (so the trade-off between inflation and unemployment changes) because of such matters as supply shocks and inflation becoming built into the normal workings of the economy. The former refers to such events as the oil shocks of the 1970s, while the latter refers to the price/wage spiral and inflationary expectations implying that the economy "normally" suffers from inflation. Thus, the Phillips curve represents only the demand-pull component of the triangle model.
Another concept of note is the potential output (sometimes called the "natural gross domestic product"), a level of GDP, where the economy is at its optimal level of production given institutional and natural constraints. (This level of output corresponds to the Non-Accelerating Inflation Rate of Unemployment, NAIRU, or the "natural" rate of unemployment or the full-employment unemployment rate.) If GDP exceeds its potential (and unemployment is below the NAIRU), the theory says that inflation will accelerate as suppliers increase their prices and built-in inflation worsens. If GDP falls below its potential level (and unemployment is above the NAIRU), inflation will decelerate as suppliers attempt to fill excess capacity, cutting prices and undermining built-in inflation.
However, one problem with this theory for policy-making purposes is that the exact level of potential output (and of the NAIRU) is generally unknown and tends to change over time. Inflation also seems to act in an asymmetric way, rising more quickly than it falls. Worse, it can change because of policy: for example, high unemployment under British Prime Minister Margaret Thatcher might have led to a rise in the NAIRU (and a fall in potential) because many of the unemployed found themselves as structurally unemployed (also see unemployment), unable to find jobs that fit their skills. A rise in structural unemployment implies that a smaller percentage of the labor force can find jobs at the NAIRU, where the economy avoids crossing the threshold into the realm of accelerating inflation.
[edit] Monetarist view
For more details on this topic, see Monetarists.
Monetarists believe the most significant factor influencing inflation or deflation is the management of money supply through the easing or tightening of credit. They consider fiscal policy, or government spending and taxation, as ineffective in controlling inflation.[24]
Monetarists assert that the empirical study of monetary history shows that inflation has always been a monetary phenomenon. The quantity theory of money, simply stated, says that the total amount of spending in an economy is primarily determined by the total amount of money in existence. This theory begins with the identity:
where
P is the general price level;
V is the velocity of money in final expenditures;
Q is an index of the real value of final expenditures;
M is the quantity of money.
In this formula, the general price level is affected by the level of economic activity (Q), the quantity of money (M) and the velocity of money (V). The formula is an identity because the velocity of money (V) is defined to be the ratio of final expenditure () to the quantity of money (M).
Velocity of money is often assumed to be constant, and the real value of output is determined in the long run by the productive capacity of the economy. Under these assumptions, the primary driver of the change in the general price level is changes in the quantity of money. With constant velocity, the money supply determines the value of nominal output (which equals final expenditure) in the short run. In practice, velocity is not constant, and can only be measured indirectly and so the formula does not necessarily imply a stable relationship between money supply and nominal output. However, in the long run, changes in money supply and level of economic activity usually dwarf changes in velocity. If velocity is relatively constant, the long run rate of increase in prices (inflation) is equal to the difference between the long run growth rate of money supply and the long run growth rate of real output.[5]
[edit] Rational expectations theory
Main article: Rational expectations theory
Rational expectations theory holds that economic actors look rationally into the future when trying to maximize their well-being, and do not respond solely to immediate opportunity costs and pressures. In this view, while generally grounded in monetarism, future expectations and strategies are important for inflation as well.
A core assertion of rational expectations theory is that actors will seek to "head off" central-bank decisions by acting in ways that fulfill predictions of higher inflation. This means that central banks must establish their credibility in fighting inflation, or have economic actors make bets that the economy will expand, believing that the central bank will expand the money supply rather than allow a recession.
[edit] Austrian theory
For more details on this topic, see The Austrian view of inflation
The Austrian School asserts that inflation is an increase in the money supply, rising prices are merely consequences and this semantic difference is important in defining inflation.[25] Austrian economists measure the inflation by calculating the growth of new units of money that are available for immediate use in exchange, that have been created over time.[26][27][28] This interpretation of inflation implies that inflation is always a distinct action taken by the central government or its central bank, which permits or allows an increase in the money supply.[29] In addition to state-induced monetary expansion, the Austrian School also maintains that the effects of increasing the money supply are magnified by credit expansion, as a result of the fractional-reserve banking system employed in most economic and financial systems in the world.[30]
Austrians argue that the state uses inflation as one of the three means by which it can fund its activities (inflation tax), the other two being taxation and borrowing.[31] Various forms of military spending is often cited as a reason for resorting to inflation and borrowing, as this can be a short term way of acquiring marketable resources and is often favored by desperate, indebted governments.[32]
In other cases, Austrians argue that the government actually creates economic recessions and depressions, by creating artificial booms that distort the structure of production. The central bank may try to avoid or defer the widespread bankruptcies and insolvencies which cause economic recessions or depressions by artificially trying to "stimulate" the economy through "encouraging" money supply growth and further borrowing via artificially low interest rates.[33] Accordingly, many Austrian economists support the abolition of the central banks and the fractional-reserve banking system, and advocate returning to a 100 percent gold standard, or less frequently, free banking.[34][35] They argue this would constrain unsustainable and volatile fractional-reserve banking practices, ensuring that money supply growth (and inflation) would never spiral out of control.[36][37]
[edit] Real bills doctrine
Main article: Real bills doctrine
Within the context of a fixed specie basis for money, one important controversy was between the quantity theory of money and the real bills doctrine (RBD). Within this context, quantity theory applies to the level of fractional reserve accounting allowed against specie, generally gold, held by a bank. Currency and banking schools of economics argue the RBD, that banks should also be able to issue currency against bills of trading, which is "real bills" that they buy from merchants. This theory was important in the 19th century in debates between "Banking" and "Currency" schools of monetary soundness, and in the formation of the Federal Reserve. In the wake of the collapse of the international gold standard post 1913, and the move towards deficit financing of government, RBD has remained a minor topic, primarily of interest in limited contexts, such as currency boards. It is generally held in ill repute today, with Frederic Mishkin, a governor of the Federal Reserve going so far as to say it had been "completely discredited." Even so, it has theoretical support from a few economists, particularly those that see restrictions on a particular class of credit as incompatible with libertarian principles of laissez-faire, even though almost all libertarian economists are opposed to the RBD.
The debate between currency, or quantity theory, and banking schools in Britain during the 19th century prefigures current questions about the credibility of money in the present. In the 19th century the banking school had greater influence in policy in the United States and Great Britain, while the currency school had more influence "on the continent", that is in non-British countries, particularly in the Latin Monetary Union and the earlier Scandinavia monetary union.
[edit] Anti-classical or backing theory
Another issue associated with classical political economy is the anti-classical hypothesis of money, or "backing theory". The backing theory argues that the value of money is determined by the assets and liabilities of the issuing agency.[38] Unlike the Quantity Theory of classical political economy, the backing theory argues that issuing authorities can issue money without causing inflation so long as the money issuer has sufficient assets to cover redemptions.
[edit] Controlling inflation
A variety of methods have been used in attempts to control inflation.
[edit] Monetary policy
Main article: Monetary policy
Please help improve this article or section by expanding it. Further information might be found on the talk page. (September 2008)
The U.S. effective federal funds rate charted over fifty years.Today the primary tool for controlling inflation is monetary policy. Most central banks are tasked with keeping the federal funds lending rate at a low level, normally to a target rate around 2% to 3% per annum, and within a targeted low inflation range, somewhere from about 2% to 6% per annum.
There are a number of methods that have been suggested to control inflation. Central banks such as the U.S. Federal Reserve can affect inflation to a significant extent through setting interest rates and through other operations. High interest rates and slow growth of the money supply are the traditional ways through which central banks fight or prevent inflation, though they have different approaches. For instance, some follow a symmetrical inflation target while others only control inflation when it rises above a target, whether express or implied.
Monetarists emphasize increasing interest rates (slowing the rise in the money supply, monetary policy) to fight inflation. Keynesians emphasize reducing demand in general, often through fiscal policy, using increased taxation or reduced government spending to reduce demand as well as by using monetary policy. Supply-side economists advocate fighting inflation by fixing the exchange rate between the currency and some reference currency such as gold. This would be a return to the gold standard. All of these policies are achieved in practice through a process of open market operations.
[edit] Fixed exchange rates
Main article: Fixed exchange rate
Under a fixed exchange rate currency regime, a country's currency is tied in value to another single currency or to a basket of other currencies (or sometimes to another measure of value, such as gold). A fixed exchange rate is usually used to stabilize the value of a currency, vis-a-vis the currency it is pegged to. It can also be used as a means to control inflation. However, as the value of the reference currency rises and falls, so does the currency pegged to it. This essentially means that the inflation rate in the fixed exchange rate country is determined by the inflation rate of the country the currency is pegged to. In addition, a fixed exchange rate prevents a government from using domestic monetary policy in order to achieve macroeconomic stability.
Under the Bretton Woods agreement, most countries around the world had currencies that were fixed to the US dollar. This limited inflation in those countries, but also exposed them to the danger of speculative attacks. After the Bretton Woods agreement broke down in the early 1970s, countries gradually turned to floating exchange rates. However, in the later part of the 20th century, some countries reverted to a fixed exchange rate as part of an attempt to control inflation. This policy of using a fixed exchange rate to control inflation was used in many countries in South America in the later part of the 20th century (e.g. Argentina (1991-2002), Bolivia, Brazil, and Chile).
[edit] Gold standard
Main article: Gold standard
Under a gold standard, paper notes are convertible into pre-set, fixed quantities of gold.The gold standard is a monetary system in which a region's common media of exchange are paper notes that are normally freely convertible into pre-set, fixed quantities of gold. The standard specifies how the gold backing would be implemented, including the amount of specie per currency unit. The currency itself has no innate value, but is accepted by traders because it can be redeemed for the equivalent specie. A U.S. silver certificate, for example, could be redeemed for an actual piece of silver.
Gold was a common form of representative money due to its rarity, durability, divisibility, fungibility, and ease of identification.[39] Representative money and the gold standard were used to protect citizens from hyperinflation and other abuses of monetary policy, as were seen in some countries during the Great Depression. However, they were not without their problems and critics, and so were partially abandoned via the international adoption of the Bretton Woods System. Under this system all other major currencies were tied at fixed rates to the dollar, which itself was tied to gold at the rate of $35 per ounce. That system eventually collapsed in 1971, which caused most countries to switch to fiat money, backed only by the laws of the country. Austrian economists strongly favor a return to a 100 percent gold standard.
Under a gold standard, the long term rate of inflation (or deflation) would be determined by the growth rate of the supply of gold relative to total output.[40] Critics argue that this will cause arbitrary fluctuations in the inflation rate, and that monetary policy would essentially be determined by gold mining,[41][42] which some believe contributed to the Great Depression.[43][44][42]
[edit] Wage and price controls
Main article: Incomes policies
Another method attempted in the past have been wage and price controls ("incomes policies"). Wage and price controls have been successful in wartime environments in combination with rationing. However, their use in other contexts is far more mixed. Notable failures of their use include the 1972 imposition of wage and price controls by Richard Nixon. More successful examples include the Prices and Incomes Accord in Australia and the Wassenaar Agreement in the Netherlands.
In general wage and price controls are regarded as a temporary and exceptional measure, only effective when coupled with policies designed to reduce the underlying causes of inflation during the wage and price control regime, for example, winning the war being fought. They often have perverse effects, due to the distorted signals they send to the market. Artificially low prices often cause rationing and shortages and discourage future investment, resulting in yet further shortages. The usual economic analysis is that any product or service that is under-priced is overconsumed. For example, if the official price of bread is too low, there will be too little bread at official prices, and too little investment in bread making by the market to satisfy future needs, thereby exacerbating the problem in the long term.
Temporary controls may complement a recession as a way to fight inflation: the controls make the recession more efficient as a way to fight inflation (reducing the need to increase unemployment), while the recession prevents the kinds of distortions that controls cause when demand is high. However, in general the advice of economists is not to impose price controls but to liberalize prices by assuming that the economy will adjust and abandon unprofitable economic activity. The lower activity will place fewer demands on whatever commodities were driving inflation, whether labor or resources, and inflation will fall with total economic output. This often produces a severe recession, as productive capacity is reallocated and is thus often very unpopular with the people whose livelihoods are destroyed (see creative destruction).
[edit] Cost-of-living allowance
For more details on this topic, see Cost of living.
The real purchasing-power of fixed payments is eroded by inflation unless they are inflation-adjusted to keep their real values constant. In many countries, employment contracts, pension benefits, and government entitlements (such as social security) are tied to a cost-of-living index, typically to the consumer price index.[45] A cost-of-living allowance (COLA) adjusts salaries based on changes in a cost-of-living index. Salaries are typically adjusted annually.[45] They may also be tied to a cost-of-living index that varies by geographic location if the employee moves.
Annual escalation clauses in employment contracts can specify retroactive or future percentage increases in worker pay which are not tied to any index. These negotiated increases in pay are colloquially referred to as cost-of-living adjustments or cost-of-living increases because of their similarity to increases tied to externally-determined indexes. Many economists and compensation analysts consider the idea of predetermined future "cost of living increases" to be misleading for two reasons: (1) For most recent periods in the industrialized world, average wages have increased faster than most calculated cost-of-living indexes, reflecting the influence of rising productivity and worker bargaining power rather than simply living costs, and (2) most cost-of-living indexes are not forward-looking, but instead compare current or historical data.
[edit] See also
Agflation
Constant Purchasing Power Accounting
Consumer Price Index
Deflation
Depreciation
Disinflation
Devaluation
Hyperinflation
Inflation accounting
Inflation adjustment
International Financial Reporting Standards
List of countries by inflation rate
Macroeconomics
Price revolution
Real versus nominal value (economics)
Rule of 72
Stagflation
Steady state economy
Seignorage
United Nations Statistics Division
1920s German inflation
2007-2008 world food price crisis
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