Malinvaud, Edmond. (1985). The theory of unemployment reconsidered (2nd ed.). New York, NY, USA: B. Blackwell.
“Eight years after the first edition of this book, its main message still stands, namely that the microeconomic theory of fixed-price general equilibrium has direct significance for the macroeconomic theory of involuntary unemployment” (vii).
“Before I proceed, I must make it clear why general equilibrium analysis is a proper approach to the study of unemployment. Indeed, most economists nowadays strongly abject to such an idea. The objection comes from a misunderstanding of what general equilibrium analysis really is. Economists have been brought up to think that the very notion of equilibrium implies that, for each commodity, supply must equal demand, which of course cannot be the case for labour if some involuntary unemployment remains. But a general equilibrium is an abstract construct that has no logical obligation to assume equality between supply and demand” (4-5). “The classical development of economic theory and the dominant role played by the Walrasian system explain why many people are not reluctant to accept that the name ‘equilibrium’ could be applied outside of this system. Some of these people, often irritated by the highbrow mathematical theory that was built around the concept of competitive equilibrium, claim that such a concept is hopelessly inadequate to any real problem. Others speak as if the Walrasian equilibrium was not an abstraction but almost a real situation that would prevail if no disturbance occurred.” (5).
The rest of the book attempts to apply this general equilibrium seeking model to the issue of unemployment and policy.
Wednesday, April 30, 2008
Walras: Elements of Pure Economics
Walras, Léon. (1954). Elements of pure economics. London,: Published by Allen and Unwin.
Walras spends a bit of the first section of his book exploring a definition for political economy, as well as distinguishing between art, science and ethics. “There is a theory of wealth, that is, a theory of exchange and value in exchange, which is a science, and a theory of the production of wealth, that is, a theory of agriculture, industry and trade, which is an art…that political economy may be considered both as an explanation of what is and as a programme of what ought to be. Now, what ought to be, should be considered as such either from the point of view of expediency or material well-being, or from the point of view of equity or justice. What ought to be from the point of view of material well-being is the concern of applied science or art; while what ought to be from the point of view of justice is the concern of moral science or ethics.” (60).
Then goes on to explain what value in exchange is, distinguished between a person an a thing, adds that when a thing has value and is scarce, then it is exchangeable, explains that markets exist for the exchange of these things, that the price of the things being exchanged is similar to gravity in that it is a natural force, explains that, like gravity, we can affect it (decrease/increase supply/demand), then wonders why we would abstractly theorize about the interaction in the market when we can use mathematical language to more efficiently represent it.
“Only useful things limited in quantity can be produced by industry and all things that industry produces are scarce…In fact we may be certain that industry does nothing but produce scarce things and that it endeavors to produce them all” (73).
The book then goes on to methodically lay out the structure of economic interactions between purchasers and sellers. There are assumptions of rationality on the parts of the individuals, either utility or profit. Then, because these assumptions are reached, market clearing behavior takes over. Also, a socially optimum price is reached, a socially optimum level of production and utility are also reached.
*skipped much text
“Let…be the quantities of final products which consumers need to hold as reserves in kind; let…be the quantities of consumers’ goods and services they need to have on hand in the form of cash reserves; and let…be the quantity of new capital goods evaluated in numéraire which consumers require in the form of money savings. Altogether these quantities make up a fund of working or circulating capital for consumption” (377).
“Furthermore, let…be the quantities of newly produced final products, raw materials and new capital goods in stock and on display which producers need to have on reserve in kind’ and let…be the quantities of final products, raw materials, capital goods and productive services which these same producers require in the form of cash reserves. These quantities make up a fund of working or circulation capital for production” (377). “These two revolving funds added together…constitute the economy’s circulating capital…” (377).
“Finally, in order to come still more closely to reality, we must drop the hypothesis of an annual market period and adopt in its place the hypothesis of a continuous market. Thus, we pass from the static to the dynamic state. For this purpose, we shall now suppose that the annual production and consumption, which we had hitherto represented as a constant magnitude for every moment of the year under consideration, change from instant to instant along with the basic data of the problem” (380).
“Every hour, nay, every minute, portions of these different classes of circulating capital are disappearin and reappearing. Personal capital, capital goods proper and money also disappear and reappear, in a similar manner, but much more slowly. Only landed capital escapes this process of renewal. Such is the continuous market, which is perpetually tendin towards equilibrium without ever actually attaining it, because the market has no other way of approaching equilibrium except by groping, and, before the goal is reached, it has to renew its efforts and start over again, all the basic data of the problem, e.g. the initial quantities possessed, the utilities of goods and services, the technical coefficients, the excess of income over consumption, the workin capital requirements, etc., having changed in the meantime. Viewed in this way, the market is like a lake agitated by the wind, where the water is incessantly seeking its level without ever reaching it. But whereas there are days when the surface of a lake is almost smooth, there never is a day when the effective demand for products and services equals their effective supply and when the selling price of products equals the cost of the productive services used in making them” (380).
Walras spends a bit of the first section of his book exploring a definition for political economy, as well as distinguishing between art, science and ethics. “There is a theory of wealth, that is, a theory of exchange and value in exchange, which is a science, and a theory of the production of wealth, that is, a theory of agriculture, industry and trade, which is an art…that political economy may be considered both as an explanation of what is and as a programme of what ought to be. Now, what ought to be, should be considered as such either from the point of view of expediency or material well-being, or from the point of view of equity or justice. What ought to be from the point of view of material well-being is the concern of applied science or art; while what ought to be from the point of view of justice is the concern of moral science or ethics.” (60).
Then goes on to explain what value in exchange is, distinguished between a person an a thing, adds that when a thing has value and is scarce, then it is exchangeable, explains that markets exist for the exchange of these things, that the price of the things being exchanged is similar to gravity in that it is a natural force, explains that, like gravity, we can affect it (decrease/increase supply/demand), then wonders why we would abstractly theorize about the interaction in the market when we can use mathematical language to more efficiently represent it.
“Only useful things limited in quantity can be produced by industry and all things that industry produces are scarce…In fact we may be certain that industry does nothing but produce scarce things and that it endeavors to produce them all” (73).
The book then goes on to methodically lay out the structure of economic interactions between purchasers and sellers. There are assumptions of rationality on the parts of the individuals, either utility or profit. Then, because these assumptions are reached, market clearing behavior takes over. Also, a socially optimum price is reached, a socially optimum level of production and utility are also reached.
*skipped much text
“Let…be the quantities of final products which consumers need to hold as reserves in kind; let…be the quantities of consumers’ goods and services they need to have on hand in the form of cash reserves; and let…be the quantity of new capital goods evaluated in numéraire which consumers require in the form of money savings. Altogether these quantities make up a fund of working or circulating capital for consumption” (377).
“Furthermore, let…be the quantities of newly produced final products, raw materials and new capital goods in stock and on display which producers need to have on reserve in kind’ and let…be the quantities of final products, raw materials, capital goods and productive services which these same producers require in the form of cash reserves. These quantities make up a fund of working or circulation capital for production” (377). “These two revolving funds added together…constitute the economy’s circulating capital…” (377).
“Finally, in order to come still more closely to reality, we must drop the hypothesis of an annual market period and adopt in its place the hypothesis of a continuous market. Thus, we pass from the static to the dynamic state. For this purpose, we shall now suppose that the annual production and consumption, which we had hitherto represented as a constant magnitude for every moment of the year under consideration, change from instant to instant along with the basic data of the problem” (380).
“Every hour, nay, every minute, portions of these different classes of circulating capital are disappearin and reappearing. Personal capital, capital goods proper and money also disappear and reappear, in a similar manner, but much more slowly. Only landed capital escapes this process of renewal. Such is the continuous market, which is perpetually tendin towards equilibrium without ever actually attaining it, because the market has no other way of approaching equilibrium except by groping, and, before the goal is reached, it has to renew its efforts and start over again, all the basic data of the problem, e.g. the initial quantities possessed, the utilities of goods and services, the technical coefficients, the excess of income over consumption, the workin capital requirements, etc., having changed in the meantime. Viewed in this way, the market is like a lake agitated by the wind, where the water is incessantly seeking its level without ever reaching it. But whereas there are days when the surface of a lake is almost smooth, there never is a day when the effective demand for products and services equals their effective supply and when the selling price of products equals the cost of the productive services used in making them” (380).
Friday, April 25, 2008
Ginsburgh & Keyzer: The Structure of AGE Models
Ginsburgh, Victor and Michiel Keyzer. (1997). The structure of applied general equilibrium models. Cambridge Mass.: MIT Press.
“This book describes the structure of general equilibrium models. It is written for the researcher who intends to construct or study applied general equilibrium (AGE models and has a special interest in their theoretical background. Both general equilibrium theory and AGE modeling continue to be active fields of research, but the styles of presentation differ greatly. Whereas the applied model builder often finds the style of theoretical papers inaccessible, the theoretician can hardly recognize the concepts he is used to in the list of equations of applied models. The main purpose of the book is to present the theoretical models in a unified way and to indicate how the main concepts can find their way into applications” (xiii).
The book then goes on to do this in an apparently thorough way.
UPDATE:
"Profit-maximizing behavior has been questioned in two respects: Do producers have access to all the information that they need to optimize? Is profit maximization a rational rule of conduct for the owners of the firm? With respect to the first issue, in reality producers are obviously faced with uncertainty about their external environment...and about their own production set...Therefore, in applications, one maintains profit maximization but accounts for uncertainty by restricting the production set through additional constraints. For example, one excludes highly unreliable techniques or limits the options for substitution" (41-2).
"In the literature, general equilibrium models are presented in very different ways. Some are written in terms of excess demand, as in section 1.3, others in terms of welfare programs, as in section 1.4" (91). "When the structure of the model is changed, say, to introduce international trade, taxes, or external effects, or when some assumptions are relaxed, such as allowing for nonconvexities, one format is usually best suited for proofs of existence of equilibrium; another should possibly be used for analysis of efficiency, and yet others for applied work and for computation. However, it should be stressed that all formats describe the same model and lead to the same equilibrium solutions" (91).
Basic format of CGE: Goods and Factors: economy is separated into goods and factors; Production Sets: every producer supplies a single good, every good requires factors; Endowments: factors are owned by consumers; Utility: consumers have utility that is continuous, strictly quasiconcave and nonsatiated (109-10).
"We will consider that a model is written in CGE format when it is specified as a system of simultaneous equations consisting of commodity balances...for goods and factors, price equations...for goods and budget equations..." (110).
“This book describes the structure of general equilibrium models. It is written for the researcher who intends to construct or study applied general equilibrium (AGE models and has a special interest in their theoretical background. Both general equilibrium theory and AGE modeling continue to be active fields of research, but the styles of presentation differ greatly. Whereas the applied model builder often finds the style of theoretical papers inaccessible, the theoretician can hardly recognize the concepts he is used to in the list of equations of applied models. The main purpose of the book is to present the theoretical models in a unified way and to indicate how the main concepts can find their way into applications” (xiii).
The book then goes on to do this in an apparently thorough way.
UPDATE:
"Profit-maximizing behavior has been questioned in two respects: Do producers have access to all the information that they need to optimize? Is profit maximization a rational rule of conduct for the owners of the firm? With respect to the first issue, in reality producers are obviously faced with uncertainty about their external environment...and about their own production set...Therefore, in applications, one maintains profit maximization but accounts for uncertainty by restricting the production set through additional constraints. For example, one excludes highly unreliable techniques or limits the options for substitution" (41-2).
"In the literature, general equilibrium models are presented in very different ways. Some are written in terms of excess demand, as in section 1.3, others in terms of welfare programs, as in section 1.4" (91). "When the structure of the model is changed, say, to introduce international trade, taxes, or external effects, or when some assumptions are relaxed, such as allowing for nonconvexities, one format is usually best suited for proofs of existence of equilibrium; another should possibly be used for analysis of efficiency, and yet others for applied work and for computation. However, it should be stressed that all formats describe the same model and lead to the same equilibrium solutions" (91).
Basic format of CGE: Goods and Factors: economy is separated into goods and factors; Production Sets: every producer supplies a single good, every good requires factors; Endowments: factors are owned by consumers; Utility: consumers have utility that is continuous, strictly quasiconcave and nonsatiated (109-10).
"We will consider that a model is written in CGE format when it is specified as a system of simultaneous equations consisting of commodity balances...for goods and factors, price equations...for goods and budget equations..." (110).
Adelman & Robinson: Macroeconomic Adjustment and Income Distribution
Adelman, Irma and Sherman Robinson. (1988). "Macroeconomic adjustment and income distribution : Alternative models applied to two economies". Journal of Development Economics, 29(1), 23-44. http://www.sciencedirect.com:80/science/article/B6VBV-45NHVST-10/1/8f843dd9b8dd40cd989877c99456f484\par
This paper attempts to rectify a disagreement about the distributional capabilities that resulted from two earlier CGE model deployments.
“In the development literature, CGE models trace their lineage back to the input-output based multisector models widely applied to problems of planning in developing countries in the 1960s. While firmly based on the foundations of Walrasian general equilibrium theory, a CGE model can also be seen as a logical culmination of a trend in the planning model literature to add more and more substitutability and non-linearity to the basic input-output model. A CGE model works by: (1) specifying the various actors in the economy (for example, firms, households, government, and the rest of the world); (2) describing their motivation and behavior (utility maximization for consumers and profit maximization for firms); (3) specifying the institutional structure, including the nature of market interactions (competitive markets for goods and labor); and (4) solving for the equilibrium values of all endogenous variables. The model simulates the working of a market economy and solves for a set of prices…that clears all markets…The model is highly non-linear with neoclassical production expenditure functions, and incorporates a variety of substitution possibilities in production and demand” (25).
These models were initially used to examine how tax structures effected a Walrasian economic system. This base has been built upon by modelers, who have added to it more “structural” features that are not a part of neoclassical economic theory. The paper goes on in much detail to examine CGE models. I stopped here.
This paper attempts to rectify a disagreement about the distributional capabilities that resulted from two earlier CGE model deployments.
“In the development literature, CGE models trace their lineage back to the input-output based multisector models widely applied to problems of planning in developing countries in the 1960s. While firmly based on the foundations of Walrasian general equilibrium theory, a CGE model can also be seen as a logical culmination of a trend in the planning model literature to add more and more substitutability and non-linearity to the basic input-output model. A CGE model works by: (1) specifying the various actors in the economy (for example, firms, households, government, and the rest of the world); (2) describing their motivation and behavior (utility maximization for consumers and profit maximization for firms); (3) specifying the institutional structure, including the nature of market interactions (competitive markets for goods and labor); and (4) solving for the equilibrium values of all endogenous variables. The model simulates the working of a market economy and solves for a set of prices…that clears all markets…The model is highly non-linear with neoclassical production expenditure functions, and incorporates a variety of substitution possibilities in production and demand” (25).
These models were initially used to examine how tax structures effected a Walrasian economic system. This base has been built upon by modelers, who have added to it more “structural” features that are not a part of neoclassical economic theory. The paper goes on in much detail to examine CGE models. I stopped here.
Hahn: On Non-Walrasian Equilibria
Hahn, Frank. (1978). "On Non-Walrasian Equilibria". Review of Economic Studies, 45(139), 1. http://search.ebscohost.com/login.aspx?direct=true&db=buh&AN=4624761&site=ehost-live\par
“I shall call an economy non-Walrasian whenever the trading possibilities of agents cannot be described as the set of trades which at given prices make the value of purchases no greater than the value of sales” (1). Non-Walrasian economics is important to understand, mostly because Walrasian economics can’t fully explain current economic systems. Hahn highlights two difficulties when using Walrasian economic analysis: what happens when one wants to highlight and explore an economy that is not in equilibrium and secondly, that the perfect competition postulate is empirically wrong (1).
“I shall call an economy non-Walrasian whenever the trading possibilities of agents cannot be described as the set of trades which at given prices make the value of purchases no greater than the value of sales” (1). Non-Walrasian economics is important to understand, mostly because Walrasian economics can’t fully explain current economic systems. Hahn highlights two difficulties when using Walrasian economic analysis: what happens when one wants to highlight and explore an economy that is not in equilibrium and secondly, that the perfect competition postulate is empirically wrong (1).
Robinson: Multisectoral Models
Robinson, Sherman. (1988). "Multisectoral Models". In Hollis Burnley Chenery, T. N. Srinivasan & Jere R. Behrman (Eds.), Handbook of development economics (pp. 3 v. in 4). Amsterdam ; New YorkNew York, N.Y., U.S.A.: North-Holland ; Sole distributors for the U.S.A. and Canada, Elsevier Science Pub. Co.
There are three main ways that Robinson identifies that can be used to classify different CGE models. The first is by highlighting the mathematical structure of the model. The second is by what policy is the focus of the model. The third is by the theoretical foundation of the model (886).
The author firstly explains how CGE models grew out of linear modeling work completed before the 1970s. “In the early 1970s, work was started on a new type of non-linear, multisectoral model which sought to simulate the workings of a market economy, solving for both market prices and quantities simultaneously. These computable general equilibrium (CGE) models can be seen as a natural outgrowth of input-output and LP models, adding neoclassical substitutability in production and demand, as well as an explicit system of market prices and a complete specification of the income flows in the economy. The first developing country application was Adelman and Robinson (1978), which started an extensive literature” (888).
Robinson then goes on to identify four important solution techniques that were developed in the late 70s.
“One can classify models along a continuum running from analytic to applied. Analytic models are designed to explore the implications of various sets of theoretical postulates, with as few assumptions as possible about the magnitudes of parameters” (891). “Typically, stylized numerical models are more complex than analytic models, since wider applicability is desired and simplicity is no longer required. Stylized numerical models nonetheless tend to stay close to their underlying analytic models. Since the goal is to explore particular causal mechanisms, simplicity is desirable. Stylized models are still a long way from models which seek to capture in a realistic way the variety of important effects that might impinge on a particular policy problem facing a particular country” (892). “Applied models differ from stylized models in two important ways. First, they broaden further the range of stylized facts that are incorporated. Second, they seek to capture important features of a particular economy or situation. For example, while a styli9zed model can represent a number of similar countries…an applied model would be built for a particular country. By including more institutional detail, applied models are more specific and narrow” (892).
“In general, analytic models do not yield specific policy recommendations” (893).
“While multisector models applied to developing countries are Walrasian and neoclassical in spirit, most modelers quickly abandoned many of the strong assumptions of neoclassical theory when faced with the problem of capturing the stylized facts characterizing these economies. The assumptions of perfect competition, perfectly functioning markets with flexible prices, and free mobility of products and factors are not sustainable in actual economies. Instead, modelers have incorporated a variety of ‘structuralist’ rigidities into their models that seek to capture non-neoclassical behavioral relations, macro imbalances, and institutional rigidities characteristic of developing countries” (894).
“One problem is that applied modelers often seek to draw on strands of theory outside the paradigm of Arrow-Debreu general equilibrium theory. The concept of equilibrium imbedded in the neo classical general equilibrium model underlying all multisector models its that of flow equilibrium in product and factor markets. There are additional equilibrium concepts that one might want to capture in a model, reflecting different underlying analytical theories. A second concept is that of equilibrium in aggregate ‘financial’ or ‘nominal’ flows, which define3d a notion of macro equilibrium—the heart of Keynesian macroeconomics. A third concept is that of equilibrium in asset markets, defining another form of macro equilibrium. Fourth, there is inter-temporal equilibrium involving expectations—adaptive, rational, consistent, or whatever—in an explicitly dynamic framework. The four equilibrium concepts are not independent, and it is an open question how adequate are theoretical and empirical models that only include one or two of them.” (895).
At the end of 895-6, Robinson addresses the issue of non-Walrasian models and equilibrium seeking components. He concludes that they may be just as equilibrium seeking, but that there is just a different equilibrium being sought that is no more or less rigorous than the Walrasian alternative.
“The CGE framework requires a complete specification of both the supply and demand sides of all markets, including gall the nominal magnitudes in the circular flow” (906). On page 907, Robinson outlines the simplest structure of a Walrasian CGE. It starts, at its most basic level, with producers and households. These two actors then are assumed to maximize utility or profits. They respond to signals, in the most basic case, to prices. Finally, the structure of the interaction of the units must be specified. This can become much more complex as models grow, and other actors can be imposed.
This, however, does not fully make a CGE. “With the specification of the agents, their motivation and the institutional constraints under which they interact, a general equilibrium model is still not completely determined. One must also define ‘equilibrium conditions’ which are ‘system constraints’ that must be satisfied, but that are not taken into account by any agent in making his decisions. Formally, an equilibrium can be defined as a set of signals such that the resulting decisions of all agents jointly satisfy the system constraints. The signals represent the equilibrating variables of the model. For example, a market equilibrium in a competitive model is defined as a set of prices and associated quantities such that all excess demands are zero. In a market economy, prices are the equilibrating variables that vary to achieve market clearing.
“As discussed earlier, the definition of equilibrium conditions is a fundamental property of a model. The specification of equilibrating variables and of system constraints that characterize and equilibrium can be seen as a simplifying device that providers a way to describe the results of the workings of an actual economy. For example, instead of specifying prices as equilibrating variables to achieve market clearing, one could instead try to model price determination explicitly, specifying ‘disequilibrium’ price adjustment rules to describe how prices change over time. Such a specification is theoretically very difficult to implement—indeed, event to define—and completely unnecessary if one is willing to accept the market-clearing system constraints under flexible prices as a reasonable description of the final result of such a process within the time period described by the model” (908).
A neoclassical, closed-economy CGE is described.
“Within the framework of the CGE model, one can distinguish three kinds of structuralist models” (913). These different structural aspects, or additions, to traditional neoclassical CGE models are to correct for variance and error. The first remains theoretically close to neoclassical modeling. In this structural addition, there are substitution elasticities that are imposed and is termed “elasticity structuralist” (914). Secondly, there is the “micro-structuralist” version of the model which, “assumes that various markets do not work properly or are not present at all. Instead, there are assumed to be restrictions on factor mobility, rigid prices, rationing and neoclassical disequilibrium in one or more important markets” (914). Thirdly, there is the “macro-structural” model (914). This approach emphasizes, “…achieving equilibrium among various macro aggregates; in particular, savings and investment, exports and imports and government expenditure and revenue” (914).
UPDATE:
“One problem is that applied modellers often seek to draw on strands of theory outside the paradigm of Arrow-Debreu general equilibrium theory. The concept of equilibrium imbedded in the neoclassical general equilibrium model underlying all multisectoral models is that of flow equilibrium in product and factor markets. There are additional equilibrium concepts that one might want to capture in a model, reflecting different underlying analytical theories. A second concept is that of equilibrium in aggregate ‘financial’ or ‘nominal’ flows, which defines a notion of macro equilibrium—the heart of Keynesian macroeconomics. A third concept is that of equilibrium in asset markets, defining another form of macro equilibrium. Fourth, there is intertemporal equilibrium involving expectations—adaptive, rational, consistent, or whatever—in an explicitly dynamic framework. The four equilibrium are not independent, and it is an open question how adequate are theoretical and empirical models that only include one or two of them” (895).
“There is as yet no acceptable reconciliation of micro and macro theory, and the Walrasian model is an uneasy host for incorporating macro phenomena” (896).
There are three main ways that Robinson identifies that can be used to classify different CGE models. The first is by highlighting the mathematical structure of the model. The second is by what policy is the focus of the model. The third is by the theoretical foundation of the model (886).
The author firstly explains how CGE models grew out of linear modeling work completed before the 1970s. “In the early 1970s, work was started on a new type of non-linear, multisectoral model which sought to simulate the workings of a market economy, solving for both market prices and quantities simultaneously. These computable general equilibrium (CGE) models can be seen as a natural outgrowth of input-output and LP models, adding neoclassical substitutability in production and demand, as well as an explicit system of market prices and a complete specification of the income flows in the economy. The first developing country application was Adelman and Robinson (1978), which started an extensive literature” (888).
Robinson then goes on to identify four important solution techniques that were developed in the late 70s.
“One can classify models along a continuum running from analytic to applied. Analytic models are designed to explore the implications of various sets of theoretical postulates, with as few assumptions as possible about the magnitudes of parameters” (891). “Typically, stylized numerical models are more complex than analytic models, since wider applicability is desired and simplicity is no longer required. Stylized numerical models nonetheless tend to stay close to their underlying analytic models. Since the goal is to explore particular causal mechanisms, simplicity is desirable. Stylized models are still a long way from models which seek to capture in a realistic way the variety of important effects that might impinge on a particular policy problem facing a particular country” (892). “Applied models differ from stylized models in two important ways. First, they broaden further the range of stylized facts that are incorporated. Second, they seek to capture important features of a particular economy or situation. For example, while a styli9zed model can represent a number of similar countries…an applied model would be built for a particular country. By including more institutional detail, applied models are more specific and narrow” (892).
“In general, analytic models do not yield specific policy recommendations” (893).
“While multisector models applied to developing countries are Walrasian and neoclassical in spirit, most modelers quickly abandoned many of the strong assumptions of neoclassical theory when faced with the problem of capturing the stylized facts characterizing these economies. The assumptions of perfect competition, perfectly functioning markets with flexible prices, and free mobility of products and factors are not sustainable in actual economies. Instead, modelers have incorporated a variety of ‘structuralist’ rigidities into their models that seek to capture non-neoclassical behavioral relations, macro imbalances, and institutional rigidities characteristic of developing countries” (894).
“One problem is that applied modelers often seek to draw on strands of theory outside the paradigm of Arrow-Debreu general equilibrium theory. The concept of equilibrium imbedded in the neo classical general equilibrium model underlying all multisector models its that of flow equilibrium in product and factor markets. There are additional equilibrium concepts that one might want to capture in a model, reflecting different underlying analytical theories. A second concept is that of equilibrium in aggregate ‘financial’ or ‘nominal’ flows, which define3d a notion of macro equilibrium—the heart of Keynesian macroeconomics. A third concept is that of equilibrium in asset markets, defining another form of macro equilibrium. Fourth, there is inter-temporal equilibrium involving expectations—adaptive, rational, consistent, or whatever—in an explicitly dynamic framework. The four equilibrium concepts are not independent, and it is an open question how adequate are theoretical and empirical models that only include one or two of them.” (895).
At the end of 895-6, Robinson addresses the issue of non-Walrasian models and equilibrium seeking components. He concludes that they may be just as equilibrium seeking, but that there is just a different equilibrium being sought that is no more or less rigorous than the Walrasian alternative.
“The CGE framework requires a complete specification of both the supply and demand sides of all markets, including gall the nominal magnitudes in the circular flow” (906). On page 907, Robinson outlines the simplest structure of a Walrasian CGE. It starts, at its most basic level, with producers and households. These two actors then are assumed to maximize utility or profits. They respond to signals, in the most basic case, to prices. Finally, the structure of the interaction of the units must be specified. This can become much more complex as models grow, and other actors can be imposed.
This, however, does not fully make a CGE. “With the specification of the agents, their motivation and the institutional constraints under which they interact, a general equilibrium model is still not completely determined. One must also define ‘equilibrium conditions’ which are ‘system constraints’ that must be satisfied, but that are not taken into account by any agent in making his decisions. Formally, an equilibrium can be defined as a set of signals such that the resulting decisions of all agents jointly satisfy the system constraints. The signals represent the equilibrating variables of the model. For example, a market equilibrium in a competitive model is defined as a set of prices and associated quantities such that all excess demands are zero. In a market economy, prices are the equilibrating variables that vary to achieve market clearing.
“As discussed earlier, the definition of equilibrium conditions is a fundamental property of a model. The specification of equilibrating variables and of system constraints that characterize and equilibrium can be seen as a simplifying device that providers a way to describe the results of the workings of an actual economy. For example, instead of specifying prices as equilibrating variables to achieve market clearing, one could instead try to model price determination explicitly, specifying ‘disequilibrium’ price adjustment rules to describe how prices change over time. Such a specification is theoretically very difficult to implement—indeed, event to define—and completely unnecessary if one is willing to accept the market-clearing system constraints under flexible prices as a reasonable description of the final result of such a process within the time period described by the model” (908).
A neoclassical, closed-economy CGE is described.
“Within the framework of the CGE model, one can distinguish three kinds of structuralist models” (913). These different structural aspects, or additions, to traditional neoclassical CGE models are to correct for variance and error. The first remains theoretically close to neoclassical modeling. In this structural addition, there are substitution elasticities that are imposed and is termed “elasticity structuralist” (914). Secondly, there is the “micro-structuralist” version of the model which, “assumes that various markets do not work properly or are not present at all. Instead, there are assumed to be restrictions on factor mobility, rigid prices, rationing and neoclassical disequilibrium in one or more important markets” (914). Thirdly, there is the “macro-structural” model (914). This approach emphasizes, “…achieving equilibrium among various macro aggregates; in particular, savings and investment, exports and imports and government expenditure and revenue” (914).
UPDATE:
“One problem is that applied modellers often seek to draw on strands of theory outside the paradigm of Arrow-Debreu general equilibrium theory. The concept of equilibrium imbedded in the neoclassical general equilibrium model underlying all multisectoral models is that of flow equilibrium in product and factor markets. There are additional equilibrium concepts that one might want to capture in a model, reflecting different underlying analytical theories. A second concept is that of equilibrium in aggregate ‘financial’ or ‘nominal’ flows, which defines a notion of macro equilibrium—the heart of Keynesian macroeconomics. A third concept is that of equilibrium in asset markets, defining another form of macro equilibrium. Fourth, there is intertemporal equilibrium involving expectations—adaptive, rational, consistent, or whatever—in an explicitly dynamic framework. The four equilibrium are not independent, and it is an open question how adequate are theoretical and empirical models that only include one or two of them” (895).
“There is as yet no acceptable reconciliation of micro and macro theory, and the Walrasian model is an uneasy host for incorporating macro phenomena” (896).
Thursday, April 24, 2008
Taylor: Socially Relevant Policy Analysis
Taylor, Lance. (1990). Socially relevant policy analysis : structuralist computable general equilibrium models for the developing world. Cambridge, Mass.: MIT Press.
This edited volume is designed to promote the use and development of structural CGE models. The first chapter by Taylor is of interest to me. In that chapter, Taylor outlines structural CGE models and distinguishes them from neoclassical CGE (or Walrasian) models.
“The emphasis here is on ‘structuralist’ models, which account for only some of the CGEs. Their perspective is broader than that of other, more ‘neoclassical’ constructs. Lustig (1988) nicely summarizes the ideas around which they are build: ‘Structuralist thought considers that structural characteristics (the repetition is appropriate) of the economy are fundamental to its behavior. Among the structural factors are the distribution of income and wealth, tenancy relationships on the land, the type and degree of specialization in foreign trade, the density of chains of production, the degree of concentration in markets, control of the means of production by distinct types of actors (the private sector, the state, or transnational capital), the functioning of financial intermediaries, and penetration of technical advance, as well as sociopolitical factors associated with the extent of organization of the working class and other influential sectors and classes, the geographical and sectoral distribution of the population, and its level of skills” (1).
Some general guides for a structural model of the economy: economic institutions (classes, states, corporations, for example) are not price takers; the flow is typically from investment, exports and fiscal demand (all predetermined) to income distribution, import/exports and savings; the money supply adjusts relatively statically to inflation; financial intermediation is an important driver; imported intermediate goods required to support domestic production; and development is not balanced (2-3).
“How are these views about the economy built into a model? Structuralists’s [sic] practice has five key features. First, they begin their analysis by singling out economically relevant sets of people and institutions and specifying how they fit into available data on income and wealth distributions. In Adelman and Robinson’s (1989) phrase, they create an ‘extended functional distribution’ based on the institutional structure of the economy at hand. Each set of economic actors typically is related to a functional category of the income distribution…or a production sector; it ahs different behavior patterns and partial controls over the system. In practice, a group, a class, or institution may be labeled by specific income flows rather than membership in an identifiable cluster of firms or individuals, but that is a shortcut. The justification for taking it is the belief that actions both of legal persons such as the state, or corporate sector and of real households reflect their positions in the economic system as revealed by their principal income source. They interact according to behavioral rules the modeler specifies, with consequent repercussions on macroeconomic equilibrium” (3).
“Startin from such notions of economic structure and institutions or class runs counter to neoclassical practice. Economists presently in the ‘mainstream’ devote their time to ‘deriving’ macro behavioral functions from stylized optimization exercises that individual persons, firms, and even the government are supposed to undertake. If clever, the analyst can fold the separate optimizations into a Pareto first-, second-, or nth-best equilibrium that can be represented as the extreme value of a social welfare function. A harmonious, welfare-maximizing economy (perhaps with a few ‘distortions’ to be removed) represents the mainstream version…More adventurous neoclassicals may build in rent-seeking bureaucrats and other obstructions, but few go far in trying to bring class and economic power into their models through the rational agent back door” (4).
Second distinction: money flows in terms of prices and monetary terms, not real terms.
Third: “…different prices are under varying degrees of control by distinct groups in the economy…the models herein postulate that power plays a role in price formation” (5).
Fourth: substitution based on price occurs, but it is not core to the models.
Fifth: “…their behavior [the models] depends crucially upon their description of causal linkages in the macroeconomic system” (6).
This edited volume is designed to promote the use and development of structural CGE models. The first chapter by Taylor is of interest to me. In that chapter, Taylor outlines structural CGE models and distinguishes them from neoclassical CGE (or Walrasian) models.
“The emphasis here is on ‘structuralist’ models, which account for only some of the CGEs. Their perspective is broader than that of other, more ‘neoclassical’ constructs. Lustig (1988) nicely summarizes the ideas around which they are build: ‘Structuralist thought considers that structural characteristics (the repetition is appropriate) of the economy are fundamental to its behavior. Among the structural factors are the distribution of income and wealth, tenancy relationships on the land, the type and degree of specialization in foreign trade, the density of chains of production, the degree of concentration in markets, control of the means of production by distinct types of actors (the private sector, the state, or transnational capital), the functioning of financial intermediaries, and penetration of technical advance, as well as sociopolitical factors associated with the extent of organization of the working class and other influential sectors and classes, the geographical and sectoral distribution of the population, and its level of skills” (1).
Some general guides for a structural model of the economy: economic institutions (classes, states, corporations, for example) are not price takers; the flow is typically from investment, exports and fiscal demand (all predetermined) to income distribution, import/exports and savings; the money supply adjusts relatively statically to inflation; financial intermediation is an important driver; imported intermediate goods required to support domestic production; and development is not balanced (2-3).
“How are these views about the economy built into a model? Structuralists’s [sic] practice has five key features. First, they begin their analysis by singling out economically relevant sets of people and institutions and specifying how they fit into available data on income and wealth distributions. In Adelman and Robinson’s (1989) phrase, they create an ‘extended functional distribution’ based on the institutional structure of the economy at hand. Each set of economic actors typically is related to a functional category of the income distribution…or a production sector; it ahs different behavior patterns and partial controls over the system. In practice, a group, a class, or institution may be labeled by specific income flows rather than membership in an identifiable cluster of firms or individuals, but that is a shortcut. The justification for taking it is the belief that actions both of legal persons such as the state, or corporate sector and of real households reflect their positions in the economic system as revealed by their principal income source. They interact according to behavioral rules the modeler specifies, with consequent repercussions on macroeconomic equilibrium” (3).
“Startin from such notions of economic structure and institutions or class runs counter to neoclassical practice. Economists presently in the ‘mainstream’ devote their time to ‘deriving’ macro behavioral functions from stylized optimization exercises that individual persons, firms, and even the government are supposed to undertake. If clever, the analyst can fold the separate optimizations into a Pareto first-, second-, or nth-best equilibrium that can be represented as the extreme value of a social welfare function. A harmonious, welfare-maximizing economy (perhaps with a few ‘distortions’ to be removed) represents the mainstream version…More adventurous neoclassicals may build in rent-seeking bureaucrats and other obstructions, but few go far in trying to bring class and economic power into their models through the rational agent back door” (4).
Second distinction: money flows in terms of prices and monetary terms, not real terms.
Third: “…different prices are under varying degrees of control by distinct groups in the economy…the models herein postulate that power plays a role in price formation” (5).
Fourth: substitution based on price occurs, but it is not core to the models.
Fifth: “…their behavior [the models] depends crucially upon their description of causal linkages in the macroeconomic system” (6).
Dervis et. al.: General Equilibrium Models for Development Policy
Dervis, Kemal, Jaime De Melo and Sherman Robinson. (1982). General equilibrium models for development policy. Cambridge [Cambridgeshire] ; New York: Cambridge University Press.
“Our basic objective in this book is to present the theoretical structures underlying these applied models and hence to clarify their relationship to economic theory, particularly general equilibrium, growth, and trade theory” (xvii)
The book traces out different models of economic development, specifically with an eye towards bridging the gap between reality and economic theory. The claim is that much of economic theory provides helpful insights on how an economy should function, but that, in reality, most economies (all?) are mixed economies. It becomes important to model the mixed nature of these economies.
“It must be stressed that different general equilibrium models may focus on different kinds of economy-wide consistency” (3). “A multisector, general equilibrium model need not always conform to Walrasian theory. Indeed, we specify various forms of general equilibrium models with rationing of foreign exchange and persistent excess demands in some important markets. Although the equilibrium described may not be Walrasian, neoclassical resource allocation theory remains the fundamental framework of analysis” (3).
“In order to achieve greater policy relevance, it is clear that the fiction of a central command economy must be abandoned in the very specification of the model and be replaced bay a framework in which endogenous price and quantity variables are allowed to interact so as to simulate the workings of at least partly decentralized markets and autonomous economic decision makers. Such price endogeneity and general equilibrium interaction cannot be achieved using the standard linear programming formulation. The crucial difficulty lies in the fact that economic behavior and relations such as budget constraints, consumption functions, and saving functions must be expressed in current endogenous factor and commodity prices” (132).
“The existing models fall into four general categories according to the problems on which they focus. First, there are a number of models of developing and developed countries that focus on issues of international trade, growth, economic structure, and/or income distribution. Second, there are a number of models of developed countries that focus on issues in the theory of public finance…Third, there are a few multicountry, international trade models that explore issues concerning the volume and direction of trade and its impact on particular regions…Finally, there has been some work both with single-country and multicountry models focusing on energy…In this book, we focus on models of developing countries and on issues of resource allocation, growth, structural change, foreign trade strategies, and the impact of different strategies on the distribution of income” (137-8).
“The simple model developed in the early sections of the chapter was extremely Walrasian and neoclassical in spirit. With the exception of taxes on factor incomes and a brief allusion to fixed wages for certain labor categories, there was essentially no difference between the technologically feasible production possibility set and the resulting transformation set reflecting market behavior and institutional characteristics of the economy. All markets cleared. Applied models, whoever, although close in spirit to the Walrasian construct, can be characterized as reflecting a “constrained” general equilibrium. For example, the discussion of fragmented capital and labor markets in the two-stage formulation of the dynamic model indicated that the extent of factor mobility between time periods is affected by the degree of structural rigidities in the economy” (180).
I did not read this book in any detail, though it offers a very thorough explanation of CGE models in contrast to linear models.
“Our basic objective in this book is to present the theoretical structures underlying these applied models and hence to clarify their relationship to economic theory, particularly general equilibrium, growth, and trade theory” (xvii)
The book traces out different models of economic development, specifically with an eye towards bridging the gap between reality and economic theory. The claim is that much of economic theory provides helpful insights on how an economy should function, but that, in reality, most economies (all?) are mixed economies. It becomes important to model the mixed nature of these economies.
“It must be stressed that different general equilibrium models may focus on different kinds of economy-wide consistency” (3). “A multisector, general equilibrium model need not always conform to Walrasian theory. Indeed, we specify various forms of general equilibrium models with rationing of foreign exchange and persistent excess demands in some important markets. Although the equilibrium described may not be Walrasian, neoclassical resource allocation theory remains the fundamental framework of analysis” (3).
“In order to achieve greater policy relevance, it is clear that the fiction of a central command economy must be abandoned in the very specification of the model and be replaced bay a framework in which endogenous price and quantity variables are allowed to interact so as to simulate the workings of at least partly decentralized markets and autonomous economic decision makers. Such price endogeneity and general equilibrium interaction cannot be achieved using the standard linear programming formulation. The crucial difficulty lies in the fact that economic behavior and relations such as budget constraints, consumption functions, and saving functions must be expressed in current endogenous factor and commodity prices” (132).
“The existing models fall into four general categories according to the problems on which they focus. First, there are a number of models of developing and developed countries that focus on issues of international trade, growth, economic structure, and/or income distribution. Second, there are a number of models of developed countries that focus on issues in the theory of public finance…Third, there are a few multicountry, international trade models that explore issues concerning the volume and direction of trade and its impact on particular regions…Finally, there has been some work both with single-country and multicountry models focusing on energy…In this book, we focus on models of developing countries and on issues of resource allocation, growth, structural change, foreign trade strategies, and the impact of different strategies on the distribution of income” (137-8).
“The simple model developed in the early sections of the chapter was extremely Walrasian and neoclassical in spirit. With the exception of taxes on factor incomes and a brief allusion to fixed wages for certain labor categories, there was essentially no difference between the technologically feasible production possibility set and the resulting transformation set reflecting market behavior and institutional characteristics of the economy. All markets cleared. Applied models, whoever, although close in spirit to the Walrasian construct, can be characterized as reflecting a “constrained” general equilibrium. For example, the discussion of fragmented capital and labor markets in the two-stage formulation of the dynamic model indicated that the extent of factor mobility between time periods is affected by the degree of structural rigidities in the economy” (180).
I did not read this book in any detail, though it offers a very thorough explanation of CGE models in contrast to linear models.
Wednesday, April 23, 2008
Bandara: An Investigation of "Dutch Disease" economics with a miniature CGE model
Bandara, Jayatilleke S. (1991). "An investigation of "Dutch disease" economics with a miniature CGE model". Journal of Policy Modeling, 13(1), 67-92. http://www.sciencedirect.com/science/article/B6V82-45GSHRK-1D/1/62f530612e9dbc43d0d329ee3ec9a51f
Coren has examined Dutch Disease effects using a three sector model that has subsequently been referred to as the “core model”. This article uses a similar three-sector model CGE model. It concludes that the CGE is good for exploring Dutch Disease effects on economies.
The three sectors of the “core-model” are the, “’booming’ sector, which could be the oil sector or any other primary exporting sector during a period of increasing prices…the other tradables, or the ‘lagging’ sector…and…the nontradables sector, which includes services, utilities, transportation, and so on” (68). According to this model, there are three reasons for the Dutch Disease: “…an improvement in the technology of the booming sector…an increase in foreign capital inflows…an increase in the price of the export commodity” (68).
“The simplest miniature CGE model within which the static effects of the Dutch disease can be analyzed is one that distinguishes three sectors, two producing tradables, namely, import-competing goods (good 1) and exports (good 3), and the other producing nontradeables (good 2). There are three types of industry-specific capital and an intersectorally mobile factor, labor. There ar3e no intermediate inputs. The model has two categories of final users…the households consume the import-competing good and the nontradeable; domestic consumption of the import-competing good includes both domestic output and imports. These features are shown in the input-output table” (69). There is full employment. Monetary issues are not taken into consideration.
There are five different types of equations in this model: “equations describing households demands…equations describing industry demand for primary factors…pricing equations setting zero-pure profits…market-clearing equations for commodities and primary factors…equations describing the balance of payments, the consumer price index, aggregate employment and real income” (71).
Coren has examined Dutch Disease effects using a three sector model that has subsequently been referred to as the “core model”. This article uses a similar three-sector model CGE model. It concludes that the CGE is good for exploring Dutch Disease effects on economies.
The three sectors of the “core-model” are the, “’booming’ sector, which could be the oil sector or any other primary exporting sector during a period of increasing prices…the other tradables, or the ‘lagging’ sector…and…the nontradables sector, which includes services, utilities, transportation, and so on” (68). According to this model, there are three reasons for the Dutch Disease: “…an improvement in the technology of the booming sector…an increase in foreign capital inflows…an increase in the price of the export commodity” (68).
“The simplest miniature CGE model within which the static effects of the Dutch disease can be analyzed is one that distinguishes three sectors, two producing tradables, namely, import-competing goods (good 1) and exports (good 3), and the other producing nontradeables (good 2). There are three types of industry-specific capital and an intersectorally mobile factor, labor. There ar3e no intermediate inputs. The model has two categories of final users…the households consume the import-competing good and the nontradeable; domestic consumption of the import-competing good includes both domestic output and imports. These features are shown in the input-output table” (69). There is full employment. Monetary issues are not taken into consideration.
There are five different types of equations in this model: “equations describing households demands…equations describing industry demand for primary factors…pricing equations setting zero-pure profits…market-clearing equations for commodities and primary factors…equations describing the balance of payments, the consumer price index, aggregate employment and real income” (71).
Vos: Aid FLows and 'Dutch Disease' in a General Equilibrium Framework for Pakistan
Vos, Rob. (1998). "Aid Flows and "Dutch Disease" in a General Equilibrium Framework for Pakistan". Journal of Policy Modeling, 20(1), 77-109. http://www.sciencedirect.com/science/article/B6V82-3SX6HSV-6/1/cd1b6de0d68586564f4b283a05e0e972
This is a paper about the effects of aid flows to Pakistan. It uses a multisectoral general equilibrium framework to examine how aid inflows may have similar effects to large natural resource discoveries on an economy, must like the Dutch Disease. The attempt to make this model more broadly applied were not successful, suggesting that they depend, “…strongly on the existing economic structure, investment and savings behavior of institutional agents, and the allocation [of] additional capital inflows among public and private sector agents” (77).
Traditional models of international aid have shown that aid increases economic growth. This assumption has been reified through the application of two-gap models of the effect of aid on an economy. However, the effects of aid on a country’s growth possibilities is not necessarily straight-forward. There are many complicating factors that arise when a country receives foreign aid, including increasing domestic demand, possibly crowding out domestic investment, and changing the value of a country’s exports.
“One basic criticism against the fiscal response model is that it fails to take account of general equilibrium effects, such as the impact of aid on aggregate income and hence the indirect impact on tax revenue. Other more complex stories have focused attention on changes in the composition of both public and private expenditures. The increased demand for nontradables and the rising relative price of nontradables in this analysis can explain the emergence of construction booms” (79).
There have been many accounts of the Dutch Disease that use CGE models, however, these authors claim that their model is more rigorous because, “(1) more rigidities in commodity, foreign exchange, and labor markets and (2) a full accounting of financial flows and stocks in an economy with controlled and imperfect markets for domestic and foreign assets” (79). The model is built around a SAM built by Naqvi and Sarmad (1993). The model supposedly fits into the “structuralist CGE tradition, as it emphasizes different closure rules for distinct commodity and asset markets…and for the savings-investment balances of the different institutional agents” (80). This footnote asks readers to see Robinson (1988) and Taylor (1990) for more information. “…the present model can be seen as a dynamic multisectoral general-equilibrium elaboration of the three-gap model that in recent years has come to replace the celebrated two-gap model” (80).
Over the next 10 pages, the model structure is outlined in much detail. Some notable features: sectoral production and price is market-clearing, labor is exogenous, production is CES based and technology is non-changing. “Unemployment results from a mismatch between labor demand and supply (the nominal wage adjustment in response to a higher unemployment rate is not large enough to clear the labor market)” (88). While there is much market-clearing behavior, “…the model system described above defines a system of segmented and imperfect markets” (90).
This is a paper about the effects of aid flows to Pakistan. It uses a multisectoral general equilibrium framework to examine how aid inflows may have similar effects to large natural resource discoveries on an economy, must like the Dutch Disease. The attempt to make this model more broadly applied were not successful, suggesting that they depend, “…strongly on the existing economic structure, investment and savings behavior of institutional agents, and the allocation [of] additional capital inflows among public and private sector agents” (77).
Traditional models of international aid have shown that aid increases economic growth. This assumption has been reified through the application of two-gap models of the effect of aid on an economy. However, the effects of aid on a country’s growth possibilities is not necessarily straight-forward. There are many complicating factors that arise when a country receives foreign aid, including increasing domestic demand, possibly crowding out domestic investment, and changing the value of a country’s exports.
“One basic criticism against the fiscal response model is that it fails to take account of general equilibrium effects, such as the impact of aid on aggregate income and hence the indirect impact on tax revenue. Other more complex stories have focused attention on changes in the composition of both public and private expenditures. The increased demand for nontradables and the rising relative price of nontradables in this analysis can explain the emergence of construction booms” (79).
There have been many accounts of the Dutch Disease that use CGE models, however, these authors claim that their model is more rigorous because, “(1) more rigidities in commodity, foreign exchange, and labor markets and (2) a full accounting of financial flows and stocks in an economy with controlled and imperfect markets for domestic and foreign assets” (79). The model is built around a SAM built by Naqvi and Sarmad (1993). The model supposedly fits into the “structuralist CGE tradition, as it emphasizes different closure rules for distinct commodity and asset markets…and for the savings-investment balances of the different institutional agents” (80). This footnote asks readers to see Robinson (1988) and Taylor (1990) for more information. “…the present model can be seen as a dynamic multisectoral general-equilibrium elaboration of the three-gap model that in recent years has come to replace the celebrated two-gap model” (80).
Over the next 10 pages, the model structure is outlined in much detail. Some notable features: sectoral production and price is market-clearing, labor is exogenous, production is CES based and technology is non-changing. “Unemployment results from a mismatch between labor demand and supply (the nominal wage adjustment in response to a higher unemployment rate is not large enough to clear the labor market)” (88). While there is much market-clearing behavior, “…the model system described above defines a system of segmented and imperfect markets” (90).
Benjamin, et. al.: The 'Dutch' Disease in a Developing Country
Benjamin, Nancy C., Shantayanan Devarajan and Robert J. Weiner. (1989). "The `Dutch' disease in a developing country : Oil reserves in Cameroon". Journal of Development Economics, 30(1), 71-92. http://www.sciencedirect.com/science/article/B6VBV-45N4YMP-28/1/52d7bc2d92c6e8d2c68098621297ee21
This paper examines the effects of the Dutch Disease on a developing country. A CGE is used to determine the effects of the oil boom. The conclusion is that the agriculture sector is likely to be hurt and that manufacturing will reap some benefits.
The Dutch Disease is the result of a large commodity boom, typically that of natural resources such as gas or oil, and the broader, sectoral effects on a country’s economy. Firstly, currency reserves will increase substantially. There will also be a rise in the value of the nation’s currency, which will lead to a decrease in the ability of exports to remain competitive. Exports will decrease and non-tradable sectors of the economy will suffer from inflation. Typically, the effects of the Dutch Disease are examined from the perspective of a developed country.
The “Australian model” is examined. One aspect of this model is the separation of the effects of a natural resource explosion is on both resource movement and spending (73).
The “salient” features of the CGE model are described: “Differentiation between imports and domestic goods by sector…differentiation between Cameroonian exports and other exports…differentiation between exports and domestic goods…sector-specific factors…closure rule [“…the level of foreign savings is…exogenous…the level of investment is determined by the level of savings in the economy…”]…numeraire [nominal exchange rate]…” (80).
The conclusion is that the assumption of imperfect substitutability between domestic and foreign goods is a crucial determinant of the outcome of a boon of natural resources for a developing countries and that different skill-sets of workers will benefit differently.
This paper examines the effects of the Dutch Disease on a developing country. A CGE is used to determine the effects of the oil boom. The conclusion is that the agriculture sector is likely to be hurt and that manufacturing will reap some benefits.
The Dutch Disease is the result of a large commodity boom, typically that of natural resources such as gas or oil, and the broader, sectoral effects on a country’s economy. Firstly, currency reserves will increase substantially. There will also be a rise in the value of the nation’s currency, which will lead to a decrease in the ability of exports to remain competitive. Exports will decrease and non-tradable sectors of the economy will suffer from inflation. Typically, the effects of the Dutch Disease are examined from the perspective of a developed country.
The “Australian model” is examined. One aspect of this model is the separation of the effects of a natural resource explosion is on both resource movement and spending (73).
The “salient” features of the CGE model are described: “Differentiation between imports and domestic goods by sector…differentiation between Cameroonian exports and other exports…differentiation between exports and domestic goods…sector-specific factors…closure rule [“…the level of foreign savings is…exogenous…the level of investment is determined by the level of savings in the economy…”]…numeraire [nominal exchange rate]…” (80).
The conclusion is that the assumption of imperfect substitutability between domestic and foreign goods is a crucial determinant of the outcome of a boon of natural resources for a developing countries and that different skill-sets of workers will benefit differently.
Tuesday, April 22, 2008
Xu: The Chasm in the Transition: A CGE Analysis of Chinese Economic Reform
Xu, Dianqing. (1996). "The chasm in the transition: A CGE analysis of Chinese economic reform". Journal of Policy Modeling, 18(2), 117-139. http://www.sciencedirect.com/science/article/B6V82-3VW1F2C-1/1/4b8c0351741cd5992d58b843b77cdf13
“Based on the characteristics of the two-tier plan-market system in the current Chinese economic reform, this article presents a Computable General Equilibrium…model to measure quantitatively the chasm in terms of the changes in sectoral labor demand caused by a shock therapy proposal in the transition process from a centrally planned economy to a market economy” (117). The attempt of this article is to counterfactually measure the pressure that will exist on labor demand by sector by looking at a CGE model of China’s economy and comparing that with the current state of the economy. The CGE is seen as a tool that can help policy makers come to sensible interventions that take into consideration social costs and opportunities.
Initially there is an overview of the Chinese production facilities, focusing partially on the similarities with Eastern Europe (heavy industry, capital intensive, etc.).
The CGE used in this article follows closely the model developed by Benjamin, Devarajan and Weiner (1989) and Robinson, Milkenny and Hanson (1990). “The main difference between our model and previous models of this type is in the treatment of the special features of a two-tier planned-market economy in the transition process” (121).
This two-tier approach is literally a two stage development of the CGE: “Under normal circumstances, an enterprise must fulfill the state quotas first, and then it can sell the remainder of its output directly to the market. The output planned by the government must be handed over to the state according to the planned price, and the extra output is subject to market prices” (122). “Disequilibrium is one of the most salient features of centrally planned economy. In order to calibrate the benchmark data into the CGE model, we assume that the market prices reflect the equilibrium of demand and supply on the market side of the economy, while the demand and supply in the planned part of [the] economy are exogenously determined by the planners. If government reduces the planned-demand quotas, of course, the supply in the planned channel will correspondingly be reduced” (123).
He frequently, and tragically, quotes early Sachs work (1990) that has since been undermined. Early Sachs is committed to “shock therapy” and very rapid economic reforms. This should have been clearly shown to be problematic upon the 1996 publication of this article.
There is a list of 5 crucial assumptions for the model on 123: Labor and capital are fixed; China is a price-taker; household consumption doesn’t change much; taxes and tariffs are constant; ownership reform is not included; no urban/rural migration.
Production follows a Cobb-Douglas format. This production is divided into two parts: planned and unplanned. The model takes into consideration international trade, domestic consumption, exports and 10 sectors. The simulation is then run to determine how labor demand shifted by sector. It was shown that there is significant decrease in labor demand in many of the big industries, no change in agriculture and a large increase in service.
It is estimated that 13.72 million workers will need to shift sectors.
“Based on the characteristics of the two-tier plan-market system in the current Chinese economic reform, this article presents a Computable General Equilibrium…model to measure quantitatively the chasm in terms of the changes in sectoral labor demand caused by a shock therapy proposal in the transition process from a centrally planned economy to a market economy” (117). The attempt of this article is to counterfactually measure the pressure that will exist on labor demand by sector by looking at a CGE model of China’s economy and comparing that with the current state of the economy. The CGE is seen as a tool that can help policy makers come to sensible interventions that take into consideration social costs and opportunities.
Initially there is an overview of the Chinese production facilities, focusing partially on the similarities with Eastern Europe (heavy industry, capital intensive, etc.).
The CGE used in this article follows closely the model developed by Benjamin, Devarajan and Weiner (1989) and Robinson, Milkenny and Hanson (1990). “The main difference between our model and previous models of this type is in the treatment of the special features of a two-tier planned-market economy in the transition process” (121).
This two-tier approach is literally a two stage development of the CGE: “Under normal circumstances, an enterprise must fulfill the state quotas first, and then it can sell the remainder of its output directly to the market. The output planned by the government must be handed over to the state according to the planned price, and the extra output is subject to market prices” (122). “Disequilibrium is one of the most salient features of centrally planned economy. In order to calibrate the benchmark data into the CGE model, we assume that the market prices reflect the equilibrium of demand and supply on the market side of the economy, while the demand and supply in the planned part of [the] economy are exogenously determined by the planners. If government reduces the planned-demand quotas, of course, the supply in the planned channel will correspondingly be reduced” (123).
He frequently, and tragically, quotes early Sachs work (1990) that has since been undermined. Early Sachs is committed to “shock therapy” and very rapid economic reforms. This should have been clearly shown to be problematic upon the 1996 publication of this article.
There is a list of 5 crucial assumptions for the model on 123: Labor and capital are fixed; China is a price-taker; household consumption doesn’t change much; taxes and tariffs are constant; ownership reform is not included; no urban/rural migration.
Production follows a Cobb-Douglas format. This production is divided into two parts: planned and unplanned. The model takes into consideration international trade, domestic consumption, exports and 10 sectors. The simulation is then run to determine how labor demand shifted by sector. It was shown that there is significant decrease in labor demand in many of the big industries, no change in agriculture and a large increase in service.
It is estimated that 13.72 million workers will need to shift sectors.
Monday, April 21, 2008
Nussbaum: Human Capabilities, Femal Human Beings
Nussbaum, Martha Craven, Jonathan Glover and World Institute for Development Economics Research. (1995). Women, culture, and development : a study of human capabilities. Oxford ; New York: Clarendon Press ; Oxford University Press. http://www.loc.gov/catdir/enhancements/fy0605/94042602-d.html
Human Capabilities, Female Human Beings
“Women have rarely been kings, or nobles, or couriers, or rich. They have, on the other hand, frequently been poor and sick and dead” (62).
“My proposal is frankly universalist and ‘essentialist’. That is, it asks us to focus on what is common to all, rather than on differences…and to see some capabilities and functions as more central, more at the core of human life, than others” (63).
This account begins by telling stories that emerge from academic conferences. These stories involve interactions between “relativists” and “universalists”. The universalists present papers and the relativists take issue with their essentialist claims. The relativists do not want the universalists to fall into traps that do not respect basic levels of diversity and difference. The universalists want the relativists to understand that there are some underlying aspects of life that are not uniquely subjective, for example, the difference between life and death.
“For we see here highly-intelligent people, people deeply committed to the good of women and men in developing countries, people who think of themselves as progressive and feminist and anti-racist, people who correctly argue that the concept of development is an evaluative concept requiring normative argument—effectively eschewing normative argument and taking up positions that converge…with the positions of reaction, oppression, and sexism” (66).
“Many critics of universalism in ethics are really critics of metaphysical realism who assume that realism is a necessary basis for universalism. I shall argue that this assumption is false” (67-8).
“…the attack on realism has been sufficiently deep and sufficiently sustained that it would appear strategically wise for an ethical and political view that seeks broad support not to rely on the truth of metaphysical realism, if it can defend itself in some other ways” (69).
Nussbaum firstly tries to situate an argument about universality within a pragmatic framework. She understands that the relativist position does have something important to add to the broader discussion regarding the rights of women. She claims that she must be able to take her universalistic argument and defend it using different strategies than would normally be deployed. She tones down the universalist rhetoric and makes the case regarding subjective interpretation of sensory facts: the relativists believe that observations are tinged with subjectivity, and that this is what constructs narratives and discourses, etc. Nussbaum takes that position that she agrees, but she also argues that, while this may or may not be true, the history of development and academia has been a history of universals.
She also highlights some anecdotal accounts of universality among human beings, from Aristotle to a person with a broadly trans-national extended family.
She moves on to claim that she must examine her account with an eye towards more standard criticisms of universalism. She begins by looking at the, “neglect of historical and cultural differences” critique.
“The opposition charges that any attempt to pick out some elements of human life as more fundamental than others, even without appeal to a transhistorical reality, is bound to be insufficiently respectful of actual historical and cultural differences” (70). “It is far from clear what this objection shows” (71).
“Neglect of Autonomy”: This critique of universalism argues that the subject of development is not given the right to determine what they themselves want.
“Prejudicial Application”: “If we operate with a determinate conception of the human being that is meant to have some normative moral and political force, we must also, in applying it, ask which beings we shall take to fall under the concept” (71). The example of Aristotle is given: he didn’t believe that women or slaves were fully human.
However, Nussbaum argues that it is unclear whether or not we would be better off or worse off without these universal concepts: “For it could be plausibly argued that it would have been even easier to exclude women and slaves on a whim if one did not have such a concept to contend with” (72).
Nussbaum goes on to identify the central capabilities that make someone a human being.
She then lists 8 methodological points: the procedure is not ahistorical or a priori; it attempts to look across boundaries for similarities; the account is not biologtical or metaphysical; the account is open-ended; the account accepts that some accounts are constructed differently in different societies; this consensus must be reached by reasonable procedures; the list is heterogeneous; and the concept human being is normative and ethical.
Here is the account of human life:
Morality: we all die.
The Human Body: we all have one
Hunger and Thirst:
Shelter:
Sexual Desire:
Mobility:
Pain and Pleasure:
Cognitive Capacity:
Infant Development:
Practical Reason:
Affiliation with other Human Beings:
Related ness to other Species and Nature:
Humor and Play:
Separateness:
Strong Separateness:
“This is a working list. It is put out to generate debate. It has done so and will continue to do so, and it will be revised accordingly” (80). This list is composed of both capabilities and limits.
Nussbaum now attempts to identify two distinct thresholds: “…a threshold of capability to function beneath which all life will be so impoverished that it will not be human at all; and a somewhat higher threshold, beneath which those characteristic functions are available in such a reduced way that, although we may judge the form of life a human one, we will not think it a good human life. The latter threshold is the on that will eventually concern us when we turn to public policy: for we don’t want societies to make their citizens capable of the bare minimum” (81).
Nussbaum then argues that it should be capabilities and functioning that determine human well being. She lists these in section 4.1, and they are derivatives of her earlier account of what makes a human life. She then examines how well countries have been meeting the needs of their populations. She claims that there is a clear need for a conception of a human being in policy realms.
Human Capabilities, Female Human Beings
“Women have rarely been kings, or nobles, or couriers, or rich. They have, on the other hand, frequently been poor and sick and dead” (62).
“My proposal is frankly universalist and ‘essentialist’. That is, it asks us to focus on what is common to all, rather than on differences…and to see some capabilities and functions as more central, more at the core of human life, than others” (63).
This account begins by telling stories that emerge from academic conferences. These stories involve interactions between “relativists” and “universalists”. The universalists present papers and the relativists take issue with their essentialist claims. The relativists do not want the universalists to fall into traps that do not respect basic levels of diversity and difference. The universalists want the relativists to understand that there are some underlying aspects of life that are not uniquely subjective, for example, the difference between life and death.
“For we see here highly-intelligent people, people deeply committed to the good of women and men in developing countries, people who think of themselves as progressive and feminist and anti-racist, people who correctly argue that the concept of development is an evaluative concept requiring normative argument—effectively eschewing normative argument and taking up positions that converge…with the positions of reaction, oppression, and sexism” (66).
“Many critics of universalism in ethics are really critics of metaphysical realism who assume that realism is a necessary basis for universalism. I shall argue that this assumption is false” (67-8).
“…the attack on realism has been sufficiently deep and sufficiently sustained that it would appear strategically wise for an ethical and political view that seeks broad support not to rely on the truth of metaphysical realism, if it can defend itself in some other ways” (69).
Nussbaum firstly tries to situate an argument about universality within a pragmatic framework. She understands that the relativist position does have something important to add to the broader discussion regarding the rights of women. She claims that she must be able to take her universalistic argument and defend it using different strategies than would normally be deployed. She tones down the universalist rhetoric and makes the case regarding subjective interpretation of sensory facts: the relativists believe that observations are tinged with subjectivity, and that this is what constructs narratives and discourses, etc. Nussbaum takes that position that she agrees, but she also argues that, while this may or may not be true, the history of development and academia has been a history of universals.
She also highlights some anecdotal accounts of universality among human beings, from Aristotle to a person with a broadly trans-national extended family.
She moves on to claim that she must examine her account with an eye towards more standard criticisms of universalism. She begins by looking at the, “neglect of historical and cultural differences” critique.
“The opposition charges that any attempt to pick out some elements of human life as more fundamental than others, even without appeal to a transhistorical reality, is bound to be insufficiently respectful of actual historical and cultural differences” (70). “It is far from clear what this objection shows” (71).
“Neglect of Autonomy”: This critique of universalism argues that the subject of development is not given the right to determine what they themselves want.
“Prejudicial Application”: “If we operate with a determinate conception of the human being that is meant to have some normative moral and political force, we must also, in applying it, ask which beings we shall take to fall under the concept” (71). The example of Aristotle is given: he didn’t believe that women or slaves were fully human.
However, Nussbaum argues that it is unclear whether or not we would be better off or worse off without these universal concepts: “For it could be plausibly argued that it would have been even easier to exclude women and slaves on a whim if one did not have such a concept to contend with” (72).
Nussbaum goes on to identify the central capabilities that make someone a human being.
She then lists 8 methodological points: the procedure is not ahistorical or a priori; it attempts to look across boundaries for similarities; the account is not biologtical or metaphysical; the account is open-ended; the account accepts that some accounts are constructed differently in different societies; this consensus must be reached by reasonable procedures; the list is heterogeneous; and the concept human being is normative and ethical.
Here is the account of human life:
Morality: we all die.
The Human Body: we all have one
Hunger and Thirst:
Shelter:
Sexual Desire:
Mobility:
Pain and Pleasure:
Cognitive Capacity:
Infant Development:
Practical Reason:
Affiliation with other Human Beings:
Related ness to other Species and Nature:
Humor and Play:
Separateness:
Strong Separateness:
“This is a working list. It is put out to generate debate. It has done so and will continue to do so, and it will be revised accordingly” (80). This list is composed of both capabilities and limits.
Nussbaum now attempts to identify two distinct thresholds: “…a threshold of capability to function beneath which all life will be so impoverished that it will not be human at all; and a somewhat higher threshold, beneath which those characteristic functions are available in such a reduced way that, although we may judge the form of life a human one, we will not think it a good human life. The latter threshold is the on that will eventually concern us when we turn to public policy: for we don’t want societies to make their citizens capable of the bare minimum” (81).
Nussbaum then argues that it should be capabilities and functioning that determine human well being. She lists these in section 4.1, and they are derivatives of her earlier account of what makes a human life. She then examines how well countries have been meeting the needs of their populations. She claims that there is a clear need for a conception of a human being in policy realms.
Friday, April 18, 2008
Pyatt and Round: Accounting and Fixed Price Multipliers in a SAM Framework
Pyatt, Graham and Jeffery I. Round. (1979). Accounting and Fixed Price Multipliers in a Social Accounting Matrix Framework (Vol. 89, 850-873): Blackwell Publishing for the Royal Economic Society.
“This paper is concerned with the relationships between output, factor demands and income, and the decomposition of these relationships into separate effects as suggested by the structure of a social accounting matrix representation of flows between them” (850). This SAM will be able to describe the behavior between three different matrices in one matrix.
“Factors of production receive income from domestic production…which in turn is distributed to households and companies…and as net factor income payments from abroad…Factor incomes received by households include wages, unincorporated business profits, and rent on dwellings…but households also receive distributed profits from the corporate sector…and transfers from government…before arriving at total household income. Similarly, corporate enterprises receive factor incomes in the form of gross profits…as well as current transfers from government…government income is derived from direct tax payments and other transfers by households…corporate enterprises…and from the rest of the world…as well as intra-government transfers…together with net indirect tax payments…shown as a receipt from a special indirect tax account. The expenditures on domestically produced commodities are shown in the row of account 4. They include outlays by household…government…investment…and the rest of the world…as well as intermediate transactions between production activities…Indirect taxes on all of these expenditures, and purchases of imported goods, are shown as separate outlays by the various spending units. …Finally, outlays on domestic investment…are matched by domestic and foreign savings…where the later…is the final balancing item in the rest of the world accounts” (854-4).
”To move from a SAM to a model structure requires that each account should be designated as endogenous or exogenous” (855).
“This paper is concerned with the relationships between output, factor demands and income, and the decomposition of these relationships into separate effects as suggested by the structure of a social accounting matrix representation of flows between them” (850). This SAM will be able to describe the behavior between three different matrices in one matrix.
“Factors of production receive income from domestic production…which in turn is distributed to households and companies…and as net factor income payments from abroad…Factor incomes received by households include wages, unincorporated business profits, and rent on dwellings…but households also receive distributed profits from the corporate sector…and transfers from government…before arriving at total household income. Similarly, corporate enterprises receive factor incomes in the form of gross profits…as well as current transfers from government…government income is derived from direct tax payments and other transfers by households…corporate enterprises…and from the rest of the world…as well as intra-government transfers…together with net indirect tax payments…shown as a receipt from a special indirect tax account. The expenditures on domestically produced commodities are shown in the row of account 4. They include outlays by household…government…investment…and the rest of the world…as well as intermediate transactions between production activities…Indirect taxes on all of these expenditures, and purchases of imported goods, are shown as separate outlays by the various spending units. …Finally, outlays on domestic investment…are matched by domestic and foreign savings…where the later…is the final balancing item in the rest of the world accounts” (854-4).
”To move from a SAM to a model structure requires that each account should be designated as endogenous or exogenous” (855).
Defourny and Thorbecke: Structural Path Analysis and Multiplier Decomposition within a SAM framework
Defourny, Jacques and Erik Thorbecke. (1984). Structural Path Analysis and Multiplier Decomposition within a Social Accounting Matrix Framework (Vol. 94, 111-136): Blackwell Publishing for the Royal Economic Society.
“The main purpose of this paper is to apply structural path analysis to a SAM framework” (111).
Figure 1 shows a matrix of interaction between three distinct types of economic activity: Productive activities, factors and institutions (113). This interaction is represented within a SAM. A SAM must also be able to take into account both endogenous and exogenous factors of modeling (114). Exhaustive SAMs are presented.
Structural path analysis involves the exploration of the methods by which one action eventually arrives at its conclusion. There are different poles involved in the structural path of an action and its outcome based on the structure in that it is embedded. This structural path method is applied to the earlier SAM example: South Korea.
“The main purpose of this paper is to apply structural path analysis to a SAM framework” (111).
Figure 1 shows a matrix of interaction between three distinct types of economic activity: Productive activities, factors and institutions (113). This interaction is represented within a SAM. A SAM must also be able to take into account both endogenous and exogenous factors of modeling (114). Exhaustive SAMs are presented.
Structural path analysis involves the exploration of the methods by which one action eventually arrives at its conclusion. There are different poles involved in the structural path of an action and its outcome based on the structure in that it is embedded. This structural path method is applied to the earlier SAM example: South Korea.
Vos: Accounting for the World Economy
Vos, Rob. (1988). "Accounting for the World Economy". Review of Income and Wealth, 35(4).
This paper proposes a World Accounting Matrix (WAM) for exploring the inadequacies of current accounting methods. There should technically be a 0 balance for international trade, but this is clearly not the case. The WAM is here to help solve that problem. WAM, “…shows how internal savings and investment balances, trade and factor payments and external financial transactions can be presented in an integrated matrix system, registering all entries on a source-user basis and allowing for a consistent treatment of stock and flow variables within the same data system. It will be argued that such a system of accounts allows for the integration of different data systems and a permanent cross-checking on statistical inconsistent ices. This would lead to a substantial improvement in the reliability of the data on the world economy” (391).
The WAM structure is then outlined as well as an example given for 1980.
This paper proposes a World Accounting Matrix (WAM) for exploring the inadequacies of current accounting methods. There should technically be a 0 balance for international trade, but this is clearly not the case. The WAM is here to help solve that problem. WAM, “…shows how internal savings and investment balances, trade and factor payments and external financial transactions can be presented in an integrated matrix system, registering all entries on a source-user basis and allowing for a consistent treatment of stock and flow variables within the same data system. It will be argued that such a system of accounts allows for the integration of different data systems and a permanent cross-checking on statistical inconsistent ices. This would lead to a substantial improvement in the reliability of the data on the world economy” (391).
The WAM structure is then outlined as well as an example given for 1980.
Scrieciu: The Inherent Dangers of Using CGE models as a single integrated modelling framework for SIA
Scrieciu, S. S. (2007). The inherent dangers of using computable general equilibrium models as a single integrated modelling framework for sustainability impact assessment. A critical note on Böhringer and Löschel (2006) (Vol. 60, 678-684): Elsevier.
This paper is a response to another paper printed in Ecological Economics that claims that CGE models offer a good “back-bone” in order to carry out Sustainability Impact Assessments (SIAs) from a modeling perspective. This author claims that, while there may be some benefits to the CGE approach vis-à-vis SIAs, there are also problems that arise. In other words, CGEs for SIAs are not a panacea. “This commentary is…a critique against the claim that the CGE modeling approach may have the potential to perform satisfactory and reliable SIAs, and strongly argues that the course of action targeting sustainability should not be dictated by the sole, or even primarily, use of this type of economic models” (679).
The economic theory that underpins CGEs:
The assumptions of rationality, etc., tend to over-emphasize the role of the market in solving problems associated with environmental degradation, etc. These approaches, “…fail to appropriately account for the institutional arrangements, ethical issues and the developmental needs of a society within an inter-disciplinary, pluralistic, holistic and dynamic approach” (680). The author questions the possibility of equilibrium ever being reached in a real-world scenario.
Another critique of modeling more generally is that, if models are based on theories that are not empirically grounded, then it is possible for the modeler to present their own values within the model more generally. For example, if the modeler believes that trade and productivity are tied to growth, then this can be produced in the model and may have substantive effects on actual policy interventions.
The author ends his piece by acknowledging that CGEs can be useful if they are deployed transparently, and that they are clearly helpful in some economic policy analysis.
This paper is a response to another paper printed in Ecological Economics that claims that CGE models offer a good “back-bone” in order to carry out Sustainability Impact Assessments (SIAs) from a modeling perspective. This author claims that, while there may be some benefits to the CGE approach vis-à-vis SIAs, there are also problems that arise. In other words, CGEs for SIAs are not a panacea. “This commentary is…a critique against the claim that the CGE modeling approach may have the potential to perform satisfactory and reliable SIAs, and strongly argues that the course of action targeting sustainability should not be dictated by the sole, or even primarily, use of this type of economic models” (679).
The economic theory that underpins CGEs:
The assumptions of rationality, etc., tend to over-emphasize the role of the market in solving problems associated with environmental degradation, etc. These approaches, “…fail to appropriately account for the institutional arrangements, ethical issues and the developmental needs of a society within an inter-disciplinary, pluralistic, holistic and dynamic approach” (680). The author questions the possibility of equilibrium ever being reached in a real-world scenario.
Another critique of modeling more generally is that, if models are based on theories that are not empirically grounded, then it is possible for the modeler to present their own values within the model more generally. For example, if the modeler believes that trade and productivity are tied to growth, then this can be produced in the model and may have substantive effects on actual policy interventions.
The author ends his piece by acknowledging that CGEs can be useful if they are deployed transparently, and that they are clearly helpful in some economic policy analysis.
Lejour, et. al.: WorldScan-the coreversion
Lejour, A., N. van Leeuwen, T. Manders, G. van Steen, H. Timmer and G. Verweij. (1999). WorldScan—the core version.
This publication is an overview of the core of the Worldscan model.
The paper begins by examining the benefits of long-run scenarios vis-à-vis policy analysis and decision making. Worldscan is an applied general equilibrium (AGE) model: “It builds upon neoclassical theory, has strong micro-foundations and explicitly determines simultaneous equilibrium on a large number of markets” (2-3).
The whole article is quite readable, and provides a thorough account of the factors that make up the model more broadly. A summary would be difficult.
This publication is an overview of the core of the Worldscan model.
The paper begins by examining the benefits of long-run scenarios vis-à-vis policy analysis and decision making. Worldscan is an applied general equilibrium (AGE) model: “It builds upon neoclassical theory, has strong micro-foundations and explicitly determines simultaneous equilibrium on a large number of markets” (2-3).
The whole article is quite readable, and provides a thorough account of the factors that make up the model more broadly. A summary would be difficult.
Lofgren, et. al.: A Standard CGE model in GAMS
Lofgren, H., R. L. Harris and S. Robinson. (2002). A Standard Computable General Equilibrium (Cge) Model in Gams: Int Food Policy Res Inst.
GAMS is the General Algebraic Modeling System. It is, “…a high-level modeling system for mathematical programming problems”.
This manual is a detailed account of CGE models and their use. After a brief overview, it turns to an explanation of SAMS.
A SAM is, “…a comprehensive, economy wide data framework, typically representing the economy of a nation” (3). A standard SAM distinguishes between accounts for “activities” and “Commodities” (4). “This separation of activities from commodities is preferred because it permits activities to produce multiple commodities…while any commodity may be produced by multiple activities” (4). Table 1 provides a very helpful review of the structure of a SAM (5).
Overview of the Standard CGE Model:
“The standard CGE model explains all of the payments recorded in the SAM” (8). Producers are assumed to maximize profits. This is contingent on technology. A standard overview of economic modeling follows, first focusing on production and factors, and then focusing on households, firms, governments and consumption. The final stage is the interaction of supply and demand on a broader market. There are three “macroeconomic balances” involved in a CGE model: the current government balance, the external balance (including trade balance) and the savings/investment balance (14).
The remainder of the article focuses on the mathematical notation for the construction of this model, as well as a more detailed analysis of how CGEs and SAMS are used in GAMS.
GAMS is the General Algebraic Modeling System. It is, “…a high-level modeling system for mathematical programming problems”.
This manual is a detailed account of CGE models and their use. After a brief overview, it turns to an explanation of SAMS.
A SAM is, “…a comprehensive, economy wide data framework, typically representing the economy of a nation” (3). A standard SAM distinguishes between accounts for “activities” and “Commodities” (4). “This separation of activities from commodities is preferred because it permits activities to produce multiple commodities…while any commodity may be produced by multiple activities” (4). Table 1 provides a very helpful review of the structure of a SAM (5).
Overview of the Standard CGE Model:
“The standard CGE model explains all of the payments recorded in the SAM” (8). Producers are assumed to maximize profits. This is contingent on technology. A standard overview of economic modeling follows, first focusing on production and factors, and then focusing on households, firms, governments and consumption. The final stage is the interaction of supply and demand on a broader market. There are three “macroeconomic balances” involved in a CGE model: the current government balance, the external balance (including trade balance) and the savings/investment balance (14).
The remainder of the article focuses on the mathematical notation for the construction of this model, as well as a more detailed analysis of how CGEs and SAMS are used in GAMS.
Arrow and Debreu: Existence of an Equilibrium for a Competitive Economy
Arrow, KJ, and G Debreu. 1954. “Existence of an Equilibrium for a Competitive Economy.” Econometrica 22:265-290.
This piece builds upon Walras’ work exploring market clearing behavior. “Walras did not…give any conclusive arguments to show that the equations, as given, have a solution” (265). Two general “theorems” emerge from this paper: “…if every individual has initially some positive quantity of every commodity available for sale, then a competitive equilibrium will exist,” and, “…the existence of competitive equilibrium if there are some types of labor with the following two properties: (1) each individual can supply some positive amount of at least one such type of labor; and (2) each such type of labor has a positive usefulness in the production of desired commodities” (266).
The authors then go through a rather long list of assumptions that underly their economic approach. These assumptions are rather standard, classical economic assumptions. There is also a discussion of “consumption vectors”. These are seen, in a way, as being accounting tools for measuring the various consumption patterns of consumers.
The historical overview of equilibrium seeking models is quite useful. Here, the authors make detailed distinctions between different models of the economy that are market clearing.
UPDATE:
Stemming from Walras: “It was assumed that each consumer acts so as to maximize his utility, each producer acts so as to maximize his profit, and perfect competition prevails, in the sense that each producer and consumer regards the prices paid and received as in- dependent of his own choices” (265).
On the need for these types of models: “Descriptively, the view that the competitive model is a reasonably accurate description of reality, at least for certain purposes” (265).
Results of this paper: “The main results of this paper are two theorems stating very general conditions under which a competitive equilibrium will exist” (266).
This piece builds upon Walras’ work exploring market clearing behavior. “Walras did not…give any conclusive arguments to show that the equations, as given, have a solution” (265). Two general “theorems” emerge from this paper: “…if every individual has initially some positive quantity of every commodity available for sale, then a competitive equilibrium will exist,” and, “…the existence of competitive equilibrium if there are some types of labor with the following two properties: (1) each individual can supply some positive amount of at least one such type of labor; and (2) each such type of labor has a positive usefulness in the production of desired commodities” (266).
The authors then go through a rather long list of assumptions that underly their economic approach. These assumptions are rather standard, classical economic assumptions. There is also a discussion of “consumption vectors”. These are seen, in a way, as being accounting tools for measuring the various consumption patterns of consumers.
The historical overview of equilibrium seeking models is quite useful. Here, the authors make detailed distinctions between different models of the economy that are market clearing.
UPDATE:
Stemming from Walras: “It was assumed that each consumer acts so as to maximize his utility, each producer acts so as to maximize his profit, and perfect competition prevails, in the sense that each producer and consumer regards the prices paid and received as in- dependent of his own choices” (265).
On the need for these types of models: “Descriptively, the view that the competitive model is a reasonably accurate description of reality, at least for certain purposes” (265).
Results of this paper: “The main results of this paper are two theorems stating very general conditions under which a competitive equilibrium will exist” (266).
Thursday, April 17, 2008
Wing: CGEs
Wing, I., 2004. Computable General Equilibrium Models and their use in economy-wide policy analysis: everything you ever wanted to know (but were afraid to ask). Center for Energy & Environmental Studies and Department of Geography & Environment. Boston University and Joint Program on the Science & Policy of Global Change, MIT.
This article explores the foundation of CGE models, beginning with their micro-economic roots. It then builds upon this to highlight how these models can utilize SAMs for further elaboration and forecasting of economic data. It then looks at how these models relate to equilibrium seeking behavior, as well as how distortions to market activity can be introduced to examine the possible effects of policy interventions.
“Computable general equilibrium…models are simulations that combine the abstract general equilibrium structure formalized by Arrow and Debreu with realistic economic data to solve numerically for the levels of supply, demand and price that support equilibrium across a specified set of markets” (1).
Though they are widely used, GGE models are seen by some policy makers to be a black-box, where causal linkages can not be established. Partially, this is because typical CGE models are so large that causal linkages are difficult to see. Another reason is that the models are so complex that most users have a difficult time understanding the wide variety of linkages that may or may not be present: many models rely on a wide range of expertise, and synthesizing all of it becomes quite complex. The overarching goal of this paper is to provide a framework for explicating what many view as being obscure. This article attempts to clear up some of the suspicion surrounding CGE models.
“The fundamental conceptual starting point for a CGE model is the circular flow of commodities in a closed economy…” (5). This flow takes place amongst different agents and classes: households, firms, governments, etc. These flows act are inherently bestowed with equilibrating effects, essentially creating a balance of payments over the running of the model. Firms produce goods that are consumed by households who provide the primary factors for the firms to produce goods. The quantity produced equals the quantity demanded. The equilibrium occurs when the market clears because supply and demand cross to provide a socially optimum price. Value is also distributed and balanced as either rent payments back to households, or reinvestment in firms. This redistribution of value implies that firms make no profit. Additionally, households are forced to balance their income by, after having employed all of their factors of production, they either consume or save all of their income, both of which are seen as a type of consumption.
To explain the algebra of CGE models, Wing deploys an economy with three assumptions: no tax, subsidy or trade restriction; households are represented singularly as someone who rents out factors to industry for money that is then used to satisfy demand, and that each industry is a representative that buys the factors from the households in order to produce the goods demanded by the households. These interactions can then be placed into an input-output matrix.
As noted in the previous paragraph, the nature of the results of this computation are well situated to be displayed in an input-output matrix. A more complex I-O matrix can be deployed to track domestic and intra-state flows. This is the Social Accounting Matrix (SAM). “The structure the [sic] SAM reflects the principle of double-entry book-keeping, which requires that for each account, total revenue--the row total--must equal total expenditure—the column total” (10).
The next aspect of CGE modeling that is considered by the author is the Cobb-Douglas production function. Households are seen as autonomous agents that make decisions to consume or save based on their income constraints compared to the prices for the specific good in question. This is how product demand is created. Firms also produce based on an equation that takes into consideration their inputs, factors, output and the constraint of current productive technology.
“In the C-D economy the conditions for general equilibrium are as follows. Market clearance implies that the quantity of each commodity produced must equal the sum of the quantities of that commodity demanded by the j producers in the economy as an intermediate input to production, and by the representative agent as an input to consumption and savings activities” (14). Eventually, the CGE market clears by adhering to Walras’ Law: “…the sum of the values of market demands equal to the sum of the values of market supplies” (17). This then must be plugged into a SAM for the purposes of establishing an accounting equilibrium.
The remainder of the paper deals with exogenous distortions on models.
Tax distortions can be illustrative of the effects of certain kinds of policy interventions when they are imposed on a CGE model. However, Wing is quick to point out that many believe that CGE models act similarly to “crystal balls”, where a certain policy can be imposed on the model and the result coming from the black box demonstrates the policy’s relative effects. This, however, is not the strength of the CGE. “…the CGE models’ usefulness in policy analysis owes less to their predictive accuracy, and more to their ability to shed light on the economic mechanisms through which price and quantity adjustments are transmitted among markets” (25-6).
The exploration of the effects of exogenous distortions on CGEs is then taken to a real world example: a carbon tax.
This article explores the foundation of CGE models, beginning with their micro-economic roots. It then builds upon this to highlight how these models can utilize SAMs for further elaboration and forecasting of economic data. It then looks at how these models relate to equilibrium seeking behavior, as well as how distortions to market activity can be introduced to examine the possible effects of policy interventions.
“Computable general equilibrium…models are simulations that combine the abstract general equilibrium structure formalized by Arrow and Debreu with realistic economic data to solve numerically for the levels of supply, demand and price that support equilibrium across a specified set of markets” (1).
Though they are widely used, GGE models are seen by some policy makers to be a black-box, where causal linkages can not be established. Partially, this is because typical CGE models are so large that causal linkages are difficult to see. Another reason is that the models are so complex that most users have a difficult time understanding the wide variety of linkages that may or may not be present: many models rely on a wide range of expertise, and synthesizing all of it becomes quite complex. The overarching goal of this paper is to provide a framework for explicating what many view as being obscure. This article attempts to clear up some of the suspicion surrounding CGE models.
“The fundamental conceptual starting point for a CGE model is the circular flow of commodities in a closed economy…” (5). This flow takes place amongst different agents and classes: households, firms, governments, etc. These flows act are inherently bestowed with equilibrating effects, essentially creating a balance of payments over the running of the model. Firms produce goods that are consumed by households who provide the primary factors for the firms to produce goods. The quantity produced equals the quantity demanded. The equilibrium occurs when the market clears because supply and demand cross to provide a socially optimum price. Value is also distributed and balanced as either rent payments back to households, or reinvestment in firms. This redistribution of value implies that firms make no profit. Additionally, households are forced to balance their income by, after having employed all of their factors of production, they either consume or save all of their income, both of which are seen as a type of consumption.
To explain the algebra of CGE models, Wing deploys an economy with three assumptions: no tax, subsidy or trade restriction; households are represented singularly as someone who rents out factors to industry for money that is then used to satisfy demand, and that each industry is a representative that buys the factors from the households in order to produce the goods demanded by the households. These interactions can then be placed into an input-output matrix.
As noted in the previous paragraph, the nature of the results of this computation are well situated to be displayed in an input-output matrix. A more complex I-O matrix can be deployed to track domestic and intra-state flows. This is the Social Accounting Matrix (SAM). “The structure the [sic] SAM reflects the principle of double-entry book-keeping, which requires that for each account, total revenue--the row total--must equal total expenditure—the column total” (10).
The next aspect of CGE modeling that is considered by the author is the Cobb-Douglas production function. Households are seen as autonomous agents that make decisions to consume or save based on their income constraints compared to the prices for the specific good in question. This is how product demand is created. Firms also produce based on an equation that takes into consideration their inputs, factors, output and the constraint of current productive technology.
“In the C-D economy the conditions for general equilibrium are as follows. Market clearance implies that the quantity of each commodity produced must equal the sum of the quantities of that commodity demanded by the j producers in the economy as an intermediate input to production, and by the representative agent as an input to consumption and savings activities” (14). Eventually, the CGE market clears by adhering to Walras’ Law: “…the sum of the values of market demands equal to the sum of the values of market supplies” (17). This then must be plugged into a SAM for the purposes of establishing an accounting equilibrium.
The remainder of the paper deals with exogenous distortions on models.
Tax distortions can be illustrative of the effects of certain kinds of policy interventions when they are imposed on a CGE model. However, Wing is quick to point out that many believe that CGE models act similarly to “crystal balls”, where a certain policy can be imposed on the model and the result coming from the black box demonstrates the policy’s relative effects. This, however, is not the strength of the CGE. “…the CGE models’ usefulness in policy analysis owes less to their predictive accuracy, and more to their ability to shed light on the economic mechanisms through which price and quantity adjustments are transmitted among markets” (25-6).
The exploration of the effects of exogenous distortions on CGEs is then taken to a real world example: a carbon tax.
Wednesday, April 16, 2008
Chadwick: Global Modeling
Chadwick, R. W. (2000). Global modeling: Origins, assessment, and alternative futures (Vol. 31, 50).
This article attempts to place global models within a historical context, identify some important terminology used by these models and explore modeling philosophy.
The historical context of global modeling is traced back to Richardson’s models of war. Richardson created a formula for identifying the structural probabilities of war’s outbreak. This was accomplished at the turn of the 20th century. Further models are developed and highlighted in this article.
The philosophical conditions of global modeling are then addressed. Chadwick wonders to what degree models are deterministic. He also explores whether global models are attempts to most accurately forecast the future, or whether they are more designed as policy tools. This ties into his next philosophical inquiry: whether or not the models attempt to forecast reality or ideals. Later, he wonders to what degree there is a disconnect between academia and government.
This article attempts to place global models within a historical context, identify some important terminology used by these models and explore modeling philosophy.
The historical context of global modeling is traced back to Richardson’s models of war. Richardson created a formula for identifying the structural probabilities of war’s outbreak. This was accomplished at the turn of the 20th century. Further models are developed and highlighted in this article.
The philosophical conditions of global modeling are then addressed. Chadwick wonders to what degree models are deterministic. He also explores whether global models are attempts to most accurately forecast the future, or whether they are more designed as policy tools. This ties into his next philosophical inquiry: whether or not the models attempt to forecast reality or ideals. Later, he wonders to what degree there is a disconnect between academia and government.
Solow: Technical Change and the Aggregate Production Function
Solow, Robert M. (1957). Technical Change and the Aggregate Production Function (Vol. 39, 312-320): The MIT Press.
This article begins by declaring the fundamentally crucial role of production functions in long-term modeling. However, Solow is now here to simply espouse the benefits of these functions, but to add to them: “The new wrinkle I want to describe is an elementary way of segregating variations in output per head due to technical change from those due to changes in the availability of capital per head” (312).
Solow’s aggregate production function relies on constant returns to scale. He spends much of his paper constructing and justifying this formula. He then explores the production function for American from 1909-49. From this data, he is able to ascertain a few trends: technical change was neutral, the upward shift in the function increased over time, output doubled and that the function gives the impressions of diminishing returns.
This article begins by declaring the fundamentally crucial role of production functions in long-term modeling. However, Solow is now here to simply espouse the benefits of these functions, but to add to them: “The new wrinkle I want to describe is an elementary way of segregating variations in output per head due to technical change from those due to changes in the availability of capital per head” (312).
Solow’s aggregate production function relies on constant returns to scale. He spends much of his paper constructing and justifying this formula. He then explores the production function for American from 1909-49. From this data, he is able to ascertain a few trends: technical change was neutral, the upward shift in the function increased over time, output doubled and that the function gives the impressions of diminishing returns.
Sen: Rational Fools
Sen, Amartaya K. (1977). Rational Fools: A Critique of the Behavioral Foundations of Economic Theory (Vol. 6, 317-344): JSTOR.
This essay explores some of the problems associated with the assumption that all actors are rational individuals. These assumptions have formed the core of neoclassical economic theory. Additionally, they are improbably linked to the idea that markets are equilibrium seeking units. When behavior is tied to equilibrium seeking effects, it is said to represent the core of the economy, which is defined as activities that are Pareto superior. Sen points out that these “core” activities have little to do with social welfare.
The article proceeds to highlight all of the reasons for that assumptions of rationality are lacking. It is a very strong critique of neoclassical rationality. However, the purpose of my reading of the article was to examine how it may or may not relate to economics and equilibrium.
“The purely economic man is indeed close to being a social moron” (336).
This essay explores some of the problems associated with the assumption that all actors are rational individuals. These assumptions have formed the core of neoclassical economic theory. Additionally, they are improbably linked to the idea that markets are equilibrium seeking units. When behavior is tied to equilibrium seeking effects, it is said to represent the core of the economy, which is defined as activities that are Pareto superior. Sen points out that these “core” activities have little to do with social welfare.
The article proceeds to highlight all of the reasons for that assumptions of rationality are lacking. It is a very strong critique of neoclassical rationality. However, the purpose of my reading of the article was to examine how it may or may not relate to economics and equilibrium.
“The purely economic man is indeed close to being a social moron” (336).
Robinson: Toward and Adequate Long-Run Model of Income Distribution and Economic Development
Robinson, Sherman. (1976). Toward an Adequate Long-Run Model of Income Distribution and Economic Development (Vol. 66, 122-127): JSTOR.
“This paper has two purposes. The first is to present a strategy for constructing long-run, economy-wide models of developing countries. Second, the paper will outline the components of one possible long-run model which includes the distribution of income” (122).
Long-run models should be, “…multi-sector planning models” (123). Wages and prices should be endogenously determined (123). A long-term model must also determine distribution in greater detail than simply functional distribution. Additionally, an economic model must not model year-to-year equilibrium, as there is little evidence that markets clear efficiently.
Proposed structure for a long-run model:
Robinson’s model has two distinct stages. The first stage gives production, employment, wage, prices and the distribution of income. The second stage is a number of different sub-models which take Stage 1 inputs and produce supplies, and all of the inputs needed for stage 1 in the subsequent year.
Equilibrium is sought in stage one in the short-term: it is defined as, “…zero excess demand in product and factor markets subject to a number of constraints on factor mobility” (125). Secondly, neo-classical equilibrium approaches can be seen in stage 1, but are never achieved. The final form of equilibrium is that of long-term equilibrium in which the first two types of equilibrium can be seen as realized.
This model did not exist at the time of this article’s writing, though much of this can be seen as foundational for other models that appeared subsequently.
“This paper has two purposes. The first is to present a strategy for constructing long-run, economy-wide models of developing countries. Second, the paper will outline the components of one possible long-run model which includes the distribution of income” (122).
Long-run models should be, “…multi-sector planning models” (123). Wages and prices should be endogenously determined (123). A long-term model must also determine distribution in greater detail than simply functional distribution. Additionally, an economic model must not model year-to-year equilibrium, as there is little evidence that markets clear efficiently.
Proposed structure for a long-run model:
Robinson’s model has two distinct stages. The first stage gives production, employment, wage, prices and the distribution of income. The second stage is a number of different sub-models which take Stage 1 inputs and produce supplies, and all of the inputs needed for stage 1 in the subsequent year.
Equilibrium is sought in stage one in the short-term: it is defined as, “…zero excess demand in product and factor markets subject to a number of constraints on factor mobility” (125). Secondly, neo-classical equilibrium approaches can be seen in stage 1, but are never achieved. The final form of equilibrium is that of long-term equilibrium in which the first two types of equilibrium can be seen as realized.
This model did not exist at the time of this article’s writing, though much of this can be seen as foundational for other models that appeared subsequently.
Kaldor: The Irrelevance of Equilibrium Economics
Kaldor, Nicholas. (1972). The Irrelevance of Equilibrium Economics (Vol. 82, 1237-1255): Blackwell Publishing for the Royal Economic Society.
Economic theory that posits that there are equilibriums that market behavior will seek and find is fallible because it is empirically false. Kaldor traces this back to the notion of value in Smith’s Wealth of Nations. Here, he sees a theory of constant costs and returns to scale as being a foundational problem that eventually brought about this focus on economic equilibrium.
Equilibrium also assumes exogenous factors in its determination. For example, preference ordering is a crucial aspect of market equilibrium facilitation, but it is entirely exogenously determined. “When every change in the use of resources…creates the opportunity for a further change which would not have existed otherwise, the notion of an ‘optimum allocation of resources…becomes a meaningless and contradictory notion: the pattern of the use of resources at any one time can be no more than a link in the chain of an unending gsequence and the very distinction, vital to equilibrium economics, between resource-creation and resource-allocation loses its validity” (1245). Short term efficient allocation of resources may still be feasible, but only in closed-system theorizing.
“…it is evident from our analysis that the ‘self-sustained growth’ of decentralized economic systems, largely directed, not by exogenous factors, but the growth and the constellation of demand, is a fragile thing which will only proceed in a satisfactory manner if a number of favorable factors are present simultaneously: such as merchants who are ready to absorb stocks in the short run rather than allow prices to fall too far—because experience has taught them that market prices have some long-=run stability—and manufacturers who respond to the stimulus of growing sales with an expansion of productive capacity, because experience has taught them that over a period markets are growing and not stable. IT also requires a ‘passive’ monetary and banking system which allows the money supply to grow in automatic response to an increased demand for credit” (1252).
This article was read with an eye to Kaldor’s understanding of equilibrium vis-à-vis economic systems. It is quite rich and should be re-evaluated for the treatment of other substantial topics.
Economic theory that posits that there are equilibriums that market behavior will seek and find is fallible because it is empirically false. Kaldor traces this back to the notion of value in Smith’s Wealth of Nations. Here, he sees a theory of constant costs and returns to scale as being a foundational problem that eventually brought about this focus on economic equilibrium.
Equilibrium also assumes exogenous factors in its determination. For example, preference ordering is a crucial aspect of market equilibrium facilitation, but it is entirely exogenously determined. “When every change in the use of resources…creates the opportunity for a further change which would not have existed otherwise, the notion of an ‘optimum allocation of resources…becomes a meaningless and contradictory notion: the pattern of the use of resources at any one time can be no more than a link in the chain of an unending gsequence and the very distinction, vital to equilibrium economics, between resource-creation and resource-allocation loses its validity” (1245). Short term efficient allocation of resources may still be feasible, but only in closed-system theorizing.
“…it is evident from our analysis that the ‘self-sustained growth’ of decentralized economic systems, largely directed, not by exogenous factors, but the growth and the constellation of demand, is a fragile thing which will only proceed in a satisfactory manner if a number of favorable factors are present simultaneously: such as merchants who are ready to absorb stocks in the short run rather than allow prices to fall too far—because experience has taught them that market prices have some long-=run stability—and manufacturers who respond to the stimulus of growing sales with an expansion of productive capacity, because experience has taught them that over a period markets are growing and not stable. IT also requires a ‘passive’ monetary and banking system which allows the money supply to grow in automatic response to an increased demand for credit” (1252).
This article was read with an eye to Kaldor’s understanding of equilibrium vis-à-vis economic systems. It is quite rich and should be re-evaluated for the treatment of other substantial topics.
Romer: The Origins of Endogenous Growth
Romer, Paul M. (1994). The Origins of Endogenous Growth (Vol. 8, 3-22): American Economic Association.
Endogenous growth breaks from neoclassical growth theories by explaining that economic growth comes about because of an economic system, and not because of the forces that influence from the outside. While there are similarities to neoclassical growth theory (examining the economy as a whole, for example), endogenous growth theory does not see technical advances occurring outside the economic system as being highly relevant in the shaping of patterns of economic growth.
The paper tells two stories of endogenous growth. The first relates to the convergence controversy. The other story concerns the attempt to create a viable alternative theory for the perfect competition model.
The Convergence Controversy:
Is per capita income in different countries converging? If we use traditional understandings of the Cobb-Douglas model, it is not possible to explain conflicting stories across countries. The example that Romer gives is that of the US and the Philippines in the middle of the 20th century. Using a standard A variable before the LK calculation, as is common in the Cobb-Douglas function, one can calculate the production of both the Philippines and the US based on their relative labor and capital pools. The calculation shows that the US worker is much more productive, and implies that the Philippine worker is working with relatively less capital per worker. However, this is misleading, as the A variable used in the calculation was the same in both cases. It is not true empirically that the US and the Philippines had the same A value in the middle of the 20th century.
Romer proposes a spill-over effect to explain why the standard Cobb-Douglas formulation is ineffective in explaining productivity cross-nationally. This spill-over effect takes into consideration knowledge transfers that occur through extended use of technology. Barry and Sala i Martin also explore the transfer of knowledge. They note that this knowledge spill-over would be much greater with capital mobility. Other approaches to understanding this phenomena are explored briefly by Romer.
Romer concludes that the convergence approach only captures some of the phenomena that are missing in the standard, neo-classical account of growth.
The Passing of Perfect Competition:
This approach assumes that there is enough evidence to reject standard growth models. It suggests that, “There is a creative act associated with the construction of new models that is also crucial to the process” (11).
There are five facts that have been used to explain growth that, “…have long [been] taken for granted that poses a challenge for growth theorists…” (12). These are the following” There are many firms in a market economy, discoveries differ from other inputs in that many people can use them at the same time, it is possible to replicate physical activities, technological advance comes from things people do and that many individuals and firms have market power and earn monopoly rents on discoveries (12-3). Neoclassical economic theory addressed the first three growth and technology transfer assumptions above. Endogenous growth theory attempts to rectify the fourth, and possibly the fifth assumptions.
Neo-Schumpeterian Growth:
Two steps are required for this model. Firstly, growth theorists gave up on perfect competition. Secondly, there had to be a reconciliation of the equation: time derivative of a equals blank times a to a variable that was a constant. However, if the exponent was above 1, then technological growth was exponential. Below 1, and things ground to a halt.
Eventually, the models of economic growth have moved towards models of imperfect competition.
Endogenous growth breaks from neoclassical growth theories by explaining that economic growth comes about because of an economic system, and not because of the forces that influence from the outside. While there are similarities to neoclassical growth theory (examining the economy as a whole, for example), endogenous growth theory does not see technical advances occurring outside the economic system as being highly relevant in the shaping of patterns of economic growth.
The paper tells two stories of endogenous growth. The first relates to the convergence controversy. The other story concerns the attempt to create a viable alternative theory for the perfect competition model.
The Convergence Controversy:
Is per capita income in different countries converging? If we use traditional understandings of the Cobb-Douglas model, it is not possible to explain conflicting stories across countries. The example that Romer gives is that of the US and the Philippines in the middle of the 20th century. Using a standard A variable before the LK calculation, as is common in the Cobb-Douglas function, one can calculate the production of both the Philippines and the US based on their relative labor and capital pools. The calculation shows that the US worker is much more productive, and implies that the Philippine worker is working with relatively less capital per worker. However, this is misleading, as the A variable used in the calculation was the same in both cases. It is not true empirically that the US and the Philippines had the same A value in the middle of the 20th century.
Romer proposes a spill-over effect to explain why the standard Cobb-Douglas formulation is ineffective in explaining productivity cross-nationally. This spill-over effect takes into consideration knowledge transfers that occur through extended use of technology. Barry and Sala i Martin also explore the transfer of knowledge. They note that this knowledge spill-over would be much greater with capital mobility. Other approaches to understanding this phenomena are explored briefly by Romer.
Romer concludes that the convergence approach only captures some of the phenomena that are missing in the standard, neo-classical account of growth.
The Passing of Perfect Competition:
This approach assumes that there is enough evidence to reject standard growth models. It suggests that, “There is a creative act associated with the construction of new models that is also crucial to the process” (11).
There are five facts that have been used to explain growth that, “…have long [been] taken for granted that poses a challenge for growth theorists…” (12). These are the following” There are many firms in a market economy, discoveries differ from other inputs in that many people can use them at the same time, it is possible to replicate physical activities, technological advance comes from things people do and that many individuals and firms have market power and earn monopoly rents on discoveries (12-3). Neoclassical economic theory addressed the first three growth and technology transfer assumptions above. Endogenous growth theory attempts to rectify the fourth, and possibly the fifth assumptions.
Neo-Schumpeterian Growth:
Two steps are required for this model. Firstly, growth theorists gave up on perfect competition. Secondly, there had to be a reconciliation of the equation: time derivative of a equals blank times a to a variable that was a constant. However, if the exponent was above 1, then technological growth was exponential. Below 1, and things ground to a halt.
Eventually, the models of economic growth have moved towards models of imperfect competition.
Friday, April 11, 2008
Cobb and Douglas: A Theory of Production
Cobb, C. W. and P. H. Douglas. (1928). A Theory of Production (Vol. 18, 139-165): JSTOR.
As society has gotten to a point where they can sufficiently measure labor and capital influences in an economy, it would be possible to examine how both of these interact to produce goods and services. Is it possible to determine the relative amounts of both labor and capital that are used in the production of goods?
First, it becomes important to outline the structure of the measurement of capital and land. We must remove land measurements from capital measurements because it does not directly aid in the production of manufactured goods or services. What should be measured is, “machinery, tools, and equipment and…factory buildings” (140).
Much energy and time is spent examining the current nature of fixed capital in the US in the late 19th century. Many questions arise as to the method for taking these measurements and the accuracy of those methods.
Methods for measuring the pool of labor engaged in manufacturing are then examined. It is clear that there are flaws with the approach used by Cobb and Douglas, and they are aware of the limitations. They also acknowledge that they do not take into consideration the “quality of laborers or…the intensity of their work” (149).
The authors then deploy their method to examine the relative impact of both labor and capital on production for a period in question. They find that three-fourths of what was produced can be attributed to labor, and the remainder to capital. Once again, this is relative to the time period (hence technologically relative) and also to the relative availability of labor and capital. However, “It is the purpose of this paper…not ot state results but to illustrate a method of attack” (156).
There is a point made at the end to show that this approach to understanding productivity is not firmly rooted in any ideology. “For while capital may be ‘productive,’ it does not follow that the capitalist always is” (164). Thus, one can be a communist or an individualist and still use this approach.
As society has gotten to a point where they can sufficiently measure labor and capital influences in an economy, it would be possible to examine how both of these interact to produce goods and services. Is it possible to determine the relative amounts of both labor and capital that are used in the production of goods?
First, it becomes important to outline the structure of the measurement of capital and land. We must remove land measurements from capital measurements because it does not directly aid in the production of manufactured goods or services. What should be measured is, “machinery, tools, and equipment and…factory buildings” (140).
Much energy and time is spent examining the current nature of fixed capital in the US in the late 19th century. Many questions arise as to the method for taking these measurements and the accuracy of those methods.
Methods for measuring the pool of labor engaged in manufacturing are then examined. It is clear that there are flaws with the approach used by Cobb and Douglas, and they are aware of the limitations. They also acknowledge that they do not take into consideration the “quality of laborers or…the intensity of their work” (149).
The authors then deploy their method to examine the relative impact of both labor and capital on production for a period in question. They find that three-fourths of what was produced can be attributed to labor, and the remainder to capital. Once again, this is relative to the time period (hence technologically relative) and also to the relative availability of labor and capital. However, “It is the purpose of this paper…not ot state results but to illustrate a method of attack” (156).
There is a point made at the end to show that this approach to understanding productivity is not firmly rooted in any ideology. “For while capital may be ‘productive,’ it does not follow that the capitalist always is” (164). Thus, one can be a communist or an individualist and still use this approach.
Thursday, April 10, 2008
Hughes, et. al.: Long-Term Socio-Economic Modeling
Hughes, Barry. (2004). "Long-Term Socio-Economic Modeling". unpublished IFs working paper on the Frederick S. Pardee Center for International Futures website: Denver, CO. http://www.ifs.du.edu/reports.htm.
The purpose of this paper is two-fold: The first desire of the authors is to document the socio-economic sub model. The second purpose is to provide an analysis of how IFs can be used as a tool to understand social support systems (iii).
The paper beings by outlining the changing nature of social, economic and political interactions globally. These changes are referred to as globalization, and IFs is seen as a tool that will be helpful in understanding the possible effects of these changes. This introduction is brief.
The model is then introduced generally. Much of the data has changed since the original writing of this document (the authors refer to it as a living document).
An approach to understanding the socio-economic side of the model is put forth. I was not familiar with this approach. It is summed up in Table 2.1 (8). From this table. There are three key aspects of the socio-economic sub-model. These are demographic, goods and services and financial. These three columns can then be broken down into six rows: organizing structure, stocks, flows, key aggregate relationships and key agent-class behavior relationships.
The authors then briefly situate the IFs model within the broader modeling literature. Firstly, they say that it has characteristics of systems dynamics models (stocks and flows, etc.), but that it isn’t limited to systems dynamics. Then, they highlight agent-class interactions, but they claim that what they are not doing is micro-level modeling. There are three different systemic/structural elements to the model: the agent-class relationships, the market of goods and services (as created through the production function) and the financial flow element.
The SAM is then examined, and the IFs SAM is situated vis-à-vis the literature on SAMs. The authors contend that they differ from the SAM literature in 5 ways: 1.) the universality of the SAM representation in IFs; 2.) the connection of this universal SAM to the global financial system; 3.) there is a representation of both stocks and flows which is driven by a construction of the interaction of assets and liabilities; 4.) is a temporal addition through the connection of the SAM to the broader, long-term model of IFs; and 5.) additional sub-models that are horizontally tied to the SAM in the interest of long-range forecasting.
The IFs Preprocessor makes a brief appearance in this paper, as it is important to understand the mechanism of how data is translated and run through the model, sub-model by sub-model. The preprocessing begins cleaning and filling data holes. Then, it moves to calculate demographic data in age-cohort structures. Then it calculates both agricultural and energy numbers, both of that are used in the economic calculations. The economic sub-model is the next to be calculated.
Page 16 represents a helpful mini-legend of commonly used IFs subscripts.
Other key formulas used in the model are discussed briefly, as they will be important in the rest of this text.
Chapter 3: The Goods and Services Market Foundation
The IFs economic sub-model draws on two different modeling traditions: the dynamic growth model of classical economics and the general equilibrium model of neo-classical economics (20). The goods and services market builds on the production function and the demand market created by the Cobb-Douglas production function as well as the endogenously created MFP. This then is situated within a larger SAM. The goods and services market creates and produces supply and demand features for households, firms and governments as well as embedding the production function within six sectors of production.
Growth in the goods and services market responds directly to endogenous labor supply growth, endogenous growth the stock of capital as well as MFP.
In terms of equilibrium seeking, this aspect of the goods and services market is promoted through price changes by sector that attempt to reconcile supply with demand. “Prices respond to stock levels” (20). There are three mechanisms that IFs uses to maintain supply and demand: price-driven changes in domestic demand, price-driven changes in trade and stock-driven changes in investment by destination.
IFs is not an equilibrium seeking model in each year, but rather an equilibrium chasing model over time. This is similar to the GLOBUS model and the SARUM model.
The production function is established starting with a Cobb-Douglas function, and then building upon that based on the work of Solow in 57. Solow saw that much economic growth could not simply be addressed by additions of capital and labor, and introduced technology change. This becomes multifactor productivity in IFs. This concept had been exogenously modeled in previous models, but, with the work of Romer in 1994, it became endogenized in IFs.
Convergence is also a crucial aspect of MFP in IFs. There are four factors that can positively or negatively influence convergence. They are the following: the convergence base, knowledge creation and diffusion, human capital quality, social capital quality and physical capital quality.
After calculating value added for each sector, IFs goes on to determine gross production and intersectoral flows. This is done by imposing an exogenously determined imput-output matrix on the model.
Trade is the next critical component to be calculated (though there are other components calculated in the interim: labor supply, government demand, GDP at PPP, etc.). This is done by creating an international supply/demand matrix. Imports and exports respond to relative prices. On the production side, the export base and export ceiling is computed. The difference between trade levels and domestic prices is imposed on the model through standard elasticity numbers. Import demands are tied to final demands and intersectoral flows. These are responsive to changes in incomes and prices relative to elasticities.
The computation of stocks is then examined. As is noted throughout the literature, IFs is a general equilibrium seeking model. This, however, is not the full story. IFs is also referred to as a “chasing equilibrium” model because it does not look for market clearing behavior in any given year. Instead, inventories are the key for keeping the model from clearing in every year. Prices, on the other hand, drive the market towards equilibrium.
The paper then goes on to examine how consumption, expenditures, transfers and economic interactions are computed for governments, firms and households. This is accomplished and accounted for in the SAM structure. The actual details of this computation involves each agent/class to interact their needs/desires with material constraints. For example, government pension transfers are accounted for based on the size of the population cohorts over 65 coupled with the tax revenues derived from firms and households. Additionally, firms establish their levels of production and investment based on their supply of capital as well as the relative attractiveness of different sectors. Households also are responsive to their relative economic positions and are distinguished into skilled and unskilled, as well as either saving or consuming based on the relative levels of interest rates and prices. “The SAM structure in IFs is really a combination of an accounting system and an equilibrating system” (58).
The purpose of this paper is two-fold: The first desire of the authors is to document the socio-economic sub model. The second purpose is to provide an analysis of how IFs can be used as a tool to understand social support systems (iii).
The paper beings by outlining the changing nature of social, economic and political interactions globally. These changes are referred to as globalization, and IFs is seen as a tool that will be helpful in understanding the possible effects of these changes. This introduction is brief.
The model is then introduced generally. Much of the data has changed since the original writing of this document (the authors refer to it as a living document).
An approach to understanding the socio-economic side of the model is put forth. I was not familiar with this approach. It is summed up in Table 2.1 (8). From this table. There are three key aspects of the socio-economic sub-model. These are demographic, goods and services and financial. These three columns can then be broken down into six rows: organizing structure, stocks, flows, key aggregate relationships and key agent-class behavior relationships.
The authors then briefly situate the IFs model within the broader modeling literature. Firstly, they say that it has characteristics of systems dynamics models (stocks and flows, etc.), but that it isn’t limited to systems dynamics. Then, they highlight agent-class interactions, but they claim that what they are not doing is micro-level modeling. There are three different systemic/structural elements to the model: the agent-class relationships, the market of goods and services (as created through the production function) and the financial flow element.
The SAM is then examined, and the IFs SAM is situated vis-à-vis the literature on SAMs. The authors contend that they differ from the SAM literature in 5 ways: 1.) the universality of the SAM representation in IFs; 2.) the connection of this universal SAM to the global financial system; 3.) there is a representation of both stocks and flows which is driven by a construction of the interaction of assets and liabilities; 4.) is a temporal addition through the connection of the SAM to the broader, long-term model of IFs; and 5.) additional sub-models that are horizontally tied to the SAM in the interest of long-range forecasting.
The IFs Preprocessor makes a brief appearance in this paper, as it is important to understand the mechanism of how data is translated and run through the model, sub-model by sub-model. The preprocessing begins cleaning and filling data holes. Then, it moves to calculate demographic data in age-cohort structures. Then it calculates both agricultural and energy numbers, both of that are used in the economic calculations. The economic sub-model is the next to be calculated.
Page 16 represents a helpful mini-legend of commonly used IFs subscripts.
Other key formulas used in the model are discussed briefly, as they will be important in the rest of this text.
Chapter 3: The Goods and Services Market Foundation
The IFs economic sub-model draws on two different modeling traditions: the dynamic growth model of classical economics and the general equilibrium model of neo-classical economics (20). The goods and services market builds on the production function and the demand market created by the Cobb-Douglas production function as well as the endogenously created MFP. This then is situated within a larger SAM. The goods and services market creates and produces supply and demand features for households, firms and governments as well as embedding the production function within six sectors of production.
Growth in the goods and services market responds directly to endogenous labor supply growth, endogenous growth the stock of capital as well as MFP.
In terms of equilibrium seeking, this aspect of the goods and services market is promoted through price changes by sector that attempt to reconcile supply with demand. “Prices respond to stock levels” (20). There are three mechanisms that IFs uses to maintain supply and demand: price-driven changes in domestic demand, price-driven changes in trade and stock-driven changes in investment by destination.
IFs is not an equilibrium seeking model in each year, but rather an equilibrium chasing model over time. This is similar to the GLOBUS model and the SARUM model.
The production function is established starting with a Cobb-Douglas function, and then building upon that based on the work of Solow in 57. Solow saw that much economic growth could not simply be addressed by additions of capital and labor, and introduced technology change. This becomes multifactor productivity in IFs. This concept had been exogenously modeled in previous models, but, with the work of Romer in 1994, it became endogenized in IFs.
Convergence is also a crucial aspect of MFP in IFs. There are four factors that can positively or negatively influence convergence. They are the following: the convergence base, knowledge creation and diffusion, human capital quality, social capital quality and physical capital quality.
After calculating value added for each sector, IFs goes on to determine gross production and intersectoral flows. This is done by imposing an exogenously determined imput-output matrix on the model.
Trade is the next critical component to be calculated (though there are other components calculated in the interim: labor supply, government demand, GDP at PPP, etc.). This is done by creating an international supply/demand matrix. Imports and exports respond to relative prices. On the production side, the export base and export ceiling is computed. The difference between trade levels and domestic prices is imposed on the model through standard elasticity numbers. Import demands are tied to final demands and intersectoral flows. These are responsive to changes in incomes and prices relative to elasticities.
The computation of stocks is then examined. As is noted throughout the literature, IFs is a general equilibrium seeking model. This, however, is not the full story. IFs is also referred to as a “chasing equilibrium” model because it does not look for market clearing behavior in any given year. Instead, inventories are the key for keeping the model from clearing in every year. Prices, on the other hand, drive the market towards equilibrium.
The paper then goes on to examine how consumption, expenditures, transfers and economic interactions are computed for governments, firms and households. This is accomplished and accounted for in the SAM structure. The actual details of this computation involves each agent/class to interact their needs/desires with material constraints. For example, government pension transfers are accounted for based on the size of the population cohorts over 65 coupled with the tax revenues derived from firms and households. Additionally, firms establish their levels of production and investment based on their supply of capital as well as the relative attractiveness of different sectors. Households also are responsive to their relative economic positions and are distinguished into skilled and unskilled, as well as either saving or consuming based on the relative levels of interest rates and prices. “The SAM structure in IFs is really a combination of an accounting system and an equilibrating system” (58).
Friday, April 4, 2008
Hughes, et. al.: The Structure of IFs
Hughes, Barry, Anwar Hossain and Mohammod T. Irfan. (2004). "The Structure of IFs". unpublished IFs working paper on the Frederick S. Pardee Center for International Futures website: Denver, CO. http://www.ifs.du.edu/reports.htm.
This document begins by identifying a large number of global trends that are unfolding. It makes the claim that the International Futures forecasting platform will offer assistance in a variety of ways in light of these trends. IFs will be able to identify tensions in political, economic and environmental risk (3). It will also explore long-term trends. IFs explores the world through examining dynamic systems.
The authors then claim that three goals of forecasting are important in light of the above global trends and possibilities afforded by the IFs model. We should use these tools and trends to create and clarify global priorities. Also, we need to explore the world as it changes in a variety of directions through scenario analysis. Finally, examining our changing world through the perspective of an agent-class based approach allows us to look at points of contingency.
Four assumptions underlie the development of IFs: issues affecting human development must be explored globally and locally; goals of humans are increasingly being iterated; understandings related to human systems is growing rapidly; and the domain of human choice is broadening.
There are then four ways in that the IFs project was taken from an abstract understanding of global system interactions to a forma computer model. These involved the highlighting of different parameters necessary for formal forecasting, the selection of global systems and sub-models, the identification of both theoretical and philosophical foundations for modeling and the embrace of a technical approach to modeling. These four parts are further identified as this paper progresses.
M1-M4 represent, “…four design parameter decisions” (5). I1-I4 explores issues of interface vis-à-vis such a model.
M1: the geographic representation of IFs at the time of this writing was 164 countries with the plan to move to 182. Current versions do forecast 182 countries and are currently in the process of breaking those countries down into provinces.
The model uses a pre-processor to prepare the raw data for the base year forecast. The pre-processor structure allows the re-running of the base year to happen with relative ease. Also, the structure allows for a relatively easy addition of new countries into the model.
M2: The issue areas that are represented in IFs are demographic, economic, energy, food, environmental and socio-political. There has since been the addition of an education model and a health model.
M3: Time Horizon: the model runs to 2100.
M4: The model uses extensive sets of data bases in order to dynamically link sub-models. Simple extrapolation is adequate for some short-term forecasts, but dynamic linkage is required for mid or long-term forecasts.
I1: History of IFs availability.
I2: Usability.
I3: Interventions and Scenario Development: This has developed substantially to allow users to create and save their own global scenarios.
I4: Transparency: While IFs tries to be as simple as possible, any long-term model must be sufficiently complex to represent the dynamic linkages between different variables. Therefore, transparency is important. This is accomplished where possible through help systems, etc.
There is a discussion of the philosophy of the structure of IFs. Important aspects of this discussion involve the ability to represent both stocks and flows within a system. This is accomplished, in part, thorough an input-output matrix, as in the SAM. Additionally, the structure must be able to represent non-linear, or dynamic changes within the model. This is accomplished by imposing a disequilibrium causing lever that the model enacts and an equilibrium seeking structure. Therefore, equilibrium is never quarantined to one year, but rather always exists and is sought somewhere in the future. The ability of the model to accomplish this relies on stocks and flows: if trade balance, for example, is not achieved in one year, stocks can be held and this affects future year trade interactions. Also, agents and classes are represented through households, firms and governments. Some of this behavior is clearly market based, but other behavior is not (i.e., governmental).
Relative to other modeling platforms, the authors claim that IFs represents an “eclectic” approach (13). This is because IFs is neither fully an econometric, systems dynamics or optimization model. They authors describe the model as, “…structure based…agent-class driven, dynamic modeling” (13). While it pays close attention to stocks and flows, it isn’t a system dynamics model because it represents some systems embedded in the structure of other systems. Also, the model is not a micro-agent model either because it represents classes. Finally, it isn’t fully econometric but it does rely heavily on data.
The authors also posit that there should be an additional question posed of modelers that tends to be left out: how easy is it to intervene in your model? The IFs model is designed to allow users to quickly and easily make parameter or variable changes within the model.
Demographics:
The demographic sub-model of IFs relies on stocks and flows being represented by age/sex cohorts similar to the ones used the UN or US census. These are then used to determine births within a year. However, the TFR must be determined by some metric derived from other areas of the model. Simply regressing different data sets allows patterns to emerge. In Table 3.1, the authors present a few different estimations of TFR using GDP per capita at purchasing power parity, total education, female education and contraceptive use. While they find a higher adjusted R-squared with one set of variables, they opt for a second estimation set that gives less priority to the education component, as this is not fully robustly forecasted in the model at the time of this writing.
Also, the authors point out that the relationship between TFR and GDP changes over time. The curve essentially shifts “down” showing a relationship where levels of TFR are associated with lower and lower levels of GDP. This is incorporated into the model by using a time dependent factor that decays over time due to saturation effects.
Also, longevity is determined by the model. It is found that GDP highly correlates to this, though there are exogenous factors that may speed the increase in life expectancy, like technology, etc. These are forecasted in the model by once again adding a time lag factor.
Finally, migration is forecasted. Large migrations throughout history have not at all been sustainable. Therefore, there is an upper limit placed on migration patterns so that the “maximum inflow or outflow of population is reduced over about 20 years to one percent of a country’s population” (21). Also, because it is typically largely populated countries that experience migration, the flow is capped if there is an overall decline in one year of more than 0.5%.
Economics:
The best approach to understanding the robust IFs economic sub-model is taken in three steps: first, understand how goods and services are produced. Secondly, broaden your attention to understand how the larger goods and services market interacts with consumption and exchange. Thirdly, the social accounting system must be explored to understand how the stocks and flows in the above systems are represented.
Production of Goods and Services:
The model uses a modified Cobb-Douglas production function. The Cobb-Douglas production function states that total output of an economy can be characterized by the interaction of labor multiplied by an exponent representing elasticity of labor time capital multiplied by an exponent representing elasticity of capital. The “elasticity of capital” and the “elasticity of labor” measures how quickly output will respond to a change in either labor our capital.
This production function is modified with an endogenously created multi-factor production variable. The authors note a variety of others who have determined that the Cobb-Douglas function is applicable, but limited. Some have pointed out that up to 50% of production increase comes from technological increase.
There were two ways that a MFP could be introduced into the model, one simple, the other complex. The more complex, endogenously derived model was selected, as it provided the opportunity for a more thoroughly responsive model to policy interventions. The derivation of this value involves five categories:
The convergence base: This is the base rate of MFP growth. It involves a convergence principle whereby developing countries converge on the technological superiority of a hegemon, assuming that the developing countries have passed some threshold of development. The base rate of the technological leader is a value pulled out of the air by the developers, but that can be changed to represent technological waves of advance and stagnation.
Knowledge creation and diffusion: Government spending on R&D.
Human capital quality: This addition to MFP involves spending on both health and education relative to GDP. The estimation is that a 1.5% increase in government spending on education equates to a 0.3% increase in economic growth.
Social capital quality: This tracks the effect that economic freedom can have on GDP growth. This was accomplished by looking at economic freedom and GDP cross sectionally to determine a possible relationship.
Physical capital quality: This tracks the relationship between energy supply availability and economic growth. If world energy price increases substantially, then much capital stock depreciates. IFs computes this price change by looking at the previous year’s price.
The Goods and Services Market:
This is the demand side of the model. It has embedded inside of it the supply, or production side of the model: the production function. This aspect of the model is equilibrium chasing, which means that it is never fully in equilibrium, as an economy would never fully be in equilibrium. It is able to do this through sectoral and country based inventories. These allow aspects of the economy that are not in equilibrium to rest year to year, as well as providing signals which can move both the supply and demand side towards equilibrium. This is accomplished through the setting of desired levels of stocks.
Total consumption is directly linked to income, which is based on labor earnings, returns on capital and transfer payments. These features are all addressed in the SAM discussion. Additionally, household consumption and savings is responsive to an interest rate. Consumption also takes place by sector, as households with higher levels of income tend to consume more services.
The size of the government’s share of involvement in the economy also continues to grow with time. This interaction is capped over time. IFs also does not represent trade bilaterally, but rather as a pooled feature.
IFs is equilibrium seeking in its economic sub-model through maintain a balance between supply and demand. This is accomplished through prices and stocks. Prices are mediated by elasticities and control supply and demand domestically. Stocks drive investment by destination. This equilibrium seeking behavior is controlled by a PID. “A PID-driven adjustment process responds proportionately to the integral of the error (the stock of discrepancy) and to the derivative of the error (the change in stock term)” (30).
The production function is the driver of both supply and, in many ways, demand. It accomplished this by driving consumption (through incomes). Consumption can change the dynamics of the goods and services market, but only at the margin.
The Social Accounting Matrix:
The SAM is embedded in the Goods and Services Market. It “…tracks and dynamically represents the financial stocks (assets and liabilities) and flows associated with key agent-classes” (31-2). This feature is an accounting tool for looking at how different sectoral and inter-state financial flows create abundance or dearth of certain stocks. For example, if a population is aging and a country doesn’t spend enough resources on pensions, possible adverse effects can be seen through the SAMs.
The internal SAM is a tool for looking at the distribution of stocks and flows among different sectors of the economy, households, firms and the government. The SAM is, once again, equilibrium chasing. It also does not represent a large lever that allows for policy interventions within the model, but is rather a tool for tracking the distribution of stocks, flows, and therefore production, a feature that can have effects on the model more broadly (see the MFP in the Production Function).
There is also an inter-state SAM which tracks the relationship between FDI and different countries as well as international debt. Once again, the SAM looks at assets and liabilities and uses signals from stocks to chase equilibrium over time. This is also accomplished by states acting as either agents of providing FDI or demanding FDI. These levels are then used to produce flows of capital gains to both asset country and liability country.
Energy:
Stopped here to focus on the Economic sub-model in other literature.
This document begins by identifying a large number of global trends that are unfolding. It makes the claim that the International Futures forecasting platform will offer assistance in a variety of ways in light of these trends. IFs will be able to identify tensions in political, economic and environmental risk (3). It will also explore long-term trends. IFs explores the world through examining dynamic systems.
The authors then claim that three goals of forecasting are important in light of the above global trends and possibilities afforded by the IFs model. We should use these tools and trends to create and clarify global priorities. Also, we need to explore the world as it changes in a variety of directions through scenario analysis. Finally, examining our changing world through the perspective of an agent-class based approach allows us to look at points of contingency.
Four assumptions underlie the development of IFs: issues affecting human development must be explored globally and locally; goals of humans are increasingly being iterated; understandings related to human systems is growing rapidly; and the domain of human choice is broadening.
There are then four ways in that the IFs project was taken from an abstract understanding of global system interactions to a forma computer model. These involved the highlighting of different parameters necessary for formal forecasting, the selection of global systems and sub-models, the identification of both theoretical and philosophical foundations for modeling and the embrace of a technical approach to modeling. These four parts are further identified as this paper progresses.
M1-M4 represent, “…four design parameter decisions” (5). I1-I4 explores issues of interface vis-à-vis such a model.
M1: the geographic representation of IFs at the time of this writing was 164 countries with the plan to move to 182. Current versions do forecast 182 countries and are currently in the process of breaking those countries down into provinces.
The model uses a pre-processor to prepare the raw data for the base year forecast. The pre-processor structure allows the re-running of the base year to happen with relative ease. Also, the structure allows for a relatively easy addition of new countries into the model.
M2: The issue areas that are represented in IFs are demographic, economic, energy, food, environmental and socio-political. There has since been the addition of an education model and a health model.
M3: Time Horizon: the model runs to 2100.
M4: The model uses extensive sets of data bases in order to dynamically link sub-models. Simple extrapolation is adequate for some short-term forecasts, but dynamic linkage is required for mid or long-term forecasts.
I1: History of IFs availability.
I2: Usability.
I3: Interventions and Scenario Development: This has developed substantially to allow users to create and save their own global scenarios.
I4: Transparency: While IFs tries to be as simple as possible, any long-term model must be sufficiently complex to represent the dynamic linkages between different variables. Therefore, transparency is important. This is accomplished where possible through help systems, etc.
There is a discussion of the philosophy of the structure of IFs. Important aspects of this discussion involve the ability to represent both stocks and flows within a system. This is accomplished, in part, thorough an input-output matrix, as in the SAM. Additionally, the structure must be able to represent non-linear, or dynamic changes within the model. This is accomplished by imposing a disequilibrium causing lever that the model enacts and an equilibrium seeking structure. Therefore, equilibrium is never quarantined to one year, but rather always exists and is sought somewhere in the future. The ability of the model to accomplish this relies on stocks and flows: if trade balance, for example, is not achieved in one year, stocks can be held and this affects future year trade interactions. Also, agents and classes are represented through households, firms and governments. Some of this behavior is clearly market based, but other behavior is not (i.e., governmental).
Relative to other modeling platforms, the authors claim that IFs represents an “eclectic” approach (13). This is because IFs is neither fully an econometric, systems dynamics or optimization model. They authors describe the model as, “…structure based…agent-class driven, dynamic modeling” (13). While it pays close attention to stocks and flows, it isn’t a system dynamics model because it represents some systems embedded in the structure of other systems. Also, the model is not a micro-agent model either because it represents classes. Finally, it isn’t fully econometric but it does rely heavily on data.
The authors also posit that there should be an additional question posed of modelers that tends to be left out: how easy is it to intervene in your model? The IFs model is designed to allow users to quickly and easily make parameter or variable changes within the model.
Demographics:
The demographic sub-model of IFs relies on stocks and flows being represented by age/sex cohorts similar to the ones used the UN or US census. These are then used to determine births within a year. However, the TFR must be determined by some metric derived from other areas of the model. Simply regressing different data sets allows patterns to emerge. In Table 3.1, the authors present a few different estimations of TFR using GDP per capita at purchasing power parity, total education, female education and contraceptive use. While they find a higher adjusted R-squared with one set of variables, they opt for a second estimation set that gives less priority to the education component, as this is not fully robustly forecasted in the model at the time of this writing.
Also, the authors point out that the relationship between TFR and GDP changes over time. The curve essentially shifts “down” showing a relationship where levels of TFR are associated with lower and lower levels of GDP. This is incorporated into the model by using a time dependent factor that decays over time due to saturation effects.
Also, longevity is determined by the model. It is found that GDP highly correlates to this, though there are exogenous factors that may speed the increase in life expectancy, like technology, etc. These are forecasted in the model by once again adding a time lag factor.
Finally, migration is forecasted. Large migrations throughout history have not at all been sustainable. Therefore, there is an upper limit placed on migration patterns so that the “maximum inflow or outflow of population is reduced over about 20 years to one percent of a country’s population” (21). Also, because it is typically largely populated countries that experience migration, the flow is capped if there is an overall decline in one year of more than 0.5%.
Economics:
The best approach to understanding the robust IFs economic sub-model is taken in three steps: first, understand how goods and services are produced. Secondly, broaden your attention to understand how the larger goods and services market interacts with consumption and exchange. Thirdly, the social accounting system must be explored to understand how the stocks and flows in the above systems are represented.
Production of Goods and Services:
The model uses a modified Cobb-Douglas production function. The Cobb-Douglas production function states that total output of an economy can be characterized by the interaction of labor multiplied by an exponent representing elasticity of labor time capital multiplied by an exponent representing elasticity of capital. The “elasticity of capital” and the “elasticity of labor” measures how quickly output will respond to a change in either labor our capital.
This production function is modified with an endogenously created multi-factor production variable. The authors note a variety of others who have determined that the Cobb-Douglas function is applicable, but limited. Some have pointed out that up to 50% of production increase comes from technological increase.
There were two ways that a MFP could be introduced into the model, one simple, the other complex. The more complex, endogenously derived model was selected, as it provided the opportunity for a more thoroughly responsive model to policy interventions. The derivation of this value involves five categories:
The convergence base: This is the base rate of MFP growth. It involves a convergence principle whereby developing countries converge on the technological superiority of a hegemon, assuming that the developing countries have passed some threshold of development. The base rate of the technological leader is a value pulled out of the air by the developers, but that can be changed to represent technological waves of advance and stagnation.
Knowledge creation and diffusion: Government spending on R&D.
Human capital quality: This addition to MFP involves spending on both health and education relative to GDP. The estimation is that a 1.5% increase in government spending on education equates to a 0.3% increase in economic growth.
Social capital quality: This tracks the effect that economic freedom can have on GDP growth. This was accomplished by looking at economic freedom and GDP cross sectionally to determine a possible relationship.
Physical capital quality: This tracks the relationship between energy supply availability and economic growth. If world energy price increases substantially, then much capital stock depreciates. IFs computes this price change by looking at the previous year’s price.
The Goods and Services Market:
This is the demand side of the model. It has embedded inside of it the supply, or production side of the model: the production function. This aspect of the model is equilibrium chasing, which means that it is never fully in equilibrium, as an economy would never fully be in equilibrium. It is able to do this through sectoral and country based inventories. These allow aspects of the economy that are not in equilibrium to rest year to year, as well as providing signals which can move both the supply and demand side towards equilibrium. This is accomplished through the setting of desired levels of stocks.
Total consumption is directly linked to income, which is based on labor earnings, returns on capital and transfer payments. These features are all addressed in the SAM discussion. Additionally, household consumption and savings is responsive to an interest rate. Consumption also takes place by sector, as households with higher levels of income tend to consume more services.
The size of the government’s share of involvement in the economy also continues to grow with time. This interaction is capped over time. IFs also does not represent trade bilaterally, but rather as a pooled feature.
IFs is equilibrium seeking in its economic sub-model through maintain a balance between supply and demand. This is accomplished through prices and stocks. Prices are mediated by elasticities and control supply and demand domestically. Stocks drive investment by destination. This equilibrium seeking behavior is controlled by a PID. “A PID-driven adjustment process responds proportionately to the integral of the error (the stock of discrepancy) and to the derivative of the error (the change in stock term)” (30).
The production function is the driver of both supply and, in many ways, demand. It accomplished this by driving consumption (through incomes). Consumption can change the dynamics of the goods and services market, but only at the margin.
The Social Accounting Matrix:
The SAM is embedded in the Goods and Services Market. It “…tracks and dynamically represents the financial stocks (assets and liabilities) and flows associated with key agent-classes” (31-2). This feature is an accounting tool for looking at how different sectoral and inter-state financial flows create abundance or dearth of certain stocks. For example, if a population is aging and a country doesn’t spend enough resources on pensions, possible adverse effects can be seen through the SAMs.
The internal SAM is a tool for looking at the distribution of stocks and flows among different sectors of the economy, households, firms and the government. The SAM is, once again, equilibrium chasing. It also does not represent a large lever that allows for policy interventions within the model, but is rather a tool for tracking the distribution of stocks, flows, and therefore production, a feature that can have effects on the model more broadly (see the MFP in the Production Function).
There is also an inter-state SAM which tracks the relationship between FDI and different countries as well as international debt. Once again, the SAM looks at assets and liabilities and uses signals from stocks to chase equilibrium over time. This is also accomplished by states acting as either agents of providing FDI or demanding FDI. These levels are then used to produce flows of capital gains to both asset country and liability country.
Energy:
Stopped here to focus on the Economic sub-model in other literature.
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