Transcript Economy-Wide Shocks and Policies

Distributional and Poverty Impact Analysis
within a General Equilibrium Framework
B. Essama-Nssah
The World Bank
DEC Course on Poverty and Inequality Analysis
Module 7: Evaluating the Distributional and Poverty
Impacts of Economy-Wide Policies
April 28, 2009
Introduction

Impact Analysis


An assessment of variations in individual and
social welfare attributable to an exogenous
shock or implementation of a policy.
Attribution based on a comparison of the
policy state and the counterfactual, ceteris
paribus.
2
Introduction

Economy-Wide Shocks and Policies




Affect potentially the whole population
Are bound to have both macroeconomic,
structural and distributional effects that work
through a number of flow-of-fund variables and
individual good or factor markets.
Need for an analytical framework that accounts
for interdependence between stabilization,
structural and distributional issues.
General equilibrium analysis offers such a
framework.
3
Introduction

Approaches


Standard Representative Household (RH)

Impact on functional distribution of income, mean welfare
within a few representative socioeconomic groups, and
between-group inequality, but not on poverty.
Extended Representative Household

Extends the RH approach by modeling the size distribution
within group, hence allowing poverty analysis in addition
to what RH allows.

e.g. Lognormal (Dervis, de Melo and Robinson 1982) or Beta
(Decaluwé, Savard and Thorbecke 2005) or Parameterized Lorenz
(Essama-Nssah 2005)
4
Introduction

Approaches, continued


CGE-Micro-Simulation
 Use unit record data from household survey to build a
household model of expenditure, or income generation to
allow a rich analysis of poverty and inequality.
Focus of Presentation

A Stylized ERH Framework

Positive component: a two-sector model of an open
economy


Structure
Specification
5
Introduction

Stylized ERH, continued

Normative component: the Lorenz model of
income distribution





Structure
Parameterization
Recovering Inequality and Poverty Measures
Numerical Implementation
Impact of Budgetary Policy


Policy Options
Outcomes
6
A Two-Sector Model of an Open
Economy

Structure
 A logical representation of a
socioeconomic system wherein the
behavior of all participants is compatible.

Organized around the standard Walrasian
template.
7

Structure, continued




Two categories of agents: producers and consumers, or
firms and households.
Supply and demand behavior: an observable
consequence of the optimization assumption.
Market interaction: method of social coordination by
mutual adjustment among participants based on “quid
pro quo” (Lindblom 2001).
Behavioral compatibility entails equilibrium on all
markets.
8

Structure, continued

Comparative statics entails comparison of equilibrium
states associated with changes in the socioeconomic
environment.

Social desirability depends on chosen criterion


Pareto efficiency focuses on how well the system promotes
individual objectives: efficiency implies no other situation is
unanimously preferred by all participants.
Poverty-focused criterion: less poverty is preferred to more.
9

Structure, continued

Incentives configuration such that amount
of effective demand equals amount
supplied.

Alternatively:


No feasible change in individual behavior is
worthwhile.
No desirable change in individual behavior is feasible.
10
Circular Flow Chart for an Open Economy
Factor services
Producers
Factor
markets
Factor markets
Intermediate goods
Product markets
Exports
Households
Final goods
Imports
Rest of
the world
11
Structure of a SAM for a Basic Model of an Open Economy
Activity
Activity
Commodity
Household
Household
Domestic
Sales
Intermediate
Consumption
Payments to
Factors of
Production
Rest of
World
Total
Commodity
Rest of
World
Exports
Household
Consumption
Balance of
Trade
Imports
Total
Factor
Payments
Total Supply
of
Consumption
Goods
Total
Total Sales
Total
Absorption
Total
Household
Income
Total
Earnings of
Rest of the
World
Total
Household
Expenditure
Total
Expenditure
by Rest of
World
12

Structure, continued

Social Accounting Matrix (SAM)





An accounting framework that reflects the circular flow of
economic activity.
A square matrix: dimension based on the number of
sectors and agents considered.
Each entry represents a payment to a row-account by a
column-account.
Consistency implies that row total must equal
corresponding column total.
Also, if all but one accounts balance, the last one must
balance as well (Walras’ law).
13
Specification

Based on Devarajan, Lewis and Robinson
(1990)

Two sectors of production:




Export good not sold domestically.
Home good used for both intermediate and final
consumption
Imported and domestic intermediate goods enter
the production process.
Production process in each sector represented by a
Cobb-Douglas function
 ki
li
X i  Ai Ki Li ;  ki  li  1; i  e, d .
14

Specification, continued

The demand for labor is derived from first order
conditions for profit maximization
 li ( PVAi X i )
Li 
; i  e, d .
w

Similarly for capital [capital is mobile in the long
run]
Ki 
 ki ( PVAi X i )
r
; i  e, d .
15

Specification, continued

The net price in sector i is given by
PVAi  PX i  a2i PQ2 , i  e, d .

a2i is the amount of aggregate intermediate
good (Q2) per unit of output in sector i.
16

Specification, continued

Producer price of exports
PX e  R(1  te ) e

Two aggregate commodities for final (j=1) and
intermediate consumption (j=2)

Qj  Bj  jM
 j
j
 (1   j ) D

1

 j 
j
j
; j  1, 2
17

Specification, continued

Import demand functions derived from cost
minimization.

j
j
M j  B  PM
1
j

(1 j )
j
j
j
 (1   ) PD

1
(1 j ) (1 )
j
j
j
j
 j
j
 PM Q sj ; j  1, 2
Demand for domestic components of aggregate
goods (implication of cost minimization).


(1 j )
D j  B j 1  j j PM j

 (1   j j ) PD

1
(1 j ) (1 )
j
j


 j j PD j j Q sj ; j  1, 2
18

Specification, continued

Domestic price of imports inclusive of tariffs
PM j  R(1  tm j ) mj ; j  1, 2

Price of domestic sales includes a sales tax
PD j  PX d (1  txd ); j  1, 2
19

Specification, continued

Producer price of the domestic good
2
PX e 

 PD D
j 1
j
j
;
j  1, 2
X 2 (1  txd )
Price of composite goods
PQ j  ( PD j D j  PM j M j ); j  1, 2
20

Specification, continued


Rural household represents 60 percent of
the population, and owns a fraction RL of
labor and a fraction RK of capital (to be
determined by data in SAM).
Urban household represents 40 percent of
the population, and owns a fraction (1- RK )
of capital and a fraction (1- RL) of labor.
21

Specification, continued

Household income
Yh   hl ( wLS )   hk (rKS )   hg YG   hf RS f ; h  r , u

Household demand for final good (no savings)

Yh
Q 
; h  r , u; Q1d   Q1dh
PQ1
h
Government fiscal revenue
d
1h
2
YG   tm j ( R mj M j )  txd X d
j 1
22

Specification, continued

Total demand for intermediate good
Q2d   a2i X i ; i  e, d .
i

Equilibrium in the home good market
Xd 

2
D
j 1
j
; j  1, 2
Material balance for composite goods
Q sj  Q dj ; j  1, 2
23

Specification, continued

Equilibrium condition for each factor market under
full employment of given amounts of capital and
labor.
LS   Li ; KS   Ki ; i  e, d .
i
i
24

Specification, continued

Government budget balance

hg
YG YG ; h  r , u
h

Trade balance
2
 e X e  S f   M j
j 1
m
j
25
The Lorenz Model of Income
Distribution

Structure


A flexible statistical model of the distribution of
some welfare indicator, x, among the population.
The Lorenz curve maps the cumulative proportion
of the population (horizontal axis) against the
cumulative share of welfare (vertical axis), where
individuals have been ranked in ascending order of
x.
p  F ( x )  L( p )  
x
0
tf (t )dt

26

Structure, continued

Alternative Expression based on : dp=f(x)dx
L( p )  
p
0

x(q)

dq
First-order derivative
L( p) 
x( p )

27

Structure, continued

Second-order derivative
L( p) 

1 dx

 dp
1
1

dp
f ( x)

dx
Parameterization

Based on General Quadratic (Datt 1992, 1998)

Lorenz
1

1
2
2 2
L( p)     2 p  e  (mp  np  e ) 
2

28

Quadratic model, continued

First Derivative
2
2mp  n
L( p)   
2 4 (mp 2  np  e 2 )

Second derivative
r (mp  np  e )
L( p) 
8
2
2
2

3
2
29

Recovering Inequality and Poverty Measures

From a parameterized Lorenz model and the mean of
x, we can recover the following:



X: based on the mean and the first order derivative of the
Lorenz function.
Density function of x, f(x): based on the mean and the second
order derivative of the Lorenz function.
This is all we need to compute all inequality and
poverty measures.
30
Numerical Implementation

Data

Base Year SAM
Export Domestic Final Intermediate Labor Capital Rural Urban World
Export
30.00
Domestic
73.00
2.00
Final
40.00 60.00
Intermediate
5.00
Labor
20.00
30.00
Capital
5.00
45.00
Rural Household
35.00 5.00
Urban Household
15.00 45.00
World
27.00
3.00
Total
30.00
75.00 100.00
5.00 50.00 50.00 40.00 60.00 30.00
Total
30.00
75.00
100.00
5.00
50.00
50.00
40.00
60.00
30.00
Source: Adapted from Devarajan, Lewis and Robinson (1990)
31

Data, continued

Calibrated Parameters
Calibrated Parameters for the Two-Sector Model
L K A M D B
Export
0.80 0.20 1.98
Domestic
0.40 0.60 1.98
Final
0.38 0.62 1.89
Intermediate
0.69 0.31 1.92
32

Data, continued





A is tfp (total factor productivity) parameter in the
Cobb-Douglas production function
’s are factor shares (exponents in the production
function).
’s are shares in the Armington aggregation function
and B is a scale factor.
Distribution of factor income in base year SAM:
RL=0.70, UL=0.30, RK=0.10, and UK=0.90
Distribution of government transfers: RG=0.60 and
UG=0.40
33

Data, continued


Distribution of foreign transfers: RF=0.20 and UF=0.80
Base Year Income Distribution
Size Distribution of Income within the Two Socioeconomic Groups
Group
Mean
Poorest
2nd
3rd
4th
5th
6th
7th
8th
9th
10th
Decile
National
1.00
0.01
0.03
0.04
0.06
0.07
0.09
0.11
0.14
0.18
0.28
Rural
0.66
0.02
0.03
0.05
0.07
0.08
0.10
0.12
0.14
0.17
0.21
Urban
1.50
0.00
0.04
0.06
0.07
0.09
0.10
0.12
0.14
0.16
0.23
Source: Author’s calculations
34

Data, continued
Baseline Inequality (Extended Gini)
Focus
National
1
0.00
2
0.41
3
0.57
4
0.65
5
0.71
6
0.74
Source: Author’s Calculations
Rural
0.00
0.32
0.47
0.56
0.62
0.66
Urban
0.00
0.32
0.47
0.57
0.64
0.69
35

Data, continued

Parameters underlying the General Quadratic Lorenz
Model
Parameterization of the Lorenz Model
Parameter National Rural Urban
1
1.52
2.16
1.46
2
-0.89
-1.42
-1.83
3
0.02
0.08
-0.15
e
-1.65
-1.82
-0.48
m
-5.29
-6.60
-2.51
n
2.86
4.84
2.37
r
8.11
10.50
2.82
Source: Author’s calculations
36


Policy Options
Case 1: Reference



Tax on domestic sales: 15.4 percent
Tariff on imports of final and intermediate goods: 12.5
percent
Case 2: Reform Option A



Increase domestic sales tax by 5% (from reference)
Lower tariff on final import by 17.6%
Increase tariff on intermediate by 46.4 %
37


Policy Options, continued
Case 3: Reform Option B



Lower sales tax by 5%
Increase tariff on final goods by 18.4%
Lower tariff on intermediate by 44%
38

Policy Options, continued
Tax Rates (percentage)
Case Domestic Good Final Imports Intermediate Imports
1
15.4
12.50
12.50
2
16.17
10.3
18.30
3
14.63
14.80
7.00
39
Social Impact of Budgetary Policy
Base
Case 1
Case 2
Case 3
Exports
30.0
Domestic Good
75.0
Final Imports
27.0
Intermediate Imports
3.0
Total Consumption
100.0
Rural Consumption
40.0
Urban consumption
60.0
Total Poverty Incidence
59.2
Rural Poverty Incidence
78.3
Urban Poverty Incidence 30.5
Overall Poverty Gap
29.7
Rural Poverty Gap
38.7
Urban Poverty Gap
16.3
100.0
100.0
100.0
100.0
100.0
106.7
95.6
97.5
95.2
106.4
95.8
93.5
104.1
102.2
99.3
102.3
101.1
100.0
107.1
95.3
97.3
94.9
106.8
95.6
93.1
104.4
97.7
100.8
97.6
98.8
100.0
106.3
95.8
97.6
95.5
106.0
96.1
93.9
103.9
40

Outcomes, continued

Case 1:



Pattern of production and imports unchanged from the base
case where there is no government intervention.
Optimal configuration of taxes to the extent that they do not
distort private production decisions.
The redistributive policy associated transfers to households
causes an increase in rural consumption and a decrease in
urban consumption.


As a consequence overall poverty incidence decline by about 2.5
percent.
Rural poverty decreases by 5 percent while urban poverty
increase by more than 6 percent.
41

Outcomes, continued

Case 2:



Production of exports increases, that of the domestic
good declines. Both categories of imports increase.
Pattern of change in poverty incidence is similar to the
reference case, but reduction in rural poverty and
increase in rural poverty are a bit higher than in the
reference case.
Case 3:


Production of exports and all imports fall while
production of domestic good increases.
Change in poverty similar to previous cases.
42
Conclusion


Evaluating the social impact of economy-wide policies requires a
social policy model framed within the logic of general equilibrium
analysis.
Such a model has two basic components



A structural representation of individual behavior and social interaction
based on the principles of optimization and quid pro quo.
A social evaluation function reflecting a chosen set of value judgments
(e.g. efficiency and fairness).
A stylized analysis of the social impact of budgetary policy revealed
the following:


The outcome hinges crucially on the underlying mechanisms allocating
burdens and advantages among individuals.
Aggregate welfare effects may be negligible while structural and
distributional impacts are significant.

the latter drive the political economy of policy-making.
43
References






Datt, Gaurav. 1998. Computational Tools for Poverty Measurement and
Analysis. Washington D.C.: International Food Policy Research Institute
(IFPRI) Discussion Paper No.50 (Food Consumption and Nutrition Division).
Datt, Gaurav. 1992. Computational Tools for Poverty Measurement and
Analysis. Washington D.C.: The World Bank (mimeo)
De Melo Jaime and Robinson Sherman. 1989. Product Differentiation and
the Treatment of Foreign Trade in Computable General Equilibrium Models
of Small Economies. Journal of International Economics, Vol. 27:47-67.
Devarajan, Shantayanan, Jeffrey D. Lewis, and Sherman Robinson. 1990.
Policy Lessons From Two-sector Models. Journal of Policy Modeling 12 (4):
625-657.
Dervis, Kemal, de Melo, Jaime, and Robinson, Sherman. 1982. General
Equilkibrium Models for Development Policy. Washington, D.C.: the World
Bank.
Decaluwé, B., Savard. L. and Thorbecke, E. 2005. General Equilibrium
Approach for Poverty Analysis: With an Application to Cameroon. African
Development Review, Vol. 17, No.2: 213-243.
44





Dinwiddy, C.L. and F.J. Teal. 1988. The Two-Sector General
Equilibrium Model: A new Approach. Oxford: Philip Allan.
Essama-Nssah, B. 2006. Macroeconomic Shocks and Policies. In
Aline Couduel and Stefano Paternostro (eds) Analyzing the
Distributional Impact of Reforms. Washington, D.C.: The World
Bank.
Essama-Nssah, B. 2005. Simulating the Poverty Impact of
Macroeconomic Shocks and Policies. World Bank Research
Working Paper No. 3788. Washington, D.C.: The World Bank.
Lindblom Charles E. 2001. The Market System: What Is It, How It
Works and What to Make of It. New Haven: Yale University
Press.
Varian Hal R. 1984. Microeconomic Analysis (Second Edition)
New York: Norton & Company.
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
THE END
46