EC 936 ECONOMIC POLICY MODELLING

1. EC 936 ECONOMIC POLICY MODELLING LECTURE 7: CGE MODELS OF STRUCTURAL CHANGE AND ECONOMIC REFORM

2. WASHINGTON CONSENSUS (Williamson, 1989) • STRUCTURAL ADJUSTMENT POLICIES • Budget deficit reduction • Public expenditure reform • Tax reform • Financial liberalization • Foreign exchange liberalization • Trade liberalization • Privatization of state-owned enterprises • Competition policy • Deregulation of foreign direct investment

3. AUGMENTED WASHINGTON CONSENSUS (Rodrik, 2002) • Land reform • Poverty reduction • Social safety nets • Anti-corruption policy • Legal reforms • Governmental/institutional reforms

4. WHY CGE MODELS? • General vs partial equilibrium analysis • Counterfactual modelling • Decomposition of complex array of simultaneous influences (exogenous as well as policy decisions) • Simulation exercises • Evaluation of key parameters

5. CGE MODELS OF STRUCTURAL ADJUSTMENT AND ECONOMIC REFORM IN AFRICA CAMEROON THE GAMBIA MADAGASCAR NIGER • Key structural similarities: • High share of labour force in agriculture • Export oriented/primary commodities • Small industrial sectors • Similar external shocks pre-reform: • Terms of trade shocks (falling commodity prices) • Real exchange depreciation (except for Cameroon) • Structural divergences: • Budget balance • Nominal exchange rates • Financial stability

6. THE CORNELL CGE MODEL(Dorosh, Sahn et al) • SAM based model • Four household sectors (urban non-poor, urban poor, rural non-poor, rural poor) • Cameroon 14 sectors (6 agric, 2 ind) • The Gambia 17 sectors (6 agric, 1 ind) • Madagascar 15 sectors (5 agric, 4 ind) • Niger 14 sectors (5 agric, 3 ind) • CES value-added production function • Disaggregated labour (formal/informal by skill type) • Sector-specific fixed capital (formal/informal) • Disaggregated land by ecological type • LES or fixed-share consumption functions

7. CLOSURE RULES • Micro: • Market clearing in commodity and labour markets • Aggregate labour supply fixed • Armington elasticities for imports • CET functions for exports • Government spending exogenous • Macro: • Savings driven • Current account deficit held constant

8. FOUR SIMULATION EXERCISES How might governments respond to external shocks? I: Impose import quotas to maintain real exchange rate (‘de facto adjustment’) II: Real exchange rate deprecation (‘foreign exchange liberalization’) III: Real exchange rate depreciation and maintain budget balance (i.e. cut government expenditures) IV: Real exchange rate depreciation and impose trade taxes to maintain level of government expenditure

13. CONCLUSIONS • Terms-of-trade shocks lowered real incomes for most households • Foreign exchange rationing and quotas exacerbate the negative effects on poor households, while raising incomes for the urban non-poor • Foreign exchange rationing and quotas lower long-run growth potential via lowered savings/investment • Cutting government expenditures raises savings/investment relative to raising trade taxes • Cutting government expenditures increases urban poverty relative to raising trade taxes • Political economy implications

14. POTENTIAL CRITICISMS • Sensitivity of results to closure rules, both macro and micro (do markets clear? should economies be modeled as savings-driven or investment-driven? and so on) • How well is the model calibrated to changes in variables as well as static representation of resource flows (via the SAM)? • Is it appropriate to model households as homogenous within categories such as poor/non-poor; urban/rural? • Is neo-classical modelling appropriate for evaluating neo-classical policy agendas?