Framework and Application of Computable General Equilibrium (CGE) Model
November 2014
Wannaphong Durongkaveroj
Economic Researcher
Fiscal Policy Research Institute, Bangkok, Thailand
According to the most well-known and complex model in economics for the last 30 years, Computable General Equilibrium (CGE) model is a tool aimed to solve an economic problem based on perfectly competitive market.
However, the way to understand this model is not simple as the middle name, general, because it requires leaner to have an upper-intermediate knowledge of economics - at least Master's degree student. Why is it so difficult?
The reason is rationally simple. As assumed to be equilibrium, direct, indirect and induced effects take place in the market simultaneously. Commodity's price is a pure incentive of agents namely consumer, producer, government, and foreign buyer. Another aspect of the basic model is to be static which means that market takes time to be clear. Even though the externality is not in the core but we normally accept its existence.
For step of learning CGE Model, you should start with input-output table. Its types (Both general competitive and non-competitive import, use and make table) and application (I-O multiplier, impact analysis, and value chain analysis (sectoral industry analysis) should be one of the necessary task.
The recommended book for I-O table is >> Miller, R. E., & Blair, P. M. (2009). Input-output analysis: Foundations and extensions. Cambridge Press.
The next step is Social Accounting Matrix (SAM). SAM is a more comprehensively monetary flow of the whole economy. It represents all transaction among all sectors and agents. Normally, SAM is issued by 5-10 years (except the U.S. publishing SAM annually). SAM is more complex and sometimes difficult to understand. The structure of SAM, unfortunately, is different among issuers. However, its balance - between revenue and expenditure - makes us nervous. Its application or ability is quite similar to I-O table. However, the multiplier of I-O multiplier will be around 1.XX to 2.XX but for SAM multiplier, due to its bigger aspects, SAM multiplier will be around 3.XX to 4.XX. Poverty analysis is the extent of this model.
The recommended book for SAM is >> Breisinger, C., Thomas, M., & Thurlow, J. (2010). Social accounting matrices and multiplier analysis. Washington D.C.: International Food Policy Research Institute.
The apex topic is, of course, Computable General Equilibrium (CGE) Model, it is one of the most complex model ever in economics. The model is developed to many models by more than a thousand economist from around the world. Its ability is useful because it is a tool to detect what happen to economy after macroeconomic (demanded) exogenous shocks including the elimination of tariff, a change in industrial output, exchange rate fluctuation, and etc. However, CGE model is not the top of the world. Some disadvantages happen when its ability in forecasting due to its base (SAM). If your SAM is not up to date, its accuracy may be reduced. Thus, multiple-tool analysis between CGE model and econometrics is what we will familiar by the next period of economics.
The recommended book for CGE model is >> Lofgren, H., Harris, R. L., & Robinson, S. (2002). A standard Computable General Equilibrium (CGE) Model in GAMS. International Food Policy Research Institute. and Burfisher, M. E. (2011). Introduction to Computable General Equilibrium Models. Cambridge University Press. and Hosoe, N., Gasawa, K., and Hashimoto, H. (2010). Textbook of Computable General Equilibrium Modelling: Programming and Simulations.
The figure below represents the framework and application of CGE Model.
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