# **_4.4. Caveats and Robustness: A brief discussion_**

Modeling at both the macro and micro levels the impact of a large future infrastructure project such as the Panama Canal is an extremely complicated exercise. Although every effort has been made to embed as much realism as possible while still keeping model results tractable—and the resulting effort represents the best available methodology to date for carrying out this type of analysis—the results come with a set of important caveats. They should not be interpreted as forecasts but rather as ceteris paribus scenarios where many elements of the economy were left unchanged for tractability and where some simplifying assumptions were deemed necessary.

Two key assumptions were: a) maintaining constant the composition of skills across scenarios, and b) full employment of factors. With regard to the former, although the model horizon is long enough to allow some individuals to respond to changing wage levels by investing in skills building, modeling such a response is fraught with difficulties. First, if individuals exit the labor market in order to acquire new skills, growth would suffer in the interim as labor supply would decline. The decline in growth, however, would bring with it a fall in demand for skill-intensive products which would limit somewhat the pressure on skilled wages. Second, opportunities must be available to allow an economically significant number of persons to upgrade their skills. This would normally imply an expansion in the public provision of educational services and training; in turn, such a supply response would take time and would also have to be financed. Depending on the financing vehicle, this could imply higher rates of taxation or some crowding-out of private investment, both of which would somewhat dampen growth and slow the growth in skilled wages. Therefore, given the many additional assumptions required to incorporate such a supply response, the paper does not explicitly model this possibility. However, if a sufficient number of workers were able to upgrade their skills—with limited negative spillovers for growth in the interim period—the adverse distributional effects described in this paper would be lessened.

With regard to the full employment assumption, the model could accommodate a solution with unemployment. However, we opted for a full employment closure because of the empirical evidence on the relative stability of the unemployment rate and because the economy of Panama has been growing (even before the construction phase) above its 6 percent potential growth rate and thus its recent (2007-2010) 6.5 unemployment rate can be considered structural and insensitive to increases of demand.<sup>26</sup> In order to check how results would change, we ran a version of the CGE model where wages are fixed and additional demand is met with additional employment, a sort of pure multiplier model. In this set-up, the construction phase would create just 0.2 percent more employment (for both skilled and unskilled workers) when compared with the BaU scenario.<sup>27</sup> Note that, in this case, wages do not go up, so there are incentives for firms to substitute, compatibly with a given technology, other inputs for labor. As explained above, Canal construction generates demand for construction services but also large leakages through

> 26 For more details on potential growth and unemployment issues see IMF (2010). Note also that in this document IMF staff forecasts growth for Panama ―to hover around 6 percent, broadly in line with current potential growth‖.

> 27 This percentage (0.2%)  is calculated as the percentage difference between the level of total employment achieved by the end of the construction phase, i.e. by 2014, and the level of employment in the BaU for the same year. It is thus equivalent to the cumulated (2004-1014) employment effect.

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