- In addition to the three institutions in Figure 2.1, the Liberian version of MAMS also includes UNMIL due to its significant economic role. All of its incomes stem from foreign transfers and are used for consumption with a large import share.

<u>Private investment financing</u> is provided from domestic private savings (net of lending to the government) and foreign direct investment (FDI). It is assumed that private investment spending will adjust in response to changes in available funding.

In domestic commodity markets, flexible prices ensure balance between demands for domestic output from domestic demanders and supplies to the domestic market from domestic suppliers. The part of domestic demands that is for imports faces exogenous world prices – Liberia is viewed as a small country in world markets without any impact on the import and export prices that it faces. Domestic demanders decide on import and domestic shares in their demands on the basis of the relative prices of commodities from these two sources. Similarly, domestic suppliers (the activities) decide on the shares for exports and domestic supplies on the basis of the relative prices received in these two markets.<sup>16</sup> <u>Factor markets reach balance between demands and supplies via wage (or rent) adjustments.</u> Across all factors, the factor demand curves are downward-sloping reflecting the responses of production activities to changes in factor wages. On the supply side of the labor market, unemployment is endogenous – the model includes a wage curve (a supply curve) that is upward-sloping until full employment is reached, at which point it becomes vertical (see Figure A1.2; its supply curve assumes a minimum unemployment rate of 5%). Unemployment is defined more broadly than in official statistics to include un- and under-employment. In the simulations, a broad definition of unemployment increases the scope for the existing labor force to generate a larger (smaller) amount of effective labor if the incentives to work were to improve (deteriorate) without any change in the labor-force participation rate; typically, this seems realistic. Over time, the labor force grows due to demography. For non-labor factors, the supply curves are vertical in any single year (the supply is fixed) but switch over time as supplies change (see next point).

The above discussion refers to the functioning of model economy in a single year. In MAMS, growth over time is endogenous. The economy grows due to accumulation of capital (determined by investment and depreciation), labor (determined by demography), and other factors (following exogenous growth trends), as well as because of improvements in total factor productivity (TFP). Apart from an exogenous component, TFP depends on the levels of government capital stocks.<sup>17</sup>

> 16 Many individual production activities do not respond to changes in relative prices for exports and domestic sales as their output only has one destination, either exported in full or sold domestically in full. By the same token, domestic demanders do not have a choice between imports and domestic output for commodities that only have one source. Such structural features reduce the flexibility of Liberia’s economy.

> 17 In Appendix 2 (on the MAMS database), we discuss our treatment of the links between productivity and government capital stocks.

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