metadata: authors: 0: author: Jamshidi,Ahmad
docna: 0: docna: Evaluating global macroeconomic models : a
            case study of MULTIMOD
docty: Policy Research Working Paper
subtopic: Macro-Fiscal Policy,Economic Adjustment and Lending,Public Sector Economics,International Trade and Trade Rules,Inflation,Macroeconomic Management,Public Finance Decentralization and
            Poverty Reduction
teratopic: Education
abstracts: cdata!: This paper is a contribution to the
            understanding of global interconnections through the
            evaluation and validation of the capabilities and properties
            of MULTIMOD, a multiregional macroeconomic model, developed
            and maintained at the International Monetary Fund. The
            author finds the model relatively small and simple in its
            theoretical specification, but advanced in its modeling
            techniques, exemplified by its "forward looking"
            features. This property allows faster adjustment of all
            prices, including exchange rates and interest rates, than do
            conventional macro models. A major strength of the model is
            the effective transmission of policy changes across
            countries. MULTIMOD can also be used to discuss North-South
            issues. Simulation examples are presented for monetary and
            fiscal policy scenarios in the North (with their impacts on
            the developing economies), oil price shocks, and debt relief schemes.
repnme: repnme: Evaluating global macroeconomic models : a
            case study of MULTIMOD
display_title: Evaluating global macroeconomic
            models : a case study of MULTIMOD
listing_relative_url: /research/1989/12/700393/evaluating-global-macroeconomic-models-case-study-multimod
topicv3: Fiscal Stimulus and Fiscal Rules m1326652 1073,Inflation m1326709 0870F4727ACED1CF8525815C00471347,Trade m1326924 698,Balance of Payments m1326965 441,Fiscal Policy m1327144 445
publishtoextweb_dt: 2010-07-01T00:00:00Z
historic_topic: Education
origu: Policy Plan & Prog Review Dept
no_of_pages: 91
author_keys: 0: author_key: 93757
model_extractions: **Policy, Planning, and Research**

I **Analysis and Prospects** The growing role of multiregional macro models in the discussion of international macroeconomic policy issues necessitates study of their structural and theoretical properties before using them - an is planned, for example, in the International Economics Analysis and Prospects Division. Two questions arise. First, of the model's exogenous variables and coefricients, which ones have more influence on the endogenous variables of interest? Second, what tools and techniques are available to examine the functioning of the models with respect to their structural properties?

Jamshidi explored the above objectives in the IMF's MULTIMOD by evaluating its theoretical specifications and validating its structural properties.

He found the model relatively small and simple in its theoretical specification, but advanced in its modeling techniques, exemplified by its "forward-looking" features. The estimation scheme employed emphasizes the comparability across countries through standardization of specifications and imposition of common coefficients. Thus, the differences in countries' responses to policy shocks are attributable to the differences in their structural features.

The model's forward-looking property allows faster adjustment of all prices, including exchange rates and interest rates, than do conventional macro models. A major strength of the model is the effective transmission of policy changes across countries.

The examination of linearity and symmetry measures, using Zel!ner-Peck techniques, suggests that the responses of the model are highly symmetric and increasingly nonlinear with the growing magnitude of shocks. (In nonlinear models multipliers depend on the starting values of the endogenous variables, and simulation results are very sensitive l- exogenous variables time paths.) MULTIMOD can be used in many ways to discuss North-South issues. The zxpansion of North-South links, especially financial links, would widen the scope for generating useful scenarios.

Simulation examples are presented for monetary and fiscal policy scenarios in the North (with their impacts on the developing economics), oil price shocks, and debt relief schemes.

This paper is a product of the Analysis and Prospects Division, International Economics Department. Copies are available free from the World Bank, 1818 H Street NW, Washington DC 20433. Please contact Mila Divino, room S7-037, extension 33739 (83 pages with figures and tables).

The PPR Working Paper Series disseminates the findings of work under way in the Bank's Policy, Planming, and Research Complex. An objective of the series is to get these findings out quickly, even if presentations are less than fully polished. TIle findings, interpretations, and conclusions in these papers do not necessarily represent official policy of the Bank.

Produced at the PPR Dissemination Center
# TABLE OF CONTENTS

# page

I. INTRODUCTION . .............................................. 1

# I. A BRIEF ACCOUNT OF MULTIMOD

|A. General Description .3...................<br>.......|3|
|---|---|
|B. Commodity Disagregation and Market Mechanism .<br>.........................|_5_|
|<br>C. Linkages<br>...........................................|6|
|<br>D. Estimation and Soludon .<br>.........................................|7|
|E. Behavioral Equations and Estimated Coefficients ..........<br>..................|7|
|F. Dynamic Strudure .<br>.................................................|11|

# _II. EVALUATION OF THE MODEL_

|_A Rational Expectations and MULT7MOD ..............._<br>_.................._|_13_|
|---|---|
|_1. Raaion Expectations in Macroeconomic Modeling ......._<br>_.............._|_13_|
|2_The companison of Anicipated with Unanticipated Shocks ....._<br>_..........._|_14_|
|_3. MULTIMOD and Other Rational Expectation Models ....._<br>_............._|_16_|
|_4. Application of Rational Expectations to Developing Counties ....._<br>_........._|_18_|
|_D. Model Responses to Policy Shocks ......................................._|_19_|
|_. Some Theoretical considerations ..................................._|_20_|
|_± The Financial Framework ......................................._|_21_|
|_3. International Transmission of Fiscal Policy Effects ......................_|22|
|_4. Intemational Transmission of Moneary Policy Effects ....._<br>_.............._|27|
|_C Developing Counties in MUL77MOD ..................................._|_36_|
|_. Reaction of Developing CountWes to Fiscal and Monetary Policies_<br>_of the IndustrIal Countries ........................................_<br>_2. Stnua_<br>_of Financial Linkages Between Devefoping Countnes_<br>_and Industialzed Countvies ......................................._|_36_<br>_37_|
|_3. OU and Conunodity Prices ........................................_|_42_|
|_IV. VALIDATION OF THE MODEL: A Structural Sensitivity Analyss_||
|_A Symmetry and Lineaity ests ..........................................._|_48_|
|_L 7eilner and Peck Tesu for Linearity and Symnety ......................_|_48_|
|_2 Empinical Resudts of Symmetry and Lineaity Tests ......_<br>_..............._|_50_|

**_-i_** -
||_page_|
|---|---|
|_B. SensdvityAnalysis of the Model ......................._|_58_|
|_1. Sns_<br>_y ...._<br>_......................_|_._<br>_58_|
|_ZTools of Estumnaon_<br>_......................._|_60_|
|_3. Results ......................_|.<br>_60_|
|_a Parameter Sensisity_<br>_......................._<br> <br>|_61_|
|_b. M_<br>_ultiplie.s_<br>_......._<br>_,_|_64_|
|_V. CONCLUSIONS_<br>_......................_|_69_|
|_REFERENCES_<br>_......................_|_71_|
|_APFENDJXA. Effects of Selected Shodcs in MULTIMOD, 1988-93: Tables Al -A8 ...._<br>_._<br>|_......_<br>_74_|
|_APPENDIX B: Parameter Pefuwbation of Money Demand Equations: Tables Bl - B2 ...._|_......_<br>_82_|

The author is grateful to the Research Department of IMF and S. Symansky in particular for having made a software copy of MULTIMOD available to IECAP Division of the World bank, and for his helpful comments. I would like !o thank Bela Balassa, P. Armington, A. Dhareshwar, S. Fardoust, D. McCarthy, M. Prywes, and C. Petersen for their encouragement and useful comments.

The simulation experiments are aU carried out by the author and he is solely responsible "or the results and any errors. The model used in this paper is based on an earlier version (1988) of MULTIMOD.

- _ii_ -
# _LIST OF TABLES_

|_Tabk 1_|_Behavioral Equations and Estimated Coefficients in MULTIMOD_.<br>_.................._<br>_8_|
|---|---|
|_Table 2_|_Classiflcadon of Equations in MULT7MOD_<br>_................................... 10_|
|_Table 3_|_Effects of Four Percent Increase in the U.S. Money Supply in MULTIMOD ............_<br>_15_|
|_Table 4_|_Effects of a Four Percent One-7Time Increase in the U.S. Money Supply_<br>_in the Taylor Multi-County Rational ExpectationMode. .17_|
|_Table 5_|_Effects of a Five-Year Sustained Increase in Real Government Expenditures by_<br>_One Percent of Real GNP, on the Economy of the Shock Originating Regions .24_|
|_Table 6_|_Simnulation Effects in the Second Year of an Increase in the US. Govemment_<br>_Expenditures of One Percent of GNP .28_|
|_Table 7_|_Effects of Four Percent Sustained Increase in Money Base Target on the Economy_<br>_of ShockOriginatingRegions.........._<br>_.......29_|
|_Tabk 8_|_The Impact of Four Percent Increase in the US. Money Supply in_<br>_MULTIMOD (MUL77), Taylor, andLiveipool(LIIVPL) Model.32_|
|_Table 9_|_The Effects of a Five-Year Sustained Increase of $20 Billion i Fiancial Flows_<br>_toDeveloping Countries.39_|
|_Table 10_|_Effects of a Five-Year Sustained Increase in Fnancial Flows on output and_<br>_DomesticAbsorption of the Industialized and Developing Countries ................._<br>_40_|
|_Table 11_|_$60 Billion Reduction in the Stock of Developing Countries Debt ...................._<br>_43_|
|_Table12_|_The Impact of 20 Percent Sustained Increase In Oil Prices ........................._<br>_46_|
|_Table 13_|_Zelner-Peck Symmetry and Linear Measures for MULTIMOD ....................._<br>_51_|
|_Table 14_|_Pefurbation of the Parameters of the US. Money Demand Equations_<br>_and the Elasticity Responses of the Following Variables ..........................._<br>_62_|
|_Table 15_|_Muldplier Elasticity Responses to US. Govemment Pentubation ..................._<br>_65_|
|_Table 16_|_Muldplier Elasticity Responses to US. Monetary Base, 1% Pernbation .............._<br>_67_|

- _iii_ -
_Page_

# _LIST OF FIGURES_

|_Figure I_|_Responses of Own GNP, PGNP, Shorl Tern Real Interest Rate After an_<br>_EApanslon in Real Goternment Erpendiftures_<br>_for Japan, Gennan, US._<br>_and Large Industrialized Countries ..............................................._<br>_25_|
|---|---|
|_Figure 2_|_Response of Own, GNP, PGNP, Short-Tenm Real Interest Rate, and_<br>_Exchange Rate After a Four Percent Sustained Increase in Money Base_<br>_Target of the US., Gennany, Japan and other industeialized Countries ...................._<br>_30_|
|_Figure 3_|_Effects of Four Pecent Increase in the US. Money Supply in MULTIMOD,_<br>_TAYLOR and LIVERPOOL Models on the US. Economy ............................_<br>_33_|
|_gRe 4_|_Effects of Four Percent Increase in the US. Money Supply in MULTIMOD,_<br>_TAYLOR and LIVERPOOL Models on the US. Economy ............................_<br>_34_|
|_Figw-e 5_|_Effects of a Four Percent Increase in the US. Money Supply on the ROECD_<br>_in (Taylor, LIVERPOOL), and on Large Industrialized Countries in MULTIMOD ..........._<br>_35_|
|_Figure 6.1_|_GNP/GDP Deviations from the Base Run After (+/-) Five-Percent Changes_<br>_in Geimany's Real Government Expenditures in MULTIMOD .........................._<br>_54_|
|_Flgure 62_|_GNP Deflators Deviations from the Base Run for Six Blocks, after (+/-)_<br>_Five Percent Changes in the Genmanys Real Government Expenditures in MUL7TIOD ..... 55_|
|_Figure 7.1_|_GNP/GDP Deviations from the Base Run for Six Blocks, After (+/-) Ten_<br>_Percent Changes in the United States Target Monetary Basein MULTIMOD ....._<br>_.......... 56_|
|_Figure 7.2_|_GNP Dflators Deviatons from the Base Run, for Sir Blocks, after (+/-)_<br>_Ten Pecent Changes in the US. Target Monetary Base in MULT7MOD .................._<br>_57_|
# L. **Introduction**

The international debt crisis of the developing countries and its ramification for their creditors, combined with greater need for the coordination of monetary and fiscal policies among OECD members, have highlighted growing world economic interdependence. This situation has given greater prominence to the role of multiregional macroeconometric models in the analysis of this interdependence.

lTis paper is a contribution to the understanding of global interconnections through the evaluation and validation of the capabilities and properties of MULTIMOD, a multiregional macroeconometric model developed and maintained at the International Monetary Fund.' It represents a self-contained segment of the on-going research in the International Economic Analysis and Prospects Division (IECAP) directed at implementing small-sized regional macroeconometric models into its global analysis. The results of this study are helpful in this endeavor in several ways. First, they improve the understanding of the issues currently discussed in the growing field of multiregional macroeconometric modeling. Second, they buttress the analysis of macroeconomic decision-making in the industrialized countries and its impact on economic activity of developing countries. Finally, the results are complementary to other modeling efforts in IECAP, especially the Capital Flows Model (CFM), due to the closeness of the CFM's specification to that of MULJTMOD.

The contents of the paper are of more general interest as well. Among the special features of MULTIMOD is the explicit treatment of developing countries and high income oil exporters, which is a rarity among multiregional macroeconometric models. The production in the developing countries is disaggregated between manufactures, oil and primary commodities. The region is assumed to be faced with an endogenous supply schedule for foreign loans that depends on a I The basic reference for MULTIMOD is Paul Masson, Steven Symansky, Richard Haas, and Michael Dooley: "MULTIMOD: A Multi-Region Econometric Model, IMF Working Paper, 88/23, May 1988. This work uses the May 1988 release of the modeL
2 forward-looking assessment of developin, countries' debt servicing capacity. The developing countries as a whole are the suppliers of excess demand for oil, the price of which is determined by a weighted average of GNP deflators in the industrialized countries. Further, MULTIMOD implements a forward-looking framework, and, as such, represents the state-of-the art in macroeconometric modeling. An overview of the characteristics and structural properties of the model is given in Section II.

The paper should be of interest also from the standpoint of the methodology for the evaluation and validation of macroeconometric models. In general, diversity of the structural properties leads to variation of responses among different models. By "evaluation" we mean identifying and determining how the presence of each structural property directs the responses of the modeL For example, the forward-looking property of MULTIMOD results in a faster adjustment in relative and absolute prices than in many conventional models. The large deviation of prices from those in the control solution are then reflected in short-term interest rates and exchange rates. In MULTIMOD, the focus is primarily on the analysis of comparative scenarios and the transmission of policy effects, and the inherent structural properties of MULTIMOD are designed to support this primary concern. Common coefficients, when they are not significantly different, are frequently imposed across countries, thus minimizing _ad hoc_ differences in country responcses. Differences in the economic structure of different countries and regions (for example, degree of opennness, trading patterns, and government financial structure), nevertheless, result in differing responses to changes in exogenous variables. These issues are discussed in Section Im.

The effective implementation of a macroeconometric model, aside from its theoretical specification, requires the understanding of its statistical properties and model structure. By "validation' we mean a structural sensitivity analysis of the model with a view to identifying the essential behavioural determinants of the modeL Section IV spells out this framework. The conclusions of the study are presented in Section V.
# H. A Brief Account of MULTIMOD

# A. General Descrlptlon

MULTIMOD is a multiregione' macroeconometric model, which uses annual data. Four features distinguish it from other similar models.<sup>2</sup> First, MULTIMOD employs a rational (as opposed to adaptive) expectations scheme.3 Second, it explicitly includes developing countries as a region. Third, the model is not designed to produce baseline or unconditional forecasts, but to compare scenarios under alternative policy regimes. With MULTIMOD, one typically starts with country specific forecasts as the baseine which are usually based on detailed knowledge gleaned from individual country desks, and uses the model to examine the effects on that baseline of policy changes in major countries as well as of exogenous changes in the economic environment.<sup>4</sup> It is possible, however, to explore the forecasting capabilities of the model by making some adjustments.6 T-he final distinguishing feature of MULTIMOD is the standardized approach it takes in the design of industrial country blocks. A general prototype block of equations is first specified for a typical industrialized country and then applied to all industrialized countries as well as regions. This design

> 5rhe better-known multi-country models include: the Federal Reserve's MCM (Edison, _et al,_ 1986), the Japanese Economic Planning Agency Global Model (EPA, 1987), the OECD INTERLINK Model (Richardson, 1988), the Project LINK World Model, the McKibbin-Sachs Global (MSG) model (McKibbin and Sachs, 1988), and John Taylor's model (Taylor, 1988). MULTIMOD is smaller in size than the first four of these models, more aggregative in structure than the others, and employs rational expectations, as do the MSG and Taylor models. Further, it has a fuller treatment of developing countries than the other models with the exception of the Project LINK World model.

3rhe expression 'consistent expectations" has also been used in the literature for "rational expectations." Masson, _et al,_ (1988) further qualifies it as 'model-consistent." Another popular expression is "forward-looking." This work uses forward-looking and rational expectations interchangeably.

4rhe paper takes the liberty of quoting freely from the original document on MULTIMOD.

5Ihe presence of serial correlation is a serious problem in this effort.
4 permits the pooling of time-series and cross-sectional data for efficient estimation of common coefficients in many instances.

The country coverage of MULTIMOD is organized in terms of seveni blocks, where a block is a set of equations pertaining to an country or a region. The industrialized countries are grouped into five blocks comprising individual country blocks for the United States (US), Japan (JA), and the Federal Republic of Germany (GR), and two aggregate regional blocks: the "larger industrialized countries (LI)" and the "smaller industrialized countries (SI)." The former consists of the other four G-7 countries (France, the United Kingdom, Italy and Canada),<sup>7</sup> and the latter, eleven smaller OECD countries.8 The remaining two blocks are the "high-income oil exporters (HO)" and the "developing countries (DC)".<sup>9</sup> For analytical convenience, especially in handling adding-uprestrictions, the last two are often conceived of jointlyas constituting a "rest of the world (RW)" block.

The model consists of aggregate demand and aggregate supply relationships with endogenous determination of interest rates, prices, and exchange rates in the industrialized countries. The structure of the developing country block is different from the common structure employed for the industrialized countries. The economic performance of developing countries is assumed to be subject to financial constraints, and their financial flows depend on their expected debt service ability. They have limited control on policies that alter their economic outcomes.

eOther models of this kind are OECD INTERLINK, MSG, and John Taylor's model. For more detail see Helliwell, J. F. (1988).

71n the latest (April 1989) version of MULTIMOD, the LI block is replaced by individual country blocks for the four constituent countries: Canada, France, Italy, and the U.K.

8Australia, Austria, Belgium, Denmark, Finland, Iceland, Ireland, Luxemburg The Netherlands, New Zealand, Norway, Spain, Sweden, and Switzerland.

jIjigh Income Oil Exporting Countries include: Iran, Iraq, Kuwait, Libya, Oman, Qatar, Saudi Arabia, and the United Arab Emirates.

Although "DC" is generally used to refer to developed countries, but for the sake of consistency with the original notation on MULTIMOD, 'DC' is used in this paper to refer to developing countries.
_5_ B. Commodity **Disaggregation and** Market Mechanism Trade is disaggregated into three classes of traded goods: non-oil primary commodities, oil and manufactures. Non-oil primary commodities constitute a homogeneous good commanding a single world price. It is produced by developing countries, and imported by the industrialized countries and high incoma oil exporters.<sup>10</sup> If their joint demand exceeds supply, the primary commodity price adjasts instantaneously, the elasticity of supply being zero in the shoi c run. In the long run, inc 'n the capital stock brings about supply growth to correct any sustained shortfall.

Oil is also treated as a homogeneous good, but is produced by all the countries and regions. The real price of oil is taken ^' be exogenous, and the nominal price is determined by inflating the real price using an aggregate price index which is a weighted average of the industrialized countries' GNP deflators. All industrialized country blocks have variables for production, consumption, export and import of oil production and export are exogenous, consumption is a function of total output and relative prices, and import demand is determined residually. The sum of import demands in the industrialized country blocks together with oil imports by the developing country block makes up the world demand for oil imports. Both high income oil exporters and developing countries respond to changes in the world oil demand by adjusting their production which is distributed between the two blocks according to a fixed proportion. In effect, production and export of oil in the DC and HO blocks are determined endogenously so as to equate world demand and world supply.

Unlike the treatment of primary commodities and oil, manufactured goods are assumed to be non-homogeneous commodities. They are prod- d by all the countries (or regions) and are distinguished in the model by the country (or region) of origin. The exports and imports of manufactures in all the blocks are determined endogenously (except for the exports of the HO block). This system of endogenous determination of trade flows generally leads to a discrepancy

> 1l1he primary commodities produced and exported by industrialized countries -- including agricultural commodities -- are included implicitly in the 'manufactures' that is produced by industrialized countries.
6 between total imports and total exports which the model resolves by distributing it among all the trading partners according to some fixed shares. There are six manufactured goods prices in the model, one each for the five industrialized country blocks and one for the rest of the world block. The prices are not assumed to be perfectly flexible, but to move slowly to clear the market.

# C. Linkages

The model has been designed with a view to focussing on the alternative channels through which the effects cf policy changes are transmitted. These channels are: trade flows, goods prices, exchange rates, interest rates, and the international flow of funds.

The trade flows interact through the three tradable goods markets. Demand for oil and primary commodities by the industrialized countries constitutes a significant proportion of the production in the DC region and a still larger proportion of production in the HO region. A rise in demand for the output (oil or primary commodities) of the developing countries translates into an increase in the imports of manufactures from the industrialized countries by the developing countries. The interaction in the manufactured goods market is multi-dimensional. A change in demand for imports of manufactures in any block leads to a change in the exports of the other blocks in accordance with a base-year trade share matrix. As a second round effect, in each block, the demand for import of manufactured goods from all the other blocks changes. In the model, trade prices have a direct and widespread feedback effect on one another. First, as mentioned above, the nominal world oil price is determined by the real oil price adjusted by a weighted average of the domestic prices of the industrialized countries. Second, for each block, the manufactures export price is a function inter alia of an aggregate index,PFM, of competitors' prices in foreign markets. A change in the price of manufactures exports feeds back into itself through PFM.

Exchange rates and interest rates also transmit the effects of changes from one block to another. The U.S. short-term nominal interest rate has a determining role in the model. First, a change in the US interest rate has a direct effect on the interest payments of the developing
7 countrirt on their debt. Second, the model assumes the 'uncovered interest parity" which links the interest rate differentials between the United States and any industrialized country to the movements in their exchange rates.

# D. Estimatlca and Solution

Most of the parameters of the model are estimated using historical data. In many instances, a single equation is estimated for all five industrialized country blocks using pooled cross-section method and in some cases common coefficients were imposed across the blocks if the hypothesis of equal coefficients could not be rejected. Such a procedure, which is an attempt to standardize macroeconomic relations, reduces the variation of responses across di'ferent blocks but does not eliminate them.

One feature of the model that complicates its solution is the presence of expectation variables in some of the stochastic equations. These variables are: (1) nominal exports of the developing country block (with four period leads), (2) exchange rates, inflation rates and nominal exchange rates of the industrialized country blocks (each with one period lead), and (3) interest rates (with one period lead). The forward-lookingproperty of the model consists in constraining the expectations of these variables to be identical to their respective values in the model solution.

The expectations variables are solved for using the Fair-Taylor algorithm and simulated using the TROLL 'Forward-Looking Simulator".<sup>11</sup>

# E. Behavioral Equations and Estimated Coefficients

The behavioral equations in MULTIMOD along with their estimated coefficients are shown in Table 1.12 The model has a total of 308 equations. Table 2 gives their break-down by type (behavioural, empirical and definitional), by sector of the economy, and by country or region.

Stee Fair and Taylor (1983), Fair (1984: Chapter 11), and Peter Hollinger (1987).

9Vor the explanation of the choice of variables in each equation see Masson et al (May 1988).
31VU RAL IQUATIONS AND ESTATEIAD COU1ICIZUTS IN MULTDSM

||||C|oetficients||||**Page**1 of 2|
|---|---|---|---|---|---|---|---|---|
|squations<br>LES|US|JA|R|LI|BI|DC|H0<br>RW|R8S|
|I<br>Alog(C)|.094<br>(21)|.094<br>(21|.094<br>(21)|.095<br>(21)|.094<br>(21)|||lo&(W-.1 C-P)|
||.<br>-.415|.<br>-.415|.<br>-.415|.<br>-.415|.<br>-.415|||MLR|
||(1.7)<br>.506<br>(5.6)|(1.7)<br>.506<br>(5.5)|(1.7)<br>.506<br>(5.6)|(1.7)<br>.506<br>(5.6)|(1.7)<br>.506<br>(5.6)|.366<br>(2.5)|<br>|AloS(YD)|
|||||||.373||log(YD.)|
||||||-|<br>(4.2)<br>.318<br>(3.9)||1<br>loa(C.<br>1 <sup>)</sup>|
|Oil Consuaotion<br>Zauation|s||||||||
|2<br>Alog(COIL)|<br>.723|1.499|1.54|1.749|.868|||Alo(GDP)|
||(2.6)<br>|(7.2)|(5.2)|(4.2)|(2.2)||||
||-. 054|-. 026|-. 100|-. 043|-.065|||Alos(POIL./IGUP)|
||(25)|(14)|(51)|(21)|(42)||||
||.<br>-.049|.<br>-. 049|.<br>-. 049|.<br>-.049|.<br>-.049|||log(POIL-I/PMP-l)|
||(9.3)|(9.3)|(9.3)|(9.3)|(9.3)||||
||075|075|075|075|075|||log(GDPM/COIL)|
||.<br>(2.9)|.<br>(2.9)|.<br>(2.9)|.<br>(2.9)|.<br>(2.9)|||1.1|
|Chcnro in Canital Stock|laustions|(Investm|ent)||||||
|3<br>Alog(K)|.156|.156|.156|.156|.156|||loa(GDP-<br>1<sup>LK-</sup>1 <sup>)</sup>|
||(8.5)<br>|(8.5)<br>|(8.5)<br>|(8.5)<br>|(8.5)<br>||||
||.086|.086|.086|.086|.086|||Alog(GDP)|
||(1.5)|(1.5)|(1.5)|(1.5)|(1.5)||||
||-. 064|-. 064|-.084|-. 084|-. 084|||UCSTCAP|
||(1.8)|(1.8)|(1.8)|(1.8)|(1.8)||||
||-. 011|-. 011|-. 011|-. 011|-. 011|||DUM74|
||(3.2)|(3.2)|(3.2)|(3.2)|(3.2)||||
|Manufactured<br>KInorta|||||||||
|4<br>logS(M)|1|1|1|1|1||1.|log(VM)|
|<br>|.<br>-. 496|.<br>-. 496|.<br>-. 496|.<br>-. 496|.<br>-. 496||<br>-. 496|REER|
||(9.3)|(9.3)|(9.3)|(9.3)|(9.3)||(9.3)||
||-. 015|.026|-. 012|-. 011|-. 015||.010|T|
||(6.6)|(12)<br>'|(5.5)|(5.2)|(6.6)||(4.2)||
|Lmorts of Manufactures|||||||||
|5<br>logt(M)|1.&/|_1.1I_|1.&/|.294|_1.AI_||1.&/|log(A)|
||0|-.581 /|<br>0|0|0|||log(A.1)|
||.800<br>(8.3)|-. 592<br>(3.3)|-. 740<br>(5.2)|-. 483<br>(2.0)|-.221<br>(1.6)|||log(PIMA/PGN<br>?O)|
||.035|<br>0|<br>.031|<br>0|0|||T|
||(17.)||(16.)||||||
||<br>0|.581<br>51|0|.705_s_|_I_<br>0|||log(IMl1)|
|||(.)|||||-1.26|log(PIMA/PGNP)|
|The numbers in**parenthesis**|**are**t'|ratioc.|||||(0.4)<br>0.745)oa(IM|)-log(A)|
|A/ Constrained to**a**unity.|||||||9|-1|
|_kI_Constrainedto**be eu**|**al**to -0|"her*0|ic coeff|icientof|Me||(3)||
|**q**<br>o/ Conrtrained to eqal (|,<br>1 - C),<br>**w**|<br>**here**a i|<br>cooeffi|<br>cient<br>of A|.<br>.||..||
9 Table 1 continued Page 2 of 2

|||C|oefficients||
|---|---|---|---|---|
|Zguations<br>Las<br>US|JA|OR|LI|St<br>De<br>HO<br>RW<br>RHS|
|IwDDrtsofPrimer,Comcditiea|||||
|6<br>Alog(ICaM)<br>- .641<br>|<br>-.619<br>|<br>- 518<br>|<br>- .514|<br>- .514<br>A1og(PO0M/PGNP*ZR)|
|(6.4)|(3.7)|<br>(6.2)|<br>(6.2)|(4.1)|
|1.966<br>|0|1.809|<br>2.44|2.09<br>1.391<br>Alog(GDP)|
|(1.6)||(3.9)|<br>(3.1)|(2.6)<br>(1.3)|
|-0.158|-.757|0|-.177|-.262<br>1o0(PCDML<br>1 <sup>p/PGNP_</sup><br>1 <sup>ER_</sup>1<sup>)</sup>|
|(1.6)|(3.2)||(1.6)|(1.3)|
|<br>.754|<br>.156|<br>.453|<br> <br>.149|.565<br>los(GDP_J)|
|(41)|(08)|(37)|(26)|(28)|
|.<br>- .786|.<br> <br>-.570|.<br>-.512|.<br> - .602|.<br> -.709<br>los(ICW.L)|
|(4.2)|(2.6)|(3.6)|<br>(2.7)|1<br>(2.6)|
|||||-1.034<br>Alog(POOM/PXM2ZR)<br>|
|Money DakandFunction||||(2.6)|
|7<br>lo&(M/P)<br>.188|<br>.188|<br>.186|<br>.188|<br>.188<br>Los(GUP)|
|(5.7)|<br>(5.7)|<br>_(5.7)_|<br>(5.7)|<br>(5.7)|
|-.007|-.007|<br>-.007|<br>-.007|<br>-.007<br>RS|
|(4.0)|(4.0)|<br>(4.0)|<br> <br>(4.0)|<br> <br><br>(4.0)|
|-0074|007|4007|4007|0074<br>|
|. <br>|-.<br>|- .<br>|-.<br>|-.<br>RS31<br>|
|(4.0)|(4.0)|(4.0)|(4.0)|(4.0)|
|.805|.805|<br>.805|<br>.805|<br>.805<br>_log(M_ 1/P_ 1)_|
|(29)|(29)|<br>(29)|<br>(29)|<br>(29)|
|<br>Non-Oil GNP Price Deflator||<br>|<br>|<br>|
|a<br>Alog(PGNPNO)<br>.168<br>(15)|<br>.168<br>(15)|<br>.168<br> <br>(15)|<br>.168<br> <br>(15)|<br>.168<br>log(CU)<br> <br>15|
|.<br>.5|.<br>.5|<br>.<br>.5|<br>.<br>.5|<br>(.)<br>.5<br>log(CU1)|
|(1-.287)|(1-.<br>515)|(1-.489|) (1-.570)|<br>(1-.580)<br>Alog(PWIUO..1)|
|.287<br>|.515<br>|<br>.489<br>|<br>.570<br> <br>|<br>.580<br>PIM1)<br> <br>|
|(1.4)|(5)|(1.9)|<br>(5.3)|<br>(2.2)|
|Non-FuolExcortPricoa|||||
|9<br>A10o(PXM)<br>.704|<br>.575|<br>.767|<br>.637|<br>.684<br>Alog(P63P30)|
|(7.9)|(6.6)|<br>(6.8)|<br>(5.4)|<br>(3.7)|
|(1- .065)|(1-.<br>065)|(1-.065|) (1-.065)|(1- .065)<br>Alog(PFM)|
|.065<br>|.065<br>|<br>.065<br>|<br>.065|<br>.065<br>lo&(PGwPNO-I/PXM.<br>1 <sup>)</sup>|
|(1.5)|(1.5)|<br>(1.5)|<br>15|)|
|*Definition of Variables:<br>|||||
|A**-** Domestic Absorption||||PIMA- Manufacture Import Prices- Adjustment|
|C**-** Consumption Expenditu|re|||for Nominal World Trade Discrepancy|
|COIL**-** Consumption of Oil<br>||||FOIL- Price<br>of Oil.<br>in U.S. Dollars<br>(1960-1)<br>|
|CU**-** Capacity Utilization||||PXM -Manufactures Export Prices|
|ER**-** Exchange Rate, 8 par L|ocal Curr|ency||<br>REER - Real Efftctive<br>Ezxchango Rate|
|FM**-**Foreign Export Markets|for Man|ufactures||RLR -Real Ex Ante Lon-Term Interest<br>Rate|
|<br>GDP- Gross Domestic Product,|<br>in Real|<br>Terms||g<br><br>RS *Short-Term Nominal Interest<br>Rate|
|ICON - Import Volume. Commod|ities|||T - Time|
|IM-Import<br>Volume Manufac|tures|||UCSTCAP<br>-Real User Cost of Citl|
|<br>.<br>K - RealNotCapital Stock<br>||||<br>apa<br>W - Real Net Wealth<br>|
|M - Monetary**Base**<br>P -Absortion Deflator||||XM -Export Volume, Manufactures<br>YDRl Dibl I|
|p<br>-CO-<br>Price of PrimaryCora|odity<br>Exp|orts of L|DCs. U.S.|- ea sposae ncome<br>DollarIndox|
|<br>PF?**-** Prices in Foreign Mark|<br> <br>ets||||
|PGNP- Price Level(GNPDeflat|or)||||
|PGNPUO-Non-OilGNPDeflator|||||
|<br>PI- Inflation<br>**Rate(Change**|in Abso|rption Def|lator)||
Table 2 CLASSIFICATION OF EQUATIOU1S OF NULTINDO

|||||||IDU|STRIA|LtZE|D||Coun|tries|||||||||||RE|ST O|F T|H|E WO|RLD||||||||||||||||||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|SECTO||I<br>bL|ndust<br>ocks|ral<br> <br>|iz<br>P<br>(1)|esd<br>rotot<br>|yte||Co|Fi<br>mt|ve<br>zles<br>(2|Indu<br>**or**<br>)()45|strial<br> Resio<br>S|ns||Co|Dwl<br>tties|iop<br> <br>(|ins<br>(<br>3)|DC)||Hi<br>OL Pr|ghI<br>oduci<br>(4|nco"<br>Lng<br>)|<br>()|||<br>Wo|Rest o<br>Tld S<br>(3|f the<br>lock<br>(1<br>)|(W|)||(6).'(3|To<br>)()|tal<br>M+(|5)||||(7|)|Noda<br>M(2)(|l<br>6)||
||S|.|S|.||D.|<br>T.||B|.|E|.|0.|T.|D.||B.||D|.|T.|S.<br>|B.|0.||T|.|B.|E.|D.|T.||S.|<br>B|.||D.|T.||B.||E|.|0.|T.|
|1.<br>AgD regte||6||A||11|<br>is||S|O||5|33|9|1|||1|1|6|is|2|0||6|_||_|_|_|,||||||22|26||3|3||6|77|46|
|2. Oosrme<br>nt<br>Sector||0||1||4|<br>S|||0||5|20|25|||||||||O|2|||2|_|_|_|_|||O|1||||||0||1|20|25|
|3. meneys4nd<br>Interest<br>**Rates**||1||0||7|<br>8|||S||0|33|40---||||||-|--||||--||||||||||||||-||3||0|35|40|
|4.<br>PrLcesand<br>supply||2||2||a|<br>12||1|0|1|0|40|60|0|||1|1|0|ii|0|0||2||2|-|-|-|-|||0|1|<br>|12|13||1|0|ii||52|73|
|S.<br>International<br>Account||0||D||6|<br>6|||0||0|30|30||D||0||S|S|0|0||1||1|-|-|-|-|||0|0||6|6|||0||0|36|<br>36|
|6.<br>International---<br>Trade sad|||||||-|-|||||-|--||||||-|-|-|-||-1||||2|is|1s|||1|2||15|i6|||1||2|is|is|
|TOAofS.ctors||9||4||36|<br>49||.5||2|0|160|23|1||2||3|1|34|2|0|9|is1||||2|S|1|||4|4||3|63||49|||4|||

3 - Behavioral E * lEpirLesi O Defiknitioanal T - TOTAL
11 There are 49 behavioral equations of which 45 are in the industrial country blocks and the remaining four in RW block. The majority of the equations, _235_ to be precise, are definitional and include accounting identities, mathematical transformations of variables, and equations defining variables. The remaining 24 equations are empirical relations incorporating proportionality of one variable with respect to another. There are 414 estimated coefficients and parameters and 64 exogenous variables.

The behavioural equations were estimated using ordinary least wquares. The estimation period varies, but is generally 1965-1986. The variables differ widely in their respective units of denomination across countries because of differing currency units.

# F. Dynamlc Structure

In order to identifyand understand the major sources of dynamics in the model, we provide a brief discussion of the dynamic specification of equations included in each of the five sectors of the model.

Among the equations in the aggregate demand sector, the consumption, investment, and import equations include a lagged endogenous variable. Some monetary variables enter the wealth determination equation with lags, for example, net foreign assets (with a one-period lag) and long-run interest rate (as a three-period moving average).

In the government sector the dominant source of dynamics is the private sector holdings of government bonds (B), which influences endogenous variables of the sector with a one-period lag. What distinguishes MULTIMOD from conventional models is the additional sources of dynamics which stem from the forward-looking nature of inflation rate, long-run interest rate and exchange rate variables in certain equations.

The role of the monetary sector in underpinning the dynamic behavior of the model is crucial. In this sector, the sources of dynamics originate primarily from the short-term and long-term interest rates, and the inflation rate. The one-period lagged short-term interest rate influences the demand for and the supply of money base. The dynamic influence of long-term
12 interest rate is both forward and backward. It enters the term structure of interest rates with a oneperiod lead, while it is an argument of the "average interest rate" variable as a three-period moving average. Some additional sources of dynamics in this sector derive from the inflation rate. It is used with a one-period lead in converting nominal interest rates into real rates and in the determining of user cost of capital.

The prices and supply sector derives much of its dynamic behavior from the use of a oneperiod look-ahead for inflation and one-period lags for some of the endogenous variables, such as, capacity utilization (CU), net foreign assets (NFA), and absorption deflator (P).

The international accounts sector consists of six identities. The only sources of dynamic behavior in this sector are net foreign assets with a one-period lag in the balance of payment identity and exchange rate with a one-period lead in the interest parity equation.
# III. Evaluation of the Model

The evaluation of MULTIMOD is divided into three pa,as. In the first part, the forward-looking properties of the model are reviewed and compared with those of some other macroeconometric models. In the next part, we investigate how the responses of the model to monetary and fiscal policy shifts match up against the results of macroeconomic theory. In the third part of the section, we consider the relevance of the model for the analysis of issues concerning the developing countries.

# **A.** Rational Expectations **and** MULTIMOD

## _I. Rational Expectations in Macroeconometric ModeUling_

The traditional approach of applying decision theory to the formulation of optimum macroeconomic policy lost its validity, in the eyes of many analysts, because it failed to give any weight to future policy actiors in the selection of solutions to the current problems. This omission renders the process of optimal decision-making a repetitive act requiring constant revaluation with the appearance of new policies, rather than making it a deterministic function of all information available to the decision maker.13 According to Sims (1982), the application of control theory to econometric models misses the point that "People's current economic choices depend not only on the actual values of variables entering an econometric model, but on their expectations abo it future values of those variables." Therefore, the argument goes, conventional econometric models, which make no provision for examining the effects of the public's views about plans for future policy choices, are counter1tims C. (1982). "Policy Analysis with Econometric Models." Brookings papers on Economic Activity, 1:1982 pp. 107-164.
14 productive and the alternative suggested by the critiques is the use of rational expectations assumption in policy analysis models. In rational e:.pectations models, on the other hand, the expectation formation mechanism is forward-looking. For example, the consequences of anticipated and unanticipated inflation are different in a rational expectation model, whereas in conventional models the distinction between the two has no operational significance. Therefore, one way of understanding the internal properties of a rational expectation model is to examine whether the expectation formation mechanism of the model is responsive to policy changes. 14

# _2. The Comparison of Anticipated with Unanticipated Shocks_

For purposes of illustration, we present in Table 3, simulation results comparing the impact of a four percent increase in the United States target level of monetary base, announced three years in advance, with the effects of a one-time unanticipated four percent increase.

The simulations for both the anticipated and the unanticipated cases start from 1988, but in the former case the increase in monetary base enters the cormputation three years after the start of simulation.

The results provided in Table 3 indicate that the responses of the model to an anticipated increase in the U.S. monetary base is significantlydifferent from its responses to an unanticipated increase.<sup>1 5</sup> Although the directions of change are very similar in both the cases for a given variable, the degree of fluctuation between the first year of the simulation and the last year is generally smaller when the shock was anticipated. Thus, an unanticipated shock is more powerful, 1 An additional procedure to test the significance of forward-lookingproperties of a rational expectations model would be to compare the responses of the model when the rational expectations assumption for the formation of some variables is replaced by an "autoregressive expectations" hypothesis. Under the latter regime, expectations of a variable are based only on its current and lagged values. Ray Fair (1987), performed such a test for his model and found no strong evidence in favor of rational expectations hypothesis. He concluded that policy properties of the model are not very sensitive to its use. On the other hand, Helliwell, _et al,_ (1988b) demonstrated that the response of their model, INTERMOD, would be substantially different when they alternate between forward-lookingand adaptive expectations for the same shock.

IrPiscal policy changes is negative on impact if anticipated.
15

# Taobt 3

# EFFECTS OF A FOUR PERCENT INCREASE IN THE U.S. MONEY SUPPLY IN MULTINOD

|YEAR|<br>G|NP|Un<br>PG|ited St<br>NP|ates (U<br>R|S)<br>S<sup>8</sup>|_<br>NE|RM|G|NP|PG|Japa<br>NP|n(JA)<br>R|Sa|ME|RN|
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
||UN|AN|tI<br>N|AN|UN|AN|UN|AN|UN|AN|UN|AN|UN|AN|UN|AN|
|1988<br>1989<br>|<br>.59<br> <br>.46<br> <br>|<br>.28<br> <br>.33<br> <br>|.08<br>.20<br>|<br>.08<br> <br>.2S<br>|- .74<br>- .70|<br>..<br> <br>.1S|-1.97<br>-1.45|-1.55<br>-1.48|<br>.14<br>- .15|. .10<br>- .09|<br>0<br> <br>O|- .03<br>- .06|-. 05<br>-. 05|- .04<br>- .05|<br>.92<br> <br>.68|<br>.73<br> <br>.71|
|1990<br>|<br>.30<br>|<br>.30|.36|<br>.48|- .71|<br>.19|- .97|-1.50|- .07|- .07|<br>0|- .07|-. 02|- .04|<br>.46|<br>.74|
|1991<br>1992<br>|<br>.17<br> <br>.05<br>|<br>.26<br> <br>.16|<br>.49<br> <br>.59<br>|<br>.75<br>1.02<br>|- .73<br> <br>.11<br>|-.62<br> <br>.59<br>|- .54<br> - .12<br>|-1.60<br>-1.27<br>|*.01<br>0.03<br>|- .06<br> - .06<br>|<br>.05<br>.11<br>|- .03<br>.05|<br>.01<br>.04|- .03<br>- .05|<br>.27<br>.09|<br>.80<br>.66|
|1993<br>1994<br>1995|<br>.08<br> <br>.07<br>.04|<br>.04<br> <br>.05<br> .<br>.14<br>1995|.64<br>.65<br>.63|1.23<br>1.37<br>1.47|.13<br> <br>.11<br>.12<br>.12|.57<br> <br>.57<br>.25|- .22<br>- .32<br>- .43<br>_23|- .98<br> - .68<br> - .36<br>|0.06<br> <br>0.01<br>-0.03|0<br> <br>.02<br>.02|.16<br> <br>.20<br>.19|.17<br> <br>.29<br>.37|.06<br>.05<br>.04|.04<br>.08<br>.11<br>1|.15<br>.21<br>.26<br>.26|.52<br>.38<br>.23|

|||||Germa|ny<br>(GR)|||||Other L|arge I|ndustrial|ized<br>|Countrie|s (LI)||
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|YEAR|<br>G|NP|PG|NP|R|Se|ME|RN|G|NP|PG|NP|R|S|ME|ERN|
||UN|1<br>AN|UN|AN|UN|AN|UN|IAN|UN|AN|UN|AN|UN|AN|UN|AN|
|1988<br>1989<br>1990|-. 16<br>-. 08<br> <br>.03|- .12<br>- .05<br> <br>0|<br>0<br> <br>.02<br>.07|-. 02<br>-. 03<br>-. 01|- .08<br>- .03<br> <br>.03|- .06<br>- .05<br>- .01|<br>.52<br> <br>.38<br> <br>.25|<br>.43<br> <br>.40<br> <br>.38|- .11<br>- .10<br>- .05|- .06<br>- .09<br>- .11|<br>.02<br> <br>.06<br>.12|- .01<br>- .01<br>0|-. 03<br>-. 02-<br> <br>.05|-. 01<br>.02<br>-. 02|.54<br> <br>.40<br>.28|<br>.41<br> <br>.42<br> <br>.45|
|1991|<br>.07|<br>.03|.17|.07|.06|.02|.12|.37|0|- .12|.18|.08|.03|-<br>.01|<br>.16|<br>.50|
|1992|<br>.07|.02|.26|.21|.09|.05|.01|.28|.04|- .07|.23|.19|.05|.01|.04|.41|
|1993|<br>.05|.04|.34|.36|.10|.11|.03|.21|.02|0|.25|.31|.05|.05|.06|.32|
|1994|-<br>.04|.02|.36|.50|.08|.14|.06|.14|- .03|.05|.26|.42|.04|.07|.09|.22|
|1995|- .08|.02|.32|.58|.07|.15|.10|.08|- .05|.08|.20|.48|.03|.09|.12|.11|

|||Sma|lL Indus|triatize|d<br>Co|untries (|SI)||
|---|---|---|---|---|---|---|---|---|
|YEA|R<br>G|NP|PG|NP||a|ME|AN|
||UN|AN|UN|AN|UN|AN|UN|_AN_|
|198|- .05|-.<br>03|.02|0|-.03|-.<br>02|.63|.50|
|1989|- .08|-.<br>07|.06|0|- .01|-.<br>02|.46|.45|
|1990|<br>.02|<br>.04|.10|.03|.02|0|.30|.43|
|1991|<br>.08|-<br>.02|<br>.18|<br>.11|<br>.05|<br>0|.16|<br>.43|
|1992|<br>.10|<br>.03|<br>.25|<br>.23|<br>.06|<br>.04|<br>.03|<br>.33|
|1993|<br>.04|.08|.29|.36|.06|.08|.05|.24|
|1994|- .04|<br>.08|.29|<br>.46|<br>.04|<br>.09|<br>.08|<br>.16|
|1995|<br>.-<br>09|<br>.06|.25|<br>.51|<br>.02|<br>.09|<br>.11|<br>.08|

Ail figures are in percentage deviation from the baseline, unless otherwise noted. Any vatue below 0.01 is given as zero.

aThe figure is percentage point change from the baseLine.

-AN c Anticipated

GNP = Real Growth National Product MERM = MERN Effective Exchange Rate PGNP = GNP Price Deftator RS = Short Term Nominal Interest Rate UN = Unanticipated
16 contemporaneously, than an anticipated shock, but has a less lasting effect. For example, the changes in the GNPs are much larger in the case of the unanticipated shock. In both the cases, the expansionary monetary policy in the United States initially increases its own GNP and reduces other countries' GNPs. Among the industrialized blocks, Japan showed stronger reaction to the monetary changes in the United States than others. The changes in the GNPs gradually return to their normal position as the prices adjust.

# _3. MULTIMOD and Other Rational Expectations Models_

The above results are in broad conformity with the the results oI' simulations performed with John t .ylor's Multi-Country Model using the same assumptions (Table 4). Two points of difference between the two models, however, may be noted:<sup>16</sup> First, Taylor's results show larger increases in GNP deflators for the unanticipated monetary shock, while the MULTIMOD results show the reverse for all countries and regions. An implication cf the rational expectations hypothesis is that when a policy change (e.g., a monetary expansion) is expected to take place in some distant future (i.e., anticipated) and is taken into account in current policy evaluations, prices respond :,n advance of the policy changes. In other words, prices should rise faster in the case of anticipated shocks.

The second point of difference between the results of the two models is that prices in the United States are more responsive to a monetary expansion (anticipated or unanticipated) in Taylor's model than in MULTIMOD. However, higher output growth rates for Taylor (both for anticipated and unanticipated) might be only due to the difference in initial conditions.<sup>1 7</sup> '¶aylor, John B. 'The Treatment of Expectations in Large Multi-Country Econometric Models," in Bryant, Ralph C., _etal,_ (Eds.) _Empirical Macroeconomics for Interdependent Economics,_ The Brookings Institution, 1988, p. 16'-182.

17rhe time periods for the shocks reported in table 3 for MULTIMOD are different from the time periods in used for shocks in table 4 for Taylor's model.
17

# TABLE 4

EFFECTS OF A 4 PERCENT, ONE-TIME INCREASE IN THE U.S. MONEY SUPPLY IN THE TAYLOR MULTI-COUNTRY RATIONAL EXPECTATIONS HODEL (Percent Change from Baseline Unless Otherwise Noted)

|Y<br>E||United|States|||Jap|an|||RO|ECD||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
|R|GNP|PGNP|<br>RSa|Eb|GNP|PGNP||RSa|Eb|GNP||PGNP|<br>R|Eb|
||||||Incre|ase Una|nticipated||||||
|1985|0.83|0.23|-0.61|-4.1|0.01|-0.01|-0.01|4.4|0.04|0.02|0.02|4.2|
|1986|0.50|0.85|-0.50|-3.4|-0.08|-0.08|-0.02|3.7|-0.06|-0.10|.0.10|3.6|
|1987|0.45|1.42|-0.34|-3.1|*0.21|0.22|-0.05|3.3|-0.11|-0.23|-0.23|3.2|
|1988|0.33|1.83|-0.31|-2.9|-0.31|0.41|*0.07|3.1|-0.13|-0.36|-0.36|3.0|
|1989|0.19|2.11|-0.30|-2.7|-0.31|-0.61|-0.08|2.8|-0.12|-0.46|-0.46|2.8|
|1990|0.13|2.27|-0.29|*2.5|-0.24|0.76|-0.08|2.6|-0.07|-0.52|-0.52|2.6|
|||||Increa|se Antici|pated<br>T|hree Yea|rs in Ad|vance||||
|1985|0.32|0.12|0.12|-2.5|-0.01|-0.01|-0.01|2.7|0.00|-0.02|-0.02|2.5|
|1986|0.37|0.50|0.24|-2.7|-0.07|-0.07|-0.02|2.8|-0.04|-0.08|-0.08|2.7|
|1987|0.46|0.99|0.36|-3.0|-0.16|-0.18|-0.03|3.2|-0.08|-0.17|-0.17|3.1|
|1988|0.45|1.48|-0.44|-3.2|-0.23|-0.34|-0.05|3.4|-0.10|-0.29|-0.29|3.3|
|1989|0.26|1.85|-0.39|-2.8|-0.27|-0.51|-0.07|2.9|-0.12|-0.40|-0.40|2.9|
|1990|0.18|2.08|-0.31|-2.6|-0.25|-0.67|-0.07|2.7|-0.09|-0.48|-0.48|2.6|

Source: John B. Taylor in R. C. Bryant et al (1988).

aPercentage-point change from baseline short-term interest rntez bThe exchange rate, measured as weighted units of foreign exchange per unit of domestic currency.
_18_

# _4. Application of Rational Expectations to Developing tountries_

Max Corden (1987) discusses the application of rational expectations hypothesis to developing countries within a Keynesian framework. According to him, if we accept the argument of rational expectations theorists, changes in nominal demand are always fully anticipated by private agents. Therefore, if prices and wages are flexible in response to market conditions, one should not expect nominal demand policies to cause changes in real output, because market will be cleared rapil!v after each stimulation. The performance of rational expectations theory depends on a numbe; of factors: flexibilityof prices and wages, the consistency of government rules and systematic policies, and the availability of new information to help the private agents in the formation of their expectations.

The first factor, flexibility of wages and prices in macroeconometric models of the developing countries, has been handled by a number of economists in the context of a Keynesian framework. It usually means some rigidity and sluggishness in the adjustment of wages and prices (Khan and Knight, 1981). However, it has also been argued that, due to weaker labor organizations, prices and wages are more flexiblein the developing coUL tries than in the industrial countries. As a result, nominal Keynesian demand policies are expected to be- ineffective. Whatever the truth, generalization of theoretical results to the developing countries needs many qualifications and has to be handled with a lot of care.

The second factor is the extent to which government rules and policies in the developing countries are systematic and predictable as well as the extent to which private agents are informed about government actions. This again would vary from country to country. However, between the two, as Corden stated, "... taking all the inevitable variety into account, the weight given in the macroeconomic literature to private agents reactions to systematic government policies seems out of proportion in the context of developing countries." The third important factor in the formation of expectations in the developing countries, namely, the availability of new information. The strength and effectiveness of government policies
19 in manipulating private agents' demand depends on the extent of their information and use of this information. Experience has shown that information, in the developing countries, is expensive, difficult to obtain, and not available to all private agents. Therefore, the prospects for the prediction of government policies by the private agents in forming their expectations are dim.

To conclude, the structural characteristics and the degree of price and wage rigidities vary widely in the developing countries, as does the consistency of government rules and policies. Further, information is scarce and not widely available. Under these circumstances, no generalizations can be arrived at with respect to the application of the rational expectation theory to the developing countries. In particular, aggregation of developing countries into a block in a multiregional macroeconometric model is controversial, to say the least. Second, the decisionmaking by private agents in the developing countries is _not_ based on the fullest possible infornation set regarding the future, and hence, governments' nominal demand management policies can have real effects in the short-run. Finally, these factors limit the application of rational expectation theory to the developing countries' macroeconometric models, and very likely, complicate the interpretation of the results.

Coming to the implementation of rational expectations framework in the developing country block in MULTIMOD, the model relates the availability of new funds to the developing countries to the "debt-interest-to-exportatio evaluated at the expected real interest rates and export revenues in the future." This specification requires a four period advance knowledge of export revenues. However, developing country exports are imports of the industrialized countries which their values are simultaneously determined in the industrialized blocks. Thus, specification in MULTIMOD avoids the shortcomings and complications enumerated above.

# B. Model Responses to Pollcy Shocks

Generally, multi-countrymacroeconometric models react differently to fiscal and monetary policy shocks. Both theoretical specifications, and magnitudes of empirical coefficients are responsible for the differences. In the following, the responses of MULTIMOD to policy shocks are analyzed
20 and are compared with those of other models. In this analysis we are particularly interested in knowing how the presence of forward-lookingvariables in MULTIMOD influences the responses of the model to the shocks. We start with a brief recapitulation of the effects on the economy of various policy changes according to macroeconomic theory. Next. we briefly review the ti aatment of the financial market in MULTIMOD as an aid in understanding the simulation results. In part three, the responses of the model to monetary and fiscal shocks are analyzed.

# _1. Some Theore:ical Considerations_

We start by considering the expected effects on income, interest rate, exchange rates, and balance of payments of an exogenous increase in government spending (G) in an open economy, under a flexible exchange-rate regime. The rise in government expenditure increases aggregate demand, shifts the IS curve ( the combination of interest rates and levels of income for which the goods markets clear) to right, and increases interest rates. The effect on the balance of payment components and the exchange rate depends on the degree of capital mobility.<sup>18</sup> If capital is 1" Suppose, demand for money is determined as a positive function of income, (y), and negative function of interest rate, ().

Then, the slope of the _LM_ curve is: <!-- Start of picture text --> dILM L > 0,<br><!-- End of picture text --> Also, the trade balanceT, is a function of income and exchange rate _e,_ and the capital flow, _K, is_ a function of the differential between domestic interest rate and foreign interest rate, is: The slope of the _BP_ schedule (the locus of the balance of payments equilibria) is:

> _,di I_  dr/dy>_ In caP _dKidi_

In case of perfect capital mobility, di1 = 0, and in case of perfect capital immobility, Idi =0
21 perfectly immobile between countries, there is no interest-rate effect on the capital account, the trade balance deteriorates and the currency depreciates. Otherwise, the effect on the balance of payments and exchange rate depends on the slopes of LM curve (the combination of interest rates and levels of income for which the money market clears) and BP curve (the locus of balance of payments equilibria). The higher the degree of capital mobility (that is, the lower the slope of BP), and the higher the increase in interest rate after a rise in income (that is, the steeper the LM curve), the higher would be the improvement in the capital account after an increase in aggregate demand, but the effect on exchange rate remains indeterminate.

The effect of an expansionary monetary policy is less ambiguous than that of an expansionary fiscal policy an increase in money supply increases output and reduces interest rate. The interest rate differential, in the case of high capital mobility, increases capital outflow and depreciates currency. Lower exchange rate, in turn, improves the trade balance by lowering imports and increasing foreign demand for exports. In summary, if the Marshall-Lerner condition is satisfied the net effect on external balances would be positive.

# _2. The Financial Market in MULTIMOD_

The specification of financial market and the values of the estimated coefficients are important factors in interpreting the simulations results of any model. In MULTIMOD, the demand for real money balances is determined jointly by an 'activity variable," (GNP), and by the short-term interest rate. Long-term interest rates are determined by a term structure relationship that equalizes the holding period yield on short- and long-term assets. The slope of the LM curve in the long run, which has special significance for the analysis, and which is determined as a ratio of income elasticity to interest rate semi-elasticity(0.97/0.07), is constrained to be the same across the industrialized countries.<sup>19</sup> This feature of the model rules out attributing thet variation of 'tee Helliwell (1988) for a comparison of the slopes of the LM curve in other models.
22 responses across different industrialized countries simply to the differences in the slopes of LM curves.

MULTIMOD assumes perfect substitutability of assets, that is, infinite elasticity of capital movements with respect to the changes in the interest rate. Thus, there is no international demand for domestic assets. The domestic and foreign interest rates are perfectly correlated, and any deviation among them would be corrected by the movements of future exchange rates rather than by the changes in demand for assets. This is shown in equation (1).

(I + USRS) - (I + RS*) (ER+JER) (1) where: USRS is the U.S. short-term interest rate, RS is the short-term interest rate for a given industrial country, ER is the dollar rate of the currency of that country, and ER+1 is ER with a one-period lead (the future exchange rate).

The above equation shows the uncovered interest parity condition for the nominal shortterm interest rates of the U.S. and a given industrial country block. In addition, by rewriting the equation as shown in (2), we see how MULTIMOD solves for future exchange rate values: ER+ 1 - [(I + USRS)/(I + RS*)] ER (2) With perfect asset substitution, the BP curve is horizontal (see Footnote 15). This is an important structural feature of MULTIMOD which should be kept in mind while interpreting the model's response to policy shocks, especially fiscal ones, and while comparing its simulation results with those of the other models.

# _3. International Transmission of Fiscal Policy Effects_

Table _5_ summarizes the results of simulating the impacts of an unanticipated fiscal policy shock originating respectively in the U.S., Germany, Japan, and the large industrialized countries block (LI). In each case, the real government expenditures in the respective block increased by one percent of real GNP for five years, beginning in 1988. The results on the shock-originating
23 economies are given in the main table and the cross country effects of each shock are reported in Appendix A (Tables Al through A4).

As may be seen in Table 5, the model responses are consistent with theoretical expectations outlined in Section II.B. I. In each case, income and prices increased, currencies appreciated, and current account balances deteriorated. These responses proved to be highly symmetrical and comparable in magnitude. This is in contrast to the responses of some other multiregional macroeconometric models as reported by Helliwell (1988), Hickman (1988) and Frankel (1988). For example, Frankel (1988) found asymmetry between the exchange rate effects of the U.S. fiscal expansion and European or Japanese expansion in the results obtained from EEC, EPA and VAR models. For other models, Bryant (1988) found that "fiscal multiplier effects were more short lived in the U.S. than in the rest of the OECD (ROECD), and second the current account and foreign GNP effects of U.S. fiscal policies were greater than for ROECD policies, despite the fact that the ROECD is 50 percent larger than the United States."<sup>20</sup> These asymmetries are often attributed to the steeper LM curve and greater capital mobility in the United States. This suggests that the symmetric response of MULTIMOD is due mainly to identical LM curves and perfect capital mobility in all the industrialized countries or regions.

The impact of expansionary fiscal policies on the respective economies themselves, are displayed graphically in Figure 1. The countries *each the peak of their GNP growth in the second period of simulation. The fiscal expansion has less impact on output growth in Germany than in other countries. Beyond the second period, increasing prices and interest rates gradually offset the positive impact of fiscal expansion on output. In this phase, the rate of decline of GNP growth is smaller for the U.S. than for other countries. The moderate response of Germany's output growth is accompanied by a moderate rise in prices and interest rate, whereas the more powerful U.S. response stimulates higher domestic inflation and higher interest rates. The higher inflation in the

> 2lee Appendix A for comparable results obtained in experiments with MULTIMOD, and Helliwell (1988) for furtiler discussion.
# Table 5

# EFFECTS OF A FIVE YEAR SUSTAINED<sup>INCREASE IN REAL GOVERNMENT</sup> EXPENDITURES BY ONE PERCENT OF REAL GNP, ON THE ECONOMY OF THE SHOCK ORIGINATING REGION

|P<br>E<br>R<br>**I**<br>0<br>S|GNP|Uni<br>PGNP ||ted Stat<br>MERM|es<br>RS|CURBL|GNP|G<br>PGNP|ermany<br>ER|<br>RS|CURBL|GNP|PGNP|Japan<br>ER|RS|CURBL|Large<br>GNP|O<br>Indust<br>PGNPI|ther<br>rializ<br> ER|ed<br>Coun<br>RSI|tries<br> CURBL|
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|1988|1.14|0.30|2.11|0.16|-11.46|<sup>0.76</sup>|<sup>0.32</sup>|<sup>1.08</sup>|<sup>0.11</sup>|<sup>-5.43</sup>|1.22|0.59|1.37|0.21|-5.01|1.38|0.77|0.63|0.25|-6.79|
|1989|1.32|1.04|2.00|0.27|-16.62|<sup>0.74</sup>|<sup>0.92</sup>|<sup>0.99</sup>|<sup>0.18</sup>|<sup>-6.70</sup>|<sup>1.19</sup>|<sup>1.66</sup>|<sup>1.22</sup>|<sup>0.33</sup>|<sup>-8.09</sup>|<sup>1.34</sup>|<sup>1.99</sup>|<sup>0.44</sup>|<sup>0.40</sup>|<sup>-13.29</sup>|
|1990|1.26|2.17|1.89|0.41|-21.49|<sup>0.48</sup>|<sup>1.63</sup>|<sup>0.83</sup>|<sup>0.23</sup>|<sup>-7.26</sup>|<sup>0.83</sup>|<sup>2.58</sup>|<sup>0.96</sup>|<sup>0.43</sup>|<sup>-10.41</sup>|<sup>0.78</sup>|<sup>3.19</sup>|<sup>0.17</sup>|<sup>0.47</sup>|<sup>-19.25</sup>|
|1991|1.09|3.63|1.78|0.56|<sup>-27.98</sup>|0.19|2.27|0.63|0.27|-7.72|0.44|3.88|0.64|0.50|-12.80|0.22|4.09|-0.11|0.51|-24.87|
|1992|0.87|5.31|1.64|0.74|-35.46|-0.04|2.76|0.41|0.29|-8.31|0.15|4.58|0.27|0.55|-15.23|-0.11|4.58|-0.37|0.53|-29.87|
|1993|0.62|7.09|1.43|0.91|-44.33|-0.17|3.06|0.17|0.31|-9.10|0|4.89|0.09|0.57|17.29|-0.17|4.69|.59|0.55|-29.82|

GNP = Gross National Product PGNP = GNP Price Deflator MERM = MERM Weighted Effective<sup>Exchange Rate</sup> RS = Short-Term Interest Rate CURBL = Current Account Balance The figures for GNP, PGNP, MERM and<sup>ERare percentage deviation</sup> from the baseline. RS is the change in the percentage level. CURBL is in billions of dollars.
<!-- Start of picture text --> ReaoCuses of OWN MNP PCNP. Short-Ter Interst r Rate Aftr an Ex* ansSnn in teal<br>oo"ernumnt Exoenditures for isuan Cern U.S. nd Lor c ldustrielLteo Countric<br><!-- End of picture text --> <!-- Start of picture text --> . 3 -<br>'2<br>.<br>0<br>asa<br>04<br>03-<br>02 -2<br>09<br>0-<br>-0CI<br>07 -988 989 1990 1991 M992 1993<br>GNSP<br>Oo09<br>I<br>0 92<br>0?-<br>06 - ~~~~~~~~~~~~~~~~~~~-<br>*<br>A 09~~~~~~~~~~~~~~~~~~~~0<br>04 - OT44<br>03~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~<br>I~ ~ ~ ~ ~ ~ ~ ~~~~~~~~~~~~~~~~~~~I<br>0 2<br>9939 9990 3989 1991 9992 9993<br><!-- End of picture text --> <!-- Start of picture text --> 0<br>26<br>-06<br>3<br>9989 1990 1991 199'2 331<br>PrGfP<br>22<br>.4<br>12-<br>I-<br>~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~0.8<br>~~~~~~~~~~~~~~~~~04-<br>02-<br>-02<br>-04<br>9988 ~~~~~9959 9990 399 992 '993<br><!-- End of picture text -->

> *The figures for MEP, ION?, &nd ****Cban.e rate** are perCentage deviation from the baseine. *The **figures** for sbort-tern interest rate &re **change** in the percentage imil.
26 U.S. raises nominal interest rate and reduces real money supply. Lower real money supply, in turn, pushes interest rates even higher.

The results for other models for a US fiscal expansion, reported by Frankel (1988), are similar to MULTIMOD for many of the variables given in Table 5, except for the depreciation of the U.S. dollar in the LINK model. This difference is attributable to there being little or no capital mobility in the LINK model and to its highly elastic LM curve for the U.S.<sup>21</sup> The spillover effects of the government expenditure expansions are presented in Tables AI through A4 in Appendix A. These effects indicate that the impact of a fiscal expansion on a nonoriginating blocks is similar to, but smaller than, that on tnAe originating block. A fiscal expansion in a given block stimulates domestic output, raises domestic prices and, because of rising demand for imports from non-originating blocks, leads to deteriorating current account balances. In the non-originating blocks, the higher export demand for their output stimulates growth and raises their domestic inflations. But, their rates of inflation and, consequently, their nominal interest rates remain lower than their counterparts in the originating block. As can be seen in the Tables in the Appendix, these results hold symmetrically, whichever be the shock-originating block.

In contrast, the impact on the exchange rate of the non-originating blocks is ambiguous. This is due to the two opposing forces that operate on the exchange rates. Higher interest rates in the originating blocks put a downward pressure on the exchange rate movements of the non-originating blocks, while the current account deficits put an upward pressure. The net impact would depend on the degree of capital mobility and export share distribution of the individual non-originating blocks.

In sum, an increase in government expenditures in a given block stimulates output, raises prices, and improves current account balances of other blocks, the effect on their exchange rates remaining ambiguous.

> 2 llickman (1988, Table _5.1)_ reports that, among the 12 multi-countrymodels studied by him, LINK has the most elastic LM curve for the U.S.
27 Finally we briefly touch upon the differences between rational expectations models and conventional models in terms of their responses to a fiscal expansion in a major country. In the former class of models, one would expect a fiscal expansion to lead to faster and sharper adjustments in exchange rates and prices and a larger deterioration of current account balance. This is confirmed by Table 6 where the results obtained using MULTIMOD are shown along with those obtained using other models (Frankel, 1988, Table 2.2). The changes in real output and current balances are not very diKerent across models, but the change in prices is higher with MULTIMOD than with other models.

# _4. International Transmission of Monetary Policy Effects_

Table 7 summarizes the results of simulating the impacts of an unanticipated monetary policy shock originating respectively in the U.S., Germany, Japan, and the large industrialized countries block (LI). In each case, the target stock of monetary base for the given country or region is subjected to a sustained increase amounting to four percent of the money supply.

As can be seen from the table, the monetary expansions produce similar effects over time in the respective economies of the shock-originating block. Initially, a rise in money supply reduces interest rates, and increases output and prices. Lower interest rates cause the currency to depreciate and capital outflows to increase, thus leading to improved trade balances. Over time, rising inflation reverses this trend. In the medium-term, the decline in interest rate slows down, the depreciation of exchange rate decelerates, and the current account improves less vigorously. In the long-run,the model returns to the baseline level of output with higher prices and depreciated exchange rates.

These trends are charted in Figure 2. It may be seen that the directions of change are very similar but the magnitudes differ,especially with respect to exchange rates. There are two notable exceptions, however. First, in the case of the U.S., the fast-ascending trends in exchange rate and short-term interest rate coupled with the slowly-descendingtrend in output indicate that the cycle of changes is more prolonged in the U.S. economy. Second, while the growth of output generally
TABLE .6 28 SIMULATION EFFECTS IN THE SECOND YEAR OF AN INCREASE IN THE U.S. G'vERNMENT EXPENDITURE OF ONE PERCENT OF GNP Percent Except for Interest Rates in Percentage Points and Current Account in Billions of Dollars

|Fiscal<br>Expansion<br>by Model*|Output|Consumer<br>Price<br>Index|Short-Term<br>Interest<br>Rate|Currency<br>Value|<br>Current<br>Account|
|---|---|---|---|---|---|
|DRI|2.1|0.4|1.6|3.2|-22.0|
|EECa|1.2|0.6|1.5|0.6|-11.6|
|EPAb|1.7|0.9|2.2|1.9|-20.5|
|LINK|1.2|0.5|0.2|-0.1|-6.4|
|LIVERPOOL|0.6|0.2|0.4|1.0|-7.0|
|MCM|1.8|0.4|1.7|2.8|-16.5|
|MINIMOD|1.0|0.3|1.1|1.0|-8.5|
|MSG|0.9|-0.1|0.9|3.2|-21.6|
|OECD|1.1|0.6|1.7|0.4|-14.2|
|TAYLORC|0.6|0.5|0.3|4.0|N/A|
|VARc|0.4|-0.9|0.1|1.2|-0.5|
|WHARTONd|1.4|0.3|1.1|-2.1|-15.4|
|MULTIMODd|1.32|1.04|0.3|2.0|-16.6|

# SOURCE: Frankel (1988), and MULTIMOD.

# N/A Not Available

- The list of these models are explained in APPENDIX D.

- a ROECD short-term interest rate not available; long-term reported instead.

- b ROECD current account is Japan, Germany, the U.K., and Canada.

- c CPI not available; GNP deflator reported instead.

- d Government shock not a permanent shock, sustained for only five years.
# Table 7

# EFFECTS OF FOUR PERCENT SUSTAINED INCREASE IN MONEY BASE TARGET, ON THE ECONOMY OF SHOCK ORIGINATING REGIONS

|P<br>E<br>R<br>I<br>||Uni|ted Sta|tes||||German|y||||Japan|||Larg|e Indus|Other<br>triali|zed<br>Coun|tries|
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|0|||||||||||||||||||||
|S|GNP|PGNP|KERM|RS|CURBL|GNP|PGNP|<br>ER|RS|CURBL|GNP|PGNP|<br>ER|RS|CURSL|GNP|PGNP|<br>ER|RS|CURBL|
|1988|0.82|0.22|-4.48|-0.34|4.96|1.68|0.47|-4.38|-0.15|-0.41|0.87|0.48|-4.43|-0.31|1.32|1.01|0.48|-3.90|-0.27|2.90|
|1989|0.90|0.62|-4.11|-0.28|5.79|1.64|1.36|-4.19|-0.06|-0.59|1.00|1.30|-4.14|-0.19|2.68|1.33|1.26|<br>-3.73|-0.14|6.73|
|1990|0.75|1.20|-3.86|-0.24|5.87|1.01|2.31|-4.10|-0.05|-0.20|0.80|2.17|-4.09|-0.12|3.11|1.08|2.06|-3.71|-0.08|7.68|
|1991|0.56|1.90|-3.70|-0.18|5.38|0.38|3.06|-4.05|-0.05|0.75|0.49|2.87|-4.18|-0.07|3.07|0.62|2.65|-3.74|-0.08|7.95|
|1992|0.40|2.64|-3.61|-0.12|4.50|-0.04|3.50|-4.03|-0.07|1.58|0.23|3.31|-4.33|-0.05|2.89|0.20|2.94|-3.78|-0.10|7.89|
|1993|0.26|3.36|-3.58|-0.05|3.24|-0.23|3.63|-4.01|-0.08|2.03|0.07|3.48|-4.47|-0.05|2.64|-0.03|2.77|-3.80|-0.13|7.78|

GNP = Gross National Product PGNP = GNP Price Deftator NERN = KERN Weighted Effective Exchange Rate RS = Short-Term Interest Rate CUtRBL * Current Account Balance The numbers in GNP, PGNP, NERN and ER are percentage deviation from the baseline. RS is the change in the level.

CURBL is in billions of dollars.

'0
<!-- Start of picture text --> a of Om or . GNP Short-S rm Intorest Rte, t,V Excha. RatO Aftgr a TOur PerCent<br>Sustained Incrs se in Money ase Srset of the U.S.. Goeran. Jaan and Other Industrializd Countries<br>O O 5<br>! 25<br>07.2<br>a 06 \<br>05 19C S<br>04-<br>03 1<br>02. -02 .~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~0 .<br>0- 0 5<br>-00<br>-02 .<br>I96l 1;99 1990 1991 1992 1993 1958 1989 1990 1991 '992 ,993<br>CII, PCI,np<br>-0 04 -ro<br>-006- G -36<br>-006 /<br>-01 3 7<br>-0 32 A<br>-3<br>-0.<br>-016 -42<br>-026<br>-0 28 4<br>-0 3<br>-0 32<br>1989 1969 199 1991 1992 1993 '988 1989I;. 1990 99 '992<br><!-- End of picture text -->

***The** figures for CU, PMII, and **exchange rate** are Percentage deviation from the baselina. ***The figUres for short-toer intezeat rate are change** In the percentage **level.**
31 reaches a peak in the second period, in the case of Germany (which has the largest multiplier effect on impact) output falls beyond the first period, and the fall is sharper than for other blocks. Further, even though monetary expansion generaly has a positive impact on current account balances, Germany's current account reacted with a prolonged J-curveand did not improve until the fourth period.

Figure 2 shows the relative impacts of fiscal and monetary expansions on the economies of the U.S. and Germany. The output response for a fiscal expansion was stronger for the U.S. than for Germany. Conversely, Germany's growth of output reacted relatively more strongly to monetary expansion as did the German rate of inflation. The growth of output in the U.S., however, increased relatively less in response to a monetary expansion. This suggests that the U.S. economy is more responsive to fiscal expansions, whereas Germany's economy, due to its higher degree of openness measured by import/GNP ratios, is more responsive to monetary shocks.

The cross-country effects of the monetary shocks, shown in Tables AS through AB in the Appendix, follow the Mundell-Fleming story domestic monetary expansion leads to the depreciation of shock-originatorscurrency, worsens current balances, and reduces foreign outputs.<sup>22</sup> In al four cases, output and price increased in the shock-originating block and feli in all the non-originating blocks. Also, the non-originating country's current balances generally worsened, with the exception of Germany and Japan which improved their current balances at the expense of the large industrialized countries (the LI block), when the expansion originated from the U.S. (see Table AS of the Appendix.

Table 8 compares the responses of MULTIMOD to the monetary expansion with those of John Taylor's model and the Liverpool model (Bryant 1988). Figures 3 through 5 show the responses graphically for the U.S., Japan, and LI, respectively. The responses of MULTIMOD and Taylor's model are similar but that of the Liverpool model is very different from the other two. For example, the U.S. own inflation rates are much higher in the Liverpool model than in the other

> 2 See Mundell, 1964.
32 Table 8

# THE IMPACT OF FOUR PERCENT INCREASE IN THE U.S. NONEY SUPPLY IN MULTIMOD (MULTI), TAYLOR, AND LIVERPOOL (LIVPL) MODELS

|||C."|||PGNP|USA|E|XCHR|||RS||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
|198S<br>|MULTI<br> <br>0.68<br> <br>|TAYLO<br>0.83<br>|R LIVPL<br>0.60<br>|MULTI<br>0.20<br>|TAYLO<br>0.23<br>|R LIVPL<br>1.80<br>|IJLTI<br>-4.29<br>|TAYLO<br>-4.10<br>|RLIVPL<br>-2.20<br>|IJLTI<br>-0.37<br>|TAYLO<br>-0.61<br>|R LIVPL<br>0.40<br>|
|1986<br>|<br>_0.e2_<br> <br>|0.50<br>|0.10<br>|0.59<br>|0.85<br>|3.70<br>|-S501<br>|-3.40<br>|*3.90<br>|-0.30<br>|-0.50<br>|-0.30<br>|
|1987<br>|<br>0.69<br>|0.45<br>|.0.10<br>|1.15<br>|1.42<br>|3.90<br>|-4.34|-3.10|-4.00<br>|-0.25|-0.34|-0.10|
|1988<br>|0.56<br>|0.33<br>|-0.20<br>|1.83<br>|1.83<br>|4.10<br>|-3.98<br>|-2.90<br>|-4.10<br>|-0.19<br>|-0.31<br>|-0.10<br>|
|1989<br>|0.39<br>|0.19<br>|-0.20<br>|2.56|2.11|4.40|-3.72|-2.70|-4.30|*0.12|-0.30|0.00|
|1990|0.22|0.13|-0.20|3.29|2.27|4.50|-3.55|-2.50|-4.40|-0.06|-0.29|0.00|

## .JAPAN

|||GNP|||**PCNP**||E|XCHR|||RS||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
||MULTI<br>|TAYLO<br>|R LIVPL<br>|MULTI<br>|TAYLO<br>|R LIVPL<br>|UJLTI<br>|TAYLO<br>|R LIVPL<br>|MULTI<br>|TAYLO<br>|RLIVPL<br>|
|1985<br>|-0.36<br>|0.01<br>|0.00<br>|-0.09<br>|-O.C1<br>|-0.20<br>|4.33<br>|4.40<br>|2.40<br>|-0.07<br>|-0.01|-0.20|
|1986<br>|-0.43<br>|-0.08<br>|0.00<br>|-0.26<br>|-0.08<br>|-0.10<br>|5.10<br>|3.70<br>|4.30<br>|-0.10<br>|-0.02<br>|-0.10<br>|
|1987<br>|-0.28<br>|-0.21<br>|0.00<br>|-0.40<br>|-0.22<br>|0.00<br>|4.43<br>|3.30<br>|4.30|-0.10|-0.05|0.00<br>|
|1988<br>|-0.10<br>|-0.31<br>|0.00<br>|-0.41<br>|-0.41<br>|0.00<br>|4.07<br>|3.10<br>|4.40<br>|-0.07|-0.07|0.00<br>|
|1989<br>|0.05<br>|-0.31<br>|0.00<br>|-0.31<br>|-0.61<br>|0.00<br>|3.81<br>|2.80<br>|4.60<br>|-0.03<br>|-0.08|0.00<br>|
|1990|0.13|-0.24|O.00|-0.09|-0.76|0.00|3.67|2.60|4.60|0.00|-0.08|0.00|

# ROECD/la

|||0GW.|||PGNP||**E**|**XCHR**|||RS||
|---|---|---|---|---|---|---|---|---|---|---|---|---|
||..............<br>|.......<br>||...............<br>...............<br>|......<br>......|||||...............|......||
||MULTI<br>|TAYLOR<br>|LIVPL<br>|MULTI<br>|TAYLOR<br>|LIVPL<br>|MULTI<br>|TAYLOR<br>|LIVPL<br>|MULTI|TAYLOR|LIVPL|
|1985<br>|-0.34<br>|0.04<br>|0.10<br>|-0.14<br>|0.02<br>|-0.10<br>|4.46<br>|4.20<br>|2.40<br>|-0.07<br>|0.02|-0.10|
|1986<br>|-0.40<br>|-0.06<br>|0.00<br>|-0.32<br>|-0.1<br>|0.00<br>|5.19<br>|3.60<br>|4.20<br>|-0.11<br>|-0.04|-0.10<br>|
|1987<br>|-0.28<br>|-0.11<br>|0.00<br>|-0.40<br>|-0.23<br>|0.00<br>|4.47<br>|3.20<br>|4.20<br>|-0.10|-0.07|0.00<br>|
|1988<br>|-0.12<br>|-0.13<br>|0.00<br>|-0.35<br>|-0.36<br>|0.10<br>|4.09<br>|3.00<br>|4.50<br>|-0.07<br>|-0.10|0.00<br>|
|1989<br>|0.01<br>|-0.12<br>|0.00<br>|-0.17<br>|-0.46<br>|0.10<br>|3.83<br>|2.80<br>|4.50<br>|-0.02<br>|-0.10|0.00<br>|
|1990|0.06|-0.07|0.00|0.08|-0.52|0.10|3.68|2.60|4.60|0.01|-0.09|0.00|

- SOURCE: For Taylor and Liverpool is Bryant (1988, Vol. 2), for MULTIMOD is IECAP.

- a/ Instead of ROECD in Taylor and Liverpool, the results for Large Industrialized Countries are reported for MULTIMOD.

- The numbers for GNP, PGNP and ER are in percentage from the baseline and the number for RS are percentage point change from baseline.

- GNP - Gross National Product

- PGNP - GNP Price Deflator

- ER - Exchange Rate RS - Short-Term Interest Rate
<!-- Start of picture text --> tr ur TAYLOR ., AND LIVERPOOL MODELS N ON THE U.S. ECONOMY . - IN ...<br>U.S.A<br>09-<br>04 08 44<br>03<br>06-<br>0Cl<br>0 - 0 05 -T'<br>04<br>-0 I8<br>02-<br>-0 3<br>01-<br>-0 4<br>-nb~~~~~~~~~~~~~~~~~~~~~~0<br>.0 7~~~~~~~~~~~~~~~~~~~~~0<br>3986 1966 1986 1988 1989 1990 1985 1986<br>S-T I3etER6ST RATE<br><!-- End of picture text --> <!-- Start of picture text --> U.S.A<br>09-<br>08 44<br>06-<br>0 05 -T'<br>04<br>02-<br>01-<br>1985 1986 1987 98a 1989 199<br>CAP<br><!-- End of picture text --> U.S.A U.S.A <!-- Start of picture text --> 45.<br><!-- End of picture text --> <!-- Start of picture text -->
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<!-- Start of picture text --> 3 5-<br>6 2-<br>OS<br>- 933! 1986 fol987 399 99 98 19 9<br><!-- End of picture text -->
# EFFECTS OF FOUR PERCENT INCREASE IN THE U.S. MONEY SUPPLY IN MULTIMOD, TAYLOR AND LIVERPOOL MODELS _ON_ THE JAPANESE ECONOMY

JAPAN <!-- Start of picture text --> 02- I<br>0 1<br>0~~~~~~~~~~~~~~~~~~~~~~~0<br>-01 I<br>-0?<br>-03~~~~~~~~~~~~~~~~~~~~~~~~~~~~-<br>-05~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~0<br>-06~~~~~~~~~~~~~~~~~~~~~0<br>-05a<br>-01<br>1985 186 1987I 1969 it"<br>CUIP<br><!-- End of picture text --> JAPAN <!-- Start of picture text --> o, Wo/ t<br>LT 70<br>-02<br>-03 .<br>-05<br>~~~~~~~~~~~~~~~~~~~~-07<br>1965 198I 1987 t 3909 1990<br>rPG<br><!-- End of picture text --> <!-- Start of picture text --> JAPAN<br>52 24<br>'2 *t<br>3 4R<br>296 90 19815 90t8<br>28<br>1985 3987 '988 1968 1989 3990<br><!-- End of picture text -->

**JAPAN**

<!-- Start of picture text --> __ _ _ _ _ __ _ _ _ _ _ __ _ _ _ _ __ _ _ _ _ _ __ _ _ _ _ _<br>-0.01I<br>~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~-002<br>-008<br>-00 7<br>-0 1<br>-007 -0.1I 8 9tZ41e 9<br>429 3<br>15 1985 1986 1987 twa 1989 3990 .P0<br>-0 16 -~~~~-1a~RS AT<br><!-- End of picture text -->
2 OF <!-- Start of picture text --> IN U.S. I<br><!-- End of picture text -->

# ON IN COUNTRIES IN MULTIMOD

(TAYLOR, LIVERPOOL) AND ON LARGE INDUSTRIALIZED

# OTH-IND

<!-- Start of picture text --> 01O -O-<br>0<br>-03~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~~-.<br>04<br>1985 19S6 1987 1988 1989 1990<br>GNP<br><!-- End of picture text --> <!-- Start of picture text --> OTH-(ND<br><!-- End of picture text --> <!-- Start of picture text -->
-0.<br>- -0<br>1955  1986  1987  198  1989  1990<br>S  tR<br><!-- End of picture text -->

OTH-IND OTH-IND <!-- Start of picture text --> 52<br>5<br>48<br>44<br>42<br>3 a ~~~~~~~~~~~~~~~~~~~~-0<br>56--004<br>S --<br>32-<br>3-<br>28-<br>2 6<br>2 4-<br>1989 1988 1981 1988 1989 1990<br>LICHA<br><!-- End of picture text --> <!-- Start of picture text --> 0.02<br>~~~~~~~~~~~~~~~~~~~~~~~001<br>-0.02<br>03<br>005<br>-0.06<br>-0 08<br>-0 09<br>-0l W<br>~~~~~~~~~~~~~~~~~~~~~~~~~~-0 II<br>1989 1986 3987 38 9919<br>S-I INTEREST RATE<br><!-- End of picture text -->
36 two models. Conversely, inflation rates in the non-originating blocks are smaller and more shortlived in the Liverpool model. This is because of the smaller spillover effects on output in the Liverpool model. Further, the impact of U.S. monetary expansion on its own output growth ismuch stronger, and lasts longer, in Taylor's model and in MULTIMOD. In the Liverpool model it lasts only for the first two simulation periods. The output growth reaches its peak in the second period in MULTIMOD while it does so on impact in the other two models. In the case of the Liverpool model there is strong tendency for the output to return to the baseline beyond the second period.

The comparative results owe their origin to major structural differences between the Liverpool model on the one hand and Taylor's model and MULTIMOD on the other. The Liverpool model is more "neo-classical' in spirit than the other two in that it uses rational expectations more extensively. Supply is very inelastic in the short-run and prices quickly clear the market. Thus the price movements are sharper, and monetary policy is almost ineffective in inducing output growth. In addition, since real wealth is one of the determinants of consumption, high rates of inflation reduce aggregate demand.

# C. Developing Countries In MULTIMOD

How do monetary and fiscal policy interactions between industrialized and developing countries work? How does an increase in the financial flows change economic activities in the developing countries and what are the feedback effects on the industriallzed countries? And, what are the consequences for the developing countries of changes in primary commodity prices? These issues are of primary importance in North-South relationships. In the following,the responses of MULTIMOD in the analysis of these issues are evaluated and their relations to the theoretical specification of the DC region are discussed.

_1. Reaction of the Developing Countries to Fiscal and Monetary Policies of IndustrializedCountries_ The- model does not specify monetary and financial instruments for the developing countries. Instead, the reactions and responses of the developing countries to policy changes are formed by
37 postulated reaction functions. This specification makes them the recipients of policy decisions made in the, industrialized countries.

The tables in Appendix A show the responses of the developing country block (DC) to fiscal and monetary policy shocks originating from the industrialized country blocks. An examination of the responses indicates that the output and price responses are similar to those of the non-originating industrialized country blocks, with some differences. First, the DC output reaches its peak with a lag relative to non-originating industrialized country blocks. The delay in reaching the peak is because of the nature of the shock transmission mechanism of the model.23 Second, monetary shocks in the industrialized countries were weakei in influencingeconomic activity in the DC region, relative to fiscal shocks (Tables AS through AS). This is because of the partially offsetting nature of different influences generated by a monetary expansion. Monetary expansions reduce interest rates, depreciate exchange rates, increase prices, and improve trade balances of the industrialized countries. Reduction of interest rates has a positive effect on the DC region because it lowers the interest payments on debt. However, depreciated currencies reduce the demand for the exports of the DC region.

_2. Structure of Financial Linkages Between Developing Countries and IndustrializedCountries_ This part explores the structure of North-South financial linkages and the capital flows in the model. It is also concerned with the analysis of increased economic activity in the developing countries due to an increase in the flow of funds, and its feedback effects on the industrialized countries. The above issues are examined by means of two scenarios both of which deal with an increased flow of funds to the developing countries, but under different circumstances.

2 rhe transmission mechanism works as follows: A rise in aggregate demand *n the industrialized countries increases demand for exports from the DC region enhancing the DC's export earnings and credit-worthiness. The new earnings are spent on imports of additional manufactured goods from the industrialized countries. In turn, these imports increase the stock of capital and production of output. The time needod for these interactions to take place delays the peak of the output growth in the DC block.
38 Scenario 1: In this scenario, the capital flows from the industrialized blocks to the DC region are increased by $20 billion each year from 1988 to 1992, relative to the baseline. The capital flows (grants) are assumed to be financed by increasing the budget deficits in the industrialized country blocks, according to their respective GNP shares. The simulation results are presented in Table 9. Initially, the rise in the demand for imports from the .ndustrialized blocks exerts an upward pressure on their domestic prices and interest rates. Both of these changes have a negative consequence for the DC region. H.gher prices increase the cost of imports for the DC region while higher interest rates increase the interest payments. Overall, the increased capital inflowto the DC region stimulates output growth in both industrialized and developing countries, the growth rate differentials being higher for the industrialized countries. The growth rate of absorption (A), however is larger for the DC block than for the industrialized country blocks (Table 10). This is due to the method MULTIMOD uses to determine the components of absorption (consumption, C and investment, I) for the DC region. Investment (I) is determined residually as the difference between GDP and the sum of total (private and public) consumption (C), and net exports, (X - M).

I - GDP -C -X + M (3) Consumption depends on a measure of disposable income that includes the real flow of available finances.

Any increase in the financial flows to the DC region first increases domestic absorption, directly, by increasing total consumption and, indirectly, through rising imports and investment. From equation (3) it is easy to see that the change in absorption is equal to the sum of changes in GDP and in net imports.24 AA - AGDP + A(X - M) Hence, the growth rate of the domestic absorption is always higher than the output growth.

> 2 Because of the low elasticities of demand for imports from the DC block, the deviation of DC exports from the baseline, compared to imports, is very small.
Table 9

# THE EFFECTS OF A FIVE YEAR SUSTAINED ANNUAL INCREASE OF S20 BILLION IN THE FINANCIAL<sup>FLOWS</sup> TO DEVELOPING COUNTRIES

|P<br>E<br>R<br>0<br>S|GNP|Uni<br>PGNP|ted State<br> <br>ERAN|s<br>RS|CURBL|GNP|<br>PGNP|Germany<br>ER|<br>RS|CURBL|GNP|PGNP|Japan<br>ER|RS|CLRBL|Large<br>GNP|Industr<br>PGNP|Other<br>ialized<br>ER|Coun<br>RS|tries<br> <br>CURB|Develop<br>L GIP|ing Co0<br>PGNP|Ltrfes<br>_|
|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|---|
|1988|0.27|0.08|-0.22|0.05|-3.05|0.43|0.20|0.24|0.09|0.23|0.43|0.21|0.19|0.09|2.19|0.43|0.28|0.23|0.09|0.11|0.02|0.24|0.27|
|1989|0.33|0.26|-0.15|0.08|-3.69|0.49|0.58|0.18|0.14|0.25|0.49|0.57|0.12|0.14|2.44|0.50|0.72|0.16|0.16|-0.46|0.05|0.57|1.26|
|1990|0.31|0.52|-0.05|0.11|-4.42|0.41|1.00|0.09|0.18|0.68|0.42|0.95|0.02|0.18|2.86|0.38|1.13|0.06|0.20|-1.25|0.05|0.91|1.93|
|1991|0.23|0.82|0.06|0.14|-5.58|0.28|1.34|-0.02|0.21|1.11|0.30|1.24|-C.09|0.20|3.13|0.22|1.39|-0.05|0.21|-1.96|0.04|1.16|2.47|
|1992|0.11|1.09|0.17|0.16|-6.99|0.14|1.48|-0.13|0.20|1.42|0.20|1.33|-0.19|0.20|3.31|0.13|1.41|-0.15|0.20|-2.23|0.03|1.24|2.67|
|193|-0.18|1.29|0.26|0.13|-5.4|-0.27|1.42|-. 23|0.13|1.53|-0.18|1.23|-0.27|0.13|1.55|*0.25|1.22|-0.23|0.12|2.61|0|<br>1.12|1.76|

GDP Gross Domestic Product GNP = Gross National Product PGNP = GNP Price Deflator

- KERN = MERN Weighted Effective Exchange<sup>Rate</sup>

- RS = Short-Term Interest Rate

CURBL = Current Account Balance ND = Net Debt

- . The numtbers in GNP, PGNP, MERN<sup>and ER are percentage deviation from the baseline.</sup> R AS is the change in the tevel.

-

- CURBL and ND are in biLlions of dollars.

w
Tabte 1040 EFFECTS OF FIVE YEAR SUSTAINED INCREASE IN FINANCIAL FLOWS ON OUTPUT AND DOMESTIC ABSORPTION OF THE INDUSTRIALIZED AND DEVELOPING COUNTRIES

||U.S|.|GERN|ANY|JAP|AN|Large I<br>Countri|ndust.<br>estLI)|Develo<br>Countr|ping<br>ies|
|---|---|---|---|---|---|---|---|---|---|---|
|PERIODS|(1)|(2)|(1)|(2)|(1)|(2)|(1)|(2)|(1)|(2)|
|1988|.27|0.11|.43|0.22|.43|0.20|.43|0.21|.02|0.75|
|1989|.33|0.16|.49|0.34|.49|0.30|.50|0.33|.05|0.66|
|1990|.31|0.15|.41|0.29|.42|0.26|.38|0.24|.05|0.58|
|1991|.23|0.11|.28|0.17|.30|0.17|.22|0.11|.04|0.49|
|1992|.11|0.05|.14|0.05|.20|0.09|.13|0.02|.03|0.42|

*Column (1) shows the growth rates of real GNP, and Column (2) shows the absorption growth rates.

*Column (1) is repeated from Table 9.

*Column (1) for DC region are real GWP growth rates.
41 Scenario 2: This scenario deals with a debt reduction scheme carried out by reducing the DC stock of debt by $160 billion at the beginning of the simulation period.<sup>25</sup> This reduction is implemented in the model irrespective of the method of its financing?o By assumption, the critical level of the "debt interest payments to exports' ratio, which is the 'measure' of the ability of developing countries to service debt in MULTIMOD, remains unchanged at 3 percent for the entire simulation period.2<sup>7</sup> Initially, the reduction in the stock of debt entails a decline in the net wealth of the private sector in the creditor countries. But, because of the increase in exports of these countries, they enjoy a rebound in economic activity: real GNP increases, current account improves. and the initial loss in private net wealth is more than offset in the long-run.

In addition, lower debt enables the developing countries to save on their interest payments. Lower interest payments improves the 'measure" of their debt servicing ability or qualifies them for more borrowing, which, net of interest payments, is used to finance additional imports. Higher imports stimulate higher production in the industrialized countries (e.g., real GNP in the U.S. increases by 0.23 percent on impact). But the rise in output in the industrialized countries does not lead either to a significant increase in the demand for the developing countries' exports or to higher commodity prices. As a result, the developing countries face widening current account deficits 2%160 billion is equivalent to a quarter of outstanding total external debt, both short-term and long-term,of all developing countries to the private creditors in 1987. Source: World Debt Tables, 1988-89 edition.

> 2 lHowever, according to some analysts, a reduction in outstanding debt to private creditors by $160 billion would bring it close to its true market value.

2ZFlows of financing between industrial ar.d developing countries in MULTIMOD are assumed to depend on the ability of developing countries to service their debt. The measure of servicing ability used is the ratio of debt interest payments, corrected for inflation, to exports. Expectations are assumed to be formed for that ratio: if it exceeds a threshold level imposed on the model, then additional financing will not be demanded or supplied. If it is less than the threshold, then financing will be available in an amount that depends on the difference between the expected level and the threshold level."
42 which have to be financed by new loans. This situation leads to a build-up in the stock of debt, gradually converging towards the baseline, and a small growth of GDP.

The simulation results in Table II indicate another important aspect: The increased capital flow raised the gross domestic investment significantly(3.52 percent higher in the first year than the baseline) made possible by a surge in imports (4.5 percent higher in the first year). This, in turn, led to higher capital accumulation and greater production capacity (the latter increased by an annual average of 5 percent (not shown in the Tables).

In the light of the above some, points are of significance to pote:

- the model places too much reliance on the assumption that developing countries spend their new resources on imports rather than on debt service;

- a new lending is excessively dependent upon thte assessment of interest payments to export ratio, thus introducing a possible upward in the estimate of capacity-creatinginvestment in the developing countries; sand

- in view of the current losses suffered by the banks, the model needs to incorporate the issue that reduction in developing countries' debt has reduced the desirability of lending to these countries.

Thus, alternative criteria for new loans to the developing countries, and alternative specifications for developing country imports are important directions for future research.

# _3. Oil and Commodity Prices_

In MULTIMOD, neither the oil market nor the commodity market has any stockholding demand or supply. There is no cushion to protect prices from large fluctuations. In the commodity market, supply has zero elasticity in the short run and any rise in demand forces prices to soar. It is only in the long run that supply increases and prices stabilize.

In contrast to the commodity market of the model, the excess demand for oil is met by a perfectly elastic supply in the short run.<sup>29</sup> The real price of oil is exogenous, but the nominal price 2%e model is very sensetive to the value of the 'interest payments to exports" ratio of the developing countries block.

2¶n the wake of current existing capacity this is a viable assumption.
# TAIL **11**

## 1140 8ILLION REDUCTION IO THE STOCK OF DEVELOPING COUNTRIES DEST

## PEtRCENTAGE OEVtAtION FRON THE ASELIUE UNLESS OTHERWISE NOTED

|...<br>..<br>.. ..........<br>...............<br>.....<br>.....<br>.|-. .............<br>------**------**<br>v<br>|......<br>**-------**-------<br>|....-....-..<br>-----------<br>||........<br>||.....<br>|......<br>--<br>|
|---|---|---|---|---|---|---|---|---|
||1989|1990|1991|1992|1993|1994|1996|1998|
|UNITED STATES|||||||||
|**REAL**<br>G<br>NN<br>...........................|0.23|0.32|0.31|0.23|0.11|-0.03|-0.28|-0.46|
|REAL DOMESTIC DEMAND**..............**|**.**0.08|0.16|0.15|0.11|0.04|-0.03|-0.15|-0.24|
|GMPDEFLATORI/ ....................<br>1<br>|0.1<br>|0.22<br>|0.32<br>|0.37<br>|0.38<br>|0.33<br>|0.14<br>|-0.11<br>|
|SRTERMtNTEREST<br>RATE.NOINAL 2/...<br>|0.06<br>|0.1<br>|0.13<br>|0.17<br>|0.19<br>|0.21<br>|0.22<br>|0.18<br>|
|EgFFCTIV**E**<br>XCHANGE RATE**............**|-0.36|-0.31<br>|-0.22<br>|-0.1|0.02<br>|0.12<br>|0.24<br>|0.23<br>|
|TOTAL IPORTS.VOLUHE<br>**..............**|**..**-0.31<br>|*<br>0.29<br>|-0.3<br>|-0.26<br>|-0.19<br>|-0.05<br>|0.26<br>|0.42<br>|
|TOTAL EXPORTS. VOLUME<br>**.............**<br>|**.**<br>1.65<br><br>|1.7<br>|1.58<br>|1.29<br>|0.9|0.49|-0.21<br>|-0.65<br>|
|TRADE BALANCE. VALUE 3/**............**<br>|<br>6.06|6.|3.71|4.82|3.43|1.77|-1.63<br>|-4.<br>|
|CURRET ACCOUNT<br>BALANCE 3/ .1.93<br>||1.6<br>|1.13<br>|-0.02<br>|-1.71<br>|-3.79|-8.37<br>|-12.11<br>|
|TOTALREAL**MET**PRIVATE WEALTH_41_<br>|-31.81|-18.11|-0.56|15.38|27.63|33.25|20.|-23.81|
|**COV.**FINANCIAL<br>IALANCE 4/ .-|1.09|-1.3|-0.58|0.91|2.54|4.31|6.36|3.78|
|**CERMANY:**|||||||||
|REAL GNP<br>.0.39||0.49|0.4|0.21|0.01|-0.14|-0.23|-04.8|
|REAL DOMESTIC<br>DEAN..0.22<br> <br>||0.36<br>|0.3<br>|0.15<br>|-0.02<br>|-0.15<br>|-0.25<br>|-0.22<br>|
|CNP DEFLATOR<br>1/.0.25<br>||0.45<br>|0.52<br>|0.47<br>|0.32<br>|0.12<br>|-0.22<br>|-0.36<br>|
|**SH**TERM INTERESTRATE.NONINAL 2/<br> <br> <br>|0.09|0.16<br>|0.21<br>|0.24<br>|0.25<br>|0.25<br>|0.2<br>|0.12<br>|
|EXCHANGE<br>RATE<br>.0.37<br> <br>||0.33<br>|0.25<br>|0.15<br>|0.04<br>|-0.07<br>|-0.21<br>|-0.23<br>|
|TOTALIMPORTS.**VOLUME**<br>.0.14||0.35|0.38|0.32|0.21|0.1|-0.05<br>|-0.17<br>|
|TOTAL EXPORTS. VOLUME<br>.0.93||n.97|0.86|0.65|0.39|0.17|-0.09|-0.2|
|TRADE BALANCE.VALUE3/ .4.57||4.66|5.23|5.55|5.44|5.07|3.48|1.47|
|CURRLIT ACCOUNT<br>BALANCE(SUS) 3/<br>|1.87|2.11|2.72|3.23|3.46|3.53|3.13|2.29|
|TOTAL REAL**NET**PRIVATE WEALTH4/|-13.06|-2.75|6.38|12.19|13.25|11.44|3.69|-4.81|
|GOV. FINANCIAL BALANCE<br>4 .-|1.98|-3.|-3.11|-2.61|-1.57|-0.56|0.07|-1.77|
|JAPAN3|||||||||
|**REAL**GN .0.42||0.52|0.43|0.25|0.07|-0.06|-0.13|-0.08|
|**REAL**DOMESTICDEMAND<br>.0.2<br> <br>||0.33<br>|0.28<br>|0.16<br>|0.02<br>|-0.09<br>|-0.16<br>|-0.13<br>|
|**GNP**DEFLATOR<br>**1/**.0.25<br>||0.43<br>|0.48<br>|0.41<br>|0.26<br>|0.07|-0.21<br>|-0.11|
|SR**TEIR**INTEREST RATE.NOMINAL2/<br> <br> <br>|0.1|0.17<br>|0.21<br>|0.24'<br>|0.25<br>|0.241<br>|<br>0.129<br>|0J<br>|
|EXCHANGE<br>RATE<br>.0.35||0.29|0.19|0.08|-0.04|-0.13|-0.24|-0.21|
|TOTAL IMPORTS. VOLUME.|0.18|0.31|0.36|0.39|0.38|0.33|0.17|-0.01|
|TOTALEXPORTS.VOLUM .1.74||1.62|1.34|1.|0.68|0.44|0.17|0.01|
|TRADE<br>BALANCE,VALUE3/ .0.74||0.77|0.75|0.68|0.57|0.45|0.23|0.06|
|CURRENTACCOUNT<br>BALANCE(suS)<br>3/|4.79|5.5|6.03|6.13|5.75|5.31|4.47|3.68|
|TOTAL REAL**MET**<br>PRIVATEWEALTH 4/|-1.39|0.83|3.1|4.55|4.75|4.11|1.9S|0.42|
|COY. FINANCtALSALANCE<br>4/.-|0.34|-0.53|-0.62|-0.64|-0.54|-0.41|-0.25|-0.32|

11 INFLATION DIFFERENCE FROM THE BASELINE. 2/ BASIS POINTS DIFFERENCE FROM BASELINE. ONE FULL PERCENTAGE POINT IS EQUIVALEN **T** O 100.

3/ DtFFERElNCE FROM THE BASELINE 4/ LEVEL DEVIATION FROM THE BASELINE IN BILLIONS OF LOCAL CURRENCY. A NEGATIVE NUMBER MEANS AN IMPROVEMENT IN THE AUDGET DEFICIT.
44

# TAILE Ll CONTINUED $160 BILLION REDUCTION IN THE STOCK OF DEVELOPING COUNTRIES OE8T

PERCENTAGE DEVIATtON FROM tHE BASELINE UNLESS OTHERWISE NOTED

||1989|1990|1991|1992|1993|1994|1996|1996|
|---|---|---|---|---|---|---|---|---|
|DEVELOPINC<br>COUNTRIES:|||||||||
|REAL CDP .......................|0.23|0.41|0.51|0.55|0.54|0.52|0.43|0.32|
|REALDOMESTICASSORPTION<br>...........|1L.12|<br>1.22|1.2|1.1|0.97|0.84|0.6|0.4|
|REALGROSSINVESTMENT<br>..............|3.52|2.27|1.13|0.16|-055|-1.|-1.33|-1.27|
|GNPDEFLATOR 1/ .<br>....................|.28|0.4|0.43|0.36|0.23|0.09|-0.14|-0.26|
|TL CON. EXP. INCL. PUBLIC .<br>......|...<br>.55|0.97|1.21|1.32|1.33|1.27|1.06|0.79|
|STOCK OF DEST ......................|-10.56|-8.01|-5.85|-4.07|-2.65|-1.55|-0.13|0.49|
|STOCKOFNET DEBT ..................|-12.02|-10.05|-8.2|-6.55|-5.11|-3.9|-2.1|-0.96|
|NET FOREIGN ASSETS 3/ ..............|145.|128.96|111.96|95.06|78.9|64.02|38.91|20.02|
|VOLUME<br>OF TOTAL IMPORTS<br>............|4.5|4.15|3.55|2.83|2.16|1.61|0.86|0.39|
|VOLUME<br>OF TOTAL EXPORTS<br>............|0.16|0.25|0.25|0.2|0.14|0.1|0.06|0.|
|TRADE8ALANCE. VALUE 3.5/ ..........|-26.37|-26.52|-26.05|-24.39|-22.15|-19.47|-14.08|-9.41|
|NET INTEREST PYMT 3.6/ .............|-11.36|-10.46|-905|-7.48|-5.99|-4.61|-2.34|-0.77|
|CURRENT ACCOUNT BALANCE3/.........|-I.|-16.04|-16.99|-16.9|-16.16|-14.88|-11.78|-8.68|
|PRINCIPALRATIOS:|||||||||
|NETINTEREST PYKT/EXPORTS:|||||||||
|BASELINE<br>.<br>........................|-6.07|-7.96|-7.56|-7.14|-6.74|-6.38|-5.83|-5.39|
|SCEXARIO<br>.<br>........................|-6.22|-6.35|-6.24|-6.09|-S.93|-5.77|-S.52|-5.27|
|DIFFERENCE<br>.<br>...........|1.85|1.61|1.32|1.05|0.81|0.61|0.31|0.12|
|TOTAL DEBT/EXPORTS:|||||||||
|BASELINE<br>.........................|199.39|195.81|122.27|188.77|185.32|181.93|175.27|168.82|
|SCLNARIO<br>.........................|177.31|178.27|178.5|178.06|177.11|175.72|172.04|167.63|
|DIFFERENCE<br>.......................|-22.09|-17.54|-13.77|-10.71|-8. .1|-6.21|-3.23|-1.19|
|TOTAL DEBT/GOP:|||||||||
|BASELINE<br>.........................|38.42|38.93|39.44|39.96|40.48|41.|42.06|43.13|
|SCENARIO<br>.........................|34.28|35.66|36.95|38.12|39.19|40.16|41.82|43.2|
|DIFFERENCE<br>.......................|-4.14|-3.26|-2.49|-1.84|-1.29|-0.84|-0.24|0.07|
|INTERNATIONAL<br>PRICES 7/:|||||||||
|PRICEOF OIL INDOLLARS<br>............|0.46|0.81|1.19|1.5|L.?|L.77|1.62|1.21|
|PRICE INDEX OF COM ................|1.74|1.91|1.67|1.39|1.2|1.13|0.99|0.62|

II INFLATION DIFFERENCE FROM THE BASELINE.

**3/** DIFFERENCE FROM THE BASELINE.

S/ NEGATIVE NUMBERS ARE DEFICIT AND POSITIVE NUMBERS ARE SURPLUS. IN BILLIONS OP US DOLLARS.

6/ NEGATIVE NUMBERS ARE REDUCTION AND POSITIVE NUMBERS ARE INCREASE IN INTEREST PAYMENTS. IN BILLIONS OF US DOLLARS.

7/ OENOMINATED INDICES IN TERMS OF US DOLLARS. 1980-1.
45 is determind, in the long run, by adjusting the real price by a weighted average of GNP deflators of the industrialized countries. Thus, oil prices may be expected to fluctuate less than commodity prices. This was confirmed by the results of the simulations performed in the Appendix (not shown): the percentage deviation of commodity prices stayed higher than those of the oil prices, in the first two or three periods of the simulation, but the two converged towards the end of the simulation.

Table 12 summarizes the effects of a 20 percent sustained increase in the nominal price of oil. These results suggest that an increase in the price of oil leads to higher import prices in the industrialized countries. Consequently, their relative prices (ratio of import prices to domestic prices) increase, oil imports fall, the costs of production increase, the domestic inflation rates rise, and ouputs decline in the early periods (stagflation). The interest rate differentials change and the US dollar appreciates against all other currencies, which has a favorable impact on exports from Japan and the European countries. In the long run, ascending domestic prices gradually lower the relative prices toward their baseline positionr. For the high income oil exporters (HO) and developing countries (DC), higher oil prices and lower activity in the industrialized countries limit their exports (basically oil), restrain their GDP growth rates, but improve their capacity to increase imports. The rise in imports of HO and DC regions stimulates exports from --and economic activity in --the industrialized countries, partially offseting the initial slowdown. Thus, oil price increases are stagflationary in the short run in the industrialied countries, and their adjustment takes place in the long run.

In addition to higher imports, HO and DC regions increase their domestic absorption and improve their foreign reserves, as a result of higher oil prices. It is conceivable that their accumulation of foreign reserves increases the supply of loanable funds available to other developing countries in the international monetary system, lowers the interest rates applied to their debts, and reduces their debt service ratio. Incorporation of these interactions will increase the usefulness of the model in analysing key North-South issues.
**Table 12**

46

# THE IMPACT OF 20 PERCENT SUSTAINED INCREASE tN OIL PRICES

PERCENTAGE DEVIATION FROM THE IASELINE UNLESS OTHERWISE NOTED

||I9ts|1989|1990|1991|1992|1993|
|---|---|---|---|---|---|---|
|UNITED STATES|||||||
|REAt CNP<br>**.......**|-0.24|-0.2|-0.07|0.05|0.14|0.18|
|REALDOMESTIC<br>DEMAND<br>.-<br> <br>|0.26|-0.27<br>|-0.18<br>|-0.09<br>|-0.C3<br>|0.<br>|
|GNPDEFLATOR<br>**1/**.0.24<br> <br>||-0.03|-0.01<br>|0.05<br>|0.14<br>|0.23<br>|
|**SH**TERM INTERESt RATE.NOMINAL<br>2/...<br> <br> <br>|0.02|0.02<br>|0.05<br>|0.07<br>|0.1<br>|0.14<br>|
|EFFECTIVE EXCHANGE<br>RATE<br>.0.72||0.78|0.85|0.95|1.06|1.19|
|TOTALIMPORTS.VOLUE..|-0.33<br>|-0.73<br>|-1.01<br>|-1.26<br>|-1.48<br>|-1.67<br>|
|TOTAL EXPORTS.VOLUME<br>.-<br>|0.12|-0.08|0.|0.07|0.1|0.07|
|TRADE BALANCE.<br>VALUE3/..........<br>..|-5.3<br>|-4.77|-4.34|-3.98|-3.67|-3.51|
|TERMS OFTRaE|-122|-148|-17|-189|-204|-213|
|.<br>CURRENT<br>ACCOUNT<br>BALANCE<br>3/<br>.-<br> <br>|.<br>5.3<br>|.<br>-S.41<br>|.<br>-5.78<br>|.<br>-6.44<br>|.<br>-7.03<br>|.<br>-7.84<br>|
|TOTAL REAL**NET**PRIVATEWEALTH<br>4/|-37.5|-S5.69<br>|-70.31<br>|-79.81|-80.13<br>|-75.31<br>|
|COv.FINANCIAL BALANCE<br>4/<br>.3.89||4.94|5.23|5.7|S.99|6.6|
|GERMANY;|||||||
|REALGNP.|-0.08|-0.07|0.01|0.08|0.1|0.08|
|REALDONESTIC<br>DEMAD.-<br> <br>|0.23|-0.23<br>|-0.16<br>|-0.08<br>|-0.05<br>|-0.05<br>|
|GNPDEFLATOR<br>1/<br>.0.09<br> <br> <br>||0.15<br>|0.22<br>|0.3<br>|0.36<br>|0.39<br>|
|**SH TERAd**<br>INTERESTRATE.NOMINAL<br>2/<br> <br>|0.04<br>|0.06<br>|0.1<br>|0.15<br>|0.2<br>|0.24<br>|
|EXCHANGE<br>RATE**..................**<br>**...**<br>|-0.63<br>|-0.69<br>|-0.75<br>|-0.84<br>|-0.94<br>|-1.05<br>|
|TOTALIMPORTS.<br>VOLUME<br>**..............**<br> <br>|**-0.43**|-0.52<br>|-0.49<br>|-0.44<br>|-0.39<br>|-0.38<br>|
|TOTAL EXPORTS.VOLUME<br>.0.01<br>TRADEBALANCE.VALUE 3/<br>.-<br>|2.59<br>|-0.03<br>-2.67<br>|0.02<br>-2.48<br>|0.05<br>-2.29<br>|0.05<br>-2.05<br>|0.02<br>-1.78<br>|
|TERMS OFTRADE.<br> <br> <br> <br>|-0.93<br>|-0.97<br>|-0.97<br>|-0.93<br>|-0.86<br>|-0.78<br>|
|CURRENT<br>ACCOUNT<br>BALANCE<br>**(sUS)**3/...<br> <br> <br>|-1.96<br>|-2.1<br>|-2.06<br>|-1.94<br>|-1.83<br>|-1.64<br>|
|TOTAL REAL**NET**PRIVATE<br>WEALTH<br>4/|-37.25|-42 75|-46.63|-44.38|-50.56|-53.06|
|GOV.FINANCIAL<br>BALANCE<br>4/ .1.67||1.91|1.69|1.43|1.21|<br>1.34|
|JAPAN:|||||||
|REALGNP.|**-O.1**|-0.06|0.01|0.06|**O.O**|0.01|
|REAL DOMESTIC<br>DEND..-|0.23|-0.21<br>|-0.15<br>|-0.1<br>|-0.09<br>|-0.11<br>|
|GNP DEFLATOR<br>**1/**.0.09<br> <br>||0.17<br>|0.26<br>|0.33<br>|0.37<br>|0.38<br>|
|SH TERM INTERESTRATE.NOMINAL<br>2/|0.03|0.06|0.11|0.16|0.2|0.25|
|EXCHANGE<br>RATE<br>**.................**|**0...**<br>-0.72|-0.78|-0.84|-0.93|-1.03|-1.14|
|TOTALIMPORTS.<br>VOLUME<br>**..............**<br>|-0.39<br>|<br>-0.59<br>|-0.68<br>|-0.72<br>|-0.74<br>|-0.76<br>|
|TOTALEXPORTS. VOLUME<br>**..............**|0.3|0.29|0.26|0.2|0.11|0.01|
|TRADEBALANCE,<br>VALUE 3/.<br>|-0.<br>|-0.43<br>|-0.41<br>|-0.4<br>|-0.4<br>|-0.43<br>|
|TERMS OFTRADE.<br> <br> <br> <br>|-2.3<br>|-2.22<br>|-2.17<br>|-2.09<br>|-1.98<br>|-1.91<br>|
|CURRENT<br>ACCOUNT<br>BALANCE<br>(SUS)3/|-4.58|-4.29|-4.22|-4.16|-4.32|-4.59|
|TOTAL REALMETPRIVATE WEALTH<br>4/|-6.63|-7.74|-8.77|-9.44|-10.48|-11.52|
|**COv.**FINANCIALBALANCE<br>4/ .0.18||0.16|0.08|-0.|-0.1|-0.12|
|OTHER LARGE INDUSTRIAL<br>COUNTRIES:|||||||
|REAL GNP.-|0.19|-0.18|-0.08|0.01|0.03|0.|
|REALDOMESTIC<br>DEKAND<br>**...............**|-0.25|-0.26|-0.17|-0.08|-0.05|-0.06|
|GNPDEFLATOR<br>**1/**.0.31<br>||0.16<br>|0.24<br>|0.32<br>|0.37<br>|0.38<br>|
|SR TERM INTEREST RATE.NOMIMAL<br>2/|0.03|0.05|0.1|0.15|0.2|0.24|
|<br> <br>EXCHANGE<br>RATE.-|<br>0.52|<br>-0.56|<br>-0.62|<br>-0.7|<br>-0.8|-0.91|
|TOTALIMPORTS. VOLUME.<br>|-0.2<br>|-0.33<br>|-0.37<br>|-0.38<br>|-0.38<br>|-0.39<br>|
|TOTAL EXPORTS.<br>VOLUME<br>..............|0.02|-0.01|0.01|0.01|-0.03|-0.08|
|<br> <br>TRADEBALANCE.<br>VALUE3/ .-|<br>1.8|<br>-1.81|<br>-1.35|<br>-1.36|<br>-1.82|-2.55|
|TERMS OFTRADE<br>.-|0.39|-0.46|-0.46|-0.44|-0.42|-0.41|
|<br><br>CURRENT<br>ACCOUNT<br>BALANCE<br>**(SuS)**3/<br>TOTAL REAL**NET**PRIVATE WEALTH4/|<br>-1.27<br>2207|<br>-1.34<br>3042|<br>-1.09<br>3216|<br>-1.24<br>3131|<br>-1.73<br>-3106|-2.48<br>-33|
|<br>GOV. FINANCIAL<br>BALANCE<br>4/ .2.26|-.|-.<br>3.27|-.<br>3.58|-.<br>4.2|.<br>4.94|.<br>6.36|

**1/** INFLATION DIFFEREVCE FROM THE BASELINE.

2/ BASIS POINTS DIFFERENCE FROM BASELINE. ONE FULL PERCENTAGE POINT IS EQUIVALENT TO 100.

3/ DIFFERENCE FROM THE BASELINE.

4/ LEVEL DEVIATION FROM THE BASELINE IN BILLIONS OF LOCAL CURRENCY. A NEGATIVE NUMBER MEANS AN IMPROVEMENT IN THE BUDGET DEFICIT.
Tahle 12 47

# THE IMPACT OF 20 PERCENT SUSTAINED INCREASE IN OIL PRICES

# PERCENTAGE DEVIATION FROM THE BASELINE UNLESS OTHERWISE NOTED

|.______<br>..-..-..-..-<br>_.--.._-__--_----......--------......----....-.-------___________________-.....<br>--|---------.......-....-.....--...-..-..--<br><br>_---------------_-_----<br>|-...-..____.______________<br>----------_-._,----_-_,--<br>|___<br>---__-_-_-_----||||
|---|---|---|---|---|---|---|
||1988|1989|1990|1991|1992|1993|
|SMALL tNDUSTRIAL<br>COUNTRIES:|||||||
|REAL GNP<br>........................|... 0.01|0.15|0.13|0.11|0.07|<br>0.06|
|REAL ONMESTIC<br>DEND ..............|.<br>-0.2|-0.08|-0.04|-0.02|<br>-0.04|<br>-0.05|
|GNP DEFLATOR I/<br>..................|..<br>0.15|0.28|0.37|0.41|0.39|<br>0.36|
|SH TERM INTEREST<br>RATE.NOMINAL<br>2/<br>...|<br>0.06|0.11|0.15|0.19|0.23|<br>0.27|
|EXCHANGE<br>RATE<br>....................|.. -1.11|-1.21|-1.33|-1.47|<br>-1.62|<br>-1.77|
|TOTAL IMPORTS<br>VOLUME|-026|-034|023|12|<br>|<br>|
|.<br> <br>.............|.<br>.|.|-.|-0.|<br>-0.08|<br>-0.06|
|TOTAL EXPORTS.<br>VOLUME<br>.............<br>|.<br>0.22|0.19|0.17|0.l8|0.19|<br>0.21|
|TRADE BALANCE.<br>VALUE 3/<br>............|<br>-1.55|-0.4|-1.08|-1.74|<br>-1.8|-1.57|
|TERMS OF TRADE<br>...........<br>........|.. -0.55|-0.46|-0.39|-0.32|<br>-0.28|<br>-0.24|
|CURRENT<br>ACCOUNT BALANCE<br>(SUS) 3/<br>...<br> <br>|<br>-0.49<br>|0.45<br>|-0.02<br>|-0.53<br>|<br>-0.65<br> <br>|<br>-0.62<br> <br>|
|TOTAL REAL NET PRIVATE<br>WEALTH 4/<br>...|<br>-13.11|-7.43|-5.07|-3.65|<br>-2.42|<br>-0.98|
|GOV. FINANCIAL<br>BALANCE<br>4/|.......<br>I.|...<br>S<br>I<br>I .9|2.68|4.1|5.38|<br>6.43|
|DEVELOPING<br>COUNTRIES:|||||||
|REAL GDP<br>........................|...<br>8<br>-<br>O.<br>O|<br> <br>-0.14|-0.18|-0.22|<br>-0.25|<br>-0.28|
|REAL DOMESTIC<br>ABSORPTION<br>...........|<br>0.12|0.12|0.08|0.03|-0.02|<br>-0.07|
|REAL GROSS INVESTMENT<br>.............|.<br>0.68|0.78|0.78|0.74|0.69|<br>0.63|
|GNP DEFLATOR<br>1/<br>.0.48||0.14|0.2|0.27|0.31|<br>0.33|
|TL CON. EXP. INCL. PUBLIC<br>.-|0.01|-0.04|-0.08|-0.13|<br>-0.19|<br>-0.24|
|STOCK OF DEBT<br>....................|..<br>0.09|0.27|0.44|0.61|0.78|<br>0.97|
|STOCK OF NET DEBT<br>.-|0.2|-0.25|-0.24|-0.21|<br>-0.18|<br>-0.14|
|NET FOREIGN<br>ASSETS 3/<br>.2.3<br>||2.96|3.07|2.92|<br>2.6|<br><br>2.12|
|VOLCME<br>Of TOTAL IMPORTS<br>.0.62||0.67|0.59|0.44|0.28|<br>0.12|
|VOLLME<br>OF TOTAL EXPORtS<br>.-|0.34|-0.56|-0.66|-0.72|<br>-0.79|<br>-0.85|
|TRADE BALANCE.<br>VALUE 3.5/<br>.2.52||1.06|0.86|1.08|<br>1.17|<br>1.29|
|TERMS OF TRADE<br>.1.33||1.33|1.3|1.24|<br>1.13|<br>1.02|
|NET INTEREST<br>PYMT 3.6/<br>............|.<br>0.|0.18|0.51|0.96|1.19|<br>1.46|
|CURRENT<br>ACCOUNT BALANCE<br>3/<br>.2.3||0.66|0.11|-0.15|<br>-0.32|<br>-0.48|
|HIGH INCOME<br>OIL PRODUCERS:|||||||
|REAL GOP<br>........................|...- 0.53|-0.93|-1.28|-1.62|<br>-1.99|<br>-2.36|
|REAL DOMESTIC<br>ABSORPTION .<br>.0.22||0.31|0.31|0.23|0.05|<br>-0.19|
|NET FOREIGN<br>ASSETS 3/ .<br>.11.11||22.68|34.91|4802|<br>6213|<br>775|
|<br> <br> <br>VOLUME<br>OF TOTAL IMPORTS .<br>.0.48|<br>|<br>0.68|<br>0.69|.<br>0.5|<br>.<br>0.12|<br>.<br> <br>-0.43|
|VOLUME<br>Of TOTAL EXPORTS .<br>.-|1.45|-2.5|-3.39|-4.21|<br>-5.03|<br>-5.83|
|TRADE BALANCE.<br>VALUE 3.5/<br>.11.01||<br>10.51|<br>10.08|<br> <br>9.82|<br> <br>9.75|<br><br> <br>9.93|
|TERMS OF TRADE<br>.<br>.16.45||16.67|16.6|16.47|<br>16.3|16.13|
|CURRENT<br>ACCOUNT BALANCE<br>3/<br>.11.11||11.57|12.23|13.11|<br>14.1|15.38|
|INTERNATIONAL<br>PRICES 7/:|||||||
|PRICE OF OIL IN DOLLARS<br>.20.||20.|20.|20.|20.|20.|
|PRICE INDEX<br>OF COMMODITIES<br>.-|0.79|-0.59|-0.25|0.05|0.24|<br>0.38|

1/ INFLATION OtFFERENCE FROM THE BASELINE.

3/ DIFFERENCE FROM THE BASELINE.

5/ NEGATIVE NUMBERS ARE DEFICIT AND POSITIVE NUMBERS ARE SURPLUS. IN BILLIONS OF US DOLLARS.

6/ NEGATIVE NUMBERS ARE REDUCTION AND POSITtVE NUMBERS ARE INCREASE IN INTEREST PAYMENTS. IN BILLIONS OF US DOLLARS. 7/ DENOMINATED INDICES IN TERMS OF US DOLLARS. 1980-1.
# IV. Validstion of **the** Model: a Structural **Sensitivity** Analysis

In the last section, we carried out ah -valuation of MULTIMOD by comparing its results with theoretical expectations and results of other macroeconometric models. We now turn to an assessment of its structural features. The broad aim of such a structural sensitivity anatlysis is to identify the crucial behavioral determinants of the model, that is, those exogenous variables and parameters which have a dominant influence on endogenous variabIes of interest. Since MULTIMOD is a moderately large model and structural sensitivity analysis is very computatiorintensive, the analysis is carried through for selected variables and equations on!y. Thus the aim of this section is not to attempt a comprehensive validation of the model, but to give a flavor of the relatively recent techniques for analyzing macroeconometric models.30 We start with an examination of the linearity and symmetry properties of the model, and go on to an investigation of its structural sensitivity homogeneous dynamic,elasticity-scaledmultiplier, and parameter perturbation analyses.

# A. Symmetry and Linearity Tests

# _'. Zellner-Peck Tests for Linearity and Symmetry_

In order to study the linearity and symmetry of the model we employ a technique developed by Zellner and Peck.3<sup>1</sup> According to them: 'Symmetry is of interest for its own sake while a finiing of linearity or near-linearity may be useful in efforts to simplify the model's structure."

> 3tn carrying out the structural sensitivity analysis we closely follow methods outlined by Kuh and others: Kuh and Neese (1982) and Kuh, Neese, and Hollinger (1985). See also 'TROLL Program: LIMO (Linear Model Analysis) Technical Report No. 34."

# 3bee Zellner and Peck (1973)
49 With a finer model we can calculate the characteristic roots and vctors, which provide impotant informtion. Llonar models are aso computationally leo expensive. More Importantly, in linear models multiplion would **be** the same whatever the initi values of the ondogenous variables whereas in non-linear models the multipliers depend on the size of the vartion of the particular exogenous vaible as weU as starting values of all the ondogenous variables (Pindyck and Rubinfield, 1981 p. 393).

The Zeloner-Peck linearity measure (denoted LIN) and symmetry measure, (denoted SYM) are average over a period of the extent to which the changes in model responses from the "base Une", caused by perturbations, deviate from symmetry or linearity. First, the base run is obtained by running the model with historica; data over a period T. Then the model is run successively with pro-selocted changes in policy control vairables of interest. A deviation from the base run for a variable y in period I is defined by 31*s= V.A - I.e , **(5)** rh~ ~~~~~~~~~~h~ where yoo = value of y in period t for the base run; and **US,A** = value of g in period t with a policy control changed by A rmuits.

The relative measure of model symmetry, SYM, in defined as: 616s.. + he .- Al **SYM(A,_ -)** = **(61** + 161.-At) **=1** Note that if the response of _t_ is symmetric, _6V.,_._ = -5p,,A, and thus a value of SYM close to zero implies that the model is highly symmetric in the response of variable y to the policy control chosen.

Similarly, the relative measure of linearity, LIN, is defined as:

> E2 _I_<sup>_8_</sup> _I.. ^- k61,,&|_ LIN(kA,A) - **,1** (7) _I1(16v,.lAI_ + |

where _k_ is an amplification factor. For a given A, a small value of _k_ would test local linearity and a large value, global linearity. If the model response is linear, _6yJ,,&_ = _k6yt.,a_ and, hence, a value of LN near zero indicates high degree of linearity.
_50_

# _2. Empirical Results of Symmetryand Linearity Tests_

To test the symmetry and linearity of MULTIMOD two exogenous variables were chosen for perturbation: the German real government spending and the United States target level of the monetary base. The selection of Germany in the first case is to test the symmetry and linearity of the model with respect to perturbations in a smaller economy.

Perturbations introduced in the German government expenditures were ±1 and _±5_ percent of GNP, and those in the U.S. monetary target base were ±1, _±5,_ and ±10 percent for seven periods.32 The SYM and LIN measures for both the perturbations are shown in Table 13. The SYM values are quite low indicating that the model is, in fact, highly symmetric. Treating a SYM value of 0.5 as the threshold for asymmetric behavior, only a few variables respond asymmetrically, most notably the implicit GNP price deflator (PGNP) for all the blocks except the United States. The PGNPs are symmetric when the perturbations have a magnitude of one percent, both for monetary and fiscal shocks. But they become asymmetric as the magnitude of the perturbation rises. This is more true for monetary than for government perturbation, presumably because the influence of a monetary stimulus on prodfuction capacity and prices is less direct than a fiscal stimulus. The asymmetric behavior r'l PGNP reflects the extent of price rigidity. Short-term interest rates and manufactures export deflators also show some asymmetric behavior. The former is just a byproduct of the asymmetry of PGNP while the latter is due to its own downward rigidity. Figures 6 and 7 display the deviations of GNP and GNP deflators from the baseline for government and monetary perturbations.

Table 13 also presents the measures of linearity (LIN). It may be recaUed that the higher the deviation of LIN from zero, the more nonlinear is the behavior of the variable. The LIN values obtained suggest that the behavior of the model is more linear in reaction to government than to 3<sup>2</sup> the simulations of the model always converged faster for positive perturbations.
Page 1 of 3 Table 13

# ZELLNER-PECK SYMMETRY AND LINEARITY<sup>MEASURES FOR MULTIMOD</sup>

1. Perturbations of Germany's Real<sup>Goverruent Expenditures</sup>

US US US US US US US US JA JA JA JA JA JA CUP A PUP IL aS IERN GOEF INVEST CNP PWP aS ER PXN CUSIAL STN(41,t0.0097 0.0093 0.0132 0.0086 0.0061 0.0041 0.0354 0.0086 0.0047 0.0166 0.0062 0.0277 0.0161 0.0302 STn(.S.-5) 0.2292 0.5879 0.1978<sup>0.2545 0.1899 0.0448 0.2868 0.6236 0.3063 0.0757 0.1498 0.2016 0.0367 o.6aso</sup> LlI*S,*I) 0.1436 0.1492<sup>0.0001o.oonZ</sup> 0.0019 0.0000 0.0489 0.0634 0.0133 0.0001 0.0017 0.0002 0.0001<sup>0.0045</sup> 0.3083 0.1656 0.1744 1.0286 0.0985 0.1079 LlIM-S,1 *Xa 0.3513 1.1093<sup>0.3924 0.7677 0.3303 0.0689 1.028S0.8299</sup> 2. Perturbations of the United States<sup>Target Monetary Base</sup> US US US US US US US US JA JA JA JA JA JA CP A PCNP IL aS HERN GOEF IMVST CUP PCNP aS ER PXN CURDAL W1N1,-1) 0.0096 0.0286 0.0286 0.0112 0.0097 0.0091 0.0115 _0.0372_ 0.0189 0.3516 0.04SO 0.0083 0.0266 0.0369 _sy(*s.-S)_ 0.0494 0.0460 0.0248 0.0740 0.0498 0.0983 0.0506 0.0530 0.0430 0.1052 0.0557 0.0068 0.07m 0.0124 SYNsO.- 10) 0.0690 0.0146 0.0165 0.3165 0.1298 0.2314 0.0199 0.0369 0.2530 o.9548 0.4662 0.o403 0.5618 o.oo09 LIU(10,1) 1.5415 1.7442 1.810? 0.8808 0.6063 1.5516 0.4313 1.5148 1.4992 1.628? 1.5730 1.5861 1.588 1.8785 LI-lO,A) _1.5728_ 1.7419 1.8051<sup>0.6310 0.4952 1.6332 0.4129 1.5258 1.6038 1.9010 1.7331 1.5978 1.7256 1.8824</sup> LIN(10.*5) 0.0161 0.052r 0.0184<sup>0.2572 o.0452 0.0030 0.0735 0.0373 0.11810.1171 0.0948 0.0430 0.0541 0.0332</sup> LIA(:5 $) 1.5535 1.7563 1.8073<sup>1.0770 0.5650 1.5528 0.4448 1.5305 1.4451 1.6022 1.5355 1.5698 1.5682 1.874S</sup>

***** SYR is symuetry measure.<sup>A value of ST near zero indicates</sup> high symmetry. ***** LIN is Linearity measure. A value of<sup>LIN near zero indicates</sup> perfect linearity.

- Notation: US (United States),<sup>JA (Japan), GR (Germany),</sup> LI (Other G-7), SI<sup>(Small Industrialized</sup> Countries, DC (Developing Countries). GNP (Gross National<sup>Product), PGNP (GNP deflator),</sup> RS (short term interest<sup>rate), RL (long term interest rate).</sup>

- A (domestic absorption), MERM (weighted effective exchange rate), INVEST<sup>(gross investment),</sup> GDEF (nominal goverrnment deficit) price)

- CURBAL (current account),<sup>PXM (mfg export prices), ER (exchange rate), IN (import volume), POIL (oil price), PCOM (Cominodity</sup>

**I-**
Page 2 of 3 Table 13 ... Perturbatlrons of Germany's Real Govermnent Expenditures CR CA CR CR GR CR Li LI Li Li Li Li CMP PGUP lS ER PXN CURBAL CUP PUP RS ER PXN CURBAL STN(+1,-1) 0.008U 0.0212 0.0050 0.0048 0.0216 0.0477 0.0157 0.0246 0.0082 0.0131 0.0208 0.0455 SVN(+5, 5) 0.0609 0.0806 0.0366 0.0471 0.0875 0.2331 1.0437 0.0435 0.1282 0.0598 0.0541 0.1979 Lo(.+S5.l) 0.0953 0.0001 0.0028 0.0000 0.0001 0.0241 0.1118 0.0002 0.0027 0.0000 0.0002 0.0033 LjIt5,-1) 0.2621 0.2141 0.2436 0.1200 0.2802 0.0767 0.6575 0.2921 0.3097 0.0828 0.2745 0.1017 ... Perturbations of the United States Target Monetary Base

||- -<br>UP|CR<br>PGNP|CR<br>aS|CR<br>ER|CR<br>PXN|CR<br>CURBAL|Li<br>CGP|Li<br>PGNP|Li<br>RS|LI<br>ER|Li<br>PXN|Li<br>CURBAL|
|---|---|---|---|---|---|---|---|---|---|---|---|---|
|STNCtl,l)|0.0308|0.2241|0.0628|0.0075|0.0372|_0.0077_|0.0827|0.1341|0.0748|0.0070|0.0349|0.0230|
|SYT(M5.*5)|0.0419|0.1756|0.0518|0.0059|0.0953|0.0045|0.0283|0.154|0.0537|0.0057|0.0945|0.0595|
|SYN(C40. 10)|0.3253|1.5077|0.6781|0.0356|0.6645|0.0256|0.1956|0.9623|0.4073|0.0335|0.5857|0.0913|
|LIC1O1,)|1.5671|1.5395|1.5974|1.5908|1.6034|1.6441|1.8818|1.6582|1.7612|1.5785|1.4998|1.9566|
|LIU(-10.-1)|1.6620|1.9140|1.7937|1.6010|1.7650|1.6362|1.8970|1.8327|1.8413|1.5884|1.6572|1.9595|
|LIN(*10,+5)|0.1954|0.1154|0.1626|0.0475|0.0519|0.0470|0.1513|0.0926|0.1084|0.0462|0.0546|0.1971|
|LIN(+5,+1)|1.4427|1.4910|1.5458|1.5730|1.5845|1.6286|1.8639|1.6289|1.7357|1.5607|1.4760|1.9498|

Un
Page3of 3 Table 13 ... Perturbations of Germany's Real Goverrnmnt Expenditures SI Si SI Si Sl Si gO DC DC DC GNP PGRP RS ER PXN CUR8AL GDP GDP PGNP IN PCOI POIL SYNCO1.-O1 0.0079 0.0243 0.0050 0.0181 0.0208 0.0652 0.0079 0.0697 0.0198 0.0279 0.0236 0.0184 SYN(S, S) 0.2874 0.0433 0.0846 0.0572 0.0451 0.3429 0.2572 0.1355 0.0406 0.1628 0.0488 0.0167 L**5.*1) 0.0711 0.0002 0.0023 0.0000 0.0001 0.0105 0.0141 0.0446 0.0001 0.0343 0.0001 0.0001 Llrk-5.-1) 0.2394 0.2255 0.1957 0.0022 0.2262 0.1126 0.3639 1.2232 0.2602 0.5686 0.2147 0.1419 ... Perturbations of the United States Target Monetary<sup>Base</sup> Si Si St Si SI Sl NO DC DC DC GNP PGRP RS ER PXE CURBAL GOP GDP PGNP IN PCON POIL SYN(.1.1) 0.0225 0.1494 0.0440 0.0075<sup>0.0625 0.0390 0.0134 0.0223 0.0714 0.0091 0.0110 0.0112</sup> Sym(+S,.S) 0.0650 0.1170 0.0395 0.0061 0.0937 0.0309 0.0863 0.1116 0.0487 0.0838 0.0080<sup>0.0146</sup> $'TMC.10.*1 **0** .1981 1 0797 0.4670 0.0226 0.4916 0.0886 )<sup>0.1753 0.4978 0.7410 0.1142 0.0094 0.0320</sup> LIN10,1) 1.6270 1.6153 1.6390 1.5845 1..091 1.7119<sup>0.9033 1.7252 1.7366 0.6758 1.5659 1.6091</sup> LIN(-10.,1) 1.6533 1.6972 1.7225 1.5901<sup>1.6947 1.7241 0.9538 1.9066 1.7410 0.7674 1.5640 1.6147</sup> LIN(+10,+5) 0.1957 0.2273 0.0650 0.0397<sup>0.0656 0.0496 0.1549 0.2033 0.0619 0.0563 0.0310 0.0366</sup> LIN(*S,+1) 1.4828 1.5624 1.6148 1.5695 1.6061 1.7015<sup>1.02241.5905 1.7228 0.7252 1.5537 1.5960</sup> w
FIGURE __________ 6.1 54

- 23 -

<!-- Start of picture text --> Five Percent<br>GNP/CDP Deviations from the Bse Run After (+/-)<br>Changes in the German ReAl1s Government Exoenditures in MULTIMOD<br>CR GNP<br>US GNP<br>_20.~~~~~~~~~~~~~~~~~~~~~4<br>im~~~~~~ t<br>tlo"tI_tt * ts W t lo"<br>2-U<br>0-m<br>1-4<br>Si GNP<br>JA GNP<br>-to<br>2.~~~~~~~~~~~~~~~~~~~~~~2<br>to<br>e UIU§W * ase a we ep .<br>DC GDP<br>2.~~~~~~~~~~~~~~~~~~~~I U GNP<br>tin. tin. twa tinsuo 8to ls Ds uMP<br>tP Ut_ Nitwite<br><!-- End of picture text -->
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|---|---|
_I_ i _I_ -� **U** I i **0�** _i_ **0** _a t a_ I C... I * _ z 0 **0** 0 0 01 -U I -u _I_ -U * 3 3 o **0 0** 3 * I i **i** _i_ I _aw,s_ **U awg** _-_ m - **I N I I N** - **I 0** - **N** _a_ a * ± * ± * * _a_ . * -a * - **N** * ± ± .. **I** *. **I I I** .... **. - _.a._ - - _a_ I I. *** 0 0U-** _a a a_ 0 0 t- 0 o o **a** Z **0** -� a U I -u 3 o 3 **0** * **0 'U, i** I i I-' U' j j a
FIGURE 7.2 <!-- Start of picture text --> 57<br><!-- End of picture text --> <!-- Start of picture text --> GNP Deflator Deviations from the Base Run.<br>for Six Blocks. After (+/-) 10 Percent Chanees<br>in the United States Taraet Monetary Base in MULTIMOD<br>US PGNP CR PGNP<br>0.0011<br>0.004<br>0.004<br>-001~~~~~~~I:<br>0.000<br>i.~~~~~~~~~~~~~~~~~~~~~~~~-.0 4<br>-0.001<br>o Ie ooI 4 P'n *n n<br>JA PGNP LIPGNP<br>owe 0.06. ~~~~~~~~~~~~~~~~~~~~~0.4000 -eJ<br>0.0? @000* .n<br>0.063 0.0?3<br>0.00. 0.004-<br>0.04 £~~~~~~~~~~~~~~~~~~~~-.0<br>-0.004<br>o0.eaw- o0._004<br>0.003 -e.ooe<br>011 0.0 00* 103 11 1<br>-0.002.<br>-0002000 O. *O?: ~~~~~~~~~~~~~~~~~~~~0.003<br>0.004: e-0.00. 0w ~~~~~~~~~~~~~~~~~~~~0.0034 e "o v w.0<br>0.04 -0-<br>0.003, 000 008 l0o 00 000 124oeot00<br>0.002~ ~ ~~~~~~~~~~~~~~0<br>-0.0010-.01<br>-002<br>-*.406 -0.007 ~~~~~~~~~~~~~~~~~~~~~~-0.00*~~~~~~~~~~~~~~~~~~~~-0.004<br>19113 IN4 in~~~~~~0In 0 I 0ol3 0004.00 0006 06<br>Ki ot PO11<br><!-- End of picture text -->
**53**

monotary perturbations. Second, the behavior of the model with respect to both perturbations is increasingly nonlinear when the perturbation becomes more negative.

# **B. Sensdtvity Analysis** of the **Model**

This section investigates the structural sensitivity of MULTIMOD. Specifically, by sensitivity we mean changes in ^he time patP of the endogenous variable(s) induced (1) by changes in the parameter values (parameter sensitivity analysis), (2) by changes in the exogenous variables (multiplier analysis), and (3) by the presence of lagged or lead variables (homogeneous dynamics analysis). We start with some details regarding structural sensitivity analysis and, in the next part, present some empirical results for MULTIMOD.

# _I. Sansilivity_

The general nonlinear dynamic model may be written as _f(Yt, th-_ 1, VS++l. ) = **0** (8)

> where _f_ = a vector-valued function which may be nonlinear;

> vt = the vector of current endogenous variables;

y,_ = the vector of endogenous variables lagged one period; _V+1_ = the vector of endogenous variables with a one-period lead; _xt_ = the vector of current exogenous variables; and = the vector of constant coefficients.

linearing the model by taking the first order lIylor-series approxdmation in the neighborhood of the baseline simulation time patb, we get .

EXAV _= PAyt-,1_ **_G+_** _s +j +_ **_HAz,_** _+ jAe_

# **_(9)_**
_59_

# wbuac A **stands for deviation in the** vicinity of baeHne **simulation time path, an**

<!-- Start of picture text --> F (ad)<br>H ax# and<br>J-(dp)'<br><!-- End of picture text --> It niay be noted that, in general, the matrices of first derivatives _E, F, G, H,_ and J are functions of Ye, '#- 1 ye+,, _zt,_ and p, and vary with time.

Premultiplying equation (9) by E-1, we get the reduced form of the deviation model as <!-- Start of picture text --> (10)<br><!-- End of picture text --> where A _=_ EB-F, etc.

Equatiou (10) shows that the "sensitivity," that is, the deviation from the baseline of the endogenous variable ye is composed of

- Parameter perturbation effects, DAN;

- Multiplier effects C,xt; and

- Homogeneous dynamics governed by lagged term _A5y,-.L_ and forward term _BEAYt+,._

This decomposition is exhibited schematically in Diagram 1.

<!-- Start of picture text --> AMWyp Aer 1<br><!-- End of picture text --> Diagram 1
60

# _2. Tools of Estimation_

LIMO h a 'task' within TROLL that provides sensitivity analysis of dynamic system models.<sup>3</sup> 3 It takes a nonlinear TROLL model as an input and provides a linearized solution by evaluating the first order derivatives around the simulation path. This solution then becomes the basis for linear analysis. It may be noted that, once the nonlinear model is linearized at a particular point in time, the perturbation-related terms _(CAxj_ and DAN) remain fixed, and the dynamic behavior of the linearized model is governed by the matrices **_A_** and _B._ LIMO implements parameter sensitivity, multiplier and dynamic analyses by diagonalizing these matrices through their characteristic roots and vectors.

TESTMOD is another TROLL task that provides more limited sensitivity tests of dynamic simultaneous equation systems. The major difference between LIMO and TESTMOD is the estimation of linearized model solutions by LIMO prior to any sensitivity analysis. However, for models which are reasonably linear, the solutions of the two TROLL tasks are generally very close.

# _3. Results_

This part examines the structural sensitivityof MULTIMOD. The parameter perturbation results are presented first, followed by the multiplier analysis results. To facilitate the interpretation and comparability of the results, the deviation of the results from the baseline are reported in elasticityscaled form.34 33 See TROLL Program, LIMO, Technical Report No. 34, 1983, and TROLL Program TESTMOD, Peter L.B. Hollinger and John Neese.

3tlasticity is one form of scaling. Depending on the nature and units of the variables involved, different forms of scaling may be employed, for example, ratio scaling, beta scaling (See Pindyck (1985). For details on elasticity scaling, see Kuh, _et al,_ (1985).
61

# _a. Parameter Sensitivity_

For purposes of simplicity as well as economy of computer resources, the parameter sensitivity analysis of MULTLMOD has been limited, in the current study, to the money demand equations, which have the following form ln(M/P) ' mo+ m1 ln(GNP) + m2 RS + msRS-I+ m4ln(M_1 /P_l) where M/P denotes real balances and RS denotes the short-term interest rate. Parameter perturbations are calculated by comparing a baseline simulation to a series of simulations in which the money demand coefficients are perturbed, one at a time, by I percent.<sup>5</sup> The elasticity responses to perturbations of the five coefficients are exhibited in Table 14 for GNP and PGNP price deflator (the results for three other endogenous variables are exhibited in Appeudix B), and in each case, for three different blocks. With some exceptions (e.g., GNP deflators), the elasticity responses reached their respective first peaks in the second period. The GNP deflators reached their first peaks in the third period. The majority of elasticities damp down beyond the seco4d and third periods. In some cases, after experiencing a trough, the elasticity responses reached a second peak in period 8 or 9 (e.g., GNP deflator).

As is evident from Table 14, the properties of the dynamic coefficients are of primary importance in determining the elasticities. The endogenous variables listed in the table respond with greater elasticities and higher oscillations to the perturbation of m4 the coefficient of the 3kuh and Neese (1979) examined perturbations of the order of 0.001, 0.01, 0.1, 1, 10, and 20 percent. But, after weighing conflictingnumerical and analytical considerations, they finalyselected a perturbation by I percent as being nearly optimal, because it was sufficientlylarge to produce changes in the time paths of endogenous variables which were clearly distinguishable from rounding errors without being too large to invalidate the arc approximations to the actual elasticities. Further, it was sufficientlysmall so that the higher order terms arising out of nonlinearities could be considered negligible.
## Table 14

# PERTURBATION OF IHE PARAMETERS OF THE MONEY DEPAND EUATIONS AND THE ELASTICItY RESPONSES OF GUNP

# 1. GNP

|||||||||||Page|1 of 2|
|---|---|---|---|---|---|---|---|---|---|---|---|
|||||||PER|IOD|||||
|REFERtENCE<br>|PERTURBED<br>|<br>-<br> <br>||||||||||
|VARIABLE|COEFFICIENT|<br>1|2|3|4|5|6|7|8|9|10|
|INTERCEPT|JA<br>MO Li l<br>US|0.14<br>0.14<br>0.31|0.45<br>-<br>0.43<br>0.20|-<br>0.02<br> -<br>0.22<br>0.22|.<br>0.06<br>-<br>0.09<br>0.17|0.02<br>-<br>0.02<br>0.15|0.06<br>0.01<br>0.13|0.07<br>0<br>0.12|0.05<br>0<br>0.09|0.03<br>0<br>0.08|0.01<br>0<br>0.06|
|tn(GNP)|JA<br>NiLI<br>US|0.62<br>0.59<br>-<br>1.36|1.91<br>1.35<br>* 0.85|0.90<br>0.97<br>-0.98|0.30<br>0.39<br>-0.83|0.11<br>0.05<br>* 0.76|0.20<br>0.02<br>-<br>0.61|-<br>0.31<br>0.05<br>-0.52|-<br>0.26<br>-<br>0.05<br>* 0.51|-<br>0.13<br>0<br>- 0.44|-<br>0.07<br>0.03<br>-<br>0.17|
|RS|JA<br>M2 LI<br>US|.<br>0.03<br>0.02<br>0.05|-<br>0.08<br>0.08<br>0.04|0.04<br>-<br>0.04<br>0.04|-<br>0.02<br>-<br>0.02<br>0.03|0<br>0<br>0.02|0.01<br>0<br>0.02|0.01<br>0<br>0.01|0.01<br>0<br>0|0<br>0<br>0|0<br>0<br>0|
|RS(-1)|JA<br>M3LI<br>US|-<br>0.03<br>-<br>0.02<br>0.06|-<br>0.08<br>-<br>0.08<br>0.04|-<br>0.03<br>0.04<br>0.04|-<br>0.01<br>0.01<br>0.03|0<br>0<br>0.03|0.01<br>0<br>0.02|0.01<br>0<br>0.01|0.01<br>0<br>0|0<br>0<br>0|0<br>0<br>0|
||JA|2.10<br>|5.91<br>|2.34<br>|0.02<br>|1.66<br>|-<br>1.97<br>|1.47<br>|-<br>0.38<br>|1.14<br>|2.31<br>|
|tnCm(-1)/PC-1))|N4LI<br>US|1.82<br>-<br>4.31|5.87<br>2.73|3.24<br>-<br>3.05|1.41<br>-<br>2.47|0.18<br>2.03|0.17<br>-<br>1.41|-<br>0.84<br>-<br>1.11|-<br>1.14<br>-<br>1.06|-<br>1.12<br>-<br>0.99|-<br>1.05<br>0.75|

*Values less than .01 are reported as zero.

0%
Table 14

# PERTURBATION OF THE PARAMETERS OF THE NoEY DEMAND EQUATIONS AND THE ELASTICITY RESPONSES OF PGNP

# 2. GNP Deflator (PUP)

|||||||||||P|age 2 of 2|
|---|---|---|---|---|---|---|---|---|---|---|---|
|REFERENCE|PERTURBED|||||PER|IOD|||||
|VARIABLE|COEFFICIEN|T<br>1|2|3|4|5|6|7|8|9|10|
|INTER.CEPT|JA<br>_NO_LI<br>US|0.07<br>0.08<br>0.11|-<br>0.17<br>0.17<br> <br>0.22|<br>0.25<br>- 0.22<br> <br>0.39|- 0.24<br>-<br>0.18<br> <br>0.61|<br>0.14<br>0.06<br> <br>0.87|<br>0.03<br>0.11<br> <br>1.16|<br>0.23<br>0.31<br>1.46|<br>0.43<br>0.51<br>1.76|<br>0.62<br>0.67<br>2.06|<br>0.78<br>0.82<br>2.32|
|ln(GNP)|JA<br>MlLI<br>US|0.29<br>0.35<br>0.44|<br>0.76<br>0.75<br>* 0.92|<br>1.13<br>1.02<br>- 1.64|<br>1.11<br>0.87<br>- 2.57|<br>0.66<br>0.31<br> <br>3.67|<br>0.05<br>0.43<br> <br>4.87|0.92<br>-<br>1.28<br>6.15|1.81<br>-<br>2.12<br>- 7.44|2.57<br> -<br>2.15<br> <br>8.69|-<br>3.18<br> <br>-<br>3.42<br>-<br>9.85|
||JA<br>|.<br>0.01<br>|<br>0.02<br>|-<br>0.04<br>|- 0.03<br>|<br>0.01<br>|0.02<br>|0.06<br>|0.10<br>|0.13<br>|0.15<br>|
|RS|N2 LI<br>US|0.01<br>0.02|.<br>0.03<br>0.04|*0.03<br>0.07|*0.02<br>0.10|0<br>0.15|0.04<br>0.21|0.08<br>0.26|0.11<br>0.26|0.13<br>0.31|0.15<br>0.35|
||JA<br>|0.01<br>|-<br>0.03<br>|- 0.04<br>|0.03<br>|0.01<br>|0.02<br>|0.06<br>|0.10<br>|0.13<br>|0.15<br>|
|RS(-1)|143 LI<br>US|0.01<br>0.02|-<br>0.03<br>0.04|-<br>0.04<br>0.08|- 0.02<br>0.12|0<br>0.17|0.03<br>0.22|0.08<br>0.27|0.11<br>0.32|0.14<br>0.37|0.16<br>0.41|
||JA|1.03<br>|2.73<br>|4.03<br>|3.88<br>|2.02<br>|-<br>1.07<br>|-<br>4.92<br>|<br>-<br>8.75<br> <br>|- 11.83<br> <br>|- 13.69<br> <br>|
|ln(N(-1)/PC-1))|N4 LI<br>US|0.92<br>1.39|2.17<br>-<br>2.97|3.06<br>-<br>5.29|2.98<br> -<br>8.17|1.84<br> <br>11.50|0.19<br>-15.00|- 1.95<br>-18.51|-<br>4.27<br>- 21.99|-<br>6.55<br>-25.26|-<br>8.54<br>*28.21|

o'
64 autoregressive term, than to the perturbation of other coefficientsM After m4 the other dominant coefficients are n., and the intercept term mo The magnitude of many elasticities in Table 14 is lower than 0.10. These responses may be interpreted as insignificant,although they help us in detecting the trend of the responses. This is especially true for m2 and m:

# _b. Multipliers_

Two exogenous variables, US government expenditures and US target monetary base, were perturbed in order to study the multiplier effects on the endogenous variables of the model. Each perturbation is an unanticipated one percent increase in the exogenous variable relative to that of the baseline-year for the first period (impulse multiplier). Tables 15 and 16 summarize the responses of the major enaogenous variables to each perturbation.

TESTMOD, rather than LIMO, was used to estimate the multiplier responses as the linearity tests of the model (Section IV.A.2) were sufficientlyconvincing to warant the use of the less computation-intensive TROLL task. However, it limited the measurement of the multiplier responses, reported in Tables 15 and 16, to arc elasticities at each time period.

A general comparison between the responses of the government expenditures and monetary base perturbations reveals that the elasticity responses are higher and last longer for the former. The largest effects (peaks) are usually completed by the third or fourth period for the monetary perturbation, whereas, for some variables, they last longer for the government perturbation. With few exceptions the majority of elasticities did not exceed unity in either case.

Most of the endogenous vauiables responded immediately to the perturbations. Important variables to show a delayed response were developing countries debt and long-term interest rates.

36"Also, the magnitudes of the dynamic parameters determine the interim elasticity scaling. Interim elasticity is the time path followed by percent change in y in response to a once-and-forall percent2ge or amount changes of a coefficient,or in response to a one period perturbation of xi say at time t, with unchanged coefficients. The interim elasticity in the first period (t-l) is the same as impact elasticity. For sluggish dynamics (when dynamic coefficients are positive and close to one) interim elasticities remain close to their impact values; for swiftdynamics (when dynamic coefficients are close to zero) the impact elasticities soon decay." See Kuh, _el al,_ (1985), p.33.
PAGE I OF<sup>I</sup> PERTURBATION MULTIPLIER<sup>ELASTICITY RESPONSES TO US GOVERNMENT</sup> TABLE I5 PERIODS

||1|2|3|4|S|6|7|8|9|10|
|---|---|---|---|---|---|---|---|---|---|---|
|UNITED STATES|||||||||||
||||||002|-002|-002|-0.01|-0.|_0._|
|REAL GNP ...........................<br> <sup>**DEAND**</sup>|0.32<br>034|0.06<br>0.08|-0.01<br>0.|-0.03<br>-0.01|-.<br>***0.01**|.<br>-0.01<br>|.<br>-0.01<br>|<br>-0.<br>|0.<br>0|0.<br>001|
|REAL CONESTIC <sup>**...............**</sup><br>GROSS INVESTMENT<br>...................|.<br>0.33<br>|0.33<br>|0.03<br>|-0.06<br>|-0.04<br>018|-0.03<br>018|-0.02<br>O;7|-0.01<br>0.1I|.<br>0.12|.<br>0.1|
|DEFLATORI|0.02|0.08|0.14|0.17|.<br>|.<br>|.<br>|052|059|-059|
|GNP<sup>**.....................**</sup><br>IFLATION RATE<br>**.....................**|0.23|0.61<br>|0.84<br>|0.92<br>|0.41<br>017|0.1<br>017|-0.48<br>017|-.<br>O.IS|-.<br>0.13|.<br>0.11|
|<br>NUFACTURING<br>EXPORT PRICES<sup>........</sup>|0.01,<br>|0.06<br>|0.11<br>014|0.I5<br>019|.<br>02|.<br>0.27|.<br>0.32|<br>0.3|0.26|0.22<br>|
|SR TEIR INTEREST<sup>RATE.NONINAL</sup><br>......|0.39|0.13|.<br>|.<br>|.<br>||037|-036|-034|-0.32|
|<br>|003|-023|-0.27|-0.31|-0.32|-0.34|-.<br>|.<br>|.<br>|01|
|LONGTERN INTERES:<sup>RATE.MOMINAL</sup><br>**....**<br> <br>|.<br>|.<br>|002|-005|-008|-0.1|-0.1|-0.1|-0.1|-.<br>|
|NOmNIALEFFECTIVE<sup>EXCHANGE</sup><br>RATE**....**<br> <br> <br>|0.04<br>8782|0.01<br>-777|-.<br>2.95|.<br>O.5|.<br>0.33|<br>0.36|0.3|0.26<br>|0.27<br>|0.26<br>|
|CURRENT<br>ACCOUNT<br>BALANCE<br>**............**<br>|-.<br>1007|.<br>032|<br>0.53|0.55|O.S4|0.49|0.44|0.52|0.48|0.48|
|GOV. FINANCIAL<sup>BALANCE</sup><br>.............|.|.|||||||||
|GERMANY:|||||003|003|001|0.01|0.01|0.01|
|REAL GNP**.....**<br>.<br>.<br>.<br>**....**<br>|0.03|0.04<br>003|0.04<br>0.04|0.04<br>0.03|.<br>0.03|.<br>0.02|.<br>0.01<br>|<br>0.<br>|-0.<br>|-0.<br>0|
|REAL DOMESTIC<sup>DEAND .0.01</sup><br> <br>||.<br>009|0.1|0.09|0.08|0.05|0.03<br>|0.01<br>|0.<br>|.<br>|
|GROSS INVESTlENT<br>.0.03<br>DEFLATOR<sup>I</sup><br>0||.<br>0.|<br>0.|0.01|0.02<br>|0.03<br>|0.04<br>|0.04<br>001|0.03<br>-004|0.03<br>007|
|GNP <br>..<br>||002|-002|0.17|0.37|0.46|0.4|-.<br>|.<br>|.<br>|
|INFLATION**ATE**<sup>.0.18</sup><br> <br>EXPORT PRICES|0.01|.<br>0.01|.<br>0.01|0.02|0.03|0.03<br>|0.04<br>|0.04<br>|0.03<br>014|0.04<br>012|
|MANUFACTURING<br> <br>|<br>|005|008|013|0.13|0.I5|0.14|0.14|.<br>|.<br>|
|**SH**TERM INTEREST<sup>RATE.NOMINAL</sup><br> <sup>RATEOIALL</sup>|0.06<br>0|.<br>-0.33|.<br>-0.35|.<br>-0.37|-0.37|-0.38|-0.39<br>|-0.38<br>|-0.36<br>|-0.33<br>007|
|**LONG**TERM INTEREST<sup>.NN</sup><br>**....**<br>|.<br>**05**|<br>001|001|004|0.07|0.09|0.09|0.09|0.08<br>|.<br>|
|EXCHANGE<br>**RAtE......................**<br> <br>EXCHANGE<br>RATE|**.**<br>-001|-.<br>-O.0C|.<br>-0.01|.<br>-0.|0.01|0.01|0.01<br>|0.<br>|-0.-<br>|-0.01<br>038|
|NOMINAL<br>EFFECTIVE<br>|.<br>|<br>|04|089|072|O.S3|0.36|0.37|0.38|.<br>|
|CURRENTACCOUNT<sup>BALANCE</sup><br>.-<br>|0.41<br>019|0.86<br>-019|.<br>-0.32|.<br>-0.44|.<br>-0.6|<br>-0.86|-0.64|-0.38|-0.21|-0.24|
|**COv.**FINANCIAL<sup>BALANCE</sup><br>.-|.|.|||||||||
|**JAPAN:**|||005|005|004|0.03|0.01|-0.|-0.01|-0.01|
|REAL GP .0.04<br> <br>||0.04<br>004|.<br>004|.<br>0.04|.<br>0.03|<br>0.02|0.01|-0.<br>|-0.<br>|-0.01<br>|
|REAL DOMESTIC<sup>DEMAND</sup><br>.0.02<br> <br>002||.<br>0.06|.<br>0.06|0.07|0.06|O.OS<br>|0.03<br>|0.01<br>|0.<br>006|-0.01<br>006|
|GICSS INVESTMENT<br>..<br>||0|0.|0.01|0.02|0.03|0.05<br>|0.05<br>|.<br>|.<br>|
|GNP DEFLATORI<sup>.</sup><br>RATE|.<br>**15..**|.<br>**.**-0.01|0.02|0.33|0.69<br>|0.93<br>|-3.77<br>|-1.27<br>003|0.09<br>004|-0.04<br>004|
|INFLATION<sup>**.....................**</sup><br> <br>|001|002|002|0.02|0.02|0.03|0.03|.<br>|.<br>|.<br>|
|IANUFACTURING<br>EXPORT PRICES<br> <sup>RATENOMINAL</sup>|.<br>006|.<br>0.09|.<br>0.12|0.13|0.14|0.14|0.16<br>|0.17<br>|0.12<br>|0.1<br>032|
|**SH**TERn INTEREST<sup>.</sup><br>|.<br>|<br>036|-037|-018|-0.38|-0.38|-0.38|-0.37|-0.3S<br>|-.<br>|
|LONG TERn INTEREST<sup>RATE.NOMINAL</sup><br>|0.01<br>003|-.<br>-0.03|.<br>0.01|.<br>0.05|<br>0.08|0.11<br>|0.12<br>|0.12<br>|0.12<br>|0.1<br>006|
|EICHANCERATE<br>.-<br>|.<br>|<br>|001|002|004|0.06|0.07|0.07|0.07|.|
|NOMINAL<br>EFFECTIVE EXCHANGE<br>RATE<br>|-0.01<br>134|-0.03<br>-044|-.<br>1.1|.<br>0.6|.<br>0.54|<br>0.44|0.32<br>|0.3<br>|0.26<br>|0.21<br>024|
|CUIRENT ACCOUNT<sup>BALANCE</sup><br>.-<br>**CO**FINANCIAL<sup>IALANCE</sup><br>-|.<br>0.19|.<br>-0.19|-0.32|-0.44|-0.6|-0.86|-0.64|-0.38|-0.21|-.|
|**v.** <br>.|||||||||||
|OTHER LARGE INDUSTRIAL<sup>COUNTRIES:</sup>|||||||||||
||||||005|004|003|0.02|0.01|0.|
|REAL**GNP**.0.04<br>||0.04<br>004|0.05<br>0.04|0.05<br>0.04|.<br>0.03|.<br>0.01|.<br>0.01<br>|0.01<br>|0.<br>|-0.01<br>|
|REAL DOMESTIC<sup>DEMND .0.02</sup><br> <br>||.<br>0.1|<br>0.11|0.11|0.09|0.08|0.05<br>|0.03<br>|0.01<br>|-0.01<br>004|
|GROSS INVESTM.NT<br>.0.04||<br>|002|003|004|0.04|0.04|0.04|0.04|.|
|GNP DEFLATORI<sup>**.....................**</sup><br>|0.|0.01<br>004|.<br>0.14|.<br>0.35|.<br>0.21|<br>0.06|-0.04|-0.06<br>|-0.06<br>|-0.01<br>|
|INFLATION RATE<sup>.0.07</sup>||.<br>|<br>|003|004|004|0.04|0.04|0.03|0.03|
|MANUFACTURING<br>EXPORT PRICES<br>|0.01<br>|0.01<br>O05|0.02<br>006|.<br>0.09|.<br>0.1|.<br>0.1|<br>0.09|0.08|0.06<br>|0.05<br>|
|SR TERM INTEREST<sup>RATE.NOMINAL</sup>|0.05|.<br>|.<br>|<br>||029|-03|-029|-0.28|-0.26|
|<br>LONG TERN INTEREST<sup>RATE.NOMINAL</sup><sup>**.**</sup><br>EXCHANGE<br>RATE<br>......................|0 .<br>-0.04|-0.22<br>-0.01|-0.25<br>0.02<br>|-0.27<br>0.04<br>|-0.28<br>0.06<br>|-.<br>0.08<br>|.<br>0.08<br>001|.<br>0.09<br>001|0.09<br>001|0.09<br>0.02|
|<br> <br> <br> <br> <br>RATE|-001|-001|-0.01|-0.01|-0.01|-0.|.<br>|.<br>|.<br>|6|
|NOMINAL<br>EFFECTIVE EXCHANGE<br> ....|.<br>|.<br>|079|286|1252|-312.82|-25.15|-1.61|-1.04|-0.9|
|CUIRIENT ACCOUNT<br>RALANCE<br>............<br>|-3.35<br>02|1.26<br>-016|-.<br>-021|.<br>-0.23|.<br>-0.2S|<br>-0.25|-0.22|-0.22|-0.21|-0.18|
|COY. FINANCIAL<sup>BALANCE</sup><br>.............|-.|.|.|||||---|----------------||
|||------|-----------|----------------||-----------------|------------|<br>|||

o %
PACE 2 o0 2

# MULTIPLIER<sup>ELASTICITYRESPONSES</sup> TO US COVEINIENT PERTURBATION TABLE 15

||||3|4|5|6|7|a|9|10|
|---|---|---|---|---|---|---|---|---|---|---|
||I|a|||||||||
|SMALLINDUSTRIAL<br>COUNTRIES:|||||004|003|002|0.02|0.01|0.|
|REAL GNP<br>.0.03<br> <br> <br> <br>|002|0.02<br>003|0.03<br>0.03|0.04<br>0.03|.<br>0.03|.<br>0.03|.<br>0.01<br>|0.01<br>|0.<br>002|-0.<br>0|
|REAL DOMESTIC<br>DE<br>W<br>.D.<br> <br>|.|.<br>008|<br>0.08|0.1|0.11|0.09<br>|0.06<br>|0.04<br>|.<br>|.<br>-0|
|CROSS INVESTMENT<br>.0.03<br> <br>|0|.<br>-001|-0.02|-0.02|-0.02|-0.01<br>|-0.<br>|-0.<br>|-0.<br>|.<br>005|
|GNP DEFLATOR<br>1 .....................<br> <br>|.|.<br>-028|<br>-013|-0.02|0.11|0.71|0.01<br>|-0.03<br>|-0.05<br>|.<br>|
|INFLATION<sup>RATE</sup><br>.0.12<br> <br> <br>|001|.<br>-001|.<br>-0.02|<br>-0.02|-0.01|-0.<br>|0.<br>|-0.<br>|-0.<br>001|-0.<br>0|
|WUIADFACTURING<br>EXPORT<br>PRICES<br> <br>|.<br>005|.<br>001|0.01|0.01|0.04|0.02<br>|0.04<br>|0.03<br>|.<br>|.<br>-023|
|S1 TERM INTEREST<br>IATE.NOMINA.<br>|.<br>0|.<br>-022|<br>-0.25|-0.25|-0.25|-0.26<br>|-0.26<br>|-0.26<br>|-0.25<br>012|.<br>012|
|LONC TERM INTEREST<sup>RATE.NOMINAL</sup><br>....<br> <br>|.<br>004|.<br>001|<br>0.06|0.09|0.11|0.13<br>|0.13<br>|0.13<br>|.<br>|.<br>006|
|EXCHANCE<br>RATE<br>.-<br> <br>|.<br>-001|.<br>003|<br>0.05|0.06|0.06|0.06|0.06<br>|0.06<br>|0.06<br>|.<br>-073|
|NOMINAL<br>EFFECTIVE<sup>EXCHA.GE</sup><br>RATE<br> <br> <br>|.<br>04|.<br>041|<br>-0.08|-1.43|1.3|28.39|-7.86<br>|-0.51<br>|-0.75<br>|.<br>022|
|CURRENT<br>ACCOUNT<br>BALANCE<br>.-<br>|.<br>016|.<br>-011|<br>-0.18|-0.22|-0.26|-0.22|-0.26|-0.24|-0.23|-.|
|COV. FINANCIAL<sup>BALANCE</sup><br>.-|.|.|||||||||
|DEVELOPING<br>COUNTRIES:|||||001|001|001|0.01|0.01|0.01|
|REALGOP<br>.0.02<br> <br> <br>||0.<br>-003|0.<br>001|0.01<br>0.02|.<br>0.02|.<br>0.03|.<br>0.02<br>|0.02<br>|0.02<br>|0.01<br>002|
|RFAL DOOESTIC<br>DEMAND<br>.0.03<br> <br>||.<br>-001|.<br>-0.|0.01|0.02|0.02<br>|0.02<br>|0.02<br>|0.02<br>001|.<br>001|
|TL COY. EXP.<sup>INCL. PUBLIC</sup><br>.0.01<br>|007|.<br>-009|0.04|0.06|0.06|0.05<br>|0.03<br>|0.02<br>|.<br>004|.<br>004|
|CROSS INVESTMENT<br>...................<br>|.<br>003|.<br>003|<br>0.04|0.04|0.05|0.05<br>|0.05<br>|0.05<br>|.<br>004|.<br>004|
|CNPDEFLATOR<sup>.</sup><br> <br> <br>|.<br>002|.<br>003|0.04|0.04|0.05|0.06|0.05<br>|O.OS<br>|.<br>|.<br>|
|MANLFACTURING<br>EXPORT<br>PRICES<br>|.<br>-0|.<br>-017|<br>-0.14|-0.11|-0.08|-0.05<br>|-0.03<br>|-0.01<br>|0.<br>|0.01<br>004|
|STOCK OFDEBT<br>......................<br>|.<br>004|.<br>-016|<br>-0.16|-0.15|-0.13|-0.11<br>|-0.09<br>|-0.07<br>|-0.05<br>|-.<br>004|
|STOCK OF NET<sup>EBT</sup><br>.-<br> <br> <br>|.|.<br>-014|<br>0.04|0.00|0.1|0.1<br>|0.07<br>|0.06<br>|0.05<br>001|.<br>001|
|VOLUME<br>OFTOTAL IMPORTS<br>.0.11<br> <br> <br>012||.<br>0.04|0.03|0.03|0.03|0.02|0.01|0:01|.|.|
|VOLUME<br>OFMFGEXPORTS<br>..|||||||||||
|HItCH INCOME<br>OIL PRODUCERS:|||||004|002|001|0.01|0.|-0.|
|REAL CDP<br>.0.13<br>||0.02<br>008|0.05<br>007|0.05<br>0.05|.<br>0.05|.<br>0.02|.<br>0.01<br>|<br>-0.<br>|-0.02<br>|-0.02<br>|
|REALDiUESTIC<br>ABSORPTION<br>.0.05<br> <br> <br>||.<br>01|.<br>0.1|<br>0.08|0.07|O.OS|0.02<br>|-0.01<br>|-0.03<br>|-0.05<br>001|
|TOTAL EXPORT<br>PRICES<br>.0.07<br>||.<br>0|0.07|0.08|0.07|0.06|0.03<br>|0.02<br>|0.01<br>|.<br>012|
|VOLUME OF TOTAL<sup>I"PORTS.0.19</sup><br> <br>|001|.<br>002|<br>007|0.1|0.13|0.14|O.?$|0.14|0.13|.|
|VOLUME<br>OF OIL EXPORTS<br>.-|.|.|.||||||||
|INTERNATIONAL<br>PRICES**_Il:_**||||O|011|013|0.11|0.12|0.12|0.11|
|PRICE OF OIL<sup>IN DOLLARS</sup><br>.0.28<br>PRICE INDEX<sup>OF COIOIODITIES .0.</sup>||0.02<br>0.|0.06<br>-0.|0.0<br>0.|.<br>-0.|.<br>0.|<br>0.|0.|0.|0.|

I/ DENOIINATED INDICES IN<sup>TERtSOF usDOLLARS.</sup> 0'
- OF 2

# 1MLTIPUIS<sup>ELASTICITY RESPONSES</sup> TO US MONETARY<sup>IASE It PERTURBATION</sup> TABLE 1i

||3|2|3|6|S|6|7|a|9|10|
|---|---|---|---|---|---|---|---|---|---|---|
|UNITED STATES|||||002|002|001|0.01|0.02z|0.02|
||002|0.02|0.01|0.03|.|.<br>|.<br>||002|001|
|REAL GNP..............<br>REAL DOMESTIC<sup>DEKN.......</sup>|.<br>0.01|0.0!<br>|0.03<br>|0.02<br>|0.02<br>006|0.02<br>005|0.02<br>0.03|0.03<br>0.02|.<br>0.03|.<br>0.03|
|<br>GROSS INVtSTMENT<br>..........|0.03|0.06<br>|0.08<br>|0.08<br>|.<br>002|.<br>002|0.02|0.01|0.01|0.03|
|<br>GNP DEFLATOR<sup>I</sup><br>3..........|0.03|0.03<br>|0.01<br>|0.02<br>7|.<br>014|.<br>009|<br>-0.13|-0.33|-0.12|-0.06|
|<br>INFLATION<sup>RATE</sup>|0.33|-0.08|0.1|0.3<br>|.<br>|.<br>|002|002|0.01|0.03|
|<br>...........<br>MANUFACTURING<br>EXPORTPRIC<br>ES.....|0.04|0.<br>|0.01<br>|0.02<br>|0.02<br>006|0.03<br>007|.<br>0.07|.<br>0.07|0.04|0.04|
|<br> TERM <sup>RATENOMINAL</sup>|-1.14|0.01|0.05|0.06|.<br>|.<br>||-061|-038|-0.36|
|SN INTEREST<sup>.....</sup><br>||-03|-034|-0.37|-0.38|-0.61|-0.63|.<br>|.<br>||
|LONG TER"<sup>INTE.REST</sup><br>RATE.NOHINAL<br>..|-0.1|.<br>|.<br>|<br>|-008|-009|-0.09|-0.1|-0.09|-0.08|
|<br>NOM1NAL<br>EFFECTIVE<sup>EXCHANGE.</sup><br>RATE..|-0.13<br>|-0.01<br>|-0.03<br>-035|-0.04<br>007|.<br>0.06|.<br>0.02|<br>-0.06|-0.05|-0.09<br>|-0.13<br>|
|CURREN4T<br>ACCOUNT<br>BALANCE<br>.......|3.09|-3.04|.<br>|.<br>|<br>|035|-029|-043|-0.45|-0.52|
|<br> <br> <br>GOV.FINANCIAL<sup>**BAANE**........</sup>|-0.26|-1.94|-0.31|-0.28|-0.43|-.|.|.|||
||-001|002|0.05|0.0'.|0.02|0.03|0.01|0.<br>|0.<br>|0.01<br>0|
|REALGNP..............<br>REALDOiESTIC<sup>DEMAND</sup><br>.....<br>...|.<br>-0.|.<br>0.02|<br>0.04<br>|0.04<br>|0.02<br>|0.03<br>006|0.01<br>002|0.<br>0.01|0.<br>0.01|.<br>0.02|
|<br> <br>GROSS(NVESTENT<sup>...........</sup>|-0.01<br>|0.04<br>|0.11<br>|0.3<br>003|0.07<br>-003|.<br>-003|.<br>-0.03|<br>-0.06|-0.03|-0.03<br>|
|<br>G4P DIFLATOB<sup>............</sup>|-0.|-0.01<br>|-0.02<br>|-.<br>03|.<br>-014|.<br>0.1|<br>-1.74|-0.01|0.2|0.48<br>|
|<br>INFLATION<br>RATE............<br> <br>|-0.13<br>|-0.02<br>-001|-0.33<br>-002|-.<br>-0.03|.<br>-0.03|<br>-0.03|-0.04|-0.04<br>|-0.03<br>|-0.02<br>|
|MANUFAI:TURING<br>EXPORT<br>PRICES<br>.....|-0.03|.<br>|.<br>|<br>|003|-004|-008|-0.11|-0.09|-0.06|
|<br>SH TERNI INTEREST<sup>RATE.NOHINAL</sup><br>....|-0.03<br>|0.03<br>|0.06<br>041|0.01<br>-043|-.<br>-0 44|.<br>-0.44|.<br>-0.44|-0.43|-0.6r|-0.37<br>|
|LONG_TEPMI_<sup>INTEREST RATENOMINAL</sup><br>..|-0.|-0.38|-.|.<br>|.<br>|<br>|008|008|0.07|0.06|
|<sup>.</sup><br>EXCHAN4GE<br>RATE<br>............|0.16|-0.<br>|0.03<br>|0.05<br>|0.07|0.08<br>001|.<br>0.02|.<br>0|<br>-0.01|-0.01|
|<br> <br>EXCHANGE<br>RATE|0.04|-0.02|-0.|0.0.01||.<br>|<br>|012|013|0.1|
|NOMINALEFFECTEVE<br> <br> ..<br>CURRENT ACCOUNT<sup>BALANCE</sup><br>.......|<br>_0.04_|1.12|0.55<br>|0.03<br>|0.23<br>|0.18<br>-057|0.36<br>-039|.<br>-0.18|.<br>-0.33|-0.16|
|<br>GOV. FINJANCIAL<br>BALANCE........|0.06|-0.09|-0.35|-0.41|-0.49|.|.||||
|JAPAX:|-001|001|0.05|0.04|0.03|0.02|0.<br>|-0.03<br>|-0.03<br>|-0.03<br>-0|
|REAL GP...............<br>REAL DOMESTIC<br>DEMAND.........|.<br>-0.|.<br>0.02|0.04<br>|0.04<br>|0.03<br>|0.02<br>004|0.<br>002|-0.<br>0.|-0.<br>0.|.<br>-0.|
|<br>GROSS INVESTMENT...........|-0.|0.02|0.06<br>|0.07<br>|0.05<br>-004|.<br>-004|.<br>-0.0'.|<br>-0.03|-0.02|-0.03|
|<br>GMP DEFLATOR<sup>............</sup>|-0.|-0.02<br>|-0.03<br>|-0.04<br>|.<br>-036|.<br>013|<br>-3.23|-1.29|1.02|0.<br>71|
|<br> <br>BATE|-0.05|-0.25|-0.78|-3.07|.<br>|.<br>|<br>|-005|-004|-0.03|
|INFLATION<br>............<br>MIANLFACTUP:'4G<br>EXPORT PRICES<br>.....|<br>-0.|-0.|-0.02<br>|-0.04<br>|-0.05<br>|-0.05<br>-005|-0.05<br>-01|.<br>-0.35|.<br>-0.1|-0.07|
|<br> <br>SH TERMI<br>INTEREST<br>RATE.XONIIAL<br>....|-0.03<br>|0.<br>|0.05<br>|0.01<br>-046|-0.03<br>-046|.<br>-0.45|.<br>-0.45|<br>-0.63|-0.39|-0.36<br>|
|L0ONG<br>TERMtNTEREST<sup>RATENOMINAL</sup><br>..|-0.|-0.42|-0.64|.<br>|.<br>|<br>|033|011|0.11|0.09|
|<br> <sup>.</sup><br>EXCHANGE RATE<br>............|0.31|-0.02<br>|0.01<br>|0.04<br>003|0.08<br>004|0.3<br>006|.<br>0.07|.<br>0.07|<br>0.06|0.05|
|<br>NOMINAL EFFECTIVE<sup>EXCHANGE</sup><br>RATE..|0.05<br>|-0.03<br>|-0.03<br>t04|.<br>016|.<br>0.38|.<br>0.3|0.07|0.05|-0.02|-0.05<br>|
|CURRENT ACCOUNT<sup>BALANCE</sup><br>.......|0.07|-2.26|.<br>|.<br>|<br>|-057|-039|-0.18|-0.31|-0.16|
|<br>GOV. FINANCIAL<sup>BALANCE........</sup>|0.06|-0.09|-0.35|-0.41|-0.49|.|.||||
|OTHERLARGE<sup>INDUSTRIAL</sup><br>COUNTRiES:|||||||||||
||||||||003|003|001|0.|
||-001|002|0.06|0.05|0.03|0.02<br>|.<br>|.<br>|.<br>|-U|
|REAL GP ...............<br>REALDODIEStIC<sup>DEMAND.........</sup>|.<br>-0.<br>|.<br>0.03<br>|<br>_0.05_<br>|0.05<br>033|0.03<br>009|0.02<br>0.07|0.03<br>0.03|0.<br>0.02|0.<br>0.01|.<br>0.<br>|
|GROSS INVESTMENT|-0.02|0.03<br>|0.13<br>|.<br>|.<br>|<br>006|-006|-005|-0.06|-0.03|
|...........<br>GNP DEFLATOR<br>I............|-0.<br>|-0.01<br>|-0.02<br>|-0.02<br>-02|-0.03<br>-013|-.<br>-0.09|.<br>-0.33|.<br>-0.04|0.09|0.34<br>|
|INFLATIONi RATE|-0.04|-0.05|-0.33|.<br>|.<br>|<br>|004|-004|-004|-0.03|
|............<br>MANUFACTURING<br>EXPORT PRICES<br>.....|-0.01<br>|-0.03<br>|_-0.02_<br>|-0.02<br>|-0.03<br>001|-0.03<br>-001|-.<br>-004f|.<br>-0.05|.<br>-0.05|-0.04|
|<br>SN TER" INTEREST<sup>RATE.NOMINAL</sup><br>....|-0.01<br>|0.03<br>|0.03<br>-03|0.02<br>-033|.<br>-0.34|.<br>-0.35|.<br>-0.36|-0.34|-0.32<br>|-0.29<br>|
|LONG1E0MINTEREST<br>RATE.NOMINAL<br>..|-0.|-0.27|.|.<br>|<br>|007|007|008|0.08|0.07|
|<br> <br>EXCHAGEBATE<br>............|0.33<br>|0.03<br>|0.02<br>|0.04<br>003|_A.05_<br>-001|.<br>-003|.<br>-0.|.<br>0.|<br>0.01|0.01|
|EFFECTIVE<sup>EXCHAGE RATE </sup>|0.04|-0.03|-0.02|-.|.<br>|.<br>||076|-059|-063|
|NOMINAL <sup>..</sup><br>CURRENT<br>AcCCour BALANCE<br>.......|0.38|1.78|-0.92<br>|0.34<br>|3.3<br>|-20.94<br>024|-10.28<br>-023|-.<br>-026|.<br>-0.25|.<br>-0.23|
|<br> <br>GOV.FINANCIAL<sup>BALANCE........</sup>|0.03|-0.3|-0.26|-0.25|-0.26|-.|.|.|||
PACE 2 OF 2

# ULTIPLIER ELASTICITY<sup>RESPONSES</sup> TO US MONETARY BASE It PERTURBATION TABLE 16

|<br>|1|2|3|4|5|6|7|8|9|10|
|---|---|---|---|---|---|---|---|---|---|---|
|SMALLINDUSTRIAL<br>COUNTRIES:|||||||||0|0|
|REALNP.-<br> <br>|0.01<br>|-0.<br>001|0.04<br>004|0.03<br>004|0.03<br>004|0.02<br>0.03|0.<br>0.|0.<br>0.|.<br>0.|.<br>0.|
|REALDOMESTIC<br>DEMAND<br>...............<br>|-0.<br>|.<br>003|.<br>009|.<br>012|.<br>011|<br>0.08|0.03|0.02|0.02|0.02|
|GROSS INVESTMENT<br>...................<br> <br>|-0.<br>0|.<br>-003|.<br>-006|.<br>-007|.<br>-0.08|<br>-0.07|-0.07|-0.07|-0.07|-0.06|
|GNP DEFLATOR<br>I .-.<br>|..<br>|.<br>037|.<br>031|.<br>-023|<br>-OOE|0.03|0.09|-0.01|0.1|0.3|
|INFLATIONRATE<br>.-<br> <br> <br>|0.07<br>|-.<br>003|-.<br>-006|.<br>-007|.<br>-008|<br>-0.07|-0.07|-0.07|-0.07|-0.C6|
|MANUFACTURING<br>EXPORT<br>PRICES .-<br> <br>|0.01<br>|-.<br>|.<br>002|.<br>-004|.<br>-008|<br>-004|-0.12|-0.16|-0.15|-0.1|
|SH TERM INTEREST<br>RATE.NOMINAL<br> <br>|-0.01<br>|-0.03<br>026|-.<br>029|.<br>-03|.<br>-03|.<br>-0.31|<br>-0.31|-0.3|-0.28|-0.26|
|LONG TERMINTEREST<br>RATE.1NOKINAL<br> <br> <br>|-0.<br>...|-.<br>004|-.<br>008|.<br>01|.<br>0.11|<br>0.13|0.12|0.12|0.12|0.11<br>|
|EXCHANGE<br>RATE<br>.0.14<br> <br> <br>|004|.<br>004|.<br>006|.<br>007|<br>0.07|0.07|0.06|0.06|0.06|0.06|
|NOMINAL<br>EFFECTIVE EXCHANCE<br>RATE<br> <br> <br>|.|.<br>06|.<br>-027|.<br>064|<br>-037|17.6|12.4|0.49|0.22|-0.2|
|CURRENT ACCOUNT<br>BALANCE<br>.0.02<br>||.<br>003|.<br>-024|.<br>-026|.<br>-031|<br>-0.3|-0.3|-0.31|-0.33|-0.32|
|GOV.FINANCIAL<sup>BALANCE</sup><br>.............|-0.|-.|.|.|.||||||
|DEVELOPINC<br>COUNTRIES:||||||||||0|
|RLALGDP.........................<br>|-0.<br>|-0.<br>|0.01<br>004|0.0C<br>002|0.01<br>002|0.01<br>002|0.01<br>0.02|0.01<br>0.02|0.01<br>0.01|.<br>0.01|
|REAL DOt1FSTIC DEMAND<br>...............<br>|-0.<br>|-0.02<br>001|.<br>001|.<br>002|.<br>002|.<br>0.02|<br>0.02|0.01|0.01|0.01|
|TL CON.EXP.INCL.<sup>PUBLIC</sup><br>..........<br> <br>|-0.<br><br>|-.<br>004|.<br>012|.<br>003|.<br>003|<br>0.02|0.02|0.02|0.02|0.02|
|GROSS INVESTMENT<br>.............<br> <br> <br>|0**.**.<br> <br>|-.<br>|.<br>-002|.<br>-002|.<br>-003|<br>-003|-0.04|-0.04|-0.03|-0.03|
|CNP DEFLATOR<br>I<br>.-.....................<br> <br>|<br>.01<br>|-0.01<br>|.<br>002|.<br>-003|.<br>-003|.<br>-003|-0.04|-0.04|-0.04|-0.03|
|MA.NUFACTURING<br>EXPORT PRICES........<br>|-0.<br>|-0.01<br>|-.<br>001|.<br>-0|.<br>-0|.<br>0.|0.|0.|0.|0.01|
|STOCK OF DEBT<br>......................<br>|-0.|-0.11<br>|-.<br>003|.<br>-003|.<br>-002|<br>-002|-0.01|-0.|0.|0.|
|STOCK OF NET DET<sup>.0.01</sup><br> <br>||-0.09<br>006|-.<br>017|.<br>007|.<br>0.07|.<br>0.06|<br>0.05|0.05|0.05|0.04|
|VOLUME<br>OF TOTAL IMPORTS<br>............<br> <br>|-0.<br>2|-.<br>002|.<br>004|.<br>003|<br>002|0.01|0.01|0.|0.|0.|
|VOLUME<br>OFMFGEXPORTS<br>..............|..|.|.|.|.||||||
|HIHCINCOME<br>OIL PRODUCERS:|||||||||001|001|
|REALGDP<br>.........................<br> <br> <br>|0.|-0.<br>|0.07<br>002|0.04<br>003|0.03<br>003|0.02<br>001|0.01<br>0.02|0.01<br>0.02|.<br>0.03|.<br>0.03|
|REAL DOMESTIC<br>ABSORPTION<br>.0.01<br>||0.01<br>|.<br>003|.<br>004|.<br>005|.<br>001|<br>0.04|0.05|0.07|0.08|
|TOTAL EXPORI PRICES<sup>.0.02</sup><br>||0.01<br>|.<br>014|.<br>009|.<br>007|.<br>004|<br>0.02|0.02|0.01|0.01|
|VOLUMEOF TOTAL<sup>IMPORTS</sup><br>............<br> <br>|0.<br>|-0.01<br>|.<br>001|.<br>002|.<br>003|.<br>004|0.04|0.04|0.03|0.04|
|VOLUME<br>OF OIL EXPORTS<br>..............|0.08|-0.|.|.|.|.|||||
|INTERNATIONAL<br>PRICES_I/:_||||||||||005|
|PRICE OF OIL IN<sup>DOLLARS</sup><br>.0.1<br>||0.04<br>0|0.12<br>-0|0.07<br>0|0.05<br>-0.|0.04<br>0.|0.02<br>0.|0.04<br>0.|0.05<br>0.|.<br>0.|
|PRICE INDEX OF COMMODITIES<sup>.0.</sup>||.|.|.||||||_.___. ._..______|

_- - --------------------------------------------------------------------------------------------------------------------------------------------------
# V. Concluslon

The purpose of this paper was two-fold. to explore the potential usefulness of a multiregional macroeconometric model in the analysis of international macroeconomic policy issues that are of interest to IECAP and ultimately to the World Bank; and to investigate general techniques to understand the functioningof the models in respect of their theoretical underpinnings and structural properties.

Both of the above objectives were pursued in the context of MULTIMOD, a multiregional macroeconometric model developed and maintained by the IMF. MULTIMOD is relatively small in size and simple in its theoretical specification, but at the same time it represents the state-ofthe art in macroeconometric modeliug, exemplified by its 'rational expectations' features. The estimation scheme employed emphasizres the comparability across country and regions through standardization of specifications and imposition of common coefficients. Thus, the differences in countries' responses to policy shocks are attributable to the differences in their structural features. However, the cross-country responses of the model are highly symmetric to the shocks originating from different countries or regions. The impact of the forward looking property of the model is reflected in the faster adjustment of all prices, including exchange rates, compared to conventional macroeconomic models. A major strength of the model is in the transmission of policy effects through alternative channels. In sum, based on the extensive multiplier analyses conducted in this study, MULTIMOD is a very useful tool for the examination of international macroeconomic relations.

MULTIMOD is one of the few models of its class to explicit:y incorporate within its framework developing countries and high income oil exporting countries. As demonstrated in the paper, the model can be used in many ways to discuss key North-South issues, although this requires considerable adaptation of the model prior to simulation. There is scope for expanding
70 or strengthening the North-South linkages of the model so as to enhance its relevance to the

# discussion of North-South issues. Some of these possibilities are indicated below:

- Further disaggregation of the developing countries across specific groups, e.g. Highly Indebted Countries and Newly Industrialized Countries, would enhance the range of applications of the model.

- Formulation of alternative criteria for the creditworthiness of the developing countries would widen the scope for generating useful scenarios.

- Given the volatilityand importance of the agricultural sector in North-South trade relations, disaggregation of the primary commodity trade into agriculture and other raw materials would increase the potential of the model, while reducing the extent of price distortions.

- The inclusion of inventory featues in the commodity and oil markets should stabilize their unnecessary price fluctuations.

-

- Other enhancements worthy of consideration include further integration of developing countries into the international financial system, especially with regard to the recycling of surplus funds from High Income Oil Exporters and the NIE's and further disaggregation of the international sectors of the developing countries.