University of Verona A regional version of Mirage model and a trade policy simulation PhD Student Gabriele Standardi Doctorate in Economics & Finance XXI Cycle September

Baseline of Mirage model Regional Model Trade policy simulation

Mirage model Database Mirage stands for Modelling International Relationship in Applied General Equilibrium Mirage is a multi-region, multi-sector computable general equilibrium model, developed by CEPII (Centre d’études prospectives et d’informations internationales) and devoted to trade policy analysis Mirage uses the GTAP 6.x database SAM for 87 countries or regions and 57 sectors with 5 production factors (capital, skilled labour, unskilled labour, land and natural resources) Trade barriers are described by MacMap database, (developed by CEPII) « ad valorem » tariffs at the bilateral level for 137 countries

Mirage Model Mirage Structure The demand side The supply side Imperfect competition Capital, investment and macroeconomic closure Labour market Dynamic set-up

The demand side Each region has a representative agent, whose utility function is static Saving rate is exogenous Total demand is made up of final consumption, intermediate consumption and capital goods Product differentiation according to geographical origin (the so-called Armington assumption) The regional representative agent includes the government, he therefore pays and earns taxes, so the public budget constraint is implicit to meeting the representative agent’s budget constraints. Mirage structure

The supply side 5 production factors:skilled labour (H), unskilled labour (L), capital (K), land (TE), natural resources (RN) Factor endowments are assumed to be fully employed Their growth rates are exogenous for natural resources (set at zero) and for labour based on demographic forecast provided by World Bank Land supply: CET function that takes account of land’s imperfect mobility across uses Capital supply : putty-clay hypothesis Unskilled labour supply and skilled labour supply are perfectly mobile across sectors Production : Leontief function between the value added (VA) and the intermediate consumption (Cnter) Value added : CES function of land, natural resources, unskilled labour and a CES bundle of capital and skilled labour (fictive factor Q) Mirage structure

Imperfect competition Horizontal differentiation of products and increasing returns to scale Firms compete in a Cournot-Nash way Mirage structure

Capital, investment and macroeconomic closure In many models, among which the GTAP one, international financial flows result from the assumption of perfect capital mobility across countries and sectors. This modelling is micro-founded, but it induces unplausibly high cross-border flows. On the other hand, directly using the results of econometric estimates would give more realistic results, but it would lack theoretical consistency. So installed capital is assumed immobile across sectors and regions (putty-clay hypothesis) and the investment become the only adjustment device for capital stock. The investment can vary across sectors and regions. This modelling is a good compromise between theoretical consistency and empirical realism. The domestic investment’s setting is consistent with FDI’s one and it depends on FDI determinants, such as market size, growth rate or market potential, that influence the rate of return to capital.

Mirage structure Labour market Introduction of the Lewis hypothesis to take account of unskilled workers flows between urban areas and rural areas: useful to study the employment dynamic in some developing countries

Mirage structure Dynamic set-up The Mirage dynamic set-up takes place through the investment, the rate growth of production factors and the technological progress (exogenous).

Regional Model Objective: analysing trade policy effects on the different regions of Europe

Regional Model Structure Micro-regions and macro-regions Sectors Demand side Supply side Imperfect competition Capital, investment, macroeconomic closure and dynamic set-up Labour market Regional Model

Regional Model Structure 4 secteurs AGM Agriculture and minerals PRM Primary energy sources IND Industry SERV Services Macro-regional level Three macro-regions EU15 France, Germany, Belgium, Luxembourg, Netherlands, United Kingdom, Italy, Ireland, Denmark, Spain, Portugal, Greece, Finland, Sweden, Austria NMB rest of Europe ROW rest of the world Micro-regional level Nine micro-regions EU15 is made up of 5 micro-regions: DEU Germany, Austria FRA France, Belgium, Luxembourg, Netherland SCD Denmark, Finland, Sweden ENG United Kingdom, Ireland MED Italy, Spain, Portugal, Greece ROW is made up of 3 micro-regions: OEC Australia, New Zealand, Japan, South Korea, Canada, Mexico, Turkey, Switzerland, Rest of EFTA USA ROW Rest of macro-region ROW NMB remains the same set: NMB Bulgaria, Cyprus, Czech Republic, Hungary, Malta, Poland, Romania, Slovakia, Estonia, Lithuania, Latvia, Slovenia USA ROW (Reste du macro région ROW) EU15 est divise en : DEU Allemagne, Autriche FRA France, Belgique, Luxembourg, Pays Bas SCD Danemark, Finlande, Suède ENG Royaume Uni, Irlande MED Italie, Espagne, Portugal, Grèce NMB reste le même ensemble : NMB (Bulgarie, Cipre, République Tchèque, Hongrie, Malte, Pologne, Roumanie, Slovaquie, Estonie, Lituanie, Lettonie, Slovénie).

Regional Model Structure 4 secteurs AGM Agriculture and minerals PRM Primary energy sources IND Industry SERV Services 4 Sectors AGM Agriculture PRM Primary products IND Manufactures SERV Services USA ROW (Reste du macro région ROW) EU15 est divise en : DEU Allemagne, Autriche FRA France, Belgique, Luxembourg, Pays Bas SCD Danemark, Finlande, Suède ENG Royaume Uni, Irlande MED Italie, Espagne, Portugal, Grèce NMB reste le même ensemble : NMB (Bulgarie, Cipre, République Tchèque, Hongrie, Malte, Pologne, Roumanie, Slovaquie, Estonie, Lituanie, Lettonie, Slovénie).

Regional Model Structure Demand The structure of demand side remains exactly the same, defined at macro-regional level

Regional Model Structure Supply side The most important change with respect to Mirage: production is specified at micro- regional level 5 production factors:skilled labour (H), unskilled labour (L), capital (K), land (TE), natural resources (RN) Factor endowments are assumed to be fully employed Simplification with respect to Mirage : land supply is exogenous (there is indeed only one agricultural sector, so the CET function for land is useless) The supply of factors is at micro-regional level except capital supply that is at macro- regional level: capital is perfectly mobile across the different micro-regions of the same macro-region All the factors are perfectly mobile across sectors except natural resources

Regional Model Structure Imperfect competition Removal of the imperfect competition hypothesis

Regional Model Structure Capital, investment, macroeconomic closure and dynamic set-up Removal of putty-clay hypothesis : the installed capital in each sector and in each micro-region is not immobile, but determined by the FOCs for profit maximization with respect to capital No dynamic

Regional Model Structure Labour market Removal of Lewis hypothesis Introduction of the hypothesis of unskilled labour imperfect mobility across the micro- regions of the same macro-region on the basis of relative wages (implicit emigration cost) Unskilled labour supply: macro-regional wage income’s maximisation subject to a CET constraint

Trade policy simulation Shock definition Bilateral shock: Eu15 and the rest of Europe (NMB) suppress their tariff barriers in all the sectors toward the rest of the world (ROW) and the rest of the world does the same thing toward EU15 and the rest of Europe (NMB)

Trade policy simulation Tariff barriers before the shock Tariff barriers after the shock

Trade policy simulation Production with unskilled labour immobility (  = 0)

Trade policy simulation Production value at the reference year (2001) for each micro-region and for each sector with respect to factor and intermediate consumption Services Manufactures

Trade policy simulation Production value at the reference year (2001) for each micro-region and for each sector with respect to factor and intermediate consumption Primary products Agriculture

Trade policy simulation Production with unskilled labour mobility (  = 10)

Trade policy simulation Production, manufactures (with respect to different values of  )

Trade policy simulation Amplification effect with unskilled labour mobility No mobility of unskilled labour in the macro-region (σ = 0) Unskilled labour supply doesn’t change with respect to the reference year after the shock Mobility of unskilled labour in the macro-region (σ = 10) Unskilled labour supply changes with respect to the reference year after the shock

Trade policy simulation Change in factor prices and intermediate consumption prices (  = 0) Capital Unskilled labour Land

Trade policy simulation Change in factor prices and intermediate consumption prices (  = 0) Intermediate consumption Skilled labour Natural resources

Trade policy simulation Change in welfare measured in terms of consumption (  = 0) Change in imports (  = 0)

Further objectives of the regional version of Mirage model: analysing trade policy effects on the different regions for each European nation (for example for Italy, Lombardia, Veneto, Lazio, etc..) in order to implement accurate support policies to the most penalized sectors and regions