1. How to use input-output multipliers ECON 4480 State and Local Economies 1

2. Guidelines for input-output analysis 1.Define the region of analysis. 2.Determine the initial change in final demand by industry. 3.Determine the industries that are initially affected. 4.Apply the change in final demand to the industry. 5.Report the results. 2

3. 1) Define the region of analysis This issue gets at the appropriate geographic size of the region of analysis. The region chosen needs to be large enough to encompass commuting patterns. Example: a metropolitan area or a collection of contiguous counties is usually the most appropriate region. 3

4. Defining the Region The region should be of a size that is meaningful to the task at hand. – Region should be large enough to encompass the predominant commuting patterns in the area, but not too large. – Region should be small enough to allow impact without concern about offsetting effects. – It is very important to carefully consider what would have occurred otherwise. 4

5. Defining the Region Example 1: – Question: What is MTSU’s net economic impact in terms of jobs and output for the Tennessee economy? 5

6. Defining the Region Example: – Answer: if the region of analysis is statewide, then one could argue that the net impact of MTSU on the statewide economy is minimal. – Reason: spending that occurs for MTSU would occur at another public university if MTSU did not exist. – Solution: define the study area as the Nashville MSA. 6

7. Defining the Region Example 2: Tenncare – Question: The state government needs to cut its budget, and $300 million will be cut from Tenncare in the Nashville area. What is the impact of the cut on Nashville’s economy? 7

8. Defining the Region Example 2: Tenncare – Answer: One could argue that the net impact of the cuts are zero. If the state does not cut $300 million from Tenncare for the Nashville, it will cut other programs that benefit the Nashville area by the same amount. – Solution: none. – One must carefully consider what would have occurred otherwise. 8

9. Defining the Region Example 3: Symphony – Question: What is the economic impact of the Nashville Symphony? 9

10. Defining the Region Example 3: Symphony – Answer: The impact of the symphony has to do with patron spending, and not all patron dollars are the same. Net new spending only occurs if the dollars would not otherwise have been spent locally. – If the patrons travel from out-of-town specifically for the symphony concerts, then their spending is net new. – If local patrons attend the symphony, one could argue that had they not attended, the dollars would have been spent locally anyway for some other entertainment. No impact from this spending. 10

11. 2) Determine the initial change in final demand by industry Final demand consists of the following components: – Consumer spending, – Investment spending (new houses and buildings, new equipment, computers, and software) – Exports, and – Government spending on goods and services. A multiplier impact is initiated when one or more of these components change 11

12. 2) Determine the initial change in final demand by industry For most industries, new sales is the appropriate measure of the initial change in final demand (and output). For some industries, such as retailing and wholesaling, new sales is not a good measure of final demand. – In these industries, margin is the appropriate measure of output. – Margin is the difference between the sales price and the cost of inventory. Margin is ‘mark-up’. 12

13. Determine the initial change in final demand by industry Margin is the difference between the sales price and the cost of inventory. – Example: if Kroger sells a gallon of milk for $2.40 and pays the milk supplier $2.00 per gallon, Kroger’s margin is $0.40 per gallon. – The margin on the gallon of milk is measured as retail output in the input-output model. 13

14. Determine the initial change in final demand by industry This means that for retailing and wholesaling, among others, the initial change in final demand must be measured in terms of margin, not sales. Other industries that use margin instead of sales as a measure of output are real estate and transportation. 14

15. Determine the initial change in final demand by industry Example: suppose a new plant will cause retail spending by households to rise by $2 million. What is the impact on regional output? – Determine the change in final demand for retailing. Suppose the retail margin is 25% of sales. The change in final demand for retailing is then: $2 million * 0.30 = $0.6 million. – If the retail output multiplier is 1.2 then the change in regional output is 1.2*$0.6 million = $0.72 million. 15

16. 3) And 4) Determining the industries and applying the Change in Final Demand A total change in output is estimated by multiplying the output multiplier by the change in final demand (FD): – ∆Y = k * ∆FD, where ‘k’ is the set of output multipliers. – It is the change in final demand that initiates the multiplier process. – So to estimate the economic impact of a project, we have to know the initial change in final demand for each industry. Note: the set of output multipliers (k) is defined as (I-A) -1. 16

17. Applying the Change in Final Demand Example: a new manufacturer will export $3 million in goods from our region each year. Suppose the output multiplier for manufacturing in our region is 2.2. Estimate the change in total output for the region. Answer: the change in final demand is $3 million. The change in total output for the region is 2.2 * $3 million = $6.6 million. 17

18. Applying the Change in Final Demand Notice that the $6.6 million rise in output is the total increase for all industries, not just manufacturing. 18

19. Case Study: Impact of a new prison industry A wood-products manufacturer wishes to employ prison labor to produce wood flooring adjacent to a prison in Bledsoe County. The new plant will generate two types of impacts: – Construction impacts (one-time), and – Operating impacts (continuing). 19

20. Case Study: Impact of a new prison industry Tasks: – Determine the study region, – For both construction and operations impacts, Estimate final demand, and Determine the appropriate multipliers. Determine the change in output, employment, and payroll. Summarize the results. 20

21. Case Study: Impact of a new prison industry Study area: Bledsoe, Cumberland, Rhea, Sequatchie, Van Buren counties. 21

22. Case Study: Impact of a new prison industry 22

23. Case Study: Impact of a new prison industry Construction impacts – Spending for: New machinery and equipment ($28 million), and New structure construction ($12 million). – Leakages 100% of the new machinery and equipment are obtained outside the region. $7 million of the construction spending is spent outside the region. – Result: net local direct construction spending is $5 million. 23

24. Case Study: Impact of a new prison industry 24 Construction impacts: deriving local spending

25. Case Study: Impact of a new prison industry Obtaining input-output multipliers: – We use multipliers from IMPLAN (Impact Analysis for Planning) software. – Developed by the US Forest Service as a method to evaluate the economic impacts of recreation and preservation. – Now available commercially for about $2,000 annually. 25

26. Case Study: Impact of a new prison industry Obtaining input-output multipliers: – Another source of multipliers is RIMS, developed by the Bureau of Economic Analysis (bea.gov). – Regional Impact Modeling System – RIMS can provide multipliers by industry for any state, MSA, county, or aggregation of counties. – $300 – $500 charge per set of multipliers. 26

27. Case Study: Impact of a new prison industry 27 Apply $5 million in new final demand to the building construction industry using IMPLAN: Local spending for construction creates 80 jobs with a payroll of $3 million and $7 million in new output for the region. These impacts end when the construction is complete.

28. Case Study: Impact of a new prison industry 28 Questions: What is the employment multiplier for the construction industry in this region? For one new job in construction, how many total jobs are created for the region? What is the payroll multiplier? Similarly, for one new dollar of payroll in construction, how much total payroll is created for the region?

29. Case Study: Impact of a new prison industry 29 Answers: The employment multiplier = (Direct+Indirect+Induced)/Direct, all in terms of new jobs. In this case, the multiplier is (80/61) = 1.32. For each new job in construction, 0.32 jobs in other industries are created by way of the multiplier effect, for a total effect of 1.32 jobs.

30. Case Study: Impact of a new prison industry 30 Answers: The payroll multiplier = (Direct+Indirect+Induced)/Direct, all in terms of payroll. In this case, the multiplier is (3.02/2.40) = 1.41. For each dollar of payroll in construction, 0.41 dollars of payroll in other industries are created by way of the multiplier effect, for a total effect of $1.41 dollars.

31. Case Study: Impact of a new prison industry Moving on to the continuing impacts from the new plant: – Payroll for local supervisors. – Local purchases of goods and services. – Local purchases of and raw materials. – Note: prison labor receives a small compensation that cannot be spent locally. 31

32. Case Study: Impact of a new prison industry Initial impacts (direct effects): – Payroll for local supervisors. – Local purchases of goods, services, and raw materials by the plant. – One-time construction impacts. – Note: prison labor receives a small compensation that cannot be spent locally. 32

33. Case Study: Impact of a new prison industry New Payroll: – 30 new employees, – $979,000 in new payroll. 33 979.0 Payroll (thousand $) Less: 244.8 Taxes 734.3 Disposable income Less: 355.3 Imports (estimated from IMPLAN) 378.9 Local spending from payroll

34. Case Study: Impact of a new prison industry 34 Due to large leakages, impacts of payroll and spending for goods and services are small.

35. Case Study: Impact of a new prison industry Impact of locally purchased raw materials Demand: 48 million square feet hardwood feedstock annually, $28.8 million at 2009 prices. Two scenarios: – 50% purchased in study area, and – 100% purchased in study area. Apply final demand to the sawmill industry. 35

36. Case Study: Impact of a new prison industry 36 Impacts from demand for lumber are substantial. Might also add impacts from trucking.

37. Case Study: Impact of a new prison industry 37 Total continuing impacts, assuming 50% of lumber is purchased locally:

38. Case Study: Impact of a new prison industry 38 Conclusion: the new wood-processing plant will have a significant impact locally if much of the feedstock is locally purchased. And, benefits other than jobs and payroll exist.

39. Case Study: Impact of a new prison industry 39 Other benefits: – Training costs: The new plant will provide vocational training, which normally would cost the state $5,031 annually per offender. If 250 offenders are hired, the state could save $1.2 million in training costs.

40. Case Study: Impact of a new prison industry 40 Other benefits: – Victims compensation fund Worker is required to pay $2.35 per day to the victims criminal injury compensation fund paid to crime victims in Tennessee. If offenders work 250 days per year, at least $146,000 annually will be contributed to the fund.

41. Summary: using input-output multipliers 41 Steps in a multiplier analysis: – Define the region of analysis. – Determine net new local expenditures (identify any offsetting spending). – Obtain multipliers (IMPLAN or RIMS). – Perform analysis. – Report results.

42. Summary: using input-output multipliers 42 General observations: – The smaller the region of analysis, the larger the leakages from the spending stream (Bledsoe County, for example). – If direct effects are uncertain, use a range of potential impacts. – Identify and discuss other relevant costs and benefits related to the project.