1. Modeling Issues Related to EDRC Models Ex-ante Poverty Impact Assessment of Macroeconomic policies International Workshop Washington D.C. October 14-15, 2003 Mushegh Tumasyan Economic Development and Research Center, Armenia

2. Contents Why EDRC participates in PRSP and modeling processes and how it contributed to the development of PRSP in Armenia? Why EDRC participates in PRSP and modeling processes and how it contributed to the development of PRSP in Armenia? What are the Criteria that a Model Dealing with Poverty Issues should meet? What are the Criteria that a Model Dealing with Poverty Issues should meet? What Environment EDRC’s Models are Developed for? What Environment EDRC’s Models are Developed for? Ideas underlying the model: Political economics of the Model Ideas underlying the model: Political economics of the Model The Set of The Models The Set of The Models

3. Why EDRC Participates in PRSP and Modeling Processes and how It Contributed to the Development of PRSP in Armenia? To contribute to a comprehensive understanding of poverty and possibilities of poverty reduction in Armenia To contribute to a comprehensive understanding of poverty and possibilities of poverty reduction in Armenia To design independent domestic policy programs To design independent domestic policy programs To provide a tool to Civil Society Organizations (CSO-s) for policy evaluation To provide a tool to Civil Society Organizations (CSO-s) for policy evaluation To create institutional basis for strengthening alternative macro-modeling capacities of the non-governmental sector To create institutional basis for strengthening alternative macro-modeling capacities of the non-governmental sector To promote CSO-s participation in public policy making To promote CSO-s participation in public policy making

4. PRSP Processes in Armenia: EDRC Contribution EDRC conducted the “Policy Choice for Poverty Reduction” project to develop policy recommendations for PRSP EDRC conducted the “Policy Choice for Poverty Reduction” project to develop policy recommendations for PRSP Using EDRC’s models, our experts developed the macroeconomic strategy and analysis of the macroeconomic policy impact on poverty for the first draft of PRSP for Armenia Using EDRC’s models, our experts developed the macroeconomic strategy and analysis of the macroeconomic policy impact on poverty for the first draft of PRSP for Armenia However in the final PRSP it was replaced by the macroeconomic framework of the IMF’s PRGF program with Armenia However in the final PRSP it was replaced by the macroeconomic framework of the IMF’s PRGF program with Armenia In the final PRSP the tools that were used to derive the policy impact on distribution and poverty incidence are not transparent and have not been disclosed In the final PRSP the tools that were used to derive the policy impact on distribution and poverty incidence are not transparent and have not been disclosed

5. What are the Criteria that a Model Dealing with Poverty Issues Should Meet? Ability to estimate policy impact on welfare Ability to estimate policy impact on welfare The model needs to produce a macroeconomic framework, to forecast income distribution and poverty incidence The model needs to produce a macroeconomic framework, to forecast income distribution and poverty incidence For participatory policy making, models also should be transparent and user-friendly For participatory policy making, models also should be transparent and user-friendly Data availability constraint should be properly taken into account Data availability constraint should be properly taken into account

6. What Environment EDRC’s Models are Developed for? Low income transition economy Low income transition economy High level of “transitional” polarization High level of “transitional” polarization Corruption and resulting market distortions Corruption and resulting market distortions Openness to trade and capital account liberalization Openness to trade and capital account liberalization Low level of resource utilization Low level of resource utilization Stable prices Stable prices

7. The Set of the model “MAGMA” Macroeconomic framework “Income Distribution Matrix” Income Distribution and GINI “Growth and Distribution Model” Poverty Incidence Household Survey Data Policy Exogenous variables GINI Growth Policy Revision

8. Growth and Distribution Model Estimates poverty incidence for different combinations of Gini coefficient and economic growth Estimation of Lorents curve function Estimation of Lorents curve function Calculation of coefficients of Lorents curve for different Gini coefficients Calculation of coefficients of Lorents curve for different Gini coefficients Calculation of poverty incidence for given combinations of Gini and income growth index Calculation of poverty incidence for given combinations of Gini and income growth index

9. Growth and Distribution Model: Estimation of Lorents Curve Function To choose the type of distribution function, logarithmic, exponential and combined functions and polynomials were observed. To choose the type of distribution function, logarithmic, exponential and combined functions and polynomials were observed. We estimate Lorents curve by solving the following system of equations. We estimate Lorents curve by solving the following system of equations. Equation (2) expresses the relation between the selected function and actual Gini index, and equation (1) is the equation satisfying the condition x=100; y=100 and x=0; y=0. To choose the best function we should take one with minimum dispersion from actual deciles values. In case of Armenia we select following functional form: To choose the best function we should take one with minimum dispersion from actual deciles values. In case of Armenia we select following functional form:

10. Growth and Distribution Model: Estimation of Poverty Incidence for Different Combinations of Gini Coefficient and Economic Growth Income Population Poverty line Change of Gini Poverty Reduction

11. Growth and Distribution Model : Calculation of Poverty Incidence for Various Combinations of Gini and Income Growth Index

12. Macroeconomic Adjustments and Growth Model for Armenia (MAGMA) Main Outcome Endogenous GDP growth Endogenous GDP growth Forecast GDP by expenditures, production and income Forecast GDP by expenditures, production and income Estimation of employment by sectors Estimation of employment by sectors Main Features  behavior of different income groups and institutions  decomposition of consumption and import functions by income groups  Assuming that higher income groups have higher propensity to save and to consume imported goods, decrease of polarization leads to economic growth

13. MAGMA: Main Equations

14. Variable Endogen ous Exogeno us Gross National Disposable Income (GNDI)Y+ Gross National Disposable Income of Private Sector Yp+ Private GNDI of i groupYp i + Private Consumption of i groupCiCi + Public ConsumptionG+ Private InvestmentsIpIp + Public InvestmentsIgIg + Exports (goods & services)X+ Imports (goods & services)M+ Net Factor Income and Transfers from AbroadFY+ Consolidated Budget Revenues and GrantsRev+ Description of Variables of Main Equations (1)

15. Variable Endogen ous Exogen ous Interest Payments of GovernmentP+ Public Transfers and SubsidesTr+ Marginal Propensity to Consume in i group MPC+ Share of Imports in the Consumption of i group Kc i + Share of Imports in the Public ConsumptionKGKG + Share of Imports in the Public InvestmentsK Ig + Share of Imports in the Private InvestmentsK Ip + Share of Export Related Imports in the ExportsKxKx + Consolidated Budget Revenues and Grants / GDPg1g1 + Public Consumption / GDPg2g2 + Consolidated Budget Deficit / GDPg3g3 + Private GNDI of i group / Private GNDI didi + Autonomous Consumption of i groupaiai + Description of Variables of Main Equations (2)

16. Income Distribution Matrix (IDM) IDM assesses the policy impact on income distribution It produces a distribution table showing the type (wages, profit, transfers) and sources of income for each income group, finally deriving Gini coefficient. It produces a distribution table showing the type (wages, profit, transfers) and sources of income for each income group, finally deriving Gini coefficient. Analyzes the distribution of 1) assets, 2) employment and 3) pensioners for each income group Analyzes the distribution of 1) assets, 2) employment and 3) pensioners for each income group IDM uses Households’ surveys Data, outcomes of the Macro Model (MAGMA) and some other exogenous estimates IDM uses Households’ surveys Data, outcomes of the Macro Model (MAGMA) and some other exogenous estimates

17. Income Distribution Matrix IIIIIIIVVVIVIIVIIIIXXTotal Wages and Salaries0.030.471.251.942.784.044.385.736.0920.4547.16 Industry0.000.040.110.450.901.44 1.56 2.9910.46 Agriculture0.010.370.68 0.90 1.471.762.054.7813.61 Construction0.00 0.120.150.280.290.36 2.654.21 Trade0.00 0.170.190.31 0.440.543.415.38 Public Services0.020.030.350.160.480.740.500.620.490.033.43 Other Services0.000.030.110.370.150.380.370.991.096.5910.07 Profit0.00 2.824.348.6724.2640.09 Industry0.00 0.610.941.885.268.70 Agriculture0.00 1.081.663.329.2915.35 Construction0.00 0.250.380.762.123.51 Trade0.00 0.230.350.701.953.22 Services0.00 0.661.012.015.639.31 Transfers0.671.431.652.062.222.360.900.630.530.2912.76 Private0.000.801.041.471.652.140.710.440.350.238.84 Government0.670.640.610.590.570.220.200.190.180.063.92 Total0.71.92.94.05.06.48.110.715.345.0100.0

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