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R. SCHNEIDER ROBERT

IN MANY COUNTRIES, food subsidies are the most politically and emotionally charged of all government expenditures. To some observers, the fundamental measure of a successful government is its commitment to, and effectiveness in, providing its population with adequate nutrition. To others, food subsidies are a token, temporary treatment masking serious structural illnesses, ranging from chronic unemployment due to the failure of economic policy to hopelessly skewed access to economic opportunity. Whatever the short-run economic, political, or moral justification for food subsidies, however, experience has shown that the long-run consequences are often different from the short-run objectives.

Mr. Tamim Bayoumi, Mr. Hamid Faruqee, Mr. Douglas Laxton, Mr. Philippe D Karam, Mr. Alessandro Rebucci, Mr. Jaewoo Lee, Mr. Benjamin L Hunt, and Mr. Ivan Tchakarov

Abstract

Over the past two years, the IMF staff has been developing a new multicountry macroeconomic model called the Global Economy Model (GEM). This paper explains why such a model is needed, how GEM differs from its predecessor model, and how the new features of the model can improve the IMF’s policy analysis. The paper is aimed at a general audience and avoids technical detail. It outlines the motivation, structure, strengths, and limitations of the model; examines three simulation exercises that have been completed; and discusses the future path of GEM.

Mr. Tamim Bayoumi, Mr. Hamid Faruqee, Mr. Douglas Laxton, Mr. Philippe D Karam, Mr. Alessandro Rebucci, Mr. Jaewoo Lee, Mr. Benjamin L Hunt, and Mr. Ivan Tchakarov

Abstract

Over the last two years, IMF staff has been developing a new multicountry macroeconomic model called the Global Economy Model (GEM). An obvious question is why such a model is needed, given that the Fund’s existing model, MULTIMOD, also focuses on interdependence across countries. This paper answers this question by explaining how GEM differs from its predecessor and outlining how these new features can improve the Fund’s policy analysis. The paper is aimed at a general audience and avoids technical detail. Following this overview, Section II outlines the motivation, structure, strengths, and limitations of the model. Section III presents a more detailed discussion of three simulation exercises that have been completed. Section IV looks at areas in which development of the model is currently under way, while the final section provides a more general discussion of GEM’s future path.

Mr. Tamim Bayoumi, Mr. Hamid Faruqee, Mr. Douglas Laxton, Mr. Philippe D Karam, Mr. Alessandro Rebucci, Mr. Jaewoo Lee, Mr. Benjamin L Hunt, and Mr. Ivan Tchakarov

Abstract

The development and rationale for GEM can be best explained through a brief description of the role of large macroeconomic policy models. Academic work in macroeconomics tends to focus on specific issues, such as the consumption function or a new theoretical insight. Large macroeconomic policy models, on the other hand, are used to quantify the impact of a range of issues within a unified structure, most notably countercyclical macroeconomic policies. A stylized way of thinking about the interaction between academic work and large policy models is provided in Figure 2.1. A new theoretical insight (such as rational expectations) with strong policy implications is developed in academia in response to evolving policy challenges and the limitations of existing models. Once these ideas have been distilled to the point where they are able to fit the data reasonably, they form the basis for large policy models, starting with single-country versions and then extending to a multicountry setting. Subsequently, the academic and policy communities refine these ideas and the paradigm becomes increasingly dominant. At some point, a new insight emerges and the leading edge of academic work switches to this new paradigm. However, large policy models do not follow because the ideas are not yet able to provide the needed quantitative insights, and academic interest in large macroeconomic models wanes. In short, the “production cycle” of policy models tends to lag that of their academic brethren, given the greater need for policy models to fit the stylized facts of the cycle.

Mr. Tamim Bayoumi, Mr. Hamid Faruqee, Mr. Douglas Laxton, Mr. Philippe D Karam, Mr. Alessandro Rebucci, Mr. Jaewoo Lee, Mr. Benjamin L Hunt, and Mr. Ivan Tchakarov

Abstract

GEM simulations have already been used to provide insights on a range of issues. In particular, they have been incorporated into the IMF staff’s analysis in the World Economic Outlook and other IMF work examining the impact of entry into European Monetary Union (EMU) on European Union (EU) accession candidates (Laxton and Pesenti, 2003) and energy issues in the United States (IMF, 2003b), as well as in contributions to academic conferences and journals. In many cases these efforts have been combined, so that work originally used for (say) the World Economic Outlook has generated academic papers, while work originally prepared for academic conferences has provided the basis for analysis to assist the staff. Indeed, such dual uses ensure policy relevance and professional rigor. On the other hand, like MULTIMOD, GEM is not used to generate the Fund’s forecasts. Rather, the World Economic Outlook exercise uses the expertise available on countries by aggregating projections from individual country desks.

Maral Shamloo
Reconciling the high frequency of price changes at the micro level and their apparent rigidity at the aggregate level has been the subject of considerable debate in macroeconomics recently. In this paper I show that incorporating production chains in a standard New- Keynesian model replicates two stylized facts about the data. First, sectoral prices respond with significantly different speeds to aggregate shocks. Meanwhile, the responses to sectorspecific shocks are similar. Second, the standard price setting models are unable to quantitatively match the amount of monetary non-neutrality observed in the data. I argue, First, that the input-output linkages in production generate different responses to aggregate shocks across sectors. Second, calibrating this model to the US data can create five times more monetary non-neutrality in response to nominal shocks compared to an equivalent homogeneous economy with intermediate inputs. Finally, the model implies that upstream industries respond faster to aggregate shocks compared to downstream industries. I show that this prediction is supported by the data.
Juan Pablo Medina Guzman and Mr. Ruy Lama
This paper evaluates how successful is a policy of exchange rate stabilization to counteract the negative effects of a Dutch Disease episode. We consider a small open economy model that incorporates nominal rigidities and a learning-by-doing externality in the tradable sector. The paper shows that leaning against an appreciated exchange rate can prevent an inefficient loss of tradable output but at the cost of generating a misallocation of resources in other sectors of the economy. The paper also finds that welfare is a decreasing function of exchange rate intervention. These results suggest that stabilizing the nominal exchange rate in response to a Dutch Disease episode is highly distortionary.
Mr. Sébastien Walker
This paper develops a Dynamic Stochastic General Equilibrium (DSGE) model with a financial accelerator which captures key features of low-income countries (LICs). The predominance of supply shocks in LICs poses distinct challenges for policymakers, given the negative correlation between inflation and the output gap in the case of supply shocks. Our results suggest that: (1) in the face of a supply-side shock, the most desirable interest rate rule involves simply targeting current inflation and smoothing the policy interest rate; and (2) ignoring financial frictions when evaluating policy rules can be particularly problematic in LICs, where financial frictions loom especially large.
Mr. Michael Sarel
This paper examines the dynamics of economic growth. First, it demonstrates that the standard neoclassical growth model with constant elasticity of intertemporal substitution is not consistent with the patterns of development we observe in the real world, once we consider the initial conditions. Second, it examines an alternative growth model, which is consistent with endogenously determined initial conditions and also generates dynamics that are in accord with the historical patterns of growth rates, capital flows, savings rates and labor supply. The alternative model is a generalized version of the neoclassical growth model, with increasing rates of intertemporal substitution due to a Stone-Geary type of utility.
Mr. Vadim Khramov
The simulated results of this paper show that New Keynesian DSGE models with capital accumulation can generate substantial persistencies in the dynamics of the main economic variables, due to the stock nature of capital. Empirical estimates on U.S. data from 1960:I to 2008:I show the response of monetary policy to inflation was almost twice lower than traditionally considered, as capital accumulation creates an additional channel of influence through real interest rates in the production sector. Versions of the model with indeterminacy empirically outperform determinate versions. This paper allows for the reconsideration of previous findings and has significant monetary policy implications.