Economic Models for Impact Assessment

Steven R. MillerSenior Research Analyst

Center for Economic Analysis

Presented to the MI-SBTDC

Economic Models for Impact Assessments

• An economic model is a simplification of reality

• Models are based on mathematical equations that provide a simplified picture of employment and income relationships

Economic Models for Impact Assessments, continued

• Economic impact models are used to assess the impacts of shocks to the existing economic structure

• Shocks take many forms– Increase in export demand for a locally

produced good or service– Increase in capital from outside the region

(SBA loans and grants)– Changes in federal, state, and local tax

codes– New social structures like an arena– Reallocation of resources from one activity

to another

Economic Models for Impact Assessments, continued

• The accuracy of the impact assessment depends on: – The appropriateness of the model

assumptions– The accuracy of the shock supplied to the

model– The user’s understanding of the model

structure in interpreting the results

Appropriateness of the Model Assumptions

• Consider two models of the labor market using different assumptions about wage rates.– Both models are valid, but the concept of

validity is a moving target

Wages

Employment0

D

S

D`

A B C

Wages

Employment0

D

S

D`

A B C

D D`

SWages

Employment0 A B C

SWages

Employment0 A B C

SWages

Employment0 A B C

Wages

Employment0 A B C

Wages are assumed fixed Wages are assumed flexible

Appropriateness of the Model Assumptions

• The fixed wage model produces a greater increase in labor for a given increase in demand

• The fixed wage model is most appropriate for– Small shocks to the economy– Economies with high unemployment

• The flexible wage model is most appropriate for– Large shocks to the economy– Economies with low unemployment

Types of Impact Assessment Models

Custom or Off-the-shelf?• Custom models generally

– Better represents the local economy– Are extremely expensive to acquire

• Off-the-shelf– Standardized structure across all regions– Less expensive to acquire

Off-the-shelf Models

• All off-the-self models share common characteristics– Use nationally standardized and reported

data– Rely on a core Input-Output model to

capture relationships across industries – Regional detail for models are generally

derived by adjusting national data to fit the local economy

• Hence, off-the-self models are fairly comparable.

The Input-Output Table

• Input-Output table estimates what each industry buys from all other industries within the region to make a dollar’s worth of output.

• When one industry increases production, it increases its purchases of inputs from other industries.

• Hence a $1 increase in production will generally lead to more than $1 increase in production in all industries

The Input-Output Table: Example

• Example– Steel industry uses coal to fire its blast

furnaces and to mix with iron ore– Coal industry uses steel in its equipment

and to brace tunnels• When steel is sold, demand for coal increases• When coal is sold, demand for steel increases

The Input-Output Table: Example

• Imagine that– $100 of steel requires $10 of coal– $100 of coal requires $5 of steel

• Imagine that both industries are found locally

• Consider the local impacts if a new customer buys $100 worth of steelDirect Impact 100.00$ SteelInterindustry Purchases 10.00$ CoalInterindustry Purchases 0.50$ SteelInterindustry Purchases 0.05$ Coal

110.55$ Total Impact

The Input-Output Table: Example

• Hence a $100 purchase has led to more than $100 worth of local production

• The ratio of Total Impact to Direct Impact is known as the multiplier and is always greater than 1

• In our example:Total Impact/Direct Impact = 110.55/100 = 1.1055

• This multiplier is the same if the increase in demand for steel is $100, $200, or $1 million

• Simply take the dollar value and multiply it by the multiplier to get the total impact

The Input-Output Table, Continued

• This example demonstrates the working of the core of all off-the-shelf models

• Rather than limiting the relationships to two industries, these models track the local input requirements of all local industries– RIMS, IMPLAN, and EconomicImpact

report the full spectrum of federally reported industries

– REMI aggregates industries into 169 categories

The Input-Output Table, Continued

• In a similar fashion household wages and expenditures are recorded. In the steel/coal example, – both the steel and the coal industries hire

additional workers to produce the added output

– These additional workers spend part of their wages on goods and services provided locally

– Benefiting firms will similarly hire additional workers to accommodate the increased demand.

Off-the-shelf Models, Continued

• Several options exist for off-the-shelf models.– BEA RIMS II (Bureau of Economic Analysis)– Impact and Planning (Minnesota IMPLAN

Group)– Policy Insight (REMI, Inc.)

– EconomicImpact (EMSI)

Back to Off-the-Shelf Models

RIMS II• Provides only the Multipliers for 473

industries• Useful in building custom models around the

input-output table• Inexpensive (about $225 per district)• Static, making no room for modification of

the underlying data• Data is updated every five-years

Back to Off-the-Shelf Models

IMPLAN Pro.• Provides the modeling environment used to

produce the RIMS II multipliers for 509 industries

• Dynamic in that it allows the user to provide informed modifications to the underlying data

• Inexpensive ($2000 per year)• Data is updated annually• Expands on RIMS to include flows to and from

government sectors• STRICTLY DEMAND DRIVEN

Back to Off-the-Shelf Models

Policy Insight• Expands on the IMPLAN methodology with

greater model coverage for 169 industries• Dynamic in that it allows the user to provide

informed modifications to the underlying data• Expensive (varies based on number of

industry components and geographic area for model)

• Relaxes many of the model assumptions fund in IMPLAN

• PROVIDES BOTH SUPPLY-SIDE AND DEMAND-SIDE IMPACTS

• Provides forecasts

Back to Off-the-Shelf Models

EconomicImpact EMSI (Limited information on)

• This model seems to be built to identify human resource needs (training, occupations, etc.)

• Provides the modeling environment used to produce the RIMS II multipliers

• Dynamic in that it allows the user to provide informed modifications to the underlying data before calculating the multipliers

• Web-based• Provides forecasts

Comparison Tableau

RIMS II IMPLAN REMI Economic Impact

Industries 473 509 169 500 Updates Every 5-years Yearly Yearly Every 6-months Periodicity Annual Annual Annual Annual Structure Input-Output Input-Output

(SAM) Hybrid Model Input-Output?

Employment Impacts No Yes Yes Yes Income Impacts Yes Yes Yes ?? Output Impacts Yes Yes Yes ?? Demographic/Household Impacts

No No Yes No

Includes Fiscal Impacts No Yes Yes No Provide Tax Policy Impacts

Indirectly Indirectly Yes Indirectly

Provides Baseline Forecasts

No No Yes Yes

Modifiable No Yes Yes Yes Provides Occupational Impacts

No No Yes Yes

Demographic Profiles None By Income Group

By Age, By Race, By Gender

By Age Group

Facilitates Cluster Analysis

No Yes Yes Yes

Cost to Acquire (excludes analysis)

$225 per district per 5-years

$2,000 per year for all districts

Variable (pricey) Variable (Not outrageous)

In Output RIMS IMPLAN REMI Direct Impact $200 Mil $200 Mil $200 Mil Input-Output

Increases demand for locally produced inputs

Yes Yes Yes

Suppliers to auto manufacturing increase demand for locally produced inputs into their production process

Yes Yes Yes

Increases in wages lead to increased demand for locally produced goods and services at the retail level

Yes Yes Yes

SAM Feedback

Increased wages and profits leads to increased income tax collection

No Yes Yes

Increased income leads to increased sales tax revenue

No Yes1 Yes

Hybrid Component Increase in the demand for workers Increases the wage rate

No No Yes

causes the average local price to increase relative to the nation

No No Yes

causes local production costs to increase making locally produced goods and services less competitive to the nation

No No Yes

causes increase in demand for taxable productive capital

No No Yes

Increase in wages and jobs increases labor in-migration

No No Yes

Increase in-migration rates lead to demographic shifts and increased government expenses and revenue

No No Yes

Output Multiplier 1.826498 1.474 Employment Multiplier 4.381753 2.909

1 Caveat: average indirect business tax includes sales tax revenues. The actual sales tax rate is not used.

• For further information, contactSteven R. Miller 88 Agriculture Hall Michigan State University East Lansing, MI 48824 (517) 355-2153 mill1707@msu.edu