International Macroeconomic Modelling for Policy Decisions ADVANCED STUDIES IN THEORETICAL AND APPLIED ECONOMETRICS VOLUME 5 Managing Editors: J.P. Ancot, Netherlands Economic Institute, Rotterdam, The Netherlands A.J. Hughes Hallett, University of Newcastle, U.K. Editorial Board: G. Adams, University of Pennsylvania, Philadelphia, U.S.A. P. Balestra, University of Geneva, Switzerland M.G. Dagenais, University of Montreal, Canada D. Kendrick, University of Texas, Austin, U.S.A. J. Paelinck, Netherlands Economic Institute, Rotterdam, The Netherlands H. Theil, University of Florida, Gainsville, U.S.A. W. Welfe, University of Lodz, Poland International Macroeconomic Modelling for Policy Decisions edited by P. Artus and O. Guvenen in collaboration with F. Gagey 1986 MARTINUS NIJHOFF PUBLISHERS ~. B. a member of the KLUWER ACADEMIC PUBLISHERS GROUP DORDRECHT/BOSTON/LANCASTER .~ Distributors for the United States and Canada: Kluwer Academic Publishers, 190 Old Derby Street, Hingham, MA 02043, USA for the UK and Ireland: Kluwer Academic Publishers, MTP Press Limited, Falcon House, Queen Square, Lancaster LAI 1R N, UK for all other countries: Kluwer Academic Publishers Group, Distribution Center, P.O. Box 322, 3300 AH Dordrecht, The Netherlands Library of Congress Cataloging in Publication Data Main entry under title: International macroeconomic modelling for policy decision. (Advanced studies in theoretical and applied econometrics; v. 5) "Based on an international conference organised by the Applied Econometric Association (AEA) •.. which was held in Brussels at the Commission of the European Communities in December 1983"--Pref. Bibliography: p. 1. International economic relations--Mathematical models--Congresses. 2. Economic policy--Decision making--Congresses. I. Artus, Patrick. II. Guvenen, O. III. Gagey, F. IV. Applied Econometric Association. V. Series. HF1410.5.1577 1985 337'.0724 85-13698 ISBN-13: 978-94-010-8432-1 e-ISBN-13: 978-94-009-4347-6 DOl: 10.1007/978-94-009-4347-6 Copyright © 1986 by Martinus Nijhoff Publishers, Dordrecht. Softcover reprint ofthe hardcover 1s t edition 1986 All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publishers, Martinus Nijhoff Publishers, P.O. Box 163, 3300 AD Dordrecht, The Netherlands. PREFACE This book is based on an international conference organised by the Applied Econo metric Association (AEA) on International Macroeconomic Modelling which was held in Brussels at the Commission of the European Communities in December 1983. On behalf of the Applied Econometric Association, we would like to extend our thanks to all participants and contributors. This conference would not have been possible without the cooperation and support of the Commission of the European Economic Communities and of its Directorate General for Economics and Financial Affairs (DGII) staff, in particular M. Emerson, A. Dramais, and also H. Serbat of the Paris Chamber of Commerce and Industry. Our thanks go also to J.P. Ancot for his constructive comments concerning the structure of this book. We are grateful to M. Russo, R. Maldague and Y. Ullmo for opening the con ference with their stimulating review and comments on the use of international macroeconomic models; and to R. Bird, A.M. Costa, A. Crockett, H. Guitton, J.C. Milleron, J. Paelinck, J. Waelbroeck for chairing the scientific sessions. P. Artus F. Gagey O. Guvenen vi INTRODUCTION The main focus of this book is to present recent developments in the construction and use of international macroeconometric models. Four main aspects are selected: (i) analysis of trade linkages and exchange rate determination; (ii) modelling and simulating the international economy; (iii) international policy coordination; (iv) the use of international macroeconomic models. These four aspects are treated by theoretical and empirical studies to be used as research and forecasting tools at the universities, research institutes, and inter national organisations. The Editors vii TABLE OF CONTENTS Preface P. Artus, v F. Gagey and O. Guvenen PART I: ANALYSIS OF TRADE LINKAGES AND EXCHANGE RATE DETERMINATION 1. Modelling Bilateral Sectoral Trade Flows A. Italianer and 3 G. d'Alcantara 2. Product Availability, Price Discrimination and J.M. Viaene 39 Interdependent Import Flows 3. Exchange Rate Expectations and Current P. Masson and 53 Balances in the OECD INTERLINK System P. Richardson 4. The Sterling-Dollar Exchange Market 1973-1982: A. Murfin and 79 Surprises and Expectations P. Ormerod PART II: MODELLING AND SIMULATING THE INTERNATIONAL ECONOMY 5. An Aggregate Model of the World Economy P. Artus 105 6. A Globus OECD/COMECON Simulation Model G. Kirkpatrick 129 7. Competitiveness and Employment in the Large E. Kremp and 159 Industrialized Countries J. Le Dem 8. The Current Account of the United States, P. Hooper and 181 Japan and Germany: A Cyclical Analysis R. Tryon PART III: INTERNATIONAL POLICY COORDINATION 9. The Coordination Approach to Policymaking in A.S. Brandsma and 209 Interdependent Economies A.J. Hughes Hallett 10. Simulating Economic Policy with the COMET A.P. Barten and 229 Model G. d'Alcantara viii PART IV: THE USE OF INTERNATIONAL MACROECONOMIC MODELS 11. Making International Economic Forecasts J. Llewellyn, 241 L. Samuelson and N. Vanston 12. International Macroeconomic Modelling for O. Guvenen 259 Policy Decisions: Some Proposals PART I ANALYSIS OF TRADE LINKAGES AND EXCHANGE RATE DETERMINATION 3 CHAPTER 1 MODELLING BILATERAL SECTORAL TRADE FWWS A. Italianer* and G. d'A1cantara** *Katholieke Universiteit Leuven, Belgium; **Katholieke Unviersiteit Leuven and CORE, Belgium 1. INTRODUCTION The recession that has set in in the aftermath of the second oil crisis is taking such a shape that one is more and more tempted to compare it with the Big Recession that occurred about a long wave of 50 years ago. Somewhat loosely speaking, one might say that Keynes' 'diagnosis' of underex penditure and 'treatment' of government stimulation formed part of a macro-econo mic answer to the pre-war problems that proved to be right in the course of history. The present recession, however, is of a much more complicated nature in several respects. It is dealing simultaneously with the financial problems and instability in general of the developing countries, and large government budget deficits (due to slackening growth, rigid expenditure patterns and expensive social security systems), low investment (due to high interest rates and uncertain expectations), high unemployment and numerous sectoral problems against a background of political instability, increasing protection and fierce international competition. A common factor that applies to several items appearing on this list of sadnesses is the interdependent nature of things. Each national multiplier corresponding to a measure of one single government is confronted with a relatively high import leakage so to speak. The complicated nature of the recession and the interdependencies that pull the world back and forth in the course of its development exclude a Keynesian one problem - one solution analysis of the state of affairs. And what is more, the increased validity of an economic law of communicating (and probably leaking) fusts prevents individual governments from taking effective action on their own. The consequences of these conclusions for econometric modelbuilding are two fold. First, we cannot any longer rely on relatively simple macro-economic models to deal with questions that require anything but a macro-economic analysis. Second, Artus, P. and Guvenen, O. (eds.): International Macroeconomic Modelling for Policy Decisions. © 1986. Martinus Nijhoff Publishers, Dordrecht/Boston/Lancaster. ISBN-13: 978-94-010-8432-1