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GTAP Resource #2101

"Estimation of income elasticities and their use in a CGE model for Palestine"
by Missaglia, Marco and Paul De Boer

In a recent article (Food-For-Work versus Cash-For-Work: Emergency Assistance in Palestine, Economic Systems Research, 16, pp.367-390, 2004) we analyzed the provision of emergency assistance (food assistance, cash transfers, employment programs, etc.) to a country whose economy has been decimated since the start of the second intifada. We tried to simulate the different potential effects brought about by these different policies and, especially, to draw some policy implications concerning the Food-for-Work versus Cash-for-Work debate. To that end we constructed a general equilibrium model of the Palestinian economy that we calibrated on the (pre-intifada) Social Accounting Matrix (SAM) of 1998. We gave a so-called “intifada-shock” to construct a counterfactual “post-intifada” SAM which served as basis for our policy simulations. We showed that monetary aid from abroad is to be preferred to food aid from abroad. We argued that a labor-oriented approach (subsidizing the most labor-intensive sectors) is to be preferred to a welfare-oriented approach where the subsidized sectors produce those goods that dominate the consumption basket.

Following common practice, we used the Linear Expenditure System (LES), with leisure, for modeling the consumption block and assigned values to the income elasticities, to the Frisch parameter and the elasticity of labor supply in order to calibrate its parameters. The theoretical disadvantage of LES is the assumption that the marginal budget shares are constant so that the Engel curves, describing the relationship between expenditure on a particular commodity and total expenditure on commodities, are straight lines. From a theoretical point of view there are limitations: the LES does not allow for the existence of inferior commodities, for elastic demand and does not allow gross substitution.

An alternative model for the consumption block is the Indirect Addilog System (IAS), with leisure as well, which has the same outside requirements for calibration of its parameters as the LES, but allows for non-linear Engel curves. Moreover, the IAS allows for the existence of inferior commodities, for elastic demand and for commodities to be gross substitutes. Consequently, with the same data requirement, it is possible to describe more general patterns for the Engel curve and for price responses so that, from an economical point of view, the use of IAS is to be preferred to LES. From the econometric point of view, the estimation of the income elasticities of the IAS leads to a seemingly unrelated regression model with identical explanatory variables, so that application of the method of ordinary least squares to each equation separately is efficient.

In the empirical part of the paper we estimate the income elasticities of the IAS from the 1998 Palestinian Expenditure and Consumption Survey (PECS). We replace the LES consumption block with a priori fixed income elasticities of the CGE model, which we previously constructed for Palestine, by the IAS with estimated income elasticities. For the calibration of the parameters of the consumption block (including leisure) we need to assign a numerical value to the Frisch parameter (or, equivalently, to the own price elasticity of the reference commodity) and to the elasticity of labor supply. We perform a sensitivity analysis of the choice of these parameters.

Resource Details (Export Citation) GTAP Keywords
Category: 2006 Conference Paper
Status: Published
By/In: Presented at the 9th Annual Conference on Global Economic Analysis, Addis Ababa, Ethiopia
Date: 2006
Created: Missaglia, M. (5/2/2006)
Updated: Missaglia, M. (5/2/2006)
Visits: 2,335
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