The Moorish Wanderer

“There’s Your Turn” – “You’ve Missed It, You Idiot”

Posted in Ancient Times, Happy Times, Dismal Economics, Morocco, Read & Heard by Zouhair ABH on November 23, 2012

From Robin William’s One Man Show “Weapons of Self-Destruction”

At the risk of stating the obvious, Morocco is very sensitive to exogenous and foreign (imported) shocks, as it is a small and open economy (75.9% of its GDP goes to foreign trade) And from my ivory tower I foresee a bad course of action, captured in one essential aggregate of growth in Morocco: household consumption is too volatile, too high to actually benefit from its openness to foreign trade – and some government policies come to mind in order to explain these discrepancies: the Subsidy fund harms growth.

de-trended quarterly foreign trade and technological growth – the combined effect of both exogenous aggregates produce interest results

Morocco observes domestic and foreign shocks; these are weakly negatively correlated, as shown on the graph. It is obvious foreign shocks exhibit larger magnitudes – the changes due to oil prices, exports and imports for instance are very large and quite volatile. Mainstream economics tells us large shocks should compel households to be more prudent about their consumption habits: if you are expecting oil prices to vary significantly, you might want to think twice before getting to work on your car – but on the other hand, because the government provides a comfortable cushion that keeps fuel prices low, whatever happens overseas is of little concern to you. Speaking of which, there is going to be a long-term effect of the government’s decision to lift some of the subsidies on oil derivatives: HCP’s estimates were an average decline of 1.13% in household consumption:

[…] Le pouvoir d’achat des ménages serait en dégradation et leur consommation connaîtrait en conséquence une baisse passant de 0.98% en 2012 à 1.53% en 2013, pour se stabiliser aux alentours de 0.97% en 2016-2017.[…]

mine is somewhat more pessimistic, close to 1.37%. Same goes for GDP impact, though HCP estimates an average .61% in lost GDP, close enough to my forecast of .69%:

[…] Au total, le produit intérieur brut (PIB) devrait enregistrer un manque à gagner de 0.39% en 2012, de 0,74% en 2013-2014 et 0.69% en 2017. […]

But let us get back to the issue of Morocco as a small, open economy: an earlier post showed growth in Morocco is mainly driven by technological change, though I have restricted the results to domestic shocks:

The addition of foreign shocks (imported technological change) only confirms my initial assumption: total technological change account for 73% of observed growth since 1995, including a 13.6% contribution from foreign trade, almost on par with physical capital accumulation.

Technical Note:

I have attached impulse-response graphs for both Domestic and Foreign Shocks; graphs are read as the percentage of aggregate variation from steady-state following a one-period, 1% exogenous shock.

Growth and Technological Change

Posted in Dismal Economics, Morocco, Read & Heard by Zouhair ABH on November 16, 2012

Capital accumulation exhibits significantly low levels of growth compared to output growth, and remarkably enough, TFP.

For all its simplistic setting, the 1957 Solow paper provides enough of a case to support the following claim: accumulation of physical capital per capita does not create growth. And as far as the domestic economy goes, this is what comes out:

   Y  |   H   |   K  | TFP
------+-------+------+-------
1.40% | 0.07% | 0.22% | 0.83%
      | 5.12% | 15.68%| 59.38%

(Quarterly growth. Y: Output, H: Labour, K: Capital, TFP: Solow Residual)

Over the past half a century, capital accumulation accounted for only 15.7% of the average GDP growth in the Moroccan economy, three times as much as demographic growth (actually, growth in the labour force) but most of the observed growth (in real terms) comes from TFP, Total Factor Productivity, or commonly known as ‘The Solow Residual’.

TFP accounts for almost 60% of the long-run average GDP growth. It does a lot more than that: it is more aligned with GDP growth, more correlated, and most importantly, a 1% increase in the Solow residual accounts for .96% in output growth, even as 1% in Capital growth accounts for only .08% in output What can the policy-maker learn from this very simple yet robust model? First, that accelerated accumulation of capital is unlikely to get output to grow faster. In the universe of our government’s commitment to get the 5.5% growth over their legislature, they need to generate a mind-boggling 23% increase in gross capital formation – i.e. an annual additional investment of 9.42 Bn dirhams above the current trend.

Impulse response graph to a 1%, one-period increase in productivity. Capital (k) decreases 4.43% the first period, and recovers only 60% of its initial return 5 years after the shock. Investment (x) on the other hand, increases substantially, even if it does not exhibit comparable strong persistence.

The findings are easy to sum up: what drives most of economic growth is not physical capital accumulation, but rather those things policy makers in Morocco care little about: research & development, labour and capital efficiency (a sad story I can recall from a lecturer in my Alma Mater, about a project of diesel-powered desalt water plant in Laayun, a wasteful process the Moroccan officials were reportedly proud of) and most important of all, institutional changes. These of course do not refer exclusively to political reforms, it encompasses labour market regulation and rigidities, rule of law and enforcement of contracts.

What is the real effect of this ‘technological change?’ first, a 1% sustained increase in innovation (such as it is) over 4 periods (or one year) results in boosting investment productivity 4.24%, with spillover effects going up to 3.2% on average over a 5-year period. Just think of it: this is sustained investment over just the first year in office. In budget terms, this means a relatively low investment of 50 Million dirhams in efficiency programs can increase investment efficiency by 4.24%, hence contributing an additional 12.5 Bn dirhams a year, a net contribution to growth by 360 basis points in one year – that is, an additional 3 Bn in added value, jobs and economic activity.

In fact, the accrued effect of  a one-year investment produce a marginal effect of almost one percentage point of GDP growth. And it is only right GDP grows thanks to technological change – because these resources when allocated to capital accumulation have a much lower return (one observes in the second graph capital accumulation declines by similar amounts (4.43% the first period). I argue this provides good evidence that accumulated investment for its own sake (which is about anything when it comes to some of the ongoing Grand Design workshops)

One last thing; since the mid-1970s, a particular component I have not described here accounted for the remaining 20% in real growth: even the impact of foreign trade (or perhaps just foreign productivity spillover effects) generates more growth than capital accumulation.

Technical note:

See Cooley & Prescott for the model used to generate the IRF graphs. Steady-state values have been used to calibrate the deep parameters.

The Big Picture – Part 6

Posted in Dismal Economics, Moroccan Politics & Economics, Morocco, Read & Heard by Zouhair ABH on May 19, 2012

This should be the last of “the Big Picture” series. My computations have reached a point where further effort needs to be fed more reliable figures – and get paid handsomely for it.

All previous results assumed no government intervention in the economy; But just as the initial results did not factor in foreign trade, the gradual adjustment of the RBC model shows our laborious business cycles accounting gets better as we introduce new elements.

Now consider government expenditure to be financed by taxes levied on labour and capital. These taxes are levied on ‘net’ income, and are defined as follows:

tax_{labour} = \tau_w (1-\alpha) z_t \left[\frac{k_t}{h_t}\right]^\alpha

tax_{capital} = \tau_k. \alpha .z_t \left[\frac{h_t}{k_t}\right]^{1-\alpha} +1 - \delta

both \tau_w .\ \tau_k are proportional to wages and capital rent. In terms of quantitative fiscal policy, these amount to a total fiscal pressure of about 14% GDP. Government expenditure is then added up to the National Accounting identity: Y = C + G + I

where Consumption, Investment and General government expenditure make up GDP.

Government taxation in this particular case is optimal – and as such might not fit exactly the general framework of fiscal policy-making: these are fluctuating rates within specified steady-state values (\tau_w .\ \tau_k are not fixed) and they levy fiscal income on factors paid at their marginal productivity, a strong assumption very difficult to verify with the data at hand. However, these government wedges, while they do not account for government cycles, do explain a lot of the observed volatility in other Business Cycles components. The new comparison table yields:

HP Data     |s      |sj/sy |Corr(y,j)|
------------+-------+------+----------
Y_GDP        |0.0803|   1  |    1    |
------------+-------+------+----------
Consumption |0.07013|0.8734|  0.8215 |
------------+-------+------+----------
Investment  |0.22035|2.7441|  0.8369 |
------------+-------+------+----------
Capital     |0.09167|1.1416|  0.4448 |
------------+-------+------+----------
Government  |0.24127|3.0046|  0.4997 |
------------+-------+------+----------
Labour      |0.04256|0.5300| -0.8670 |
--------------------------------------
RBC         |s      |sj/sy |Corr(y,j)|
------------+-------+------+----------
Y_GDP       |0.0734 |   1  |    1    |
------------+-------+------+----------
Consumption |0.0592 |0,8065|  0.9842 |
------------+-------+------+----------
Capital     |0.0826 |1,1253|  0.5972 |
------------+-------+------+----------
Government  |0.0045 |0,0613| -0.7591 |
------------+-------+------+----------
Labour      |0.0250 |0,3405| -0.9462 |
--------------------------------------

Government wedges do a very good work actually: the distortionary effects of labour taxes for instance, account for much of their deviation from steady-state and correlation with output. Same goes for Capital, but not investment: while corporations are taxed on their operational margins -minus a few policy incentives- they do not seem to have a significant impact on their investment decision. the model’s shortcomings are relatively easy to explain: the only exogeneous shock incorporated in the model comes from foreign trade (trade balance) and model specification restraints somewhat capital accumulation; this explains why capital is more correlated to output in the model compared to actual data: other (significant) factors have not been taken into account.

While government wedges do quite well in explaining absolute and relative volatility (to output), they are pretty weak at explaining the intrinsic volatility of government expenditure, nor do they succeed in capturing the pro-cyclical nature of empirical public finances; the RBC model matches the theoretical framework of government expenditure – anti-cyclical and designed to smooth business cycles over- actual data however, seem to indicate a relatively weak positive correlation between government expenditure and Morocco’s business cycles. One way to account for this result is the strong assumption underlying government expenditure and tax receipts: these are set to be balanced over the long run; this means public debt as a budget policy designed to fund some of the government’s expenditure in smoothing cycles – especially in recession phases- is not as efficient as one might think – efficiency, in this case, is not to be measured for the quarters following the immediate expansionary policy, but as a result taken over a long period of time, such as the one the data is based on.

In addition to the introduction of public finances dynamics, the standard output function has been specified with two incorporated shocks: the trade balance has been added as a distinct component – and this explains a lot the increased output volatility – not only does foreign capital account for much of Morocco’s own capital accumulation, but it seems other factors embedded in it – say foreign imported technical expertise – give a powerful explanation as to how output fluctuates over time, and these foreign (exogeneous) factors can be expected to be downplayed due to the stationary specification of the balance of trade process. Furthermore, the optimal tax sequences \left\{ \tau_w .\ \tau_k \right\} are computed on the steady-state assumption that primary fiscal pressure does not go beyond 17.4% of GDP, in real terms; this means the longer a budget deviates upwards from that threshold, the longer agents (households and businesses alike) will adjust their own behaviour accordingly; in essence, any major fiscal policy cannot count on permanent effects – computations show only 72% of an initial policy decision carries its effect over one period -assumed in this case to be a year. This means that for a government to set a policy for the legislature, the measure in effect carries only 25.16% of its initial intensity by end of the 5th year. On the other hand, any cut to the corporate tax is likely to maintain its effect on capital accumulation at 93% on average over two years; these results are based on the auto-correlation results listed below:

Order       1       2       3       4       5       
Y        0.7227  0.5081  0.3686  0.2668  0.1944
C        0.8179  0.6436  0.5124  0.4110  0.3323
K        0.9667  0.8984  0.8194  0.7363  0.6544
H        0.7328  0.5944  0.4930  0.4095  0.3417
z        0.7676  0.5310  0.3758  0.2646  0.1865
tb       0.6361  0.4593  0.3219  0.2272  0.1601
tax_l    0.6362  0.4593  0.3220  0.2272  0.1601
tax_k    0.6362  0.4593  0.3220  0.2272  0.1601
G        0.6361  0.4593  0.3220  0.2272  0.1601

There was one major difficulty I kept stumbling upon: no matter how careful my coding was, I failed to produce satisfactory results as to the differentiated impulse responses triggered by exogeneous shocks, those “white noises” from the structural shocks z_t .\ \epsilon_t and tb_t .\ \upsilon_t functions. Other than that, the final results are pretty straightforward in view of the described methodology.

The source code I have compiled to get the results can be found below. MATLAB “Dynare” add-in is a very powerful language that needs to be downloaded (for free) and installed on the MATLAB directory and run via the simple command line dynare YourFile.mod (alternatively, GNU Octave can do as well)

\\declaration of variables mainly Output, Consumption, Capital, Labour and Government,
var y, c, k, h, g, z, tb, tax_l,tax_k;
varexo e, u;
\\structural parameters computed by means of calibration
parameters theta, alpha, gamma, delta, beta, tau, rho, sigmae, sigmau;
theta = 0.037;
alpha = 0.3414;
gamma = 0.3351763958;
delta = 0.029;
beta = 0.9198;
rho = 0.27234;
tau = 0.43244;
sigmae = 0.0678233;
sigmau = 0.0959883;
\\the model is computed by building a matrix of First Order Conditions that capture agent's decision rules
model;
c = gamma*(1-tax_l)*(1-alpha)*exp(z)*(k(-1)/h)^alpha;
z = rho*z(-1) + tau*tb(-1) + e(-1);
tb = rho*tb(-1) + tau*z(-1) + u(-1);
y = exp(z)*exp(tb)*k(-1)^alpha*h^(1-alpha);
k = exp(tb(-1))*(y-c)+(1-delta)*k(-1);
exp(tb)*c^(gamma*(1-theta)-1)*((1-gamma)*h)^((1-gamma)*(1-theta))=
beta*(exp(tb(+1))*c(+1)^(gamma*(1-theta)-1)*((1-gamma)*h(+1))^((1-gamma)*
(1-theta))*((1-tax_k)*alpha*exp(z(+1))*(h(+1)/k)^(1-alpha)+1-delta));
g = (tax_l*(1-alpha)*exp(z)*(k(-1)/h)^alpha)+(tax_k*(alpha*exp(z)*
(h/k(-1))^(1-alpha)+1-delta));
y = exp(tb)*g + c + k - (1-delta)*k(-1);
tax_l/tax_k = (1-alpha)/alpha;
end;
\\steady-state values computed by the same methodology proposed for calibration
initval;
g = 0.0726936349;
tax_l = 0.0324716235289365;
tax_k = 0.0324716235306143;
h = 0.2663385236;
y = 0.465686322;
k = 1.3684021321;
c = 0.4259362416;
tb = 0;
z = 0;
e = 0;
u = 0;
end;
\\simulated shocks from exogeneous "white noises"
shocks;
var e; stderr sigmae;
var u; stderr sigmau;
var e, u = sigmae*sigmau;
end;
stoch_simul;

The Big Picture – Part 5

Posted in Dismal Economics, Flash News, Moroccan Politics & Economics, Morocco, Read & Heard by Zouhair ABH on May 16, 2012

evidence shown on my last piece points out to foreign trade as a major factor in output cycles and its growth. The initial proposed model has therefore to be readjusted accordingly, through the TFP process, and the relation it bears with the Balance of Payments; and so:

\log z_t = \rho z_{t-1} + \tau bp_{t-1} + \epsilon_{t-1}

\log bp_t = \rho bp_{t-1} + \tau z_{t-1} + \upsilon_{t-1}

where \rho is the persistence parameters, and \tau the cross-persistence parameter that captures transmission shocks between TFP and balance of payment; both processes displays the following properties:

E(z_t) = \rho E(z_{t-1}) + \tau E(bp_{t-1}) + E(\epsilon_{t-1}) = 0

and that is so because the empirical data shows it: the long-run shows both the Balance of payments and the Solow Residuals converge to a zero.

var(z_t) = \rho^2 var(z_{t-1})+\tau^2 var(bp_{t-1})+ var(\epsilon_{t-1})+ 2 cov(z_{t-1},bp_{t-1})

equivalently,

E(bp_t) = \rho E(bp_{t-1}) + \tau E(z_{t-1}) + E(\upsilon_{t-1}) = 0

and

var(bp_t) = \rho^2 var(bp_{t-1})+\tau^2 var(z_{t-1})+ var(\upsilon_{t-1})+ 2 cov(z_{t-1},bp_{t-1})

Both parameters \rho and \tau are then estimated by computing the TFP residuals on HP-filtered data. Recall:

\log y_t = \alpha \log k_t + (1- \alpha) \log n_t + z_t

we also have: cov(z_{t-1},bp_{t-1}) = corr(z_{t-1},bp_{t-1})\sigma_{z}\sigma_{bp}

Balance of Payments and the Exchange Rate exhibit a strong positive correlation, starting from the mid 1970s.

The graph makes the case for the constructed balance of payments to capture the effects of international trade – starting from the mid 1970s, the discrepancies between Investment and Savings captured by the Balance of Payments, and the exchange rate with the Dollar have locked up in a strong positive co-movement; the exchange rate isn’t set arbitrarily: it has real impact on input cost, on growth projections and consumption across the board. We have now a good insight on how foreign trade impacts growth performance. (The data still does not incorporate government expenditure)

Computations on parameters \left( \rho .\ \tau .\ \sigma_{z} .\ \sigma_{bp} \right) yield:

we get:

\tau = .4324

\rho = .2723

we observe the condition for \left| \rho+\tau \right| < 1 is acquired, and the results might, at this point, explain the discrepancies pointed out earlier: the persistence parameter is significantly weaker as the Balance of Payment shocks are incorporated into the structural process before they get into the economy; we observe the variance-covariance matrix displays the following values:

Variables       e         u         
e            0.004600  0.006510
u            0.006510  0.009214

It makes sense, since these in turns carry part of the unobservable shocks in a closed-economy, and because foreign inflows of capital are critical to the national investment, and thus to output growth, the cross-persistence parameter is more significant; yet another piece of evidence that any sensible public policy to boost growth is NOT to shut down foreign trade (a gentle wink to the protectionist left-wingers out there). We do notice that Capital accumulation in Morocco relies heavily on foreign inflows, and by implication, output growth as well. Structural shocks, to that effect, are a kind of a buffer between exogeneous, unexpected shocks, and the economy: transitory shocks are captured by structural shocks rather than those attached to the

the results are very much in line with prediction on standard RBC, only this time numbers fit a lot better, as they show below. There are still some problems on the Labour side, and public finances’ effects on cycles are yet to be estimated; but so far, the picture looks great 🙂

   Data   |σ       |σj/σy  |Corr(y,j)|
----------+--------+-------+----------
Y_GDP     |0,08030 |1       |1       |
----------+--------+-------+---------+
Con       |0,07013 |0,87339|0,82150  |
----------+--------+-------+---------+
Capital   |0,09167 |1,14159|0,4448   |
----------+--------+-------+---------+
Investment|0,24127 |3,00463|0,83690  |
----------+--------+-------+---------+
Labour    |0,09806 |0,81888|-0.8670  |
----------+--------+-------+---------+
Government|0,22035 |2,74415|0,49970  |
--------------------------------------
    RBC     |σ      |σj/σy |Corr(y,j)|
------------+-------+------+----------
Y_GDP       |0,06596|   1  |    1    |
------------+-------+------+----------
Consumption |0,04715|0,7148|  0,5092 |
------------+-------+------+----------
Investment  |0,20460|3,1018|  0,8766 |
------------+-------+------+----------
Government  |         No Data        |
------------+-------+------+----------
Labour      |0,00002|0,0003|  0,0238 |
--------------------------------------
  New RBC   |σ      |σj/σy |Corr(y,j)|
------------+-------+------+----------
Y_GDP       |0,0631 |   1  |    1    |
------------+-------+------+----------
Consumption |0,0455 |0,721 |  0,9515 |
------------+-------+------+----------
Capital     |0,1268 |2,009 |  0,7060 |
------------+-------+------+----------
Government  |         No Data        |
------------+-------+------+----------
Labour      |0,0126 |0,199 |  0,7183 |
--------------------------------------

The Big Picture – Part 4

Posted in Dismal Economics, Moroccan Politics & Economics, Morocco, Read & Heard by Zouhair ABH on May 14, 2012

The standard RBC model has several major limitations that fail to account for proper results – in this case, a close match-up with summary statistics obtained after significant aggregates have been HP-filtered. The graph below for instance, shows a long-term comparison between actual GDP data, and RBC-generated output, the widening gap can be explained by the fact that savings in the standard RBC setup are exclusively domestic; recall capital accumulation dynamics:
k_{t+1}=(1-\delta)k_t + i_t
and National Accounting identities:
c_t + i_t = y_t
and
y_t = z_t k_t^\alpha h_t^{1-\alpha}
Obviously, if the Moroccan economy were to rely solely on domestic savings, capital accumulation would have grown at a lower rate, hence leading to smaller levels of output; furthermore, because Morocco is not an immigration country – meaning, demographic growth is endogenous- Capital dynamics account for a lot in terms of output growth, which vindicates the initial claim domestic savings are not high enough to explain the levels of investment observed over the past half a century.

This in my opinion is the strongest piece of evidence I would consider for pro-free trade policies: capital flows boost the economy, to the tune of 130Bn Dirhams every year since 1965, in real terms.

In addition to Balance of Payments issues, the RBC model needs to embed Government policies in the model’s intrinsic functions; Overall, RBC model described by an inter-temporal CRRA utility function and the resources constraints mentioned above yield the following:

HP Data     |σ      |σj/σy |Corr(y,j)|
------------+-------+------+----------
Y_GDP       |0,08030|   1  |    1    |
------------+-------+------+----------
Consumption |0,07013|0,8734|  0,8215 |
------------+-------+------+----------
Investment  |0,22035|2,7441|  0,8369 |
------------+-------+------+----------
Government  |0,24127|3,0046|  0,4997 |
------------+-------+------+----------
Labour      |0,04256|0,5300| -0,8670 |
--------------------------------------
RBC         |σ      |σj/σy |Corr(y,j)|
------------+-------+------+----------
Y_GDP       |0,06596|   1  |    1    |
------------+-------+------+----------
Consumption |0,04715|0,7148|  0,5092 |
------------+-------+------+----------
Investment  |0,20460|3,1018|  0,8766 |
------------+-------+------+----------
Government  |         No Data        |
------------+-------+------+----------
Labour      |0,00002|0,0003|  0,0238 |
--------------------------------------

Starting from the mid-1960s, Real GDP departed significantly from RBC-generated GDP. Incidentally, Morocco’s Balance of Payment picked up steam around the same time. (log-levels)

As you can see, the standard RBC model does pretty well in explaining cyclical fluctuations on GDP, household consumption and Investment dynamics – it exhibits lower levels of volatility for GDP, Consumption and Investment.

So even though synthetic data shows discrepancies like that of GDP’s, it retains similar features – in this case volatility, correlation and relative variance with respect to other aggregates.

The basic model provides powerful results, but not powerful enough to start building on forecasts and statistics-based predictions; there is a need for newly specified functions where foreign trade, government expenditure, and perhaps cross-correlated structural shocks are embedded.