The Moorish Wanderer

Tax Cut Design versus Deficit Spending

Posted in Dismal Economics, Flash News, Moroccan Politics & Economics, Morocco by Zouhair ABH on December 13, 2012

The following is a small model designed to simulate the effect of a tax cut targeted on middle classes. The idea is to review the respective effects of each tax cut category (on VAT, Income, etc…) and weigh it on versus an increase in government expenditure. Over the (very) long run, both policies are fundamentally the same, but one needs to keep in mind government expenditure is potentially infinite, while taxes are constrained by the existing resources.

The idea is to compare the effect of a government expenditure increase versus tax cuts on growth and the subsequent created welfare. And the results are clear-cut: tax cuts stimulate GDP a lot more than increased expenditure. On average, a 1% tax cut would deliver on average of .85% in additional growth, while a 1% deficit would contribute only .06% to growth. Investment tax credit (fiscal incentives to investment) contribute a lot more to growth – a 2.16% additional growth for a 1% increase in investment tax credit. These results are compared for a 1% change in government budgetary policy, and then extended over a couple of quarters.

The argument behind this can be summed up in the following ‘policy transition functions’:

y = 1.91 + .028 k_{t-1} - .038 r_{t-1} + .7 z_{t-1} - .006 \tau_{k_{t-1}} \pm .029 def - .0047 \tau_{w_t} - .041 \tau_c + .003 \tau_k + .028 \tau_i + 2.55 \epsilon_t


g = .076 + .004 k_{t-1} + 1.29 r_{t-1} - .026 z_{t-1} + .19 \tau_{k_{t-1}} \pm def+.16 \tau_{w_t} + 1.37 \tau_{c_t} - .0005 \tau_{k_t} - .47 \tau_{i_t} - .0972 \epsilon_t

It is worth pointing out these policy transition functions are not the product of usual computations, i.e. these are not structural models estimated afterwards, but they are rather the end result of a more complex set of equations and assumptions. They (among other policy functions) provide policy recommendations that can be further expanded to account for specific fiscal policies, my particular insterest for instance, tax breaks and cuts for the middle class, has some useful applications.

It shows for instance that unfunded government expenditure (deficit-spending) contributes weakly to GDP growth, not as much as a single or aggregate tax cut, or indeed one tax credit scheme. This is not to say any spending-based stimulus is useless: there is evidence of counter-cyclical budgetary policy -detrended budget and output are negatively correlated- but it is not as persistent as output, and cannot provide optimal cycle smoothing: ‘unpredictable elements’, the technological shocks captured by z_t and \epsilon_t exhibits excessive diturbances deficit spending cannot bridge when these are negative exogenous shocks (a factor of 22:1 against deficit spending). On the other hand, a relatively modest increase in investment tax credit (which acts as a tax cut) can immediately make up for a negative shock and deliver a .19% boost to GDP growth, ceteris paribus. Obviously, there are some repercussions as to a fiscal policy geared toward investment tax credit, as it results in lower domestic consumption, regardless of any accrued consumption tax cut.

I am posting the code I have used to generate those results (applicable via the Dynare Matlab/Add-in) and will elaborate on this in the next couple of posts. I am very excited about these results because they have confirmed some of the policy recommendations conveyed in the Capdéma Budget Draft, with quantitative interpretations to specific policies. It also confirms some measure of fiscal consolidation and debt-deflation are needed not only to maintain the 2016 3% deficit ceiling, but also put growth back on track.

(For detailed description of the proposed model, have a look at Ljungqvist & Sargent’s “Recursive Macroeconomic Theory”)

// endogeneous variables: debt, government budget,
// consumption capital, output, labour, investment, wages, interest rates and technological change
var b g c k y h x w r z;
// taxes and deficit are considered to be exogenous
 varexo def tauw tauc tauk taui e;

parameters zig, alpha,delta,beta,theta,rho,sigmaw,sigmac,sigmak,sigmai,sigmad;

alpha = .335966;
 theta = 1/3;
 delta = .02909;
 beta = .9895569177;
 rho = .2742;
 zig = .0037;
 sigmaw =.007;
 sigmac =.0671;
 sigmak =.219;
 sigmai =.209;
 sigmad =.005671;

// The model depicts optimality conditions for all agents
// Simple FOC

 z = rho*z(-1)+e;
 y = c+g+x;
 y = exp(z)*k^alpha*h^(1-alpha);
 k = (1-delta)*k(-1)+(1+taui)*x;
 w =(1-tauw)*(1-alpha)*y/k(-1);
 r =(1-tauk(-1)+delta)*alpha*y/k(-1);
 (1-alpha)*y/c = theta*h/((1-theta)*(1-h));

 y = 0.7976304742;
 k = 9.7353698337;
 c = 0.5367196072;
 h = 0.3079168146;
 x = 0.2832019085;
 b = .51;
 z = 0;
 e = 0;
 g = .192;
 def = .03;
 tauk =0;
 tauc =0;
 tauw =0;
 taui =0;


 var e; stderr zig;
 var tauw; stderr sigmaw;
 var tauc; stderr sigmac;
 var tauk; stderr sigmak;
 var taui; stderr sigmai;
 var def; stderr sigmad;
 var tauw, tauc = 0;
 var tauw, taui = 0;
 var tauw, tauk = 0;
 var tauw, def = 0;
 var tauk, def = 0;
 var tauc, def = 0;
 var taui, def = 0;

stoch_simul(order=1, periods=224, hp_filter=1600,nograph);

“Regional Solidarity”: Bums and Workaholics

Posted in Dismal Economics, Moroccan Politics & Economics, Morocco, Read & Heard by Zouhair ABH on September 10, 2012

Ever wonder how much of your taxpayer’s money went to other regions? Of course, if you are from Casablanca, or Agadir, you are entitled to ask if you are from Rabat on the other hand, not so much. Unfortunately however, some budgetary constraints prevent the curious inquirer to get the raw numbers from our administration. And so, I endeavour to crunch these available numbers together to get some idea of how things are computed.

Average regional GDP per Capita in these super-regions is 21% higher than nationwide GDP per Capita.

First, I start with the standard national accounting identity: Y=C+G+I+NX. (Output = Consumption +Government Spending + Investment + Net Exports)

In fact, I can even assume that equality is simplified to Y=C+G+I since most of our exports are concentrated on two seaports at the most (Casablanca alone attracts 42% of total export/import shipping ) and use data from the MINEFI paper on regional contributions to GDP, as well as an HCP survey from 2007. It is without much surprise that 5 regions concentrate about 60% of total GDP (Casablanca, Rabat, Marrakech, Tangiers and Souss) and a little less than half of total population. We can also safely assume productivity per capita in these regions is significantly larger, paradoxically because their respective occupation level of active population would be lower.

Why would I need the national accounting identity to check which regions rely on government subsidies and transfers? Well, it is a matter of simple economics: a thriving region would not necessarily have a high regional GDP – Soussa Massa has a relatively low GDP per Capita, yet it is one of the richest regions in Morocco (4th richest not including Raba-Salé). What matters really is how their regional GDP is formed; a wealthy, productive region should produce its own consumption and pay relatively high taxes – or at least close to nationwide levels.

The following results are based on computations of aggregates per capita: there is a logical enough argument to be made that poorer regions might be over-populated; as it turned out, richer regions tend to have larger populations, they are however more productive, even more so, given the fact their active population is actually smaller, when compared to nationwide occupation rate of active population as well as those of the poorer regions. Per capita results take the demographics out of the equation, and even the odds somewhat.

The initial point made about wealthy regions stems from the standard national accounting equation: regional output is (roughly) consumed, taxes or invested. A good point can be made as to how local output matches local consumption, i.e. food and other goods consumed in one region are not necessarily made there; after all, sea-fish consumed in Marrakesh has to come from a coastal city, and Melons down South in Laayun need to come from another, cooler, watery place. Still and all, productive regions are able to produce enough output to buy them their consumption from other regions. Those too poor to afford anything will have to rely on government subsidies, or else reduce their consumption to subsistence levels. six regions emerge in this case: the Southern provinces, Tadla-Azilal and Taza-Alhuceimas. Their cumulative contribution to total GDP is less than 10%, and their average GDP per capita is roughly that of Souss-Massa.

Taxes and Government spending however are a different place; government money levied from or spent on a region stays there. Unfortunately, we do not have the exact amount of government spendings per region, though the other side of the equation is out there: there is evidence about how much each region contributes to total fiscal receipts; As it turns out, the 5 super-regions contribute about 91.5% of 2011 fiscal receipts, about 138.2Bn that is. So the initial body of evidence is there: the richest regions tend to pay more taxes than they produce output, and if Rabat-Salé is excluded from computations, the 4 super-regions account for 74% of fiscal receipts, versus a little less than half of total GDP. In simple arithmetic, every 100 dirhams these 4 regions paid 19.1 of it in taxes, and these were transferred to other regions.

What is the difference between the South and the two other poorest regions? These have less government spending with respect to their respective regional GDP

The figures at hand are not gross taxes however; these have been netted with subsidies (our Compensation Fund) which makes computations even easier; indeed, national accounting equalities tend to assume perfect funding from taxes to pay for government expenditure. Poorer regions – in this case, the bums are the Southern provinces, Taza-Alhuceimas and Tadla-Azilal would share their output between consumption and government expenditure. This is precisely the case for Taza and Tadla, where Investment per Capita (and at a smaller extent, Net Exports) make up for less than 2% of GDP per Capita. These two regions, by the way, should have received a net 1.5Bn dirhams either as tax cuts, or direct government transfers. But they did not: the local population had to make do.

On the other hand, the Southern regions are a riddle when it comes to national accounting; its taxation is a record low, and the assumption behind national accounting does not stand. And that is so because the tax aggregate used for that matter was net of subsidies. Think of it as a reversed budget balance: G – T instead of T – G. One additional step would be to propose: T - (G_0 + G_s) where G_s is government subsidies expenditure. The balance is the net government transfer the region benefits from.

So what is the score? It is always difficult in view of the numerous shortcomings of proposed methods, but it is clear the remarkably high Southern GDP per capita (30,000 dirhams) which marks these regions as the third richest is solely due to large government transfers, in this case 7.2Bn dirhams in 2011 – .89% of GDP, 17.1% of subsidies dispatched to 3.5% of total population. The bums in this case, those who benefit from government transfers, are the Southern provinces.

Regional solidarity is an admirable principle, and should be encouraged at every level of government business. But it assumes transparency in these transfers, and some kind of economic logic to it. In this case, transparency is a vain word – let us not forget the assumptions behind all these computations are very formal, and that means reality might be a lot dimmer, i.e. actual transfers are higher. And the proposed newly redrawn regional boundaries will certainly not help.

The political ramifications of unequal and unjustified (from an economic point of view, anyway) government transfers from hard-working citizens to others will exacerbate resentment, and there is no doubt unscrupulous politicians will seize upon this if and when an electoral advantage would weigh in. Another way to look at it is instead to push for larger devolution; fiscal autonomy would then show how each region actually does in terms of economic performance, and a dedicated federal fund can then be set up to support those regions with structural difficulties, on the grounds of economic support, not back-room political strategies as it is now.

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
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);
g = (tax_l*(1-alpha)*exp(z)*(k(-1)/h)^alpha)+(tax_k*(alpha*exp(z)*
y = exp(tb)*g + c + k - (1-delta)*k(-1);
tax_l/tax_k = (1-alpha)/alpha;
\\steady-state values computed by the same methodology proposed for calibration
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;
\\simulated shocks from exogeneous "white noises"
var e; stderr sigmae;
var u; stderr sigmau;
var e, u = sigmae*sigmau;

The Worst of Trickle-down, or Zombie Keynesianism?

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

There is enough evidence to state that more than ever, big government is alive and kicking in Morocco, and not in a nice way; it has indeed broken with a 30-years trend in 2010; this means that some additional 5.8 Bn have been spent above the 50-years long trend, accruing to the 20Bn-worth exponential break that started 3 years ago. 5Bn might not be a lot relative to the Budget -1.67%- but it does account for 4% of government expenditure in real terms, so the matching resources accounted for in the Budget as a whole.

So here we are with a government who has not broken with the fateful decision to increase dramatically government expenditure in 2010; this is, quite simply, Zombie Keynesianism: the government puts on (some) welfare programs, increases recruitment 40%, and comes up with an effective 21Bn package expenditure no government has prepared for but yet finds itself actually spending it. Most importantly however, the Compensation Fund takes a large bite out of government expenditure – the World Bank Open-Data defines it as:

“General government final consumption expenditure (formerly general government consumption) includes all government current expenditures for purchases of goods and services (including compensation of employees). It also includes most expenditures on national defence and security, but excludes government military expenditures that are part of government capital formation. Data are in current local currency.”

HP-detrended aggregates. Government expenditure at its highest level away from 50-years trend since 1976

And considering the available data on that subject, the negative effects of the present course of action are just as equally showing on the short as well as the long run: depending on how the economy fares in 2013, the combined effects of the generous increases in public service payroll and the Compensation Fund will deteriorate an already compromised Budget Balance, and later on, the government will have to increases taxes, or cut spending, or both.

It seems this moment the government is trying for some shadow stimulus package, and it shows: the latest Treasury monthly survey points out the structure of Government Budget has been markedly altered compared to that of 2011: the Budget represents only 14.6% compared to the 23.2% in 2011 (and there goes the government’s boasting about the 188Mds committed to investment) while payroll and subsidies increased their contribution from 36.7%, 12.1% to 41.2%, 18.2%, respectively. And contrary to the government’s claim, the Compensation Fund does not benefit the middle class as much as a few wealthy households.

Les dépenses du budget général ont atteint 68,3 MMDH à fin mars 2012, en légère hausse de 0,8% par rapport à leur niveau à fin mars 2011, qui s’explique par une augmentation de 17,6% des dépenses de fonctionnement conjuguée à une baisse de l’investissement et des charges de la dette budgétisée1 de 34,2% et de 11,1%

So basically the government has put a lot of money to stabilize prices -but at the same time transfers generous sums back to the privileged few- and to recruit many more civil servants – that might not be needed or do not have what it takes- the result is indeed a stimulus package, and it might as well be working by providing the boost for GDP growth, but it will not last long, and the benefits of such an overkill are not that obvious.

          |σ       |σj/σy  |Corr(y,j)|
Y_GDP     |0,08030 |1       |1       |
Con       |0,07013 |0,87339|0,82150  |
Investment|0,24127 |3,00463|0,83690  |
Government|0,22035 |2,74415|0,49970  |

\sigma =\left (\sum_{i=1955}^{2011}\left ( \mu -x_{i} \right )^{2} \right )^{1/2}\\  \rho _{x,y}=\frac{\sigma_{xy}}{\sigma_{y}\sigma_{x}}

The table above shows some evidence that government expenditure does not necessarily influence GDP the way other aggregates do, and the effects can be random indeed: government expenditure is just as volatile as the most volatile aggregate in an economy (Investment) yet it is also the least correlated to GDP. The only way that generous increase in government expenditure can pick up growth is through the subsidy to household consumption. In an ideal world, the Finance Ministry would provide us with a technical note to explain and illustrate the model they are using to forecast growth, and more importantly, the contribution to growth per aggregate. One thing is sure though, the present increase in expenditure doesn’t help, and the boomerang effect will be painful.

Welfare: is the Price to pay THAT high for the deficit?

First off, I happened to read some feedback from RNI’s La Pasionaria Mbarka Bouaida (who is no longer Member of Parliament) on the 2012 Budget Bill, and she had that weird comment on the Welfare expenditure embedded in the budget:

Ce projet de loi de finances a une forte dimension sociale, pensez vous que le gouvernement a les moyens de ses ambitions sociales ?

Tant que le nouveau gouvernement n’attaque pas les réformes de fond comme la refonte de la caisse de compensation, la réforme fiscale, la problématique de l’emploi public et privé… il ne pourra pas tenir ses engagements sociaux. En l’absence de ces réformes, le déficit commercial va dépasser les 200 MMDH ; la croissance ne dépassera pas les 3%, les réserves de changes sont ramenées à 4 mois d’importation tant qu’il n’y a pas de mesures de relance.

and I was wondering whether the budget actually has a lot of money in store for welfare programs; Most of these are categorized under ‘Special Treasury Funds’ (CST) and from what I can tell, that’s all in all 7.8 Bn dirhams. That’s 2.26% of the total Budget expenditure, and 21% of total deficit. When one takes a harder look at budget lines, the cost of welfare does not account for a lot in terms of deficit, Public Service borrowings and other costs of opportunity that might justify the abysmal budget our representatives have been presented with.

if the budget is indeed putting an emphasis on welfare, then it is badly distributed

The expenditure on ‘welfare’ departments has not increased a lot; Education and Health are the biggest contributors to the Budget welfare programs, and they have scored respective increases of 6,9% and 10.7% year-on-year. Not a lot there too, considering the 18.3% of overall Budget increase.

Unless one consider the Compensation Fund to be a welfare program by itself, which is a bit of joke, considering how it benefits at 85% about 600,000 households – I just don’t see many households benefiting from 7.600 dhs, and it doesn’t seem like it has any effect in bringing inflation to the current 1.1%. The deficit, in short, is not due to the welfare programs, but to the reluctance to tackle subsidies and carry out real fiscal reform.