The ThreeME model

ThreeME team

OFCE, NEO

22 septembre 2023

1 The ThreeME model

  • Multi-sector Macroeconomic Model for the Evaluation of Environmental and Energy policy

  • Macroeconomic multi-sector model with neo-keynesian features

    • Avoid the limitations of standard CGE models
      • Say something about the medium term (not only the long term)
      • More realistic results for policy makers
    • Similar dynamic and long term properties than the macroeconomic models used in Economic ministries and forecasting departments

  • Open source model: www.threeme.org

    • To avoid usual criticisms on models: black-box, impossible to verify independently the results, too few users
    • Make application to other countries and by other institutions easier: EU, Mexico & Indonesia (AFD); Tunisia (UNEP), UK (OECD), Luxembourg (Statec), DG Trésor

2 Multisector model

  • n sectors (e.g. France: n = 37; Tunisia: n = 21, Mexico: n = 24, Luxembourg: n = 26)

  • Allows to analyze the effect of transfer of activities from one sector to another on:

    • Employment, due to different labor intensity
    • Investment, due to different capital intensity
    • Energy consumption, due to different energy intensity
    • Trade balance, due to different propensity to import and export

3 Example of sectoral decomposition

  • The economy is disaggregated into 27 sectors, with in particular:

    • 4 transport sectors
    • 12 energy sectors
      • Of which 10 technologies for the production of electricity

  • And 23 commodities

    • A commodity can be produced by several sectors
      • Ex: electricity

  • The disaggregation is a compromise between the availability of the national account and energy data and the objective of the model

  • Several sectors have to be disaggregated

    • Electricity and gas
    • Transport

4 Example of sectoral decomposition

5 Focus on energy

  • The energy disaggregation allows for analyzing the energy behavior of economic agents:

    • Sectors can arbitrate between different energy investments:
      • Substitution between capital & energy when the relative energy price increases
      • Substitution between energy sources
      • Substitution between transports
      • Endogenous energy efficiency: technical progress increases when the relative energy price increases
    • Consumers
      • Substitution between capital & energy
      • Substitution between energy sources
      • Substitution between transports
      • Substitution between goods

6 Type of simulation of the economic and environmental impact

  • Energy transition policies

    • Fiscal policies:
      • Carbon tax with or without redistribution of the tax revenue
      • Phasing out subsidies on (fossil fuel) energy
      • Bonus-malus for cars: subsidies on green cars financed by a tax on other cars
    • Change in the electricity production mix
      • Ex: more RES in the mix
    • Impact of green investment
      • In buildings, public transport, etc.
      • Impact of applying a new standard for buildings, or appliances

  • External shock

    • Increase in international oil/gas price

7 CGE model

  • Computable: numerical simulation

  • General: take into account the interactions between markets.

    • Supply and demand influence each other

  • Equilibrium: Supply is equal to demand on all markets (good, production factors)

  • Structure of a CGE model (see next Figure):

    • Demand (Consumption, investment) defines the supply (production)
    • Supply defines in return the demand through the incomes generated by the production factors

8 CGE model

9 What does « general equilibrium » mean?

  • General Equilibrium relates to a state where supply is equal to demand in all markets

  • 2 main approaches to insure this state:

    • Walrasian models

      • The equilibrium force is the price system

      • Perfect price flexibility insure the instantaneous equilibrium between supply and demand

      • When the supply of a commodity goes down, its price tends to go up, thereby stimulating additional supply and depressing demand, until supply and demand are equal again.

      • Static model

    • Neo-Keynesian models
      • Demand determines supply
      • Price and quantities are rigid and adjust slowly
      • Disequilibrium between notional (optimal) supply and the actual supply in the short run
      • Dynamic model: transition to the long run

10 A neo-keynesian CGE model

  • Slow adjustment of price and quantity

    • Adjustment costs
    • Empirically firms adjust their production to the demand rather than their price

  • Leads to situation of disequilibrium between the desired supply and demand

  • Prices are defined as a mark-up over the firm’s production costs

    • Production costs integrate intermediary consumption (material and energy), labor and capital costs

11 A neo-keynesian CGE model

  • Wages are determined by a Wage Setting (WS) curve

    • Phillips curve: wages increase with inflation and decrease with unemployment
    • Wages do not adjust instantaneously the supply and demand for labor:
      • Permanent underemployment equilibrium possible
      • Theory of the NAIRU (Non Accelerating Inflation Rate of Unemployment) or Equilibrium rate of unemployment

  • The interest rate does not equilibrate instantaneously saving and investment:

    • It is defined by the Central Bank
    • « Taylor » reaction function: increases with inflation, decreases with unemployment

12 Key properties of ThreeME

  • General equilibrium effects

    • Supply influence demand and vice versa

  • Direct and indirect effects of the energy transition

    • Direct effects: impact for the energy sectors
    • Indirect effects: impact for the rest of the economy (in particular the other sectors, the government, households).

  • Limited eviction effects

    • Investment is not only defined by saving
    • The financing through bank credit does not necessary lead to an increase of the interest rate
    • The augmentation of investment in one sector is not necessary achieved through a decrease of investment in other sectors

13 The value-added compared to existing models

  • Sectorial disaggregation

    • Make explicit the negative and positive impacts for each sector according to its own specificities.

  • High technological disaggregation of the energy system

    • Ex: electricity produced by several technology
    • Each technology having their own cost and production function
    • Link between economic activity, energy production in physical terms (Mtoe or Mwh) and CO2 emissions more accurate.

  • General Equilibrium

    • Allows for taking into account of indirect and feedback effects (rebound effects)

  • Neo-keynesian features

    • Allows for studying transition and disequilibrium phases (such underemployment)

14 The value-added compared to existing models

  • Hybrid modelling

    • Link bottom-up and top-down approaches
    • Detailed energy technologies and coherent macroeconomic framework

  • Possibility of combination with an energy system model

    • The bottom-up development of the energy sectors makes it possible to combine ThreeME with an energy system model without loss of relevant information
    • Assessment of scenarios compatible with the technical constraints regarding the feasible energy mix.

15 Data: Supply-Use (SU) and Input-Output (IO) tables

  • SU table says how much a given commodities is supplied by a given sector (Supply)

    • Generally close to a diagonal matrix

  • IO table says how much a given commodities is purchased by a given sector (Demand)

    • Not a diagonal matrix

16 Equilibrium between Supply and Demand (use)

  • GDP = VA = Y – CI = C + I + X - M