CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Outline

• Introduction: Armington approach

• Implementation in CAPRI model

• Design of country aggregate with Armington approach

• Data for country aggregate

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Armington Assumptions

• Consumer preferences differ by product origin“EU cheese (e.g. Parmesan) is different from U.S. cheese (e.g. Cheddar)”

• Assumption of heterogenous goodswithin the same product (U.S. cheese, ...,EU cheese)

• That implies ...

• Modeling of trade streams between regions necessary

• Detailed representation of trade policy possible

• Modeling of price differences between domestically produced and imported products possible

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Comparison Net trade / Armington

Net trade

• Homogenous goods(all the cheese is identical)

• Only one price for wheat(world price for cheese)

• Demand functiondefines tons for each product(<= same utility per ton)from price/ton

Armington

• Heterogeneous goods(cheese is different by origin)

• Price differs by origin(no world price for cheese)

• Demand functiondefines utility for each product(<= different utility per ton)from price/utility

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Armington Approach

• Problem:Modeling of demand for products with utility differences by origin

• Solution:Two stage demand system:

• (on top) demand system, working on utility quantities

ui = f(prices) -> expenditures per product i ei=ui*pi

• (below) CES-utility aggregator function per product i to distribute expenditure to different origins

<=> aggregator function ui = f(xi,r,r1 ,.., xi,r,rn)

<=> defines price/utility pi = (xir,r1 pir,r1 +...+ xi,r,rn pir,rn) /ui

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Aggregator function for utility

• Fix substitution elasticity for each product between different origins

Aggregated utility

Expenditure set by demand system e.g. for wheat consumed in the EU

Trade flow(incl. domestic sales)

Price dependingon origin

Parameter derived from substitution elasticity

i product, r importing regions, r1 origins, shift parameter, share parameter

r,i1r

1r,r,i1r,r,i

1

1r1r,r,i1r,r,ir,ir,i

M

ePx.t.s

xumaxr,i

r,i

1r,r,i

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

FOC of the Aggregator Function

• FOC from CES utility aggregation

yield the following relation between trade flows r,i11

1r,r,i

2r,r,i

2r,r,i

1r,r,i

2r,r,i

1r,r,i

P

P

x

x

• Relation between trade flows depends on:

• so called “share parameters”

• multiplied with the inverse import price relation

• substitution elasticity 1/(1+)

• Imperfect substitution (“sticky” import shares)

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Flowchart Armington with two regions

RegionalPrices Pr

SupplySr=f(Pr)

DomesticSales

Imports

RegionalPrices Pr

SupplySr=f(Pr)

Domestic Sales

Imports

1

11,,1,,,,

r

rrirririri Mu

Demandui,r=f(pr)

Demandui,r=f(pr)

1

11,,1,,,,

r

rrirririri Mu

Substitution between domestic and imports

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Problems of the Armington Approach

• Few empirical estimations of the parameters

=> substitution elasticities are set by a “rule-of-thumb”

• A zero stream in the calibrated points remains zero

in all simulation runs

• The sum of physical flows in tons (domestic sales + imports)

is not equal to the utility aggregate in simulations !!!

(demand “quantities” are an utility measurement ...)

• Recalculation of physical quantities after simulation necessary

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

CAPRI: Two Stage Armington

Streams(R,R1,XX) Streams(R,Rn,XX)....

1

11,,1,,,, 2Imports

r

rrirririri Streamsdpsp

Demand (Arm1) =Human consumption

+ Feed Use + Processing

Domestic Sales(DSales) Imports (Arm2)

1

,,,,,,,, DSalesImports1Arm rirririrwririri dpdpsp

Imports from different origins

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Overview on a country aggregate

ArmingtonStage 2

Aggregate

ArmingtonStage 1

aggregate

Import Streams

ProcessingHuman

consumptionFeed Use

Supply

Domestic Sales Export streamsIntervention sales

Export subsidies ?

RegionalPrices

and prices

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

FAO

Data for country aggregates

CEE

IND

CHN

ANZ

CAD

USA

ACP

MED

HIT

CAN

ROW

Base year data (1998) Exogenous assumptions Policy data

Quantities

Trade streams

Quantitydevelopments

Population growth

Exchange rates

Parameters behav. functions

(Elasticities)

... nextpresentation

Prices

Substitutionelasticities (Armington)

GDP growth

Inflation

FAO

FAPRI, WBank

@2030, FAPRI

FAO, FAPRI

For EU + MS: CAPRI data base, EU “Prospects for ...”, EUROSTAT

As in base year

1,9 % p.a.

@2030,WATSIM

Rule of thumb,Italian team ?

FAO

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Trimming ...

• Base year quantity and price framework from different

sources for all aggregates must fit ... balancing necessary

• Trimming of elasticity sets for each country aggregate,

(supply, human consumption, feed, processing of oilseeds,

processing of dairy products)

to ensure compliance with micro-theory

• Shift of all exogenously driven quantities and prices to

simulation year

... balancing ensures mutually compatible assumptions

CAPRI CAPRI

3rd CAP-STRAT Workshop, 24./25.03.2003, Bologna

Challenges ...

• Market model consists of around 10.000 equations

• Simulation results obtained for 12 country aggregates x 20 products x ( 4 elements of product balances + 12 trade flows + prices ...)

• Unresolved issue how to access and analyse information for non-EU country aggregates + trade flows