Appendix A: Modelling and scenario assumptions

Appendix A: Modelling and scenario assumptions Ellie Yates Fri, 12/04/2020 - 18:10

What are computable general equilibrium (CGE) models?

CGE models are large numerical models that combine real world economic data with economic theory to computationally derive estimates of how an economy may react to a change in policy or external shock. The data in CGE models typically come from national input-output tables, which contain detailed information about the supply and use of products in the Australian economy and the structure of and inter-relationships between Australian industries. The data are fitted to a set of equations that ascribe behavioural rules determining the way firms, governments and households respond to change. CGE models are used to derive measures of an economy before and after a shock with the differences between the two providing projections of the potential impacts.

Which CGE model did the NSC use for the scenario modelling?

The scenario modelling was conducted using the Victoria University Employment Forecasting (VUEF) model. The VUEF is a family of models centred on a CGE model of the Australian economy. The VUEF brings together a large body of demographic, employment and macroeconomic data, as well as forecasts from government and industry bodies. The VUEF captures the dynamic adjustment to a shock by solving for output and price of a detailed set of industries before solving for employment by industry, occupation and educational attainment. It accounts for scarcity of resources and accommodates a variety of taxes, as well as technical change and changes in taste.

What was the modelling process to develop the scenarios?

The VUEF is used to derive quarterly projections of employment over the period 2020Q1–2027Q2, with initial shocks applied in 2020Q2. Two key components of the VUEF model are used to derive the projections.

Table 8: The VUEF model: Key components

VUEF spine VUEF no-COVID-19 base

The VUEF spine forms the backbone of the model. It is based on the 3Ps: Population, Productivity and Participation. Shocks are applied to the VUEF spine to simulate the impacts of COVID-19 under a range of scenarios.

Some adjustments have been made to the VUEF spine to allow for unusual COVID-19 conditions, such as allowing capital stock to pause and resume production without requiring new investment, to account for the impact of social distancing closures on businesses. It does not include structural changes within industries or occupations by default.

The VUEF no-COVID-19 base contains the 2019 VUEF employment forecasts. These are derived from the VUEF spine but take into account structural changes in the economy, including changes in technology (inputs to production), labour market composition and tastes.

Figure 29: Five-step modelling process

Five-step modelling process. 1. Assumptions for Economic Restoration scenario developed to align with the 2020–21 Budget forecasts. 2. Assumptions for Fortress Australia, Impeded Recovery and Accelerated Digitisation scenarios developed relative to the Economic Restoration scenario. 3. Assumptions for each scenario are fed into the VUEF spine.  4. Outputs for each scenario are produced as percentage deviations from the VUEF spine. 5. The percentage deviations are applied to the VUEF no COVID-19 base, enabling headcounts (or employment levels) to be produced.

Real-time data improved the model

Real-time data from two sources, Xero and Illion, improved the precision and timeliness of some key assumptions underpinning the model. This was particularly critical given the unprecedented and rapid nature of the downturn as a result of COVID-19.

Data from Illion, a credit rating company, was used to monitor how household expenditure has changed since COVID-19 began. Xero accounting data was used to measure the impacts on small business jobs and revenue and to test the validity of short-term assumptions based on observed monthly effects that were reported during the study.

What are the key assumptions for each scenario?

The central Economic Restoration scenario is simulated as a set of deviations from the VUEF spine. The paths for key macroeconomic variables in the Economic Restoration scenario have been developed to broadly align with the macro-economic outlook depicted in the 2020–21 Budget. While the Economic Restoration scenario is aligned to the 2020-21 Budget forecasts, the sector specific results have not specifically taken account of recent Australian Government policy decisions, such as the Modern Manufacturing Strategy.

Economic Restoration scenario

Economic Restoration scenario Ellie Yates Sun, 12/06/2020 - 14:39

Decorative imageEconomic Restoration scenario

The Economic Restoration scenario assumes the virus is contained domestically by 2021, with international borders starting to re-open from 2021, triggering renewed growth in travel, and global imports and exports.

Shocks

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Productivity

Productivity is negatively impacted due to a range of factors including social distancing and COVID-19 restrictions

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Domestic demand

Private consumption falls as unemployment rises

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International demand

Global demand falls, leading to a fall in exports

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Government spending

Fiscal support measures increase

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Population

Migration falls due to short-term border closures

 

Other shocks

Assumptions broadly aligned with 2020–21 Budget.

Results

The sectors most impacted by social distancing and border restrictions are hardest hit in the first 12 months but begin to recover once the virus is contained domestically. Industry changes are not structural and once the economy recovers trends in industry employment are relatively unchanged.

Fortress Australia scenario

Fortress Australia scenario Ellie Yates Sun, 12/06/2020 - 14:42

Decorative imageFortress Australia scenario

DescriptionThe Fortress Australia scenario assumes the virus is largely suppressed domestically by 2021. However, globally the virus is not suppressed as there is no vaccine developed, resulting in Australia keeping its international borders closed until 2022.

Shocks

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Productivity

Negative (relative to Economic Restoration)

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Domestic demand

Negative (relative to Economic Restoration)

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International demand

Negative (relative to Economic Restoration)

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Government spending

Neutral (relative to Economic Restoration)

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Population

Negative (relative to Economic Restoration)

 

Other shocks

Domestic tourism (relative to Economic Restoration)

International tourism (relative to Economic Restoration)

On-shored industries (relative to Economic Restoration)

Results

Industries with international connections face larger declines, but onshore industry increases due to global supply chain disruptions. There is lower level of employment under the Economic Restoration scenario due to reduced migration.

Impeded Recovery scenario

Impeded Recovery scenario Ellie Yates Sun, 12/06/2020 - 14:45

Decorative imageImpeded Recovery scenario

The Impeded Recovery scenario assumes the virus is largely suppressed domestically by 2021. However, household consumption and investment do not begin to rebound until mid-2021.

Shocks

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Productivity

Negative (relative to Economic Restoration)

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Domestic demand

Negative (relative to Economic Restoration)

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International demand

Negative (relative to Economic Restoration)

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Government spending

Neutral (as per Economic Restoration)

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Population

Neutral (as per Economic Restoration)

 

Other shocks

Business Investment (relative to Economic Restoration)

Dwelling Investment (relative to Economic Restoration)

Household consumption (relative to Economic Restoration)

Results

There is a greater shock to household demand and business investment, which triggers further macroeconomic effects including higher unemployment and lower GDP per capita.

Accelerated Digitisation scenario

Accelerated Digitisation scenario Ellie Yates Sun, 12/06/2020 - 14:47

Decorative imageAccelerated Digitisation scenario

Accelerated Digitisation: scenario assumes the virus is largely suppressed domestically by 2021, and there are positive spill-overs with the adoption of digital technologies and processes and increased rates of working from home for professionals.

Shocks

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Productivity

Positive (relative to Economic Restoration)

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Domestic demand

Neutral (as per Economic Restoration)

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International demand

Neutral (as per Economic Restoration)

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Government spending

Neutral (as per Economic Restoration)

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Population

Neutral (as per Economic Restoration)

 

Other shocks

Business travel (relative to Economic Restoration)

Non-residential building (relative to Economic Restoration)

Hours worked (relative to Economic Restoration)

Computer services (relative to Economic Restoration)

Results

A greater use of technology leads to an increase in productivity. There is also less business travel, use of office space and bricks and mortar retail.