Zambia - Basic economic report (Vol. 5 of 5) : Annex 4 : a long-run projection model

Report No. 1586b-ZA E CLiOEY Zambia-A Basic Economic Report Annex 4: A Long-Run Projection Model November 3, 1977 Country Programs Department Eastern Africa Regional Office FOR OFFICIAL USE ONLY Document-of the YWirid Bank This document.has a-restricted-distribution.and im,avobe used-Oy recipients oniv in the performance ot their official-duties. Its.conrtentscma'inot otherw ise,be dislosed sw.ithout World'Bannk authorizaiion  CURRENCY EQUIVALENTS Prior to February 1973 February 1973 to-July 1976 US$1 = K 0.7143 US$1 = K 0.643 K 1 = US$1.40 K.1 = US$1.554 SINCE JULY 1976 SDR 1 = K 0.9218 K 1 = SDR 1.0848 US$1 = K 0.8000 (July - December 1976 average) K 1 = US$1.2499 (July - December 1976 average) US$1 = K 0.7952 (January - June 1977 average) K 1 US$1.2576 (January - June 1977 average) FISCAL YEAR January 1 to December 31  FOR OFCIAL USE ONLY A.NEN- 4 A LONG-RUN PROJE-CTION MODEL TABLE OF CON=E1TS Page No. A. INTRODUCTION * ....... ........ ............................ 1 The Model - An Overview ................................ 1 Policy Variables in the Model ............................. 1 B. DESCRIPTION OF TME MODEL ..... ............ ,, 2 C. AN ALGEBRAIC FORKOTATION OF THE MODEL .................. 7 Production Functicons ..8.... ... ,,,,,.,,,,,,,,,,,,,,,,,, 8 Resource Allocaticn . ,. ,. ...... .. , ... ... ...... . ... 9 Personal Income Distribution ,,,,,,,,,,,,,,,,,,,,.,,,,, 10 Personal Consumption and Savings,,,,,,, ,,,,,,,,,,,,, 12 Private Investment: and Capital Accumulation,,.,,,,,,,.,, 13 Government Revenue: *,. . ,, . . . .. 9 . . .* *. 9 a 9 a.9 a9 *9 9.. 5 Public Expenditure: and the Budget Deficit ..,,.,.,,, ,,, 16 The Trade Balance ,,.,,,,,,,,,,,,,,, ,,,,,,.,,,,,,,,,., 17 Mligration and Demc'graphic Changes ,,,,,,*,,,,,,,,,,,,, 17 Solution Procedures ..,,,,,,,,,,,,,,,,,,,,,,,,,,,,,,,,, 19 D. MODEL SM!ULATIONS .....,,,,,,,.,,,,,,,,,,,,,,,,,,..,,,,, 19 This Annex was prepared by William A. McCleary in coll-aboration with Jan Gunning. Xohan Mun.asinghe and ?atrick .Momal also cocitributed to its preparation. This document has a restricted distribution and may be used by recipients only in.the performance Of their.official duties. Its conunts may not otherwise be disclsed 'without Worldl Bank authorization.   ANNEX 4 A LONG-RUN PROJECTION MODEL A. INTRODUCTION The Model - An OvervLew 1. Our model for Zambia is a dynamic, dual economy model which enables us to simulate the long-run behavior of the economy for the period 1977-1992 under alte7mative sets of assumptions about the behavior of government policies and exogenous variables. Because of the importance of dualism in Zambia.-both between the urban and rural sectors and within the rural sector, the model attempts to capture the effects of various policies on the long-run development of a high-income modern sector, which consists of a mining sector and an urban goods sector (producing manufac- tures, power, services, etc.), and of a relatively lower income agricultural sector which is itself divided into a traditional subsistence sector and relatively more capii:al-intensive emergent and commercial farm sectors. Alternative sets of government policies (given the behavior of other exogenous variables) will lead to different projected growth paths for aggregate and sectoral product, income distribution, migration, employment, government budgetary balance, the balance of payments and net foreign capital require- ments. Hence our simaulation model makes explicit the different impacts of alternative policies and provides some quantitative basis for choosing between alternative dlevelopment strategies. 2. Variables :Ln the model may be computed both in constant and in current prices: (a) on the real level, the levels of physical production, consumption, imports, exports, migration and employment are determined on the basis of real incomes and relative (or real) prices (i.e., current prices of the various goods within the model deflated by the price index of one of the goods); and (b) conversion from real to current prices enables us to make projections about the government budget, the balance of payments and Zambia's capital requirements. Policy Variables in t:he Model 3. The model contains a number of exogenous variables (e.g., world price projections, population growth) and a number of policy variables which are subject to government control (e.g., domestic relative prices, the growth rate of government consumption, the allocation of government invesrment .to 'various sectors). Among the exogenous variables, the forecasted copper price is.'particularly -important since the .availability of foreign exchange and tax revenues fluctuates widdly with-small changes in copper's price; hence, we will use alternative projections,.together with the Bank's forecast, to:determine how sensitive the budget and.balance of payments outlook is to price assumptions. Among 'available government policy instruments, we  ANNEX 4 -2- will pay particular attention to alternative assumptions about: (a) tariff- indirect tax-subsidy policies; (b) the growth rates of government consump- tion and government capital formation; (c) the allocation of government budgetary investment between the agricultural and urban sectors; and (d) wage policy. 4. The Government directly influences the development process through its taxation, pricing and expenditure policies. Its tariff/indirect tax and subsidy policies affect domestic relative prices and hence affect profits and investment rates in the agricultural and urban sectors, sector output, incomes received in the urban and rural areas (hence rural-urban migration) and the pattern of consumption and investment demand. Past government poli- cies have encouraged the production of industrial goods through tariffs while protecting consumers of food by setting food prices below their correspon- ding world prices (and 'subsidizing the price differential for any imports). Such policies have encouraged urban production and raised urban incomes, increased.the drain of subsidies on government budgetary resources, reduced agricultural output and stimulated rural-urban migration. We will attempt' to simulate the effects of alternative pricing policies on the Government's budget, agricultural output and the distribution of real income between the rural and urban sectors. 5. In addition, the Government affects the rate and pattern of dev- elopment by decisions about how rapidly its recurrent expenditures should grow relative to its capital expenditures and by the allocation of its development expenditures between rural and urban areas. In our model simula- tions, we will attempt to determine feasible long-run growth rates for re- current and capital expenditures as well asshow the effects on growth, em- ployment and income distribution of allowing recurrent expenditures to grow more rapidly at the expense of capital expenditures; in addition, we will attempt to show the effects of allocating increasing proportions of the development budget to the rural sector. B. DESCRIPTION OF THE MODEL 1/ 6. The model assumes that the Zambian economy produces three goods: (a) a mining good (mostly copper); (b) a rural good (highly aggregated and largely agricultural); and (c) an urban good (an even more highly aggregated good consisting of the remaining domestically produced goods and services). All three goods are assumed to be tradable and Zambia faces fixed world terms of trade; world prices are exogenously determined and may change from year to year. The world prices of the -three goods are -represented by the 1/ The model presented -here is a -combination of the standard 'TBRD macro- economic model for 'projecting the balance-of 'payments and 'foreign -capital requirements in developing countries and a -revised version of a dynamic simulation model, originally developed by Blitzer (see Development and Income Distribution in a Nal F rv- Dvnan