INTRODUCTION
Input-Output models are not designed to model changes in price. I-O will only give you the impact of a change in demand based on the current picture of the economy. Since I-O models are in constant dollars, changes in prices only change multipliers if the change affects how an industry produces its commodities. So it is on you as the analyst to make additional appropriate assumptions when modeling price changes.
DETAILS
Input-Output analysis is based on the picture of the economy at a certain point in time. Each Industry requires units of inputs in order to produce a unit of output. Some of the inputs are locally produced and some are imported. Based on the Leontief Production Function for each Industry, IMPLAN derives a set of multipliers. These multipliers tell us how much local economic activity is generated by the production.
Prices used in model creation and units of input are constant based on the Data Year. Let’s say the price of an input increases. How the Industry responds to increased costs is not inherently an I-O question. However, the response of the Industry and that impact, can be analyzed in IMPLAN.
This gets us to the question of how to model this in IMPLAN. And here the big question is - who pays? Will the price change be accounted for within the Industry (via a reduction in profits or cuts in other expenses) or will they pass it on to their consumers? Once an understanding of how price changes will affect industry production or household spending is gained, an appropriate form of analysis can be determined.
INDUSTRY CHANGES
If the price change isn’t passed directly on to consumers, there are different combinations of ways for Industries to cover an increase in the cost of inputs. Note that if the increase in cost of an input does not change the production levels of industries using that input, then there is no local impact. Perhaps the Industry will go out of business. Perhaps they will change their spending pattern. Perhaps they will pull from savings or profits to cover the increase.
An Industry might simply go out of business if the costs of their inputs are too high. They may also have to cut employment, reduce their wages, or cut their overall spending. Each of these can be analyzed as a negative value through an Industry Event using Employment, Employee Compensation, Proprietor Income, or Output.
Industries might also change their spending patterns. They might shift from using an expensive form of electricity to a more affordable one. In this case, edits can be made to their inputs via their Spending Pattern and this can be modeled using a Industry Impact Analysis (Detailed) Event.
If the Industry merely saves less or takes a smaller profit, there is no change to model in IMPLAN as the total Output remains the same. Other Property Income (Industry profits) and Capital (Industry savings), are both treated as leakage in IMPLAN by definition, so they have no effect beyond the direct impact. If you can demonstrate how profits are used or not used locally due to the change, this would have to be analyzed very specifically based on the plans for that investment. Perhaps the Industry was going to purchase new capital equipment that has now been postponed, or pay out dividends that are no longer available.
HOUSEHOLD CHANGES
An easy way for Industries to cover the increased costs of inputs is to pass that cost right on to the consumer. Some price increases may cause the consumer to stop purchasing the item if a similar substitute can be purchased. This shift can be analyzed as a loss of Output in one Industry coupled with a gain in another via an Industry Event. Perhaps they will no longer purchase from Industry 40 - Electric power generation - Fossil fuel and they switch to a small start up Industry 42 - Electric power generation - Solar.
For many Household Income groups, reasonable cost increases might be pulled from savings and thus have no impact on the economy. For Household Income groups that do not have savings, will their overall spending decrease or will their spending on only that Commodity decrease? Perhaps instead of spending less overall, they will simply spend less money on entertainment, while maintaining their spending levels on housing, food, clothing, etc. Overall changes in available income can be analyzed using a Household Income Event. Spending changes on specific Industries or Commodities can be analyzed via either an Industry Event or Commodity Event.
While this isn’t meant to be an exhaustive list of all of the possible combinations of Household responses to a price change, it does show the complexity of setting up this analysis in IMPLAN. In any case, we recommend taking great care to produce the required data to defend your assumptions.
CGE MODELS
IMPLAN and I-O models in general are not built to answer questions that so broadly affect inter- and intra-industry relationships. Computable general equilibrium (CGE) models, on the other hand, are economic models that can estimate changes in external factors. CGE models make use of elasticities (such as price elasticity of demand) and can better reflect such behavioral changes as they are less static.
RELATED ARTICLES
Detailed Key Assumptions of IMPLAN & Input-Output Analysis
Utility Purchases & Energy Rebates
Written April 21, 2021