I don't fully understand how the model predicts the impact of tariffs of different goods on inflation. I understand the assumptions in the model, but not how the model predicts the impact. Can you explain how this is done? (I am imagining this the econometrics part, which might be too abstract, even so if you could describe at top level.) Thanks!
Good question. The authors - CQRS - first write down the model with all assumptions and functional assumptions. For example, there's a function that takes the amount of labor and the amount of intermediate goods, and gives out total output of a new good. This mathematical function have parameters that tell us how much of the new good will be produced from a given amount of labor and a given amount of intermediate goods.
To figure out the value of these parameters, CQRS 'calibrate' the model. Some of the parameter values come from other research (for example, how much do we discount the future can be taken from other studies). The remaining parameters are then usually set in such a way as to match real-world data. Basically, economists have certain real world-data (output, inflation, prices etc). The CQRS had model-equivalent values that match real world-data. So CQRS test different parameters value until their model gives numbers that are very close to real-world data.
Now CQRS have a model with parameter values. This model can now generate data that looks like the US economy. To test the impact of tariffs, CQRS can change the tariff parameter and see what the model outputs are. In this way, CQRS can compare what will happen in the economy at different tariff rates.
Let me know if this was clear/any follow up questions!
Tariffs can, do change relative prices. They cannot affect the average price level except by affecting the way the central bank makes monetary policy. Now one of the things that a reasonable central bank will do is to try to adjust the price level so as to permit changes in relative prices (from tariffs or anything else) not to cause markets in whihc there are downwardly sticky prices to fail to clear -- for unemployed resources to appear. While that adjustment is going on, while the price level is adjusting is inflation.
Tariffs + wise central bank monetary policy = (temporary) inflation + (hopefully) no unemployment
Tariffs + unwise central bank monetary policy = no inflation + unemployment
I write mainly about US monetary policy, US fiscal policy, trade/industrial policy, and climate change policy.
I have my opinions about which US political party is by far the least bad and they are not hard to figure out, but I try to keep my analysis of the issues non-partisan.
Keynes said, “Madmen in authority, who hear voices in the air, are distilling their frenzy from some academic scribbler of a few years back.”
Hey, thanks for this, very interesting!
I don't fully understand how the model predicts the impact of tariffs of different goods on inflation. I understand the assumptions in the model, but not how the model predicts the impact. Can you explain how this is done? (I am imagining this the econometrics part, which might be too abstract, even so if you could describe at top level.) Thanks!
Good question. The authors - CQRS - first write down the model with all assumptions and functional assumptions. For example, there's a function that takes the amount of labor and the amount of intermediate goods, and gives out total output of a new good. This mathematical function have parameters that tell us how much of the new good will be produced from a given amount of labor and a given amount of intermediate goods.
To figure out the value of these parameters, CQRS 'calibrate' the model. Some of the parameter values come from other research (for example, how much do we discount the future can be taken from other studies). The remaining parameters are then usually set in such a way as to match real-world data. Basically, economists have certain real world-data (output, inflation, prices etc). The CQRS had model-equivalent values that match real world-data. So CQRS test different parameters value until their model gives numbers that are very close to real-world data.
Now CQRS have a model with parameter values. This model can now generate data that looks like the US economy. To test the impact of tariffs, CQRS can change the tariff parameter and see what the model outputs are. In this way, CQRS can compare what will happen in the economy at different tariff rates.
Let me know if this was clear/any follow up questions!
It does, thanks.
Love these primers, please keep doing them!
Tariffs can, do change relative prices. They cannot affect the average price level except by affecting the way the central bank makes monetary policy. Now one of the things that a reasonable central bank will do is to try to adjust the price level so as to permit changes in relative prices (from tariffs or anything else) not to cause markets in whihc there are downwardly sticky prices to fail to clear -- for unemployed resources to appear. While that adjustment is going on, while the price level is adjusting is inflation.
Tariffs + wise central bank monetary policy = (temporary) inflation + (hopefully) no unemployment
Tariffs + unwise central bank monetary policy = no inflation + unemployment
Tariffs are just hidden taxes passed down the supply chain. Consumers always end up footing the bill—especially in import-heavy economies
Hi
As you are not already a subscriber, may I invite you to subscribe (for free) to my substack, "Radical Centrist?"
https://thomaslhutcheson.substack.com/
I write mainly about US monetary policy, US fiscal policy, trade/industrial policy, and climate change policy.
I have my opinions about which US political party is by far the least bad and they are not hard to figure out, but I try to keep my analysis of the issues non-partisan.
Keynes said, “Madmen in authority, who hear voices in the air, are distilling their frenzy from some academic scribbler of a few years back.”
I want to be that scribbler.
Thanks,