how to use input-output multipliers econ 4480 state and local economies 1

How to use input-output multipliers

ECON 4480 State and Local Economies

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Guidelines for input-output analysis

1. Define the region of analysis.2. Determine the initial change in final demand

by industry.3. Determine the industries that are initially

affected.4. Apply the change in final demand to the

industry.5. Report the results.

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1) Define the region of analysis• This issue gets at the appropriate geographic size of

the region of analysis.• The region chosen needs to be large enough to

encompass commuting patterns.• Example: a metropolitan area or a collection of

contiguous counties is usually the most appropriate region.

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Defining the Region

• The region should be of a size that is meaningful to the task at hand.– Region should be large enough to encompass the

predominant commuting patterns in the area, but not too large.

– Region should be small enough to allow impact without concern about offsetting effects.

– It is very important to carefully consider what would have occurred otherwise.

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Defining the Region

• Example 1:– Question: What is MTSU’s net economic impact in

terms of jobs and output for the Tennessee economy?

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Defining the Region

• Example:– Answer: if the region of analysis is statewide, then

one could argue that the net impact of MTSU on the statewide economy is minimal.

– Reason: spending that occurs for MTSU would occur at another public university if MTSU did not exist.

– Solution: define the study area as the Nashville MSA.

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Defining the Region

• Example 2: Tenncare– Question: The state government needs to cut its

budget, and $300 million will be cut from Tenncare in the Nashville area. What is the impact of the cut on Nashville’s economy?

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Defining the Region

• Example 2: Tenncare– Answer: One could argue that the net impact of

the cuts are zero. If the state does not cut $300 million from Tenncare for the Nashville, it will cut other programs that benefit the Nashville area by the same amount.

– Solution: none.– One must carefully consider what would have

occurred otherwise.

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Defining the Region

• Example 3: Symphony– Question: What is the economic impact of the

Nashville Symphony?

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Defining the Region• Example 3: Symphony

– Answer: The impact of the symphony has to do with patron spending, and not all patron dollars are the same. Net new spending only occurs if the dollars would not otherwise have been spent locally.

– If the patrons travel from out-of-town specifically for the symphony concerts, then their spending is net new.

– If local patrons attend the symphony, one could argue that had they not attended, the dollars would have been spent locally anyway for some other entertainment. No impact from this spending.

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2) Determine the initial change in final demand by industry

• Final demand consists of the following components:– Consumer spending,– Investment spending (new houses and buildings,

new equipment, computers, and software)– Exports, and– Government spending on goods and services.

• A multiplier impact is initiated when one or more of these components change

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2) Determine the initial change in final demand by industry

• For most industries, new sales is the appropriate measure of the initial change in final demand (and output).

• For some industries, such as retailing and wholesaling, new sales is not a good measure of final demand.– In these industries, margin is the appropriate

measure of output.– Margin is the difference between the sales price

and the cost of inventory. Margin is ‘mark-up’.12

Determine the initial change in final demand by industry

• Margin is the difference between the sales price and the cost of inventory.– Example: if Kroger sells a gallon of milk for $2.40

and pays the milk supplier $2.00 per gallon, Kroger’s margin is $0.40 per gallon.

– The margin on the gallon of milk is measured as retail output in the input-output model.

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• This means that for retailing and wholesaling, among others, the initial change in final demand must be measured in terms of margin, not sales.

• Other industries that use margin instead of sales as a measure of output are real estate and transportation.

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• Example: suppose a new plant will cause retail spending by households to rise by $2 million. What is the impact on regional output?– Determine the change in final demand for retailing.

Suppose the retail margin is 25% of sales. The change in final demand for retailing is then:• $2 million * 0.30 = $0.6 million.

– If the retail output multiplier is 1.2 then the change in regional output is 1.2*$0.6 million = $0.72 million.

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3) And 4) Determining the industries and applying the Change in Final Demand

• A total change in output is estimated by multiplying the output multiplier by the change in final demand (FD):– ∆Y = k * ∆FD, where ‘k’ is the set of output multipliers.– It is the change in final demand that initiates the

multiplier process.– So to estimate the economic impact of a project, we have

to know the initial change in final demand for each industry.

• Note: the set of output multipliers (k) is defined as (I-A)-1.

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Applying the Change in Final Demand

• Example: a new manufacturer will export $3 million in goods from our region each year. Suppose the output multiplier for manufacturing in our region is 2.2. Estimate the change in total output for the region.

• Answer: the change in final demand is $3 million. The change in total output for the region is 2.2 * $3 million = $6.6 million.

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Applying the Change in Final Demand

• Notice that the $6.6 million rise in output is the total increase for all industries, not just manufacturing.

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Case Study: Impact of a new prison industry

• A wood-products manufacturer wishes to employ prison labor to produce wood flooring adjacent to a prison in Bledsoe County.

• The new plant will generate two types of impacts:– Construction impacts (one-time), and– Operating impacts (continuing).

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• Tasks:– Determine the study region,– For both construction and operations impacts,

• Estimate final demand, and• Determine the appropriate multipliers.• Determine the change in output, employment, and

payroll.• Summarize the results.

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• Study area: Bledsoe, Cumberland, Rhea, Sequatchie, Van Buren counties.

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Study area characteristics

County Population1 Employment2 UnemploymentUnemployment

rate (%)Bledsoe County 13,142 4,232 671 13.7 Cumberland County 53,590 19,133 2,318 10.8 Rhea County 30,781 11,444 1,636 12.5 Sequatchie County 13,580 5,467 834 13.2 Van Buren County 5,481 2,103 332 13.6 1Census Bureau figures for July 1, 2008.2Bureau of Labor Statistics, October 2009.


• Construction impacts– Spending for:

• New machinery and equipment ($28 million), and• New structure construction ($12 million).

– Leakages• 100% of the new machinery and equipment are

obtained outside the region.• $7 million of the construction spending is spent outside

the region.

– Result: net local direct construction spending is $5 million.

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Construction impacts: deriving local spending


• Obtaining input-output multipliers:– We use multipliers from IMPLAN (Impact Analysis

for Planning) software.– Developed by the US Forest Service as a method to

evaluate the economic impacts of recreation and preservation.

– Now available commercially for about $2,000 annually.

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• Obtaining input-output multipliers:– Another source of multipliers is RIMS, developed by

the Bureau of Economic Analysis (bea.gov).– Regional Impact Modeling System– RIMS can provide multipliers by industry for any

state, MSA, county, or aggregation of counties.– $300 – $500 charge per set of multipliers.

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Apply $5 million in new final demand to the building construction industry using IMPLAN:

•Local spending for construction creates 80 jobs with a payroll of $3 million and $7 million in new output for the region.•These impacts end when the construction is complete.


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•Questions: •What is the employment multiplier for the construction industry in this region?

•For one new job in construction, how many total jobs are created for the region?

•What is the payroll multiplier?•Similarly, for one new dollar of payroll in construction, how much total payroll is created for the region?


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•Answers:•The employment multiplier = (Direct+Indirect+Induced)/Direct, all in terms of new jobs.•In this case, the multiplier is (80/61) = 1.32.•For each new job in construction, 0.32 jobs in other industries are created by way of the multiplier effect, for a total effect of 1.32 jobs.


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•Answers:•The payroll multiplier = (Direct+Indirect+Induced)/Direct, all in terms of payroll.•In this case, the multiplier is (3.02/2.40) = 1.41.•For each dollar of payroll in construction, 0.41 dollars of payroll in other industries are created by way of the multiplier effect, for a total effect of $1.41 dollars.


• Moving on to the continuing impacts from the new plant:– Payroll for local supervisors.– Local purchases of goods and services. – Local purchases of and raw materials.– Note: prison labor receives a small compensation

that cannot be spent locally.

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• Initial impacts (direct effects):– Payroll for local supervisors.– Local purchases of goods, services, and raw

materials by the plant.– One-time construction impacts.– Note: prison labor receives a small compensation

that cannot be spent locally.

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• New Payroll: – 30 new employees,– $979,000 in new payroll.

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979.0 Payroll (thousand $)Less: 244.8 Taxes

734.3 Disposable incomeLess: 355.3 Imports (estimated from IMPLAN)

378.9 Local spending from payroll


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• Due to large leakages, impacts of payroll and spending for goods and services are small.

Payroll, goods, and servicesImpacts

Direct Indirect Induced TotalLabor income (million dollars) 1.31 0.32 0.14 1.77

Output (million dollars) 2.75 0.87 0.47 4.09Employment 16 6 5 26


• Impact of locally purchased raw materials• Demand: 48 million square feet hardwood

feedstock annually, $28.8 million at 2009 prices.

• Two scenarios:– 50% purchased in study area, and– 100% purchased in study area.

• Apply final demand to the sawmill industry.

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50% Local Purchases

100% Local Purchases

Purchased feedstock (million dollars) 14.4 28.8

Total ImpactsLabor income (million dollars) 3.9 7.9Output (million dollars) 43.4 86.8Employment 144 288

• Impacts from demand for lumber are substantial.

• Might also add impacts from trucking.


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• Total continuing impacts, assuming 50% of lumber is purchased locally:


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• Conclusion: the new wood-processing plant will have a significant impact locally if much of the feedstock is locally purchased.

• And, benefits other than jobs and payroll exist.


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• Other benefits:– Training costs:

• The new plant will provide vocational training, which normally would cost the state $5,031 annually per offender.

• If 250 offenders are hired, the state could save $1.2 million in training costs.


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• Other benefits:– Victims compensation fund

• Worker is required to pay $2.35 per day to the victims criminal injury compensation fund paid to crime victims in Tennessee.

• If offenders work 250 days per year, at least $146,000 annually will be contributed to the fund.

Summary: using input-output multipliers

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• Steps in a multiplier analysis:– Define the region of analysis.– Determine net new local expenditures (identify

any offsetting spending).– Obtain multipliers (IMPLAN or RIMS).– Perform analysis.– Report results.

Summary: using input-output multipliers

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• General observations:– The smaller the region of analysis, the larger the

leakages from the spending stream (Bledsoe County, for example).

– If direct effects are uncertain, use a range of potential impacts.

– Identify and discuss other relevant costs and benefits related to the project.

how to use input-output multipliers econ 4480 state and local economies 1

Documents

region example

region of analysis

appropriate region

net new spending

net impact of mtsu

nashville symphony

government spending

patron spending