Economic Impact Assessment methodologies

The most common methodologies used to conduct an EIA rely on Input-Output (I-O) modelling and computable general equilibrium (CGE) modelling. These methods use I-O tables, which provide detailed information about the supply and use of products in the Australian economy⁠ (Footnote: Australian Bureau of Statistics, 2020: Australian National Accounts: Input-Output Tables https://www.abs.gov.au/statistics/economy/national-accounts/australian-national-accounts-input-output-tables/latest-release. ) . There is a scale of possible approaches between I-O and CGE modelling, with a trade-off between the complexity of the analysis and the level of detail and sophistication of the underlying model and assumptions. Regardless of the approach used, the EIA must use a standardised methodology and make all assumptions transparent.

I-O models use a set of ‘multipliers’, which describe the production and consumption relationships between different sectors of the economy, to estimate the direct and flow-on impacts of an initial investment in a particular part of the economy.⁠ (Footnote: See also: Gretton, P. 2013 On input-output tables: uses and abuses, Staff Research Note, Productivity Commission, Canberra https://www.pc.gov.au/research/supporting/input-output-tables/input-output-tables.docx. )

CGE modelling uses large-scale economic models to simulate the interactions between sectors in the economy. CGE modelling uses an underlying set of economic equations that simulate how the economy changes over time as a result of an investment. These equations allow the model to solve for a ‘general equilibrium’ where supply and demand of goods and services in the economy are balanced.⁠ (Footnote: A more detailed definition of the technical aspects of CGE modelling is provided in HM Revenue & Customs, 2013: HMRC’s CGE model documentation. https://assets.publishing.service.gov.uk/government/uploads/system/uploads/attachment_data/file/263652/CGE_model_doc_131204_new.pdf)

The key differences between the I-O and CGE modelling methodologies are shown in the table below. In short, I-O modelling is less complex but has several limitations. CGE modelling overcomes many of these limitations but is more technically complex and resource intensive.

Key differences between I-O and CGE

Methodology

I-O

CGE

Key advantages

  • A simpler representation of the economy that can provide a range of industry sector “multipliers” that capture possible backward and forward linkages associated with an initial “impact” such as that associated with the Government’s infrastructure program.
  • Has the advantage of simplicity and transparency and is relatively cost effective to undertake
  • Highly detailed representations of entire economies
  • Sophisticated economic relationships linking industry sectors, consumers, governments, investors, and foreign trade provide a comprehensive representation of an economy consistent with economic theory
  • Output considered to be more robust, as it takes into account capacity constraints in the economy and economic displacement

Key disadvantages

  • The use of fixed coefficients implies that the structure of the economy remains unchanged by the economic event
  • Its lack of supply side constraints on the availability of inputs, such as skilled labour, can often result in an overstatement of the benefits of a project due to the lack of rationing response.
  • More resource intensive to undertake the analysis
  • Higher complexity and requires specialist skills sets to undertake
  • Modelling can be less transparent and more difficult to interrogate

Best uses

  • Likely to be suitable for smaller projects where resources or timeframes are constrained
  • May be suitable for larger projects, Programs or Precincts where more comprehensive analysis is recommended

A high-level overview of applying an I-O methodology is described in the next section.

Footnotes: