Annex 4 analytical methods

In the tradition of Computable General Equilibrium (CGE) models, RHOMOLO relies on an equilibrium framework à la Arrow-Debreu where supply and demand depend on the system of prices. Policies are introduced as shocks. After a shock, the system moves to a new equilibrium with adjustments driven by optimal supply and demand behaviours. RHOMOLO, as all CGE models, therefore provides an evaluation of the interaction effects between all agents through markets, imposing full system consistency. The type of analysis is a scenario analysis, in which the results of simulations including policy shocks are compared to a baseline scenario with no shocks.

Given the regional focus of RHOMOLO, particular attention is devoted to the explicit modelling of spatial linkages, interactions, and spillovers between regional economies. For this reason, models such as RHOMOLO are referred to as Spatial Computable General Equilibrium (SCGE) models.

Each region is inhabited by households aggregated into a representative agent with preferences characterised by love for variety. Households derive income from labour (in the form of wages), physical capital (profits and rents), and other financial assets, as well as from government transfers (both national and regional). Factor mobility can be either switched off or on depending on the needs of the analysis to be carried out. The income of households is spent on savings, consumption, and taxes.

Firms in each region produce goods that are sold in all regions and consumed by households and governments. Other firms --either in the same or in other sectors-- can also use such goods as inputs in their production processes. Transport costs for trade between and within regions are assumed to be of the iceberg type and are sector- and region-pair specific. The market structures of the industrial sectors in each region can be modelled as either perfectly competitive or imperfectly competitive (the latter can be characterised as monopolistic competition, Cournot oligopoly, or Bertrand oligopoly). The number of firms in each sector and region is empirically estimated through the national Herfindahl indices, assuming that all the firms within one region share the same technology. Given their higher weight in the price index, firms with higher market shares are able to extract higher mark-ups from consumers than their competitors, and, since market shares vary by destination market, also mark-ups vary by destination market.

Moreover, a simplified version of RHOMOLO equivalent to the Leontief Input-Output model is available: RHOMOLO-IO is a linear version of the model capable of delivering a multipliers' analysis at a sectoral level potentially more detailed than that of the full RHOMOLO model.

RHOMOLO requires a number of calibrated inputs and exogenous parameters in order to function. For example, the interest rate is set to 0.04 and the rate of depreciation of private capital is set to 0.15. More in general, the parameters related to the elasticities of substitution both on the consumer side and on the producer side are either based on similar models or derived from the econometric literature.  

More information on model inputs and parametrisation is available in section 4 "Data, calibration and elasticities" of the latest model description written by Lecca et al. (2018) and available here.

All RHOMOLO output variables are produced by region, sector and year. 

• Households-related output variables:
  • Factor supply by household (real); Income of household (value); Taxes paid on income by household (value); Savings of household (value); Aggregate consumption of household (real); Price of aggregate consumption of household; Consumption of each good by household (real); Transfers from household to rest of the world; Net disposable income of household.
• Firms-related output variables:
  • Price of exports; Lerner index of monopoly power; Market share; Average sales price; Average production cost; Profits (value); Fixed cost of production (real); Marginal cost of production; Aggregate intermediate input (real); Aggregate input of primary factor (real); Price of aggregate intermediate input; Intermediate demand for each good (real); Total factor productivity (index); Aggregate labour-factor demand; Price of aggregate labour-factor demand; Price of aggregate input of primary factor; Demand of each factor; Taxes paid on demand of each factor; Taxes paid on sales.
• Investment-related output variables:
  • Income of investor (value); Aggregate investment (real); Investment of household (value); Investment of Government (value); Price of investment.
• Government-related output variables:
  • Factor supply by Government (real); Income of Government; Aggregate consumption of Government (real); Price of aggregate consumption of Government; Consumption of each good by Government (real); Transfers from Government to household (value); Savings of Government (value).
• Import-related output variables:
  • Demand for composite of each good (real); Price of each composite good’s demand; Exports (real, single firm); Price of the rest of the world.
• Other variables:
  • Price of each factor; Unemployment rate of each factor; Sales of each good s (real); Number of firms in each sector; Price of national R&D services; National knowledge capital (index).

The RHOMOLO model is designed for policy impact assessment. The explicitly modelled spatial dimension at the NUTS2 regional level makes it a unique tool for territorial impact assessment. Spatial interactions between regions are captured through trade of goods and services (which is subject to trade costs), income flows, factor mobility and knowledge spillovers, making RHOMOLO particularly well suited for simulating human capital, transport infrastructure, R&D and innovation policies.

RHOMOLO has been used for the impact assessment of the European Regional Development Fund (ERDF), Horizon Europe, the European Social Fund (ESF), and the portfolio of the European Investment Bank (including EFSI that is the first pillar of the Investment Plan for Europe). Also, the model has been recently used to evaluate the economic impact of the third pillar of the Investment Plan for Europe including the legislative proposals related to the Capital Markets Union, the Single Market Strategy, the Energy Union, and the Digital Single Market.

Moreover, RHOMOLO is used for the evaluation of specific investment projects and other reforms depending on the requests made by Member States, regional authorities, and interested DGs.

• Institutional affairs 
• Education and training 
• Economy, finance and the euro 
• Taxation 
• Employment and social affairs 
• Regional policy 
• Transport 
• Business and industry 
• Research and innovation 
• Single market 
• Trade