MANAGING THE AUSTRALIAN ECONOMY

by KEVIN J. McKENNA*

“Managing the Australian Economy” is a macro-economic computer simulation which is used in a Competition for final year high school students in Australia. Heats are held in 26 cities across the country, covering all states. In 1990 over 370 schools took part (i.e. about 20% of high schools in the country).

The economic model The econometric model behind “Managing the Australian Economy” is

based on one developed for the UK by Lumsden and Scott of the Esmee Fairbairn Research Centre at Heriot-Watt University, Edinburgh (Lumsden and Scott, 1982, 198311988). The model was first translated to reflect Australian economic conditions in 1983 then revised in 1987 (McKenna, Lumsden & Scott, 1988).

Though the Competition involves senior high school students, the econo- metric model is based more on intermediate macro theory, and both the UK and Australian versions are used extensively in university and executive development courses. (See appendix for the form of the model.)

The model is a dynamic growth model with four control variables: government spending on goods and services, the average income tax rate, the average sales tax rate and, in the Australian version, the level of interest rates. The model generates the values of 26 other economic variables, such as inflation, unemployment, investment, balance of payments.

Students initially are provided with a manual which explains the economic relationships built into the model. It also gives an eight year “history” of the economy. This is a set of eight years’ annual data, which has been generated by the model, together with an explanation, for each of the eight years, of the policies followed and the response of the economy. This data closely resembles that for the Australian economy over the period 1978/1985. (The model is currently being updated.)

Minor complications are added each “year”, when students are presented with exogenous shocks either constraining their use of the policy variables directly or affecting some other variable in the economy, for example,

* Curtin University of Technology. Perth. I am grateful to Mobil Oil Australia Ltd, Apple Computer Australia Ltd. the Economic Society of Australia and. of course, Curtin University for their support over the life of this project.

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exports. The Competition can be varied by varying the data for economic conditions at the commencement of the start year and by varying the exogenous shocks. The model is sufficiently complex so that no amount of practice can produce rules for optimum play.

The objective is to maximise the sum of a specified welfare function over the ten “years” of the simulation. The welfare function varies, but typically involves positive points for GDP growth and negative points according to some function of inflation and unemployment and, perhaps, budget or balance of payments deficits.

The 1990 Competition

which was, for the first few rounds: Success in the 1990 Competition was measured by a Welfare function

WELFARE = 10 * (C.6*I.2*G.2) - 2 * U2 - INF2 - 10 * Budget Deficit To test the students the Welfare function was varied several times during

the Final. For example: WELFARE = 10 * (C.6*I.2*G.2 ) - 2 * U 2 - INF2+ 10*BOT

So teams lost points for a BOT (Balance of Bade) Deficit, but gained points

Another was: WELFARE = 10 * (C.6*I.2*G.2) - 2 * U2 - INF2 + 10 * Change Invest

The point to these shifts in the Welfare function was not to have the students suddenly start manipulating the economy aiming to maximise trade surpluses, but to require them to make judgments on trade-offs and to manage their economy in the light of these judgments.

For each of the ten decision rounds the students were also presented with one or more exogenous shocks. Sometimes these acted as constraints on decision variables, e.g.:

Opinion polls show that support amongst the electorate has plummeted, and you lose an important by-election. You Cabinet decides that you must cut income taxes by 4% this year.

Economic development in Eastern Europe accelerates. Some foreign investment, previously targeted for Australia, now goes to Eastern Europe, so capital inflow into Australia is now $0.5 billion lower than otherwise, a s is private investment spending. In addition, some major Australian companies see opportunities in Eastern Europe and invest there. This has the effect of reducing net capital inflow a further $1 billion. Some of this investment takes the form of Australian machinery and expertise, so exports are $0.5 billion higher than otherwise.

for a surplus.

Other shocks involved events affecting other economic variables, e.g.:

Evaluation The primary purpose of using the simulation with students is to stimulate

interest in, and understanding of, economics, particularly the subject matter of macroeconomics. The Competition has a second objective, which is to

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stimulate interest in economics as a tertiary course of study and as a profession, and to demonstrate to students that economics is an exciting and challenging field in which to work.

Although computer simulations in economics were first developed in the mid-1960s (e.g. Attiyeh, 1967; Moncrieff, 1965; Radov, 1967) and Thompson (1985) lists over 200 commercially available packages, Soper’s (1974) complaint regarding the independent development of computer packages with inadequate evaluation still has much force today, despite the resources devoted to this area. Although there are so many commercially available computer packages in economics, very few formal evaluations of the use of computer simulations in teaching economics have been carried out.

Available results (e.g. Wing, 1968; Emery and Schoene, 1972; Cox, 1974; Ross, 1977; Millerd and Robertson, 1987) show that the use of simulations in economics courses generally has a favourable, though minor, effect on learning. These results indicate that simulations, as most forms of intervention, will be more likely to be shown to be successful where the duration of the educational experiment is brief.

The only available evidence on the effectiveness of the simulation itself comes from an educational experiment carried out in 1987 (McKenna, 1988), which showed that individual student use of the simulation occasionally during the year had little effect on end-of-year results. It is possible that a more formal use of the simulation in the classroom or involvement in the Competition could produce different results. A formal educational evaluation of the effect on learning in economics of student involvement in the competition is currently underway.

Although no evaluation has yet been carried out on the second objective (stimulating interest in economics as a tertiary course of study and as a profession), informal observation indicates that it is having a significant effect.

Conclusion The “Managing the Australian Economy” Competition is the most

significant educational innovation in economics education in Australia in recent years. Informal observation indicates that the Competition has a significant positive effect on student attitudes to economics and, particularly for those students who compete in the National Final, also on their attitude to economics as a possible career choice. Research is under way to obtain evidence in these areas.

Surveys indicate that reaction from students and teachers has been highly favourable. The growth of the Competition, plus other evidence discussed above, seems to indicate that it is filling an important function in economics education in Australia.

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APPEND I X Outline of “Managing the Australian Economy”

Aggregate Demand Private consumption demand

c = c (yd, v) Private investment

I = I (N, R. Y, Yt-1, K, Ut-1, Wt-1, Pt-1, INV, INVt-1, V)

Exports of goods and services X = X (YF, S, PI, PIF)

Imports of goods and services Z = Z (Y, S, PI, PIF)

Goods market identity Y = C + I + G + X - Z

Labour market Full employment output

Q = Q (K, L, N) Unemployment rate

U = U ( Y - Q ) / Q ) Prices and wages

Wages

Prices W = W (Pi-1, U, ARB)

P = P(U, Wt-1, dS) Financial sector

Demand for money

Exchange rate

Capital inflow

Interest on Foreign debt

Md = M (Y, PI, R)

S = S (Xt-1, Yt-1, IF(-1, CIi-1)

CI = CI (R, RF)

IF = IF(N) Budget

Transfers

Tax revenue

Budget outcome

Income and wealth

TR = TR(N,U)

T = t * Y + v ( C + I)

B = T - G - T R

Disposable income Yd = Y- t * Y + T R

Stock of physical capital Kt = Kt-1 - dl * Kt-1 + It-1 + .25 * Gt-1

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Variables in “Managing the Australian Economy” Endogenous variables C = Consumption expenditure CI = Foreign capital inflow B I = Inveetment spending IF INV = Sales from inventories K = Capital stock P = Inflation rate PI = Domestic price index Q = Potential output S = Exchange rate T = Tax revenue TR = Transfer payments U = Unemployment rate W = Wage inflation X = Exports Y = Domestic production Yd = Disposable income dY = Growth in Y Z = Imports

Exogenous variables ARB = Arbitration Commission L = Labour force N = Year PIF = Foreign price index RF = Foreign interest rate YF = Foreign aggregate demand

Control variables G R = Real interest rate t = Income tax rate v = Sales tax rate

= (Aust. government’s) Budget outcome

= Interest on net overseas debt

= Total government spending on goods and services

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