EXPERTISE / SOLUTION

The financial module is linked to the core CGE model via three conditions. Firstly, the current account deficit is equal to the net inflow of capital. Secondly, the government deficit is equal to the new acquisition of domestic bonds. Thirdly, investment in industry i is set equal to the new acquisition of assets in industry i by agents z. Once these equations are activated, we endogenously determine the nominal exchange rate, domestic bond rate and the change in the cost of funds to industries.

In the financial CGE model, we introduce explicit treatment of:

(i) Financial intermediaries and the agents with which they transact;

(ii) Financial assets and liabilities;

(iii) The financial flows related to these assets and liabilities;

(iv) The rates of return on individual assets and liabilities;

(v) Links between the real and monetary sides of the economy.