World Bank

Skopje, October 26-28, 2011

Input-Output Analysis

1
 Outline
Input-Output Definitions
Simplest form of Input-Output Analysis (a quick
review)
Input-Output Analysis with Examples
Input-Output Multipliers
Power and Problems of Input-Output Analysis
Appendix 1: Mathematical Exercises on IO
Analysis with Matrices
Appendix 2: Derivation of IO Multipliers
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 PART I:
Input-Output Definitions

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 Input-Output Analysis
“The assessment of change in overall economic activity as
the result of some corresponding change in one or several
activities”.
“An economic analysis, in which the interdependence of an
economy's various productive sectors is observed by viewing
the product of each industry both as a commodity demanded
for final consumption and as a factor in the production of
itself and other goods” (Encyclopedia Brittanica)

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 Input-Output Analysis
“A methodology for investigating production relations
among primary factors, intersectoral flows, final demands,
and transfers.”
“Input-output analysis considers inter-industry relations in
an economy, depicting how the output of one industry goes
to another industry where it serves as an input, and thereby
makes one industry dependent on another both as customer
of output and as supplier of inputs.“ (Wikipedia)

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 Wassily Leontief
(1905 - 1999)

Nobel Prize (1973)

• The “Structure of the American

Economy”, 1919-1939 (1941)
• Input-Output Economics (1966)

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 Wassily Leontief
• Born in St. Petersburg, 1906
• Got Ph.D. in Econ in Berlin
• Moved to NYC in 1931
• Joined Harvard econ faculty in 1932
• Constructed first input-output tables of US
• Questioned the H-O Theory after WWII
• 1973 Nobel Prize

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 Leontief Paradox
• Leontief reached a paradoxical conclusion that
the US --the most capital abundant country in
the world by any criterion-- exported labor-
intensive commodities and imported capital-
intensive commodities in 1947.
• This result has come to be known as the Leontief
Paradox.

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 Input-Output Tables
• Leontief took the profession by surprise and
stimulated an enormous amount of empirical and
theoretical research on the subject.
• To perform the test, Leontief used the 1947 input-
output table of the US economy.

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 Paradox continued
• He aggregated industries into 50 sectors, but only 38
industries produced commodities that enter the international
markets, and the remaining 12 sectors were created for
accounting identities and non-traded goods.
• He also aggregated factors into two categories, labor and
capital. He then estimated the capital and labor
requirements to produce:
• One million dollars' worth of typical exportable and
importable in 1947.

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 Paradox continued
• The US seems to have been endowed with
more capital/worker than any other country in the
world in 1947.
• Thus, the HO theory predicts that the US exports would
have required more capital per worker than US imports.
• However, Leontief was surprised to discover that US
imports were 30% more capital-intensive than US
exports.

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 Paradox continued…
• At first, Leontief was criticized on statistical grounds.
• Swerling complained that 1947 was not a typical year:
the postwar disorganization of production overseas was
not corrected by that time.
• In 1956 Leontief repeated the test for US imports and
exports which prevailed in 1951. In his second study,
Leontief aggregated industries into 192 industries. He
found that US imports were still more capital-intensive
than US exports.
• US imports were 6% more capital-intensive.
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 Explanations
• Leontief himself suggested an explanation for
his own paradox. He argued that US workers
may be more efficient than foreign workers.
• Perhaps U.S. workers were three times as
effective as foreign workers.

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 Higher US Productivity
• It means that the average American worker is
three times as effective as he would be in the
foreign country.
• Given the same K/L ratio, Leontief attributed
the superior efficiency of American labor to
superior economic organization and
economic incentives in the U.S.

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 More than two factors
• More recent tests recognize that more than
two types of production factors are relevant.

• Results for H-O are not that disappointing

when we take more factors into consideration.

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 H-O works for
some US sectors…
• In general, trade patterns fit the H-O theory
reasonably well but certainly not perfectly.
• The US is relatively abundant in skilled labor, and
tends to be a net exporter of products that are
skilled-labor-intensive or technology-intensive,
including aircraft and medical instruments.

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 Back to the definitions:
Input-Output Model
• An IO model is centered on the idea of inter-industry
transactions:
– Industries use the products of other industries to produce
their own products.
– For example - automobile producers use steel, glass,
rubber, and plastic products to produce automobiles.
– Outputs from one industry become inputs to another.
– When you buy a car, you affect the demand for glass,
plastic, steel, etc…

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 Basic Input-Output Logic
Tires
Glass Plastic Other
Steel
Components

Automobile Factory

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From the Tire Individual
Producer’s Consumers

Perspective FINAL
School
Districts DEMAND
FOR TIRES
Tire Factory Trucking
Companies

INTER-
Automobile
MEDIATE
Factory DEMAND
FOR
TIRES
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 Input-Output Analysis
 The implicit assumption in economic base techniques is that
each basic sector job has a multiplier (or ripple) effect on
the wider economy because of purchases of non-basic goods
and services to support the basic production activity. (the
basic sector drives the non-basic sector)
 However, we know that non-basic sector businesses
purchase non-basic goods and services and basic sector
businesses purchase Basic sector goods and services. There
are inter-industry linkages not contained within a basic
economic model (basically the multiplier model you know
from your intermediate macro course). The economy is
much more complex than the economic base techniques
allow or attempt to model. 20
 Input-Output Analysis
 The central advantage of Input-Output analysis is that it
tries to estimate these inter-industry transactions and use
those figures to estimate the economic impacts of any
changes to the economy.
 Instead of assuming a change in a basic sector industry
having a generalized multiplier effect, the IO approach
estimates how many goods and services from other sectors
are needed (inputs) to produce each dollar of output for the
sector in question. Therefore it is possible to do a much
more precise calculation of the economic impacts of a given
change to the economy.
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 IO Conceptualization of the Economy
• The major conceptual step is to divide the economy into
“purchasers” and “suppliers”:
--Primary Suppliers: They sell primary inputs (labor, raw
materials) to other industries. Payments to these suppliers
are “primary inputs” because they generate no further
sales. (example: Households)
--Intermediate Suppliers: They purchase inputs for
processing into outputs they supply to other firms or to
final purchasers. (example: Automaker)

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 IO Conceptualization of the Economy
• The major conceptual step is to divide the economy into
“purchasers” and “suppliers”:
--Intermediate Purchasers: They purchase outputs of suppliers
for use as inputs for further processing. (example:
Automaker)
--Final Purchasers: Purchase the outputs of suppliers in their
final form and for final use. (example: Households)
• Intermediate Suppliers and Intermediate Purchasers are the
same thing!
• Primary Suppliers and Final Purchasers may or may not be
the same entities. When they are the same (households),
these activities are understood as separate activities.
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Simplified Circular Flow View of The Economy
$$ Consumption Spending (Yi)

Goods & Services

Households Businesses Businesses

Labor

$$ Wages & Salaries Businesses purchase from

other businesses to produce
Households buy Households sell
their own goods / services.
the output of labor & other
business: final inputs to business This is intermediate
demand or Yi as inputs to demand or xij (output of
production industry i sold to industry j)

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 PART II:
Input-Output Model for a Simple Economy

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Input-Output Model for a Simple Economy
• Consider a simple economy with two industries:
– a lumber industry
– a power industry
• Suppose that production of 10 units of power require 4 units
of power and 25 units of power require 5 units of lumber.
• 10 units of lumber require 1 unit of lumber and 25 units of
lumber require 5 units of power.
• If surplus of 30 units of lumber and 70 units of power
are desired, how much would be the gross production of
each industry.
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 Creating a Technology Matrix

• First step would be

converting all numbers to Outputs
percentages:
• Powerpower: 4/10 = 0.4
Inputs Power Lumber
• Lumberpower: 5/25 = 0.2
• Lumberlumber: 1/10 = 0.1
Power 0.4 0.2
• Powerlumber: 5/25 = 0.2

Lumber 0.2 0.1

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 Creating a Technology Matrix
• Now we can use this Outputs
information to create the so Inputs Power Lumber
called “technology matrix” Power 0.4 0.2
or “Leontief matrix”. Lumber 0.2 0.1

 .4 .2 
A   
 .2 .1
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 The Gross Production Matrix
• The gross production matrix for the economy can be
represented by the column matrix:
 x1 
X  
 x2 
 
• Where x1 is the gross production of power and x2 is the
gross production of lumber.

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 The Technological Equation

• X (or IX where I is the identity matrix) is the amount of

production that is desired.
• AX is the amount of actual production.
• So IX-AX=(I-A)X is the amount of surpluses, D, (also
called final demands).

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 The Technology Equation

( I  A) X  D
• Is called the “technology equation”.

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 Back to our Simple Economy
• Original Question : If surplus of
30 units of lumber and 70 units
of power are desired, find the
 70 
gross production of each
industry.
D   
• In other words, what is the gross  30 
production which would satisfy
the final demand D (70,30)?
• Find X

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Input-Output Model for a Simple Economy

• To find X, take the inverse of (I-A) [if it

exists]

( I  A) X  D
1
X  ( I  A) D
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Input-Output Model for a Simple Economy

  1 0   .4 .2    .6  .2 
I  A           
  0 1   .2 .1    .2 .9 

Finding the inverse of I-A:

 .6  .2 1 0  1  .333 1.667 0  1  .333 1.667 0 
       
  .2 .9 0 1    .2 .9 0 1   0 .833 .333 1 

1  .333 1.667 0  1 0 1.8 0.4 

     
 0 1 0.4 1.2   0 1 0.4 1.2 

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Input-Output Model for a Simple Economy
  1 0   .4 .2    .6  .2 
I  A           
  0 1   .2 .1    .2 .9 

Finding the inverse of I-A (alternative way):

1  .9 .2  1  .9 .2 
    
(.6 * .9)  ((.2) * (.2))  .2 .6  .54  .04  .2 .6 

 .9 .2  1.8 .4 
 2    
 .2 .6   .4 1.2  35
Input-Output Model for a Simple Economy
• We found that the inverse of I-A
is:
1 1.8 .4 
• To find the amount to produce ( I  A)   
for the desired amount of  .4 1.2 
demand, we must multiply the 1
inverse of I-A and D: X  ( I  A) D
• Hence the gross production are : 1.8 .4  70  138 
– Lumber : 64 units X       
– Power : 138 units  .4 1.2  30   64 

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Input-Output Model for a Simple Economy
Another Example (3x3)

• The economy of a hypothetical developing country is based on

agricultural products, steel, and coal.
• An input of 1 ton of agricultural products requires an input of 0.1 ton
of agricultural products, 0.02 ton of steel, and 0.05 ton of coal.
• An output of 1 ton of steel requires an input of 0.01 ton of agricultural
products, 0.13 tons of steel, and 0.18 tons of coal.
• An output of 1 ton of coal requires an input of 0.01 ton of agricultural
products, .2 tons of steel, and 0.05 ton of coal.
• Find the necessary gross productions to provide final demands of
2350 tons of agricultural products, 4552 tons of steel, and 911 tons of
coal.
• What is the technology matrix?
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Input-Output Model for a Simple Economy
Another Example (3x3) – Technology Matrix:

Output

 0 .1 .01 .01 
Input Agriculture Steel Coal
 
A   .02 .13 0.2 
Agriculture 0.1 0.01 0.01  .05 .18 .05 
 
Steel 0.02 0.13 0.2

Coal 0.05 0.18 0.05

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Input-Output Model for a Simple Economy
Another Example (3x3)

• What is the matrix of final demands?

• Find the technological equation.
• What is (I-A)-1?
• What is the production matrix?

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Input-Output Model for a Simple Economy
Another Example (3x3)

• What is the surplus matrix?

 2350 
 
D   4552 
 911 
 
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Input-Output Model for a Simple Economy
Another Example (3x3)

• Find the technological equation:

( I  A) X  D
  1 0 0   0.1 .01 .01   2350 
     
  0 1 0    .02 .13 .20   X   4552 
  0 0 1   .05 .18 .05    991 
     

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Input-Output Model for a Simple Economy
Another Example (3x3)
• What is (I-A)-1?

 1.11 .016 .015 

1
 
( I  A)   .041 1.20 .254 
 .066 .229 1.10 
 
http://www.wikihow.com/Inverse-a-3X3-Matrix
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http://www.easycalculation.com/matrix/matrix-inverse.php
Input-Output Model for a Simple Economy
Another Example (3x3)

• What is the production matrix?

• Thus in our country to achieve the  2700 
desired levels of final demand 1
 
2700 units of agriculture, 5800
X  ( I  A) D   5800 
 2200 
units of steel, and 2200 units of  
coal must be produced.

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 Closed Leontief Models
• The technological equation for a closed
Leontief model is:

( I  A) X  0
• Where 0 is actually a column matrix of all
zeros.
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 PART III:
Input-Output Analysis with Examples

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 The Structure of IO Analysis
• The ultimate goal of the Input-Output Analysis technique is
to generate a Total Requirements Table that shows the flows
of dollars between industries in the production of output for
a given sector.
• To arrive at this final result, IO Analysis requires two earlier
steps:
1) Transactions table: Contains basic data on the flows of
goods and services among suppliers and purchasers during a
study year.
2) Direct Requirements table: Derived from the transactions
table, this shows the inputs required directly from different
suppliers by each intermediate purchaser for each unit of
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output that purchaser produces.
 The Transaction Table and Direct Reqs Tables
The Transactions Table
(in thousands of units)
Intermediate Purchasers Final Purchasers Total
--Agriculture --Manufacturing --Households Sales (outputs)
Intermediate Suppliers
--Agriculture 10 30 60 100
--Manufacturing 5 10 35 50
Primary Suppliers
--Households 85 10 15 110

Total Purchases (inputs) 100 50 110 260

Direct Requirements Table

(in thousands of units)
Purchasers
--Agriculture --Manufacturing
Intermediate Suppliers Every unit of output
--Agriculture 0.10 0.60 requires inputs of a certain
--Manufacturing 0.05 0.20 amount from other areas
Primary Suppliers of the economy.
--Households 0.85 0.20

Total Purchases (inputs) 1.00 1.00 49

 The First Round of Economic Impacts
Direct Requirements Table
(in thousands of units)
Intermediate Purchasers
--Agriculture --Manu
Intermediate Suppliers
--Agriculture 0.10 0.60
--Manufacturing 0.05 0.20
Primary Suppliers
--Households 0.85 0.20

Total Purchases (inputs) 1.00 1.00

Total Requirements Calculation (First Round)

(in thousands of units)
Sales to Sales as Direct Inputs
Final Purch. To Agr To Manu Total
By Agriculture 200 20 60 80 To
By Manufacturing 100 10 20 30 Rd. 2
By Households 0 170 20 190

Total indirect rounds

By All Supliers 300 30050

The Second-Fourth Rounds of Econ. Impacts
Total Requirements Calculation (Second Round)
(in thousands of units)
Sales to Sales as Direct Inputs
Final Purch. To Agr To Manu Total
By Agriculture 80 8.0 18.0 26.0
By Manufacturing 30 4.0 6.0 10.0
By Households 0 68.0 6.0 74.0

Total indirect rounds 110.0

Total Requirements Calculation (Third Round)

(in thousands of units)
Sales to Sales as Direct Inputs
Final Purch. To Agr To Manu Total
By Agriculture 26 2.6 6.0 8.6
By Manufacturing 10 1.3 2.0 3.3
By Households 0 22.1 2.0 24.1

Total indirect rounds 36.0

Total Requirements Calculation (Fourth Round)

(in thousands of units)
Sales to Sales as Direct Inputs
Final Purch. To Agr To Manu Total
By Agriculture 8.6 0.9 2.0 2.8 and so on
By Manufacturing 3.3 0.4 0.7 1.1 until the mult.
By Households 0 7.3 0.7 8.0 effect ends
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Total indirect rounds 11.9
 The Total Requirements Results
Total Direct and Indirect Requirements Calculation
(in thousands of units)
Sales to Final Total Total Total
Purchasers Direct Sales Indirect Sales Sales
Agriculture 200.0 80.0 38.7 318.7
Manufacturing 100.0 30.0 14.9 144.9
Households -- 190.0 109.6 299.6

Total 300.0 300.0 163.1 763.1

When:
1) there are “Final Sales” of Agriculture = 200 and “Final Sales” of
Manufacturing = 100
2) we see a Total Economic Impact = 763.1, with that impact broken down as:
i) 300.0 in Initial Sales to Final Purchasers
ii) 300.0 in Total Direct Sales
ii) 163.1 in Total Indirect Sales
The 300 units in Final Sales generate an additional 463.1 units of economic
activity. This illustrates the multiplier effect captured by IO models.

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 The Total Requirements Table
Total Requirements Table
Every Unit in Final Demand of…
Requires Total Sales by Agriculture Manufacturing
Agriculture 1.15 0.86
Manufacturing 0.07 1.29
Households 1.00 1.00

Total 2.22 3.15

For Agriculture 1.00 Sales to Final Purchasers

1.00 Sales by Primary Suppliers
0.22 Interindustry transactions
Similar to our Base Multiplier in Econ Base Theory
A 1.0 unit increase in demand for agriculture leads to
a total of 2.22 of sales.

For Manufacturing 1.00 Sales to Final Purchasers

1.00 Sales by Primary Suppliers
1.15 Interindustry transactions
Similar to our Base Multiplier in Econ Base Theory
A 1.0 unit increase in demand for manufacturing leads to
a total of 3.15 of sales. 53
Case Study: Sugar
How Sweet it is?

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 Case: Sugar industry
• In US, EU, Japan, the domestic price of your
sugar is more than double the world price.
• For the US, the net cost of protectionist policies
is close to $1bn per year.
• The sugar industry is not big, just 60,000 people
or 0.04% of total labor force.

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 Sugar case
• But industry is well organized.
• The big sugar producers in Florida gain $65m per year
from the protectionist policies.
• To defend these profits, they donate money to the
main US political parties.
• There is also the American Sugar Alliance, which
lobbies for protection because farmers, its members,
benefit from it.

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 Sugar case
• Small foreign sugar producers do not have much
power to influence US trade policy.
• To consumers, the loss is only $8 per person
per year, so they don’t bother
• If US shifted to free trade, employment in sugar
industry would probably decline only by 3,000
workers, who would find new jobs.

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Table: Protection to Maintain Jobs,
the United States

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Table: Protection to Maintain Jobs,
the European Union

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Figure 10.4 – Can an Import Barrier Be Better
Than Doing Nothing, and Is It the Best Policy?

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 Input-Output Analysis as an
Accounting Framework
 Input-Output is essentially an accounting framework
T - Account

Receipts Expenditures
P urchases of goods and services
Sales to Industries Local
Imported
Sales to Institutions
Exports Investment
P ayroll
Taxes
P rofits
Distributed
Retained

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 Input-Output Analysis
Interindustry Transactions + Final Demands = Total Activity
Total Activity = f (Final Demand)
The economy is driven by consumption or final use
Industries contribute goods and services for final demand or
to those activities triggered by final consumption.

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Input-Output Analysis – Another Example

 I/O Tables - Transactions

Transactions Table ($millions)
Purchasing Sectors
Processing Final Total
Sectors Agriculture Manufacturing Services Demand Output
Agriculture 10 6 2 18 36
Manufacturing 4 4 3 26 37
Services 6 2 1 35 44

Payments 16 25 38 0 79
Total Outlay 36 37 44 79 196
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Input-Output Analysis – Another Example
 I/O Tables - Direct Requirements
Direct Requirements Table
Purchasing Sectors
Processing Final Total
Sectors Agriculture Manufacturing Services Demand Output
Agriculture .27778 .16216 .04545
Manufacturing .11111 .10811 .06818
Services .16667 .05405 .02273

Payments .44444 .67567 .86363

Total Outlay 1.0 1.0 1.0

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Input-Output Analysis – Another Example

 Direct requirements in equation form:

X1 = 0.278 * X 1 + 0.162 * X 2 + 0.045 * X3 + Y1
X2 = 0.111 * X 1 + 0.108 * X 2 + 0.068 * X3 + Y2
X3 = 0.167 * X 1 + 0.054 * X 2 + 0.023 * X3 + Y3

X1 .278 .162 .045 X1 Y1

X2 = .111 .108 .068 * X2 + Y2
X3 .167 .54 .023 X3 Y3

X=A*X+Y 65
Input-Output Analysis – Another Example
 Subtract the direct requirements from both
sides of the equation:
X 1 - 0.278 * X 1 - 0.162 * X 2 - 0.045 * X 3 = Y 1
X 2 - 0.111 * X 1 - 0.108 * X 2 - 0.068 * X 3 = Y 2
X 3 - 0.167 * X 1 - 0.054 * X 2 - 0.023 * X 3 = Y 3

X1 .278 .162 .045 X1 Y1

X2 - .111 .108 .068 * X2 = Y2
X3 .167 .54 .023 X3 Y3

X-A*X=Y
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Input-Output Analysis – Another Example

 Collect terms:
(1 - 0 .2 7 8 ) * X 1 - 0 .1 6 2 * X 2 - 0 .0 4 5 * X 3 = Y 1
-0 .1 1 1 * X 1 + (1 -0 .1 0 8 ) * X 2 - 0 .0 6 8 * X 3 = Y 2
-0 .1 6 7 * X 1 - 0 .0 5 4 * X 2 + (1 -0 .0 2 3 ) * X 3 = Y 3

1 0 0 .2 7 8 .1 6 2 .0 4 5 X1 Y1
0 1 0 - .1 1 1 .1 0 8 .0 6 8 * X2 = Y2
0 0 1 .1 6 7 .5 4 .0 2 3 X3 Y3

(1 -A ) * X = Y
(1 -A ) -1 * (1 -A ) X = (1 -A ) -1 * Y
X = (1 -A ) -1 * Y 67
Input-Output Analysis – Another Example

Predictive Model:

DTIO = (I-A)-1
* DFD
Same as the simple example we covered in Part I.

68
 PART IV:
Input-Output Multipliers

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 What are Multipliers?

Multipliers measure total change throughout

the economy from one unit change for a
given sector.

70
 Three Types of Multipliers

Output
Employment
Income

71
Three Levels of Multipliers

Type I Multipliers
Type II Multipliers
Type III Multipliers

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 Type I Multipliers
Include direct or initial spending
Include indirect spending or businesses
buying and selling to each other
The multiplier is direct plus indirect effect
divided by direct effect

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 Type II Multipliers
Includes Type I Multiplier effects
Plus household spending based on the
income earned from the direct and indirect
effects – the so called “induced effects”

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 Type III Multipliers
 Type III Multipliers are modified Type II
multipliers.
 Therefore, Type III Multipliers also include the
direct, indirect, and induced effects.
 Type III Multipliers adjust Type II Multipliers
based on spending patterns amongst different
income groups.
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Type I Multipliers include:
Direct Effects
Indirect (Business Spending) Effects

Type I Multipliers are derived from the

“Total Requirements Table”.

In math, this is: X = (1-A)-1 Y

76
 Total Requirements Table
 The Leontief inverse of the direct requirements
table produces the table of total requirements.
 Power Series:
 Limit of power series is Leontief inverse
 Used in temporal studies

 The more leakages the smaller the result

2 3 -1
(1 + A + A + A + ...) = (1 - A)
77
 Example: Direct Requirements Table
Purchasing Sectors

Agriculture Health Services

Selling Sectors

Agriculture 0.278 0.162 0.045

Health 0.111 0.108 0.068
Services 0.167 0.054 0.023
Final Payments 0.444 0.676 0.864

Total 1.000 1.000 1.000

78
 Example: Total Requirements Table
(Direct + Indirect Coefficients Table)
Purchasing Sectors ($ million)

Agriculture Health Services

Agriculture 1.446 0.268 0.085

Selling Sectors
($ million)

Health 0.199 1.163 0.090

Services 0.258 0.110 1.043

Total 1.903 1.541 1.218

79
 Explaining the Health Sector
Type I Multiplier

For a dollar change in final demand to

health sector, there will additional demand
on health services of 1.163, plus .268 from
agriculture, plus .11 from services, or a total
change of 1.541 in the regional economy.

80
Type II Multipliers include:

 Direct Effects
 Indirect (Businesses) Effects
 Induced (Households) Effects

Type II Multipliers are derived from the “Total

Requirements Table with Households”. 81
Example: Transactions Table with Households
Purchasing Sectors ($ million)

Ag Health Services House- Final Total

holds Demands Output
Selling Sectors
($ million)

Ag 10 6 2 2 16 36
Health 4 4 3 10 16 37
Services 6 2 1 7 28 44
Households 3 6 10 0 0 19
Final 13 19 28 0 0 60
Payments

Total Input 36 37 44 19 60 196

82
Example: Total Requirements Table with Households
Purchasing Sectors

Agriculture Health Services Households

Selling Sectors

Agriculture 1.536 0.369 0.197 0.429

Health 0.386 1.370 0.318 0.879
Services 0.388 0.256 1.203 0.619
Households 0.279 0.311 0.341 1.319

Total 2.589 2.307 2.059 3.245

83
 Explaining the Health Sector
Type II Multiplier

For a $1.00 change in final demand sales in the

local economy, the total direct, indirect and
induced impacts are $2.307
 Multipliers
 Direct requirements represent direct or initial
spending
 Direct and indirect effects include the direct spending
plus the indirect spending or businesses buying and
selling to each other
 Direct, indirect and induced effects include direct and
indirect plus household spending earned from direct
and indirect effects

85
 Other Multipliers
• Employment Multipliers
Type I
Type II
Type III
• Income Multipliers
Type I
Type II
Type III
86
 Example -
Type I Employment Multiplier

Agricultural Sector Type I Employment

Multiplier = 1.43

When the agricultural sector realizes a one employee

change, total employment in the study area changes by
1.43 jobs from direct and indirect linkages.

87
 Example –
Type II Employment Multiplier

Agricultural Sector Type II Employment

Multiplier = 2.25

When the agricultural sector realizes a 1 employee

change, total employment in the study area changes by
2.25 jobs from direct, indirect and induced linkages.

88
 Breakdown of
Type II Employment Multiplier -
Agricultural Sector

Direct Effects = 1.00

Indirect Effects = 0.43
Induced Effects = 0.82

Total = 2.25

89
 Example –
Type I Income Multiplier

Agricultural Sector Type I Income Multiplier =

1.96

When the Agricultural Sector realizes a $1.00 change in

income, total income in the study area changes by $1.96
from direct and indirect linkages

90
 Example -
Type II Income Multiplier

Agricultural Sector Type II Income Multiplier =

2.50

When the Agricultural Sector realizes a $1.00 change in

income, total income in the study area changes by $2.50
from direct, indirect and induced linkages

91
 Breakdown of
Type II Income Multiplier -
Agricultural Sector

Direct Effects = $1.00

Indirect Effects = $0.96
Induced Effects = $0.54

Total = $2.50

92
Caution When Using Multipliers

Multiplier values include direct effects

Do not aggregate sector multipliers to
derive an aggregate multiplier
Be cautious of large multipliers
Be cautious in using a multiplier from
another study area

93
 PART V:
Input-Output Example USA

96
A Regional Input-Output Model for the
US
Focuses on inter-industry transactions
Two suppliers: intermediate and primary
(labor)
Two purchasers: intermediate and final
Composed of:
Transaction table
Direct requirements table
Total requirements table

97
 Transaction Table
Start

Other Local
Plastics Electricity Chemicals Autos Instruments Rubber Industries
$0.21 of auto
$0.14 of auto $1 of additional industry
industry spending on spending on
spending on auto production other local
plastics re- initiates industries re-
enters: spending on: enters:

Plastics $0.14

$0.05
Electricity
$0.01

Chemicals $0.09

Autos $0.05

Instruments $0.11

Rubber $0.07

Other Local $0.21

Industries $0.04

$0.17
Local Employees $0.02
$0.04
$0.25
Leakage $0.02 98
$0.04
 Transaction Table
Start

Other Local
Plastics Electricity Chemicals Autos Instruments Rubber Industries
$0.21 of auto
$0.14 of auto $1 of additional industry
industry spending on spending on
spending on auto production other local
plastics re- initiates industries re-
enters: spending on: enters:

Plastics $0.14

$0.05
Electricity
$0.01

Chemicals $0.09

Autos $0.05

Instruments $0.11

Rubber $0.07

Other Local $0.21

Industries $0.04

$0.17
Local Employees $0.02
$0.04
$0.25
Leakage $0.03 99
$0.04
 Transaction Table
Start

Other Local
Plastics Electricity Chemicals Autos Instruments Rubber Industries
$0.21 of auto
$0.14 of auto $1 of additional industry
industry spending on spending on
spending on auto production other local
plastics re- initiates industries re-
enters: spending on: enters:

Plastics $0.14

$0.05
Electricity
$0.01

Chemicals $0.09

Autos $0.05

Instruments $0.11

Rubber $0.07

Other Local $0.21

Industries $0.04

$0.17
Local Employees $0.02
$0.04
$0.25
Leakage $0.03 100
$0.07
 Transaction Table Sample
Intermediate Purchasers

Intermediate Final Total

Suppliers Agriculture Manufacturing Services Purchasers Output
Agriculture 10 30 5 55 100
Manufacturing 5 10 10 35 60
Services 25 10 5 20 60

Primary Suppliers
Households 60 10 40 110
Total Outlay 100 60 60 110 330

101
 Direct Requirements Table
Derived from the transaction table
Shows inputs required from each supplier
by each intermediate purchaser.
“Direct coefficients” = each input purchase
in a column of the transaction table divided
by total purchases (column sum).

102
 Transaction Table Sample
Intermediate Purchasers

Intermediate Final Total

Suppliers Agriculture Manufacturing Services Purchasers Output
Agriculture 10 30 5 55 100
Manufacturing 5 10 10 35 60
Services 25 10 5 20 60

Primary Suppliers
Households 60 10 40 110
Total Outlay 100 60 60 110 330

103
 Direct Requirements Table
$1 of Output By

Requires Inputs
From Agriculture Manufacturing Services

Agriculture 0.10000 0.50000 0.08333

Manufacturing 0.05000 0.16667 0.16667

Services 0.25000 0.16667 0.08333

Households 0.60000 0.16667 0.66667

Total Outlay 1.00 1.00 1.00

Each column is the industry’s production function

104
 Total Requirements Table
“Spending Rounds”
Derived from the direct requirements table
and shows the total purchases of direct and
indirect inputs required throughout the
economy per unit of output sold to final
purchasers by each intermediate supplier.

105
 Total Requirements Table
Sales as Direct Inputs Second Round
Sales to Final
Purchasers To Agr. To Mfg To Serv. Total To Agr. To Mfg To Serv. Total
By Agriculture 200 (.1)(200) (.5)(100) (.08)(100) (.1)(78.33) (.5)(43.33) (.08)(75)
20 50 8.33 78.33 7.83 21.67 6.25 35.75
By Manufacturing 100 (.05)(200) (.17)(100) (.17)(100) (.05)(78.33) (.17)(43.33) (.17)(75)
10.00 16.67 16.67 43.33 3.92 7.22 12.50 23.64
By Services 100 (.25)(200) (.17)(100) (.08)(100) (.25)(78.33) (.17)(43.33) (.08)(75)
50.00 16.67 8.33 75.00 19.58 7.22 6.25 33.06
By Households (.6)(200) (.17)(100) (.67)(100) (.6)(78.33) (.17)(43.33) (.67)(75)
120.00 16.67 66.67 203.33 47.00 7.22 50.00 104.22
Totals - Indirect Rounds 196.67
By all Suppliers 400 400.00

106
 Impacts Broken Down
Direct impacts – the initial injection of new
economic activity, i.e., a new mfg plant
locates in a state.
Indirect impacts – the sum of inter-industry
purchases through all the rounds of
purchasing
Induced impacts – the sum of all impacts
associated with employee expenditures
107
 Multiplier

Direct + Indirect + Induced

Direct

Output multiplier
Income multiplier
Employment multiplier

108
 The Power of IO Models
 IO analysis is a popular and powerful analytical tool.
 “The chief value of regional input-output analysis is in
its descriptive analytical power.” (Bendavid-Val, p.113)
 “As a descriptive tool, input-output tables:
 -present an enormous quantity of information in a
concise, orderly, and easily understood fashion;
-provide a comprehensive picture of the interindustry
structure of the regional economy;
-point up the strategic importance of various
industries and sectors;
-highlight possible opportunities for strengthening
regional income and employment multiplication.”
(Bendavid-Val, p.113) 109
 The Problems with IO Analysis
Practical Issues
 Data needs and complexity: IO models are tremendously complex and very
data hungry. This typically places these models in the hands of experts.
Theoretical Issues
 Time/Data issues: Usually a single year’s data are used to develop the Total
Requirements Table. But 1) purchases may actually reflect a longer term
investment and 2) short term trends may impact the data.
 Stability of the technical coefficients over time: Technology changes, prices
change, and demand changes, all affecting the coefficients in the Tot Reqs
Table. This can impact the results if the coefficients are “out of date”.
 IO assumes a linear relationship between increasing demand for inputs
and outputs: This assumes away 1) externalities and 2) increasing/
decreasing returns to scale.
 Industrial categorization: IO models still assume that each industry 1) has
a single, homogeneous production function and 2) each produces one
product. These assumptions do not reflect the real economy very well.

110
Thank you.

111
 APPENDIX 1:
Mathematical Exercises on IO Analysis with Matrices

112
Appendix I. Input-output analysis – an application of matrices.

Learning objectives. By the end of this lecture you should:

– Know more about input – output analysis
– Understand how to calculate input requirements given an output
requirement.
– Understand how to check for the productiveness of an input-output
system.

1. Introduction: Inputs and outputs.

• Input-output analysis was developed in the early years after the
introduction of national accounting systems
• It builds on the fact that any one sector will use inputs from many other
sectors of the economy. They in turn will use inputs from many sectors.
– E.g. the IT industry requires electricity, but electrical generation
uses computers to control its output.
• It’s a method of planning resource use.
• It’s also used to calculate employment and output multiplier effects.

113
 2. Constructing the input coefficients matrix

1. Use data on which sector buys from which

2. E.g. consider this set of national accounts

Buying IT Services Transport Final Total

sector goods demands
Selling
sector

IT goods £100m £400m £200m £200m £900m

Services £100m £100m £400m £800m £1400m

Transport £100m £200m £100m £200m £600m
Final £100m £300m £300m £700m
payments
Final
Totaldemands 400are demands
1000made by the household
£1000m or government£3600
1200 sector
for final consumption; final payments are payments made to owners of
the final inputs (labour, capital, land etc.)
114
 2. Constructing the input coefficients matrix

1. Turn into per £ of output:

2. E.g.

Buying sector IT goods Services Transport

Selling sector

IT goods 0.25 0.40 0.2

Services 0.25 0.10 0.40

Transport 0.25 0.20 0.1

Total 0.75 0.7 0.7

115
 3. Using the input coefficients matrix

Use the vector x to denote inputs and d to denote final demand. Use A for
the input coefficients matrix:
 a11  a1n 
 
A    
a  a 
 n1 nn 

So aij is the value of input i required to produce 1 unit of value of good j.

Note that if input i is not used in the production of good j then aij=0.
Otherwise aij > 0. A is therefore a positive matrix.

Note also that for each good inputs are used in fixed proportions – there is
no possibility of substitution. The underlying assumption is that the
technology is Leontief (named after the man who invented input-output
analysis).
Input 2

ai2
116
ai1 Input 1
 3. Using the matrix

The matrix A can be used either:

1. to calculate inputs required given a vector of final demands or
2. To calculate final outputs given a vector of available inputs.

aij is the value of good i required as input to produce 1 unit of good j.

So xj aij is the amount of good i required to produce xj units of good j.
It follows that the total demand for good i is:

xi  ai1 x1    ain xn  di
Thus:  x1   a11  a1n  x1   d1 
      
              
 x   a  a  x   d 
 n   n1 nn  n   n
Or x = Ax + d

117
 3. Using the matrix

x = Ax + d can be rewritten as Ix = Ax + d where I is the identity matrix.

So (I-A)x = d:
1  a11   a1n  x1   d1 
    
          
 a    x   d 
 n1 1 a nn  n   n
Example. Suppose
 0.25 0.4 0.2 
 
A   0.25 0.1 0.4 
 0.25 0.2 0.1 
 
and 1 unit of good 1, 1 unit of good 2 and 1 unit of good 3 are available.
What is the resulting final demand?
 0.75  0.4  0.2 1  0.15 
    
( I  A) x    0.25 0.9  0.40 1   0.25 
  0.25  0.2 0.9 1  0.55 


118
 Exercise

Example. Suppose
 0.2 0.1
A   
 0.3 0.1

and 2 units of good 1 and 1 unit of good 2 are available. What is the
resulting final demand for these two goods?

119
 4. Finding inputs given final demand

If (I-A)x = d then provided det (I-A) ≠ 0 then we can invert the matrix to find
x:
x = (I-A)-1d

Example. Suppose
 0.25 0.4 0.2 
 
A   0.25 0.1 0.4 
 0.25 0.2 0.1 

Then  0.75  0.4  0.2 
 
( I  A)    0.25 0.9  0.40 
  0.25  0.2 0.9 

Det (I-A) = 0.75(0.81-0.08)+0.4(-0.225-0.1)-0.2(0.05+0.225)=0.3715 so the
matrix is invertible.

Suppose final consumption is 1 unit of good 1, 2 units of good 2 and 1 unit

of good 3. What is x?
120
 4. Finding inputs given final demand

x = (I-A)-1d
Then  2.01 1.10 0.94 
1
 
( I  A)   0.90 1.72 0.97 
 0.76 0.69 1.59 
 
N.b. this inverse is done using the minverse command in excel, so it’s only
approximate.
So
 2.01 1.10 0.94  1   5.16 
1
    
x  ( I  A) d   0.90 1.72 0.97  2    5.31 
 0.76 0.69 1.59  1   3.72 
    

Note that this multiplication is done using the mmult command in excel, so
it’s only approximate.

121
 Exercise

Suppose

 0.2 0.0 
A   
 0.1 0.2 
What is (I-A)-1

1
What is x if d   
 2

122
 5. Final or primary inputs

Final inputs or primary inputs are those which are not produced goods
within the economic system being studied. They may include:
• Labour
• Land
• Capital (sometimes)
• Imports (sometimes)
Final inputs receive the final payments.

Obviously if a vector of final demand is to be feasible the final inputs must

be sufficient.

123
 5. Final or primary inputs

Since final inputs receive the final payments the requirement for primary
inputs is given by 1 – sum of the column entries in the input matrix
Buying sector IT goods Services Transport
Selling sector
IT goods 0.25 0.40 0.2
Services 0.25 0.10 0.40
Transport 0.25 0.20 0.1
Total 0.75 0.7 0.7
Final inputs 0.25 0.3 0.3
In the example, £1 of IT goods needs £0.25 input of primary inputs.

The primary inputs coefficient vector, l, is the vector of these values:

 0.25 
 
l   0.30 
 0.30 
  124
 5. Final or primary inputs

So the total demand for primary inputs is then

l x  l ( I  A) 1 d
In the example:

 5.16 
 
l ( I  A) d  0.25 0.3 0.3 5.31   4
1

 3.72 
 
For instance if the primary input is labour then this means that £4 of labour
is required to produce a final demand consisting of £1 of good 1, £2 of
good 2 and £1 of good 3.

Feasibility then consists of comparing this demand for the primary inputs to
the available supply, L.
If l ( I  A) 1 d  L then a vector of final demands is feasible.
Here if L = 3, then the vector of final demands was not feasible.

125
 6. Summary.
• 4 definitions learnt:
– Input coefficient matrix
– Final demands
– Final payments
– Primary inputs
• 4 skills you should be able to do:
– Write down an input coefficient matrix given a table of input values.
– Determine input demand given a vector of final demands
– Determine final demands given a vector of inputs
– Find primary input demands and check their feasibility

126
 Lecture 14. Input-output analysis II.

Learning objectives. By the end of this lecture you should:

– Know more about input – output analysis
– Understand how to check for the productiveness of an input-output
system.

1. Introduction: Inputs and outputs.

• In the last lecture we learnt the basics of input-output analysis.
• A key question is whether a given input coefficients matrix makes
sense, meaning:
– Given the input coefficient matrix and provided there are sufficient
primary inputs, can any pattern of final demands be produced?
– Example. OK Computers PLC buys PCs from 3 suppliers. From
the first it keeps the keyboard and throws everything else away.
From the second it keeps the monitor, throwing everything else
away and from the third it throws away the monitor and keyboard.
So from 3 computers it produces 1 new one.

127
 2. Example

1. A: I-A:
0.1 0.2 0.2 0.9 -0.2 -0.2

0.2 0.3 0.1 -0.2 0.7 -0.1

0.25 0.2 0.2 -0.25 -0.2 0.8

1.33 0.49 0.39

2. So (I-A)-1 =
0.46 1.65 0.32
0.53 0.57 1.45

1  1.33 
   
3. If d   0  then x = (I-A)-1d =  0.46 
0  0.53 
   
4. In other words, to meet final demand for 1 unit of the first good, 1.33
units of that good must be produced along with 0.46 units of good 2
and 0.53 units of good 3.

128
 3. Meeting demand

Another way to think about this:

To meet final demand d we require:
d the final demand
+ Ad the direct intermediate inputs
+ A(Ad) the inputs required for the direct intermediate inputs
+ A(A2d) the inputs required…
+ …

Or x = d + Ad + A2d + A3d + ….= (I+A+A2+A3+…)d

Question on feasibility:
Given any final demand vector d, is there an input vector x that will
produce d?
1. Obviously to be feasible no element of x can be negative
2. And no element can be infinite

129
 3. Meeting demand

Given that,
• x = d + Ad + A2d + A3d + ….= (I+A+A2+A3+…)d and
• All the elements of A are non-negative (so that all the elements of An
must be positive), then

• It’s clear that x won’t be negative. But can it be infinite?

Define S = (I+A+A2+A3+…)
Define Sn = (I+A+A2+A3+…An)
In other words S is the limit of Sn as n →∞.

Note that ASn = A+A2+A3+…An+1

So Sn – ASn = (I+A+A2+A3+…An) – (A+A2+A3+…An+1)
= I - An+1
Or
(I-A)Sn = I - An+1

So if lim An  0 (I-A)S = I or S = (I-A)-1 and x exists.

130
n 
 4. Hawkins-Simons conditions

The Hawkins-Simons conditions are conditions on A which guarantee that

given any final demand vector, d, there is an input vector, x, which will
produce d.
There are different, but equivalent statements of the conditions. We shall
state 3 and consider the first 2:

1.
lim An  0
n 
2. The principal minors** of (I-A) are all positive.
3. The dominant eigenvalue is less than 1.
(don’t know what an eigenvalue is? Given a matrix A it’s a solution, λ
to the equation I  A  0 . The dominant eigenvalue is the one
with the largest absolute value)

** we are going to define this term on the next slide

If the conditions are satisfied then the input-output system is said to be

productive.
131
 4. Hawkins-Simons conditions

1.
lim An  0
n 
This is the condition we derived earlier. It’s simple, but may be hard to
calculate.
2. The principal minors** of (I-A) are all positive.
1. Given an nxn matrix, A, a principal matrix is found from A by
deleting k rows (e.g. rows 2, 5 and 7) and the same k columns (so
columns 2, 5 and 7). 0≤ k ≤ n-1. k is called the order of the
principal matrix.
2. The principal minor is the determinant of the relevant principal
matrix.
3. So for a 3x3 matrix, there are:
1. 1 0-order principal matrix (A itself)
2. 3 first order principal matrices
3. 3 second order principal matrices.
So you would need to check 7 determinants.

132
 4. Hawkins-Simons conditions -example

1. Suppose A = 0.2 0.2 0.2 Are the conditions satisfied?

0.2 0.3 0.1
0.25 0.2 0.2
2. I-A is 0.8 -0.2 -0.2
-0.2 0.7 -0.1
-0.25 -0.2 0.8

3. The Principal matrices are I-A itself and,

0.8 -0.2 -0.2 0.8 -0.2 -0.2 0.8 -0.2 -0.2
-0.2 0.7 -0.1 -0.2 0.7 -0.1 -0.2 0.7 -0.1
-0.25 -0.2 0.8 -0.25 -0.2 0.8 -0.25 -0.2 0.8

0.8 0.7 0.8

4. The relevant determinants are:

0.352, 0.52, 0.59, 0.54, 0.8, 0.7, 0.8, so the conditions are satisfied.
Note how when we eliminate n rows and columns we end up with the
diagonal elements of A.
133
 4. Hawkins-Simons conditions -exercise

1. Suppose A = 0.2 0 0.2

0.1 0.4 0.3
0.3 0.1 0.4

Find the principal matrices (no need to calculate their determinants).

Note: principal minors will resurface in the next topic.

134
 4. Hawkins-Simons conditions –OK computers example

1. Suppose two goods, computers and software. To produce the

computer 0.1 unit of software is required and to produce 1 unit of
software, 0.3 units of computer and 0.2 units of software are needed.
2. A =
3 0.3
0.1 0.2

I-A = -2 -0.3
-0.1 0.8

Principal minors are, -2, 0.8 and -1.63. Obviously not all positive.
Note the basic point here: if it takes more than one unit of a good to
produce that good, then the Hawkins-Simons conditions can never be
satisfied.

135
 5. Employment multipliers

Often the number of jobs apparently lost as the result of a business closing
or the number of jobs created as the result of new business opening
seems far in excess of the number of jobs actually with the specific
company.
Input output analysis can be used to calculate the knock on effects of
changes in employment. 136
 5. Employment multipliers

Suppose the only primary input is labour. Recall that,

labour demand  l x  l ( I  A) 1 d
Note first that this labour demand is in value terms
Consider a change in final demand of Δd, then the change in the value of
labour demand will simply be Δd (because of the circular flow of
payment within the economy and the fact that we assumed that there is
only one input).

It is still useful to break this down into sectors using:

DL  l ( I  A) 1 Dd

137
 How we calculated l (previous lecture)

Recall final inputs receive the final payments the requirement for primary
inputs is given by 1 – sum of the column entries in the input matrix
Buying sector IT goods Services Transport
Selling sector

IT goods 0.25 0.40 0.2

Services 0.25 0.10 0.40

Transport 0.25 0.20 0.1
Total 0.75 0.7 0.7
Final inputs 0.25 0.3 0.3
In the example, £1 of IT goods needs £0.25 input of primary inputs.

The primary inputs coefficient vector, l, is the vector of these values:

 0.25 
 
l   0.30 
 0.30 
  138
 5. Employment multipliers

Example. Suppose d1 falls by one unit, what happens to the value of

employment?

 2.01 1.10 0.94   1

  
DL  l ( I  A) Dd  0.25 0.3 0.3 0.90 1.72 0.97  0 
1

 0.76 0.69 1.59  0 

  

  2.01
 
 0.25 0.3 0.3  0.9   0.5  0.27  0.23
  0.76 
 

139
 5. Employment multipliers

  2.01
 
 0.25 0.3 0.3  0.9   0.5  0.27  0.23
  0.76 
 
Now l‘1 = 0.25, so from a 1 unit drop in demand we get

• a 0.25 direct drop in the value of employment in sector 1

• a further 0.25 indirect drop in the value of employment in sector 1
• a 0.27 indirect drop in sector 2
• a 0.23 indirect drop in sector 3.
• The employment multiplier is the ratio of the total change in
employment to the direct drop.
• The multiplier is therefore 0.25  0.25  0.27  0.23
4
0.25

• I.e. for every one job lost due to the immediate effect of the drop in
demand, there are 3 jobs lost indirectly.

140
 Conclusion.
6. Exercise.
identify the direct and indirect effects on employment if Δd2 = 2
what is the employment multiplier for d2?

141
 Conclusion.

7. Summary
• 4 definitions learnt:
– Hawkins-Simons conditions
– Principal minors
• 4 skills you should be able to do:
– Identify the Principal minors of a square matrix
– Check that the Hawkins Simons are satisfied
– Calculate employment multipliers.

142
 APPENDIX 2:
Derivation of the multipliers
from transaction table  to direct requirements table 
via Leontief Inverse Matrix  total requirements table

143
 Final demand
Input-Output table

consumption
investments
agriculture

industry

services

exports

total
agriculture 10 30 5 20 30 0 95
industry
agriculture 35 70 50 70 40 35 300
services
industry 15 50 70 30 70 5 240
services
imports 15 75 15
wages and taxes 10 25 80 Value added
profits 10 50 20
total 95 300 240
144
 Technological matrix; Cost
structure

agriculture

agriculture
industry

services

industry

services
agriculture 10 30 5 0.11 0.10 0.02
industry 35 70 50 0.37 0.23 0.21 A
services 15 50 70 0.16 0.17 0.29
imports 15 75 15 0.16 0.25 0.06
wages and taxes 10 25 80 0.11 0.08 0.33
profits 10 50 20 0.11 0.17 0.08
total 95 300 240 1.00 1.00 1.00

145
 Input-Output model
x=Ax+y  x–Ax=y
 (I - A) x = y
 x = (I - A)-1 y
with
x vector of total production
A technological matrix
I unit matrix
146
y vector of final demand
 Leontief inverse
• (I - A)-1 ; multipliers
– Total inputs required for one unit of final
• A demand for all sectors
– First order (direct) inputs for one unit of
production
• A + A2 + A 3 + …
– First and higher order inputs for one unit of
production
• I + A + A2 + A3 + … = (I - A)-1 147
– Total inputs required for one unit of final
 Leontief inverse matrix:
multipliers
A (I - A)-1

agriculture

agriculture
industry

services

industry

services
agriculture 0.11 0.10 0.02 1.21 0.18 0.09
industry 0.37 0.23 0.21 0.70 1.50 0.46
services 0.16 0.17 0.29 0.43 0.39 1.54

148