Introduction for MAKRO

MAKRO is an economic model built with the intention of supporting the government in implementing healthy policy through macroeconomic forecasts and policy impact analysis for the Danish economy.

The MAKRO model’s purpose is to project and forecast the Danish economy in the medium to long term as well as to evaluate effects of economic policy. In doing so, it also integrates short-term government economic forecasts. The structural level of the economy – including the structural government balance - is included as an integral part of the model as well as short-term analyses of the economy, fiscal sustainability requirements , and structural economic impact of policy proposals.
 
MAKRO has been under development since 2017. The first full model version was published in March 2023. The model is currently being implemented for use in the Danish Ministry of Finance. The model code is publicly available and can be downloaded at Github.

Background

MAKRO has been under development since 2017.

The first full model version was published in March 2023. The model is currently being implemented for use in the Danish Ministry of Finance. The model code is publicly available and can be downloaded at Github.

The model has been commissioned to strengthen the Ministry’s empirical modelling capabilities. The goal of the model is to develop a macroeconomic model that can be used to forecast and evaluate macroeconomic consequences of policy and shocks that apply to the economy on a cyclical and structural level.

Description

MAKRO provides forecasts of values for economic indicators such as GDP, foreign trade, consumption, public spending, tax revenue all of which for both current values as well as future values.

The model can also allow for assessment of specific government policy, assessing the government intervention both at the structural level: “What happens in the long-run if there is an increase in the enrolment and graduation rates of those completing a higher education?”, or at the cyclical level: “How will the delayed public investment affect employment in the coming years?”.

The main focus of MARKO is public finances and as such, having a model that can evaluate the public sector in detail, including the structural balances and the fiscal sustainability indicator is crucial. To give a good description of the development of the government finances , in both the short and long-run, MARKO contains a detailed modelling of the labour market, households, and firms in addition to the public sector. This includes a detailed description of the structural factors that are relevant to economic development such as the aging population, withdrawal from the labour market, changes to education related demographics, oil and gas in the North Sea, political reforms, and other factors that create frictions in various areas of the economy that could, for example, create unemployment.

Significant drivers of long-run economic development such as demographics, technological advancements, higher education completion rates, labour force participation rates and pension savings are a few considerations of MAKRO. The model draws forecasted values for these mentioned drivers from various models such as the Finance Ministry’s labour market forecast (Befolkningsregnskabet) and DREAM’s pension model. In the short-term (2-3 years), the MAKRO forecasts will be based on the government’s cyclical level forecasts.

Structural levels such as the age distribution and education rates contribute to the structural employment rates, whereas the cyclical levels influence the actual employment rate. In the short-run, higher demand will result in higher employment and wages adjust slowly and accordingly. This provides an explicit calculation of not only the structural level of balances, but also the actual balance under cyclical influences. The fiscal sustainability indicator, which is an indicator of whether expected income is sufficient in covering expected expenditures, can also be influenced by cyclical effects. If the government is required to engage in unexpected expenditure, future loan repayments will undoubtedly have a consequence on the future sustainability of the economy. Cyclical effects on the fiscal sustainability indicator are thus explicitly calculated within MAKRO.

Read the latest MAKRO documentation

Application

In general, MAKRO is used in two applications. First, macroeconomic forecasts of the Danish economy and second policy impact analysis.

The first application is used to calculate a target for the government’s forecast for the Danish economy. In doing so it creates what we call a baseline scenario which is used to perform impact analysis of economic policy.

The baseline scenario is a set of forecasted values generated by inputting the best possible outcomes for the economic indicators used by the model. In the short-run, the forecast is generated using the government’s business cycle assessment. In the long-run, the forecast builds upon assumptions of unchanged fiscal policy i.e. unchanged tax rates and government expenditure, which follow steady state growth rates as well as changes to demographics. Additionally, the estimated effects of future changes to economic policy are accounted for.

The model, in addition to calculating the aforementioned baseline scenario, can be used to calculate the effects of economic policy. This is done through adjusting the underlying components of the forecast to account for changes to economic policy. The effect of the policy is then assessed against the baseline forecast without the policy change.

Organisation

The Board is responsible for MAKROS's activities and development. The Board consists of six members.

Board members are appointed by the following institutions: Departments of Economics at the University of Copenhagen and Aarhus University, Statistics Denmark, Danmarks Nationalbank (the central bank of Denmark), and the Ministry of Finance (two board members).

Current board members are:

  • Torben M. Andersen (Chair of the Board)
    Professor, Department of Economics and Business Economics, Aarhus University
  • Hans Jørgen Whitta-Jacobsen
    Professor, Department of Economics, University of Copenhagen
  • Birgitte Anker
    Director General, Statistics Denmark
  • Jesper Pedersen
    Head of Economic Models, Danmarks Nationalbank
  • Lars Haagen Pedersen
    Deputy Permanent Secretary, Ministry of Finance of Denmark
  • Mads Kieler
    Deputy Permanent Secretary, Ministry of Finance of Denmark

The Structure of the Model

MAKRO is, for the most part, a structural model, built upon real and nominal frictions. The model is based in state-of-the-art economic theory which starts from the idea of many representative households optimising their utility with perfect foresight.

Households are modelled by an overlapping generations model such that each cohort is specifically modelled. Each cohort is modelled upon their entrance into the labour-market, receiving a structural labour market participation rate in accordance with the labour market projection. Each generation saves and consumes from a combination of their wealth, income and future expected income. Savings consist of pension savings, shares, bonds and liquid funds. Furthermore, agents invest in housing and take out mortgages. A household’s labour behaviour is modelled in another model that utilises individual-specific data on age, education, marginal tax rates and replacement ratio. Actual employment is dependent on the economic climate since involuntary unemployment depends on labour demand.

Wages in the model are set the labour market negotiated levels and cannot change in the short run in response to changes in labour demand, which is the primary reason for cyclical fluctuations in the unemployment rate within the model.

Firms produce using inputs of material, capital and labour. The labour demand is determined by the firms’ productivity, which is in itself determined by the demand for the products they produce. Inertia in wage and prices imply that firms can adjust their labour inputs and production in response to changes in demand for their product. Investments in companies are based on the expected future demand for goods and relative prices, including interest and taxation. Installation costs of investments result in adjustments being gradual. Firms are owned through shares by households, pension funds and foreign owners. The price of domestic shares depend on the future earnings of the firms.

Demand is determined by raw material demand, household consumption, public consumption, investment and exports. Raw material demand is determined by production. Household consumption is determined by household wealth, income, expected future income as well as propensity to consume. Propensity to consume is largely determined by age so demographic changes will affect consumption. Propensity to consume is also determined by employment as income is highly dependent on employment status. This produces a model with a feedback mechanism between employment and product-demand. Investment depends on both household investment, public investment and firm investment. Exports depend on Danish competitiveness in the world market as well as the economic situation abroad.

The effect of short-term fluctuations in the model are adjusted to what is empirically observed in the development of the economy. This is done by matching the model’s reactions to selected shocks to empirically estimated reactions. In the short term, this is essential as cyclical conditions will typically dominate fluctuations in the economy.

Read the latest MAKRO documentation